Angel Capital Moving to Debt

Posted on April 30, 2008


I read an interesting article on VC Experts today regarding the movement of Angel Capital from the traditional equity stake in early stage firms to debt instruments. This seems to make sense for angel investors if the payback period for their initial investments is 5-7 years or longer. And considering that following the traditional model of creating a portfolio of 10+ investments in order to meet ROI expectations, angel investing can create some anxiety disorders over time.

Angel capital is becoming more and more vital to seed and early stage companies. A couple of months ago, I examined how Venture Capital is moving up the ladder from the seed and early stage investments into latter stage and near-exit companies. Seems no one wants to take the risk once borne in days past, and the impatience for payback and ROI plays havoc for venture capital firms and their investor return requirements.

With angel investors, a debt-to-equity arrangement make sense in the right scenarios. In a debt-to-equity arrangement, the investor might be able to eek out some return with less successful companies that didn’t make the 10x or 100x returns hoped for, but still manage to yield positive cash flow and the ability to repay a loan instrument. These surviving firms might not explode into IPOs, but the debt-to-equity arrangements allows for recovery of the initial investment with an interest rate reflecting appropriate risk levels and in shorter time periods.

When I founded my own consulting firm, we were initially staked in a debt-to-equity arrangement. Our investor was an angel and a very close personal friend. Knowing that the company didn’t have to be “all or nothing” for our investor to recoup his investment took some of the stress out of the agreement. This is a key part that’s often overlooked when it comes to working with angel investors. While angel groups are becoming more formalized and organized, there is almost often a long-standing interpersonal relationship between investor and target. This can make for tough sledding if not handled properly.

I find the migration of venture capital and the continued establishment of angel capital to be a fascinating development in the start-up world. I invite your thoughts and views on this.

By the way, here’s a link to the article of VC Experts.