What are the best ways to structure an angel investment deal for your startup?

Understanding your startup’s valuation is critical before entering any investment discussions. It sets the stage for negotiations and ensures you're not undervaluing your hard work or overestimating your position in the market. Examine similar companies in your industry to gauge your valuation. For example, if startups of similar size and growth stage in your sector are valued at around $5 million, use this as a benchmark to start discussions. Highlight your startup’s unique value proposition and growth trajectory. If your product addresses a market need that's growing at 20% annually, this should be factored into your valuation, illustrating not just where you are, but where you're headed.

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This conversation is not complete unless it includes SAFEs and SEALs. The SAFE (Simply Agreement for Future Equity) was developed by Y Combinator. Since 2013, it has become go-to instrument for early stage start-ups because it makes deals close faster. SAFE notes a convertible security without an interest rate or maturity dates. It's a flexible accepted standard so you can avoid expensive lawyer fees and is even used to sidestep disagreements on valuation. SEAL (Shared Earnings Agreement) was popularized by Earnest Capital in a post in 2018. Investors take an early stake in the startup and the startup is able to effectively buy back a majority of those shares over time. As more investors & founders try it, SEALs will evolve a standard.

Deciding on the financial instrument for the investment is crucial as each option has its advantages and suitability, depending on your start-ups needs. Offering a direct equity stake is simple but requires setting a firm valuation. For instance, if an angel invests $100,000 for a 10% stake, your startup is valued at $1 million post-money. This is suitable for startups with a clear valuation and growth path. Convertible notes are loans that convert into equity during a future financing round with a discount. They're ideal for early-stage startups still determining their valuation. For example, a $50,000 convertible note might convert at a 20% discount to the next round’s valuation, rewarding the investor for their early commitment.

The terms of the deal outline the specifics of the investment, including rights and obligations. A clear structure is crucial to reduce or avoid potential for conflict down the road. Here are 2 examples to pay attention: Liquidation Preference: This term ensures that investors get their money back before others in the event of a sale. For instance, a 1x liquidation preference on a $100,000 investment guarantees the investor recovers their initial investment first. -- Anti-Dilution: Protects investors from future dilution if the company issues new shares at a lower price. Such a provision might adjust the investor's share price based on the amount of new equity issued, ensuring they maintain fair equity proportionate to their investment.

Securing angel investment is as much about the money as it is about building a relationship with someone who believes in your vision and can offer more than just capital. These are the mentors, advisors, and network expanders who can significantly influence your startup’s trajectory. -- Keep your investors informed with regular updates on progress, challenges, and milestones. This could be in the form of a monthly email that highlights key achievements, current issues, and next steps. -- Involvement Opportunities: Offer ways for the investor to contribute beyond capital. If your angel investor has expertise in marketing, consider inviting them to advise on your marketing strategy.

It is unlikely that a single angel investor will satiate your appetite for initial capital. These early rounds, also sometimes include 'friends and family', are more often than not, a group of people contributing small amounts to help you get started. At this stage the idea you are working on is probably pre-revenue. Some of these early stage investors are more sophisticated than others. So it is very important that you understand their profile. Do they understand the inherent risks associated with startup investing? If yes, great. If not, then taking money from them (especially someone you know) without explaining to them the risk/reward landscape is a sure shot way of ruining a relationship.

Consider bootstrapping until you can't. Pushing external equity investment as late as possible is good for you (less dilution) and great for your investors (less risk as long as you are closer to Product Market Fit and on a Path to Profitability). The best time to raise money is when you don't need it. Explore non-dilutive sources of capital, this includes... Start with your customers and getting them to prepay for services (this also ups your LTV). Explore invoice financing, or Borrow money from a bank like a traditional business. Good luck on your journey.