How do angel investors make money?

We pride ourselves in teaching newbie angel investors how to invest, develop their thesis and conduct proper due diligence. here is one key question that we keep getting from our members; 

‘How do angel investors actually make their money?’ 

Our founder Andy Ayim MBE explains in this video how angel investors make money.

So let’s get into it.

Angel investors make money when a startup they have invested in experiences a capital event. Angel investors make a profit from these capital events as they sell the shares they own at a higher price than they paid for them when they initially invested in the startup. Below are the three main exit scenarios an angel investor could make money from.

For simplicity, we have not broken down more complex scenarios such as Preference Stock. You can also read here to check out a real example of where angel investors can lose money from a capital event (exit).

Merger and Acquisition (M&A)

Angel investors may earn profits when the startup they invested in is acquired (bought) by a larger company. In such cases, the acquirer buys out the startup, providing a payout to the investors from the profit. This is the most common type of exit you will see. 

Simon Murdoch invested as an angel investor in music tech startup, Shazam in 2001. Apple acquired Shazam for $400m in 2018.

Initial Public Offering (IPO)

If the startup becomes successful and grows significantly, it may decide to go public through an IPO. When the company’s shares are offered to the public for the first time, the angel investors can sell their shares at the IPO price or hold on to them for further gains in the public market.

Chris Sacca, an early investor in Twitter, made a significant return on his investment when Twitter went public in 2013. He sold some of his shares at the IPO, capitalizing on the company’s valuation.

Secondary Market Sale

In some cases, angel investors can sell their shares to other investors in the secondary market. This allows them to exit their investment and realize gains without the need for an M&A or IPO event.

Naval Ravikant, an angel investor and founder of AngelList, invested in companies like Twitter and Uber. He reportedly made considerable profits by selling some of his shares to other VC investors in the secondary market.

So which one is the most likely scenario?

A report from 2021 dives into which scenario is the most likely outcome for angel investors.

The report states “IPOs are the grand slam of startup investing. IPOs returned almost 6x the average and 4.3x the median M&A exit. But to reach an IPO required almost 6x the average and 7x the median capital of an M&A exit. Given their far lower capital requirements, M&A is more capital efficient, returning 6.4x the total capital invested compared to IPOs, which returned 4.2x the invested capital.”

In conclusion, there are a few ways angel investors can make money with M&A being the most likely scenario. 

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