Page 1

Business angel investment

Business angels
A business angel or angel investor is a high net worth individual who invests in early -stage high growth pri-
vate companies with little or no operating history, either alone or in a group known as a network or syndicate.
Business angels f ill the equity f inance gap between start -up and seed capital (usually f rom f ounders and
‘f amily and f riends’) and venture capital.
Businesses that seek business angel investment typically need between £10,000 and £500,000 (sometimes
signif icantly more) however f unding f rom traditional sources is not generally available. Banks usually require
substantial assets f or security purposes and venture capital f unds, whilst also f o cussing on similar stage
high-growth companies, tend to invest much larger amounts in third or subsequent investment rounds.
For f urther inf ormation on the types of investment and investors in a private equity context, see Practice
Note: Private equity investment—f irms and f unds.
An advantage f or a company attracting investment f rom a business angel is that the investor will of ten bring
much more to the business than just f inance, in that many will have substantial business experience in the
relevant sector and a range of industry contacts.
An added incentive f or business angel investment are the income and capital gains tax relief s available to
investors under the UK Government’s Seed Enterprise Investment Scheme (SEIS) and Enterprise Invest-
ment Scheme (EIS), designed to encourage investment into early-stage high growth companies, enabling
them to raise capital which might otherwise be dif f icult to come by. For f urther inf ormation on the SEIS and
EIS, see Practice Notes: EIS—introduction to regime and description of tax relief s and SEIS—introduction to
regime and description of tax relief s.

Commencing the investment process

The process f or business angel investment is very similar to that of venture capital investment.
Bef ore seeking investment, the f ounders (or management, if they are not one and the same) will need to
have prepared a business plan setting out details of the business and collated all relevant inf ormation about
the company and the business f or the investor to conduct a due diligence exercise.
The extent and f ormality of due diligence will depend on the company and the circumstances. For f urther in-
f ormation, see Practice Note: Private equity investment—preliminary matters.
It is prudent f or the company to require the investor to sign a conf identiality agreement (also known as a non -
disclosure agreement) at the outset to ensure any sensitive or conf idential inf ormation about the business
provided to the investor and its representatives (whether written or oral) is kept conf idential. See Practice
Note: Conf identiality—share purchase and precedent: Conf identiality letter—private M&A (share purchase)—
corporate seller.
Less common in a business angel context is the need f or exclusivity or a heads of terms setting out the com-
mercial agreement f or investment. See Practice Notes: Exclusivity—share and asset purchases and Heads
of terms—equity. If these are required, see precedents: Exclusivity letter—share purchase and Heads of
terms (equity).
 Page 2

Due diligence
Due diligence is the f ormal inf ormation-gathering and risk assessment process carried out by the proposed
investor and its advisers. See Practice Note: Due diligence—share and asset purchases.
The main purpose of due diligence is to gather inf ormation about the target business in order f or the investor
to decide whether or not to proceed with the investment. More specif ically, due diligence will enable the in-
vestor to identif y areas of risk in the b usiness and any third party approvals and consents required bef ore the
investment may proceed.
There are three broad heads of due diligence f or the purposes of a business angel investment:

• f inancial due diligence

• legal due diligence, and

• technical due diligence

In some cases other experts may be engaged to report on specif ic areas of interest to the investor.

Financial
For business angel investments, f inancial due diligence is usually undertaken by the investor alone. For
more sizeable investments, the investor will appoint an external f irm of accountants to carry out f inancial due
diligence, including to review and test the business model provided by management. Tax due diligence may
also come within the scope of financial due diligence instructions (es pecially as regards the application of the
SEIS or EIS).

Legal
The extent to which legal due diligence will be undertaken depends largely on the history of the investee
company.
Quite of ten there is little or no trading history. Nevertheless it is advisable still f or basic legal due diligence to
be undertaken and reported on. The key areas f or review are:

• constitutional and corporate matters such as:

◦ board structure

◦ share structure, and

◦ any existing shareholder arrangements in addition to the art icles of association

• f inancing arrangements (though these are unlikely to be signif icant)

• commercial contracts
• intellectual property and licensing
• employment contracts, and
• properties
See precedents: Legal due diligence questionnaire—share purchase and Legal due diligence report—share
purchase (both of which can be adapted f or the purposes of angel investments).

Technical
Many early stage businesses that seek angel investment have developed or are in the process of developing
certain technology which underpins the entire business plan and, as a result, the success or otherwise of the
investment.
 Page 3

This is usually the most critical area of investigation f or the investor and many will seek to engage the assis-
tance of specialist advisers to conduct:

• due diligence on the strength of the company's intellectual property rights (IPR) protecting its
technology

• a technical review of the technology ie whether or not the technology perf orms or has the po-
tential to perf orm in accordance with management claims, and

• a review of the market f or the technology

IPR due diligence may be conducted by the investor's lawyers as part of the legal due diligence and/or pa-
tent attorneys.

Consents and approvals

Investments at this level may require certain consents and approvals bef ore they may proceed. These could
include:

• existing shareholder consent to the terms of the investment generally (usually dealt with at
completion by way of shareholder resolutions)

• regulatory approvals f rom relevant authorities (if any), and

• tax clearances f rom HM Revenue & Customs eg f or SEIS or EIS purposes

Transaction documents
The key documents f or an angel investment will be the articles of association and the subscription and
shareholders’ agreement.

Articles of association
The articles of association are binding on the company and all shareholders. See Practice Note: A com-
pany’s constitution.
Investors will generally require the adoption of new articles to replace existing articles, rather than the
amendment of existing articles, especially when existing articles are likely to require signif icant amendment.
The articles will contain provisions dealing with the f ollowing matters:

• share capital

• share classes, which may include pref erence shares and dif f erent classes of ordinary shares

• share rights, including as to:

◦ dividends

◦ voting, and

◦ redemption and sale rights

 Page 4

• rights and restrictions on share transf ers, including permitted transf ers, leaver provisions and
drag and tag along rights, and

• the board of directors, including appointment and removal and board proceedings
See Practice Note: Private equity f inancing—equity and precedent: Articles of association—single investor.
Once adopted, the new (or amended) articles of association must be placed on the public record via f iling at
Companies House.

Subscription and shareholders’ agreement

This document is a private agreement between the investor, the company, the f ounders and, occasionally,
any other shareholders of the company. See precedent: Subscription and shareholders' agreement—short
f orm (business angel investors).
Unlike the articles of association, this document is normally not placed on the public record and remains a
private document.
The f irst f unction of the subscription and shareholders' agreement is to set out the basic terms of the in-
vestor's subscription f or new shares (and any loan stock). The f ounders will usually be required to give war-
ranties and indemnities in f avour of the investor. These warranties will not generally be as comprehensive
as those normally given under a later stage venture capital investment and a f ormal di sclosure process is not
always necessary. For f urther reading, see Practice Note: Private equity f inancing—equity and Warranties
and indemnities—share purchase (the principles of which apply generally to investment warranties and in-
demnities also). See also draf ting notes to Subscription and shareholders' agreement—short f orm (business
angel investors) f or commentary on the extent of warranty cover generally sought in these circumstances.
The second f unction of the subscription and shareholders’ agreement is to govern the relationship between
the company and shareholders (ie the investor and f ounders) as well as how the company is to be operated.
It will include provisions dealing with the f ollowing matters:

• the constitution of the board (including investor appointments)

• the regular provision of specif ied f inancial and other inf ormation to the investor

• management's conduct of the business

• investor consents and directions, and

• exit mechanisms (see Practice Note: Private equity investment—exits)

Other documents
The f ounders may be required to enter into new employment agreements if existing arrangements are un-
suitable to the investor.
There will also be various ancillary documents necessary f or completion, including:

• board minutes providing f or:

◦ acceptance of the terms of investment including the issue of new securities
◦ execution of the subscription and shareholders' agreement, and
◦ appointment of a new director or directors representing the investor

• shareholder resolutions providing f or:

 Page 5

◦ an increase in the company's authorised share capital (if appropriate)

◦ any issue of new securities in the company
◦ any waiver of existing pre-emption rights and termination of any existing shareholders'
agreement
◦ execution of the subscription and shareholders' agreement
◦ the adoption of new (or amending existing) articles of association, and
◦ the issue of share certif icates

• Companies House f orms

Post-completion
Post-completion the company will be required to f ile shareholder resolutions, new (or amended) articles of
association and all relevant f orms at Companies House.