If someone has a great business idea, but neither money nor access to financial markets, the prospective entrepreneur needs two kinds of angels: a guardian angel and a business angel.
Felipe Vergara, a Colombian entrepreneur and researcher, explained at a recent IDB seminar that this peculiar character from the finance world, who has been around in the United States for some 30 years, is still new to Latin America. The first Latin American “business angels” appeared during the late 1990s, when “dot-com” companies reached their peak. But since this first generation of Internet companies collapsed, nobody has heard about them.
“Business angels,” said Vergara, “are people who invest their money in businesses they don't own, that they have no family or other ties to. ” In other words, they give their money to strangers who either have a business idea that could be very profitable or have a new business with a lot of potential but that cannot grow because it lacks financing. “They may act alone or in a group,” he pointed out.
A business angel is a kind of informal venture capital investor, who acts directly if a company or project sounds attractive. When investing in a company, this angel becomes a partner and generally wants to participate in the adventure of making it a reality. Business angels not only provide cash, they also bring their experience, commitment, contacts and hands-on attention. Sometimes several angels with complementary skills get together on a project: a specialist in technology, one in finance, an engineer, etc.
What's important is that business angels can fill the gap in funding that prevents many new entrepreneurs in Latin America from growing their businesses, since their only sources of financing are usually their own savings or their families'.
US Model. How can business angels be promoted in the region? Vergara's research team at the Batten Institute, The Darden School, University of Virginia, is tackling the question.
In the United States, there are two million business angels, one for every 200 people, according to Vergara. They invest in groups of five to 100, and usually spot new investment opportunities through professionals such as lawyers or accountants who are alert to startups. The “band of angels” receives business plans from about five targeted entrepreneurs and chooses two of them. A due diligence investigation is conducted on the companies, and eventually an agreement is negotiated. Before the agreement is signed, there may be period of observation.
Yet the support new entrepreneurs need is not just money. “Technical support, training, useful contacts and market strategies are very valuable tools that are as important as an infusion of cash," warned Vergara. The average business angel does not risk a large portion of his or her capital in such ventures—between 3 and 5 percent of total assets—and the main goal of the operation is often an altruistic one, "to give something back to society," said Vergara. But business angels still take the precautions described above.
Latin angels. In general, nobody knows how to be a business angel in Latin America. Neither is there much money available. "A lot of money from the region is invested abroad, in real estate, in family businesses or in Treasury bonds and other conventional low-risk operations," Vergara explained. "Money flows through very narrow channels that are not commensurate with the business talent in the region."
Investor mistrust and the current insecurity in some countries are the main challenges. "One of the best guarantees for business angels is the existence of sound institutions," Vergara stressed. More transparency, more solid legal foundations or tax incentives for those who invest in startups or help them incorporate—these are some of the suggestions to promote business angels, bearing in mind that many companies are informal and have to be officially established before they can be considered as candidates.
On the positive side, the new study showed that there is a new generation of Latin American businessmen promoting business angels. In Mexico, NAFINSA, a second-tier state bank, has a network of 2,000 business angels partnering with 60 universities that provide training courses in this financial specialty. In Argentina, several well-known business angels have invested in dozens of small companies.
For multilateral institutions like the IDB, Vergara suggested some lines of action: disseminate knowledge on business angels, identify and train leaders who promote the sector, invest resources jointly with pioneering groups of business angels in the region and support government initiatives to boost investment in startups. "Things have to change in order to promote development and create jobs."