Real Story Behind Angel Investing

Review of a Germinal Book
on Angel Investing

Angel capital is a common source of funding for budding ventures. An example lies in the United States, where the level of financial support from business angels is comparable to the sum from venture capitalists. 

Moreover, the practice of venture capital is still in its infancy in many other countries. For this reason, the business angel tends to play a larger role in the sponsorship of fledgling firms. 

Despite its crucial function, though, the field of angel capital is obscured by a mantle of rumor and anecdote rather than fact and data. An exemplar lies in the U.S., where concrete data on angel capital is hard to come by. Not surprisingly, the scrappy state of affairs is even worse in the rest of the world.

On the upside, though, the dearth of knowledge has become less acute in recent years. A good example is found in an incisive program of research pursued in America. The probing has shown, for instance, that business angels have a penchant for investing in stable firms as well as newborn ventures. Moreover, the usual preference is to invest in a company that has attained a positive cash flow rather than a venture on the verge of bankruptcy. 

As a group, business angels invest in a broad spectrum of industries in addition to the pacesetters in the technology sector. At the level of the individual, a cherub is apt to favor the industry they know best from their previous experience in the field.

The angels resemble other sources of informal capital in a number of ways. In particular, the cherubim usually have no more experience, expertise or capital than the friends and relatives of the entrepreneurs.

On the downside, the financial payoff for the cherubs is wont to be far from spectacular. A telling example involves the top tier of business angels. The players of this caliber boast a net worth of $10.9 million on average, participate in angel clubs, have founded an average of 2.7 companies, and are prepared to talk about their experiences. These heavyweights earn just 19.2% per year after taking into account the opportunity cost of the time they spend on their projects. Put another way, the archangels could have earned higher returns by entrusting their money to the leading funds in the field of venture capital. 

The stunted payoff from angel investing is an indication of the scarcity of worthwhile projects rather than a deficit of funding on tap. In other words, too much money is chasing too few deals. In that sense, at least, angel capital happens to resemble venture capital as well as other niches in the financial arena.

In some cases, business angels flock together on a regular basis. The cherubs join clubs in order to share their trove of know-how and know-what. An example of the former lies in a technique for evaluating a project. Meanwhile, an instance of the latter is the legwork put into the due diligence prior to investing in a candidate firm. Given the advantages of collaboration, the members of angel groups tend to outperform their lonesome peers who work as lone rangers.

Straight Talk on Angel Capital

In the popular imagination, a business angel is a retired entrepreneur who provides funding for a feisty startup then shepherds the venture to the pinnacle of success. Sadly for the folklore, though, the image bears scant resemblance to the reality of angel capital.

To begin with, a business angel is apt to be an active participant in the labor force rather than a retired mogul. Moreover, the cherub is likely to provide the entrepreneur with only a modest dose of capital rather than a plush amount. 

Another feature of the setup lies in the extent of guidance, or lack of such, provided by the benefactor. Despite the infusion of cash – and thus the capital at stake – the angel is wont to offer little or no mentorship to the entrepreneur. 

According to common perception, the chosen firm is likely to be a sassy upstart that makes waves in the world of commerce and stakes out a pristine market. In reality, though, the usual recipient is a mundane business in a mature industry. 

Given this backdrop, the payoff for a business angel falls short of the cornucopia pictured by the fairy tale. In fact, the return on capital for the average cherub fails to justify the time and toil required to uncover the opportunities and mind the projects.

These findings are some of the solid nuggets unearthed by Scott Shane, a professor of entrepreneurship at Case Western Reserve University. The results of the research are showcased in a book titled, Fool’s Gold? 

Another piquant feature of the volume lies in the style of writing. Given the focus on a statistical survey of the domain, a book of this sort could easily have turned into a dreary treatise that whips out a slew of tables and talks about an interminable run of tallies and totals, along with their subtotals and sub-subtotals.

Happily, though, the breezy text is unlikely to put the reader to sleep in short order. Fact is, the wording resembles the prose in a popular magazine more than the verbiage of a stuffy monograph. 

Gems on Angel Investing

The book is an eye opener for a diverse audience. The prospective readers span the gamut from the investor and entrepreneur to the researcher and policymaker. The roundup of juicy tidbits includes the following factoids (pp. 10-11; 154; 224).

  • Business angels invest in stable firms as well as newborn ventures. The majority of cherubs favor companies that enjoy a positive cash flow rather than stumblers racked by dire finances. 
  • Most startups die off within a few years of launch, whether or not they receive any dose of angel capital. Among the rare birds that escape a quick death, the typical business is worth a mere $204,000 after six years of life.
  • Angels invest in a broad range of industries rather than just companies in the technology sector. Each cherub is likely to focus on the industry they know best from their past work experience.
  • For the most part, angels are investors of moderate means. In fact, 79% of the investments are made by cherubim who do not meet the financial criteria for accredited investors set up by the U.S. Securities and Exchange Commission.
  • Formal angels resemble other benefactors who provide funding on a casual basis. The cherubim usually have no more experience, expertise or capital than the friends and relatives of the entrepreneurs.
  • The typical investment by an angel is $10,000.
  • The funding from professional angels adds up to a mere 8% of the informal capital provided by friends and family.
  • In the United States, the cache of angel capital amounts to roughly $23 billion per year. The figure is comparable to the volume of venture capital.
  • Angels do not always ask for equity in return for funding. Instead, the injection of cash may be structured as a loan. In terms of frequency, 15% of the deals involve only debt. In terms of value, 40% of the investments take the form of debt. Based on these figures, the size of a loan is on average much bigger than the value of an equity stake.
  • The vast majority of firms that obtain funding from business angels receive no support later on from venture capitalists. Moreover, only 2% of angel-backed firms end up in an acquisition or a listing on a stock exchange.
  • There seems to be a dearth of worthwhile deals rather than a shortage of funding available. In other words, too much money is chasing too few deals. In that sense, angel capital is similar to venture capital as well as other segments of the financial markets.
  • Gregarious angels are apt to join groups made up of kindred spirits. The members of a club can share their know-how as well as the legwork put into the due diligence required to vet a candidate firm. For these reasons, the members of angel groups tend to outperform their lonesome peers who fly solo.
  • In terms of frequency, angel groups invest in just 1.8% of the firms that receive angel funding each year. In terms of amount, 2% of the capital  comes from angel groups rather than lonesome cherubs. Put another way, the average infusion of cash from the teams is slightly larger than the corresponding amount from the soloists.
  • The returns on angel capital are far from stellar. A revealing example concerns the top tier of angels: namely, the players who boast a net worth of $10.9 million on average, participate in angel clubs, have founded an average of 2.7 companies, and are prepared to talk about their work. These cherubs earn just 19.2% a year after taking into account the opportunity cost of the time they put into their projects. By contrast, the seraphs could have bagged higher returns by putting their money into the leading funds in the vale of venture capital. 

In line with the foregoing tidbits, the landmark book contains a wealth of information on the state of angel capital. A case in point is the frequency of projects that lead to fruition according some popular measures of success.

Depending on the source of data, about 0.17 to 0.2 percent of the investments by angels result in an initial public offering on a stock exchange. Meanwhile, between 0.8 and 1.3 percent of the funded firms end up in a trade sale to a private outfit (p. 148).

By way of comparison, venture capitalists lead around 2% of their investments all the way to a public listing on a stock exchange. Moreover, some 13.5% of the wards wind up in an acquisition through a private sale (p. 149).

Based on these figures, venture capitalists are far more successful than business angels in bringing their projects to a rousing climax. In fact, the venturists outperform the cherubs by a factor of 10 or more in terms of public listings. In addition, the performance is comparable when it comes to harvesting the investments through private deals structured as trade sales.

Another gem lies in the difference in productivity for the angel investor. The average cherub spends 12 hours per week on their projects. The opportunity cost of this effort is reckoned to be $129,520 per year (p. 160). 

Moreover, the typical holding period for an investment is 3.52 years. After taking into account the loss of income due to their investing activities, the top tier of angels earns an average return of 19.2% a year.

By contrast, a limited partner in a venture capital fund can enjoy an average payoff of 26.9% per year over the course of a decade. In some cases, the return on investment may be even higher, amounting to 41.5% a year for early stage investments (p. 160).

In short, angel investors could bag higher returns by simply turning over their spare cash to venture capitalists. Yet the cherubs choose to take the slower path to wealth. 

The curious behavior of the patrons is doubtless a matter of personal taste or lifestyle preference. The cherubim appear to be spurred in part by non-financial rewards such helping out the firebrands who take up the challenge of entrepreneurship.

The author of the book deserves a load of kudos for shining a floodlight on the murky realm of angel capital. The turnout provides a solid foundation for further investigation and analysis by investors and entrepreneurs as well as researchers and policymakers.

Springboard for Future Work

As a subject for rigorous study, the field of angel capital is still in an embryonic stage. Given the shortage of prior work in the domain, the germinal book could go only so far. 

For this reason, the research to date leaves plenty of room for follow-up projects. The promising paths for the future lie in the areas of analysis as well as synthesis. An example of the former is the efficacy of alternative methods for vetting a candidate firm. Meanwhile, an instance of the latter is a program of public policy designed to promote innovation and enterprise and thereby quicken the pace of economic growth.

Turning back to the book at hand, the volume would be more helpful had the author given more a bit more thought to the ramifications. An exemplar of this sort is a practical set of suggestions for boosting the payoff from angel capital. 

To be fair, the author does touch on the topic of prescriptive issues in a minor way. An example of this sort lies in the potential for many an angel to uplift their returns on investment. 

More precisely, the cherubs are advised to crank up their profits by focusing on high-growth firms in a small number of industries. The markets of choice are the same niches favored by venture capital funds along with the initial public offerings on the stock market (p. 228). 

On the downside, though, an idea that sounds promising in concept may well turn out to be problematic in practice. In particular, an angel who acts exactly like a venturist would simply turn into one more contender in the field of venture capital. 

If myriads of cherubs were to change their stripes wholesale, the end result would be a depletion of their ranks. Surely, the decimation of the angels is not an outcome that the author would condone.

In that case, the crucial question turns out to be the following: In what ways and to what extent should a cherub behave like a venturist? Sadly, the writer has precious little to offer the reader on this score.

On a different note, the book serves up a warning to the decision makers in the public sector. The author declares that there is no panacea for supporting business angels in order to beef up the economy at large. 

Even so, the outlook is not entirely bleak. A trenchant course of action is grounded on the superior performance of the angels groups compared to their solo counterparts. In a rare display of down-to-earth thinking, the writer advises public officials to encourage the participation of solitary angels in communal programs (p. 230). 

The membership in angel clubs, along with the diffusion of best practices and the integration of the findings from due diligence, would be beneficial for all the cherubs involved. Moreover, the improvement in decision making will doubtless result in the allocation of a bigger share of the overall pool of capital to the most promising ventures. The upshot will be an increase in benefits for the angels as well as the economy at large. 

The argument is compelling. On the other hand, how is a policymaker to encourage the angels to join hands and work together in groups? Once again, the author is silent on this score.

Hopefully, the plethora of open issues in the realm of angel capital will attract a host of researchers in the years to come. As an example, a comparative study of angel groups could pin down the efficacy of various methods for sizing up prospective firms for investment. Another instance is a survey of the benefits of assorted programs for the local economies. 

The projects of this stripe may be pursued by vanguards in both the public and private sectors. The hosting organizations could span the gamut from academic centers and public bodies to nonprofit groups and commercial outfits. An example of the latter is a private firm versed in market research.

At the low end on the scale of sophistication, a simple probe could take the form of a case study comparing a couple of deals completed by a bunch of angels. In the academic environment, a probe of this sort may be suitable as the centerpiece for a graduate-level seminar or a master’s thesis. 

At the high end on the ladder of complexity, a team of seasoned researchers could conduct a statistical assay of angel groups dotted around a single country or spread across several continents. Depending on the scope of the project, an investigation of this type might be suitable for a long chain of doctoral dissertations.

A sweeping program of research could be funded by a scientific foundation in the pursuit of sheer knowledge, or a government agency charged with the promotion of commerce and trade. Another prospective sponsor is an international agency or a charitable group.

Review of Angel Capital

To round up, the program of research pursued by Scott Shane represents a watershed in the murky realm of angel capital. The resulting book lays out a smorgasbord of titillating facts and revealing figures in highly readable prose.

The volume is a welcome addition to the literature on innovation and enterprise. The book should appeal to a diverse readership ranging from investors and entrepreneurs as well as policymakers and researchers. The primer will doubtless serve as a solid foundation for further forays into the verdant yet misty realm of angel capital.


Shane, Scott A.   Fool's Gold? The Truth Behind Angel Investing in America .  New York: Oxford University Press, 2009.