Angel investment 2.0 (part one): Why business angels are more important than ever before
In the fundraising escalator, business angels hold an important role between the 3Fs (friends, family and fools) and venture capital firms.
The country's 15,000 business angels and their average £1billion worth of investment per year are charged with filling the vacuum between the two groups. With this in mind, this key source of finance for entrepreneurial businesses is due to become a significant growth enabler to the UK economy.
This blog post aims to firstly look at why angel investment is becoming vital and secondly identify the key trends that have been shaping the UK angel investment landscape. We aim to shed light on this asset class traditionally famous for its opacity.
3 reasons why angel investment is critical
Below are three reasons why the angel investment scene calls for further attention:
Reason 1: Decreasing supply in the early stage investment market
In recent years, venture capital funding in the seed and early stage market has slowed down significantly. With the ratio of transaction costs to investment size on small deals being less suited to their business model, VCs are increasingly deserting the seed stage space and moving into bigger deals in more developed companies.
As a result of VCs becoming more risk averse, it has been said that companies risk being trapped in a funding bottleneck unable to get to a stage of development where VCs will invest. It is in this space that business angels play a central role.
Reason 2: Increasing demand from startups for finance
But it doesn't stop here. Not only is seed and early stage investment from venture capital firms in short supply, there is also an increasing demand from startups for capital. The past year has witnessed a rise of entrepreneurship activity as the number of new businesses has increased by nearly 10% between 2011 and 2012 according to Startup Britain.
Interestingly, many of the more innovative businesses are in the digital and internet space where they now require a smaller amount of capital to grow compared to other verticals due to innovations such as cloud computing and greater processing power. As a result of this, a growing number of companies are becoming more suited to receiving angel investment because they are in their capital range.
Reason 3: Public money is playing a role
Even the government has recognised that angel investment is important for economic growth by introducing the SEIS (Seed Enterprise Investment Scheme) and extending the EIS (Enterprise Investment Scheme). These slash the risk of investing in startups for private backers as they offer substantial tax reliefs on investment in qualifying companies. Their impact has been twofold: first, they have helped existing angels to commit more capital.
Secondly, they attract people who have never invested before who are interested in availing of this tax-efficient form of investment. Indeed, 58% of surveyed angels in a joint study from Deloitte and UKBAA declare they would have invested less or not at all if EIS/SEIS were not available. But it doesn't stop there. Other initiatives such as the £100m Angel Co Fund and the Scottish Co Investment Fund represent a forward-thinking shift from the government in contrast to older interventions such as publicly funded VC funds. With public money playing a role in the ecosystem, tracking the evolution of the market becomes necessary.
Two trends disrupting how business angels operate
Angel investment has moved beyond its traditional approach as a result of two factors.
Trend 1: Angels invest in groups
In the past decade, the UK has increasingly adopted what was first seen in the 90s in the US: business angel networks and angel syndicates. The former is a communication channel that connects angels with entrepreneurs seeking finance and is often compared to 'dating services' whereas the latter are groups of angels who invest collectively in the same businesses. This dynamic represented a move in an industry where investors were traditionally known for operating anonymously.
Trend 2: Angels invest online
A more recent trend has been for angels to move their activity online. The internet offers a wide spectrum of tools such as online networks like AngelList or online syndicates. Originally reserved for high net worth individuals or sophisticated investors only, some of these platforms are now open for anyone to invest. With the proliferation of equity crowdfunding websites such as CrowdCube or Seedrs, investing in new ventures online is becoming democratised and is 'almost as easy as the Amazon one-click checkout'.
In the next blog we will examine how these two trends have made the angel investment market more efficient: by decreasing the search costs, decreasing duplication of effort, increasing the network effect and increasing the maturity of this asset class.