Developing Time Series Data on the Size and Scope of the UK Business Angel Market.

May 2008

Colin M Mason Richard T Harrison URN 08/1152


Colin M Mason
Hunter Centre for Entrepreneurship University of Strathclyde Glasgow G1 1XH Scotland Tel: 0141 548 4259 0141 548 3482 Fax: 0141 553 7602 Email:

Richard T Harrison
Queen’s University Management School Queens University Belfast Belfast BT7 1NN Northern Ireland Tel: 028 9097 3621 028 9097 5025 Fax : 028 9097 5156 E-mail:

CONTENTS Executive Summary Author biographies 1 2 3 4 5 Introduction 1 6 8

The UK business angel market: an overview of previous 15 studies Developing a time-series dataset to measure business angel 30 activity in the UK: definitional issues Data sources for measuring the investment activity of business 34 angels: a critical review Recommendations References 60 67

Appendix 1. Questionnaire used by BANs to report on the 73 investments that they had facilitated.

DEVELOPING TIME SERIES DATA ON THE SIZE AND SCOPE OF THE UK BUSINESS ANGEL MARKET EXECUTIVE SUMMARY This Report was commissioned to identify the importance of business angel investment in the UK, summarise previous approaches to mapping the scale and scope of the business angel market, identify new approaches to measuring business angel activity and assess the implications for policy. A business angel is defined as an individual acting alone or in a formal or informal syndicate who invests their own money directly in an unquoted business in which there is no family connection, and who, after making the investment, takes an active involvement in the business (as an advisor or board member, for example) directly or via a co-investor. There is an important distinction between a business angel per se (‘pure’ business angel investment) who is, generally, commercially motivated and driven by expectations that there will be a financial return on the investment (although some angel investors do on occasion trade-off commercial returns for other social or altruistic motivations). These meritocratic investors are distinguished from informal investors, a broader category that includes business angels but also includes investors motivated by primarily non-commercial motives (particularly family connections), described as ‘love money’ or affinity investing. While both are important, only ‘pure’ business angel money is potentially available outside family and personal connections and is the primary focus of public policy interest. Business angel investment is important to the development of an entrepreneurial economy. However, in the absence of directories of business angel investors their invisibility makes difficult the development of accurate estimates of the scale of the business angel investment market and the identification of trends in that market. Based on a detailed review of previous research on business angels in the UK and internationally, the report concludes that research-based knowledge of the business angel market is ad hoc: i. ii. iii. iv. v. vi. it is cross-sectional rather than longitudinal, and as such offers no evidence on establishing trends in investment activity with any degree of robustness or reliability; it is often based on small-scale samples, which creates problems of generalisability to provide estimates of overall market activity levels; these samples are more often than not samples of convenience, raising issues of the extent to which extrapolation can be undertaken when the representativeness of the sample is unknown; research is characterised by different definitions of business angel activity, raising the problem that comparative analysis is not based on a like-withlike comparison; international comparisons are problematic; as a result policy decisions are based on partial information.


Recommendations 1. In view of the importance of business angel investment in supporting an entrepreneurial economy, the Enterprise Directorate should develop improved time series data on business angel investment activity. Data collection should be based on a consistent rigorous definition of business angels. The Report defines a business angel as an investor who: invests their own money, makes their own investment decisions1, is driven largely by commercial considerations (although some investors may trade off part of the commercial return for non-financial considerations), is not making within-family investments, and has a hands-on involvement with the investee company either themselves or through a co-investor. Separate data collection and analysis is appropriate to scope out the non-‘pure’ informal investment activity in the UK to provide an overall assessment of the availability of risk capital. Identifying business angels and the amounts they report to have available for investment is extremely problematic. Accordingly, the focus of data collection should be on investment activity – the investments made by business angels – rather than on the investors themselves. Data should be collected on both the activities of business angel investors and on the companies in which the investments are made. The business angel investment market is evolving and the Report notes in particular the emergence of business angel syndicates as a key part of this market. Given the increasing significance of angel groups and syndicates, therefore, the Enterprise Directorate should instigate a regular (annual or twice a year) survey of angel groups and syndicates to collect information on their investment activity. As similar information is being collected in the US and is to be collected in Canada, there is scope for developing international comparisons in investment levels and trends. Data collection on the business angel market can build on data that already exists, working with existing data sources so that they can be used to generate estimates of business angel investment activity. The Report recommends action on five fronts: a. Seek changes to the questions in GEM (Global Entrepreneurship Monitor) about informal investment to include questions about the investments themselves b. Encourage BBAA (British Business Angel Association) to increase the range of data collection from members: while to some extent this represents the ‘tip of the iceberg’ in terms of market coverage, there is





This includes investors making decisions through a syndicate or upon the recommendation of a lead investor (or “archangel”) but excludes collective investments through Venture Capital Trusts.


potential to capture data not otherwise available from other sources (for example, on valuations, deal structures, co-investment activity). c. Undertake administrative changes to the process in of 88(2) forms by Companies House to address the limitations of this as a source of data on market activity. These changes would include: enforcing the requirement to file; ensuring the completeness of records; requiring the disclosure of both loan and equity investments; speeding up the timescale for filing; classifying the investors to identify ‘insiders’ and ‘outsiders’ and ‘connected’ and ‘unconnected’ investors; and timely publication of a list of 88(2) filings. d. Undertake a one-off survey of business angels to identify the proportion that are members of business angel networks, the proportion of their investments that are made through these networks, and the extent to which such investments are distinctive from those made without using such networks. With this information it would be possible to extrapolate from data on investment activity through networks (as reported by BBAA, for example) to generate overall ‘headline’ market estimates. e. Undertake a one-off survey to estimate the total share of business angel investment activity that is accounted for by EIS (Enterprise Investment Scheme) and use this information to scale up EIS investment statistics to provide overall market estimates. This would require surveys of both business angel investors and EIS investors. f. While efforts to improve the utility of GEM, EIS and BBAA statistics could generate much improved information on business angel activity at relatively little cost, each of these data sources has limitations that preclude using them in isolation. Accordingly, a multi-method approach to generating consistent reliable time-series data on the business angel market is recommended. In addition to improving the utility of the 88(2) date, we recommend that consideration is given to: i. Pressing the GEM research coordinators to change the questions they ask about informal investment; ii. Collecting more comprehensive data through BBAA on their members’ investment activity; iii. Scoping a project, based on an appropriate sample, to asses the overlap between EIS and ‘pure’ business angel investment (this could also provide information on business angel network membership to permit scaling up of BBAA data). 6. Data collection on the business angel market can also be based on new data collection, going beyond existing data sources, to develop a more accurate, consistent and comprehensive estimate of angel investment trends. The Report recommends that the Enterprise Directorate invests in a company survey modelled on the Canadian Financing Data Initiative (CFDI). This is methodologically rigorous in its approach and can


generate estimates of both the stock and the flow of business angel investments on an annual basis, and could build on existing surveys (such as the Annual Small Business Survey) to minimise the otherwise high setup costs. 7. With a CFDI-type survey at the core of a data collection strategy, reinforced by modifications to GEM, BBAA, EIS and 88(2) sources as discussed above, there would be a strong basis for collecting consistent and robust time series data on the UK business angel market. This would give the UK the best statistical information on business angel activity and would provide policy makers with and effective ‘instrument dial’ for monitoring the early stage risk capital market and providing the basis for evidence-led intervention in the market. Given the diversity of data sources available and to be developed, and the importance of adopting a multi-method approach to market estimation and tracking, the Enterprise Directorate should commission and publish an Annual Report on the UK business angel market.


Colin Mason Colin Mason is Professor of Entrepreneurship and Head of Department in the Hunter Centre for Entrepreneurship ( at the University of Strathclyde in Glasgow. He was previously a Professor of Economic Geography in the Department of Geography at the University of Southampton. His research is concerned with entrepreneurship and venture capital, particularly in the context of regional development. He has published extensively on topics such as the new firm formation process, the geography of new firm formation and growth, the impact of small business policy, and venture capital in both the academic and practitioner-oriented literature. Over the past twenty years his main research, undertaken jointly with Professor Richard Harrison (Queen’s University of Belfast), has been concerned with the availability of venture capital for entrepreneurial businesses they are recognised as leading academic authorities on the informal venture capital market. He has been closely involved with government and private sector initiatives to promote informal venture capital in the UK, including undertaking several consultancy projects for the Department of Trade and Industry, Small Business Service and Scottish Enterprise, compiling an annual guide to sources of business angel capital and investment activity report on behalf of the British Venture Capital Association, and undertaking research on behalf of the National Business Angel Network. He is an honorary member of the British Business Angel Association (BBAA). Professor Mason was a member of the Governor of the Bank of England’s small business finance forum and the Treasury’s Enterprise Panel which examined the role that business incubators might play in stimulating technology-based businesses in the UK. He has also advised the Australian Government and various Finnish and Argentinean organisations on strategies to increase the supply of informal venture capital and has been a consultant to the OECD and the European Union on issues associated with innovation and venture capital. He serves on the editorial boards of six entrepreneurship/small business journals and is founder and co-editor of Venture Capital: An International Journal of Entrepreneurial Finance (Routledge). He teaches courses on New Venture Creation and Entrepreneurship and Regional Development and has also lectured on raising venture capital on several MBA courses in the UK and abroad. In addition, he teaches on a Masters Degree in Industrial Economics with Particular Emphasis on Small and Medium Sized Enterprises at the Universidad Nacional General Sarmiento and Universidad Nacional de Mar del Plata, Argentina and has also taught at universities in Canada and Australia. He has also been involved in several workshops for entrepreneurs on how to raise finance and participated in the Fit4Finance Programme that was run by Hertfordshire Business Link throughout the South East and Eastern regions of England from 2002-6. Richard Harrison Richard Harrison took up the position of Professor of Management and Director of Research at Queen’s University Management School at Queen’s University Belfast in January 2006 (, and assumed the role of Director and Head of School in


September 2006. He was previously Dixons Professor of Entrepreneurship and Innovation, and Director of the Centre for Entrepreneurship Research, at the University of Edinburgh Management School, and has held professorships in entrepreneurship, strategy and executive development at the Universities of Aberdeen and Ulster. Professor Harrison’s primary research over the past twenty years has been in the area of venture capital and business angel finance and encompasses three sets of studies. First, analyses of the operation of early stage venture capital markets (both business angel markets and formal venture capital markets) and their role in stimulating and supporting business development (and hence economic development). Second, policy analysis and advice directed at the more effective mobilisation of early stage risk capital, including assessment of public sector/state interventions in the supply of capital at local, regional, national and international level. Third, international studies of the emergence and development of risk capital markets in emerging economies – much of this research is currently focused on East Asia (China, Malaysia, Singapore, Taiwan) and concentrates on the analysis of (a) the internationalisation of the venture capital industry and (b) the governance and regulatory issues in the development of an indigenous venture capital industry in emerging economies. He is founding co-editor with Colin Mason of Venture Capital: An International Journal of Entrepreneurial Finance (Routledge) – now in volume 10, this is the only refereed academic journal that specialises in the publication of research and policy papers on all aspects of venture capital and entrepreneurial finance, including business angel finance. Professor Harrison’s teaching at Masters level (full time and executive MBA programmes) has focussed on a range of Entrepreneurship and New Venture Creation courses, with the emphasis on developing both knowledge of the entrepreneurial process and the application of the principles of entrepreneurship in practice in start-up and corporate contexts. Much of this teaching is focused on opportunity identification and exploitation. Additional teaching lies in the area of Business Strategy for Entrepreneurial Ventures and Leadership Theory and Practice, and courses have been run for participants from major financial institutions and small business owners in a wide range of sectors, including the education sector. He has also contributed widely to MBA and doctoral education programmes in the US, Argentina and Sweden. Professor Harrison has served as adviser/consultant/speaker on venture capital, business angels and financing innovation to, inter alia, UK Department of Trade and Industry (Small and Medium Enterprise Policy Directorate; Innovation Unit; Small Business Service); Scottish Financial Enterprise/Scottish Enterprise; Welsh Development Agency; British Venture Capital Association; European Union DG XIII (EIMS Financing Innovation workshops); European Seed Capital Fund Network (Liege workshop); Forbairt (Ireland); Enterprise Ireland; Fraunhofer Institut, Karlsruhe (Germany); Six Countries InterGovernmental Programme; OECD; EURADA; European Business Angel Network; Swedish Forum for SME Research; LINC(Local Investment Network Company) (UK); LINC Scotland, CONNECT (Denmark), CONNECT (Sweden), and to advisors, policy makers and local development interests on venture capital and informal venture capital (including advice on the funding of technology based businesses and the role of technology rating services in particular) in the UK, Ireland, USA and Europe. He has undertaken research on behalf of the National Business Angel Network and is an honorary member of the British Business Angel Association (BBAA). He has recently undertaken two major reviews of the early stage risk capital market in Scotland for Scottish Enterprise (see <> for the most recent), and prepared the background paper making the case for the Scottish Investment Fund (renamed the Scottish Venture Fund), recently launched by Scottish Enterprise (see <> for details of the Harrison/Peters report). He was an invited participant in an Industry Canada experts roundtable on improving statistical information on the informal venture capital market in Canada (2002), and was an


ad hoc member of the Finnish delegation to a US-Finland roundtable on developing the venture capital market in Finland (2004) as part of his association with the Emerging Business Research Centre at Tampere University of Technology and University of Tampere. He is also a member of the International Advisory Board of the CIRCLE (Centre for Innovation, Research and Competence in the Learning Economy) interdisciplinary research project at Lund University, Sweden. He has recently been appointed to the International Advisory Group for the Management of Rapid SME Growth 2006-2010 research project at McGill University Montreal and Helsinki School of Economics.



A simple definition of a business angel is an individual, acting alone or in a formal or informal syndicate, who invests their own money directly in an unquoted business in which there is no family connection and who, after making the investment, takes an active involvement in the business, for example, as an advisor or member of the board of directors. There is an inference that such individuals are likely to have a high net worth in order to have sufficient disposable wealth to make such high risk investments. Business angels make up what is often termed the informal venture capital market. This contrasts with the formal, or institutional, venture capital market which comprises professional investors – venture capital firms – who invest ‘other peoples’ money’, typically raised from banks, insurance companies and pension funds, but also non-financial companies, wealthy families and charitable trusts. Their investment activity is recorded and reported by their national venture capital association (e.g. the British Venture Capital Association).2 Some researchers include investments by family (‘love money’) and friends (affinity money) as part of informal venture capital. However, business angel investment is conceptually distinct from investment by family and friends. Angel investment is primarily commercially oriented3 – in terms of both the expectations of the investor for capital gains and other financial returns and the terms and conditions governing the investment - whereas love money is not. Thus, an angel investment can potentially be made in any business whereas ‘love money’ is restricted to situations in which there is a family or friendship connection between the investor and the business owner. The Global Entrepreneurship Monitor (GEM) project has suggested that family investment is more significant than disinterested or unconnected business angel investment – in the UK; for example, around 12% of reported informal


There is a tendency to assume that national venture capital statistics are an accurate measure of investment activity in the formal venture capital market and therefore to use them uncritically. However, a study of the membership Swedish Venture Capital Association challenged its representativeness – and hence the accuracy of its statistics - noting that it includes some firms that are not proper venture capital investors and excludes some important investors. The effect is to understate the amount of early stage investments (Karaömerlioglu and Jacobsson, 2000). 3 However, this does not preclude non-commercial motivations. Both Wetzel (1981) and Sullivan (1994) have noted that some angels invest for less than fully commercial reasons, for example because the product/service has social benefits, to support particular types of entrepreneur, or to support their local community, and are willing to trade-off some financial return against these altruistic considerations. Nevertheless, these investments remain distinct from those made by family and friends.


investment is sourced from business angels, the remainder coming from family and friends. However, for the purposes of this report the terms business angels and informal venture capital will be used synonymously to refer to this ‘pure’ angel investment.

1.1 Role of Business Angels Business angels play a critical role in the creation of an entrepreneurial climate for three reasons. First, they invest largely in those areas in which institutional venture capital investors are reluctant, or unable, to invest. Because business angels do not incur the transaction costs of venture capital firms they are able to make smaller investments, well below the minimum deal sizes considered by venture capital firms. Investments by business angels are also relatively more concentrated at the seed and start-up stages, whereas venture capital firms tend to provide finance for growth and development. This is best illustrated by Freear and Wetzel (1990) in their study of the sources of finance used by new technology-based firms in New England in the 1980s. They found that while business angels invest across the full range of business development stages, they “are the primary source of funds when the size of deal is under $1million” and “provide more rounds of seed and start-up capital than venture capital funds.” For larger amounts and later stages venture capital firms dominated. Replication of this study in the 1990s confirmed these relationships (Freear et al, 1997; 1998). It therefore follows that the informal venture capital market is the largest external source of early stage risk capital, substantially dwarfing the institutional venture capital market.4 Robert Gaston’s estimate for the 1980s was that business angels in the USA were providing capital to over 40 times the number of firms receiving institutional venture capital, and that the amount of capital they invested almost exceeded all other sources of external equity capital for new and growing businesses combined (Gaston, 1989a). A ‘back of the envelope’ estimate for the UK in the late 1990s suggested that the informal venture capital market provided almost twice as much early stage finance as the formal venture capital market (Mason and Harrison, 2000a). Recent research in Scotland, tracking all identifiable investment deals over the past five years, has demonstrated that business angel investment significantly outweighs institutional venture capital investment (Harrison and Don, 2004; 2006). Indeed, business angels are often the only source of external seed, start-up or growth finance available once businesses have exhausted personal and family sources and sources of ‘soft’ money (e.g. PYBT, government schemes such as Proof of Concept and University Challenge) funds. Second, business angels are much more geographically dispersed than venture capital funds, which are overwhelmingly located in just a small number of major financial

However, as noted earlier, recent evidence from the Global Entrepreneurship Monitor (GEM), which is discussed in detail later, notes that capital supplied by family members substantially exceeded the amounts raised by business angels.


technology centres and concentrate their investments in a relatively small number of locations (Mason, 2007).5 In the case of the UK, BVCA statistics for 2006 reveal that London and the South East attracted 42% of all venture capital investments and 60% of the amount invested. Early stage investments are equally geographically concentrated, with London, the South East and the East of England attracting 49% of such investments and 54% of the amount invested by value. This is in marked contrast to business angels which, Gaston (1989b) has suggested, “live everywhere”. However, since most business angels are current or former entrepreneurs they are likely to be most common in regions with a thriving entrepreneurial climate. The only analysis of the geography of business angel investing has been undertaken in Sweden where Avdeitchikova and Landström (2005) show that both investments (52%) and the amounts invested (77%) are disproportionately concentrated in metropolitan regions (which has 51% of the total population). However, this is a less geographically concentrated distribution than is the case for institutional venture capital fund investments. Furthermore, business angels tend to invest locally, making the majority of their investments in firms located within 50-100 miles of where they live (Harrison et al, 2003). This is largely a reflection of the superior information available on investment opportunities close to home and the ‘hands on’ nature of their investments. So, from a regional development perspective the informal venture capital investment process helps to retain and recirculate wealth within the region that it was generated, counteracting the effect of most investment mechanisms which act as a conduit through which personal savings flow out of regions to the nation’s financial centres for investment in core regions and abroad.6 Third, informal venture capital is ‘smart money’. Business angels are typically ‘hands on’ investors who seek to contribute their experience, knowledge and contacts to the benefit of their investee businesses. The opportunity to become involved is a major reason for becoming a business angel. The analogy is with being a grandparent – being a business angel enables an entrepreneurial individual to become involved with and contribute to the start-up and growth of a new business but without the 24-7 involvement of the entrepreneur (or parent). It is also a way in which investors can reduce agency-related sources of risk (the availability of information to one party in a relationship – in this case the business owner – that is not available to the other) and increase the prospects that the business will be successful. Since most business angels have an entrepreneurial background this involvement can also be expected to benefit the businesses in which angels invest – although to date research has failed to identify a positive relationship between involvement and business success despite the reporting of such benefits (or the perception of benefits) by owners (and investors) in successive surveys.7


See Mason and Harrison (2002c) for an analysis of the regional distribution of venture capital investments in the UK. 6 For example, see Martin and Minns (1995) for a regional perspective on the effect on pension fund flows and Mason and Harrison (1989) who show that the flows of investment generated by the Business Expansion Scheme favoured the ‘south’ over the ‘north’ – this example demonstrates the impact of the institutionalisation of what was intended to be a development of the informal investment market, as it is the pooling of funds (the imposition of an intermediary between the investor and the investee business) that is associated with this regional concentration in investment flows: it is likely that direct investments in BES-eligible businesses were less subject to this north/south leakage. 7 See the paper by Macht (2006), presented at the 2006 ISBE conference for a review of the literature on the post-investment impact of business angels on their investee companies.


1.2 Measurement Issues Given the importance of a thriving informal venture capital market for the creation and maintenance of an entrepreneurial economy it is important that Government is able to measure the number of business angels and the level of their investment activity. Measurement is important to monitor any decline in the number of business angels, drop in their investment activity or change in the nature of their investments, any or all of which could threaten the ability of businesses to access finance for startup and growth. Measurement is also required in order to assess the impact of government interventions and other changes in the external environment on informal venture capital investment activity. Equally, any evidence for an increase in the number and investment activity of business angel investors has implications for the development of additional market interventions to increase the supply of capital. However, measuring the number of business angels and their investment activity on either a cross-sectional (static) or time-series basis is extremely problematic. There are two main problems: identification and definition. Identification First, as William E Wetzel Jr observed in his pioneering research on business angels, the total population of business angels “is unknown and probably unknowable” (Wetzel, 1983: 26) on account of their invisibility and desire for anonymity and the undocumented nature of their investing. From a practical standpoint this means that, unlike the institutional venture capital market, there are no lists or directories of business angels. The consequence has been that research on business angels has had to identify business angels through a variety of imperfect sources with no way in which to test for the ‘representativeness’ of the samples that have been generated. Indeed, many studies have been based on ‘samples of convenience’, such as angels who are members of business angel networks, or arising from snowball sampling methods8, both of which are likely to generate biased samples, not least because they will under-estimate the number of angels who are ‘lone wolves’, acting alone on their own initiative, or are one-time or infrequent opportunistic investors9. Furthermore, the difficulty of finding business angels has meant that most samples are small, which adds to the representativeness problem and makes it problematic to extrapolate from sample results to derive population estimates of activity with any degree of robustness. Definitions Second, there is definitional ambiguity. In order to gain a robust and accurate understanding of the size and temporal dynamics of the business angel market, data collection protocols will have to address the issue of how to differentiate between what we refer to here as ‘pure’ business angel investment and the wider informal investment market. There are four dimensions to this issue.


In this approach, a small number of angels are identified and they are asked to identify other angels that they know in order to expand the sample. 9 Previous research (e.g. Mason and Harrison, 1992) has suggested that these investor types will be common in a random sample of angel investors.


First, the term ‘informal investment’ is increasingly used, notably by GEM, to describe non-institutional risk capital investments in unquoted businesses. As noted above, this includes investments made by family, friends and business angels, with business angel investment being the smallest category. However, business angels have to be seen as conceptually distinct from ‘love money’ invested by family and friends. Angel investment is primarily commercially oriented (subject to the caveat that there is a sub-category of socially motivated investment) whereas love money is not. Moreover, an angel investment can potentially be made in any business whereas love money is restricted to situations in which there is a family or friendship connection between the investor and the business owner. Adding to the definitional confusion is the fact that whereas a clear distinction can be made between family members and others, the definition of a friend is much more problematic: surveys of ‘pure’ business angels have consistently identified social, as well as business, networks as sources used to identify potential investment opportunities. A further confusion is that the same individual can be a source of both angel finance and love money. The population of business angels is not fixed or static. Rather, being a business angel is a transitory state. A ‘virgin’ angel is someone who is looking to make their first investment – but as the experience of business angel networks in the 1990s attests, many of these individuals never make any investments. Another problematic category are individuals who have made one or more investments but are not currently looking to make new investments, either because they have no further liquidity (but may become active investors again once they realise proceedings from a successful exit event) or because they have invested and have withdrawn from the market on the basis that this activity is ‘not for them’10. Counting either category of individual as a business angels risks exaggerating the total number of active angels in the market and hence the investment capital potentially available. A final category is latent investors – individuals who would not describe themselves as active investors but who will invest opportunistically if suitable deals ‘pop up’. The implication is that approaches which use the business angel population as a source of information on investment trends (i.e. supply side measurement) must address the issue of how to identify these various components of the angel population in order to generate reliable estimates of the availability of finance from business angels. In practice it may be conceptually clearer to focus on actual business angel investment flows rather than the amount of capital that business angels say they have available for investment. The angel market is evolving, notably with the creation of angel syndicates and other angel groups. These groups operate in two ways. First, they may act as formal or informal syndicates in which each member of the syndicate takes an active role in the investment opportunity identification, screening and investment processes. Typically such syndicates will be relatively small.


One example of a successful entrepreneur who exited from his business, initially set out to be a business angel investor and ceased to consider further activity after two unsuccessful investments convinced him this was not something he could undertake successfully is given in Mason and Harrison (2006).


Second, they may operate on the basis of a small group of active investors offering passive members of group the opportunity to invest in deals that they are offered but had no role in identifying, evaluating or negotiating and will not play any hands on role in the investee businesses. This second group might be considered to have broken some aspects in the conventional definition of a business angel. Nevertheless, as the members are investing their own money on a deal-by-deal basis and making a basic investment decision (yes or no) they can still be considered to be business angels. Rather more problematic are those angels groups that operate on the basis of pooling their investment funds and devolving the investment decisions to the syndicate leaders. This model is much more common in the USA than in the UK, where such investments are not eligible for tax relief under the Enterprise Investment Scheme. The reality of angel investing is therefore that it operates on a spectrum, occupied at one end by the solo investor who makes his or her own investment decision to invest directly, and at the other end by investors who are part of angel syndicates who simply say ‘yes’ or ‘no’ to the investment opportunities that they are offered and play no direct hands-on role in the investee company. The hands-off investor who invests in a pooled fund, and delegates the decision on which investments to make, would not be considered to be a business angel on the basis on the definition adopted here. • There is a final definitional issue which has become important in economies such as the UK. Since the introduction in 1981 of the Business Start-up Scheme, and the later replacement of this with the Business Expansion Scheme and the Enterprise Investment Scheme (EIS) (discussed below), and the introduction of Venture Capital Trusts (VCTs), there have been taxefficient vehicles designed to encourage and leverage private capital into unquoted businesses with a view to closing the equity gap. However, while schemes such as EIS allow for direct investments by individual investors and business angel syndicates (to make their investments tax efficient), there is a problem with pooled investments under EIS and through VCTs, where individuals commit investment, to take advantage of the tax breaks available, to fund managers, who make the investment decisions and undertake the postinvestment monitoring. This divorces the investor from the investment decision-making process, and would not qualify as business angel investment as we define it here. It is a moot point as to whether the introduction of pooled EIS funds and VCTs has diverted investment funds that would otherwise have come to the market as business angel investment.11 While much EIS investment in particular will meet our definition of business angel investment, some will not, and most VCT investment will not meet this definition. Given that EIS investments are captured and reported by Inland Revenue one key question is the extent to which it is a useful approximation for overall business angel investment activity?12


The extension of VCTs to allow investment into AIM-quoted companies takes this investment channel beyond the business angel market and make it impossible in any case to rely on VCT data as a trend indicator in the business angel market. 12 It also raises the issue of the extent to which the development of a time series should be based on capturing data on the investment activity of a specific group of actors in the market (‘business angels’) or on scoping out the commitment of investment to a specific set of circumstances (defined variously as start-up/new ventures, equity gap issues, technology ventures etc).


The Project The project specification defines the objective as being to lay the foundations upon which a robust time series dataset can be developed to measure business angel activity in the UK. The ability to measure and monitor changes is seen as being beneficial both to government in developing policy to increase access to finance by small businesses, and to stakeholders and finance providers. The specification sets out four key elements in the study: • • • • Establishing criteria that will define which informal investment activity will be classified as business angel activity; Reviewing data sources currently available on the business angel market; Developing a methodology to collect robust time series data on the size and scope of the UK business angel market; Address data collection issues.

In Section 2, as background, we provide a comprehensive overview of studies that have examined the UK business angel market, noting in particular the approaches used in these studies to identify and define business angels. Section 3 offers a definition of business angels and their investments. Section 4 reviews the research literature to provide a critical assessment of data sources that have been used in the UK and elsewhere to identify business angels and measure their investment activity. Based on this review, Section 5 makes recommendations on the most appropriate approach to develop a robust time series data on: • • • The number of active business angels in the UK; The characteristics of business angels; The number, size, sector and characteristics of their investments.




The UK business angel market has been the subject of research for nearly 20 years. This section provides a review of our current knowledge of business angels and the operation of the informal venture capital market. The review is in three sections. It begins with a summary of the first ever study of business angels in the UK by Mason and Harrison (1994) that was conducted between 1989 and 1991. Second, it identifies subsequent in-depth studies that sought to extend the Mason and Harrison study. Third, it examines studies that have sought to examine specific aspects of the investment process. We pay particular attention in this review to the approaches used in these studies to identify and define business angels. 2.2 Mason & Harrison (1994): ESRC Small Business Research Initiative Study

The first ever study of business angels in the UK was undertaken by Mason and Harrison between 1989 and 1991 as part of the ESRC’s Small Business Research Initiative. At that time awareness of business angels in the UK was extremely low. However, a report by the Advisory Committee on Science and Technology, a Cabinet Office committee on barriers to the growth of entrepreneurial businesses which was published mid-way through the research, did emphasise the importance of business angels, arguing that “an active informal venture capital market is a pre-requisite for a vigorous enterprise economy” (ACOST, 1990: 41). Mason and Harrison’s study was hugely influenced by US studies, notably Wetzel’s pioneering study of business angels in New England (Wetzel, 1981; 1983; 1986a; 1986b) and the subsequent studies funded by the US Small Business Administration’s Office for Advocacy, notably Arum Research Associates (1987), Gaston and Bell (1986; 1988)13 and Haar et al (1988).14 Its aim, following Wetzel (1986a: 132), was simply to put “some boundaries on our ignorance”, its approach to identifying business angels was based on the approach used by Wetzel and the questionnaire was modelled on the one used in the US SBA studies, in part to facilitate UK-US comparisons. The study had five objectives: (i) to identify the characteristics of UK business angels and compare them with their US counterparts; (ii) to document their investment activity; (iii) to identify the characteristics of their investment portfolios; (iv) to examine their involvement with the companies in which they invest; and (v) to identify their motivations and factors which they take into account when evaluating investment opportunities. Following the approach of US studies, questionnaires were sent to individuals on selected mailing lists which appeared to target individuals with the characteristics of business angels (business owners, high net worth individuals). This generated 47 completed questionnaires from over 4000 questionnaires. A further 12 questionnaires were completed by subscribers to Venture Capital Report, a
13 14

This research is accessible as Gaston (1989b) Visits in the late 1980s and early 1990s by Harrison to the SBA and by Mason and Harrison to Wetzel and his colleagues at the University of New Hampshire gave them access to the reports and survey instruments and an understanding of the methodological issues involved in finding business angels.


subscription-only magazine containing information on businesses seeking finance, one response came from questionnaires sent to individuals who placed adverts in the Financial Times seeking investment opportunities in unquoted companies, and 13 came from investors who were either known to the researchers or referred to them by a third party. This gave a total of 86 responses. The key findings were as follows: (i) • • • • (ii) • • • • • • Personal characteristics UK business angels are predominately male (99%), predominantly in the 4565 year age group. They are experienced entrepreneurs, two-thirds having started at least one business, and 70% of these being serial entrepreneurs. Half of the entrepreneurs were cashed-out. The occupational classification is dominated by business-owners, selfemployed and consultants (a description often used by entrepreneurs who had sold their business). Relatively high incomes and net worth but not as rich as might have been expected (only 16% were millionaires). Investment activity High rejection rate – invest in only 8% of all opportunities that they consider. Median amount invested is relatively small (£22,000 at 1990 prices). Only a small proportion of their wealth is committed to such investments (typically under 10%). There is considerable diversity amongst investors in the number of deals considered and investments made. Most angels are infrequent investors and nearly one-third reported making no investments in the three years prior to the survey (Nb. all respondents selfdefined themselves as ‘business angels’). Information on investment opportunities largely comes from business associates and friends and the investor’s own search – these were also the ‘best’ sources in the sense of being most likely to receive investment. Formal sources (e.g. accountants, lawyers, bankers) provide relatively few referrals and have low conversion rates. Most angels (70%) cannot find sufficient investment opportunities and have funds available to make more investments.

(iii) Investment characteristics • • • • Investments are concentrated in start-up and early stage businesses. Investments occur in all industry sectors but there is a strong bias to technology businesses (self-defined) (33% of the total). The average size of individual investments is £10,000 – only 12% of investments exceed £50,000 (of course, deal sizes were often larger because some angels invested with others). Provide a mix of equity and loan finance. 16

• • • • (iii) •

Around one-third of investments involve other angels – however, the majority of investors invest on their own. Most investments involve a minority equity stake in the investee business. The majority of business angels are ‘hands on’, although only a minority join the board. However, nearly one-third are passive, merely receiving shareholder information and attending shareholder meetings. Investments tend to be local, with two-thirds in businesses located within 100 miles of the investor’s home or office. Investment motivations Business angels are motivated primarily by financial considerations, notably the opportunity for high capital appreciation. However, non-financial considerations also play an important role, notably to participate in the entrepreneurial process. Investment appraisal The key factors which angels take into account are the management team and the growth potential of the market. The vast majority of angels rely on their own evaluation, either exclusively or supplemented by outside advice.

(iv) • •

Comparison with US business angels (Harrison and Mason, 1992a) reveals few differences in demographics, although those in the UK tend to be older. However, there are significant contrasts in the operation of the market. In comparison to US investors, those in the UK • have more investment opportunities brought to their attention, seriously consider more opportunities but invest in a smaller proportion. • are more likely to invest independently. • are less likely to be approached by entrepreneurs seeking finance. All of this suggests that the informal venture capital market in the UK may be operating less efficiently than its counterpart in the USA, particularly with respect to information flows on information opportunities. Landström (1993) added evidence on business angels in Sweden to enable a three-way comparison which suggested that Swedish investors operated in ways that are closer to the US than the UK – for example, the ratio of opportunities considered to investments made, investment activity, time spent in evaluation and syndication. However, it is unclear the extent to which differences between these studies in the identification of business angels contributes to this variation. In parallel, Mason and Harrison also undertook a survey of investors registered with LINC, a federation of local business angel networks (or business introduction services as they were originally known). Usable responses were obtained from 53 current and previous members. LINC investors were distinctive from the respondents to the ESRC survey in three respects: they were younger; they had higher incomes and lower net worth, and made larger investments (Mason and Harrison, 1996a). This raised the possibility that business angels who join business angel networks may be distinctive.


The Mason and Harrison study has stimulated further research. Subsequent studies have been of two types. The first type are further large, comprehensive studies of the UK informal venture capital market which have sought to extend, qualify or challenge the profile of the UK informal venture capital market presented by Mason and Harrison (1994). However, the profile of business angels presented by Mason and Harrison (1994) has proved to be remarkably robust. The second type is a set of studies that have sought to add detail to the broad-brush profile of business angels presented by Mason and Harrison (1994) and subsequent researchers. This has mostly involved a shift away from what has come to be termed the ‘ABC’ studies of investor characteristics and investment activity in favour of in-depth studies of particular investor types and specific aspects of the investment process. One implication from this research is the difficulty of identifying business angel investors, and the significant resource costs incurred in trying to build up a sufficient sample for analysis and extrapolation. Accordingly, as in this and other subsequent studies, market estimates, even in cross-sectional terms, are hard to come by, and the logistics of the research preclude easy elaboration of the survey approach into the basis for time series analysis. 2.3 Beyond the initial Mason and Harrison study

The first major study of the UK informal venture capital market following Mason and Harrison’s (1994) pioneering exploratory study was research undertaken by Patrick Coveney at the University of Oxford for a PhD which was repackaged as a ‘how to’ book for businesses seeking to raise finance (Coveney and Moore, 1998). However, the key findings had been published some time earlier as Stevenson and Coveney (1994; 1996). The key contribution was to document the heterogeneity of business angels by developing a six-fold categorisation: • • • • • • Virgin angels – individuals with funds available looking to make their first investment but have yet to find a suitable proposal. Latent angels – rich individuals who have made angel investments but not in the past three years, principally because of the lack of suitable investment proposals. Wealth maximizing angels – rich individuals who invest in several businesses for financial gain. Entrepreneurial angels – very rich, very entrepreneurial individuals who back a number of businesses for both the fun of it and as a better option than the stock market. Income seeking angels – less affluent individuals who invest some funds in a business to generate an income or even a job for themselves. Corporate angels – companies which make regular and large angel-type investments, often for majority stakes.

For each group the study sought to identify the funds available for investment, demographic and financial characteristics, investment criteria and, where relevant, barriers to investment.


The study was based on a sample of nearly 500 investors and 467 investments (involving over 200 investors) – a much larger sample than used by Mason and Harrison15 and achieved by working in collaboration with Venture Capital Report, a monthly investment opportunity magazine with a subscriber base of over 700 who paid a subscription, at that time, of £350 per annum. Over 90% of respondents were either VCR subscribers or had made enquiries about subscribing. It might be expected that the requirement to pay a significant subscription would have biased the subscribers to the largest and most active investors. The most significant difference from the Mason and Harrison study was that Coveney found a much higher level of investment activity, which is not surprising in view of the sample frame used. Investors invested more frequently, made much bigger investments (median investment of £40,000 per investment) and had bigger investment portfolios. The proportion of passive investors was also lower. However, these differences are likely to have arisen on account of the approach taken to identify business angels which is likely to have favoured more active and bigger investors, and the inclusion of corporate investors (9% of all respondents) which will also have biased investment amounts upwards (see Mason and Harrison, 1997 for a full critique). Other findings, such as the inability of angels to find sufficient investment opportunities, friends, family and business associates being the main referral sources, and the dominance of investments in start-up and early stage businesses are all consistent with those reported by Mason and Harrison (1994). The second major study in the wake of Mason and Harrison was by Mark von Osnabrugge, another Oxford University PhD student. This was a more theoreticallybased study. The emphasis was to compare the investment approaches of business angels and venture capital funds: the focus was therefore on the investment process rather than the size and scope of the informal venture capital market. Major issues examined included the following: deal flow, screening, investment criteria, due diligence, contracting, and post-investment monitoring and control. The research was based on 262 questionnaire responses from business angels and venture capital fund managers and 40 personal interviews. Findings were published in academic papers (e.g. Van Osnabrugge, 1998; 2000) and integrated into a book which reviewed the entire investment process (Van Osnabrugge and Robinson, 2000). Mason and Harrison have undertaken two further significant studies. The first of these was based on funding from the DTI to undertake a follow-up of their ESRC study which investigated other aspects of the informal venture capital market that remained shrouded in mystery. So here again the study was not particularly interested in issues associated with the size and scope of the market. The methodology involved questionnaires being distributed by 19 business angel networks to their investors: 127 usable responses were obtained, mostly from this source.16 This research led to the publication of three papers. Mason and Harrison (1999) provided a critical review of the impact government intervention to stimulate the informal venture capital market, looking specifically at the use of tax incentives (EIS, roll-over relief and VCTs) and business angel networks. They concluded that policy was too supply oriented and needed to address deficiencies on the demand side. In conjunction with evidence from
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However, the size of the questionnaire, and hence the detail in the data collected, was much smaller. Some questionnaires were also sent to business angels who had been identified through informal contacts and recommendations.


a later study (Mason and Harrison, 2002a) this led them to argue that policy needed to address the issue of ‘investment readiness’ (Mason and Harrison, 2001; 2004a). The second paper from this research (Mason and Harrison, 2002b) provided the first ever evidence on the returns achieved by business angels, their time to exit and method of exit.17 A related paper found that investing in technology businesses generated an almost identical returns profile to that of investments in non-technology businesses (Mason and Harrison, 2004b). Their second study was based on a survey of investors registered with BANs that were part of NBAN (Mason and Harrison, 2002a). This supported the clear picture of business angels being self-made high net worth individuals (62% were millionaires; 71% were or had been business owners), motivated largely by financial considerations but also from the satisfaction of being involved in the entrepreneurial process, typically allocating between 5 and 10% of their total investment portfolio to angel investments. It confirmed their earlier study that the tax regime was the main macrolevel influence on their willingness to make angel investments. In this study 38% of investors had used the EIS. Over 90% of respondents were looking to make further investments – no doubt this was a reason why they were members of BANs. The study therefore probed the barriers which prevent business angels from making as many investments as they would like – investment preferences (linked to industry/market knowledge, and location) and the quality of investment opportunities were both influential. However, investors did indicate that they relaxed their investment criteria in certain circumstances – notably if the management team had high credibility, if the investment amount was small, if the business was close to home and if the opportunity had been referred by a trusted source. The failure to successfully negotiate investments, typically because of differences of opinion on price and size of shareholding, was also identified as a relatively frequent occurrence. A fifth significant contribution is a study of business angels in Scotland by Paul et al (2003). Scotland has a long tradition of business angel activity. Following research by KPMG (1992) the stimulation of the business angel market was identified as a key focus for policy intervention in the Scottish Business Birth Rate strategy. This resulted in the establishment of LINC Scotland in 1992 which, under its Chief Executive, David Grahame, is one of the most respected and innovative business angel networks in the world. Scotland is also distinctive in terms its number of business angel syndicates. The KPMG study was based on interviews with 38 business angels who had made 89 investments in the previous four years involving an investment of some £4.4m, with an average of £50,000 (skewed by five investments each of over £250,000). These investments were predominantly in seed, start-up and early stage businesses. Investments were made primarily for capital gain rather than income, the investment instruments was overwhelmingly straightforward equity and transaction costs were kept low by not costing time and in most cases keeping documentation to a minimum. Some 80% of investments were less than £50,000. Investors expected to be personally involved in their investee companies. The investors were predominantly aged 40-55 and were either cashed out or disengaged entrepreneurs or experienced managers who had retired or taken redundancy. The vast

An earlier, unpublished version of this research seems likely to have influenced government policy, the evidence on holding period prompting government to reduce its capital gains taper from 10 years to four years and evidence on the size of shareholding prompting the abolition of a minimum qualifying equity share (Mason and Harrison, 2002b).


majority of investments were within 50 miles of their home or work. Investments were typically sourced through personal networks. Consistent with other research, investors could not find sufficient investment opportunities. Based on its survey evidence the study estimated that the size of the informal venture capital market in Scotland, in terms of both money available for investment and amounts already invested, was around £25m. The Paul et al (2003) study was based on a questionnaire survey of current and previous LINC Scotland investors and members of one angel syndicate. This generated 140 usable responses, including both virgin angels and those who had made one or more investments. For the most part the profile of angels and their investment activity reinforced the picture presented in earlier studies. Scottish angels are predominantly male and aged over 50. However, in contrast to other studies, only a minority had a SME background. They were motivated by capital gain, with interest and fun as subsidiary reasons. The entrepreneur/management team was their key investment criterion. The sample included 30% who were looking to make their first investment and, at the other extreme, 14% who had made more than five investments. This skewed distribution also emerges in terms of the amount invested, with 45% investing less than £50,000 and 6% investing over £500,000. Half invested as part of a syndicate. Echoing a constant theme in the literature, most investors were constrained from investing more by the lack of investment opportunities. There was no attempt to estimate the size of the market. Finally, it is important to highlight two somewhat obscure studies from the ‘grey’ literature which sought to profile the angel market in the UK. The first was a summary of a study of 50 business angels (and 47 intermediaries) undertaken on behalf of the National Westminster Bank Technology Unit (Innovation Partnership, 1993). This study pointed to the diversity of angel types and involvement in the market (in terms of amount invested, frequency of investment, size of investment and amount available for investment). Age (average age of 50), motivation (capital gain) and background (52% former entrepreneurs) confirmed other studies. It also confirmed that angels tended to find deals through their personal contacts. In terms of investment criteria the report confirmed that investing close to home was an important consideration for a majority of investors – however, this was influenced by the size of the investment, about of involvement required and ease of travel (“how far can I travel in an hour”). With this caveat, most investors would consider any investment opportunity on its merits: only a minority had clear investment criteria – and found it easier to express these in terms of what they would not invest it. Most investors wanted to play a hands-on role in their investee businesses. The typical investment was £20,000-£50,000 but the range extended from £5,000 to £500,000. Finally, the study noted the difficulty of getting angels to say how much money they had available for future investments. The potential amounts available for investment are subject to fluctuation, depending on an individual’s liquidity, the opportunity itself and the state of their other investments. The Investor Pulse (2003) survey, which was undertaken by C2 Ventures, was based on a web based questionnaire that the angel investment community was invited to complete. A key deficiency is that the report does not indicate the actual number of responses. However, the survey broadly confirmed the picture of business angels in


the UK that had been emerging over the ten years since publication of Mason and Harrison’s initial study. • • • • • • Predominantly a business ownership and management background. Range of investment experience from ‘yet to invest’ to more than five years of angel investment experience. Motivations dominated by financial considerations but ‘fun’ is an important subsidiary reason. The majority (60%) prefer to invest on their own. Emphasis on investing in start-up and pre-revenue businesses. Key factors considered at the initial screen: clear financials; scaleable business model with a clear marketing and sales plan; ‘must have’ (rather than ‘nice to have’) product/service; clear exit and realistic valuation; understanding that it is the team that gets the funding, not the plan. Two-thirds of transactions in the period 2000-2002 were for less than £50,000 (average of £27,500), but a small proportion of investments were in excess of £500,000. Adding Detail to the Operation of the Market


In addition to these large scale studies have been a number of more narrowly focussed enquiries. These have been of two types. First, there have been some studies which have examined specific types of business angels. Second, there have been several studies on specific stages in the investment process. 2.4.1 Studies of specific types of business angel

There are four studies in this category. Anderson (1998) studied high income workers in the City of London on behalf of LINC for his MBA dissertation at London Business School. It found that only 40% had invested in unquoted companies, with lack of information, lack of time and lack of trusted advice being barriers to investment. Kelly and Hay have published two studies which have examined active business angels. Their first study reported on what they termed ‘serial investors’ – their sample comprised eight investors who they interviewed in detail and who had made an average of five investments. The sample split into two groups: those who always invested on their own and those who invested as part of a syndicate. The key conclusion of the study was that such investors typically make investments in industries, markets and technologies where they have some familiarity and know the entrepreneur, or have the deal referred by an individual who has this knowledge. However, angels in syndicates had a greater scope for investing in unfamiliar situations or where they did not know the entrepreneur because they were able to leverage of the knowledge of their co-investors (Kelly and Hay, 1996). Their second study involved an investigation of the most active business angels, what they termed ‘deal-makers’, and others have called ‘super angels’, to examine their sources of information on investment opportunities. They concluded that these angels


(defined as having completed six or more investments) rely less on publicly available sources of information and more on their own private sources from an extensive base of contacts developed as a result of building up their own portfolios (Kelly and Hay, 2000). Harrison and Mason (2007) have provided the first-ever profile of women business angels in the UK. There are some differences in characteristics and background but the numbers are too small to test for statistical significance. Women appear to be slightly more likely to invest in women-owned businesses, but this is not because they factor gender into their investment decision. Indeed, the findings tentatively suggest that gender is not a major issue in determining the supply of business angel finance, and that the informal venture capital market is not differentiated along gender lines. However, further investigation of this topic would be worthwhile in view of the tentative nature of these conclusions. 2.4.2 Studies of specific stages in the investment process

(i) The personal portfolio allocation decision Mason and Harrison (2000b) have explored in a very preliminary fashion the factors which influence how much of their wealth business angels will allocate to investments in unquoted businesses. One of the key distinguishing features of informal venture capital is that it is discretionary: business angels are investing their own money and so, unlike venture capital funds which have raised money for the purpose of investing, business angels do not have to invest. Based on responses from 56 investors attending a LINC Scotland conference18, Mason and Harrison show first of all that money which is not invested in unquoted businesses would instead be invested primarily in the stock market, property and interest-bearing cash accounts. Respondents were presented with a list of potential influences that were thought to potentially influence their willingness to invest (e.g. tax environment, economic conditions, stock market conditions). The evidence indicated that business angels were particularly sensitive to tax – the availability of tax relief on their investments was the most important factor encouraging them to invest, with lower capital gains tax being the second most positive factor, while higher rates of capital gains tax was the top factor which would discourage investment. Lower tax on dividend payments was the third most significant factor encouraging investment while higher tax on dividends was the second most important factor to discourage investment. By contrast, economic conditions are much less influential on the willingness to invest, although by no means insignificant. Stock market conditions have the least influence on investment activity. These conclusions are supported by evidence from two other studies, one of which is the Mason and Harrison DTI study (discussed earlier) (Mason and Harrison, 1999; Mason and Harrison, 2002a).


Although profiling the respondents was not an objective of the study it is worth noting that they conformed to the highly skewed distribution that had been identified in previous studies. At one extreme, 26% of investors had not made any investments in the previous two years and 28% had made one or two investments whereas at the other extreme 24% had made more than five investments. The amounts invested ranged from less than £50,000 (19% of respondents who had made investments) to £250,000 and over (32%).


(ii) Investment decision-making criteria The landmark studies by Mason and Harrison (1994), Coveney and Moore (1997) and van Osnabrugge and Robinson (2000) all examined the criteria used by business angels in making investment decisions. However, this evidence was generalised and retrospective. Specifically, it ignored the different stages in the investment process and the scope for different criteria to assume greater or lesser importance as the investment process proceeded. Subsequent studies have probed the investment decision-making process in much more detail. Mason and Harrison (1996b) undertook a case study of deals rejected by a private investment syndicate. This revealed that the decision-making process involves two stages: an initial review and a more detailed appraisal for those opportunities that passed the initial screening stage. Three factors dominated as reasons for rejection: characteristics of the management team, marketing and market-related considerations, and financial considerations. Most opportunities were rejected for just one or two reasons – although deals rejected at the initial review stage were more likely to be rejected on the basis of the culmination of several deficiencies rather than a single consideration. Mason and Rogers (1997) undertook a study in real time of the factors that business angels take into account in their initial screening of investment opportunities – the stage at which most investment proposals are rejected.19 This particular study was based on the reactions of 10 business angels to a particular investment proposal that appeared in Venture Capital Report. The larger unpublished study reported on the reactions of 19 business angels to three investment proposals, providing a total of 30 decisions (Mason and Rogers, 1996). Investors’ responses were taped, transcribed, coded and subjected to content analysis. The findings indicated that investors placed the most attention on market and financial considerations and the entrepreneur/management team. The study also highlighted several distinctive features in the approach of investors to the initial screen: • Investor fit: the first response of investors was to ask themselves whether this opportunity was a good fit with their personal investment criteria – in particular, did they know anything about the industry or market, how much money were they looking for, where is it located and was their scope to make a contribution? Investor preconceptions: the previous experiences and preconceptions of investors influence their attitude to the opportunity – this was particularly influential when considering their view of the market. Focus: investors placed a strong emphasis on the need for businesses to have a clear market and business focus. Investor attitude: the approach of investors at the initial screening of an investment opportunity was to look for reasons to reject it. They were suspicious and cynical and looking to be convinced.

• • •


The research in this study was used to make the video “You Are The Product” (1997) which has been successfully used as a means of interactively teaching entrepreneurs how to become ‘investment ready’ by giving them an insight into what business angels look for when they read a business plan or investment proposal.


Subsequent analysis of this data by Harrison et al (1997) interpreted the business angel’s reaction to investment proposals in a ‘swift trust’ framework, identifying some of the key inter-personal dynamics involved in the investment process. Mason and Harrison (2003a) adopted a similar real time methodology to capture the reactions of business angels to a presentation by an entrepreneur seeking finance. This highlighted the importance of presentation in shaping investor attitudes and how a poor presentation will quickly turn potential investors off. Finally, Mason and Stark (2004) adopted the approach used by Mason and Rogers but with the difference that the same investment proposals were shown to business angels, venture capitalists and bankers in order to reveal differences in their approaches to investment evaluation. Bankers were shown to have a very different approach to that of business angels and venture capitalists, placing much greater emphasis on the financial aspects of the proposal to the exclusion of most other issues. Venture capitalists place equal emphasis on market and financial issues while business angels give greatest emphasis to the entrepreneur and investor fit. (iii) Negotiation and Contracting The first evidence on how investments were negotiated and structured was provided by Mason and Harrison (1996c) in a study based on a telephone survey of 31 investors and 28 entrepreneurs involved in investments that had been made through LINC. The majority (71%) of investors had made only one or two investments. Key findings were as follows: • • • Only a minority of investors (38%) and entrepreneurs (44%) identified any issues that were difficult to negotiate – the most difficult issues were the size of the investor’s shareholding and related issues of ratchet clauses and pricing. The approach of investors to valuation was very imprecise, with the actual valuation reached by processes that were variously described as ‘arbitrary’, ‘informal’ or ‘negotiated’. Over three-quarters of entrepreneurs sought professional advice, mainly from lawyers, in the negotiation process. The costs were fairly modest. In contrast only just over one-third of investors used professional advisers, again mainly lawyers to draw up or review the investment agreement. The decision time was relatively short, in most cases extending over less than three months. In only 70% of investments was a formal investment agreement drawn up. Two-thirds of investors and entrepreneurs agreed that the investment agreement was equally favourable to both sides; 20% of investors and 15% of entrepreneurs felt that it favoured the entrepreneur while 12% of investors and 18% of entrepreneurs felt that it favoured the investor – in other words, most entrepreneurs did not feel that the process of raising finance from business angels was exploitative. Only 40% of investments involved straight equity, with a further 29% involving only loans. However, equity dominated in those deals that involved both equity and loan finance.

• • •


• •

The investor or investors took a minority position in 56% of the investments and a 50% stake in 19% of investments. Most of the equity investments were in ordinary shares – only 16% involved complex instruments (e.g. preference shares).

LINC sponsored a follow-up survey of investments made in the period 1994-96 using the same survey instrument (Lengyel and Gulliford, 1997). A much more detailed investigation of business angel contracts was undertaken by Peter Kelly for his PhD at London Business School which attracted responses from 106 business angels who had largely been contracted through business angel networks (Kelly and Hay, 2003). Compared with previous studies these investors would appear to be unusually active, with an average of eight investments each. The study found that, contrary to previous studies business angels draw up contracts as a matter of course. They want to spell out quite clearly the rights, roles and responsibilities of management and investors. Five non-negotiable items are identified: • • • • • Veto rights over acquisitions/divestures; Prior approval for strategic plans and budgets; Restrictions of management’s ability to issue share options; Non-compete contracts required from entrepreneurs upon termination of employment in the venture; Restrictions on the ability to raise additional debt or equity finance.

These non-negotiable give investors a say in material decisions that could impact the nature of the business and the level of their equity holding. There are also a number of contractual provisions to which investors attach relatively low importance and so may be considered to be negotiable: • • • • • Forced exit provisions; Investor approval required for senior personnel hiring/firing decisions; The need for investors to countersign bank cheques; Management ratchet provisions; The specification of a dispute resolution mechanism in writing up front.

These items were included in fewer than 40% of the contracts studied. Less experienced angels include a wider array of protective contractual safeguards. But with experience angels become more focused on elements that can impact their financial returns. Finally, Kelly and Hay (2003) observe that ‘important to include’ is not the same as ‘willingness to invoke’, and suggest that angels prefer to use their relationship with the entrepreneur to manage setbacks and problems rather than using the contract to invoke their rights. (iv) The post-investment relationship The landmark studies discussed earlier provided some evidence on the ‘smart’ aspect of business angel investing. However, this aspect of angel investing has not been explored in much detail by UK scholars. Based on a survey of investors who had raised finance from either venture capital funds or business angels, Harrison and


Mason (1992b) presented evidence on the roles identified by the entrepreneurs as played by business angels and their assessment of how helpful these contributions were. This highlighted ‘serving as a sounding board to the management team’, ‘monitoring financial performance’ and ‘assistance with short term crisis/problems’ as the most valued contributions. Mason and Harrison’s study of deals that had been facilitated through LINC (1996c) looked in more detail at the post-investment experience. It confirmed that the norm was for investors to become involved, and would typically join the board. Their time input varied from at least a day a week to less than a day a month.20 Their contributions were also varied and best summarised as passing on their business experience. However, only half of the entrepreneurs regarded the angel’s contribution as being helpful (31%) or extremely helpful (19%). Nevertheless, nearly half of the investors (47%) and a majority of entrepreneurs (56%) considered the relationship to be productive and majority of both investors and entrepreneurs regarded it as consensual. The Lengyel and Gulliford (1997) study provides updated information on these issues. Kelly’s PhD study also explored the motivations of angels in becoming involved with their investee businesses. The typical anticipated involvement by the angels in his study was 16 hours per month (8 hours face-to-face and 8 hours phone calls and reading reports) and 40% of investors were employed in the business in some capacity. Kelly concluded that rather than being a means of defending their interests (i.e. for protection) business angels get involved in response to specific needs of their investee businesses. He further notes that involvement is greatest at the early stages, where the business’s need for experience is greatest (Kelly and Hay, 2003). (v) Harvest Mason and Harrison’s (2002b) study of exits was based on data on 128 investments. Returns were highly skewed: 47% of exits involved a total (34%) or partial loss, or broke even in nominal terms, while 23% generated an IRR in excess of 50%. Trade sales were the main exit route and were used both for successful exits and some that only broke even. IPOs accounted for only a small proportion of successful exits. Exits from ‘living dead’ investments were mainly through sales to other shareholders and new third party shareholders. The median holding period was four years – but this varied by investment performance. The median holding period for investments that generated a good or exceptional return was four years, rising to six years for investments that generated low positive returns and just two years for loss-making and break-even investments. The most successful investments shared few common characteristics. A separate analysis of the returns from technology and nontechnology investments found no differences in the returns profiles (Mason and Harrison, 2004b). Mason and Harrison’s (1996c) earlier study of LINC deals had noted that some angels take returns in the form of directors’ fees and, less commonly, consultancy fees. 2.5

Market Based Estimates

Mason and Harrison’s NBAN study found that on average angels commit six days a month on each investment (Mason and Harrison, 2002a).


The research summarised to date has focused on the identification of business angel investors, and has collected data on their investment behaviour, demographics and attitudes and intentions. Studies that explicitly attempt to measure the scale of the market as a whole are far fewer in number. One of the few such studies is the risk capital market analysis undertaken in Scotland, which has profiled all identifiable equity investment in the unquoted business sector between 2000 and 2005 (Harrison and Don 2004; 2006). These reports presents the first comprehensive account and analysis of the early stage risk capital market in Scotland, and indeed anywhere in the UK, and with the exception of research in Sweden there are no identifiable similar analyses elsewhere. The analysis is based on a unique specially created database which records actual investments made in businesses in Scotland and identifies the investors making those investments (the methodological implications of this research are discussed in Section 4 below). The key findings of the initial report are as follows. Over the four years (2000-2003 inclusive) there has been a total of £673m of identifiable risk capital investment in 581 new and young Scottish companies. The early stage equity risk capital market in Scotland is very much larger than previously estimated – for example, figures from the British Venture Capital Association suggest that over these four years there was a total of £119m invested in start-up and early stage businesses in Scotland. There is, in other words, a large and dynamic early stage risk capital market in Scotland which channels investment capital from a wide range of institutional and other investors into start-up and growing companies, and this market is significantly larger than previous estimates have suggested. In 2003, the Scottish Risk Capital Survey identified £121m of new investment in Scottish businesses; in the same year the BVCA recorded only £7m in early stage investment and a total (including management buy out and buy in investments, which are excluded from this Survey) of £109m. Institutional venture capital investors dominate the market – in total over the four years they have invested £527m in Scotland. Much of this investment is not recorded in other market statistics (such as the BVCA data), either because the institutions are not members of BVCA or are overseas-based. Business angel investors play an important role in the market – over the four years they have invested £115m in Scottish businesses, equivalent to 27% of all risk capital investment, excluding the three largest transactions – this is a very important segment of the overall risk capital market and plays a crucial role in helping develop an entrepreneurial economy in Scotland. In 2002 and 2003, business angel investment (£44m) in Scotland was more than twice the level of early stage investment recorded by BVCA members (£19m). Co-investment by business angels and venture capital investors in the same deal has been noted as a feature of well-developed risk capital markets, particularly in the US. This Survey shows that this has occurred in around 11% of investments, but this proportion has fallen from 15% to 6% in 2003 (when most of the co-investments recorded were follow-on investments). Currently, it appears that the business angel and institutional segments of the risk capital market in Scotland are operating largely independently of one another – in part this reflects different investment preferences and exit expectations (business angel investors are, for the most part, making smaller investments and are less likely to press for early exit and returns). Hybrid investors, combining financial returns with policy objectives – are a small but important segment of the market. Some 90% of the activity of this investor group is accounted for by recent Scottish Enterprise activities (the CoInvestment Fund and Business Growth Fund). Although only contributing some £15m 28

to the risk capital market, they have been represented in 44% of all investments recorded in 2003. The Harrison and Don reports conclude that these recent Scottish Enterprise initiatives have made a particular contribution to the funding of smaller investments and younger companies, and this contribution has been most significant in a difficult funding environment. The relatively buoyant Scottish risk capital market in 2003 (by comparison with the national UK situation) is in part attributable to the catalytic and confidence building impact of these initiatives. The Scottish research concludes that there is more risk capital being invested in Scottish early stage businesses than previously estimated. The difficulties in raising capital reported by many companies and their advisors may, therefore, not be a function of the shortage of risk capital available in the market but a function of either a problem in mobilising and making visible the risk capital which is available or a lack of ‘investment readiness’ in the businesses seeking finance. 2.6 Summary

This section has reviewed both the published and unpublished research on the UK’s informal venture capital market. Indeed, the UK, along with the USA, Canada and Sweden, have attracted the majority of research. Wetzel’s initial studies and the SBAsponsored studies in the 1980s and Sohl’s work over the past fifteen years have contributed to a detailed understanding of business angel investing in the USA; Riding’s initial research in Ottawa and subsequent national studies have done the same for Canada (e.g. Short and Riding, 1989; Riding et al, 1993), while Landström is now building on his initial Swedish study (Landström, 2003) by directing new studies by PhD students (Månsson and Landström, 2006; Avdeitchikova and Landström, 2005). There have also been one-off studies of angel activity in a variety of other countries, notably Finland (Lumme et al, 1998), Norway (Reitan and Sørheim, 2001), Germany (Brettell, 2003; Stedler and Peters, 2003), Australia (Hindle and Wenban, 1999), New Zealand (Infometrics Ltd, 2004), Japan (Tashiro, 1999) and Singapore (Hindle and Lee, 2002). Mason (2006a) provides a review of the international literature on informal venture capital. What is clear from both the UK and international studies is that the vast majority of the research has had a ‘micro’ focus, profiling business angels, documenting their investment activity, examining various aspects of the investment process and, especially in the UK, assessing the impacts of various forms of policy intervention, notably tax incentives and business angel networks. This emphasis on studying the process has largely avoided the need to consider methodologies and sampling frames that would generate representative samples of business angels. Indeed, as this review makes clear, most UK studies have relied heavily on business angel networks as a means of identifying business angels, despite concerns about possible bias. The consequence of this accumulation of a series of micro-studies using questionnaire surveys of samples, sometimes quite small, focused on specific aspects of angel profiles and the investment process, and which have relied to a greater or lesser extent on samples of convenience (notably members of business angels networks), is that there has been very limited understanding of the development of the market in terms of scale and scope over the past 15 years. In other countries – mostly lacking business angel networks, at least until recently – researchers have had to use more imaginative approaches to identify angels. As a consequence these studies are of greater use when


we come to consider how a robust time series dataset can be developed to measure business angel activity in the UK (section 4). 3. DEVELOPING A TIME SERIES DATASET TO MEASURE BUSINESS ANGEL ACTIVITY IN THE UK: DEFINITIONAL CONSIDERATIONS In the two decades since business angels have been recognised as a focus of research and policy attention definitional issues have become more problematic. There are at least two reasons for this. The maturing of the informal venture capital market has provided more ways in which investors can make investments in unquoted companies, notably through various forms of angel groups, syndicates and networks, blurring the distinctiveness of angel investing. Research has added further confusion. Recent Nordic research, unlike earlier UK typologies (e.g. Coveney and Moore, 1998), has identified several different types of investor, some of whom deviate from the conventional definition. For example, Sørheim and Landström (2001) propose a fourfold categorisation based on the level of investment activity and investment competence (measured by entrepreneurial experience): • Lotto investors: low investment activity and low competence in business startup; • Traders: high investment activity but low competence in business start-up; • Analytical: low investment activity but high competence in business start-up; • Business angels: high investment activity and high competence in business start-up. Avdeitchikova (2006) has also proposed a four-fold classification based around two dimensions – investment level and involvement: • Micro investors: low on both dimensions; • Fund managers: high on investment activity but low on involvement; • Mentors: low on investment activity but high on involvement; • Business angels: high on both dimensions. Infometrics Ltd (2004), which undertook a government-commissioned study of business angels in New Zealand, suggested that angels are differentiated on two dimensions – motivation (guardian, professional, operational expertise, financial return) and activity (dabblers vs. active) GEM has contributed further definitional imprecision by reporting on what it terms “informal investment” – as we have shown above, this is a ‘chaotic’ category which includes all forms of direct investment in unquoted companies and therefore includes investments in businesses of both family and non-family members. The aim in this section is to bring some greater clarity to definitional and measurement issues. This is an essential preliminary step before we can go on in the next section to consider data sets. There are four features that are fundamental to business angels and their investments and distinguish this form of investing from institutional venture capital. • First, angels are investing their own money. Because of this, they are able to make rapid investment decisions without the need to undertake


extensive evaluation or third-party due diligence. No one has ever challenged this feature of angel investing, although it does occasionally arise as an issue, notably when an angel syndicate changes from investing the money of its members to investing other peoples’ money (e.g. Knighton, 1996) or sets up a side-car fund to which non –syndicate members can invest and which invests alongside syndicate members. • Second, business angels are investing in unquoted companies as opposed to businesses that are quoted on a stock market. • Third, angels are making direct investments. This was originally intended to convey the point that no intermediary was involved. However, with the emergence of angel syndicates this attribute is no longer always present. Instead, the sense of this aspect should be that business angels are making their own investment decisions. Even if the opportunity is presented to an investor, as in many syndicates, the angel still has to make a decision whether or not to invest. Conversely, situations in which an individual invested in pooled investment vehicle and the allocation of this money to specific investments was made by a manager (even if the investee companies were unquoted) – such as a Venture Capital Trust - would be regarded as retail (or collective) investing rather than angel investing.21 22 • Finally, angel investing primarily involves seeking commercial returns. US research has established that ‘typical’ business angels may be motivated in part by non-financial considerations and may even be willing to trade-off such considerations against financial return (Wetzel, 1981; Sullivan, 1994), suggesting that ‘socially-motivated’ investors can be accommodated within the conventional business angel definition as long as they perceive their financial support for a business to be an investment rather than charity and that they make their own investment decision. In view of the current interest amongst policy-makers and practitioners in the funding and sustainability of social enterprises it would be useful to separately identify angel investments in which social considerations are given equal or greater weight than financial returns. A further feature of the standard definition of a business angel is that they are handson investors. This conflicts with empirical evidence that a significant minority of angels take a passive role in investments. It is important to distinguish between investors and investments. Investors, who are passive in some deals, typically because there are co-investors present, and hands-on in other deals, should certainly be regarded as business angels. However, it might be questionable whether an investor who is passive in every investment can be defined as a business angel - yet many members of angel syndicates will be in this position. Accordingly, this aspect might be modified to say that “the investor, or a co-investor, will play a hands-on role”: the definition of a business angel investor in this case will rely on the other characteristics being met.


Mason and Harrison (1999a) found that only a minority of business angels had invested in VCTs (11%) and even fewer regarded them as an alternative to conventional business angels investments. 22 Some investment groups which began as conventional angel syndicates have evolved, either to invest money of non-syndicate members (e.g. Knighton, 1996) or, as in the recent case of the Braveheart Investment Group, to include investment management activities.


The research that has been reviewed has highlighted a number of additional definitional issues. The first concerns investing in family businesses. A strong case can be made for arguing that investments in businesses owned by family members should be excluded on the grounds that they are conceptually distinctive from business angel investments. This is not to deny the importance of the role of the family in funding entrepreneurial ventures. Indeed, the availability of family funding is likely to be an important factor in explaining several aspects of new firm formation, such as why some individuals are able to start businesses while others do not, the ability of some businesses to successfully negotiate the start-up process, and local and regional variations in new business start-up and survival rates. It is axiomatic that access to finance from family members is constrained by ties of blood and marriage, and so it is only available to other family members. Accordingly, it does not constitute a market. If an entrepreneur is unfortunate enough to come from an impoverished family then this source of potential funding is closed-off to them. Moreover, investing in a family member’s business is unlikely to be made for commercial reasons. Investment in businesses owned by friends is rather more problematic. However, it would be inappropriate to restrict the definition of business angel investments to those in which the investor and entrepreneur are strangers since, according to Atkin and Eseri (1993), many angel deals arise from chance encounters with friends and associates. Thus, the key criterion for non-family investments is that they should have a commercial orientation. A second issue concerns whether the focus should only be on ‘active’ angels. Including ‘virgin’ angels (and latent angels in the Coveney classification discussed earlier) has the potential to overestimate the population of angels and the amount of funding available. Most of the research has identified a significant minority of ‘virgin’ angels who are actively looking to make their first investment. Since most of these studies were based on membership of an angel network that typically requires payment, this can be regarded as strong indicator that these individuals have a high level of commitment to making investments. However, this assumption may be harder to sustain when respondents are allowed to self-define themselves as angels. A similar issue arises with latent angels. Is it the case of ‘once an angel, always an angel’? Do angels genuinely withdraw from the market? Moreover, if angel investing involves a lot of opportunism, as Atkin and Eseri (1993) suggest, is it possible to define angels on the basis of intentionality? This leads to the conclusion that the main focus in the collection of time series data should be on the identification of business angel investments rather than on business angels per se. Nevertheless, assessment of potential investment (from latent and virgin angels) also has important policy implications, specifically arising from an understanding of the determinants of the ‘conversion’ of these into active investors who increase the supply of entrepreneurial risk capital in the market. A third, and related, issue concerns amounts of money available for investment. Several of the studies reviewed earlier have asked investors to report how much money they have available to make further investments. However, the consensus is that these numbers need to be treated with considerable scepticism. Many angels do not allocate a fixed sum to this type of investing and make adjustments depending on the number of suitable opportunities available. If an angel found a good investment which exceeded the funds they had for investment then they may bring in a co-


investor (Mason and Rogers, 1997). The NatWest study noted that the financial position of angels was fluid, not least on account of the follow-on financing needs of their existing portfolio. Finally, investors may indicate an ‘in principle’ commitment of funds to this investment activity but never actualise it, because of changes in personal circumstances, changes in investment preferences, or difficulty in finding investible deals. A final important insight from the review of previous research is the skewed nature of the business angel population. Some studies have referred to a ‘dual population’ Hindle and Wenban (1999) used the terms ‘cherub’ (a second order angel) and ‘seraphim’ (the highest order of angels) to denote the two distinct categories of angels that they identified in Australia. This has two dimensions. First, the size distribution of investments (whether by angel or per transaction) is positively skewed: there are lots of small investments and small investors but relatively few large investments and angels who have invested large amounts. However, aggregate distribution of amounts invested is negatively skewed. The relatively small number of large investments and major angels make a disproportionate contribution to total investment activity. Second, the frequency of investing is also positively skewed. Most angels have made relatively few investments (less than five) but there is a minority of much more active investors who have a disproportionate effect on overall market activity. Particular data sources may be biased to particular ends of the distribution. In particular, business angels who are members of business angel networks may be biased towards the lefthand of the distribution – small and infrequent investors. Indeed, the debate between Mason and Harrison and Stevenson and Coveney over their starkly contrasting findings probably arose because their approaches to identifying business angels involved over-sampling from the extremes of the distribution, with Mason and Harrison (1994; 1997) over-sampling from the left hand of the distribution while Stevenson and Coveney (1994; 1996) oversampled from the right hand tail because they surveyed subscribers to a high cost investment opportunities magazine which it was not cost effective for small, infrequent investors to purchase. The implication is that diverse data sources should be used to identify business angels in order to reduce the effect of the bias in any individual source (Mason and Harrison, 1997). In particular, it is important to avoid under-recording ‘super-angels’ as this will cause an under-estimate in the value of business angel investments. Unfortunately, the research suggests that such investors are least likely to join business angel networks; however, they may join business angel syndicates, at least as a mechanism for making some of their investments, suggesting this will be an important element in any approach to data collection. A final definitional issue concerns the emergence of ‘super-angels’ who have used their own or family wealth to fund investment vehicles. While some of these investment vehicles are making similar sorts of investments to those made by angel syndicates, and should therefore be included as angel investments, others operate like private equity funds, making substantial investments in later stage deals and publiclyquoted companies.


4. 4.1


This section reviews a variety of approaches that either have been used to derive estimates of business angel investment activity, either in the UK or elsewhere, or may have the potential to do so. These studies are organised under the following headings: • ‘Playing with numbers’ – simple estimates based on extrapolation from existing data; • Approaches which identify investors; • Approaches which identify investors through the companies that have raised finance from business angels; • A hybrid approach which provides both supply and demand side estimates; • Investment oriented approaches – based on monitoring investments made through BANs – the only part of the market that is visible; • Enterprise Investment Scheme – measuring investment activity of investors who make use of a tax incentive which is designed to encourage investments by private individuals in unquoted companies; • Angel syndicates – the emergence of organised angel investors who are becoming increasingly significant in the market. 4.2 Playing with numbers

This section summarises two studies which sought to draw on existing fragments of information to provide broad-brush, back-of-the-envelope estimates of the size of the informal venture capital market and set it against the scale of investing undertaken by the professional venture capital industry. (i) Wetzel (1987) Wetzel (1987) performed some simple arithmetic on a variety of fragments of data on high income families and the financing of businesses to suggest the scale of the informal venture capital pool in the USA. Looked at from the supply side, “if the average net worth of millionaires is between $1 million and $2 million, then, excluding borrowed funds, the total wealth controlled by the one million or more US millionaires is between $1 trillion and $2 trillion. If the average millionaire commits 10% of his or her net worth to venture investing, the total informal venture capital pool is between $100 and $200 billion. If only onefourth of US millionaires have any interest in venture investing, the pool of informal venture capital controlled by these 250,000 individuals lies in the $25 to $50 billion range, about twice the capital managed by professional venture investors” (p 305). From a demand side perspective, “it appears that each year over 100,000 individual investors finance between 20,000 and 50,000 firms for a dollar investment totalling $5 billion and $10 billion. The typical firm financed by angels raises about $250,000

from three or more investors. The typical investor provides between $25,000 and $50,000 per firm, about half in the form of equity and half in near-equity (loans and loan guarantees). During 1985 professional venture investors financed about 2,500 firms for a total of about $2.5 billion, an average of about $1 million per firm” (p 305). (ii) Mason and Harrison (2000) The starting point for Mason and Harrison (2000) was the 5,651 investors registered with the 48 business angel networks listed in 1999-2000. It was assumed that everyone who registers with a BAN is a bona fide business angel. Double-counting – investors registered with more than one BAN – was offset by survey evidence that business angels are registered with an average of 1.4 BANs. This figure (5,651 ÷ 1.4) was multiplied by the inverse of the proportion of business angels who were estimated to be members of a BAN. Because this proportion was not known it had to be a guesstimate. The resulting estimate of the number of business angels ranged from 20,000 to 40,000 to 80,000 depending whether 20%, 10% or 5% of business angels were registered with a BAN. The same extrapolation was used to estimate the annual amount invested by business angels. This figure (£20,000) was derived from an annual survey of investments made through BANs. This gave an estimate ranging from £500 million to £1 billion to £2 billion. These estimates are crucially sensitive to the scaling factor. They also assume that angels registered with BAN invest on the same frequency as those who are not members and invest similar amounts. It also assumes that there are no regional variations in either the proportion of angels who register with BANs, their investment frequency or size of investment. These estimates suggest that business angels make three times as many investments in start-up and early stage businesses than venture capital funds. (iii) Assessment These estimates served a useful purpose at the time that they were published when there was a need to provide a numerical estimate of the scale of the informal venture capital market in order to highlight its significance to somewhat sceptical policymakers and to challenge the entrenched position of the professional venture capital industry. However, the figures are very broad-brush and are unable to generate the precision required for a time-series analysis. They also depend on certain critical assumptions. Moreover, the decline in the number of local and regional BANs in the UK would make it much harder to reproduce this methodology now. So, despite the low cost (pencil and envelope!) this is not an approach that would seem to be worthwhile pursuing. 4.3 Supply-side approaches - Identifying business angels

There have been several attempts to generate estimates of the size of the informal venture capital market based on identifying a sample of investors and using evidence on their investment activity to derive an estimate for the entire population. (i) Mailing list approaches


By far the most common approach to the identification of business angels has been through the use of various mailing lists whose membership was thought to approximate to the profile of business angels. This includes mailing lists that are purchased from list brokers, memberships of associations and contacts of various types of intermediaries and gatekeepers. Wetzel (1981) pioneered this approach, using the following lists: high income investors, Presidents of major New England companies, college alumni from top New England professional schools; New England CPAs, attorneys and bank CEOs; participants in the 1980 White House Conference on small business; subscribers to Inc Magazine; owners of Mercedes Benz cars; and gatekeepers of various professional associations for small businesses, bankers and securities dealers. Postma and Sullivan (1990) used a similar approach, mailing questionnaires to accountants, attorneys, brokers, health care professionals, top management of local businesses, commercial bankers and members of entrepreneurship networking groups. Mason and Harrison (1994) used the following mailing lists: contacts of an investment syndicate; owner managers of SMEs, high income groups, investors in junior market stocks. Freear et al (1994) used a real estate transfer database to identify high net worth individuals in New England. Reitan and Sørheim (2000) used members of the national share investment association, contacts of a private consulting firm specialising in capital raising and investor forums to identify business angels in Norway. Riding et al (1993) relied largely on contacts of intermediary organisations such as Boards of Trade, Chambers of Commerce and Regional Development Associations to identify angel investors in Canada. Lumme et al (1998) relied, in part, on science park managers and venture capital fund managers to identify business angels in Finland. However, the general consensus is that such lists are ineffective in identifying business angels, generating extremely low response rates. Moreover, there is no way of differentiating between non-respondents who are business angels from those who are not. Using mailing lists is also tautological – the selection of mailing lists is informed by a view of what business angels look like (e.g. high net worth, entrepreneurs, etc) but the responses are then used to provide a profile of business angels (high net worth, entrepreneurs, etc). Respondents to surveys based on mailing lists may therefore not be representative of the business angel population – but since the population in unknown and probably unknowable (Wetzel, 1981) it is impossible to be sure. All of this suggests that mailing lists are not a suitable way forward to generate time-series information on business angel investment activity. Personal contact and snowball methods have proved much more effective in terms of response rates, but have built-in biases. As noted earlier, UK researchers have responded to the problems with mailing lists by surveying investors who are members of business angel networks. The number of BANs that were created in the UK in the 1990s gave UK researchers a large ‘sample of convenience’ with which to access angels, and meant that they had less need to continue to use mailing lists. Researchers in other countries, where BANs were less numerous and more recently developed, could not rely to the same extent as UK researchers on BAN investors – although studies in Canada (Riding et al, 1993), Germany (Stadler and Peters, 2001), New Zealand (Infometrics Ltd, 2004) and Sweden (Månsson and Landström, 2006) have all included investors registered with BANs as one of their mailing lists. However, as


we discuss below, there are concerns about the representativeness of investors who are members of BANs. (ii) A capture-recapture approach Leading Canadian scholar Allan Riding and one of his students developed a very novel approach, never since replicated, to estimate the population of business angels in one Canadian city-region (Riding and Short, 1987). They recognised that the problem of identifying the number of business angels in a geographic region is very similar to the problem encountered by biologists in estimating the number of a particular species. The capture-recapture approach is a well-known technique to estimate the size of biological populations without the need to resort to a census. The first step in this approach was to generate a list of business angels using referrals from an initial group of investors (and other knowledgeable actors). This process led to the identification of 50 individuals in Ottawa, the majority of whom were referred by other business angels. The second step was to identify the number of times that each individual had been proposed by other business angels. This indicated that several investors have high social visibility in the community. Given this, applying formal population ecology models to the data (capture-recapture techniques) could be used to estimate the total number of business angels in Ottawa.23 According to the model there were an estimated 87 active business angels in Ottawa, with a standard deviation of 13. This is about 5% of the total population in the city-region with the same characteristics as active business angels. Extrapolation of angel investment activity amongst those angels that had been identified, suggests that there is a pool of $4-6 million Cdn. over the next two years. For all its ingenuity, this approach has two limitations. First, it most appropriate within relatively small, tightly knit and well-defined geographical areas (e.g. a cityregion). It is not an appropriate approach for developing a national estimate of business angel activity. Ottawa is a coherent spatial unit with a population of under 1 million when the study was undertaken and it is well networked. This suggests that while RDAs might be too large for this approach to work, it could be applied at the city or sub-regional scale. However, small area estimates could then be aggregated to generate a national estimate. So, for example, undertaking the capture-recapture approach in the Glasgow, Edinburgh, Dundee, Aberdeen and Inverness areas might, when aggregated, give a reasonable estimate for the population of business angels in Scotland. Adding this to the estimates generated by similar approaches in the English regions, Wales and Northern Ireland would give a national estimate. However, this requires considerable effort in identifying an initial group of business angels in each area – as much effort as required for some of the other approaches. Moreover, the returns from this effort may be relatively insubstantial: Riding’s study began with an

The best fit model was the one based on the interaction of the sample generated by entrepreneurs and that generated by local business professionals. The model was as follows: log mijk = µ1(i) + µ2(j) + µ3(k) + µ23(jk) where: mijk is the maximum likelihood estimate of the expected cell count in cell ijk µ1(i) µ2(j) and µ3(k) are the main effects of the first, second and third samples respectively µ23(jk) is the interaction term reflecting the two-factor effect between the first and second samples.


initial identification of 50 individuals yielded a total estimate of 84 investors. Finally, the margin of statistical error is too large for an annual time series – year on year variations would have to be large to be regarded as statistically significant. The second limitation is it only provides an estimate of the number of business angels in an area. However, further extensive survey work is needed to generate information on the level of investment activity. (iii) Panel Study Panel surveys, which involve the construction of a sample of individuals who provide information on a regular basis, are a well-established means of developing time-series data on economic phenomena. BAND, the German national business angel network, has established an angel panel in collaboration with a national business newspaper in which angels are asked on a quarterly basis about their investment sentiment. Clearly it would be quite feasible to add questions on their deal flow, deals done and exits made in the previous quarter (or whatever time period is used). The critical issue is how to recruit members of the panel to ensure that it is ‘representative’ of what is an invisible population. What is clear from previous research on business angels is that members of the panel need to be identified from a variety of sources. This might the following: • • • • members of angel syndicates; investors registered with business angel networks; angels identified from high net worth mailing lists; entrepreneur-angels.

The key challenges for this approach are: • the construction of a panel which is representative (the problem of identifying angel investors in the first place and of extrapolating from the panel to the market as a whole); • the initial set up costs (although once the panel is established this is a relatively low cost way of collecting information); • the need to refresh and maintain the panel (not least to capture the effects of variations in angel participation in the market in response to personal variations in liquidity and aptitude for investment). In the absence of angel population data this approach is better suited to an assessment of general trends and relative shifts rather than provision of market scale estimates. (iv) Global Entrepreneurship Monitor (GEM) GEM is an international research programme involving scholars from 41 countries. It is best known for identifying levels of entrepreneurial activity in each of the countries involved in the programme. This is based on asking respondents in a telephone survey whether they are in the process of starting a business or have started a business within the previous 42 months. GEM also asks whether respondents whether they have invested in someone else’s firm in the previous three years (excluding buying publicly traded shares and mutual funds), and if so, how much did they invest and what was


the relationship with the business owner. Sample sizes were at least 2000 in each country, surveys were administered by professional market research companies and conducted by telephone and samples were weighted to be representative of the adult population. The UK sample in 2005 was 32,500 adults. However, the 2005 report did not discuss informal investment (Harding et al, 2006). Several studies have used GEM in an effort to gain a better understanding of informal venture capital investing. Bygrave et al (2003) examined informal investing in 18 GEM countries for which there was data for more than 40 investors. The prevalence ranged from under 2% to over 6% (in USA and New Zealand), with an average of 3.4%. The UK rate was 2.8%. The analysis provided some information on the characteristics of informal investors and the amount invested. But crucially, some 48% of investors invested in a relative’s business, 29% in a friend or neighbour’s business, 11% in a work colleague’s business and 8% in a stranger’s business. While it is clear that the 48% are engaged in non-angel, family-driven, investment, some of the investment in a friend’s or neighbour’s business or in a work colleague’s business may qualify as business angel investment as we have defined it. The inability to unequivocally separate out these two conceptually discrete categories of investment makes this data source a very imperfect basis for estimating market trends. Bygrave and Reynolds (2004) made a separate analysis of informal investing in the USA from 1998-2003. The prevalence of informal investing was 5%, and the annual amount invested was $108 billion, almost 1% of GDP. More than 50% of informal investing goes to a relative’s business, 29% to a friend or neighbour’s business, 6% to a work colleague’s business and 9% to a stranger’s business. The analysis suggested that informal investors are more likely to be younger, higher income, better educated, male and an entrepreneur. Maula et al (2005) studied informal investors in Finland, pooling three years of GEM data for the years 2000 to 2002. The prevalence rate of informal investors was 2.9%. Half of the investments were in the businesses of close family or other relatives. The analysis concluded that the greatest influences on the propensity to invest were personal familiarity with entrepreneurs, status as an owner-manager, perceived skills of starting a business and gender. The key distinction in this study was to separately distinguish investments in businesses owned by close family from other investments. They found that the predicated determinants of investing provided a better explanation for investing in firms owned by other than close family members. One of the advantages of this approach is the pooling of data over, in this case, three years. This offers the ability to run more robust sophisticated analyses using pooled crosssectional data. While this is not suitable as a basis for developing a regular time series analysis, it does offer a possible framework for a longer ‘comparative statics’ approach based either on a rolling three-year analysis or comparison of successive three-year estimates to provide an indication of longer term shifts in the level of business angel investing. Thompson et al (2006) sought to build on the Finnish study to examine informal investing in the UK. However, they introduced a third category of investor – those investors who defined themselves as business angels (only 20% of all investors). The analysis largely confirmed the Finnish findings in terms of propensity to invest. Self-


defined business angels emerged as more rationally-motivated and entrepreneuriallyoriented. Wong and Ho (2007) have also used GEM to examine informal investing in Singapore. They note that 42% of investments are in businesses started by family members. The remainder are dominated by investments in businesses started by friends and neighbours: only 2% of investors have provided finance to entrepreneurs with whom they are not personally acquainted. Their analysis of the factors which influence informal investing highlights the importance of personal familiarity with the entrepreneur. GEM, as presently constituted has a number of limitations and deficiencies which reduces its potential use as the basis for a consistent, robust time-series for data on business angel investment activity. First, most of the data refers to the investor rather than the investments made. Second, GEM covers both ‘pure’ business angel investment and affinity investment in the businesses of family and friends – while this provides information on the total flow of capital from individuals into this market, it is not clear-cut is providing a picture of the pure business angel market per se. Moreover, investors can have dual status – they can make investments in the businesses of close family investors as well as in businesses owned by non-family members. However, GEM allocates investors to a binary category based on their most recent investment. Third, given the rarity of business angels even a comparatively large sample size, such as UK GEM, still contains relatively few angels. This has implications for the sample errors of estimates of changes in the scale of the market over time, with year-on-year changes in investment activity having to be fairly large to register as statistically significant.24 It is possible, in principle, to modify the questions which GEM asks in order to focus on the investment rather than the investor, and to be more precise in identifying the nature of the investment. The initial screening question would remain, but then a series of questions about each investment made would need to be asked, as follows: • Have you invested in someone else’s business in the past N years, excluding the purchase of shares in publicly listed businesses and mutual funds?[same as the current question] If Yes: • • How many investments have you made? For each of these investments please provide the following information: - Relationship with the business owner [include response prompts] - Amount initially invested - Any amounts invested subsequently - Industry sector[or type of business activity] - Stage of business development [include response prompts]


The application of rare event econometric techniques may go some way to addressing this particular weakness.



Have you also invested any of your time in helping this business – of so, approximately how many hours per month? [Supplementary question – was this work paid or unpaid?] Was this investment made – at least in part - with the expectation of generating a financial return at some time in the future (rather than being for purely altruistic reasons?

Responses to these questions would enable the identification of investments which meet the definition of business angel deals. However, given that GEM is a consortium it may be difficult to obtain agreement for these changes to be made. Accordingly, the BERR/Enterprise Directorate and RDAs, as major sponsors of GEM in the UK may need to use their leverage to modify the survey instrument for the UK to incorporate these questions. (v) Enterprise Directorate Household Survey The Enterprise Directorate Household Survey, like GEM, is a general survey of the population undertaken by telephone on a biennial basis since 2001. It is mainly concerned with business start-up issues. The main themes are as follows: • • • • • • What proportion of adults are currently considering going into business, already running a business or self-employed or are not considering starting a business? How are peoples’ attitudes to entrepreneurship, key influences and levels of enterprise activity changing over time? What types of enterprise activity are people involved in? How does enterprise activity and attitudes vary across regions by different demographic groups? Why do people start their own businesses? What are the main reasons for people not considering starting a business?

There are also three questions on the respondent’s investment (if any) in somebody else’s business – information is collected on the relationship between the investor and the person receiving the funding, the mechanism by which the investment was made, and the amount invested. The 2005 survey was conducted by telephone, with the selection of respondents made on a random basis and the sample was fully representative of all households in England. The target was 6000 achieved telephone interviews with adults aged 16-64. This dataset shares the same sorts of limitations as GEM. Although the questionnaire allows respondents to be multi-coded in terms of their relationship with the business owner only the total number of investments and the total amount invested in the last year are requested, so there is no way of gauging the relative significance of investments in businesses owned by close family members, other relatives, friends/neighbours, work colleagues and strangers. The proposed reworking of the questions that was suggested for GEM (see above) to focus on investments made would also be appropriate here – although for the 5% of respondents (in 2005) who have made five or more investments, this would significantly extend the length of the interview. Sample size is also a concern: 6% of respondents – or 360 individuals said that they had, at some point in their lives, personally invested in someone else’s 41

business. However, 46% of these investors invested in a business of a close family member or relative. The proportion investing over £50,000 in the past year was just 4%. Thus, this survey is likely to identify an extremely small number of individuals making genuine business angel-type investments in the previous year. Extrapolation from this to a market estimate would be a fraught exercise. (vi) Swedish population survey Avdeitchikova and Landström (2005) have also undertaken a random population survey in an effort to identify business angels in Sweden. A market research company was contracted to undertake the initial screening survey of more than 24,000 individuals to identify those who had made non-collateral investments in unquoted companies not owned by family members the past five years. From this survey 861 business angels were identified, 3.6% of the total. These individuals were asked if they would agree to a further interview by the researchers: 548 agreed, and 433 were successfully contacted. What is interesting is that 124 of these individuals did not meet the definition of a business angel, suggesting flaws in the initial screening survey. A total of 277 angels were interviewed, with information obtained on their investment history, personal background and three most recent investments. This information was used to extrapolate to the full population, making an adjustment (124 ÷ 433) to allow for those respondents who on closer examination were not angels. Extrapolation was made on the basis of the median, rather than the mean, value of investments. This was a one-off survey, with no time series information and would be expensive to replicate on a regular basis. 4.4 Identifying business angels through companies that have raised angel finance

From an international perspective the most popular approach for identifying business angel investment activity has been through the companies that they have invested in. This was the approach used in the US Small Business Administration (SBA) studies of the 1980s and variants of this approach have also been adopted by Canadian researchers. Researchers in Scotland have recently identified information from Companies House that identifies external shareholders. (i) US SBA studies The US SBA funded three regional studies in the mid-1980s to identify the scale of informal venture capital markets: (i) mid-Atlantic, South Central and Southeast states (Gaston and Bell, 1986), (ii) urban areas contiguous to the eastern Great Lakes (Arum, 1987) and (iii) all regions not covered in the previous studies (Gaston and Bell, 1988). Uniformity of design, procedures and key results permitted merger of these three surveys into a single database of informal investment in the USA which was used by Gaston (1989b) to profile the US informal venture capital market. Data gathering and estimation procedures are described in Gaston and Bell (1988) and Gaston (1989a).


The procedure for gathering data involved two stages. First, a representative sample of 240,000 businesses with less than 500 employees was selected from the Dun & Bradstreet company database file. These businesses were asked if they had any informal investors and if so, to provide their contact details. Second, questionnaires were sent directly to the 2,900 individuals who had been identified in this way: 551 were completed and returned, of which 435 were usable. These questionnaires provide information on both investors and businesses receiving informal investment. The procedure for estimating the stock of investors was to multiply the total number of firms in the USA by the proportion that were identified as having informal investors, adjusting to take account of the average number of investors per firm, multiple investments made by investors and the average holding period. All of these measures were derived from the questionnaires completed by investors. This estimated figure for the stock of investors was multiplied by the average annual investment rate of investors to derive an estimate of annual investment activity. This figure was multiplied by the average size of equity investment to calculate the annual dollar level of investments. The process was replicated to estimate the value of loans and loan guarantees provided by investors. There are two main criticisms of this approach. First, it requires a huge upfront investment in the firm survey to generate a relatively small number of usable responses from angels. This reflects a combination of the rarity of informal investing and low response rates. In the case of the eastern Great Lakes region study, 40,000 firms were randomly selected (out of 470,000 small businesses). This led to the identification of 200 firms which had investors. This produced 68 responses, 55 of which were usable, after extensive chasing, involving up to 4 telephone calls per investor (Arum, 1987b). Second, the component statistics that are used to calculate the national estimate of informal investment activity are all based on estimates. Moreover, the approach used does not permit the measurement of statistical confidence limits. Gaston’s (1989b) response is to test his estimate for plausibility against other information. Given the costs and logistics involved, this approach is best suited to the development of cross-sectional estimates of the market scale, but would be more difficult to justify for the construction of a robust time series dataset on the market. However, given that this approach has not been repeated in the USA it might be inferred that it has been judged to have been ineffective in generating sufficiently useful estimates, particularly when the substantial costs are taken into account. This in itself might be sufficient to conclude against adopting this approach, even though it would appear to satisfy the project requirements in terms of generating information on investors, firms attracting finance and an estimate of total investment activity. (ii) Farrell: new company incorporations survey in Atlantic Canada In a report undertaken on behalf of the Atlantic Canada Opportunities Agency (ACOA) Ellen Farrell of Saint Mary’s University in Halifax, Nova Scotia sought to identify informal investors amongst those individuals who are closely associated with


newly incorporated companies - entrepreneur, a director, agent, lawyer or investor (Farrell, 1998). Her approach was to sample from the more than 35,000 new company incorporations in Atlantic Canada25 in the period 1992 to 1997 and to make contact with the individuals involved. However, she was only able to interview 328 individuals of the 1408 incorporations sampled. Reasons for this high attrition rate were as follows: unable to find a phone number (45%), disconnected phone line (7%), no response (9%), call back never fulfilled (28%) and reached but refused (11%). Of the 328 interviewed, 95 (20%) had invested their own money in a new or expanding business that was largely operated and managed by someone else. These individuals provided information on themselves and their investments. One in ten new incorporations had an informal investor. From all of this information Farrell was able to make an estimate of informal investment activity in Atlantic Canada. Farrell extended this approach for her PhD which was undertaken at University of Nottingham by making contact with a further 1101 principals from a further sample of newly incorporated companies in Atlantic Canada (Farrell and Howarth, 2003). This sample contained 141 informal investors (12%) divided almost equally between novice and habitual investors. These investors were grouped into three categories: • • • Those who had made just one investment which was in a family firm (33); Those who had made both family and arms length investments (16); Those who had only invested at arms length (92).

The fact that 12% of company directors had made investments in other businesses in what is an economically lagging region serves to underline the importance of this source of finance, particularly in such regions where institutional sources of finance are rare (Mason 2007). However, as a basis for developing a time series analysis of the UK market this approach • Is time consuming, and thus better suited to generating point estimates rather than cross-sectional data; • Is more applicable at regional rather than national scale, where the labour required to identify and follow up a sufficient number of respondents for reliability purposes would be inordinately expensive. (iii) Exempt investors under Alberta’s Securities Legislation In Alberta (Canada) Securities Legislation (which is a Provincial responsibility) allows small capital raising issues to be exempt from prospectus and ongoing disclosure requirements. Robinson and Cottrell (2007) have used these exempt market filings to identify various types of ‘informal’ investors: • • Family, friends and business associates; Offering Memorandum and Short Form Offering Prospectus – which covers individuals with small pools of capital for investing in early stage businesses on an ad hoc basis (which the authors call ‘opportunity-based investing’);


This comprises the provinces of Newfoundland, Nova Scotia, New Brunswick and Prince Edward Island. It is the most under-developed and economically depressed region of Canada.


Accredited investors – which covers wealthy individuals who are able to make informed investment decisions and able to absorb an investment loss and meet minimum income and asset tests (such investors would meet the typical definition of a business angel).

The UK has a self-certification scheme whereby potential investors are allowed to self-certify themselves as either high net worth individuals or sophisticated investors, without having to go through an authorised intermediary. This enables such individuals to opt-out of financial securities legislation which restricts the ability of ‘unauthorised persons’ (including business owners) to promote particular investments or to encourage individuals to engage in investment activity unless it has been approved by an authorised person such as an accountant or stockbroker. The high net worth criterion of earnings of at least £100,000 a year or net assets of at least £250,000 (excluding principal residence and pension) are as before. Individuals can self-certify as sophisticated investors if they meet one of the following conditions: a member of a network or syndicate of business angels for at least six months; have made more than one investment in unlisted companies in the previous two years; working, or have worked in the previous two years in a professional capacity in the private equity sector or in the provision for finance for small and medium sized enterprises; or is currently, or has been in the previous two years, a director of a company with an annual turnover of at least £1 million. Accordingly, firms can now promote to individuals that they ‘reasonably believe’ are self-certified as high net worth or sophisticated investors, confident that they are operating within the law (HM Treasury, 2004). This raises the question of who holds the information on HNW and sophisticated investors and whether it can be used as the basis for generating information on the investment activity of business angels. (iv) Companies House data (88(2) forms) All incorporated companies in the UK are obliged to file details of investments received, where such investment results in the issue of shares. The data captured on shareholder details and changes in these by Companies House is potentially the most comprehensive source of relevant data collected as part of an existing administrative procedure and has been used successfully in Scotland as the basis for research into the risk capital market over a five year period (Harrison and Don, 2004; 2006). The data typically available from this source includes: the date/time period for the allotment of shares; the class of shares (ordinary, preference etc); the number of shares; nominal value of each share; amount (if any) paid on or due on each share; names and addresses of allottees, including class of shares allotted and number allotted. Companies are obliged to make returns on form 88(2) within one month of allotment of shares, suggesting that this potentially represents a timely source of information on investment. Not all payment for shares need be in cash, so there is a limitation on the ability of this source to provide a complete indication of the volume of investment: however, experience in the Scotland experience suggests that this is a minor restriction on the utility of this data source. The UK is fortunate that company law imposes clear and detailed obligations of disclosure on incorporated companies, reinforced in some cases by fines and other penalties. In spite of these advantages, a number of material problems nevertheless stand in the way of creating completely accurate data.


While all incorporated companies are under a legal obligation to file details of investments received with Companies House (on form 88(2)) the obligation refers only to the issue of shares. It is common practice to divide an investment between an equity instrument (details of which may be found on the Companies House file) and one or more debt instruments (which may not). The latter will be invisible to an outside observer, but may sometimes represent 95% or more of a deal. While companies are obliged to file share issue details at Companies House, this obligation is not rigidly enforced. Filing at Companies House does not of itself validate a share issue (the definitive record being the Company’s books). Hence filings are often delayed by many months, are occasionally obviously incorrectly completed, and are frequently duplicated. Pages are sometimes left out, or not processed correctly by Companies House staff, and sometimes there are no filings at all. There appears to be no effective administrative or legal penalty either for failure to file an 88(2) or for error in filing, despite the requirement to file within one month. It is therefore sometimes necessary to fill in details by deduction, or by trusting information from a market source. Both extrapolations are obviously prone to error. Company accounts are a more robust and reliable source of information, but smaller companies are not required to make full disclosures, and accounts can be filed up to 22 months after a transaction completes. Companies House 88(2) data will also not cover disclosure of a deal invested through a complex offshore company structure, which never appeared as an 88(2) filing. Companies file at Companies House under their incorporated name. Occasionally companies will operate under different brand names. Market comment on deals usually quotes the latter. This means that a widely publicised deal may be difficult or impossible to check. Companies also change names, form complex groups, and transfer businesses between themselves, making tracking more difficult. Even where a deal has been filed well and quickly the picture may be confusing. Most deals involve multiple parties. It is often the case that different parties to a deal report different total deal values, partly through errors of recall, partly through differing treatment of tranches, debt, convertibles and preference shares and partly through double counting of investments. It is possible for several highly reliable sources to report completely different data, all in good faith. On occasion parties will misrepresent deals (up and down) deliberately in order to manipulate the perceptions of customers, partners and competitors. Dealmakers are equally prone to this practice, not least to move themselves up published ranking tables of activity. This is a major issue in seeking to reconcile 88(2) data and other sources of market intelligence.


It is sometimes difficult to distinguish accurately between founders and business angels in Companies House filings, as it is in real life. An early business angel investor may become actively involved for a year or two and look like a founder to the outside world, but like an investor to the original entrepreneurs. Specifically, while name and address details are provided, 88(2) forms do not provide any indications as to the provenance of the investor shareholders and their relationship to the business. Additional and sometimes extensive work is required to classify investors, identify ‘insiders’ (principals in the business) from ‘outsiders’ and separate family investors (who may not of course, share surnames in common) from non-connected investors. A small number of business angels and funds use offshore vehicles to conceal their activities and/or manage their tax liabilities. While many of these vehicles can be accurately attached to given individuals, some cannot, muddying the distinction between angel and institutional investment. Some institutions also use offshore vehicles and offshore incorporations for the same reasons. Companies House does not publish a list of 88(2) filings. It is therefore extremely difficult to spot a company raising money if no footprints appear at all which lead to discovery of an 88(2). The only way to capture all deals filed would be to commission a search of 88(2) filings on the Companies House database, to identify the research targets. Considerable further work would then be required to read and analyse the filings revealed by the search. There are significant cost and manpower resource implications arising from this administrative practice.

These considerations suggest that the use of 88(2) forms may be problematic as the basis for a detailed robust time series analysis of the business angel market in the UK. However, should no superior alternatives emerge then it would be worthwhile to explore with staff in Companies House how and to what extent these limitations in the data can be overcome. What, at least potentially, 88(2) data offers is evidence of the actual flows of capital into businesses, scope for analysis of the form of that investment (in terms of the class of shares, the split between cash and other considerations offered for share acquisition) and company registration details that permit linking with, for example, the FAME database for purposes of further analysis. 4.5 Hybrid approaches: Canada’s SME FDI initiative

In response to a Task Force on the future of the Canadian Financial Services Sector (1998) which highlighted “a lack of consistent, comprehensive and impartial data on SME financing” the Federal Government mandated the Department of Finance, Industry Canada and Statistics Canada to gather data on SME financing and report regularly to the House of Commons Industry Committee on the state of SME financing in Canada.26 This is known as the SME Financing Data Initiative. It

The Mission Statement of what became known as the SME Financing Data Initiative “is to be a world class, cutting edge program which builds a comprehensive knowledge base of timely and


comprises both a demand side survey and a supply side survey. The demand side survey is a weighted sample of firms with up to 499 employees and less than $50m Cdn in gross revenues (with certain sectors excluded – financing and leasing companies, co-operatives, subsidiaries, not-for-profit organisations, government and other public sector organisations). The sampling frame contains 1,285,620 businesses. The supply side survey is a census of enterprises with assets of $5m Cdn or more in selected financial and leasing industries, and venture capitalists. The surveys have occurred on a bi-ennial basis since 2001 and have provided the basis for several reports on SME financing (see ). On the basis that many – although not all – business angels are business owners questions were included in the 2003 demand side survey to ask if respondents had made any informal investments. The responses have been analysed by Riding (2006). Step 1: Respondents were first asked “whether, excluding publicly traded shares, market funds or stock, did the majority owners of this business make any investments in any other business at any time since 1990?” 10.8% of respondents responded in the affirmative. These respondents were then asked (i) when they made these investments and (ii) how much did they invest in these other businesses. With this information it was possible to estimate the number of investments and the flow of finance for the years 2001, 2000 and 1990-99. Step 2: The stock of informal capital available was estimated by asking “how much did the majority owners have available to invest in other businesses?” Taking the proportion of business owners who had capital available and the average amount available, and scaling up to the population of business owners gives an estimation of the total stock of informal capital available. Step 3: The next stage in the analysis is to separate out angel investments from these figures which refer to informal investments in general. This was done with two further questions on (i) whether the investments had been in businesses owned by family or friends, and (ii) whether the investor had acted as an operator in the investee business. Only 13.9% of all investments qualified as angel investments. Applying this ratio to the estimates generated in stage 1 gives an annual flow of business angel finance from business owners. Step 4: The analysis has been based on a subset of business angels – namely business angels who are business owners who fit the sampling frame. The final step in the estimation procedure is to scale up the estimates from the population of business owners to the general population. This requires an estimate of the proportion of business angels who are business owners. The scaling factor used was 0.91 based on evidence from a Canadian survey that 91% of business angels were business owners. Based on this approach the estimated minimum flow of angel capital in Canada in 2001 was $3.5bn Cdn.
unbiased information on SME financing in Canada. This critical knowledge will help foster an environment which supports the growth of Canadian SMEs by fuelling the public policy debate and bringing clarity to the SME financing market. We do this in an environment of professionalism, transparency and interdepartmental cooperation.”


The logic and rigour of this approach makes this a very appealing methodology. Unlike other firm-based surveys it is able to calculate estimates for both the flow and stock of angel capital. It utilizes an existing survey of SMEs. The final estimate is sensitive to the estimate of the proportion of business angels who are business owners – the estimate used in this study seems too high when compared with existing research, but further research can refine this figure. Perhaps the main concern with this approach is evidence from previous research that some angels are cashed-out entrepreneurs who have sold their business and so are no longer business owners. The original Mason and Harrison study noted a high proportion of business angels who described themselves as self-employed, a category which included respondents who described themselves as consultants. This seems likely to include cashed-out entrepreneurs. It therefore becomes critical to know whether cashed-out business owners who become business owners set up new companies as an umbrella for their consulting, investment and other activities and whether such companies are included in the sampling frame that is used in this approach. Nevertheless, it would seem well worth assessing the feasibility of applying this approach in the UK. Specifically, in order to reduce the survey requirements it might be possible to base this approach on companies rather than SMEs.27 4.6 Investment-oriented approaches – business angel network data Because the costs involved in identifying active investors is extremely high an alternative approach is to explore sources of information on actual investments. But here again we hit the problem that business angel investments are unreported and undocumented. The only visible part of the market is deals made through business angel networks. This data source has the advantage of accessibility, in that networks are accessible and have membership records which can be used as a source of data or for survey purposes. As such, they represent a relatively low cost mechanism for collecting data, and have been used in this context in the past. However, there are also several significant limitations. In particular, the coverage of the market is incomplete – only a minority of business angels are members of networks, and there is no knowledge as to the proportion of the total number of business angels that are members of networks nor the proportion of total investment activity that is captured. (i) Venture Capital Network (VCN) investor registration forms Freear et al (1993) used the investor registration forms for the period 1985 to 1992 for VCN, based in New England, one of the earliest established business angel networks which sought to introduce investors and business angels using computer software. The forms profiled investor characteristics and preferences, investments and the extent of their involvement in their investee businesses. Simple analysis of this data was effective in highlighting the declining pace of angel investment activity over this period, one of economic decline.

The key requirement would be to know the proportion of business angels who also own companies that conform to those in the sampling frame [p(B/A)]. This might be knowable from previous surveys of angels. The proportion of angels, [p(A)], as a proportion of the number of businesses, [p(B)], could then be estimated as the quotient of p(A/B) (proportion of business owners who are also angels, found from the survey of companies) divided by p(B/A). (Allan Riding, personal communication 22nd March 2007).


(ii) Investments made through UK Business Angel Networks – BVCA/NBAN annual reports on informal investment activity in the UK Colin Mason has collected statistical information on investments made through BANs on an annual basis from 1993-94 through to 2003, initially on behalf of the British Venture Capital Association and then for the National Business Angel Network (NBAN), and linked to the publication by these organisations of an annual directory of BANs. Annual reports were published by BVCA and NBAN. Data collection ceased after 2003 following the demise of NBAN. The focus of the data collection was on the investment. Information was collected on the following: • • • • • • • • Name of the company (kept confidential but used to check for double counting – to avoid a deal being included in two years or if claimed by two different BANs). Location of the business (town/city and country). Nature of the activity – coded according to the standard industrial classification. Stage of business development. Number of investors (only those registered with the network). Total amount invested by these investors and breakdown of individual investments. Location of investor(s) (county). Any co-investors – type(s) (bank, venture capital fund, other angel(s) not registered with the network, government, other) and amount invested.

Response rates by BANs were generally very high and the quality of the information provided was good. This is because many BANs were remunerated by a success fee so had a vested interest in tracking the outcomes of the introductions that they made. Some BANs were also very involved in the investments as an honest broker. Missing information was only a significant problem in two situations: breaking down amounts invested when there were two or more investors, and knowledge about co-investors. Mason (2006b) used this data to provide a detailed analysis of investment trends from 1993-94 to 2003. The main highlights were as follows: • • • Increasing volume of activity on all indicators (investors, deals, amount) from 1993-4 to 1997-8; Increasing amounts invested from 1997-98 to 2001 but static trends in investors and investments; Decline in number of investors and amount invested in 2001 and 2002 but some recovery in 2003.

In terms of investment characteristics the main trends were as follows: • Increase in the average size of investments up to 2001, then a decline;


• • •

Increasing number of deals involving groups of angels and a dramatic decline in solo investors;28 A gradual shift to bigger deal sizes in parallel with a growth in smaller individual investments; An increasing focus on technology investments in terms of their share of the total number of investments.

Notwithstanding the tip-of-the-iceberg issue this analysis provided a unique and valuable insight into business angel investment trends, at least for that segment of the market represented by membership of business angel networks, was produced at very low cost and because of the small numbers involved could be published with only a short time delay. Its demise represents a significant loss. (iii) British Business Angel Association (BBAA) statistics The BBAA which replaced NBAN in 2004 currently collects investment statistics from its members on a six monthly basis. However, the information which is collected and reported is limited to the following: • the total amount invested by investors who are part of the networks that are members of BBAA; • the total number of investors who are members of these networks. This clearly falls far short of the annual reporting by Mason. In view of the financial support which BBAA receives from government there is a very strong case for suggesting that BBAA should significantly increase the range and quality of information that it collects from its members on their investment activity (at least to the level collected by Mason). However, this source of statistics has three significant limitations. First, although the quality of information on businesses that have raised finance is good, there is no equivalent information on investors, although this could be obtained by requesting BBAA to ask its member networks to survey their investors on a regular basis, or to collect more detailed demographic and investment data when investors join a network. Second, there are significantly fewer BANs now than there were in the 1990s (when the number peaked at 48) and fewer investors registered with BANs. This may well reflect overall market trends as a result of the post-2000 investment shake-out; equally, it may reflect a change in the structure of the market and its organisation rather than a change in the level of activity in the market. Nevertheless, the effect is to exacerbate the tip-of-the-iceberg phenomenon. Third, and related to the previous point, the membership of the BBAA is much more diverse than in the 1990s, including not only conventional BANs but also angel syndicates of various kinds.

(iv) Summary

It is not clear the extent to which this was simply a function of the changing nature of BANs from around 2001, involving the decline of pure introduction networks and an increase in active BANs which offered ‘packaged’ investments to investors


Given the availability of data from angel networks it would be worthwhile exploring whether it can be used to generate an estimate of overall investment activity. A oneoff survey could be designed to identify what proportion of angels are members of business angel networks and the proportion of their investments that are made through these networks. It would also need to compare investments that are channelled through networks with those that are not to assess how representative such investments are. If such investments are demonstrated to be fairly representative, then the extrapolation of investment data from can provide a valuable insight into angel investment flows over time and at low cost. Notwithstanding these comments, the visibility and accessibility of these networks suggests that they should be the locus of regular systematic data collection as part of a multi-method approach to the challenge of providing regular robust time series analysis. 4.7 Special Investment Situations – the Enterprise Investment Scheme29 The UK has two schemes which provide tax incentives to individuals to encourage the supply of equity finance to smaller, unquoted companies. The Enterprise Investment Scheme (EIS) was introduced in January 1994 and the Venture Capital Trust (VCT) scheme was introduced in April 1995. The EIS provides tax relief for direct equity investments in qualifying companies, whereas VCTs are professional fund management companies that pool the investments of private individuals and make investments in qualifying companies (which includes some OFEX- and AIM-listed companies). As noted in the research review earlier, many business angel use the EIS scheme to make investments, hence data on EIS investments could potentially be used as a surrogate measure for business angel investment activity. HMRC collect data on EIS and VCT investments using the EIS1 forms (available at for the following fields: • • • • • • • • • • • • • • • •

CRN (from which the record can easily link to FAME for other variables); NAME – company name; POSTCODE; COUNTY CODE; GOR CODE – Government Office Region code; INCORP DATE – Incorporation date; PLC – is the company a PLC? AIM/OFEX – is the company listed on AIM or OFEX; No. of issues – number of EIS issues made; EIS total funds – total funds raised under EIS; Sum subscribers – total subscribers under EIS; Tax year E – first tax year in which the company received EIS funding; SIC – 4 digit – industrial activity of the business using standard industrial classification (93% complete); FAME Incorporation – incorporation data from FAME database; TCN CODE – 4 digit (100% complete); STATUS – live, dissolved, liquidated, receivership;

The information in this section is based in part on discussions with HMRC staff.


Dissolved date – where companies are dissolved, date recorded from FAME.

It is important to stress that this data relates to the company and so cannot provide details of investor characteristics. Moreover, there may be a delay of up to three years for the information on EIS investments to become available (although HMRC estimates that some 90% of the data is available within two years), so there will be a time lag in analysis. Consequently, EIS data is unlikely to provide a robust basis for timely time series analysis. In the longer term, however, this restriction becomes less important and this EIS data has the potential to offer reasonably consistent market estimates (subject to some administrative considerations discussed below). However, this is offset by the fact that EIS data are not subject to post-release and postcollection revision: this is a strength of the data. There is also unexploited potential for further detailed analysis of the data, linking with Companies House FAME data in particular, to analyse such issues as the link between EIS investment and prior and subsequent company performance. This offers the possibility of detailed cross-sectional analyses which will be of value in deepening our understanding of this investment activity. However, without an understanding of the relationship between EIS investment and business angel investment the light this throws on the operation of the business angel market per se is unclear. There is much less reliable information on investment at the investor level from EIS records. Data comes from self-assessment tax records, and may cover around 90% of activity; the remainder is accounted for by direct claims through the investor’s local tax office. It is currently not possible to link investor records with investee company records.30 The self-assessment data are reasonably timely: claimants have either invested during the tax year that the claim relates to or in the following six months. Limited demographic data are available to support profiling of the investors, and collection of this information would only be possible at what would be viewed as disproportionate cost with respect to the potential benefits, and self-assessment data are most suited for investigating the sources of reported income. However, this will provide some indication of the relationship between income level, and source, and investment activity, and location of investor (by postcode). Other demographic indicators are not available from this source. And because it is not possible to link investor location records with company location, it will not be possible to examine inter-regional flows of investment capital, as performed in an earlier examination of the Business Expansion Scheme, the predecessor of both the EIS and VCTs (Mason et al, 1988; Mason and Harrison, 1989). In addition to these considerations, there are a number of other concerns with using EIS data as a means of monitoring business angel investment activity. First, as noted earlier (Mason and Harrison, 1999), by no means all business angel investments are made using EIS. However, there are no estimates for the proportion that this accounts for, whether investments made using the EIS are different to those which do not use EIS, nor the stability of this proportion over time. These issues could be addressed through a benchmark survey of business angel investors to provide a basis for extrapolating from EIS investment to the business angel market. Second, EIS

Recording national insurance numbers on the EIS1 form would provide such a link, although this raises concerns about reducing the burden in the collection of data. It also has complications where there are multiple investors, or collective investments, in any company.


includes investments that would not be considered as falling within the definition of angel investments in terms of the type of business being invested in. However, given that our concern in this Report is with business angel investing rather than with the flow of finance into a set of businesses of some particular characteristics, this is perhaps not a major concern. Third, EIS data are primarily company-based so it is difficult using this information to identify and monitor investments in the market, such as syndicate investment when all syndicate members make separate EIS claims and are therefore counted separately. Fourth, and most important of all, EIS statistics are a by-product of the existence of a particular government initiative to support small businesses. It follows that the continuation and consistency of the dataset depend on the continued existence of the EIS. Changes in how the scheme operates, notably in terms of the amount of tax relief, the annual limit on the amount invested, and on how much companies can raise, all of which have changed overt the years, creates discontinuities because of their effects on the amounts that individuals will invest under the scheme. Cessation of the scheme will terminate the dataset. For all these reasons EIS investment statistics would not appear to represent the basis for a robust time series on informal venture capital investment activity in the UK. However, it may be appropriate to undertake a one-off survey to identify what proportion of business angel activity is outwith the EIS and whether EIS investments are distinctive from non-EIS investments31 in order to explore the potential for extrapolation from the EIS statistics. There may be scope for modifying the data collection procedures in a manner that would allow for more detailed analyses of the EIS-segment of the market, for example, in using the integration of the EIS and FAME datasets to examine issues in the assessment of the performance of EIS-backed and non-backed ventures. At present, EIS appears to offer better prospects for ad hoc detailed analyses than for a consistent time series analysis. Additional data collection would help mitigate this: a survey of business angels, identified through a variety of means, would establish, at least for one point in time, the proportion of angel investors making investments through EIS and the proportion of their investments so channelled; a survey of EIS investors and investment (which would require substantial cooperation from HMRC for a one-off analysis) would help establish the extent to which this investment meets the definition of business angel investment. VCT data offers a rather different challenge: as discussed in an earlier section, much VCT investment is via pooled funds, breaching our definition of business angel investment. Furthermore, VCT investments can also be made in certain types of AIM companies, which offers advantages to investors seeking to diversify their portfolios and gain exposure to a wider range of asset classes, and channels finance to companies with the characteristics that the business angel market is believed to support, but does not meet the definition of business angel investment. 4.8 Angel Syndicates


For example, it has been suggested that the 30% maximum shareholding and the requirement to invest in ordinary shares will bias EIS investments in favour of smaller and earlier stage investments.


The angel market place is evolving from a largely invisible, atomistic market dominated by individual and small ad hoc groups of investors who strive to keep a low profile and rely on word-of-mouth for their investment opportunities, to a more organised market place in which angel syndicates (sometimes termed ‘structured angel groups’) are becoming increasingly significant. As a result, the angel market place is in the process of being transformed from a ‘hobby’ activity to one that is now increasingly professional in its operation, with published routines for accessing deals, screening deals, undertaking due diligence, negotiating and investing. There are currently estimated to be around 200 angel syndicates located throughout the USA and growing evidence of specialisation by industry sector (e.g. health care angel syndicates) and type of investor (e.g. women-only angel syndicates).32 A national body to bring angel groups together for the purposes of transferring best practice, lobbying and data collection was created in 2003 (Angel Capital Association: The same trend is also clearly evident in the UK although at an earlier stage, and it has not attracted the same degree of attention from researchers or commentators. For example, in Scotland there are currently 18 angel groups. The leading syndicates – for example, Archangels and Braveheart - have high visibility, including their own web sites which list their investments, and their investments are reported in the media. Archangels has been operating for about ten years. Its web site lists 20 investments in which they have invested over £30m. In 2002 it invested £1.5m in six new investments and £4.3m in eight follow-on investments. Some of these investments were made as part of syndicated deals involving other angel syndicates and venture capital funds. Braveheart has been operating since 1997. It has 50 members. It has made 22 investments in 17 companies. To put the scale of their investment in some kind of perspective, both Archangels and Braveheart now make more early stage investments in Scotland than any single venture capital fund. Moreover, both syndicates participate in Scottish Enterprise’s Co-investment Scheme, underlining their ‘institutional’ status33. Curiously, in England angel syndicates adopt a much lower profile. Angel syndicates emerged because individual angels found advantages of working together, notably in terms of better deal flow, superior evaluation and due diligence of investment opportunities, and the ability to make more and bigger investments, as well as social attractions. They operate by aggregating the investment capacity of individual high net worth individuals (HNWIs). Some groups are member-managed while others are manager-led (Preston, 2004). Syndicates take various forms but the most common generic type of model is as follows: • Limited and selective membership of angels (typically 20-75 members) who typically play an active role in the investment process. • Meet regularly (e.g. for dinner) to hear ‘pitches’ by entrepreneurs seeking finance.

Several of these angel groups have been profiled in the scholarly literature (May and Simmons, 2001; May, 2002; Cerullo and Sommer, 2002; Payne and Mccarty, 2002; May and O’Halloran, 2003). 33 Braveheart have recently announced the resumption of their intention to list on AIM to raise additional capital: as a FSA registered investment house this development further moves them in the direction of becoming an institutional investor; however, some elements of their operations for their original members continue to meet the definition of business angel investment, reemphasising the difficulty of maintaining a clear-cut definition of the business angel market.


• • • • • •

A syndicate manager supports members by organising meetings, communications and manages logistics. The manager or a core group of members will screen the deal flow and select the companies which are invited to pitch. Q&A session follows each pitch. Angels vote whether to pursue their interest in the business. If the vote is in favour a sub-group will be appointed to undertake the due diligence and report back to the full membership. If the recommendation is positive, individual members make their own decisions whether or not to invest (there is likely to be a minimum investment threshold for each deal) and the syndicate will combine all of the member dollars into a single investment. Alternatively, if the syndicate operates a pooled fund a majority vote will decide whether or not to invest. An expectation that each member of the syndicate will make a certain number of investments per year.

Some of the larger and longer established US syndicates have also established sidecar funds – that is, committed sources of capital that invest alongside the angel group. The investors in such funds are normally the syndicate members but may also include other HNWIs or institutions. These funds give the syndicate additional capital to invest in deals to avoid dilution, enables syndicate members to achieve greater diversification by exposing them to more investments than they can make directly through the syndicate, and is a means of attracting ‘right-minded’ investors who want to participate in seed and early stage deals but cannot be active members of a syndicate (e.g. because of lack of time). The emergence of angel syndicates is of enormous significance for the development and maintenance of an entrepreneurial economy. First, they reduce sources of inefficiency in the angel market. The angel market has traditionally been characterised by inefficiency on account of the fragmented and invisible nature of angels. There was no mechanism for angels to receive a steady flow of investment opportunities. They found their deals by chance. The entrepreneur’s search for angel finance was equally a hit-or-miss affair. Investors and entrepreneurs both incurred high search costs (Wetzel, 1987; Mason and Harrison, 1994). This encouraged many to drop out of the market as either suppliers or seekers of finance. Angel syndicates, in contrast, are generally visible and are therefore easier for entrepreneurs to approach. A further source of inefficiency was that each investment made by an investor has typically been a one-off that was screened, evaluated and negotiated separately. However, because of the volume of investments that angel syndicates make they have been able to develop efficient routines for handling investment enquiries, screening opportunities and making investment agreements. Second, they have stimulated the supply-side of the market. Syndicates offer considerable attractions for HNWIs who want to invest in emerging companies, particularly those who lack the time, referral sources, investment skills or the ability to add value. However, many individuals who have the networks and skills to be able to invest on their own are also attracted by the reduction in risk that arises from investing as part of a syndicate, notably the ability to spread their investments more


widely and thereby achieve greater diversification, and access to group skills and knowledge to evaluate investment opportunities and provide more effective postinvestment support. Other attractions of syndicates are that they enable individual angels to invest in particular opportunities that they could never have invested in as individuals, offer the opportunity to learn from more experienced investors and provide opportunities for camaraderie and schmoozing with like-minded individuals. Syndicates will also be attractive to individuals who want to be full-time angels. Thus, angel syndicates are able to attract and mobilise funds that might otherwise have been invested elsewhere (e.g. property, stock market, collecting), thereby increasing the supply of early stage venture capital, and to invest it more efficiently and effectively. Third, they are helping to fill the ‘new’ equity gap. Venture capital funds have consistently raised their minimum size of investment and are increasingly abandoning the early stage market (after briefly returning during the “dot-com bubble” of the late 1990s). Most funds have a minimum investment size of at least £500,000 and the average early stage investment by UK venture capital funds in recent years has been around £1m. This has resulted in the emergence of a new equity gap roughly the £250,000 to £2m+ range which covers amounts that are too large for typical ‘3F’ money (founder, family, friends) but too small for most venture capital funds. Angel syndicates are now increasingly the only source for this amount of venture capital in this range. Fourth, they have the ability to provide follow-on funding. One of the potential problems of raising money from individual business angels is that they often lack the financial capacity to provide follow-on funding. The consequence has been that the entrepreneur is often forced to embark on a further search for finance. Moreover, in the event that the need for additional finance is urgent then both the entrepreneur and the angel will find themselves in a weak negotiating position with potential new investors, resulting in a dilution in their investments and the imposition of harsh terms and conditions. With the withdrawal of many venture capital funds from the small end of the market individual angels and their investee businesses have increasingly been faced with the problem of the absence of follow-on investors. However, because angel syndicates have got greater financial firepower than individual angels or ad hoc angel groups they are able to provide follow-on financing, making it more efficient for the entrepreneur who avoids the need to start the search for finance anew each time a new round of funding is required. Fifth, their ability to add value to their investments is potentially much greater. The range of business expertise that is found amongst angel syndicate members means that in most circumstances they are able to identify an investor who can contribute much greater value-added to investee businesses than would be possible from an individual business angel, or even most early stage venture capital funds.


Finally, angel syndicates have greater credibility with venture capitalists. Venture capital funds often have a negative view of business angels, seeing them as amateurs whose involvement in the first funding round of an investment could complicate subsequent funding rounds because of their tendency to over-price investments, use complicated types of investment instruments and make over-elaborate investment agreements (Harrison and Mason, 2000). Venture capitalists may therefore avoid deals in which angels are involved because they perceive them to be too complicated to do. However, because of the professionalism and quality of the membership of angel syndicates venture capital funds hold them in much higher esteem. Accordingly, the increasing prominence of angel syndicates should strengthen the complimentarity between the angel market and venture capital funds, to the benefit of fast-growing companies that raised their initial funding from angel syndicates but now need access to the amounts of finance that venture capital funds can provide. Angel syndicates are now emerging as such significant players in the provision of start-up and early stage venture capital that it is essential that their investment activity is documented. Just five syndicates are members of BVCA and so their investments are included in the BVCA’s annual report on investment activity along with those of professional venture capital funds investing institutional money. Some other angel groups are members of BBAA and so their investments are included in the BBAA’s statistics. However, it is important that angel syndicate investment activity is reported separately and comprehensively. In the USA Jeffrey Sohl at the University of New Hampshire has been collecting data on US angel groups for some years. However, its value is diminished because much of the data are collected in the form of percentages. Moreover, because of the way in which the data are presented it is not clear what the response rates are (but it is suspected to be low). Variability across surveys in which groups respond also creates problems in analysing the data over time. The Angel Capital Educational Foundation, in association with the Kauffman Foundation are also collecting information on investments and group characteristics (e.g. number of members, investment preferences, years in operation, organisation type, side car fund, management or member-led, member fees) from their members. Allan Riding, with support from Jeffrey Sohl and Colin Mason, will also start to gather investment data from Canada’s angel syndicates in conjunction with Canada’s National Angel Organisation. The same survey instrument – an improved version of the questionnaire used by Sohl – could be used to survey angel syndicates in the UK, with the advantage of enabling UK syndicate investment activity to be put into an international comparative context. However, in the absence of an equivalent membership group to those which exist in the USA and Canada the first challenge will be to create a list of angel syndicates.




Business angels play a critical role in supporting an entrepreneurial economy. They are the largest external source of start-up finance after family and friends, their investments fill the size, stage and sector gaps left by venture capital funds, and in many regions are virtually the only source of risk capital. Business angels are often responsible for providing the initial funding for young companies that achieve fast growth. Indeed, many angel syndicates have the capability to do multiple rounds of financing, sufficient to take the company to a trade sale or IPO without the need to ‘pass the baton’ to venture capital funds. As experienced business people, in many cases as successful entrepreneurs, business angels also contribute valuable nonfinancial assistance to the businesses in which they invest.34 Policy-makers therefore need to be able to measure, monitor and, if appropriate, to respond to business angel investment activity. However, the invisibility of business angels and their investment activity is a major barrier to the development of information on business angel investment activity and our knowledge-base is largely restricted to various ad hoc studies, mainly conducted by academic researchers. These are largely cross-sectional rather than longitudinal, small-scale, based on samples of convenience and increasingly use inconsistent definitions of business angel activity. In view of the emphasis of UK small business policy on removing financial barriers to growth there is an urgent need to develop improved statistical information on business angel investment activity. Without improved statistical information there is a risk of inappropriate policy intervention.35 Our first recommendation is therefore that the Enterprise Directorate should develop improved time-series data on business angel investment activity. The report has considered definitions of business angels. Two key issues have emerged. First, there is a tendency, encouraged by GEM, to collapse business angel investing into a bigger but less coherent category termed informal investments which includes investments made in the businesses of family members. This is unhelpful and should be resisted. Second, the definition of ‘business angels’ has become increasingly fuzzy at the edges. However, the key features which distinguish business angels from other types of ‘informal’ investors remain robust, namely: • • • • •

Investing their own money; Making their own investment decision; Commercial considerations dominate the investment decision (although some investors may trade off part of the commercial return for non-financial considerations); Excludes within-family investments; Involves ‘hands-on’ involvement with the investee company (if not by the investor then by a co-investor).

We noted earlier that academic research has failed to identify a positive link between the contributions made by business angels to the businesses in which they invest and the performance of these businesses. Nevertheless, there is both academic and anecdotal evidence that many entrepreneurs do regard these contributions as valuable (Harrison and Mason, 1992; Mason and Harrison, 1996c). 35 For example, Mason and Harrison (2003b) have argued that the Regional Venture Capital Funds in England, which were introduced on the basis of the view that there was a gap in the availability of risk capital for amounts of under £250,000 may have been unnecessary because of the significant – but unquantified - role of business angels and angel syndicates in making this type of investments.


Our second recommendation is therefore that data collection is based on this rigorous definition of business angels. Separate data collection and analysis is appropriate to scope out the non-‘pure’ informal investment activity in the UK, to provide an overall assessment of the availability of investment capital in the UK. This report has critically reviewed various approaches in the UK and elsewhere to identify and measure business angel investment activity. It is clear from this review that attempting to identify business angels and the amounts that they have available for investment is extremely problematic, and not terribly meaningful. Rather, it is their actual investments that are significant. Thus, our third recommendation is that the focus of data collection should be on investment activity – the investments made by business angels - rather than on the investors themselves. As set out below, this data collection should collect data on both the activities of business angel investors and on the companies in which the investments are made. We have highlighted the way in which the angel market place is evolving, noting in particular, the emergence of angel syndicates which have emerged to fill the ‘gap’ between the amounts that entrepreneurs can raise using ‘3F’ and solo angel money and the minimum amount that most venture capital funds will consider. This is a hugely significant development. First, although the number of angel syndicate investments is small compared to the numbers made by traditional angels investing on their own or in small ad hoc groups they are significant in terms of amounts invested. Second, there is anecdotal evidence from Scotland that angels increasingly prefer to invest as part of a syndicate than as individuals. 36 Third, in some regions (such as Scotland) angel syndicates are more significant than venture capital funds in terms of investment activity. Fourth, angel syndicates increasingly have sufficient financial resources to be able to provide multiple rounds of funding. Their investment activity is now being recorded in the USA, both by the Angel Capital Alliance (the ‘trade body’ for angel groups) and also by the Center for Venture Research at the University of New Hampshire. Given this increasing significance of angel groups, our fourth recommendation – and first action point - is therefore that the BERR/Enterprise Directorate should instigate a regular (annual or twice-a-year) survey of angel groups and syndicates to collect information on their investment activity using the survey instrument developed by the Center for Venture Research to enable international comparisons. As a preliminary step it will be necessary to generate a list of angel groups and to keep it up to date. In terms of other actions to develop time series data on business angel investment activity our view is that the Enterprise Directorate has a choice. It could build on data that already exists. This is a low cost option. The trade-off is that the data are sub-optimal. Alternatively, it could undertake new data collection to develop a more accurate picture of angel investment trends. Building on what exists.


David Grahame, CEO of LINC Scotland, personal communication.


This strategy involves working with existing data sources so that they can be used to generate estimates of business angel investment activity. We recommend action on five fronts. The first is to seek changes to the questions in GEM about informal investment by including questions on the investments themselves. This will enable a much better definition of angel and family investments. Above (page 35), we have provided some indicative questions to be added to the GEM questionnaire to improve the utility of the data from this source. The same changes could also be made to the Enterprise Directorate household survey with similar benefits, although given the scale of GEM the data will be more robust as a basis for monitoring the market. The second is to require the BBAA to increase the range of its data collection at least to the level that occurred in the 1990s when first the BVCA and then NBAN were responsible for organising data collection on deals made through BANs. Of course, this is only measuring the ‘tip-of-the iceberg’ in terms of overall market activity. However, BBAA members are uniquely positioned to report on some detailed aspects of investment activity that are beyond the scope of other approaches (e.g. valuations, co-investments, loan-equity ratios, etc). We suggest that as a minimum, BANs are asked to report on the following for each investment: location of company, industry sector, whether ‘high tech’, stage of financing, number of angels investing and amounts invested by each, locations of investors and any co-investors and amounts they invested. The original questionnaire used for the collection of information on behalf of NBAN can be found in Appendix 1. A third recommendation is to seek administrative changes to the processing of 88(2) forms to address the limitations discussed earlier which limit their usefulness at the present time. If all of the limitations could be addressed then this would make these forms a comprehensive source of data on investment in unquoted businesses. However, without additional detailed research and data collection 88(2) data does not immediately separately identify business angel investment. Research in Scotland has demonstrated both the usefulness of this data source and the additional effort required to maximise its use in the present context. We would point out that the experience with the use of 88(2) data in combination with other sources of market intelligence in Scotland suggests that there are learning effects over time: initial investment of time and effort reduces over time as market intelligence builds. Nevertheless, this option remains a high-cost solution. The key changes required to the 88(2) forms are as follows: • • • • • • Enforcing the requirement to file; Ensuring the completeness of the records; Requiring the disclosure of both loan and equity investments; Speeding up the time in which filing is required; Classifying investors so that ‘insiders’ and ‘outsiders’ and ‘connected’ and ‘non-connected’ investors can be identified; Publication of a list of 88(2) filings.

Given the administrative changes required, we consider it unlikely at the present time that the 88(2) form can be modified to collect detailed information on shareholder 61

characteristics in a manner that will allow identification of business angel investment specifically, and without commitment to additional research resources to build on the raw data in the 88(2) forms this remains an untapped potential data source. The fourth is to undertake a one-off survey of business angels to identify what proportion are members of business angel networks, the proportion of their investments that are made through these networks and whether such investments are distinctive from those investments which are made without using networks. With this information it would be possible to extrapolate from statistics on investment activity channelled through business angel networks (e.g. provided by BBAA) to generate an approximation of overall business angel investment activity. However, this approach will only generate ‘headline’ figures and given the small amount of investment activity that is channelled through BANs the resulting estimates will be fairly crude. This can be combined with a fifth recommendation which is similar: undertaking a one-off survey to estimate the share of total business angel investment activity that is accounted for by the EIS, and to use this information to scale up the EIS investment statistics. This is more complicated than extrapolating from BAN investments because EIS statistics also includes some types of investments that would not be regarded as business angel investments. Thus whereas BAN investments are a subset of overall business angel investment activity, the overlap of EIS investments and business angel investments is less than 100%. Thus, surveys of business angels and EIS investors would be required (although the survey of business angels could be combined with the previous recommendation). However, frequent changes to the rules of the scheme – notably the types of companies and investments which qualify – will make it difficult to develop robust and consistent time-series estimates from EIS data alone. In summary, given the existence of GEM, BANs and EIS statistics, efforts to improve their utility could generate much improved information on business angel activity at little cost. However, all of these sources have limitations, and so none of them on their own provide an unequivocal basis for developing a consistent time series data source, hence our recommendation for a multi-method approach. Improving the 88(2) forms is actually the best approach in terms of providing accurate information on actual investment activity (subject to timely and comprehensive reporting of the data) but seems unlikely to be feasible, at least in the short term because of the changes that would be required to the way in which the information is collected and reported. We therefore recommend that consideration is given to the following: (a) pressing the GEM research co-ordinators to change the questions that they ask about informal investment; (b) collecting more comprehensive data through BBAA on their members’ investment activity, and (c) scoping a project, based on an appropriate sample, to assess the overlap between EIS and ‘pure’ business angel investment.

A new approach.


Our penultimate recommendation is that the Enterprise Directorate invests in a company survey modelled on the Canadian Financing Data Initiative. Of all the approaches reviewed this comes closest to meeting the ‘robust’ criterion. It has been established that using companies rather than SMEs as the population in order to reduce the scale and costs of the survey is likely to be feasible. It is methodologically rigorous in its approach and can generate estimates of both stock and flow of business angel investments on an annual basis. Moreover, the same survey instrument can collect company-based data and angel-based data, the latter from company directors who are angels. The survey instrument could also be used to collect information on other aspects of company financing. The one weakness of the approach is that the estimation procedure is critically influenced by the estimate of the proportion of business angels who are company directors. We believe that the relevant information could be collected and analysed at relatively low cost and that the size of the survey instrument could be limited to three or four pages of questions in order to minimise the demands on respondents. The cost of a one-off survey might be prohibitive, so it would either need to be designed to collect multiple types of information (perhaps replacing existing surveys) or could build on existing company surveys such as the Annual Small Business Survey. The first step might be to add some pilot questions in a future survey. We recognise that the utility of this approach rests on a relatively high level of overlap between the categories of company director and business angel (91% in the Canadian study) – some testing to determine the proportion appropriate for the UK will be required before a commitment to proceed is made. Summary Our assessment of the various potential approaches is summarised in Table 1. In our view, a multi-methods approach should be adopted to develop improved statistics on the business angel market. The best approach to the development of a robust time series dataset to measure business angel investment activity in the UK involves a combination of a regular survey of angel syndicate investment activity, a Canadianstyle FDI survey, a modified GEM and a more detailed survey of BBAA members. Adopting these recommendations would give the UK the best statistical information on business angel investment activity and, more importantly, would provide policymakers with an effective ‘instrument dial’ for monitoring the early stage risk capital market and providing the basis for evidence-led intervention in the market. Our final recommendation is that BERR/Enterprise Directorate commission and publish an Annual Report on the UK Business Angel Market. This Report would draw together data from all available sources to profile our knowledge of the market, and add expert informed commentary on market profile and trends.


Table 1. Summary of potential data sources: simplicity, benefits and costs Action Simplicity (5 = easy; 1 = complex) 1. Annual survey of 3 investment activity by business angel syndicates 2. To change the 5 questions on informal investment in GEM 3. To change the 5 questions on informal investment in the SBS Household survey Benefits Cost (5 = high; 1 = BERR/Enterprise low) Directorate 4 to Cost to 3rd party Costbenefit (5 = highest) 4 Priority (5 highest) 4 Suggested = Timescale Test in 2008, annually from 2009 Test in 2008; Roll out in 2009

4. BBAA to increase 5 the data that it collects on the investment activity of members 5A. A one-off survey 2

Yes (c. £20k set up no costs and c.£10k running costs per annum) 5 nil Yes – GEM 5 consortium: time cost in interviews – cost unknown 5 Yes – cost of the no 5 But may be questions superfluous if the same changes are made to the GEM survey 4 nil Yes – BBAA: 4 cost of extra data analysis and reporting (minor) 4 Yes – survey and No 2


5 Roll out for next But see survey caveat under benefits


Implement in 2008 to collect 2007 statistics Commission 2008;



of a ‘representative’ sample of business angels to assess what proportion of the market is covered by the BBAA and to derive market estimates by scaling up BBAA data. 5B. A one-off survey of 1 a ‘representative’ sample of business angels and EIS investors to assess what proportion of the market is covered by the EIS and to derive market estimates by scaling up EIS data. 6. Seek administrative 1 changes to the processing of 88(2) forms by Companies House 7. Company survey 1 modelled on the Canadian Finance Initiative

analysis costs (likely to be high one-off cost – low six figures – given problems of identifying representative samples) 5 Yes – survey costs Yes – HMRC to 3 (see 4A – there would facilitate survey be economies of scope of EIS investors in running 4A and 4B together) 4

Implement 2009

Commission 2007; Implement 2008



Yes – to negotiate Yes – to 1 with Companies Companies House House – administrative costs Yes – survey and Possibly – if an 3 analysis costs existing business survey is used


2008-09 for discussion; timescale for implementation unknown 4 Feasibility study subject to 2008; commission availability survey late of a 2008/2009 piggyback


8. Annual Report on 4 UK Business Angel Market


Yes – research and No reporting costs


survey 5

Design and commission in 2008; report on 2006 and 2007 market in late 2008 (link to timescale for BVCA reporting)




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Appendix 1. Questionnaire used by BANs to report on the investments that they had facilitated.

National Business Angels Network
NBAN report on business angel investment activity 1st January 2003 – 31st December 2003
THIS INFORMATION WILL BE TREATED AS STRICTLY CONFIDENTIAL It will be used only to compile aggregate statistics. Apart from the summary information shown in your directory entry, no other information on your organisation or matches will be identified. __________________________________________________________________ DETAILED INFORMATION ON INVESTMENTS RESULTING FROM YOUR INTRODUCTIONS BETWEEN 1st JANUARY 2003 AND 31st DECEMBER 2003 Please allow one questionnaire form for each investment that has resulted from an introduction by your network. If you need more copies of the form than we have provided, please use photocopies. Please write clearly in BLOCK CAPITALS and keep a copy of each completed form in case of a query. Name of business angel network Person completing questionnaire

............................................................. ............................................................. __________________________________________________________________ 1a 1b 1c Name of investee company ............................................................................ City/town & county ......................................................................................... Is this investment also likely to be included in the statistical returns of another network? Tick as appropriate. No.................... Yes.................... Which network? ..................................... NB: All the above information is required to avoid double counting - this can arise where an investment was included in a previous year or included in the returns of another network. __________________________________________________________________ 2a Main activities of the company. ....................................................................................................................... 2B Could this company be classified as high-tech? Yes.................... No....................



What was the stage of this financing? Please circle ONE number only.

1. Seed 3. Other early stage 5. Receivership 7. MBI 2. Start-up 4. Expansion 6. MBO 8. Other, please describe.............................................................................. __________________________________________________________________ 4 Month of this financing ....................................... Year ................................ __________________________________________________________________ PLEASE NOTE: ONLY INCLUDE INVESTMENTS INVOLVING BUSINESS ANGELS REGISTERED WITH YOUR NETWORK 5a 5b How many business angels who are registered with your network invested in this company? ............................................... How much was invested by each of the business angels registered with your network (equity + loan)? Angel number 1: £ …………..……….. Angel number 2: £ ……………………. Angel number 3: £ …………..……….. Angel number 4: £……………………. Angel number 5: £ …………..……….. Angel number 6: £ ……………………. 5c Please list the location of each of these business angels. Town/City or county: Angel 1: ………………………………… Angel 2: ……………………………….. Angel 3: ………………………………… Angel 4: ……………………………….. Angel 5: ………………………………… Angel 6: ……………………………….. 5d Please indicate any other types of investor that were involved in investing at the same time as these business angels. Please tick all the boxes that apply. Banks Venture capital firms Please name …………………….. 74

Government/grants Other Please specify ……………………..

Other business angels not registered with your service

5e Amount invested from these sources............................................................. __________________________________________________________________


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