Angel Investors Play Big Role For Start-Ups, Think Tank Says

Angel investors—wealthy individuals who provide capital to start-ups with the potential for fast growth—are an increasingly important source of capital to early stage companies, including in Europe, one recent report says.

The report by the Organization of Economic Cooperation and Development is among the first to gauge angel investing activity around the world.

Angus Loten/The Wall Street Journal

Katherine O'Neill of the JumpStart New Jersey Angel Network (foreground left) and Aaron Holiday of BR Venture Fund (background on O'Neill's right) field pitches for start-up funding from entrepreneurs at a networking event in New York in December.

Calculations by the Paris-based think tank suggest that the total amount of capital raised from angel investors in the U.S. was $17.7 billion in 2009, compared to $18.7 billion for venture capital. The bulk of the venture capital money went to companies that were at later stages in their growth cycles, the report notes.

In Europe, the angel market in 2009 reached $5.5 billion, surpassing all venture capital funding by some $250 million, according to the report, which is based on interviews with roughly 100 investors, entrepreneurs and business leaders in 32 countries.

With banks reining in all but the safest loans since the recession, and venture capital firms now targeting less risky late-stage business startups, angel investors are nearly alone in backing young, fast-growth companies, the report says.

The VCs tend to target high-tech hubs, like Silicon Valley.

But angels are more prone to support entrepreneurs in their own back yards, with typical funding rounds ranging from $25,000 to $500,000, the report says. At the same time, they're less sensitive to ups and downs in the economy and tend to invest in a "much wider range of innovation" than VC investment firms, the OECD report concludes.

In the U.S., angel investors are now putting more cash into biotechnology and health-related ventures, rather than IT, which was an investor magnet for decades, for instance. That's partly due to the rise of angel investing groups over the past decade. By pooling smaller sums together into big funding rounds, these groups are able to spread the risk of betting on promising ventures in less hot sectors.

As a result, angel investing itself is becoming a more formalized process – complete with more rigorous due diligence.

Beyond cash, angels play an often overlooked but crucial mentoring role for new business owners as successful entrepreneurs themselves, offering hands-on experience and a network of valuable contacts, the report notes.

But policy makers have tended to focus efforts on the higher profile venture capital market, however. To better drive the global economic recovery, the OECD recommends tax incentives for angels and angel groups, co-investment programs, or even public funding for national angel associations.

Many fast-growth, entrepreneurial ventures that attract angels are the same start-ups that create jobs. Led by start-ups, small firms have generated 65% of net new jobs over the past 17 years, according to the Small Business Administration.

Still, some critics say wealthy investors shouldn't need costly tax incentives to back promising ventures, especially as many countries enact tough austerity measures aimed at balancing national budgets in the wake of the financial market crisis.

Others worry tax breaks will draw in institutional investors. Institutional investors may not provide start-ups with the business-management expertise or potentially valuable contacts as the typical individual angel investors might provide.

Of the $8.9 billion in total investments by angels in the first half of 2011, 39% went into seed and start-up ventures, up from 26% of $8.5 billion in total investments over the same period in 2010, according to data from the University of New Hampshire's Center for Venture Research. It hasn't yet released data for 2011's second half.