Are Angel Investors Evolving or Where Have All The Flowers Gone?

A new research report from the Center for Venture Research at the University of New Hampshire shows some interesting trends in angel investing throughout the US:

• Angel investing is down 6% in the first half of 2007 compared to the first half of 2006;
• Whereas the amount of angel investment declined 2%, the number of angels investing in deals was up 8%;
• Another view of this same trend is that the average deal size declined 4% while the number of angels per deal was up 10%;
• Sectors seeing the largest deal flow were Healthcare/Life Science (22%), Software (14%), Biotech (10%), Electronics/Computer Equipment (10%), IT Services (10%), Retail (10%), Industrial/Energy (10%) with various high tech sectors filling in the remaining pieces;
• Seed and startup stage funding represented 42% of total angel investments while 48% represented post-seed investing;
• To demonstrate the risk that angel investors take, 61% of angel exits were from a sale of the business while 33% were from bankruptcies (remaining 6% from IPO);
• Blending an average 30-40% return on investment on those exits with the bankruptcies, the average yield that angel investors are seeing right now is about 19%, off from a high in the 2000 bubble of 23.3%.

So there are more angels doing fewer deals, more of which are post-seed funding opportunities generating a yield somewhere from 20-25%. To provide a basis for comparison on return, the S&P 500 5 year yield is around 11.4% right now (did the math myself so may be off a little).

What I get from all of this is an evolution of the angel investor market. Here are some things to consider:

• Private equity has been looking at the public markets to privatize companies as an investment vehicle. The credit market crunch is putting a crimp on this right now, however;
• Venture capital is seeking more mature deals to invest in in an effort to mitigate some risk inherent in venture investing. Just look at Austin Ventures‘ recent track record to see that they are clearly not doing venture investing;
• Given that shift by venture capital “up market”, an opportunity has been created for angel networks to organize and make more Series A investments which tend to be less risky than seed funding startups.

Where does that leave the startup markets? For some time there has been a capital gap for startups that is now being “exacerbated” by these angel investing trends. Just ask any startup entrepreneur to validate that assumption.

Perhaps this explains the increased visibility of so-called incubators around the globe. There is definitely an opportunity for firms to get into the seed funding business since the traditional sources seem to be vacating the space.