Five Common Myths About Angel Investing

Myths about angels. No, I don’t mean the ones from heaven, just the ones who supposedly invest in your business. I’m talking about a new book by Scott Shane, Fool’s Gold?, about the myths of angel investment. And in this case, myths matter.

Kelly Spors interviewed Shane in The Wall Street Journal last week, and came up with an interesting summary:

Myth #1: Angel investors are like VCs, they just invest less. Prof. Shane finds angel investors are far more varied in their investments than venture capitalists. While VCs tend to focus almost exclusively on high-growth industries like technology, angels will invest in everything from the local dry cleaners to a restaurant. They tend to stick with industries they are familiar with. Plus, they are far more hands-off than VCs. Most angels spend less than an hour a week with the companies they invest in. And fewer than 5 percent of businesses that receive angel money go on to get VC money.

Several interesting points in this one. I’ve always thought of angels as a lot like VCs. I’m also surprised by that last point, the 5 percent one. I would have guessed that figure to be a lot higher.

Myth #2: Most angel investing is done by organized groups. Groups only account for 500 to 600 each year, he says, and only 2 percent of all angel investment dollars come from organized groups or networks of angels.

Myth #3: Angels are wealthy and savvy investors. Prof. Shane notes that only 21 percent of angels meet the Securities and Exchange Commission’s requirements for being an “accredited investor”–or an individual making $250,000 annually or more, or a couple making $350,000 or more (or net worth of more than $1 million). What’s more, the majority of angels don’t end up making money on their investments, and only 2 percent of businesses they invest in eventually become IPOs. And only 15 percent of angels do “extensive” research on the sectors of the businesses they fund.

This one is hard for me because I thought it was illegal to take an investment from somebody who doesn’t qualify as an accredited investor, according to the SEC.

And even more important than that, however, is that angels don’t make money on their investments, and don’t research their investments, either. Wow. I’m surprised.

Myth #4: Angels frequently invest $50,000 or $100,000 in businesses, sometimes up to $500,000 or $1 million. The median angel investment is around $10,000, Prof. Shane finds.

This is another surprise to me. I generally go with the idea that investing a little bit takes as much legal red tape as investing a lot.

Myth #5: Many people invest in businesses of people they barely knew beforehand. Of all informal business investments, 92 percent are made by friends and family. Few are made by an angel who isn’t one of those.

In this area I like being surprised, so I pass this on to you, and I’m looking forward to getting the book. Shane, a professor of entrepreneurship at Case Western, has done several other important books for entrepreneurs.