Selecting the Functional Forms of the Determinants of the Performance of Business Angels’ Investments: An Empirical Analysis of the Italian Informal Venture Capital Market

Abstract

This paper is aimed at identifying and analyzing the contribution of the major drivers of the performance of the business angels’ investments, thus extending to the informal venture capital market research areas and methodologies widely applied in the theoretical contributions dealing with formal venture capital market. Business angels, by investing in start-up companies who don’t have access neither to debt capital nor to equity capital subscribed by formal venture capitalists, are crucial in order to stimulate and support the entrepreneurial propensity inside an economic system, filling the equity funding gap.This study is the first attempt to present a wide picture of the Italian informal venture capital market, and analyzes data on Italian transactions and personal features of Italian Business Angels gathered during the five year time period 2007-2011 with the support of IBAN (Italian Business Angels Network). Our descriptive analysis shows that the Italian informal venture capital market grew significantly in the last decade and the number of operations is rising despite economic stagnation. Moreover, Italian Business Angels features are converging to those of Angels of more developed markets in terms of structural investment features, such as education, amount invested, yearly number of closed deals, exit strategy.The aim of the econometric analysis is to investigate the returns of business angels’ investments and their major determinants, making reference to an original set of independent variables (industry, exit strategy, experience, holding period, rejection rate, year of divestiture). Furthermore, while previous empirical studies hypothesize linear relationships between the explanatory variables and the performance of informal venture capitalists’ investments, this work tests different functional forms, linear and non linear ones as well. The major results achieved through the empirical analysis are the followings: 1) differently from previous literature, the relationship between Experience and IRR is quadratic and significant; 2) the widely accepted expectation that investments with short Holding period (below 3 years) earn a lower IRR is confirmed, for the first time, by quantitative data; 3) a new variable, Rejection rate, is put into the model and its logarithmic impact on IRR is positive and significant. Finally, the outcomes of the empirical analysis performed in this study allow to identify new and concrete insights on possible policy interventions aimed at stimulating the informal venture capital industry and, therefore, the entrepreneurship inside the economic system.