Early-stage Financing Research Articles

The Role of Business Angels in the Early-Stage Financing of Startups: A Systematic Literature Review

The Role of Business Angels in the Early-Stage Financing of Startups: A Systematic Literature Review

Impact of regulation on investment crowdfunding

This article focuses on the regulation of investment crowdfunding as a key criterion for the dynamic but safe development of this form of business financing. The aim of this article is to analyse the existing regulatory framework in developed market economies, such as the UK and the US, which are the leaders in the alternative finance market, and to try to assess whether the pan-European equity crowdfunding regulations that are being introduced have a chance of enabling the European equity crowdfunding market to emerge. Crowdfunding, and in particular investment crowdfunding, is a relatively new form of alternative financing for business activities, which can and – in its mature form – does provide an important source of funding that ‘fills the gap’ in early-stage financing for start-ups, innovative projects and is also a source of financing for SMEs. The intensive, uncontrolled development of innovation in financial markets generally leads to irregularities (fraud, abuse, and crises). In turn, excessive and restrictive regulation can act as a brake on the development of financial innovation. Until 2023, crowdfunding in EU countries will be regulated only by national laws, most of which are not specific to this form of financing. The fragmentation of the European market and the inconsistency of regulations have led to a slowdown in the development of this form of financing, resulting in a loss of development potential for companies and entire economies. The authors present the equity crowdfunding regulations of the US and the UK – the world’s number 1 and 2 crowdfunding markets – as a benchmark for the proposed pan-European regulations. The features of the common European rules seem to meet the requirements. And the increase of the funding amount to EUR 5 million opens up completely new possibilities for equity crowdfunding.

Corporate angels: A new breed of investors in the funding landscape for technology-based start-ups

This paper examines corporate angels, small businesses that provide equity capital directly to unquoted ventures and become minority shareholders. Corporate angels have been largely ignored in entrepreneurial finance research. This novel study examines corporate angels' investment practices, goals and challenges by means of a combination of qualitative cases and a survey of 87 corporate angels. From our analysis, we conclude that due to their knowledge and experience of technology and industry, combined with their active involvement in the investments, corporate angels can be an important source of seed and early-stage financing for technology-based start-ups, particularly with regard to technological and market knowledge and experience. Corporate angels’ investment activity also leads to knowledge inflows to the corporate angel firms in terms of organizational and cultural development of the firms. With this paper we shed light on a new and unexplored investor group that is important in the changing landscape of entrepreneurial finance.

The Rise of Early-Stage Financing in the US and Startup Performance

The Rise of Early-Stage Financing in the US and Startup Performance

Business angels investing in green ventures: how do they add value to their start-ups?

ABSTRACT This study investigates how business angels (BAs) add sustainability value to green ventures and how these value-adding activities are dependent on the BAs’ sustainability characteristics, i.e., motivation to invest, sustainability competence, and sustainability investor activity. This explorative qualitative study is based on interviews with 14 BAs from Germany and the Nordics. A cross-case analysis of the interview data reveals that different groups of BAs invest in green start-ups: green angels and light green angels. These BAs differ in their motivation for investing in green start-ups, with some wanting to contribute to the sustainability transition and others investing to be a part of the shift of capital and talent toward green ventures. The BAs offer different sustainability-value-adding activities to their start-ups. Green angels provide activities that are aimed at enhancing the sustainability performance of their investees. Light green BAs add value very similar to conventional BAs. This study contributes to the green entrepreneurial finance literature by exploring the specificity of green angels. By shedding light on how BAs add sustainability value as investors for green ventures, the study places green angels more distinctly in the ecosystem of early-stage financing for green start-ups.

Startup Financing: Some Evidence from the Indian Venture Capital Industry

This study analyses the venture capitalists’ evaluation of startups in the Indian context by using primary data obtained from a survey study of representatives drawn from the industry. A distinguishing feature of the study is the categorization of venture capitalists on the basis of their stage of financing for analyzing the nature of diversification prevalent in the industry, the rank order of risks as perceived by the different categories of venture capitalists, and their expected risk premium. The findings of the study suggest the existence of two broad categories of venture capitalists; those involved in early-stage financing and those who invested across the life stages of startups. Furthermore, results indicate that each of these two categories of venture firms attaches varying importance to the broad considerations that are known to impact a startup’s value, they are differently diversified, their rank order of perceived risks is different and so is the expected risk premium.

On the Importance of Accounting Information in Early-Stage Financing

On the Importance of Accounting Information in Early-Stage Financing

Performance effects of luring top investors for early-stage financing

Performance effects of luring top investors for early-stage financing

Performance effects of luring top investors for early-stage financing

Performance effects of luring top investors for early-stage financing

The Role of Entrepreneurs’ Perceived Competence and Cooperativeness in Early-Stage Financing

Building on social-psychological insights into social perception and judgment and empirical findings from the entrepreneurship literature, we propose that early-stage equity investors look at two main dimensions to assess entrepreneurs seeking early-stage financing: competence and cooperativeness. In all, 84 angel investors and venture capitalists active in Europe participated in a conjoint experiment. The results show that investors prioritize entrepreneurs’ competence over their cooperativeness. Entrepreneurs’ competence is even more appealing to investors when combined with coachability. We find that entrepreneurs can compensate for a lack of experience by demonstrating solid market knowledge and appearing to be coachable. Furthermore, the results suggest that investors differ in their consideration of entrepreneurs’ cooperativeness, but not competence, when making investment decisions—a finding that is conditional on investors’ usual level of involvement in their portfolio ventures. We discuss these findings from a theoretical and practical perspective.

The impact of internet penetration on venture capital investments: Evidence from a quasi-natural experiment

This study investigates the relationship between internet penetration and venture capital (VC) investment in China. Exploiting staggered inclusion in demonstration cities under the Broadband China strategy as a positive shock to internet penetration, our difference-in-differences analysis shows that this policy shock results in an increase in VC investments in demonstration cities relative to others. Moreover, the increase in VC investments is concentrated in early stage financing and young start-ups. In terms of VC fund sources, we find a stronger effect on foreign and independent VCs. Our mechanism analysis suggests that the effect of the broadband rollout is mainly driven by cities with higher ex-ante costs of information acquisition and that such costs are reduced by the improvement of internet-based network infrastructure. Finally, we provide additional evidence on the benefits to established companies by showing that broadband rollout improves the information environment of listed firms. Our study sheds new light on the economic consequences of infrastructure development that reduces information acquisition costs in China.

A document analysis deep learning regression model for initial coin offerings success prediction

Initial coin offerings (ICOs) provide an early-stage financing method for blockchain-based ventures. During the ICO process, whitepapers are important not only as promotional material through which ventures can demonstrate the technical and financial project details but also as references for investors. Persuasion theory and the related literature suggest that the presentation and order of information have a significant impact on the attitude of the audience. Therefore, in addition to projects’ metadata features, we construct a document analysis deep regression model (DADRM) to innovatively extract deep text and layout features from whitepapers. Based on a real-life dataset, we conduct a comparative study to assess the effectiveness of the proposed framework in predicting ICO success in terms of the funding amount. The empirical results show that our model that both extracts text content and retains the original 2D structure of the document can significantly reduce prediction error. Based on our proposed model, both ICO platforms and investors can prejudge the funding amount of cryptocurrency projects and mitigate information asymmetry. Additionally, this study demonstrates that both what is written in the business document and how the document is presented affect investor decisions.

Measuring Founding Strategy

We introduce a novel approach to measure the founding strategic differentiation of startups and its relationship to follow-on performance. We use natural language processing and historical websites to estimate the similarity between the founding website of an individual startup, the historical website of public firms at the startup’s founding year, and the founding website of other startups founded in the same year. We propose that distance in the value proposition stated in these websites represents differentiation in the market. Startup differentiation is estimated as the average text-based distance from the five closest incumbents (public firms). We implement this approach using a large sample of startups from Crunchbase. Our measure predicts a meaningful increase in early-stage financing and equity outcomes, unconditionally and controlling for cohort and industry fixed effects. The positive benefits of equity outcomes only evidence themselves after year 6 of age, suggesting more differentiated firms may take longer to prove themselves. Using out-of-sample tests, we also demonstrate that our measure is economically important, predicting 30% of the total variation in the receipt of early-stage financing and 20% of variation in equity outcomes. Public datasets of our differentiation score and scraped website data are provided, together with open-source code to replicate our approach in other settings. This paper was accepted by Joshua Gans, business strategy. Supplemental Material: The data files and online appendices are available at https://doi.org/10.1287/mnsc.2022.4369 .

Gender Diversity, Role Congruity and the Success of VC Investments

Building upon the gender role congruity theory, in this paper, we propose that the association between gender diversity and venture performance changes when roles played by individuals are not coherent with the gender-derived expectations of their ascribed social group. We test our theory in the context of early stage financing, investigating how gender diversity between entrepreneurs and VC managers influences the investment performance of VC-backed firms. Our sample consists of 5800 VC managers, who invested in 5075 different ventures in the period 2000–2019 and of 16,713 venture founders. We find that gender diversity is associated with better performance only when a female entrepreneur is matched to a male VC manager. Our analysis sheds light on the presence of several factors that moderate the observed association, related to the VC’s ability to provide value-added services to the invested ventures.

“Pennies from heaven”? Market failure, circuits of capital and policy support for business angels: The case of cross-border angel investment

Angel investment is widely associated with economic development through entrepreneurial activities, and has attracted the attention of policy makers internationally, nationally and regionally, resulting in a range of measures to support the development of the market. In this paper we challenge this policy orientation and identify three key flawed assumptions on which it rests: the presence of market failure in the early stage risk capital market, the complementarity of angel and other sources of early stage finance, and the integration between the angel and venture capital circuits of capital. We develop a framework for the identification of market failure as both a supply-side and a demand-side phenomenon, demonstrate that venture capital and angel finance are substitutes not complementary funding sources and draw out the association between angel investment and venture underperformance, and build on the ‘circuits of capital’ literature to identify the increasing structural independence of the VC and angel investment markets which has implications for the link between angel financing and local and regional economic development. These issues are discussed in the context that stimulation of cross-border (international) investments by angel investors has emerged as an important topic of academic analysis and policy debate in Europe, not least on the basis that such investment will support the otherwise constrained growth and scale-up of entrepreneurial ventures. The paper concludes by outlining, in the policy mix concept, a basis for the systemic analysis of the development, implementation and impact of entrepreneurial finance policy.

Unlocking Early-Stage Financing for SDG Partnerships

Mobilizing finance and multistakeholder partnerships are key priorities for the global community to accelerate the SDGs. Yet, many partnerships are not able to reach their ambitions because they cannot access early-stage financing. This report aims to help partnerships and their funders effectively manage and mobilize finance to achieve SDG impact by: exploring partnership funding challenges and lessons learned; examining innovative funding approaches; and providing tangible recommendations to partnerships and funders on how to drive SDG impact more effectively.

Gender stereotypes in equity crowdfunding: the effect of gender bias on the interpretation of quality signals

Equity crowdfunding has the potential to democratize entrepreneurial finance and provide female entrepreneurs with new and equal access to early-stage financing. In this paper, we present first empirical evidence on gender stereotypes in the context of technology ventures in equity crowdfunding. Drawing on signaling and gender role congruity theory, we hypothesize that quality signals have different effects depending on whether they are sent by male or female entrepreneurs. Results taken from a sample of 263 equity crowdfunding campaigns run by technology ventures confirm our hypotheses. In line with gender stereotypes, management experience is beneficial for male entrepreneurs but detrimental for female entrepreneurs. Interestingly, media coverage as a third-party signal has the oppositive effect, being more effective for female entrepreneurs.

Promoting cross-border investing by business angels in the European Union

ABSTRACT The supply of entrepreneurial finance in Europe is constrained by the geographical fragmentation of its capital market. The need to facilitate more cross-border investing by business angels – the main source of early stage finance – is recognized. A study of business angels on the island of Ireland identifies three constraints on cross-border investing: (1) lack of information on cross-border investment opportunities; (2) the preference of angels to invest locally; and (3) tax incentives that are only available for investments in the angel’s own country. Increasing cross-border investment requires mechanisms that build relationships between business angels in different countries.

The Spatial Distribution of High Growth Entrepreneurship: Generative Mechanisms of Heavy Tails

Why does a disproportionate amount of high-growth entrepreneurship concentrate in a small number of geographical areas? Our research question is motivated by the heavy tails in the frequency-size distributions of high-growth entrepreneurship—the number of early-stage financing rounds, acquisitions among firms that received early-stage financing, and initial public offerings (IPOs)—in a metropolitan or micropolitan statistical area (MSA). The heavy tails could result from either of two distinct processes, but the existing research on entrepreneurship and agglomeration cannot tell the two processes apart. In this paper, we apply technical advances from complexity science and analyze which process is the more likely generative mechanism for the observed heavy tails. Using data from Crunchbase, our analysis covers 129,949 financing rounds of 58,517 unique firms across 657 MSAs, 10,145 acquisitions, and 4,614 IPOs. We find the multiplicative process to be the more likely mechanism, compared to the rich-get-richer process, which has been posited in the literature as a driver of regional advantage. For research, our finding changes the way we theorize and study agglomeration and entrepreneurship. For government policy, our research enhances the efficacy of interventions—in the form of tax breaks, business incubators, or grants aiming to stimulate entrepreneurial activity, spur innovation and create new jobs—by revealing the generative mechanism for the emergence of a region’s advantage in high-growth entrepreneurship. For entrepreneurs, our research informs whether and how the choice of where to locate the start-ups may have implications for the likelihood of obtaining early-stage financing, becoming acquired, and going public.

Angels and Demons: The Negative Effect of Employees' Angel Investments on Corporate Innovation

A firm's economic value of patents decreases by 3.3% - 5% when its employees are investing their personal wealth in start-ups. We refer to such angel investors employed at public corporations as angel employees. We establish causality with matching and instrumental variable regressions, which rely on quasi-exogenous competition in the early-stage financing market. The negative relationship is stronger for angel employees in innovation-related roles, if the linked start-ups are more time consuming, and for exploratory patents. Start-ups financed by angel employees are more likely to successfully exit. Our results indicate that angel employees divert time and effort from their employers to their personal start-up investments. Overall, we highlight unexplored negative effects of angel investors in our economy.