The Venture Capital Argument

I was once completely oblivious to the complex web of financial connections and infrastructure that takes place every day within this country. Sadly, it wasn’t until I had completely shipwrecked my finances that I gained an interest in learning how this system works. My business finance course greatly aided me in this endeavor. During the process of that class, the curriculum briefly touched on the idea of an angel investor. I had heard the term thrown around in financial circles before, but I had no real understanding of what this concept meant. To this end, I decided to research what angel investment is and how it works.


What I find to be completely hilarious is the fact that upon typing “angel investment” into my favorite search engine, the first two results that caught my attention were two published articles arguing the exact opposite opinions concerning angel investment. What I found even more amusing was the fact that these articles were from the same web resource, and one of the authors even referenced the other’s work in support of his own opposing argument.

The first article I stumbled upon was written by Wealthfront President and CEO Andy Rachleff. In this article, Mr. Rachleff alleges that angel investors don’t really make any money. He comes to this conclusion based upon his extensive experience in the venture capital business. Mr. Rachleff explains that 3% of venture capital firms create 95% of the venture capital industry’s returns. Due to the scale and financial wherewithal of these corporations, it stands to reason that they would have access to proprietary investment tips and information, as well as many years of experience choosing winning businesses. He goes on to explain that venture capital firms tend to prefer investment opportunities with high technical risk and low market risk. Mr. Rachleff asserts that market risk is what causes companies to fail. This model promotes the idea of searching for companies that are highly likely to succeed if they can actually deliver on what they say they will. But if the business world has taught us anything, it’s that no formula for success is a formula for success. I can almost guarantee that most investors or firms who lost substantial amounts in the market were operating on what they considered to be tried and true techniques,and they certainly didn’t see it coming. In my experience, most large firms minimize their losses by erring on the side of caution. The difference is that their vast resources create a more acceptable margin for risk than that of smaller investment entities. In addition, Mr. Rachleff is strictly comparing large venture capital firms to smaller venture capital firms. This somewhat mitigates his assertion that angel investors don’t make any money. Many angel investors are self-made, and have much more to lose by making bad investments. In addition, they generally have developed skills and instincts that are not present in a typical venture capital firm.

On the opposing side of the argument is Robert Wiltbank; PhD. Mr. Wiltbank is a professor at Willamette University. In addition, he runs an angel investment firm with second year MBA students, as well as being on the board of The Angel Resource Institute. Dr.Wiltbank asserts that angel investors do, in fact, make money. His argument is that most angel investors are seasoned entrepreneurs, and that the character qualities necessary to become independently wealthy through their own efforts give them an edge when it comes to choosing which investment opportunities have the best chances of success. In addition, Dr. Wiltbank asserts that angel investors tend to invest and build companies with a wider variety of strategies than do venture capitalists, thus allowing them to exploit opportunities that are often missed by larger investment entities. Dr. Wiltbank bases his assertions on the recent Kauffman Foundation Angel Returns Study as well as the NESTA Angel Investing Study. The results of these two studies seem to bare out the fact that strategic angel investors actually have a better margin of returns than venture capital firms. Adding to the statistics provided by the above sources is the Angel Resource Institute's quarterly HALO report, which provides information on US investor activity. This report seems to indicate that the diversity and widespread nature of angel investors give them a bit of an edge on the venture capitalists, which tend to be highly localized.

Overall, the running theme that both of these writers seem to agree on is that no investment is a sure thing. Any investment carries a certain amount of risk with it, and investors would do well to research any investment opportunity prior to proceeding.