Scott Shane

A business angel is a person who provides capital from his own funds to a private business owned and operated by another person who is neither a friend nor a family member.

The typical angel is often described as an older, wealthy, retired, experienced entrepreneur who regularly makes large, sophisticated, equity investments in other people’s high growth start-ups. While a few angels and their investments look like this, most do not.

• Most angels aren’t wealthy; the majority of them are unaccredited investors.

• Few angels are retired; about two-thirds are still working full or part time.

• Most angels aren’t old; the odds that a person makes an angel investment peaks at between 45 and 54 years of age. read more

Sorry, entrepreneurs, the economy is not good.

You can’t do anything about that. But you can do some things to help your business weather the storm. Here are five suggestions:

1. Take advantage of decreasing costs. If you run a business, you don’t just have customers; you have suppliers too. If demand is decreasing for your product, chances are that your suppliers are facing slackening demand too. So you can take advantage of the current situation to strike better deals with your suppliers.

2. Provide more value to customers. When you start losing customers, the natural response is to cut prices to keep them. Price cuts stimulate demand, but they aren’t the best way to deal with declining demand. If you cut prices to try to preserve sales, your competitors are likely to follow your lead, leaving you with lower revenue and a still declining customer base. A better response to wavering demand is to provide extra value to customers. This will help you to maintain your customer base in a way that is harder for your competitors to copy.

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One of the most important things you will do as an entrepreneur is to raise the money you need to finance your new business. Unfortunately, there are a lot of myths about financing new businesses.

Below I outline a few of the myths and point out the realities:

Myth 1: You need a lot of capital to start a new business — Not true. The typical start-up only requires about $25,000 to get going. Many entrepreneurs keep the cost of financing a new business down by designing their businesses to work with little cash. They borrow instead of paying for things. They rent instead of buy. And they turn fixed costs into variable costs by, say, paying people commissions instead of salaries.

Myth 2: You are likely to raise money from someone else — Maybe. But if you do, you are in the minority. Even in studies of businesses as much as eight years old, the majority of businesses received no money from anyone other than the founders. And for brand new businesses, a relatively small percentage are able to get money from venture capitalists, business angels, banks, trade creditors, friends and family combined.

Myth 3: Your personal credit doesn’t matter; it’s the business borrowing the money — Not true. Very few entrepreneurs can obtain capital on the basis of their business ideas alone. Almost two-thirds of founders use personal debt to finance their businesses. And about half of the founders of sole proprietorships less than five years old personally guarantee the debts of their businesses.

Myth 4: Venture capitalists are a good place to go for start-up money – Not unless you start a computer or biotech company. Computer hardware and software, semiconductors, communication, and biotechnology account for 81 percent of all venture capital dollars, and 72 percent of the companies that got VC money over the past 15 or so years. VCs only fund about 3,000 companies per year and only about one quarter of those companies are in the seed or start-up stage. In fact, the odds that a start-up company will get VC money are about 1 in 4,000. That’s worse than the odds that you will die from a fall in the shower. read more

Recently, there has been some discussion about whether the credit crisis is helping or hurting venture capitalists.

The argument that it is helping holds that the credit crisis has made returns from venture capital investments more favorable than returns from other types of private equity. The high returns to private equity in the past few years were driven by inexpensive credit so taking away that cheap credit has brought private equity returns back into line with other investments.

Maybe. But I’m not so sure that the credit crisis is helping venture capitalists. There are several reasons to think not.

1. Exit through M&A: The main exit route for venture capitalists is through acquisition of the start-ups they fund. While some acquirers of start-ups use cash to buy companies, others use their stock or raise debt to fund acquisitions. With the stock markets in turmoil, it’s harder for companies to purchase other companies with stock (which might drop in value). And with credit getting more expensive, borrowing to purchase companies is getting more costly. So at the margin, there are probably fewer buyers of VC-backed start-ups and those buyers who remain are likely to pay less for companies, lowering VCs’ returns.

2. IPO Drought: In a recent survey of 660 VCs conducted by the National Venture Capital Association (PDF), 64 percent attributed the IPO drought, at least in part, to the credit crunch/mortgage crisis. IPOs are less in demand if investors’ appetite for risk decreases, as it appears to have done recently. They are also less attractive if the stock market is falling or gyrating all over the place, as it has been. read more

Over the past couple of weeks, I’ve spoken to a lot of reporters about what the troubles in the credit markets might be doing to small businesses in the United States. While it’s easy to answer their questions based on anecdotal information, it’s tougher to do it on the basis of statistics. By the time most government statistics will be available to answer their questions, the reporters will be interested in something else.

To try to get some statistical data to answer their questions, I decided to take a look at peer-to-peer lending. Peer-to-peer lending gets at part of the effect of the credit markets on small businesses because some entrepreneurs borrow money from other individuals to finance their businesses.

Using data from Eric’s Credit Community, I charted the 30 day moving average of interest rates charged by lenders on Prosper.com for AA (the best credit rating) and HR (the worst credit rating). In an ideal world, the sites that track peer-to-peer lending would break out the business borrowers from the rest so I could look at just them, but they don’t. So I looked at the overall numbers.

The graph I created on September 20, 2008 is below.

Click for larger chart

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The industry in which you start your company has a large effect on your performance as an entrepreneur.

It affects the odds that your business will survive over time, its sales growth, and its profitability. So choosing an industry is one of the most important decisions you will make as an entrepreneur.

Research on the performance of start-up companies reveals two important patterns. First, the performance of new businesses increases with the number of years of industry experience that entrepreneurs have. Therefore, you should start your business in an industry that you know well.

But there’s a problem with this piece of advice alone. Some industries are better than others for start-ups. We have a lot of evidence that start-ups do better:

• in young industries where all your competitors aren’t ahead of you on the learning curve;
• businesses that don’t take a lot of capital, which is difficult for new companies to raise; and
• industries that are technology intensive, and offer the chance for a change that will undermine the advantages of established companies.

To see where the best chances for entrepreneurs lie, take a look at the two-by-two matrix below.

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