This is a guest post by Jeff Lynn, the Chairman of The Coalition for a Digital Economy (Coadec) and Co-Founder and CEO of Seedrs. In this piece he argues that if we want to encourage angel investing in the UK, the discussion in the angel community needs to focus more on the returns investors can achieve.
Last week saw the release of two significant reports on angel investing. In the US, super-angel Ron Conway presented the results of an audit his company, SV Angel, had conducted on the 500+ investments it has made over the past 12 years. Meanwhile, in the UK, Professors Colin Mason and Richard Harrison published an annual report on the state of angel investing in Britain.
At first glance, the differences between these two reports seem mostly about American vs. British style: the Californian Conway laid out his data casually before a TechCrunch conference, while the British professors wrote a formal, 100-page study that was distributed through a government website.
But closer examination shows that there is also a substantive distinction, and it’s a profound one. Whereas Conway’s short talk focused almost entirely on the performance of startups and the returns that angel investors like him have achieved, Mason and Harrison used their 100 pages to talk about every other possible topic—levels and types of investments made, tax incentives, co-investment structures and much else—and made merely one passing, vague reference to how these investments actually worked out.
I think this distinction underlies one of the most significant problems with the UK angel community: the tendency to see angel investing as something that people do for a whole host of reasons other than making a profit. Britain has a long tradition of characterising angel investing as tax efficient, as benefiting from government subsidies, as an opportunity to provide mentorship or help local businesses and so forth, but unlike other types of equity investments, angel investing is very rarely talked about as a way to make capital appreciate over time. There are exceptions, of course, especially in the many individual angels who focus almost entirely on making profits from their investments, but these tend not to be the people who set the tenor of discussion or are responsible for promoting angel investing more broadly. That role is largely taken by government departments, industry organisations like the British Business Angels Association (BBAA) and the sorts of groups that sponsor reports like Mason’s and Harrison’s, and the “official line” that comes from them pays shockingly little attention to returns.
There are two serious problems with ignoring returns. The first is that the average returns from investing in startups are exceptionally good. The main data on returns to UK angels comes from American professor Robert Wiltbank’s 2009 study, Siding with the Angels (which, to its credit, was commissioned in part by the BBAA). Wiltbank shows that startups have been a fantastic asset class over the past decade: while the distribution of returns has naturally been highly non-normal, on average angel investments have produced a 22% internal rate of return (IRR), outperforming not only public equities and property but also venture capital. Other data, including Conway’s audit, tell similar stories elsewhere in the world, and intuition backs it all up: as the costs of creating value continue to decline, agility and adaptability are coming to be far more relevant than scale. This means that, on average, lean, innovative startups are better positioned to generate returns for their investors than are larger companies.
But beyond being wrong, the more unfortunate consequence of failing to focus on returns is that it discourages investment. The hard truth in a capitalist society is that capital chases assets that are likely to appreciate, and where there’s a risk of losing the capital (as is the case in all types of equity, but in particular with startups), the potential for a meaningful upside is crucial. Sure, there will be a few people whose peculiar tax situations in a given year mean that they care more about EIS relief than about how the investment does. And sure, there will always be altruists who want to support businesses in their field or region no matter what the outcome. But these people do not an investor base make.
If we, as members of the “startup community” and more broadly as a society, want to see more money being invested in more UK startups, there’s only one way to do it: make the people who have capital aware of the substantial returns that are available from investing their capital in UK startups, full stop. Lengthy studies on differences in allocations between stages of development or the effect of this government scheme or that are all well and good, but that sort of information should not be a focus. Instead, we need to see more discussion and more data along the lines of Conway’s talk and Professor Wiltbank’s report. Let’s talk about returns.