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Investment capital: the rise of 'angel' investors

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The venture-capital industry is undergoing its own problems. After peaking at 1,006 in 2006, the number of venture-capital firms had fallen to 791 by 2010, according to the National Venture Capital Association in Arlington, Va. Firms raised less money in the third quarter than in any quarter in the past eight years. And while more dollars remain invested in venture capital in the first nine months of 2011 than in the same period in 2010, investment in seed-stage companies fell by 56 percent from the second to the third quarter, and the number of deals declined by 26 percent.

Of course, angel investing isn't about to replace venture capital. Wealthy individuals can't match the funding from pension funds and university endowments that participate in venture-capital funding. Typical angel funding "rounds are much smaller in size, more like $250,000 to $400,000, compared with, say, a $2 million venture-capital round," points out Mr. Kedrosky.

Angels have other drawbacks. They are "much more fickle" investors than venture capitalists, Kedrosky says. "They have a history of dropping out of sight when times are bad because they're investing their own money."

Some question whether the firms backed by angel investors are efficient job creators.

UNH's Center for Venture Research reports that angel investments accounted for 370,000 new jobs last year – or six jobs per angel investment. But many start-ups aren't staffing up as quickly as in the past, and they're "also adding fewer workers as they grow," according to the Kauffman Foundation.

"Angels are picking up the slack at a time when entrepreneurs can do more with angel financing than ever before," Kedrosky says. With today's technology, you can "now sell your product over the Web and postpone hiring. That's very different from historical patterns when start-ups needed more people from their outset."

"Ultimately, these companies could be job creators, but if they do [create jobs], it will take longer" than it has in the past, he says.

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