Did you ever hear about the entrepreneur who, upon returning from a quick lunch, finds his angel investor sitting in his office? The angel greets him with the question, “Where have you been?” Upon hearing the answer, the angel responds, “I don’t see how you have time for lunch given the fact that last months sales were 3.5% below budget.”

Don’t laugh, it happens more than you think.

Obviously this isn’t exactly what you were expecting when you took your angel’s money. In addition to your angel’s money, you expected him or her to provide advice, contacts, and support, but not unwarranted sarcasm and criticism.

So how do you ensure that your relationship with your angel meets your expectations and your angel’s expectations in a positive and productive way?

The answer is really quite simple: In addition to the legal agreement that covers the exchange of shares for cash, you need a written or unwritten agreement that carefully and thoughtfully sets forth the terms and conditions of your working relationship. Issues to be covered might include:

• Detailed discussion of the contributions you expect from your angel;
• A very clear understanding of how you intend to run the business;
• Type and frequency of shareholder reports;
• Most appropriate forms of communications; and
• How and when the angel might expect repayments or distributions.

If you and your angel are unable to mutually agree on any of the above points as well as other expectations specific to your business, then do not take their money. Find an angel that you can harmoniously live with. It will be more pleasant, productive, and profitable for all concerned.

If you have some stories about dealing with difficult angels, or if you have some tips to share, please leave a comment below!

Do economic cycles of boom and bust affect the number of start-ups? Most analysts have linked entrepreneurial activity to economic growth as though it was a given … and conversely, believed that when recession struck, start-up activity slowed substantially. A recent study by the Ewing Marion Kaufman Foundation concludes that both theories are pure bunk. And as though that bombshell was not enough, the Kaufman study goes on to explode several other theories about what factors stimulate new business formation.

Do start-ups increase in proportion to the availability of venture capital? Nope. Kaufman Foundation researchers Dane Stanler and Paul Kedrosky dispel that myth as well. The authors note that the doubling of start-ups from the period 1960-1978 to the decades since may indeed have been due to the advent of the personal computer and the expansion of the venture capital sector. (One wonders if the baby-boomers coming of age may not have contributed to this step-change as well.) However, the constancy of recent start-up data belies the influence of venture funding. Start-up activity fluctuated by only 3% to 6% each year between 1977 and 2005; but the data shows that venture investment varied by as much as 500% during the same period.

Do tax or bankruptcy law changes, technological advances or entrepreneurship education affect the number of new ventures? No again! The report, Exploring Firm Formation: Why is the Number of New Firms Constant?, also finds no correlation between start-up activity and tax policy or any of these other factors; so much for the theories of our most vocal politicians. Instead it documents the same steady half-million start-ups per year, give or take a 3 to 6 percent. The authors discuss a few possible explanations for the unexpected constancy, some rather arcane, but they do not seem to buy into any of them.

Common sense suggests that certain of the factors discussed in the Kaufman report must have at least some influence on the number of start-ups, even if they do not affect substantially the total for a given year. For example, limited amounts of available venture investment must surely delay some particular start-up decisions. I have been involved in a few such decisions. Similarly, high interest rates and tight credit must also have an effect on many decisions, especially those involving sole proprietorships and mom-and-pop operations. So perhaps a study with greater granularity would reveal that while the total number remains relatively constant, the mix of start-up types changes, maybe even substantially. Perhaps in recessions when venture funding declines, a fall in interest rates turns entrepreneurs toward credit sources. It could also be that more innovation-based entrepreneurs test their business innovations when the economy is booming, and that more laid-off workers start enterprises when unemployment is high during recessions. I suspect that the “mix” of different kinds of start-ups changes a great deal even though the total number may not change much.

The Stangler and Kedrosky study does not encompass the current Great Recession, of course, it is too soon. Yet surely this anomalous economic epoch will surely add some telling figures. The investment portfolios of the wealthy individuals and institutions that comprise the limited partners of venture firms declined substantially since 2007 and venture investment has fallen by 40% or so since then. At the same time, credit tightened historically and unemployment soared into double figures. Will start-up totals for this period continue the constancy that Kaufman reports? And if not, how will it vary? Will the limitations on available capital drive start-up numbers down, or will necessity and cheap assets power them up? Or will past constancy persist despite alterations in the mix? Only a study based on more granular data could reveal that. I doubt that such data is available or could be economically derived, though that information could prove useful to an economy so reliant on small businesses to create jobs.

The MoneyTree report of U.S. venture capital activity for the third quarter was just released by PriceWaterhouseCoopers and the National Venture Capital Association.

The $4.8 billion invested in Q3 is a significant jump from the $4.1 billion in Q2 and $3.3 billion in Q1, but still well off of the $7.1 billion invested during Q3 of last year. The number of deals has remained in the 600 to 700 range each quarter this year, compared to 900 to 1,100 per quarter last year. Clean Tech experienced an 89% increase in Q3 over Q2. As in previous quarters, the four strongest sectors remained biotechnology, industrial/energy (including green tech), software, and medical devices. Very little money – only $633 million – flowed to companies raising venture capital for the first time, down from over $1.5 billion during Q3 of last year.

Meanwhile, several weeks ago, the Center for Venture Research released their analysis of the angel investor market for the first half of 2009. The CVR reported that 24,500 ventures raised capital during this period from 140,200 individual investors. Although the dollars raised fell relative to the first half of 2008, the total number of investments increased slightly.

Combining this data with anecdotal evidence from elsewhere, it’s clear that great opportunities are still finding investors. It’s obviously harder to raise capital than it was before, but I think we all knew that. The keys to funding success haven’t changed much: create a great opportunity with a lot of growth potential, develop as much traction as possible before trying to raise capital, and package the venture in the most compelling way you can when you take it to the investor community. We can help you with that last part.

The Center for Venture Research has published their 2008 report of angel investor activity in the U.S. The report contains both good news and bad news.

• The Good News:  The number of active angel investors in 2008 and the number of deals they invested in remained comparable to 2007. In 2008, a total of 55,480 ventures received angel investment, down only 2.9% from the previous year. The number of active individual angel investors remained steady at 260,500.

• The Bad News:  The total dollars invested in 2008 fell 26.2% to $19.2 billion. This indicates a contraction in average deal size, presumably due to lower valuations.

The six sectors receiving the most angel investment are as follows:

• Healthcare: 16%
• Software: 13%
• Retail: 12%
• Biotech: 11%
• Industrial/Energy: 8%
• Media: 7%

In 2008, 45% of angel investments occurred at the seed or start-up stage. Only 10% of the deals brought to the attention of angel investors succeeded in obtaining an investment.

Note that the study only includes accredited or “sophisticated” angel investors who invest through angel investing groups; the study excludes investment activity by informal “friends and family” investors.

The Business Journal reported some cheerful news for entrepreneurs:

In the second quarter of 2006 alone, fifty venture capital funds raised a total of $11.2 billion — the highest level in five years, Heesen says. Venture capital firms invested $6.3 billion in 856 deals during the past quarter, representing the highest dollar amount invested by VC funds and the most deals signed since the first quarter of 2002.

“The U.S. venture capital industry is in its best period than at any other time in the past 15 years,” Heesen says. “It’s a very stable environment. Funds are not over-investing and there’s not just one hot technology that everyone is running after.”

Perhaps it is true that no single technology is garnering excessive attention. However, “clean-tech,” consisting of businesses in fields like “water purification, solar power, biofuels, materials based on nanotechnology and clean-coal technology,” is starting to break out by raising over a half billion in just one quarter:

Clean-tech businesses received a record $513 million in venture capital in the first quarter, according to the latest figures available from the Cleantech Venture Network. The first quarter saw 67 companies getting financial backing, down from 73 in the fourth quarter of 2005 but up from 49 in the first quarter of 2005.

Furthermore, the National Venture Capital Association reported an increase in seed and early-stage deals, making this a great time for experienced entrepreneurs to get a new venture launched. Let’s see how long this window of opportunity stays open.