What role does angel finance play in the early-stage capital market? Job Market Paper

Despite anecdotal evidence connecting angel and venture capital (VC) financing, there is little systematic evidence on how the two early-stage capital sources interact. To study this topic, I assemble the first comprehensive dataset on angel financing and characterize its size, scope, and role in the early-stage capital market. I use the population of newly incorporated startups located in California, the largest VC financing state in the United States. Here, the angel capital market is large: approximately 4% of all startups receive angel financing within three years of incorporation. At least five times as many startups receive financing from angels as from VCs in the VC-active industries. Using local individual income as an instrument for angel financing at the zip code level, I show that angels play both supportive and competitive roles in relation to VCs. Angel financing leads to more VC follow-on financing over firms’ life cycles (complement), while it crowds out VC financing from the initial financing round (substitute). My results demonstrate the explicit role of angel financing in the early-stage capital market. ∗California Institute of Technology, email: [email protected]. I am deeply grateful to Michael Ewens, Jean-Laurent Rosenthal, and Richard Roll for their invaluable guidance and encouragement. I thank seminar participants at Caltech for extremely helpful comments and suggestions. I am also grateful for funding provided by the Linde Institute Research Grant at Caltech.