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Handbook of Research on Venture Capital

Edited by Hans Landström

This Handbook provides an excellent overview of our knowledge on the various facets of managerial venture capital research. The book opens with a thorough survey of venture capital as a research field; conceptual, theoretical and geographic aspects are explored, and its pioneers revisited. The focus then shifts to the specific environs of venture capital.
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Chapter 14: The Organization of the Informal Venture Capital Market

Jeffrey E. Sohl


Jeffrey E. Sohl Introduction In spite of the volume of business angel investing, the early stage equity market is fraught with inefficiencies. For firms with established financial records and tangible assets, financial markets supply an extensive assortment of financing instruments. These markets are relatively accessible and the owner is left to decide the optimum mix of a financial structure based on the cost of capital (Brophy, 1997). However, the high growth entrepreneurial firm seeking early stage equity capital is faced with significant problems in finding this risk capital due to the inefficiency of the early stage equity market. Thus, the type of early stage financing required by high growth entrepreneurial firms, namely high risk equity capital, is not readily available. While variations in the availability of early stage capital exist across countries, and regionally within countries, overall there is a persistent lack of high risk capital for entrepreneurial ventures (Riding and Short, 1987; Gaston, 1989; Mason and Harrison, 1992; Harrison and Mason, 1993; Landström, 1993; Freear et al., 1994a). Business angels, who collectively comprise the informal venture capital market, are the major supply of early stage equity capital, and improvements in the efficiency of this market will increase both the size and the accessibility of early stage equity capital. There are three main reasons for the inefficiencies, and thus the lack of early stage capital, in the informal venture capital market. First is the invisibility of business angels, second, the high search costs...

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