INVESTOR ANGELS AND FIRST IMPRESSIONS

INVESTOR ANGELS AND FIRST IMPRESSIONS

By: Fernando Cárdenas E.

The recent growth in venture capital investment by venture capital funds and angel investors has generated great expectations among entrepreneurs. Raising millionaire resources seems to have become a more popular and attractive profession than running a business. In an article published in the May 2023 Journal of Financial Economics, professors from the University of Washington and Michigan State use data from Shark Tank and another similar contest to analyze the effects of first impressions on investment decisions and more. important still, in the real results of the companies. Below, I describe its main conclusions and my opinions on the implications for the current reality of our countries.  

The main difficulty in investment decisions in ventures is asymmetric information. That is, the great difference that exists between the information that entrepreneurs have about themselves and their businesses and the information that the investor manages to obtain with reasonable efforts. First impressions can contain useful information for investors to reduce this asymmetry. 

According to the authors and their recent research, the facial features of entrepreneurs help create first impressions that affect investor decisions. In the study, the researchers used the following six traits of entrepreneurs: competence, confidence, honesty, the ability to handle pressure, physical attractiveness and likability. Based on these traits, two components are identified in entrepreneurs. The first component interpreted as a measure of perceived general ability. The second component as the set of traits associated with charm and opposed to management ability.

IMPRESSIONS AND THE PROBABILITY OF RECEIVING INVESTMENT 

Based on these dimensions built from the traits, the researchers first analyze the relationship that exists between the traits of entrepreneurs and the probability that they receive investment from investors. The results show that although there is a positive relationship between the component of perceived general capacity, which represents management capacity, and the decision to invest; investors are also influenced by the charm of entrepreneurs. That is, investors try to identify general management capabilities from their first impressions of entrepreneurs, but entrepreneurs are also capable of affecting investment decisions through their charm. Investment decisions are affected by both components. 

IMPRESSIONS AND THE PROBABILITY OF BUSINESS SUCCESS

The next step in the research is to analyze the relationship between the traits of entrepreneurs in their first impressions and the actual performance of their companies in the long term. The results show that the trait component associated with management ability is positively related to the actual performance of the enterprise. While the component related to the charm of the entrepreneur is negatively related to the performance of the company. This means that investors should be very careful with charming entrepreneurs, since their charm can positively influence their investment decisions, but it is related to worse performance of ventures. 

INVESTOR LEARNING AND EXPERIENCE AND IMPRESSIONS

Third, the research examines whether angel investors improve their ability to select winning companies, mitigating the effect of entrepreneur charm as they gain experience in the investment process. Indeed, the data shows that investors are less seduced by the charms of entrepreneurs and reduce their effects, as they gain experience in the investment process.   

MAIN CONCLUSIONS

The researchers show with data from the practical world of angel investors that appearances matter. However, while these appearances appear to include valuable information for identifying the ventures most likely to be successful, they also include information that can negatively influence investment decisions. At a time in our entrepreneurial ecosystems where it seems that money-raising skills are being given higher priority than business management skills, this issue of properly reading the traits of entrepreneurs is even more relevant. Angel investors should be cautious in their reading of entrepreneurs' first impressions. Value and try to interpret their charms above their ability to manage businesses and be aware that they should, based on learning and experience, try to reduce the effects of these charms on their investment decisions.