Crowdfunding is Great, But is it Right For Startups?(bostinno.com)
bostinno.com
Crowdfunding is Great, But is it Right For Startups?
http://bostinno.com/2012/02/09/crowdfunding-is-great-but-is-it-right-for-startups/
22 comments
So creating a fund that has a clear investment strategy of investing in a particular startup. How about creating mutual funds that invest in startups in general. It'd allow for diversification of multiple startups and give founders one concentrated voice. That way retail investors can get exposure to startups as venture funds are beyond this investor class.
Venture Capitalists are basically mutual funds that invest in startups. The y get most of their investment from pension funds who are investing for a large chunk of Americans.
I guess I was looking to see if there could be a more direct approach to it. Your pension fund invests in multiple assets classes and in multiple industries because of diversification. With a mutual fund that strictly invests in startups individuals with small amounts of money could gain access to the startup market in a direct way but still with professional money management. It essentially would be a VC fund composed of retail investors where traditional VC funds are composed of institutional (pension funds, etc) and high net worth individuals.
I don't know if you will ever see this response because I took so long to write it but you do have a point. The casual investor cannot invest in venture funds. One problem with funds like this is that they could end up going to zero if they miss everything or could invest in businesses which are not sound to help their friends.
In an effort to prevent this type of mistreatment of investors it is harder for them to raise money from individuals. In my opinion, the returns to VC firms on the average (not just the home runs) are not worth the potential losses.
But, the reverse argument could certainly be made and it will be an issue that I'm sure is discussed long in to the future.
*One area that most people are not aware exists is the area of fund manager vetting and analysis. This is mostly done by institutional investors and is something the average retail investor would have a lot of difficulty with.
In an effort to prevent this type of mistreatment of investors it is harder for them to raise money from individuals. In my opinion, the returns to VC firms on the average (not just the home runs) are not worth the potential losses.
But, the reverse argument could certainly be made and it will be an issue that I'm sure is discussed long in to the future.
*One area that most people are not aware exists is the area of fund manager vetting and analysis. This is mostly done by institutional investors and is something the average retail investor would have a lot of difficulty with.
It seems like of course you should be able to do this, but the article brings up some valid concerns. Still, I think it's a bit condescending to say to people we're just protecting you when most of us understand the risks involved with a startup. Most aren't Facebook. Most are the company you never heard of because it failed after 6 months.
"...most of us understand the risks involved with a startup."
With all due respect, I think that's a dangerously optimistic assumption. If anything, the tech bubble of the '90s showed us that most people clearly do not understand the risks involved. (And that was with publicly disclosed companies!). Even some ostensibly very sophisticated people, like Wall Street traders and bankers, were unable to parse the tech landscape back then -- to say nothing of the legions of retail investors who jumped into the fray.
I think there needs to be a give and take here. If we're going to allow retail investment in private companies, then private companies who open their shares to secondary retail markets should have to have some sort of public disclosure of financials, performance, and trading volume[1]. You really can't have one without the other, or else you're inviting speculative bubbles and other such clusterfucks. I can almost guarantee you that 9 out of every 10 retail investors in America would blindly -- blindly -- leap into startup speculating. The results wouldn't be pretty.
[1]Thereby blurring the line between public and private, but that's a whole different can of worms.
With all due respect, I think that's a dangerously optimistic assumption. If anything, the tech bubble of the '90s showed us that most people clearly do not understand the risks involved. (And that was with publicly disclosed companies!). Even some ostensibly very sophisticated people, like Wall Street traders and bankers, were unable to parse the tech landscape back then -- to say nothing of the legions of retail investors who jumped into the fray.
I think there needs to be a give and take here. If we're going to allow retail investment in private companies, then private companies who open their shares to secondary retail markets should have to have some sort of public disclosure of financials, performance, and trading volume[1]. You really can't have one without the other, or else you're inviting speculative bubbles and other such clusterfucks. I can almost guarantee you that 9 out of every 10 retail investors in America would blindly -- blindly -- leap into startup speculating. The results wouldn't be pretty.
[1]Thereby blurring the line between public and private, but that's a whole different can of worms.
Understanding the risks and ignoring the risks are two entirely different things... The current law basically says that anyone without $1 million and $200k in the bank is too stupid to invest in a startup but someone with that money is smart enough to. If they don't have to make those disclosures to people with lots of money now, why should they have to make them if they're crowdfunded (where people actually stand to lose less because the risk is spread over a larger pool)? I could see an argument for making those disclosures even with the system as it is now, but that argument is something entirely separate from the crowdfunding argument.
Edit: It seems I missed your "can of worms" comment. I guess I just really don't like the fact that the US govt has and is continuing to treat its citizens like they're mentally incapacitated. Now a lot of us do behave that way, but I don't think it's the government's place to try to change that behavior. The market will do that when they lose their money. If they don't learn their lesson, that's their own problem.
Edit: It seems I missed your "can of worms" comment. I guess I just really don't like the fact that the US govt has and is continuing to treat its citizens like they're mentally incapacitated. Now a lot of us do behave that way, but I don't think it's the government's place to try to change that behavior. The market will do that when they lose their money. If they don't learn their lesson, that's their own problem.
"but that argument is something entirely separate from the crowdfunding argument."
True, but I'm actually less worried about the danger to individual retail investors, and more worried about the externalities to the system imposed by a mass influx of speculative crowdfunding -- externalities that can easily wipe out the retail investors, even if their losses aren't concentrated too heavily in any one company.
"The current law basically says that anyone without $1 million and $200k in the bank is too stupid to invest in a startup but someone with that money is smart enough to."
There are two ways to look at the meaning of the current law. The first is that yes, the law views net worth as a proxy for sophistication, and therefore those without high net worth are deemed "too stupid" to invest in private companies. The second interpretation is that those with net worth in excess of $1 million (or whichever benchmark we choose) are capable of absorbing speculative losses, while others are not.
I agree with you that crowd-pooling gets around this issue, and it's interesting in that respect. But I still think it opens the door to too many unintended consequences.
True, but I'm actually less worried about the danger to individual retail investors, and more worried about the externalities to the system imposed by a mass influx of speculative crowdfunding -- externalities that can easily wipe out the retail investors, even if their losses aren't concentrated too heavily in any one company.
"The current law basically says that anyone without $1 million and $200k in the bank is too stupid to invest in a startup but someone with that money is smart enough to."
There are two ways to look at the meaning of the current law. The first is that yes, the law views net worth as a proxy for sophistication, and therefore those without high net worth are deemed "too stupid" to invest in private companies. The second interpretation is that those with net worth in excess of $1 million (or whichever benchmark we choose) are capable of absorbing speculative losses, while others are not.
I agree with you that crowd-pooling gets around this issue, and it's interesting in that respect. But I still think it opens the door to too many unintended consequences.
I agree with what you're saying, but in thinking about this we can also have crowd funding without implying an equity stake in the company. Diaspora, the Facebook alternative started by some young NYU grads a couple of years ago, got off the ground with $10,000 in crowd funding without any equity stakes being sold. People did it because they wanted to support the idea. I think this is probably true about most crowd funded projects whether it's the arts or someone's cross-country trip.
When you do the math on $10 in Facebook stock at founding vs. what it's worth now, you find out that you could have invested in 20,000 startups and even if every single one of them failed except for Facebook, you would have lost NO money. The risk is non-existent. It's a fear tactic.
True, but the chance of having picked Facebook is about 0, and there is no second Facebook, which makes your math void.
Actually that's flat out wrong.
2011- 1,100 seeded startups. 2004- Year Facebook formed. 2012-Facebook's valuation: est. $100 billion.
If you say that 1,100 companies are seeded a year (which is not true, only 885 in 2009, 850 in 2008) and multiply that by 8 years (2004-2012), you get 8,800 startups to invest in. So EVEN IF 8,799 of those companies failed, if you invested in every single one you'ld have a 250% return in 8 years during a down market. That's amazing.
But those 8,799 didn't fail. If 1% succeeded you'ld have 88 companies still left in your portfolio IN ADDITION to your Facebook stock.
This is why we need crowdfunding so badly. Without it, wealth is pumped to people who have so much wealth that they can't spend it all. With crowdfunding, capitalism works to spread that money around to people who can spend all of it. We're talking an explosion of wealth in this country and it wasn't from some stupid government debt plan.
2011- 1,100 seeded startups. 2004- Year Facebook formed. 2012-Facebook's valuation: est. $100 billion.
If you say that 1,100 companies are seeded a year (which is not true, only 885 in 2009, 850 in 2008) and multiply that by 8 years (2004-2012), you get 8,800 startups to invest in. So EVEN IF 8,799 of those companies failed, if you invested in every single one you'ld have a 250% return in 8 years during a down market. That's amazing.
But those 8,799 didn't fail. If 1% succeeded you'ld have 88 companies still left in your portfolio IN ADDITION to your Facebook stock.
This is why we need crowdfunding so badly. Without it, wealth is pumped to people who have so much wealth that they can't spend it all. With crowdfunding, capitalism works to spread that money around to people who can spend all of it. We're talking an explosion of wealth in this country and it wasn't from some stupid government debt plan.
Seed numbers: http://techcrunch.com/2011/11/09/crunchcrunch/
You're right that there won't be another Facebook. Just as there hasn't been another Microsoft or Google. But thinking that there isn't going to be anymore large up and coming companies that change the competitive landscape is false. It'd be like saying in the 1800's that now that railways have drastically changed everything there won't be any new railways game changers. There wasn't much development/change in railways, but it was something new called airplanes that changed everything.
That's not a given by any means. For all we know, the next big thing is being started by some kid in a dorm room right this minute. I would hate to think it was otherwise and I believe there will always be a new disruptor. Technology marches on and we have not reached the end, not by a long shot.
I am sure there are plenty of us here who might have invested a small amount of money in facebook in 2004-2005, the first time I saw it I was pretty sure it was going to kill myspace.
How is there not a second Facebook? Isn't Facebook the second Google the second Microsoft, etc. ?
Well written article for explaining to someone new the "risks"/rewards of passing crowdfunding legislation.
Sorry, but I'm confused. Historically, wasn't this the whole point of going public?
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Going public is incredibly expensive and is only worth it if you're needing to raise $50million+. A small company therefore doesn't have access to the public markets nor do the public markets have access to the small companies that make this country strong.
Going back to the reputable investment mechanism, I think this is needed not only for investors, but also for startups. No startup company wants to deal with thousands of different ownership voices - its better to have a concentrated voice (e.g. VC fund manager) raising only the largest issues. Rather than encouraging individuals to invest (like Kickstarter), give all individuals the ability to invest in funds created to invest in specific startups (e.g. Turntable fund, Pinterest fund).