Crowdfunding sites are popping up like mushrooms – or like social networking sites in the 2004-2007 era.
I don’t think it will consolidate down to quite such a small end list as social networking, but it will be pretty close. Network effects businesses always tend towards a winner takes all result.
Regulatory barriers by country may slow this consolidation. However, I suspect that America will set the regulatory benchmark and that countries will either be ahead or behind that benchmark temporarily.
Networking sites don’t usually grow via big acquisitions. For the winners, that happens organically and virally.Networking sites buy bolt-ons to accelerate technology feature deployment, but those are typically small acquire-hires. So, I don’t see this as a market where the geographic clone game works.
However there is room for different models. Even in social networking, after brutal consolidation, we have Facebook and LinkedIn and Twitter. Crowdfunding is a complex business where devil lurks in details, so one size won’t fit many people.
Today I see 6 fundamental models:
- Perks and products. Kickstarter and Indiegogo rule and it is hard to see any new entrants getting traction. The Oculus deal, where the founders got $2.4m without any dilution, was a game-changer that many entrepreneurs want to copy.
- Matching sites where the investor pays. AngelList rules and I think they have nailed the model through incentivizing the lead investor. They are weak outside America for now, but methinks this is temporary.
- Matching sites where the entrepreneur pays. This is the norm in Europe today, because historically Europe has had a shortage of early stage capital. There is room for both models, but with the rapid growth of early stage money in Europe I think we will see the Angel List model take hold. However while this is true for high trajectory/high risk startups, the entrepreneur pays model may work in the much larger market of traditional “butcher, baker and candle-stick maker” businesses.
- Private Deal Rooms. These are less to do with discovery and matching and more to do with deal facilitation between parties that already know each other. These have to be functionally rich and they are less subject to network effects; so I expect these will be acquired by the network winners.
- Private Debt Marketplaces. I have covered this in other posts, so nothing to add except that both entrepreneurs and investors weigh both debt and equity options, so I see debt as part of the crowdfunding landscape.
- Virtual Currency. Something like Ethereum’s $14m raise for seed stage technology may be a one of a kind event. However I expect to see more innovation in this area.
The poker mantra is:
“If you don’t know who the sucker at the table is, it is probably you.”
Crowdfunding today is too focused on FOMO (Fear Of Missing Out). You read about the latest billion dollar round or hot IPO and then see something that looks vaguely similar where you can buy in really cheaply.
The answer to democratizing equity markets is to use XBRL to make small cap public stocks more accessible. It is not to drive investors to be the suckers in the early stage investing game.
The early stage math is merciless. 90% of startups fail. So you invest in enough that you will get the one rocket ship that gets to $ billion exit. That is how VCs work, why not do the same? That math just gets more merciless. Out of the 10% that do NOT fail, 90% of those won’t get to that $ billion exit. So you have to invest in a lot of Wonka bars to get a shot at the one golden ticket.
When you do get that one golden ticket, new problems start. The big money that comes in at that point has no obligation to look after your needs. You get crammed down, unless you can write really big checks at nose bleed valuations. Not all of those big nose-bleed valuation rounds turn into actual exits at valuations above the last round. Suddenly, what started as a low cost bet on the future becomes a big investment.
There is one crowdfunding model that looks good to me and that is Angel List. The idea of just following a star investor makes sense. You can select stars by domain, so that you get some sector diversity. If you can see that Investor X has a great Track Record in Sector Y, you can invest alongside Investor X. You might even find that you really know Sector Z and become a lead in that market.
Angel List is a game-changer because it focusses on remunerating the lead investor. Finding the lead is the whole game for entrepreneurs – lots of investors who are interested in being followers is just a time suck.
Angel List works for the Lead because they get paid like a VC without the hassle of raising and managing a VC fund. It works for the Backers (investors who Follow) because the difference between a good deal and a bad deal is massive at the early stage (like the difference between losing 100% and gaining 10x), so following somebody who knows what they are doing is the only smart way to invest. That is not true in public markets where the difference between say IBM or HP as an investment is fairly minor.
So, while I think most crowdfunding is for suckers, I think Angel List is onto a winner and that they could change the early stage investing landscape.