This news was announced the other day, but I wanted to let it ruminate inside me for a bit. Howard Lindzon commented here. Anyone that reads this blog regularly knows that I am a huge fan of individual liberty. I believe anyone ought to be able to do anything they want with their own money-so I never bought into the “accredited investor” thing at the IRS. It always struck me as an odd regulation.
I’d like to see US policy embrace individual liberty in a lot of things. Health care and education are perfect examples. I have never heard anyone say, “I want life to be worse or harder for my child than it was for me.” I believe people are rational, and act in their own best self interest. All their actions summed together create an efficient market that is best for society. Give people freedom of and they will allocate resources and we all will be better off.
I disagree with those that think this will be a big boon to startups. Sure, theoretically it increases potential supply, but I am not convinced there is a massive amount of pent up demand among unaccredited investors to put their money in highly risky startups.
At the same time, does a startup founder want to have to pitch to get a check for $1000 or $500 bucks?
Sure, there is danger in people being ripped off by fraudsters. That exists today. There are plenty of “registered representatives” that rip off their clients with crappy investments. I prefer to err on the side of freedom over fear.
For online crowdfunding platforms, it could potentially increase the amount of investors and throughput. At the margin, that might help. But, I don’t think we are going to see a massive amount of new capital unleashed upon the startup space.
I do think that syndicates could get quite popular. People follow what they perceive to be smart money. If a syndicate starter is extremely transparent about their track record they might be able to attract some capital.
If you are thinking about dipping your toe in the startup pool because you read someone made millions investing in Uber, I have some things for you to think about.
- Investing in startups is highly risky. For every Uber unicorn, there are 100 that don’t work out. 66,000 businesses get funded annually by angels-most don’t make it. VC’s in aggregate fund less than 5000 businesses per year.
- Your money isn’t liquid-meaning you can’t get at it when you want it. Invest today and if the company is successful it’s highly likely you won’t see any distributions for 7-10 years. Don’t invest money you need.
- If you want to do this well, you have to treat it like a job. This isn’t sport. It’s not gambling. Do research. Go to startup events and listen to a lot of pitches. Don’t invest in what is here and now-you have to think ten years ahead. You cannot imagine how hard it is to network and find good deals. They aren’t out there on a silver platter.
- At early stages, you invest in people first. Great people can execute to bring decent ideas to fruition. It’s very, very hard to take an idea and turn it into a for profit business that scales. On Crowdfunding platforms, how do you vet the people?
- Online platforms seem to be herd following. If a respected investor gets in, the crowd follows. But, most the big money is made away from the herd. Being contrarian can get you outsize returns.
- Invest in things you know. Consumer products are things you think you might know, but building a consumer product company is not what you think. The operations and behind the scenes are much more difficult than it looks.
- Potentially, crowdfunding could be used by startups to generate network effects and channel partners on their own platforms. For example, in early days what if Uber were to have taken investment money from it’s drivers? They’d stand to benefit from increasing equity value from Uber, and have a material way to affect the growth.
- Investing in startups isn’t like buying a lotto ticket, although sometimes it sure looks and feels that way.
At the end of the day, cold reality will hit investors. Most startups that exit do so at a valuation of between $20M-$60M. Between the forces of failure, liquidity, time and dilution, the $10,000 or $20,000 you allocate won’t make that much difference in your life financially. You might be better off in the stock market.
The story you hear about the person who put $50,000 in Uber that is worth $120M today is rare. Optimistic investors will distill that down to “if I put $500 in Uber, it would be worth $12M”.
You are better off finding a startup you can work for and building a business-receiving equity in return for your input. Here are some in Chicago that are hiring. I know far more people that have made money by building a business, than people who have made smart investments. By the way, most of the investors I know that invest in startups made their money by building a business first.