There has been much chatter on the internet with the recent focus on crowdfunding and associate legislation. The pundits have spoken and some have even gone so far as to say that crowdfunding will destroy angel and VC investing. I think there’s a lot of alarmist sentiment built into there to create hype and obviously a great debate topic, but here are a few reasons that this won’t happen…
The enabling legislation (Whatever you want to call it, McHenry Bill; CROWDFUND; JOBS Act) is not meant to stop angel investors and / or VCs
There is value to be had to befriend angel investors and /or VCs that have significant experience in the industry as well as fantastic connections. But in return for their investment (as they are usually highly concentrated in risk) they will have to demand high equity stakes to compensate for the fact that many companies they invest in do not succeed. So effectively the successful start-up needs to bear the brunt of other unsuccessful start-ups..
If you have been reading the legislation and followed its evolution, the dollar amounts have varied, but the highest amount proposed in any type of legislation was $2.0 million of capital raise only when audited financials were available. I don’t know if many people have gone through the trouble of auditing a company. It’s a pain and does (maybe not in the case of huge investment banks) reflect the financial wherewithal of a company to which I believe that $2.0 million is a fair raise. However, without audited financials the amounts that have been proposed are <= $1.0 million. Yes, $1.0 million is a lot of company, especially one investor or firm has to take that risk. Let’s chop that $1.0 million 5,000 different ways, the risk profile changes significantly doesn’t it? Turns into Return on Change.
Also, $1.0 million raises may add up to a lot of capital raised in the aggregate, but compared to the amount of financing and capital that more developed and or technologically heavy start-ups require, the dollar amounts are actually quite manageable. I don’t want to get into all the list of start-ups that have raised significant amounts of money, well beyond $1.0 million, but you get the picture.
Angel investors and VCs are doing that because they are quite clever
The financial world has recently been wrought with restrictive legislation, reporting and disclosure requirements that have moved financials institutions and investment firms into a much smaller operating arena. And yet they are still in business, albeit in a more restricted state.
The legislation that is passing will be disruptive, but it will be ENABLING.
Financial firms will be able to work around the fact that a small niche of their market may now be in the hands of the masses as opposed to select few. That’s what we wanted to happen isn’t it?
Angel investors and VCs will eventually be able to utilize this as their tools
With this type of new liquidity for start-ups as well as the method by which the investments will occur, angel investors and VCs may be able to actually take risk off the table and hone in on start-ups without having to charge extremely high risk premiums in the form of outsized equity stakes.
So now take a look and tell me if we are causing trouble or perhaps propelling the business world exactly into the future that we wanted to see. The people will speak and invest in the businesses they want to see shape their future. That doesn’t sound like such a bad idea to me.
By Sang Lee