What I Learnt by Looking at 5 Different Sources of Venture Capital
Entrepreneurs: Know Thy Investor
A Sidewinder Called Disruption
The “Lima” or the AIM-9L popularly known as the first “all-aspect” Sidewinder missile was an air-to-air missile capable of attacking it’s target from all directions. It was first used in the Gulf of Sidra in 1981. The British used the Sidewinder in 1982 against Argentina in the Falklands war with a kill ratio of approximately 80%. The most notable distinction of the Sidewinder at the time was that the opponent had no evasive action to confront it leading to a complete lack of defense in combat situations.
Eric Ries, in 2011, in the epilogue of his book “The Lean Startup” called for the creation of a Long Term Stock Exchange (LTSE) which is devoid of quarterly cycles of panic attacks in the form of earnings and called for an exchange that allows entrepreneurs to focus on the long term and not the short term. Today, Eric is in talks with the SEC to begin an application to create the LTSE.
So far, while FinTech has not been a complete sidewinder to the financial services industry, it has certainly torpedoed the processes by which the business of financial services is conducted. From four factor authentication to Ethereum based digital contracts, there is a complete overhaul of the plumbing used to deliver financial services to clients.
There has always been a comparison of FinTech players with banks but just like a Sidewinder, technology affects finance from all directions including but not limited to Capital Markets. Three factors i.e.regulations (JOBS act), economic incentives (profit vs. strategic fit) and technology (new platforms such as NASDAQ’s Private Markets) have accelerated the evolution of Venture Capital.
Capital 2.0
“At this moment in financial services, the need for technology is increasing at a breathless pace, for if you ask about the state of our industry today, the answer is that we are in the midst of a revolution.” – Adena Friedman , CEO, NASDAQ
In addition to being the first woman CEO of a stock exchange, Adena is perhaps one of the most prominent industry insiders trying to keep pace and in some cases outpace the technology revolution that is disrupting financial services.
It is truly history repeating itself considering the NASDAQ actually automated the trading floor that NYSE had. Born in 1971, NASDAQ (National Association of Security Dealers Automated Quotations) was the worlds first electronic stock market.
Today, NASDAQ Private Markets is allowing entrepreneurs to stay private longer until they are ready to list.
Corporate Venture Capital
CVC refers to the investment of corporate funds directly in external start-up companies ( HBR — Making Sense of Corporate Venture Capital, 2002)
Corporate Venture Capital (CVC) is hardly a new phenomenon. It’s history begins with DuPont investing in a 6 year old automobile company General Motors (GM)
Usually , CVC investment is assumed to be a strategic buy in that it fits with the business investing in it. In the short run, the business can unlock synergies resulting from the acquisition and utilize the intellectual property to give the acquirer a strategic advantage. Pierre DuPont’s investment in GM was a mix of strategic fit and financial goals. However, you can also have investors such as Microsoft take as little as 1.6% of a stake in Facebook.
CVC investments have been cyclical but are picking back up again. CVC received a boost when Google initiated its own VC in 2008 called Google Ventures. The total number of CVC groups has steadily increased since 2011.
CVC can have different incentives/motivation to invest in startups. Obviously, strategic fit and financial incentives top the list. But, you could have corporates invest in causes they support or to foster the growth and development of certain startups or to simply keep a tab on potential disruptive technologies.
Typically, corporates utilize a framework very similar to the one below to evaluate and manage VC investments (HBR, 2002):
Entrepreneurs should not judge CVC’s simply based on two objectives but should rather adopt a nuanced approach to this type of investor. Although it has been criticized, CVC activity will continue to grow and it would be wise for entrepreneurs to watch this space:
Government Venture Capital
Governments across the world are getting into the VC arena driven by a different set of incentives i.e. promoting economic growth across earmarked sectors.
GovTech
While GovTech is not a government , it is the first fund entirely focused on technology that improves government
Founded by ex-angel investor Ron Bouganim, Its mission as documented on it’s website reads: “We harness the power of transformers,technology, and capital to help government become more efficient, responsive, and better able to serve society”
China
“The Hubei provincial government is armed with 547 billion yuan ($81 billion) earmarked for investments that can diversify a job base dependent on steel, mining and cars. And the bureaucrats in the heartland region along the Yangtze River are letting professionals do the work — allocating the money to investment houses Sequoia Capital LLP, TCL Capital and CBC Capital” — (Bloomberg, “China’s Local Governments Are Getting Into Venture Capital”, October 20, 2016)
The Chinese government, in addition to slowing growth and declining exports is also pivoting the country towards organic or domestic demand led growth. There are approximately 780 local government funds that are vying to fund the next Alibaba.
India
Ministry of Commerce and Industry in India has set up a Rupees 10,000 CRORE FUND for investment into startups through Alternate Investment Funds, Rupees 2,000 CRORE CREDIT guarantee fund for startups in addition to providing tax incentives, training and education, references to incubators and other benefits to boost entrepreneurial activity in India.
State Funds
As per Bloomberg, Government-backed VC funding also is being tried in such U.S. states as New York, Illinois and Minnesota, and in Europe.
Crowd Funding
In addition to Kickstarter, Indiegogo, Amazon Launch Pad, platforms such as Fundable (fundable.com) provide crowdfunding for small businesses. There is a burgeoning global middle class which will have approximately USD 35 trillion of spending power (most of it in Asia). It would be really interesting to see the youth of a nation financing young entrepreneurs.
NASDAQ Private Markets
When Adena was questioned in an interview about NASDAQ Private Markets, she replied:
“Every company has a life cycle. Some of those life cycles might be that they remain private for a really long time before they tap the public market”
NASDAQ Private Market (NPM) is an American SaaS company that provides transaction software to private companies and investment funds looking to do tender offers or share buybacks (source:wiki). NASDAQ purchased SecondMarket which was founded in 2004 by Barry Silbert and renamed it to Private Market.
NPM offers structured liquidity programs & private placements of shares to enable entrepreneurs remain private longer.
To Sum Up
Steve Blank (Lean Startup pioneer and silicon valley legend) made a stark choice of words recently when he called Venture Capital “a liquidity Ponzi scheme” and warned investors “…the minute you take money from someone else, their business model become your business model”.
While entrepreneurs can always choose to head to traditional VC’s or tap friends, family, angel or early stage VC firms, they also have an option to search for other forms of Venture Capital i.e. ones that could be more aligned to their incentives / motivations.
The purpose of this article was to outline a plethora of options that are now available to entrepreneurs. Also, the idea is to continue adding other sources as capital markets and VC funding evolves.The next wave of investments especially in the United States could very well be Chinese corporations.
Economic growth needs entrepreneurs and entrepreneurs need the right kind of capital. In a game where investors and startups have differing and sometimes shifting incentives, let’s hope there is always a Nash equilibrium or at least an outcome that is Pareto optimal.
