What is, and is not, crowdfunding

One of the challenges of crowdfunding is explaining what it is, and what it isn’t. Plenty of people get the general idea, but stumble when thinking about how it might work or which types of businesses might benefit from mass micro-investments.

Crowdfunding is not a group of gray-haired, starched-shirt guys sitting around a mahogany table saying things like, “James, this wind farm plan sounds like a splendid idea. Just splendid.” If it requires multi-millions of cap ex, needs rich stiffs to finance it, or displays some perfectly coherent investment thesis, then it might be suitable for  venture capital, banks, etc.

Crowdfunding resembles something like a bunch dreamers, tradesmen, enthusiasts, and real-estate savvy types sitting around coffee when one says to the other, “this neighborhood is growing so fast that if we gut rehab that building and get it zoned for retail on the first floor with work/live condos above it . . . where do we find co-investors to buy the property?” A few real estate businesses, such as FundRise, are already at work in this territory.

Crowdfunding is opportunistic, sometimes messy,  and not “monumental” or “world-changing” in the way the internal combustion engine or  polio vaccine was. It almost certainly won’t be used for financing anything as far-reaching as Amazon.com or as powerful as Google. Those types of businesses have little problem catching the eye of sophisticated angel and VC groups if they need outside investors.

Who has a list of the likely areas in which crowdfunding will take hold? Fire away.


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A Tidal Wave of Capital Approaches

One of the oft-repeated concerns among professional investors about crowdfunding is that abundance ruins markets, or more precisely, that too much money chasing too few worthy business opportunities hurts everybody.  Herd-style investing, chasing the next hot venture, weakened investor protections, inflated business valuations, and more will depress returns to investors and spoil private equity in general.

Will crowdfunding upset the private equity apple cart? Might a tsunami of new money flood the world of early stage businesses ? We won’t know for sure until some time after the SEC issues crowdfunding rules in early 2013, but it might be instructive to see what some prominent investors are saying before the crowdfunding effect is felt.

Kevin Hartz makes a scarcity-of-resources argument in Wired to explain his withdrawal from angel investing, stating that there are simply too few businesses to match with too many investors.  Awash in cash, the newly funded businesses are starving for  for software engineers, service providers, and real estate . Fierce competition for resources drives ever higher prices, and the sad end of this movie has a familiar feel to it.

Fred Wilson of Union Square Ventures notes the poor returns of venture capital investing and claims that the industry would benefit by shrinking its asset base . . . by half. In lieu of radical weight-loss, he says,

If these crowdfunding markets really do develop into these vibrant markets… maybe the answer is to leverage that capital and do something interesting there as opposed to going out and raising money from the institutions. A possible model could be a scenario in which a VC spots an interesting deal in the crowfunding market and offers to sponsor the deal with one-tenth of a $1 million round, he said, potentially making it easier  for the startup to raise the remaining $900,000. The hypothetical VC could also join the board and get added equity for the expertise.

It seems that the future of angel and venture capital investing is primed for change due to crowdfunding, but much of the new world order remains unknown. To echo the old Chinese curse, “may you live in interesting times.”

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