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Comment by seibelj | Hacker News Reader

This is anecdotal, but I chatted with a VC for a while at an event and he said their firm will not invest in anyone who did equity crowd funding, on the theory that it signals a weaker company. If they were stronger, they would have raised proper VC.

I think the existing VC investment structures hate the idea of crowdfunded VC as it threatens their model, which is personal connections and an old boys (and girls) network which allows more favorable terms for investors, especially for first-time founders.

I hope that crowdfunding becomes more normal. Not every idea has to have billion dollar potential, which is what most VC's are looking for.

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I was a VC. I think it is mainly that it is a very weak signal. A good VC or a select group of high quality angels does help a company get itself in order, so raising money from a large collection of distant angels tends to be a signal that the quality of the company must be low - as they should have tried to raise from high quality individuals first.

A company with crowdfunding will have to display stronger metrics than a company with strong angels / VCs.

Imagine two companies come to pitch, both are identical in every way. One has crowdfunded a $1M seed, the other got a check from Andreessen Horowitz and the CTO of LinkedIn. Which one do you put your money in? Even the potential deal flow from those individuals helps hedge your bet.

As a side note I think that this relationship of quality and crowdfunding is true (though not always by any means). I have seen fraudulent behaviour by companies misrepresenting their data to a group who are, by a VC's standard, very unsavvy investors. This company was certainly not able to raise money from a VC, but raised two $M+ rounds on a crowd funding site. However, I have also seen good companies who don't have an 'in' to the VC world raise money in this way.

as they should have tried to raise from high quality individuals first.....got a check from Andreessen Horowitz and the CTO of LinkedIn

Exactly the point the parent was making. Those are big time contacts. Somebody outside of the valley now has a chance to get $1MM(!!!!) of seed money for their idea without having to relocate and schmooze and network.

I'm as big a proponent of real world social skills as anyone, but this removes a significant barrier to entry for a lot of would be entrepreneurs.

Also, wouldn't a large number of crowdfunders indicate a better product-market fit?

I actually am torn on the subject. I'm not a VC, but I do invest heavily and regularly track various companies. That being said, I recognize my opinion might mean little, but...

Product-market fit is definitely a good sign a company is on the right track in terms of product. However, 99% of what makes a company successful is execution. A crowd funded campaign on Kickstarter doesn't need to even be possible[1] or it can be completely silly [2]. It doesn't need to show a 100x growth, nor does it need to exist.

On the other hand a VC will do vetting, to make sure the team is right to execute to solve a problem. Let's put it this way:

* A VC invests in a team to solve a problem

* Crowdfunding invests in a product/idea

A VC is a much stronger signal.

[1] https://www.kickstarter.com/projects/gnut/kickstarter-open-s... [2] https://www.kickstarter.com/projects/elanlee/exploding-kitte...

A VC is a much stronger signal.

Well, VC's think so anyway. Given the success rate of VC funds, I'm not sure that's actually true at all.

> A VC is a much stronger signal.

Sure, like all the folks that were in on Color and Clinkle, right?

> * Crowdfunding invests in a product/idea

I would expand this to state that crowdfunding would fund product/idea but not product/idea fit with market.

I dunno, the vetting of SV teams leads to pretty strange signaling behaviour of wannabe startups.

I think this bias is mistaken--because VC's use their network as a filter, it falsely equivocates strong business/strong founder with individuals who landed on a social graph that happened to have VC connections.

Biases like this are market inefficiencies that can provide outsize returns for those who learn to look past it.

In order to fight that bias, a startup would need to turn down a check from a big VC name (Sequoia, a16z, KPCB, Benchmark) and choose crowdfunding.

Until that happens, the implicit assumptions is that the startup tried shopping itself around to first-tier VCs and angels, failed, tried to go to second-tier VCs and angels, failed, so crowdfunding is their last resort.

Alternatively, a crowdfunded startup scorned by VCs needs to make a really nice exit or achieve a very impressive unicorn valuation.

It's basically a filter that tolerates false negatives.

Figuring out a way to create that VC/Angel connection implies abilities and characteristics that they pattern match to past success. There may be high potential teams that cannot pass this filter but will still succeed, but the industry's deal flow is large enough that they are fine with a small number of false negatives since false positives in their portfolio hurt more, especially when you consider VC math needing 100x-1000x return potential from each of their companies.

It's just like the FaceGooAmaSoft hiring filter we're familiar with that is designed to prioritize low false positives at the cost of having a higher false negative. (skilled programmers who aren't interested in the contrived coding quizzes or can't do them well will be a false negative in the hiring process)

>"the industry's deal flow is large enough that they are fine with a small number of false negatives since false positives in their portfolio hurt more"

This is backwards. Funding a company that goes nowhere is far smaller an error than turning down the next SpaceX.

A fund only has 10~20 bets it can make though. That likely influences the human decision making (could still be suboptimal).

Afterall didn't A16Z catch some criticism for not investing a large enough sum into Instagram (which iirc had 500x returns or something) to make a large enough difference to the fund?

A16Z didn't invest more in Instagram because of a portfolio conflict; they had already invested in Picplz, and decided they couldn't continue to back Instagram (which was Brbn, a social check-in app, when they invested).

A costly adherence to their own ethical rules, but it reinforces how seriously Andreessen Horowitz takes portfolio conflict.

source: https://bits.blogs.nytimes.com/2012/04/20/how-andreessen-hor...

True, but is "my buddies' buddies" the smartest filter you can apply to increase the chances of finding a company that can return the fund?

I totally agree. One could argue that one way to view the value proposition of YC from a VC perspective is that they apply a smarter filter than "the buddy system."

I can talk as a startup who took institutional capital. Our investors have been super hands on, board meetings every month, and if I need to talk to them about something or get help with a company problem they are never more than a day or two from being able to give me a few hours.

It's helped a lot. In my mind we are much, much better off for having their guidance and assistance.

If you crowdfund, you aren't getting that. You are weaker relative to the companies that did. Doesn't matter if you were stronger initially, the company that got institutional capital (especially first time founders) is going to have training that gives them a huge edge.

Having been on both sides of the fence, there is no question to me that good institutional capital will make a better team. Smart money goes a long way.

> One has crowdfunded a $1M seed, the other got a check from Andreessen Horowitz and the CTO of LinkedIn. Which one do you put your money in?

If it's a consumer product, probably the former. It means they can market and hustle. If it's an enterprise or B2B product, probably the latter.

Edit: with the caveat that I would only put my money in the former if they have shipped. There's a lot of vaporware in places like Kickstarter and crowdfunding markets. VCs and knowledgeable angels are more likely to be able to see through that (but as we've seen, they're not perfect either).

What happens when the crowd funded company tells you that the cap on their note was 2x that of the A16Z backed one and they chose the route of less dilution at a stage where they were searching for product market fit?

The follow on investors probably want to know why A16Z and other VCs competing with them for deal flow thought they were less valuable than people who hadn't met the founders...

(I mean, "frankly, we wanted the most money for the least equity and if that was dependent on the public having more inflated expectations than VCs so be it" is a perfectly valid answer from the point of view of running a startup, but it's still an adverse signal if the investors most informed about your company at the last investment round were those willing to offer the lowest price for your shares)

I don't really understand this logic. If you are trying to determine which company (all else being equal) is more likely to be successful, would you not take the company that has validation already from a population that is more likely going to be using whatever it is that you are pitching? Essentially you are saying that getting funded by a big name is more indicative of success than consumers who will be using the service/product/etc.

The VC crowd in Silicon Valley prizes themselves as great out of the box thinkers while, in reality, they are intellectually lazy and quite conventional.

Even as a founder I can understand why VCs might be reluctant. Investors accumulate control of a company over each round of funding. This enables them to rest easier that their money isn't going to be mismanaged. The investor-bloc's influence is predicated on the reasonableness of the other investor partners, if they don't see eye to eye then their votes don't have influence. An equity crowd is not a strong partner for the investors. Just the opposite it leaves more control in the hands of the executives because they have the direct communication channel to them.

Historically and empirically, does this VC influence and control result in better-run and more-successful companies?

Crowdfunding nukes VC's downside protection. VC funds invest through preferred stock or convertible debt for its downside-protection features. If that downside protection comes at the expense of unaccredited investors, the risk that one of them sues or a regulator gets involved on their behalf goes up. That could easily neutralise or even outweigh the benefits of the protection.

This isn't limited to crowdfunding, by the way. A cap table of a hundred $10,000 cheques (I've seen these), even if all are from accredited investors, will have a harder time raising venture capital than one with a handful of early backers.

> A cap table of a hundred $10,000 cheques (I've seen these), even if all are from accredited investors, will have a harder time raising venture capital than one with a handful of early backers.

Hundreds?!?

Doesn't sound impossible to me. I was involved with a company at one point that routinely hit its customers up for small-time investment. Never saw the cap table, but I'm sure it was loooooong.

(I originally wrote "doesn't sound crazy," but in fact it sounds totally crazy. Just not impossible.)

> Not every idea has to have billion dollar potential

If I'm going to seriously join a crowdfunding investment, I'm going to be thinking like a VC. I would happily join a smaller "lifestyle" company as an employee or cofounder, but I probably wouldn't give them much money. I expect 9 out of 10 of my investments to fail, so I also need to look for those 10x opportunities.

On the other hand, if it's just a token amount like a few hundred dollars, then I'll throw some cash at a Kickstarter or whatever. But then you can't say I really invested in anything.

Let's say you invest $500/yr at $50 a pop in local businesses, as part of a club. This seems like an amount of money you might be okay essentially gambling with.

Let's imagine that fund spans a moderate size metro (2mil people) and 0.1% of people are willing to join once it gets "big".

2000 people by $500 is $1mil a year. If you figure seed money is $20-100k for a small business, you're creating 10-50 small businesses a year in your local area. (Possibly more once you're good at it and can leverage SBA and venture resources to help match your capital.)

That's not a ton, and would definitely work better if you could nudge participation up to 1% or raise the average funding amount (or get another funding stream, or tax breaks, etc), but I think generating that local entrepreneurial churn can only be a good thing.

I'd pay $50/mo to see several new businesses a year get started around town, just for the added cultural value small businesses bring.

This is an interesting concept. I think the implementation would be very tricky though. The most important implementation detail is whether the investments are chosen by the investors, or by a manager or management committee of some kind.

I think you would have problems doing this with investors doing the decision making; I would imagine you'd need to spend at least 10 hours per company invested to make a remotely informed decision; people aren't going to want to spend hours making a decision about a $50 investment. If you get the time commitment much lower, it will probably be a huge magnet for fraud.

With a manager-based decision making process, I don't think the JOBS act affects the legality much. You'd probably need to house the decision-making in a registered investment company, which will probably cost you at least $50k/year in compliance costs. Getting even 1 remotely qualified manager would probably cost you $200k/year. I don't know that people are going to be as excited about the idea when they hear the expense ratio is 25%/year.

To make it work, it seems to me you would need a national-level parent organization to amortize compliance and legal costs, and (qualified) volunteer decision makers.

If you look closely, my numbers don't quite add up -- $50/mo is $600/yr not $500/yr.

I was guesstimating about $200k/yr in operating expenses (and that's with a lot of volunteered expertise, as you note).

But structured as a social-purpose non-profit, with everyone paying in being a member who elects a management board, who allocates the money as they see fit (perhaps with some constraints chosen by members), I think this actually bypasses a large amount of compliance work -- if you never return the money, and are strictly a non-profit investing in local businesses which rolls returns in to future investments -- because the members aren't actually making investments: they're paying for a non-profit's operational funds to support local business ventures. Structuring this way also makes for a better case to get donated expertise, eg from local lawyers and investors, and probably makes your tax situation a lot better.

You probably need some rules about earning lifetime membership after a certain pay-in, and definitely some about conflicts of interest (eg, funding member's ventures) but those are more technical details.

It's not a good financial investment vehicle, in that even in the best case you'd almost certainly have negative returns and in the worst, you'd have no returns at all -- but if your goal is changing the function of the market to support local enterprises and you're willing to pay in to make that happen, I think it'd function excellently. (Of course, you only really need to seed one or two Starbucks to have the whole portfolio right-side up again, even after decades of total losses. So at a generational level, it might work as a financial instrument as well.)

Worth noting, even as a non-profit, there are ways to "return" the money besides the value of the businesses started if you do find yourself with extra funds -- investments in local parks, schools, art programs, etc. It'd never come back in currency returns, but I expect "investors" would see tangible value in their lives, quite possibly exceeding the monetary value they put in.

tl;dr: It's easier if you structure as a one-way investment in your community, and collect dividends from the output of a vibrant community.

Ah, I didn't realize you were talking non-profit. That's actually a relatively established model: http://cdvca.org/

I would prefer a for-profit one, but due to many of the concerns you point out about compliance (and that you can no longer get donated labor), I don't think you can make it work (you end up spending too much on compliance and management relative to the size of the fund). Amortizing the costs across a national fund substantially changes the incentives and control structure -- which replicates many of the problems I have with current investment mechanisms. (And you'd still run in to issues where every state has special snowflake rules about certain things.)

The reason is I think you really need to focus on localization of such funds to make them effective -- metro scale ones. You can probably make the financials work by simply eating the overhead on that scale, but not on one trying to turn a profit, but paying for labor. Losing 17% of your investment every year to overhead is simply too rough, because you'd need to generate 20% returns.

You could do it, but it would substantially change the nature of the investments you could make and the size the fund would have to be to operate. There's a certain charm to funds in the 1-10 million dollar range making small investments in 10-100 businesses. (And I believe helps combat some of the problems involved with corporations, by intentionally distorting the market by "losing" money purposefully and recouping the value from the social change.)

I was (obviously) unaware of CDVCA, but even there, it seems like they're mostly a broader investment scale and set up as a traditional venture fund (ie, looking to connect traditional investors with high growth potential ventures) as opposed to operating a continual flux of small, local businesses at (likely) negative returns funded by the local populace at large. (I poked around the NYC one, for instance.)

That said, they likely have worked out some of the legal hurdles involved.

not sure if this helps but I think if you "work more than 500 hours a year" at the business your considered an active investor. Kind like a partner at a law firm.

That just means you should be looking for more equity when you invest in a smaller business. If you get 10* the equity you can achieve the same investment outcome with 1/10th the exit value, and a $100m exit is a lot more likely than a $1bn exit.

I imagine a 5M company is even more likely to succeed which is on lower end of selling to private equity.

> I expect 9 out of 10 of my investments to fail

You are probably better off taking your money to Las Vegas and playing blackjack. At least there you only lose 6 out of 10 investments.

Clearly the expected value should be higher investing. You don't win blackjack by playing more games, but you can improve returns by spreading out your investments.

Spreading out investments does not improve expected return which is just a ratio to the invested amount.

Fair enough, maybe I should've said it reduced variance? Good for power-law investments, trending toward zero for house-edge blackjack.

Accredited investors/VC (disclaimer: I am neither, but co-founded a VC-backed startup) are often wary of crowd funding because of the idea that with more investors, the more headaches that can occur with additional capital raises. Having a big cap table doesn't make company operations easier. I honestly don't know how valid those viewpoints are, but that's what I've heard.

I believe it. I also know that Realtors aren't too fond of For Sale By Owner houses. I suspect this comes down to a similar effect.

> I also know that Realtors aren't too fond of For Sale By Owner houses

This scares agents because a wide-spread DIY real estate industry kills all of the middlemen (themselves)

This is an interesting conversation to have here really.

'Never ask a barber if he thinks you need a haircut'

Yeah, it's kind of 'meta'.

Though the interesting thing is, Y Combinator is interested in basic income. That's effectively like crowd-seeding, which makes all the 'cut out the middleman' stuff more practical.

If you're expecting 'disruption' and embracing it, and you see disruption coming for your own livelihood, the sophisticated response is to try and find a place for yourself in the new situation, rather than stop things from changing at all. In that light, Y Combinator looking at ways to cut out SV incubators could be prescient.

It's like with me: I run a very functional small recording studio as part of my business, and it's well on the way to handling the live recording of traditional bands and their instrumentation. Yet I'm a lot more interested in finding unusual ways to support electronic genres (a strikingly different skillset).

It's funny here too, because I would assume that crowd funding would put you on a more conservative path. I like the Idea of taking $100k seed money an building a company that turns a profit. Not one that IPO's and makes us fuck you money, just one that pays back my investors at better than market, and pays my employees.

But you're signing up for a lot of work, not a sprint, and that's kinda the antithesis to 'changing the world' without making a profit then going to IPO.

I don't want to gamble on something, I want to build something with a less sophisticated valuation model where the revenue plan is clear from the start.

I don't see why this is an issue though, just promise quarterly updates and clearly state rights on future raises for existing investors. They can follow-on or not. All of these issues can be solved, it's just more excuses. It should be easier to have 100 investors who all agree on everything than 4 investors you have to baby and cajole and manage their whining because they feel entitled to personal service.

That assumes that the company proceeds through successive rounds with an upwards trajectory. If the company falters and takes a down round the initial investors may disagree with the direction or even sue.

If the company needs to be recapitalized or restructured under a time crunch, tracking down 100 loosely involved investors and getting them to sign the deal may not be feasible.

Probably would have been better to have arbitration instead of lawsuits written into the law. (to make it work not for investors)

The way AngelList (and I think FundersClub, too) handle it is to set up an LLC. The investors are then partners in an LLC, not direct shareholders.

> The investors are then partners in an LLC

Pedantically, "members" not "partners"; an LLC is not a partnership.

Seedrs also does it like this.

I'm on a few email lists from these crowd funding sites and the prospects that get emailed to me are less than stellar.

Totally 100% agree with you. I'm hoping that higher-tier entrepreneurs start to use it, but I don't see this happening

> If they were stronger, they would have raised proper VC.

I think that is really the most important part. A lot of people sophisticated enough to have their interest peaked by the opportunity probably figure the deals being offered are (more or less) the deals already rejected by traditional and more sophisticated channels. If established but private companies (e.g. Lyft) were doing late stage rounds through this type of a marketplace I think demand would be much greater. The problem is those companies probably don't have a lot to gain by doing it that way.

Now my assumption on quality may be wrong but that sentiment seems like an important hump for these marketplaces to get over.

Another issue is legality. Dispute with thousands of investors vs one or two investors.

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