Springwise recently posted about a group buying site, this time from India, that actually has a new twist: real estate. This model is a good idea for tenant-in-common real estate deals, where you could sell a small commercial office building to 10 or 20 buyers who couldn’t afford the whole building or would appreciate the diversification. The US problem would be avoiding SEC regulation treating the offer and sale as one of securities rather than as a real estate deal (which is not regulated by securities laws). I recall reading that the SEC issued guidance on where it would draw an unofficial “safe harbor” line around TIC deals. I wonder whether having an offer available on a website would make the SEC think twice about swinging its general solicitation hammer down hard on an enterprising site.
Interesting to think about how the regulatory scheme, seemingly in the background, really affects the competitive landscape, much like Kickstarter is a nonstarter for startup crowdfunding in the angel/equity model. Crowdselling via kickstarter is what works well.
As an aside, does it make sense to complain about US securities laws? Maybe. Maybe they don’t do the investor protection job very well; that’s presumably a researchable problem. Maybe, of course, you remember that our laws are primarily designed to create disclosure, not safety. Dotcoms going public circa 1999 were all legitimate deals, with correctly disclosed numbers, and pages and pages of risk factors. I know, because I drafted and proofread many of those pages of risk factors myself.
The notion of whether we protect people from bad outcomes misses the point: our system isn’t designed for that. It’s designed to tell prospective investors all the material facts before they invest. Those who say that our assessment of who can and should be able to invest in non-registered securities, such as angel investments in private startups, tend to narrow the issue too much. Those who want to relax the rules often think that these “great deals” are out there and only for the rich. They forget that most of these investments do not create positive returns. And for those who argue that even further reductions(!) in the accredited investor thresholds should be implemented to increase the capital available to startups, they haven’t done the math on the differences in wealth between the original numbers and the current numbers: simply put, people who qualified as accredited investors in the past were wealthier, meaning more able to withstand the volatility and liquidity problems of unregistered investments, than those who qualify at those same wealth or income numbers today. (In other words, inflation happens.)
by rickcolosimo on February 16, 2011
Here’s a brief quote from an interview with an entrepreneur turned angel investor about types of startup risk:
Angels will largely take a product risk (they bet on the product or idea and your ability to build it). “A” round investors or late-stage seed investors will take a market risk (they want to see the product, vision and maybe even the first customers, and they bet on there being a big enough market). “B” round investors usually take a scale or product market fit risk (they bet that the company can scale and that this is going to be massive).
There are other types of financial investors, and they approach deals differently, which in turn dictates what deals they’ll do. Why is this information important? Knowing how to define and describe the challenge facing your company helps you determine which investors are actually interested in hearing your story and which are not suitable.
- Banks — banks used to make money on the spread in interest rates between deposits and loans, but a much larger percentage of profits comes from fees. Banks, then, seek to aggregate and deploy capital while retaining (traditionally, within the “banking” portion of the bank) little principal risk. Securitization has moved principal risk off of bank balance sheets, helping the transition toward transaction- (and fee-) based models.
- LBO funds — LBO funds are generally focused on financial engineering, meaning they often transmute debt or equity capital into the other kind, and even working capital gets a lot of attention. Changing the capital structure of a business, “right-sizing” ROIC (return on invested capital) across divisions, segments, or products, and even divestments and acquisitions can change a company’s profile. LBO funds take the risk that other capital will be available to suit the models they’ve created and that they can provide the right investment for those other capital markets participants.
- Private equity funds — PE funds clearly span categories in the broad sense, but we think of them in this discussion as the MBO crowd. Backing a management team to buy out a company, likely taking it private, means taking on the risk of product realignment, development, or expansion when those risks are not well-suited for a public company. The fund takes on the risk that the management team has it wrong or won’t be able to execute.
- Hedge funds — Hedge funds have a variety of strategies. Other than the “we’ll do anything” model, a substantial common denominator is arbitrage. But hedge funds don’t just arbitrage price in two different markets but also across time, benchmarks (interest rates), currencies, and imperfect substitutes (commodities vs. commodity companies). That type of risk is more likely to be relevant to a company in its commercial dealings (oil shipments) than in its own financials per se.
- Mutual funds — Mutual funds aggregate vast amounts of capital for investment in public companies and similar securities. These funds effectively take risk by allocating capital to stocks, bonds, and across large sectors (domestic v. foreign, tech v. agriculture). Because of the overall size of the mutual fund industry, it’s probably not meaningful to say that the industry as a whole really takes risks on specific stocks to an extent that used to be true: trillions of dollars have to go somewhere, and mammoth widely held corporations are the place.
- Turnaround funds — These more specialized funds focus on particular types of operating risk, and sometimes related working capital risks. Some focus on pure financial operations turnarounds, others on factory operations, and others on SG&A cleanup. The risk for these funds is based on doing enough diligence before an investment to formulate a plan and staffing a portfolio company with a team that can create and execute the plan as well as adjust it successfully when things change.
Remember, too, that knowing how to describe the problems that you like to attack and solve, as an individual or team, helps you figure out where to target marketing or job search efforts.