A financial revolution – ignited by hordes of individuals who have grown leery of conventional financial institutions, and powered by contemporary P2P and crowdfund marketplaces – has been germinating across the planet.
In the same way that the Industrial Revolution redefined manufacturing and the Internet Revolution refashioned commerce, this “Crowdfinance Revolution” will transform global capital markets and reconstitute financial systems.
Just like in prior seismic industry shifts – innovative businesses will arise from the ashes of the old, visionaries will replace retiring CEOs, and fortunes will be made as well as lost.
What sets today’s revolution apart is the speed at which it is progressing, and the way in which it is being financed. Modern fintech businesses are propagating around the globe – some growing at unprecedented rates. However, unlike the 1990s, the companies fueling this revolution are not listed on traditional public exchanges. At least not yet.
In order for investors to capitalize on this remarkable growth, they generally need to “know someone” who can introduce them to a deal. Or, in some cases, they can purchase shares via online “angel” marketplaces – as long as they meet certain income and net worth standards. This is because our Government – you know that bloated entity that squandered our money funding Solyndra – assumes that people with lesser means are just too stupid to make sound investment decisions.
I, on the other hand, have much more faith in the investing public. I believe that each and every one of us is capable of making lucrative investments – even in startups that lack that indispensable public reporting. You know, like the SEC filings that safeguarded us from Enron and Worldcom.
Just like not every “dotcom” went on to Amazon stature, not every P2P or equity crowdfunding business will create vast amounts of wealth. Some will become iconic brands and rocket to great heights. Others, particularly those merely trying to capitalize on a P2P or Crowdfinance craze, will wither and die like the faux dotcoms that preceded them.
It kind of reminds me of a trading strategy employed by a really smart hedge fund manager during the dotcom hype. I’ll call him Matt, since that is his name. Understanding that the “Amazon Affiliate Relationship” was nothing more than a link back to Amazon’s website in hopes of generating a book sale, Matt began shorting every dotcom company that issued a press release announcing a “strategic affiliation with Amazon”. Despite the insignificant monetary value of such an arrangement, some Internet stocks would soar on these announcements – only to be immediately followed by a sharp decline.
Unfortunately, not all Wall Street professionals were as astute as Matt. Had investors and analysts been on the inside of the nascent Internet industry, they would have known that the bulk of dotcom businesses were being constructed from fictitious “barter revenue”. Armed with this knowledge, who knows how many retirement portfolios may have been salvaged.
With some crowdfinance industry know-how and effective research pointers, today’s investor need not suffer the same disastrous fate. As an industry insider who helped initiate the crowdfinance revolution, I created the following guideline to help investors determine whether they’ve uncovered a viable crowdfinance investment opportunity or another iteration of dotcom vaporware.
PORTAL INVESTING IN AN OVER-SATURATED MARKET
Portals are financial intermediaries. Generally speaking, I liken equity crowdfunding portals to next-generation small cap underwriters, and P2P portals to banks of the future. Value is determined by the portal’s ability to attract quality deals, borrowers, investors and lenders to its platform. Because the market is becoming inundated with portals, an investor’s best bet is to choose from the ones that are the most capitalized, recognized and possess a strong track record of successfully completed transactions.
Also, since one platform will not be everything to everyone, I’m partial to platforms that service a specific niche. Because I am also a disciple of the Peter Lynch “invest in what you know” philosophy, I think investors should look for a portal that focuses on an industry that they understand well. For example, a doctor may be better off investing in a biotech portal while a factor may be more equipped to fund a lending portal that centers on receivable financing.
Before investing into the portal’s business, investors should test drive the product. First and foremost, they should research the quality of the deal flow. Why would you want to invest in a portal that lists deals you wouldn’t touch with a ten foot pole?
Since the credit markets dwarf equity markets, debt structures are less risky by nature, and P2P is a lot more mature than the equity side of crowdfinance, I would seek investment opportunities in crowdlending portals at this time. I believe the more compelling investment opportunities in equity-based crowdfinanced platforms will arise once the SEC implements Reg A.
THE ‘PICK-AND-SHOVEL PLAYS’
Samuel Brannan became California’s first millionaire, not by discovering gold during the California Gold Rush, but by selling shovels, picks and supplies to the miners. Likewise, businesses servicing the crowdfinance industry and developing its infrastructure stand to benefit.
Specific beneficiaries include those businesses that provide clearing functionality, marketing support, secondary trading platforms as well as research and analytics. I am particularly keen on data plays.
A bunch of companies have now emerged hoping to become the universal aggregator of crowd-structured offerings and/or peer-backed debt. However, like the search engines of the 1990s, not all data aggregators will prevail. Do you remember Excite? Me neither.
Most of these data companies rely on information collected from the same APIs. But because aggregators don’t have exclusive relationships with the portals providing the APIs, there are very low barriers to entry. Hence, in order to compete favorably, it becomes necessary for these businesses to possess other strategic advantages. One company I am particularly fond of in the space does not rely on APIs at all. Instead, it has an in-house research staff that serves to unearth unique data points on deals as well as investors. Not only is this company better positioned to help crowdfinance portals thrive, it possesses a valuable asset: proprietary data that can’t be replicated.
Look under the hood. Have the technology assessed. Remember, some picks and shovels are just better made than others.
WHEN FUNDS MAKES THE MOST SENSE
Investors, especially those seeking diversification, should not overlook next-generation mutual or hedge funds that invest in crowd-structured products such as P2P debt, PPOs (“Private Public Offerings”) or even later-stage venture-backed crowdfinance businesses. In fact, some of these funds that purchase secondary shares of hot fintech companies may be the only way to own pre-IPO shares of some of the current behemoths of crowdfinance.
These funds are ideal for investors who want exposure to crowdfinance opportunities but who don’t have the time to research each and every loan or business venture.
RESEARCH, RESEARCH AND MORE RESEARCH
Whether you are investing in a portal, an industry service provider, a fund or any business for that matter, you need to conduct proper due diligence. Thankfully the Internet is a bottomless pit of information. You’d be amazed at the sheer amount of intelligence you can discover from Google searches alone.
When researching a company, the first thing I search for is old press releases and investor decks, for these provide crucial insight into whether or not the company has delivered on past promises. While press releases are easily found online, old investor decks require more detective work. Sometimes they can be located on Slideshare or via online angel marketplaces. You may also be able to obtain them through existing shareholders.
In many instances a company’s shareholders can be found on Crunchbase. Prospective investors should gather references from a company’s shareholders, its employees as well as its clients – especially the former, disgruntled ones. Many of which can be discovered through dated press releases.
Investors should also be mindful of companies that try to make themselves appear bigger by claiming to have “locations” around the world when, in reality, these “offices” are the living rooms of a few commission-based W9 employees. It only takes a brief phone call to find out.
Additionally, potential investors should familiarize themselves with a company’s competitors. Is the competition better capitalized? Do they have a better standing within the industry? If feasible, investors should attend industry conferences. Live events can often provide the best view of the competitive landscape. They can also be a great way to gauge enthusiasm for a business.
The first conference I ever organized was Wall Street’s premiere Space & Satellite conference in 1996. The first company to present was called CD Radio (now known as Sirius XM Radio). Within seconds of the CEO concluding his presentation, portfolios managers dashed to the pay phones of the Grand Hyatt, calling their trading desks and placing buy orders. I watched CD Radio’s stock tick up from a machine we had placed at the registration desk. From that moment on I never underestimated the value of conferences when assessing investment opportunities.
Finally, investors need to review a company’s financials and ask a lot of questions. If something doesn’t seem right, run, don’t walk from the deal.
BET ON THE JOCKEY NOT THE HORSE
Unfortunately, I learned the hard way to steer clear of the following “jockeys”. Hopefully those reading this article will benefit from my prior misjudgments.
The Micromanager – This CEO is too busy editing her employees’ emails to ever accomplish anything. Does it really matter if chickin was misspelled when ordering lunch for the office?
The Perfectionist – By the time this CEO launches his cutting-edge technology, his great-grandchild is on his fifth invention.
The Blamer – This CEO is not responsible for anything that doesn’t go as planned. If a deadline is missed, it is because a staff member called in sick. I once experienced a CEO actually blame a shareholder for her failing to meet revenue projections.
The Pretender – This is the CEO I despise the most and the one to avoid at ALL costs. Instead of actually building a product, this CEO manufactures a façade. If a CEO is confident in his business, he doesn’t need to embellish press releases or alert his team every time he makes a new high profile Linkedin or Twitter connection. Newsflash: you can’t grow a company with virtual relationships.
The Constant Pivoter – Occasional pivots are fine, but when they become routine, it is not the product that is the problem – it is the execution. Sadly, some CEOs simply have no vision.
“The only thing worse than being blind is having sight but no vision.” – Helen Keller
The Unprofessional – This CEO is consistently late for appointments and frequently skips conference calls altogether. During the same timespan I had weekly team conference calls scheduled with two different companies. Company A’s team meeting showed up on my calendar every week for months, yet only one call ever occurred – and it started 15 minutes late. Company B’s team meeting occurred every week, as scheduled. Guess which company is the successful one.
“My reputation precedes me. Otherwise I’d be late for all my appointments.” – Harry Crumb, detective extraordinaire
The Doctor Evil – Be circumspect of the CEO who claims he is going to rule the world. These CEOs are so busy plotting global domination that their competitors swiftly surpass them.
For more great tips on venture investing, you should check out seasoned startup investor, Charlie O’Donnell’s blog: http://www.thisisgoingtobebig.com/. Charlie’s “25 Pieces of Bullshit You Hear About Startups” is a must-read.
Also, click here to check out our investment red flags. Before investing you need to read these warning signs!
Below is a comparative analysis of leading online angel marketplaces that includes their revenue models and the types of deals they offer. Click chart to get the full-sized view.