Startups, are you listening? It is that simple.
It has been true in the public markets, and it is now getting recognized as true in the private markets.
Fred Wilson of Union Square Ventures posted a piece to his blog speaking to this very fact.
These are maxims recognized in the money management profession — of which I ran my own multi-family office for over 20 years.
In the near future, it will be more than ‘thought leadership’ in the private markets…it will be common knowledge.
And proper transparency/communication will be expected — and eventually required — by investors for startups to get funded.
More Information = Easier Financing Rounds
The theorem is as follows: More information = More Liquidity (capital into and out of an asset) = Lower Liquidity Premium (easier purchase & sales) = Lower Equity Risk Premium (asset class specific discount rate or expected return given perceived risk) = Less Risk.
Less (perceived & actual) risk will result in greater velocity of investing in the asset class (more transactions and greater $’s).
The public exchanges are in fact finalizing the last piece of the infrastructure needed (NASDAQ purchasing Second Market, for example) so the theorem can apply to a broader definition (read private companies) of securities.
What is lacking is proper transparency for the earliest stage companies to benefit; easier financing rounds, and higher valuations in the process (The Startup Genome Report confirmed this is the result of greater ‘engagement’ with investors).
It Worked For Junk Bonds — Why Not Angel Investments?
While an undergraduate at U.C. Berkeley in the mid 60’s Michael Milken recognized that the prevailing theory — that markets accurately adjust yield (return expectations) to compensate for higher risk — was clearly wrong. Finishing his research at Wharton, then applying his insights in the junk bond market while at Drexel, he effectively changed how capitalism was practiced with large companies, and unlocked a generation of innovation and entrepreneurs in the process.
(Go ahead and snicker about ‘what that got him’, or his greed/lack of moral compass, etc…..now re-read the prior paragraph again. His insights are undeniable).
Mispricing Asset…Can Go Both Ways
Mispricing assets due to access to information can also go both ways.
The converse to this logic could explain the valuations of Silicon Valley startups; proximity (and the perceived access to information) could be driving the funding rounds and valuations on startups that hindsight will no doubt illicit the bubble-esque reflections (again) of ‘what were we thinking!?’
Included in the geographic proximity is the ‘relationship’ proximity….’XYZ is in it, so it must be ok’.
While many investors in Silicon Valley (and maybe NYC & LA, and definitely the players in the latest funding rounds) are doing some re-evaluation as we speak, startups in the rest of the country can take advantage of the inevitable in the ‘over-informed/over-priced’ markets, and maybe help the ‘smarter’ investors arbitrage the locations they invest — as long as they have efficient access to the right information.
Efficient Access to Information Drives Liquidity & Lowers Risk
More efficient access to the right information will drive more investment activity.
More investment activity does lower the investment risk (don’t get me started on the de-risking available from the tax code grossly overlooked).
If your startup resides outside the most active investment communities, take note;
…use the tools (and information) at your disposal,
…help the smart money arbitrage the coming ‘reflection’ period,
…gain more efficient access to the ‘right’ smart money.