Friday, 16 January 2015
By. Francis Pedraza
— Micro-funds for individuals
Suppose that an investor bets $100,000 on a startup at a $4,000,000 valuation. That buys 2.5% of the company. Meanwhile, an individual — an entrepreneur, designer or engineer — invests time in 12 startups, in exchange for 1% in each. That may buy 12%. Nearly five times more.
Why? 1) Startups are cash poor, but equity rich. 2) Cash creates short-term alignment, equity long-term alignment. 3) Certain individuals pay for themselves. That’s why, when a sought-after individual contributor — an employee, contractor or advisor — prefers payment in equity, most startups happily pay a premium. It’s their preferred currency.
So there’s an arbitrage opportunity. Be a patron of talented individuals. Invest in micro-funds for them, as a proxy for startup equity. For example:
- Give a designer $100,000 to pay for salary and expenses for one year
- This allows the designer to work for clients exclusively on an equity-basis
- By the end of the year, the designer has earned, say, 12% in equity — 1% in 12 different startups
That’s 5X implied leverage. In other words, compared to the 2.5% that direct investment might buy, a micro-fund might buy 12% — nearly five times more.
If this model works, it has implications for startup team structure. Perhaps startups are not under-resourced, but disproportionately resourced. Instead of paying a full-time designer $70K a year and 1% equity, pay them half-time for $0 and 2% equity, or full-time for $0 and 4% equity. Would this increase the flexibility and alignment of the startup work-force?