The Luddites are everyone’s favorite group of radical technophobes. During the Industrial Revolution, these 19th-century bands of British workers were so enraged by the onset of technologically-savvy tools and the impending loss of jobs that they went about breaking the machines that threatened their livelihoods.¹
It’s understandable, as I’m sure it wasn’t fun to be replaced by a mechanical contraption. I wouldn’t enjoy it either.
Recently, I was on a panel discussing crypto, hype, potential roadblocks, and, of course, ICOs. For those not steeped in Silicon Valley speak, according to Investopedia, an ICO (which stands for Initial Coin Offering) is “an unregulated means by which funds are raised for a new cryptocurrency venture…[and is] used by startups to bypass the rigorous and regulated capital-raising process required by venture capitalists or banks.” I gave my well-rehearsed, curmudgeonly rant about how value creation gets people more excited than the potential of technology — from history we know this is how humans work, but I digress.
For me, a recurring theme at such events is being asked if ICOs will replace venture capital (VC). This is somewhat akin to asking me if I will be replaced by a bot. While self-interest calls for defending what I do for work, my engineering past has sufficiently trained me to know that “automating your job” is a badge of honor in the tech industry.²
The idea of technology making capital raising more efficient is actually pretty exciting. I recently worked with a fantastic engineering and product team that successfully automated many of the more onerous aspects of fundraising. So, bots and unconventional fundraising mechanisms, by all means: Take our jobs.
However, we do need a reality check on this lively conversation. The ICOs vs. VC fundraising debate misunderstands some of the truths on both sides. There are plenty of reasons why ICOs and venture capital fundraising are fundamentally different.
VC math doesn’t translate to retail investors
We don’t talk about venture fund economics enough. Technology/startup investing is hard. A majority of investments go to zero because the odds of picking a winner are low. But these odds are baked into the way VC funds are raised and deployed. Venture capitalists can make a good number of solid bets and still make very good returns even if many of those bets fail — remember, the average VC investment takes 7–10 years to generate returns. VCs are generally good at patiently holding on (HODLing, if you’re in the know).
The average retail investors on the other hand:
- May not have large pools of capital to deploy to a diversified set of token positions that can make meaningful returns.
- Can only make a relatively smaller number of bets.
- May not want to take the risk that comes with the possibility of tokens going to zero.
- May be more interested in short or medium-term returns.
Sure, they could pool their resources and have an expert advisor invest on their behalf, but that would essentially make this advisor a professional VC.
$$ + Smart People Does Not Equal Success
What VCs know and the lay person may not is this: Piles of Cash + Smart People != Success. It takes more than smart people, an idea and funding to build a company. The current model of mega-fundraises for companies that are two people and a whitepaper is not always sustainable and will not translate to every startup fundraise — though, yes, there are plenty of exceptions. Whether or not you think the VC process is ideal, it’s often a Darwinian process of self-selection (discounting cognitive biases and herd mentalities, which exist and are factors).
Investors need managing
Companies that launch public token sales are bringing on thousands of token holders who now have to patiently wait and hold while the teams build their platforms or products. This leaves companies with the resources and institutional knowledge of a startup dealing with the demands of very mature public companies — reporting, audits, investor relations/babysitting. Companies have to then do the dance of keeping tens of thousands of investors happy — the exact reason why many startups have decided to stay private longer in the last decade.
More recently, I’ve seen several great blockchain companies completely refrain from public sales, choosing instead to raise only institutional capital and commit to strategic airdrops.
ICOs did not invent equity crowdfunding
If crowdfunding capital could have disrupted traditional venture funding processes, the ball would have already been set in motion by companies such as Crowdfunder. Companies that are doing Regulation A+ offerings (which allow the public to invest in private companies) of security tokens are using laws that were made so as to sell equity in startups to unaccredited investors.
Online equity crowdfunding sites solve many of the same problems that ICOs do, but have yet to become a popular alternative to venture capital funds.
ICOs are for networks, while VCs invest in many boring industries
ICOs are meant for the very specific case of launching networks that need to dispatch tokens to sustain incentives and value transfer within those networks. Not all businesses create networks and therefore have little reason to launch an ICO or create an indigenous token.
Additionally, buying tokens is like buying frequent flyer miles before the airline has launched. (I’m told the very brilliant Matt Levine had a similar analogy before me.) Anybody who flies would be a potential candidate for investing in frequent flyer miles. But what about when a company that builds, say, software for chemical processing plant machines needs to raise funding? VCs don’t invest only in consumer technology companies. These industries are harder to sell to generalist retail investors than to VCs whose bread and butter is understanding difficult, even arcane, markets. Trust me, having worked with large numbers of individual investors, I’ve seen this firsthand.
The Carrot-and-Stick of VC fundraising actually works
For better or worse, VC fundraising sets up a long-term cycle of rewards and incentives. In other words, setting goals in the short to medium term, achieving them and using the result as the basis for your next fundraising sets companies on a planned, but flexible, growth trajectory. Sure, once and done sounds great for fundraising, but isn’t practical or easy to do when actually building an organization (unless you are Zapier).
The VC value-add
(Good) venture capitalists don’t just write you checks. (Good) VCs are, at best, students of industries and markets who spend years and decades on the sidelines watching companies fail, veer off course, recover, and succeed. A (good) VC can’t tell you how to engineer your product, but they can tell you how other companies dealt with the same issues. (Good) VCs bring in the 30K-foot view when founders are experts on their own companies. (Good) VCs are patient.
There’s plenty of money sloshing around in Silicon Valley and other VC markets and great founders value resources over capital. There are benefits to having professionals (read: adults) onboard invested in your success, and who have the patience to wait many years for the desired result. Retail investors, for good reason, cannot offer the same services.
Essentially, ICOs and VC don’t accomplish the same things, even though they are both ways of raising massive startup capital.
I’d love to debate this further, so please feel free to contradict me and I will gladly lend my ear.
 That was an oversimplification. Here’s a fun read from Smithsonian magazine: What the Luddites Really Fought Against
 Not making light of human labor being replaced by automation at scale, which is a separate, and serious, matter.
(The above are personal opinions.)