Mark Wallace's  Instablog

We've spent a fair amount of time discussing and dissecting crowdfunding herein. I've written more than a few posts about it, and we've reviewed the topic with guys we trust.

Dan Faiman spoke to us about it briefly in Tech Geekery and Tech Geekery - Part II. Jeff Bone gave us some pointers in Angels, Incubators, Venture Capital and Crowdfunding, and John Robb touched on it briefly in Urban Guerilla to Rural Resiliency.

Today we'll get it straight from the horse's mouth, with a guy who is right in there making stuff happen. We're having a conversation with Nick Bhargava, the CEO of Motaavi, one of the first-movers, and an innovator in the crowdfunding space.

As you'll see, Motaavi co-founder Melanie Plageman was instrumental in helping to shape some of the crowdfunding points in the JOBS Act, so Nick and his partners are uniquely qualified to give us their insights... Enjoy!

--------

Mark: Nick, you co-founded Motaavi with 3 other friends. How was the idea for a crowdfunding site conceived? What was your motivation to get into the space?

Nick: Alex, Kaiting, and Melanie had been working on this idea for a year before I joined in September 2011. The problems they saw can be summarized as such: how can we get startups and high growth companies funded more efficiently? How do you deal with the inherent illiquidity of any equity you own in these small private companies?

They began working on a technology platform to solve these problems. The obvious first application was crowdfunding. Unfortunately, at that time, US securities laws effectively precluded crowdfunding. The JOBS Act provided a broad reformation of many of these laws, and when we saw the House pass crowdfunding legislation in November of 2011, we immediately focused our efforts on lobbying to get crowdfunding passed into law.

Our motivation is to make it easier for startups and small, high growth private companies to access capital. Startup founders have to spend a huge amount of resources getting funded, and capital only exists in disparate pockets.

Many companies which may potentially be very successful nevertheless fail to bridge the "funding gap" that exists when a company is in its earliest growth stages. Moreover, in trying to bridge the gap, startup founders frequently are presented with unfavorable investment terms. We think providing one place, where anyone can be a provider of capital, is the optimal solution.

Mark: Melanie (Plageman) actually moved to DC in November, right after hearing of the JOBS Act to head up your lobbying efforts. That was a pretty bold move for a young person with no political experience. Did she draw the short straw? She did pretty well it seems!

Nick: Melanie did a fantastic job in DC. She's pretty fearless and a relentless networker. She made it work because she made the process her own. We didn't have any kind of budget to hire professional lobbyists.

Our approach was to establish personal relationships with legislators and get them to understand that we really know the issues in this space and care about good outcomes. People in DC became very receptive to our ideas and were willing to give us their time. It was very humbling. Many of our ideas are reflected in the final piece of legislation.

It was crucial to get involved in the legislative process. It determined whether or not our business would even be legal. Many startups don't realize that their business is impacted by regulation in some form, and a result, never become politically active when it might actually benefit them.

Mark: Nick, I've written a bit about crowdfunding, and most of our audience is pretty familiar with the way it works. The space is going to get 'crowded' (pun intended) quickly. How is Motaavi going to differentiate itself?

Nick: Great question. Crowdfunding intermediaries are coming out of the wood works now that the laws have been reformed. We think there will be a shakeout within the first year of transactions commencing. Not to sound petty, but a lot of the people who claim to be in this space don't seem to have any idea about how to make this a sustainable business.

We're differentiating ourselves in two ways.

First, we're focused on what we like to call "exponential growth companies" in the areas of technology, life sciences, and energy. This is also a reflection of our respective backgrounds and being located in North Carolina's Research Triangle Park.

We want companies that scale very quickly and have good exit potential, whether acquisition or VC investment. We understand how the broader private company financing space works, and are committed to making sure crowdfunded companies are in the best position to receive future investment as their capital needs grow. If the company wins, the crowdfunding investors will win.

Second, our own technology sets us apart. We have patent pending tech that allows us to create very robust markets for crowdfunded and private company securities. If you are a crowdfunding investor, you will have access to a market for any issuer that offers through us.

Mark: That second point is really the crux of the matter in my opinion. For crowdfunding to be successful there has to be liquidity for the investors and issuers.

Nick: Exactly.

Mark: I'm pretty familiar with the public markets, specifically with reverse mergers, filings, private placements, etc. Most of the time the deals are legit, but you see a lot of scumbags floating around, preying off of startups and small companies in general.

One of the main concerns with crowdfunding is potential fraud. Although there is still a lot of regulation applicable in the new law, fraudsters are a creative lot! How are you guys dealing with protecting your users? How about protecting Motaavi - as the platform will bear a lot of the risk it seems..?

Nick: That's correct, there is still a lot of regulation in place to provide investors with disclosures and to place liability on issuers for misstatements or omissions.

Our own platform aims to to be as transparent as possible. The idea is that issuer disclosures, investor interaction, and market activity can be easily tracked to provide any individual investor with complete information. For any relevant issuer, the information you need as an investor will not exist in "pockets," but in one central place. This includes what other investors are saying about the issuer. We want there to be a discourse around offerings. In this way we can truly create an environment that fosters the "social proof" that has been attributed to crowdfunding.

The legal risk we face as an intermediary is similar to what a broker-dealer faces. It can be readily managed through the same processes and procedures which BDs have employed for years.

Mark: Of course, that makes perfect sense.

What about liquidity? That's a major hurdle for investors in private equity. Are you looking at assisting the issuers or providing liquidity for their stock in any way, or are you leaving it up to participants, both issuers and investors, to work out terms?

Nick: As you can probably guess from my earlier responses, we are providing a market to access liquidity for crowdfunded and private company shares. Issuers and investors will not be left to their own devices.

We have a very real, very usable market where you can access liquidity, even in inherently illiquid environments, while still finding good prices. This is no small undertaking, as it took a long time to figure out how to make a market that works. The crowdfunding legislation actually gives issuers a lot of flexibility in their offering, including what terms attach to the securities. We have taken this all into account.

Mark: Do you put any restrictions on offerings? Things such as enforcing existing legislation... or will you be leaving that up to issuers to decipher and abide by on their own?

Nick: We will put only those restrictions on our offerings that we think will enhance the safety and soundness of our market. We do have to ensure that the statutory requirements are met. Issuers are not left on their own to figure out how to structure the offerings. Though issuers can tailor an offering to suit their needs, the options and features are thoroughly explained in the issuer facing portions of our platform.

Mark: OK. let's cut to the chase with the question on everyone's mind - how are you guys going to make money? My interpretation of the law is that portals like Motaavi cannot charge issuers or investors. This is the question I get asked most by those interested in the space... You guys aren't philanthropists, so what's
the business model?

Nick: We will be operating as broker-dealers and taking transaction-based compensation. If you look at the fee schedule of most discount broker-dealers, you'll get an idea of what it costs to transact with us.

Mark: Short and sweet answer. Given that you'll be new competition in what's already an incredibly competitive space, what's the brokerage community feedback to Motaavi thus far?

Nick: Most broker-dealers seem content to watch on the sidelines and see what innovation develops in this space before deciding how they want to participate in crowdfunding. That being said, when we do have conversations with broker-dealers about our particular solution, the responses have been positive.

Mark: Have you been approached by traditional VC's and PE firms to work with them? I can imagine some of these guys wanting to get a 'first-look' so to speak at specific types of opportunities.

Nick: Yup! That's all I can say about this for now (laughs and smiles).

Mark: Well, we will have to take that conversation up again at a later date then!

Nick: Of course!

Mark: OK, so take us through the process of becoming an issuer on Motaavi.

Nick: To become an issuer on Motaavi you must first register a profile with us.

The user experience is similar to many social networking sites. You will have to provide basic information about who you are, your company, details of your incorporation, details about your basic business model, and the kind of raise you are looking to do. You will also be asked for more specific information in order for us to do a background check.

From there, you will be asked to complete a formal listing profile which includes the statutorily required disclosures, such as the issuer's financial condition, business plan, use of funds, and more complete details of the offering. You must also determine what it is you are offering and at what price.

Once the statutorily required disclosures are met, your profile goes live to potential investors. You give people notice about your offering and begin interacting with the crowd, addressing any issues they bring up. It is an iterative process. Once the amount the issuer seeks has been fully committed, the offering may close.

Mark: How about the investor, what do they need to provide?

Nick: Again, the analog is registering for a social networking site.

Naturally, the requirements are much less detailed. However, an investor must provide his or her actual contact information and must indicate his or her annual income or net worth. This is because investors are limited in how much they can invest in crowdfunded companies in a 12-month period based on their income/net worth.

Once an investor has supplied that information they are given a profile page through which they can interact with issuers and other investors.

Mark: You touched on your issuer target market a moment ago. Can you elaborate a bit more?

Nick: We are focused on tech, life sciences, and energy. We understand the unique needs these issuers have. They are typically capital intensive and have some IP at their core. They are looking to do a larger raise.

We are focused on this segment because members of our founding team have worked in these kinds of companies in the past. We think we are in a unique position to help them and that our solution is particularly valuable to them because of the potential for investors in such companies to desire a secondary market, or for the company itself to pursue another round of funding.

Mark: I've heard a lot about how great the work environment is at Motaavi. It has to be exciting, as this is really a brand new space you are playing in, and you have a chance to be an instrumental part of it. What's it like for you and your staff on a daily basis right now?

Nick: We are based in Durham, NC, part of North Carolina's Research Triangle Park. It's an area well known for entrepreneurship and there is a burgeoning startup scene here. It's very refreshing.

We work in a building which houses many startups and we are constantly surrounded by creative people with unique ideas. It greatly helps us understand who our customers are and what we need to do to better serve them. I don't think we could be doing this in any other kind of environment.

Though we have doubled down on development now, we still spend a great deal of time speaking to potential issuers and investors in this space. We learn something new with every conversation and that helps us create a better product. Though risky, it's hard to beat the dynamic nature of being an entrepreneur.

Mark: You won't find an argument from us on that point Nick! Thanks for taking the time to brief our readers, we know you're super-busy right now.

Nick: You're welcome. I look forward to future dialogs.

--------

That interview helped answer a few questions that our readers have hit us with regarding crowdfunding.

Clearly Nick and his team have a good understanding of the market and a plan to monetize the opportunity.

Chris and I have invested some time and resources into an incubator that is involved with a crowdfunding technology platform. We're pretty excited about it for many of the same reasons Nick and his team are.

We'll revisit this topic periodically herein.

- Mark

"We need to modernize and tweak outdated rules to allow Americans to invest in promising small businesses. Access to capital is becoming much more difficult and we need to identify and develop effective and modern ways for entrepreneurs to connect with potential funders." - SBE Council President & CEO Karen Kerrigan

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

It is no secret that Mark and I are bullish on certain frontier and emerging markets which are somewhat uncorrelated to the West. One of our favourite countries is unquestionably Mongolia... of this we have not been shy!

We first discussed the country in a post entitled: Mongolia - The New Asian Tiger. We then went on to write about this fascinating and intriguing place another dozen times or so. Search the website just to the right of this paragraph, using the keyword: Mongolia to review all of our posts and interviews. You can also download our special Investing in Mongolia report if you haven't already.

We believe that we could make as much as 10X on our money over the next decade, if not more, investing in select Mongolian opportunities. In fact we've made over 7x on our money in just the last 12 months in one select real estate and financial services company.

We've also participated in several private placements, and have plans to participate in several more coming up.

Plus, we've partnered on-the-ground with a young, well-known Mongolian national with a proven track-record of success. Our JV is breaking ground as I write this and should be close to operational by the time of the Summit.

We have put our money where our mouth is, and we'll continue to invest in Mongolian opportunities that make sense.

Due to our readers intense interest and curiosity about Mongolia (partially our fault, I'm sure!), Chris and I have put together a VERY SPECIAL EVENT for a limited number of our subscribers. The event is first-come-first-served. There are no requirements other than a strong interest in Mongolia and a passport!

To download the Summit Agenda, CLICK HERE

To download a Registration Form, CLICK HERE

This isn't a vacation to the Gobi, it's an intensive 3-day Summit being held in the capital of Ulaanbaatar, where you'll meet members of Mongolia's Parliament, top business leaders and influencers in the country, tour local real estate developments and be exposed to unique one-of-a-kind opportunities.

Response to our original mention of the Summit has been overwhelming. While availability is still open, we recommend you send in your reservation form immediately to secure your spot. PLEASE DO NOT send in a reservation form if you have no intention of coming to the Summit. This event is extremely limited and we want everyone who sincerely has an interest to be able to attend.

We can tell you that from the confirmations we've received already, this is going to be an awesome group! Our "delegates" as we're calling those who attend, are some savvy ladies and gentlemen, to be sure. The networking and deal-making should be intense, and Chris and I literally cannot wait to get to UB and meet everyone.

We've chosen our dates carefully. Summer is an electric time to be in Mongolia. The elections are slated for the end of June, and shortly thereafter is the nationwide celebration of Naadam, so we'll experience the excitement of the season without the craziness.

The dates are July 25-28 at The Corporate Hotel in Ulaanbaatar, Mongolia's capital city.

To download the Summit Agenda, CLICK HERE

To download a Registration Form, CLICK HERE

We look forward to meeting more than a few of you in UB in July!

- Chris and Mark

P.S. If you can't make it to UB in July but you have a genuine interest in Mongolia, or special opportunities in Frontier Markets in general, drop us a note and introduce yourself.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

A while back I spoke to my friend Jeff Bone in an interview entitled The Technology Entrepreneur, I encourage you to read it if you haven't, so you can get a feel for who Jeff is and why we think he's a genius!

Jeff had promised to talk to me again and get a bit more in-depth about tech startups, VC's, incubators and the newest rage - crowdfunding.

Chris and I are involved with an incubator that is creating and rolling out mobile apps and is also building out a unique crowdfunding platform that we are extremely excited about, so getting Jeff's feedback on the business model was super valuable

Let's see what Jeff has to say, and feel free to post comments, let's get a nice dialog going on this topic!

--------

Mark: Jeff you're a long-time techie. What do you think separates those who succeed in this space versus those that struggle along?

Jeff: I've started several technology companies over the years and had a couple of successes, a couple of failures, and one remains-to-be-seen. I've spent most of my career in these companies with one extended detour into computation finance in a company I did not found myself, and I've spent a lot of time thinking about what factors have contributed to the success (or lack thereof) of these various endeavors.

There are of course several: concept, timing, team, execution, market readiness and approach, business model, competition, and so on. One consistent theme, and one that is largely in control of the entrepreneur, is funding. In particular the funding model, what you get out of it besides money, and the impact the overall funding model has on the business and its key players.

My most successful ventures have been largely or exclusively angel-funded. My least successful ones, and certainly the most frustrating ones, have been venture funded by traditional venture capital firms.

I have spent as much as 15 months "on the road" trying to get an A-round done for one company (post dot-bomb and post-9/11, not a good time to be looking to fund a speculative technology play). Correlation is not causation, of course, but I've spent quite a bit of time thinking about why this -- angels and other alternatives implying better likelihood of success vs. traditional VC -- may hold.

Mark: Last we spoke I asked you to chat with me about that very subject, and also on the incubator model, and on how the current capital markets and venture landscapes are evolving. I thought it would be really useful for our readers.

Jeff: OK, great, well then the rest of this interview I'll basically just sort of hypothesize out loud, as concisely as I can in a kind of stream-of-conscious manner, about those topics.

Mark: Perfect, I'll try to keep up (laughs).

Jeff: #1 - FOCUS, FOCUS, FOCUS

There are several things that can happen in an early-stage startup that are severe distractions. One is growing too fast or getting the burn up too high too quickly. Internally, a quickly-growing team at the outset, particularly pre-product and pre-revenue, creates coordination challenges and dilutes the consensus about what the vision and market is and how to go about tackling them. Ironically getting too much money in the door too quickly can contribute to this.

The trend of late has seemed to be towards smaller, faster-iterating, and bootstrapped or minimally-seeded teams. I think that's a good thing in general, as it avoids this problem. It also puts the focus of the key employees -- the founders -- on what's truly necessary rather than having them spending all their time initially out beating the bushes for money.

Larger venture funds generally have little time to vet and actually understand the vision and business of a really early-stage company, and even when they do make such investments this disconnect can lead to excessive iterations of explanation and modification of plans. Almost every VC thinks they are an expert in every subject, which clearly cannot be the case; the founder generally knows the audience, market, and technology / product issues and trade-offs far better than anyone else, yet is constantly on the defensive to the degree that external money is sought and / or obtained.

A vibrant angel community, local if possible, and or participation in an incubator can help alleviate this.

#2 - VALUE-ADDED MONEY

Look for smart money. If you can get funded by people and organizations who have experience that's actually relevant to what you're doing, go for it.

This means more than just general business experience; it means people and groups that have prior experience or active investments in synergistic companies and areas. Real expertise.

If the point-guy from your lead VC has a background in, say, enterprise software sales and you're trying to build a consumer hardware-software product, he's going to have lots of great ideas -- none of which are relevant. Similarly if he was the CFO of a company that went public and your exit strategy is most obviously an acquisition, you're going to have some interesting conversations... that you don't need to have right now.

There's not just one kind of smart money, of course. But to the extent that the "smart" in your smart money isn't really relevant to what you're doing, it's an unnecessary distraction. Look for people who both "get it" and have something to add to what you are *actually* doing that can truly help you grow your business in both unanticipated and *valuable* ways. Success is about hitting the vision, the timing, the market; you know what you're doing. Find others who do, too, rather than distract.

#3 - THE INCUBATOR MODEL

I'm a big fan of the incubator model. By incubator I mean a fund that tends to focus on and have a somewhat structured approach to investing in companies of a particular type or set of related types.

I managed to stick my foot in my mouth criticizing Paul Graham at one point on a mailing list, so this is a perfect time for a retraction: I am a HUGE fan of Paul Graham and in particular the Y Combinator model, as well as the other "incubator" and similar funds and models that have sprung up in its wake.

The idea behind the incubator is to take some of the guesswork out of both the funding and the mundane startup process issues. There are some fairly consistent sets of issues that all startups (or at least all startups in a given area, say web apps, mobile apps, what have you) face, and having somebody sort of commoditize and manage that workflow mechanically takes some choices that the founder / entrepreneur might have to make off the table.

And these incubators and funds have other advantages: they tend to be specialized in a given area, which concentrates expertise in that area, avoids distraction by irrelevant experience, and allows for cross-pollination among the various companies; in effect encouraging sharing of methods, if not specific trade secrets and IP, that lead to success as well as avoiding common failure modes.

By their nature incubators tend to be run by people who have relevant been-there-done-that, and so the value-add over funding is high. And many of them have structured funding models, term sheets, tranche structure, etc. which takes the guesswork out of getting the money in, getting the *next* money in, and so on. This is a huge win versus casting a broad net with big venture funds.

#4 - CROWDFUNDING

Kickstarter is an amazing disruptive innovation in financing new products and companies. I've backed several projects on Kickstarter at various levels and am a huge fan. This --- crowdfunding --- is in my opinion just about the optimal funding model out there *if it fits* for a given product or project.

It's not suitable for all products and companies of course, but if your basic idea starts with a single well-defined product that can be created in a reasonable time with a very small team, it doesn't get much better than this.

First, getting the funding is *equivalent* to market-testing the idea; if you can't get the funding this way, perhaps the product concept or your presentation of it or something isn't right. Second, you don't have to dole out equity in your company in order to get an assurance of funding. It may not pay the bills in the meantime, but perhaps you can somehow factor the Kickstarter pledged funding to in effect borrow the seed you need if you can't self-fund long enough to get the initial product out. (I haven't tried this, so I'm speculating here.)

There are numerous initiatives along these lines and I'm very, very enthusiastic about them. I tend to think that modulo various securities laws, micro-funding via equity sales (i.e., miniature private placements, possibly with some uniform and legally-acceptable structure) may be on the horizon as well. But if I were interested in building a single product (perhaps that could be a springboard for something larger) which could be built quickly and by myself or a very small team, Kickstarter would be my first stop.

Mark: We agree 100% on the crowdfunding model, and I'm also a huge fan of Kickstarter. I want to talk with you more about the crowdfunding space in the future.

Jeff: Sure, absolutely... That's just sort of a brief overview / personal perspective. Happy to take questions and or pontificate at greater length on any of these things.
--------

When you get a chance to talk to someone of Jeff's caliber it's a pleasure. The depth of knowledge he can share on this topic would make an excellent book (hear that Jeff?).

We'll visit with Jeff again in the very near future. He's a busy guy, and Chris and I appreciate every word he contributes for us. We always feel smarter and better-informed after talking to him!

- Mark

"It's a really good time to be an entrepreneur. If you have a halfway decent idea, you can get it completely funded." - Peter Thiel