Entrepreneurial Arbitrage: Funding
26/03/2020 — by Paul Murphy
This is the second post in Paul Murphy’s series on Entrepreneurial Arbitrage
VCs are smart
I’ve met hundreds. Individually, of course, some VCs are dumb as doorposts, but as a class, they’re brilliant. They’re particularly good at two things:
- Figuring out how to not lose money, and
- Figuring out where money is likely to be made.
These are obviously two different sides of the same coin.
VCs structure deals to avoid as much downside as possible. It takes some of us entrepreneurs a long time to figure this out. Initially we buy the “we’re aligned and on the same team” talk hook, line, and sinker. Eventually, we figure out that it can’t be true.
When I first realised this, I was annoyed. However, I eventually realised the behaviour was not only rational, but forgivable.
As entrepreneurs, we are given many chances to fail. It’s built into our culture. Failure is expected.
In most places – America always; Europe sometimes; and Asia, we’re getting there – an entrepreneur with a failed business behind them is more bankable than an entrepreneur without a track record at all.
VCs don’t have that advantage. Raising a first fund is hard. Raising a second fund is 100% dependent on the success of the first fund. A failed first fund means no second fund.
In other words, failure is absolutely not an option.
Show me the money
Now, let’s look at the second thing VCs are so good at: figuring out where money is likely to be made. That’s where entrepreneurial arbitrage comes in. To illustrate it, I’ll tell you my recent fundraising stories:
Five years ago, I ran a speech-recognition company in Austin, Texas. It was a hot field at the time. VCs loved it. I spent a lot of time fundraising in the Bay Area. About 75% of the contacts I had wouldn’t even give me a first meeting because they would say, “We only invest in companies in the Bay Area. We like to be able to drive to our portfolio companies.”
I used to fly Austin-SF and back in a day. But the VCs wouldn’t do it. They didn’t need to. There were plenty of AI companies in the Bay Area, and it didn’t make sense for them to worry about a place as far away as Texas.
This year I’ve been fundraising for my new company, a credit bureau for crypto. We’re based in Singapore. A long way from San Francisco. Now, how many first meetings with Bay Area VCs have been turned down because of our location? None.
Not only is it a long flight to a Board meeting, it’s also a different legal jurisdiction that’s far from standard for investors. This means the legal review takes longer and costs go up. So why the change in VCs’ attitude? Opportunity.
The US regulatory environment is not terribly crypto-friendly. So, entrepreneurs are establishing their businesses in other jurisdictions: Singapore, Hong Kong, Switzerland, Malta, Gibraltar, and a few other, mostly-small States.
As I said, VCs are smart. Big US funds aren’t going to sit on their hands just because businesses are being founded elsewhere. The ones who truly believe that there’s money to be made in crypto are going to follow it.
To find out more about the subject, read the first in the series here: Entrepreneurial Arbitrage
Watch for Paul’s next post in this series publishing April 20th.
Paul Murphy’s software career has primarily focused on financial services and voice. On Wall Street he worked on a broad range of front and back office systems. He then became obsessed with the human voice as interface, building tools and applications that interacted with users over telephones. This obsession culminated in the founding of Clarify, which developed cutting edge speech recognition and language processing software for conversations. With Credmark, Paul is re-entering the finance space because he firmly believes that crypto is the foundation of the next global financial system.
This article does not constitute legal advice.
The opinions expressed in the column above represent the author’s own.