Ask This Question Before Making Your Next Investment

By Wayne Mulligan, on Friday, August 2, 2013

When life gets bumpy, some people ask, “Why me?”  To avoid a bumpy ride when investing in early-stage companies, it’s best to ask, “Why now?”

The above passage is from the “7th Commandment” section of our whitepaper, The 10 Commandments of Crowdfund Investing, which can be found on our Resources page »

Given the importance of this topic, we thought it would be worthwhile to dig into it in greater detail.

You see, aside from evaluating a start-up’s management team, many professional investors believe that answering the “Why now?” question is one of the most reliable ways to predict whether an early-stage company will succeed.

So There’s a $20 Bill In the Middle of the Street…

One way to think about this topic starts with an old story you may remember from  Economics 101:

It seems an economist was walking to lunch one day. And as he’s crossing a busy intersection, he sees a $20 bill on the street.

Most people would bend down and pick it up. But not this guy – because he knows that if it were a real $20 bill, someone would already have grabbed it.

Now personally, I would have picked up the darn $20 – but I guess that’s what makes me an entrepreneur, not an economist.

And that’s why, in a world filled with entrepreneurs, one has to wonder, “If this start-up has such a good idea, how come no one has done it before?”

In general, there are three answers to that question.

1.  From a technical or consumer perspective, it was too challenging before – or even impossible

YouTube is a great illustration of this concept.

There were plenty of video sites before YouTube. How come they weren’t successful?

For the most part, it was due to a bunch of technological innovations that occurred at the same time, including:

  • Proliferation of high-speed internet
  • Advancements in Flash technology
  • Emergence of social media

If a start-up had tried to launch a business like YouTube before these innovations were around, they would have faced an uphill battle.

In the 90s, for example, most consumers were still using dial-up internet connections. Have you ever watched video on a dial-up connection? It takes forever to load, it freezes, it crashes your computer – it’s downright painful!

On top of that, Flash – the technology that is used to play YouTube videos – wasn’t a standardized file format until the 2000s.  In the 90s, it was predominantly used for short animated banner ads and interactive presentations. In fact, in order to view flash files, users had to download extra software!

And finally, the concepts of personal publishing and social media hadn’t arrived yet.

The first time I experienced a “YouTube video” was on my friend’s blog. He’d found a funny video on someone else’s blog and re-posted it to his own. After running into the same situation on hundreds of different blogs, I finally visited YouTube myself.

Before these changes and innovations came along, the world just wasn’t ready for a company like YouTube to be successful. But once they emerged, YouTube was able to ramp up their business over a few years – and sell it to Google for $1.6 billion.

2.  Regulations Made It Impossible

Equity Crowdfunding is a perfect example of this phenomenon – as is Crowdability!

Since the 1930s, laws have been in place that prevented start-ups from announcing publicly that they were raising capital, and prevented everday citizens from investing in these start-ups.

But over the last year or so, President Obama, Congress, and the SEC have been busy passing regulations that repeal these laws – and in doing so, they are making a whole new category of businesses possible.

I experienced a similar phenomenon with the last business I ran, a financial newsletter and education publishing company.

You see, before 1986, if a company published investment ideas in a newsletter, they had to be a registered investment advisor with the SEC. But in 1986, a man named Christopher Lowe changed all that.

Lowe argued that newsletters and newspapers were simply exercising their right to free speech. As long as the advice wasn’t personalized, and as long as it wasn’t a lie, a publisher should have the right to say whatever he or she wanted.

The Supreme Court agreed.

That decision paved the way for the creation of a new business – and spawned a multi-billion dollar publishing industry.

If you’d been an investor in some of these new publishing companies, it’s possible you would have done quite well – because your timing would have been good!

The timing phenomenon presents itself every so often in different sectors – for example, it’s occurred in the recent past with the wine industry, the deregulation of banking, and now equity crowdfunding – so keep your eyes open!

3.  No One Has Ever Done It Like This Before

Most entrepreneurs like to think they’ve unlocked some magical secret – something truly innovative – that will allow them so succeed where no one has succeeded before.

We wish them well. But 95% of the time, if you do enough research, you’ll find out they’re wrong.

That being said, “innovation” can pop up where you least expect it.  For example, the innovation might be not in technology, but in how a product is presented.

Apple’s iPod is a great example that we’re all familiar with.

It wasn’t the first MP3 player at the time: there were plenty of other products on the market by the time Apple introduced the first version of its music player.

And technologically, there was nothing special about it.  It was similar in size to other players; had similar music storage capacity; didn’t have a fancy touch screen; etc.

However, it had the Apple brand. It was beautifully designed. And it was marketed by master pitchman Steve Jobs.

How to apply this lesson to start-up investing?  Keep in mind that a company can capture lightning in a bottle if they have a novel way of presenting a product.

A recent example can be found in the Nest Thermostat. The thermostat is a utility device. We all have one in our homes.  But Nest focused on design and made it beautiful – and all of a sudden, everyone wanted one.

Timeliness Doesn’t Always Equate to Success

Timing certainly isn’t the only filter to use when evaluating a start-up.  And surely many businesses have succeeded without leveraging innovations in technology or changes in the legal landscape.

But with equity crowdfunding offering so many opportunities to invest in early-stage ideas, why not be patient and do everything you can to stack the odds in your favor?

Without a compelling reason why RIGHT NOW is the right time to launch a company, you run the risk of either being too early to the party – or too late.

To reduce risk, wait until the wind is at your back!

Best Regards,
Wayne Mulligan

Founder
Crowdability.com

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