Capital Markets – 0 to 1 or 1 to n – Boon or Bane for Entrepreneurship

Capital Markets

A capital market is a place where buyers and sellers meet and indulge in trading of financial securities such as stocks and bonds. However for the purpose of this topic, I extend the definition of capital markets to include venture financing via private equity, angel investors, venture capital funds and financial institutions. Traditionally a capital market is recognised as system in which an individual or a company raises funds by issuing stocks or bonds. It usually is a more established entity that is raising the funds. But if we expand a bit more into the entrepreneurial eco-system, then an entrepreneur is doing the same at some point in his journey, by pitching to angels or venture capitalists for funding in exchange of equity in the company.

Established companies that go down the route of capital markets for raising funds to scale their businesses or bring in more efficiencies within the existing operation through fresh finance, are required to go through a very formal process with the governing body, qualify and access the market for the financing. Just as difficult it is for an entrepreneur to raise money for his/her idea, its quite a challenge for established businesses to also raise money in the capital markets. At the entrepreneurial level the scrutiny is done individually by the angel investor or the venture capital firm, but in the traditional capital markets, the governing body undertakes a thorough scrutiny of the companies business.

The ultimate truth remains validatory, whether it is an established business or a startup raising funds in the capital market, it is a big challenge and success in doing so is limited. But what about the scenario after having raised the money, is it a boon or a bane. At a generic level, the very existing of capital markets for companies or entrepreneurs to raise money is a boon. Imagine what would it be like if there were no capital markets? However we don’t need to answer that as we are fortunate to have these capital market systems in place and we can access them when required. One must also note that the challenges do not end once the entrepreneur or company has secured the funding or finance. Post funding the entrepreneur and the company have more responsibilities in terms of efficiently using the funds in the business and provide good returns to the investors and self. It is also required by the entrepreneurs and the company to report the financial statements to the investors time to time. While securing funding in the capital markets is challenging, the challenges continue post funding as well, to ensure that things are managed and running as per plans.

0 to 1 and 1 to n

I came across this ideology whilst reading the book Zero to One by Peter Thiel. Thiel refers to all vertical progress as 0 to 1, as these are unique innovations. And all of the horizontal progress as 1 to n, as these are merely an expansion of the original innovation to another market or geography. Entrepreneurs and companies that fall in the 0 to 1 category are the ones that have unique innovative products or services, hence they become category leaders with no competition, therefore easy to attract funding, provided the investors see the opportunity through the same lens. 0 to 1 entrepreneurs and companies are rare and also limited, and they are often misunderstood in the first few iterations. For example Google is most popular search engine, but it was not the first, it was the 18th search engine. Cleary the previous 17 entrepreneurs could not iterate their idea successfully to the market and / or  to the investors.

Entrepreneurs and companies that fall into the 1 to n category are usually the ones who are introducing a concept in geography that may find it to be a unique offering, but in reality it is a concept that has been successful elsewhere in another geography. This category is also referred to as the “This of That” category. For example Snapdeal = Groupon of India, Flipkart = Amazon of India before Amazon India launched itself in India. These entrepreneurs may find it easier to raise the money, as the concept is familiar to most investors, and it will attract money from those investors who missed out in the 0 to 1 opportunity of the concept.

Boon or Bane

Capital markets being a boon or bane for entrepreneurship and businesses is a very subjective thing. In the 0 to 1 scenario, if the entrepreneur, his/her idea, team, prototype, test market, all of them are checked right, then capital markets may be a boon provided they find an investor with the same vision and interests. It is also a boon for the 1 to n category of entrepreneurs and businesses, provided these categories are successful in their execution in the new geographies. The problem is when the investor or capital markets are blinded by the success of 1 to n types and hence are not willing to risk on a genuine 0 to 1. The investors forget that the geographies are different, hence the peoples aspirations, consumption patterns etc…. are also bound to be different, hence the result of their investments can be different as well.

Capital markets and money men do not necessarily carry the same energy and vision as the entrepreneur does. Money men look at opportunities in terms of risks and returns. Hence the capital markets become a bane to entrepreneurship as they do not share the same synergies most times. And the markets would choose to chase or invest in a familiar concept that has been successful elsewhere, but not risk investing on something innovative in its native geography. Fund managers are often under pressure to invest the fund allocated to them; hence they make familiar bets, considering it to be less risky. Which is a bane for the entrepreneur who has a unique concept in the same region as the company that has been funded for a familiar concept.

Familiar does not equate to success and unfamiliar does not equate to failure. Capital markets and money men have got into the mode of popularising the familiar as it is easy to convince self or the other to buy in. Companies and entrepreneurs that have a profitable business find it difficult to raise money, but those that may not be profitable are able to attract the funding based on “this of that” marketing and unrealistic valuations. The capital market as a system is a boon, but as a process is more times bane than boon for entrepreneurship.      

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