Democratization in early stage investments, thanks to amazing new networks like Angel List, is a fantastic and empowering development for entrepreneurs.
Qualified and specialised investors have knowledge about market developments, business development deals and traction, and can assess an investment with this insight better than somebody who is simply following others.
This active involvement and diligence is good for the entrepreneur!
Social proof-based participation in an investment round is a passive behaviour, similar to Yuri Millner’s latest strategy to simply invest in all YC companies.
Technology is grabbing a piece of our lives, and with that technology, companies and technology enabled companies take a disproportional amount of success rates in growing their businesses compared to the total economy.
This is the breeding ground for the herd mentality. Simply jumping on an opportunity that someone else has vetted is an easy way to participate and potentially be successful at the investment game in growth times.
I question, though, that this is long term helpful for the entrepreneur.
These social proof-seeking investors are the first that will get nervous when things go not as expected. Nothing ever goes exactly as planned–it may be worse or it may be better than you thought. Either way, the input of the herd in any outcome to the next level is harmful.
If things go better, the herd will celebrate you, you will start to believe the hype and you reassess your own value without vetting the problems that you need to solve for your clients.
If things go not quite as expected, the herd will shun you, and then they are on to the next trend. Instead of valuable, qualified feedback, they will give you zeitgeist fast food.
Aside from these post investment concerns, there is another issue for early stage, pre-traction startups in the fund raising process: The herd will follow what appears to be the latest trend.
A trend naturally develops after innovation has opened a new opportunity. So if a trend happens after an innovation cycle, does that mean that the herd is investing in imitators, rather than innovators? Sometimes.
In many cases, though, the lead investor has a decent understanding and follows due diligence. And with him, the herd may be lucky to participate in a true game-changing company.
So why is this bad for a startup? It is not, but it is important to understand the roles of the players. It starts to get difficult when a follower presents himself as a leader, and later in the diligence process, starts to seek validation from others.
Here, the lack of expertise of the follower does not allow you to present your startup for what it is: a bet on solving a problem for your customers. While vetting this bet with a deep market understanding and a solid foundation with knowledge is all you can ask for, add lack of expertise to the mix and you create insanity.
With a follower involved, the vetting process between the follower and the herd starts to be a bit like the blind leading the blind. You may spend a lot of time educating, and while you may feel great in that process and about the possible outcome, you may have also just entered a cul-de-sac. Always ask yourself what you are gaining from educating in this process because you clearly loose the most valuable asset–time.
There is an inherent problem with the trend of following herd mentality. Innovation is just not trendy at the time of the innovation.
I agree that the current development in the financial democratization is positive for entrepreneurs. It is amazing how much money is available today to start a company. Be cautious, though, about getting just any follower on board for your seed round, be selective and ask questions!
Make sure you engage with the experts first and use the herd to fill out a round, but never make a follower your lead.
Building a company and evaluating a start up is not a beauty contest where everybody can be a judge.
recognise that seeking social proof can be the enemy of innovation, be systematic in vetting your own assessment of the market and opportunity, seek expert advice, get the product out as fast as you can and find proof in early traction.
….and do not believe the hype, up or down!