11/19/15

Quoted in Fast Co — Welcome To Brain Science's Next Frontier, VR


VR and Brain Science are an interesting combination. Take a look at this article published in Fast Co on some existing things happening in the space. (You'll also find a quote in there by yours truly!).

 

9/14/15

Scientific reproducibility and impact investing

Reproducibility in science is a topic that's getting quite a bit of attention.

Three articles I'd encourage reading for different perspectives:

Given the impact investment sector's often reliance on the social sciences to guide their decision making—in pre-investment valuation & due diligence, post-investment outcomes monitoring, etc—I thought it would be worth briefly digging into why the reproducibility discussion should matter to impact investors.

The reproducibility discussion in science essentially boils down to the reality that even slight variations in one or more parts of the scientific method—be it experimental design/conditions, study participant characteristics, data collection/cleaning methods, and data analysis methods—can lead to material differences in a study's ultimate findings (as illustrated by the example below).

Are soccer players with darker skin more likely to receive red cards from referees?

A practical takeaway from this is to remind ourselves that when reading statements like: "intervention X, reduces outcome Y, by Z%", we need to be open to the idea that the cited "Z%" may not be a singular definitive value, as much as it may be a range of values.

A crude interpretation of this could be that variations in the scientific method are "a proxy" for the underlying sensitivity / risk associated with a certain finding. This type of mindset should push impact investors to think more carefully about how to interpret the statistics—especially in different contexts and use cases.

For example, in applications where absolute outcomes are imperative to an investment—like in pay for success contracts / social impact bonds—it may be appropriate to "stress test" the scientific method to uncover variations.

This may mean going beyond traditional literature research and looking into things like different analysis methods on the same raw data (third-party model validation), and/or running additional studies (targeted field-experiments). This is a step towards turning uncertainty into risk, and helps avoid expectation misalignments amongst pre- and post- investment stakeholders.

Accounting for variations in the scientific method—or at the very least, being aware of the possibility that they exist—must be part of the toolkit for impact investors relying on social science data to drive their decision making. If anything, the reproducibility discussion in science should serve to reinforce the need for impact investors to be cautious when extrapolating scientific conclusions from the lab into practice.

8/5/15

The risk-narrative for impact investments

Last year, I shared a risk-based segmentation that I frequently use for differentiating impact investments; outlining four primary segments (Catalytic, Partner, Venture, Luxury). The motivation for this was to frame impact investments from a point-of-view that was more intuitive to investors.

Under a risk-centric view of the world, the impact investment discussion would not be fixated solely on financial returns vs social returns (e.g. "impact"), but rather, by the types of risks-profiles that funders would be getting exposure to. Introducing risk more deliberately into a segmentation, opens the door for talking with investors about risk-appetite, risk-adjusted return expectations, and diversification benefit—all things that fit more squarely with existing portfolio management and finance theory.

I've since been refining this risk-based segmentation, and more broadly turning it into a "risk-narrative for impact investing". This has helped me in many of my discussions with impact-sector practioners and investors.

The following figures summarize the key pieces of the impact investing risk-narrative, and serve as a complement to my original article on segmentation.

1.  Impact Investing Relative-Risk Profiles—Impact investing segments and their relative risk profiles (illustratively weighted between "financial" and "non-financial" risk).


Impact Investment Relative Risk Profile

2. Impact Investment Risk-Return-Capital Matrix—Impact investment segments overlaid with supply-side (capital) considerations incl. risk-adjusted returns and capital mix/source.


Impact Investing Risk-Return-Capital Matrix

7/24/15

Social impact bonds primer

Those who have been following the impact investing sector have probably heard of Social Impact Bonds (SIBs)—otherwise referred to as Pay for Success (PFS) contracts.

PFS is a financing mechanism that brings together funders, payers, and providers to finance and execute on an intervention targeting a specific social outcome. The first SIB/PFS deal was in 2011 in the UK for recidivism reduction—and since then, more have surfaced around the world (e.g. US and Australia) exploring a variety of issue areas (e.g. health, child welfare, education, homelessness).


PFS Stakeholders — Funder, Provider, Payer. Source: PFS Investor Primer

From a funder perspective, PFS contracts present a new set of investable risks—whereby the interpretation and appetite for these risks vary depending on the nature of the investor and the capital base they work with (e.g. philanthropic, blended, investment).

For PFS, much of the experimentation with the first few deals have been seeded using highly risk-tolerant capital, and has mostly served the purposes of demonstrating:
  1. operational (and political) capability, and,
  2. demand-side willingnesses from payers (like government, who see PFS as a risk transfer tool) and providers (non-profits, who see PFS as a scaling tool)
I think that getting PFS to the next stage will require more deliberate attention on the supply-side picture (e.g. funders).

With many of the first PFS deals seeded philanthropically (which has cost of capital of ~0), much of the discussion around risk has been side-stepped. However, better segmentation of risks, and understanding of how these risks link to returns, will need to be the underpinning of any attempt to access/catalyze larger pools of capital needed for the sector to continue to grow/develop/experiment.

To kickstart this discussion, I've put together a high-level document detailing what I see as the key PFS risk factors ("model variables"), and how these link to financial return outcomes relevant for a broader set of funders. This is conceptualized using a basic cashflow valuation model, summarized in this a short primer.

Download here
Pay for Success - Social Impact Bond - Valuation Model / Framework Exerpt. Source: PFS Investor Primer

Thanks to Yale M for technical advice on the topic.

7/23/15

Startups, the macroeconomy, and engines of growth

Lately, I’ve been thinking a lot about whether or not a bubble (or bubble-like behavior) in startups is universally a bad thing once you consider the broader macro situation we're in.

We currently live in a world starved for robust economic growth. And to get growth, you must be willing to invest for it. Since the financial crisis, this is exactly what global monetary policy has been trying to accomplish by (rightly or wrongly) lowering interest rates to near zero levels. The idea is that lower interest rates dis-incentivizes savings, and instead incentivizes investment into higher-risk, higher-returning assets as investors reach for yield. This type of investment today then forms the foundation for tomorrow's growth.

Though, just as not all investments are created equal, the nature of the growth that comes with each may not be either. Investments create the conditions for one of two types of economic growth:

  • Long term growth—which results in new capabilities and efficiencies, new jobs, and has benefits that are broadly distributed across society.
  • Short term growth—which mostly creates value “on paper” and has benefits accruing only to a small group of individuals.

In the past few years, popular risk asset investments have mostly been focused on the short term rather than the long term. We see this manifest most clearly in places like the stock markets where investors have been focused on short term profits—vis-a-vis margin fueled buying and greater fool behavior, while corporates pursue aggressive share repurchases funded by cheap debt. 

Contrast this with startups—where, even though they're risky, they at least have a built-in incentive to focus on the longer term. 

In the best case scenario a startup will fundamentally change the way we think about, or interact with, a core element of our daily lives [1]. They'll introduce new technology (or application of a technology), create new industries and business models, and catalyze changes in workforce capability [2].

In the worst case scenario a startup outright fails and you lose the capital invested (a "fixed" downside). However, one could argue that there is still some long term growth potential from a human capital perspective. The startup's employees still walk away with first-hand experience in working with users and customers, pragmatic risk-taking, and hypothesis-driven experimentation.

We often discount the value of this "startup toolkit" and it's fungibility across all parts of the economy. If these individuals end up later working for a large corporation, the government, or a non-profit, the attitude and skills they bring can only help to energize traditional institutions to think more about longer term value creation.

So to the question posed at the beginning—is it a bad thing that we have bubble (or bubble-like behavior) in startups? In the grand scheme of things, I’d say probably not. Absent of timely investment alternatives elsewhere, we need every engine of long term growth we can get.

Notes:
[1] Examples could range from visible consumer tech companies (like Facebook) to other less talked about startup themes spanning clean energy, agriculture, social impact, etc.

[2] Concrete examples in the latest iteration of the startup ecosystem would be growing interest in things like coding classes, coding boot camps,  data science courses, growth marketing courses, etc.

Thanks to Trevor for reading versions of this.

6/30/15

Philanthropy is not only to do better, but to do differently

Jack Ma, in an interview with Charlie Rose, delivered an insightful perspective on philanthropy. In response to a question regarding his thoughts on the Giving Pledge and philanthropy in China, he responded (start watching around 16:10):

"...I never thought that the money I have belongs to me. It belongs to society. When you have a couple of million, you’re a rich guy. When you have 10-20 million, that’s capital. When you have over 100 million, that’s the social resources. Society gave it to you [...] it’s not my money..."
It’s that last sentence that I think is the most interesting, and worth abstracting.

Consider the US scenario. Philanthropy is given special treatment by the IRS. Mainly, contributions to charities and foundations are tax-exempt under Section 501(c)(3) of the tax code. Framing the notion of tax exemption another way, philanthropy can be seen as an "opportunity cost" to government spending on social resources. This means that the US government, and by extension US citizens, are trusting non-profit organizations with these resources to do better, and/or do differently than the government.

To do better, means to deliver more of a desired social outcome using the same resources. This concept has been around for a while, and has been widely debated. I’m not here to revisit that debate. I accept the premise that non-profits can do better than government in certain areas, and vice-versa. However, I do think there's room for improvement when it comes to having a robust evidence-base to show the differential between government and philanthropic-led social interventions/services.

To do differently, is where I think there's more headroom for growth and innovation. The biggest comparative advantage that philanthropic capital has over government capital is the loosening of constraints on dimensions like: return timeframes, deployment time, and politics—among other things. 

Philanthropic foundations answer to their own Board of Directors, their program staff, and to their stakeholders who don’t usually think along election cycle timelines.

The implication is that philanthropic capital boasts one of the most exciting features that very few other capital sources have—a potential for very high risk-tolerance. Its deployment can have a similar dynamic that venture capital has in the investment ecosystem. I think more non-profits and foundations need to recognize this and more critically evaluate their appetite for risk. This should start from the bottom (from how funding is deployed via grants), through to high-level strategy, culture, and spend-down timeframes.

To bring it full circle, philanthropy is one of the biggest tools we have in our toolbox for increasing system-wide social impact. It only logically exists if its: 1) helping to do better (e.g. increasing efficiency) and/or 2) helping to do differently (e.g. raising the bar and/or changing the paradigm). A risk-seeking culture has to be at the center of philanthropy that complements other "social resources". As with any basic principle of risk—only through taking big enough risks, will we ever have the opportunity at the bigger rewards.

6/29/15

What I learned from crowdfunding 74 projects

Up until recently, I didn’t give much thought to philanthropy. I found the whole process of selecting the “right” non-profit organizations to be unexpectedly complex. Like many of my 20-something year old (millennial) counterparts, my day-to-day experiences with philanthropy mostly defaulted to the occasional donations made through fundraisers hosted by friends or at work.

It wasn’t until I tried crowdfunding this past year that I found a more intuitive mechanism for making philanthropic contributions. Crowdfunding abstracted away some of the complexity associated with charity and provided a more systematic way to segment, target, and track my impact [1].

A recap of crowdfunding
Crowdfunding is one of those concepts that sounds simple, but in reality is deceptively complex. By definition, crowdfunding is “the practice of funding a project or venture by raising monetary contributions from a large number of people, typically via the internet”.

In the non-profit context, the term crowdfunding has been used interchangeably with digital fundraising, and is often viewed as a “channel” for engaging millennials. While crowdfunding certainly fits the definition of a channel — with unique user behaviors — thinking of it as such, only scratches at the surface.

Building a philanthropic “stock” portfolio
Most crowdfunding platforms allow donors to fund small-portions of discrete projects — effectively building a portfolio of philanthropic grants. Using an investment analogy, this is similar to buying and creating a portfolio of stocks.

While donations to multiple non-profit organizations can also simulate the experience of having a philanthropic portfolio, a project-based portfolio is conceptually more intuitive to segment, and track over time.


For example, last year I put ~$3.7k into 74 projects, which was levered up to ~$356k by others in the crowd. I clearly see my contribution relative to the total (~1%), and can track this portfolio of projects over time. Once each project completes its stated activities, I will also get a sense of the outcomes, impact, and next steps.

Like stock portfolios, I can also do things like slice and dice my philanthropic portfolio to see how concentrated/diversified I am, and adjust accordingly based on my preferences.


High resolution philanthropy
Most crowdfunding platforms operate on a project-based financing model. This allows for donors to allocate their donations down to the activity-level (vs the organization-level). This higher resolution philanthropy lets donors start with the question: “what specific things am I interested in supporting?”, rather than “what non-profits organizations do I want to support?”.


For example: consider if you wanted to help find a cure for ALS by supporting ALS research. Traditionally, the way you could do this was to support charities like ALSA — the charity that ran the Ice Bucket Challenge. However, ALSA does not exclusively focus on funding research (see pie chart). InFY2014, roughly $0.28 of every dollar went to research expenses[2].

With crowdfunding, donors have the choice (but not the obligation) to get more specific. Sticking with the ALS example, donors could instead donate their dollars on a crowdfunding platform to an ALS research project[3].

This was my personal preference. I used crowdfunding to get the specificity that I wanted — with roughly $0.80-$0.90 per dollar donated going directly to the researchers for research-related activities [4].

Marginal impact on donated dollars
One of the most difficult questions to answer in philanthropy is how to maximize the marginal impact of one’s dollars.

I won’t get into more philosophical debates like whether “funding the arts is better than funding poverty interventions”, but rather, more broadly discuss the new information that crowdfunding provides to donors to complement their decision-making.

Most crowdfunding platforms require that any campaign/project make public their total budget and budget-breakdown. The platform will also display how far (or close) a project is from its budget goal. It changes the fundraising attitude from, “we’ll raise as much as we can” to “we’ll raise as much as we think we need”. It may seem trivial, but disclosing these pieces of information is critical.


With this, donors can think about marginal impact along the dimension of need. All things equal, I felt more comfortable with making choices about where my next dollar would go. For example, I preferred funding projects farther from their goal, rather than those already past its goal.

This type of information also has implications for reducing concentrations of donations (a limited resource) to a small number of charitable organizations/causes — potentially helping to maximize marginal impacts across the philanthropic ecosystem.

In Conclusion
Defining crowdfunding merely as a “channel” for engaging donors to support “business as usual” philanthropy leaves a lot of opportunity on the table. Crowdfunding provides donors the infrastructure to experiment with high resolution philanthropy, a portfolio approach to making donations, and new decision tools to evaluate marginal impact.

Ultimately, this post is about highlighting — from a millennial donor’s perspective — observations from a year spent crowdfunding. It’s not to suggest that crowdfunding will replace traditional philanthropy. But rather, to encourage discussion and debate on points that I think should be getting more attention in the broader conversation when it comes to millennials and philanthropy.


Notes:
[1] I focus here on my own observations — recognizing that while I classify as a millennial, I don’t speak for all millennials, nor do my views only apply to millennials. Any data I reference from my own crowdfunding experiences, are compiled from publicly available data from my crowdfunding profile: here.

[2] Looking at ALSA’s 3 years of financial statements, the “Research” expense line-item has been roughly consistent (though this may change in FY2015 after the Ice Bucket Challenge).

[3] This is not to say that non-research activities (like patient & community services, public & professional education, and fundraising), are not important. Rather, that everyone has their own preferences — which could be very specific, or broad-based. There are people who don’t want the specificity and trust charities to allocate the funds accordingly.

[4] Most crowdfunding platforms charge a $0.05 platform fee, $0.03 payment processing fee per dollar donated. There sometimes is an additional gift processing fee from the receiving organization that amounts to ~$0.02-$0.10 per dollar donated.

Thanks to Lorena and Brian for reading drafts of this.

6/8/15

When crowdfunding becomes a commodity


In recent years, the technology stack powering crowdfunding platforms (for rewards- and donations- based crowdfunding) has been nearing commodity status.

This has been driven primarily by developments in the payment layer — where companies likeStripe, Braintree, and WePay have converged on world-class payments-as-a-service (PaaS) solutions for crowdfunding / marketplace platforms.

As crowdfunding platforms become increasingly undifferentiated based on their technology, operators face a critical decision:

1) Double-down on their technology to become the tool for general fundraising activities; generating growth through increasing transaction volume.

2) Focus on funding discrete projects in a specific vertical; generating growth by expanding the Community and integrating vertically.

Both present different business models and serve different market needs.

1. Building the technology for fundraising: Crowdfunding-as-a-Service
Platforms that place their bets on technology are effectively commoditizing the remaining feature layer of the crowdfunding tech stack. They are competing to become the premier “crowdfunding-as-a-service” (CaaS) player.

Under this approach, the traditional crowdfunding fee-for-service business model remains the dominant revenue driver — where, in exchange for a small platform fee (typically 5–7% per $ raised), the platform offers standardized tools to run a fundraiser.

Due to low switching costs and thin profit margins, the platforms that survive and “win”, are the ones that command significant transaction volumes, offer the best price points, and are first to realize economies of scale [1].

Companies that most resemble CaaS platforms today are the “anything goes” platforms like Crowdrise, FundRazr, GoFundMe, Indiegogo, and Tilt.

In the long-run, we should expect this grouping of platforms to consolidate — limiting the feasibility for new entrants. Platforms heading down this path will need to generate growth by aggressively increasing transaction volumes. The implications for this are as follows:

Shifting towards cause-based fundraising — e.g. for non-profits,individuals, etc
Cause-based fundraising is attractive for CaaS platforms for two reasons:
  • Cause-based fundraisers are typically run by organizations or individuals with established donor networks and/or brand. There is less of an expectation for there to be an existing Community on the crowdfunding platform to fund campaigns . In fact, it’s often understood that these crowdfunding platform serve as a technology enabler for existing fundraising initiatives.
  • Cause-based fundraising campaigns tend to not be as rigidly project-based, and therefore, are usually structured as keep-it-all (KIA) crowdfunding campaigns. KIA refers to funding where donations are collected and processed regardless of if a campaign hits it’s specified target. As a result, KIA crowdfunding guarantees healthy transaction volume on which platforms can charge their fees — a feature critical for the economics of volume-driven businesses [2].


Lowering fees in exchange for scale
One of the levers that crowdfunding platforms can control is their platform fee.

Well-capitalized (or already profitable) crowdfunding platforms will need to experiment with lowering their platform fees as a way of driving more transaction volume.

Platforms like Indiegogo are already experimenting with varying (lower) fee structures. Non-profits get a 25% discount, while, Indiegogo Life (the new personal fundraising extension of Indiegogo) offers a 0% fee for all personal fundraisers.

This gamble can be worth taking as larger transaction volumes unlock benefits resulting from economies of scale. One example is with payment processing fees — where processors offer lower credit card fees per transaction as larger volumes are processed. These savings can be passed onto users (to further boost volumes) or be kept entirely (to boost margins).

Racing to internationalize the business
Being first to a new geography creates a number of non-technical competitive advantages for CaaS players in terms of capturing volume . This includes raising brand recognition ahead of competitors, and establishing strategic partnerships.

Fortunately (or unfortunately), crowdfunding payment processors like the ones mentioned above, have significantly simplified the technical requirements for going international.

As a result, many crowdfunding platforms are now on equal footing when it comes to international expansion. This makes quick international expansion an imperative. For example, at the time of writing, any crowdfunding platform using Stripe Payments will immediately have access to payment infrastructure that can accept and settle payments for 20+ major countries around the world.

2. Picking a niche, and growing beyond crowdfunding
Platforms not undertaking a CaaS strategy will need to create competitive advantages that don’t rely solely on price and transaction volume.

A platform’s competitive advantage will need to come from:
  • Developing an expertise in a specific vertical (and the strategic / operational challenges that come with it),
  • Cultivating an engaged and relevant Community that interacts with the platform frequently, and
  • Expanding into other value-added services within the specific vertical — diversifying from crowdfunding.
Companies best positioned for this approach are the ones that started out serving a specific vertical, fund rigid projects (not open-ended causes), and have a company culture that puts their Community at the core of their business.

Kickstarter is the most notable example. They serve the creative projectvertical to enable the creation of consumer tech, games, and film (among other things). There are also others popping up for verticals like science,healthcare, etc.

In the long-run, we should expect an expansion in the number of vertical-focused platforms. The template for how these platforms grow and scale will be subject to vertical-specific dynamics.

That said, there are general implications we can draw:

Broadening the definition of Community
Most vertical-focused crowdfunding platforms have Community management teams. These teams are responsible for (among other things) engaging with funders and project owners to get feedback for improving the platform, setting the culture, and advancing the collective Community’s broader mission.

While funders and project owners are important users, there are others that could benefit from / add value to the platform’s Community.
  • A starting point will be for platforms to experiment with the role of vertical-specific influencers, organizations, subject-matter experts, enthusiasts, journalists, bloggers, etc. In aggregate, the integration of these “non-funders” into the Community serves to:
  • Broaden the mandate and value of the Community beyond funding,
  • Strengthen network effects,
  • Improve distribution for fundraising projects, and
  • Democratize participation beyond only those with the financial means.

Developing a content strategy
Crowdfunding campaigns funding discrete projects are often the first step towards telling a much bigger story.

Most crowdfunding projects today are hosted on static landing pages that collect donations and provide some contextual content (e.g. text, video, images, comments, updates). Going forward, there are opportunities to use this content in a more deliberate and structured manner to tell a story.

Some early examples include:
  • Kickstarter’s timeline: Where all project pages have been changed to visual timelines (ex here) — reinforcing the fact that each campaign is a story that doesn’t end only with funding, nor does it have to only be about funding.
  • Experiment’s lab note update feature: Where updates are a channel forpublishing real-time science content not found elsewhere on the internet.
As the quality of the content improves and use-cases are better defined, content will become an increasingly important channel for re-engaging users to the platform.

At scale, content can also be filtered, sorted, and aggregated in more meaningful ways — opening the opportunity for crowdfunding platforms to evolve into themed content platforms.

Focusing on “fulfillment” activities
Project-based crowdfunding usually involves some fulfillment activity — e.g. funds raised to build a product, produce a film, conduct a research study, etc. A next step for many platforms is to offer fulfillment services to project owners.

For example, platforms like Kickstarter could provide services that help with the prototyping and manufacturing for product-themed crowdfunding campaigns. They could offer these services in-house (for a fee), and/or through partnerships with a trusted network of providers (for a referral fee).

This not only opens up other (higher margin) revenue streams, but can be beneficial for project owners as platforms have the buying power to negotiate for bulk discounts on the most frequently used services.

In conclusion
As commoditization comes into full swing, platforms will either aspire to be the largest Crowdfunding-as-a-Service player for generalized fundraising, or become a niche player that looks vertically in the value chain for growth opportunities.

The first wave of disruptions brought on by crowdfunding challenged conventions around how the world could fund things via the internet. This next wave will not only reinforce the role of technology in fundraising at a global scale, but will challenge us to see that funding is only one of many activities that “crowdfunding” platforms can offer.


Notes:
[1] A CaaS competitive landscape is similar to the payment processing landscape where margins are very thin and switching costs are relatively low. For example,Balanced Payments, a payment processor with close to half-a-billion in annual transaction volume had to closed their doors earlier this year, amid competitive pressures from other players.

[2] By contrast to KIA crowdfunding, all-or-nothing (AON) crowdfunding has funding risk involved. AON crowdfunding is where pledges only materialize into a donation if the project hits its stated target. AON crowdfunding applied to a low margin, high volume business can introduce material stresses / unpredictability to the platform economics.

Thanks to Phil for reading versions of this.

5/25/15

Why crowdfunding isn’t just digital fundraising

Non-profits often ask what the difference is between crowdfunding and digital fundraising.

I usually start by explaining that crowdfunding builds on traditional (digital) fundraising by explicitly setting target-based fundraising goals.

I then proceed to explain that there are really two types of crowdfunding. One type of crowdfunding is the keep-it-all (KIA) model — where a project creator keeps all of the funds raised regardless of meeting the stated target goal. The other is the all-or-nothing (AON) model, where the project owner must raise enough funds to meet or exceed the stated target.

The former (KIA model) takes an incremental step from traditional fundraising, while the latter (AON model), is where there is the potential for more significant innovation.

In the AON setup, the collective decision made by a group of funders is what determines the monetary success of the project (be it product, film, research, etc).

As a result, new elements are introduced into the non-profit fundraising equation that didn’t necessarily exist before — like the idea of funding risk, social metrics, and marketplace management. These elements, if used properly, can serve to help non-profits achieve different goals.

Non-profits that understand the implications of these 3 elements can then frame crowdfunding in a different lens and identify new strategic opportunities.

1. Funding risk and choices
Embedded within the AON crowdfunding model is a clear-cut definition of funding success and funding failure. Projects either make it, or they don’t. There are no in-between outcomes. By design, there is an inherent risk that any given AON crowdfunding project may not receive any funding. Let’s call this funding risk.

On the other hand, KIA crowdfunding (i.e. “traditional fundraising”) is not exposed to the same type of funding risk. Stated another way, if you calculate crowdfunding success in terms of dollars — i.e. the total dollars successfully collected divided by the total dollars pledged, KIA crowdfunding always has a success rate of 100%. All the money you raise you keep.

The implication of having funding risk in the AON model is that it leads to more meaningful funder trade-offs and choices. In AON crowdfunding, a funder’s choice to fund one project over another has a cascading impact on the entire crowdfunding ecosystem — be it other funders, project owners and the platform itself.

The projects that end up being successful through AON crowdfunding, on AON crowdfunding platforms, should be a reflection of the best project proposals (amongst the ones presented). The ability to filter ideas is one of the interesting features that is only possible with AON crowdfunding.

2. Social metrics and new opportunities
Related to the concept of funding risk, AON crowdfunding platforms also offer new social metrics that can be used to evaluate a project’s viability. The number of people who contribute, who they are, endorsements, etc, can all be used as indicators for a project’s viability.

As more funders (i.e. the “crowd” [1]) pledge to an AON project, more information is added to the available pool of social metrics. This then becomes available for the next funder to use in their decision-making process (if they choose to), up until a project hits its stated goal. Not only does this serve as a cost-effective mechanism for socially vetting project ideas, it serves as a template for de-risking projects and ideas that are historically hard to evaluate.

AON crowdfunding platforms at larger scale are already showing how social metrics can be used to de-risk ideas that under traditional methods, are difficult to evaluate in a cost-effective way. Below are two examples from Kickstarter and Kiva Zip [2].

Case A: Kickstarter (www.kickstarter.com)

Platform overview: Kickstarter is an AON crowdfunding platform where creators post creative projects online (be it for products, film, book, etc) for the crowd to collectively fund. In exchange for a certain level of contribution, funders get a corresponding reward.

Social metric: The social metric that matters most for the project creator is the number of funders that pledge to their project–assuming that the project reward tiers are logically designed.

De-risking: Project creators can validate that there is a minimum level ofdemand for their idea before investing a more significant amount of time and money into production of said idea. It removes demand-risk, one of the hardest things to gauge beforehand for things like new products, films, books, etc.

The most successful Kickstarter campaigns (by funding raised) were able to vet their idea across hundreds of thousands of people before making a significant investment of time and money. This form of vetting has become so commonplace that it has been termed as “pretail”. This is what makes Kickstarter one of the most valuable testing grounds for new products.

Case B: Kiva Zip (www.zip.kiva.org/)

Platform overview: Kiva Zip is a crowdfunding platform for micro-loans (~$5,000 on average) to small businesses. Lenders crowdfund a loan that helps a borrower grow his/her business (i.e. buy equipment, raw materials, hire more labor etc). Incremental income generated from the growth is used to repay the loan. Their lending is philanthropic in nature.

Social metric: Different than Kickstarter, Kiva Zip doesn’t rely as much on the number of backers, but rather, who the initial backers are. Before a borrower is allowed to crowdfund their loan publicly, they must first get a minimum number of people they know (called invited lenders) to seed the crowdfunding campaign. A Kiva-authored analysis on loan repayment rates (their measure of project viability) shows that repayment rate generally increase with more invited lenders [3].

Kiva Zip Loan Repayment Rates vs Invited Lenders Chart

De-risking: The Kiva Zip team and their community of lenders are starting to use the invited lender count as a gauge for the borrower’s credit risk (ability to pay back the loan).

This can have significant implications because the Lending industry today (i.e. big banks) does not service borrowers who need relatively small loans to grow their business — mostly due to the underwriting economics.

For example, the fixed-cost associated with assessing a borrower (i.e. pulling a credit file, doing a background check, etc) for a $5,000 loan is roughly comparable to assessing a borrower for a $50,000 loan. Since interest on a loan is relative to the principle size, the evaluation of a micro-loan is not cost-efficient.

Kiva Zip’s use of the social metrics is essentially cost-free, and allows them to economically serve the underserved micro-loan segment of the lending market [4].

3. Managing a marketplace, not fundraising organization
Often overlooked in the non-profit crowdfunding discussion is the fact that crowdfunding platforms (AON crowdfunding platforms specifically) function more like a marketplace, than a fundraising organization.

Ask any (AON) crowdfunding platform which company they are most similar to, and many would list marketplace businesses like: AirBnbCoursera, and Uber.

Hallmarks of marketplaces include: the management of supply- and demand-side users as a community, and a focus on a specific vertical. A quick scan of the crowdfunding landscape today reflects this.

Donation Crowdfunding Landscape (excl investment platforms) as of 5/2015

Community management: innovation and strategy
Marketplaces enable innovation from the bottom up, through their community. Their approach to managing the community is to set the rules of engagement, and then create an environment for the community to self-govern as the platform scales and grows. This means that the community will be the ultimate driver of long-term strategic decisions, not the platform’s management team.

Contrast this with a traditional top-down fundraising model, where management typically defines long-term strategic initiatives, and raises funds to make it happen.

An AON crowdfunding platform understands that it only exists to reduce the intermediation friction that exists between people on both sides of their marketplace. They don’t make too many sole decisions on things like strategy, what to fund, what ideas to surface, etc. They merely facilitate it through the platform.

Vertical-specific: ecosystem and partnerships
AON crowdfunding platforms that are vertical-specific, are positioned to engage their community to tackle tough challenges that exists within the broader industry they operate in.

AON crowdfunding platforms can be natural strategic partners for existing incumbents in the industry because they usually service different parts of the funding/innovation pipeline using different funding approaches and philosophies.

This was hinted at earlier with the Kiva Zip example, and their role in the micro-lending segment of the loan industry. Similarly, Kickstarter is filling the earliest parts of the innovation pipeline in creative products.

In closing
Non-profits interested in tapping into the true potential of crowdfunding must be willing to embrace the all-or-nothing (AON) model, and all the things that come along with it. This means being able to: 1) accept funding risk, 2) leverage social metrics, and 3) adopt a marketplace mentality.

Non-profits that are thinking about crowdfunding should ask themselves the following as they map out their strategy:
  • Do all 3 of the differentiating points presented resonate with the needs of your organization? If yes, you’re probably looking to start your own crowdfunding platform.
  • Do all but the last point resonate with the needs of your organization? If yes, you’re probably looking to strategically partner with an existing AON platform in the vertical you’re interested in–taking advantage of the infrastructure and community they’re building today, and in the future.
  • Anything else? You’re probably looking for a digital fundraising solution [5], and should frame your policies and decision-making as such. Be careful of prematurely defining a crowdfunding strategy that completely misses the innovative elements of the space.
Admittedly, crowdfunding described from an AON lens introduces new ideas, questions and concerns. However, as with any transformative ideas, it by definition has to look different than what has existed before. This is venturing into the territory of the things we’ve never done before — the only place where we can expect real innovation to happen.


Notes:

[1] The crowd can be entirely curated, semi-curated, or not curated at all. The point is that there’s some group of people willing put their money where their mouth is.

[2] We won’t cover equity crowdfunding–although, venture capital has effectively operated on a crowdfunding model for a long-time. VCs often look at “who’s investing” as a barometer for the quality of the investment.

[3] This must be qualified to state that correlation does not necessarily signal causation. For causation to be proved, further analysis or published experimental design/data analysis is needed.

[4] Kiva Zip’s average loan size is ~$5,000-$6,000. While that exact figure isn’t important, it is worth noting that many AON crowdfunding platforms typically target smaller funding sizes relative to the broader funding ecosystem they work in.

[5] It’s important to note that this post does not mean to say that digital fundraising is not important. In fact, it’s very important, and critical for non-profit organizations looking for lower cost ways to fundraise.

Also, on average, one might observe that AON crowdfunding tends to bring in restricted funds (which can be good for its application) whereas KIA crowdfunding/digital fundraising, for all intents and purposes, brings in less restricted / unrestricted funds. The importance of this point can’t be overstated. Non-profits need the flexibility to deploy funds where it’s needed most.

Thanks to Phil, Oscar, Lorena for reading versions of this.

5/19/15

Science startups and our future

More and more “science startups” are appearing in VC portfolios:
Intuitively, this shift towards science shouldn’t be surprising. We need solutions rooted in science to help us figure out: how to power our planet, treat illnesses, manage our natural resources, and govern our increasingly borderless world.

However, for many VCs, the mention of investing in science startups can conjure up bad memories. Significant capital requirements, politics, and lengthy go-to-market timelines turn many science startups from “good idea in theory”, to “bad idea in practice”.

As VCs continue to build-out their perspectives for science startups, there are three key things that they should be thinking about: 1) Investment in platforms ahead of technologies, 2) Consideration of hybrid capital structures, and 3) Consideration of alternate pathways to exit.

1. Platforms first, breakthrough technologies second
Investors interested in science startups must broaden their scope to not only consider investment in breakthrough technologies (like new drug-delivery systems, advanced materials, and more efficient batteries), but also inplatforms enabling their development.

Many of the science startups surfacing in the most recent tech boom have been platforms built to streamline, automate, and remove process frictions at various parts of the scientific value chain, or “science stack”. These include startups that make the funding process, doing experiments, and sharing of the results, faster and cheaper.


As these platforms (and others to come) mature, investors not only generate returns from investing in the new infrastructure of science, they also set the stage for bringing costs down across the entire value chain.

This opens the door for investors to take more bets on startups developing new breakthrough technologies — while getting diversification and keeping overall investment check sizes small. Getting to capital efficiency, is the only natural hedge against the significant technical risks embedded in pure-technology plays.

This is why focusing on platforms first, before technologies, is important.

2. Hybrid capital structures
Given that developments in science and technology have broad social impacts — it will inevitably catch the attention of government and philanthropic stakeholders.

For investors, this practically means being aware of the philanthropic, government, and investment capital in play at all times. Each type of capital has its own objectives, constraints, and risk-return profile. No one entity can operate in isolation, as the decisions made by one, affect everyone else.

As we’re seeing in other social-impact verticals like recidivism, homelessness, and education, this can actually be an advantage in accelerating the pace of change — if creative solutions to blend these three types of capital are explored.

Take recidivism social impact bonds (SIBs) for example. Governments pay for successful recidivism outcomes; from cost savings generated by the social programs executed by non-profits; seeded by investment capital and philanthropic guarantees. SIBs in this example, are essentially risk-transfer programs that allow for the government to co-invest with the private and philanthropic sector to accelerate a particular social impact.

Similar ideas can be applied for science startups in cases where the risks embedded are too high for investors to bear alone —and require some de-risking using other types of capital. This would be most relevant for the development of breakthrough technologies struggling with the idea to impact gap.

VCs can potentially expand the scope of their investment opportunities if they bring mission-aligned partners (like philanthropic organizations or government) to the table with their unique capital base to create win-win partnerships.

For example, larger foundations could partner with science-focused VCs to co-invest by providing first loss capital, program related investments, or strategic grants. For investors, this would balance out the risk-return profile — making startups developing high impact technologies more “investable”. For foundations, their capital would be “levered up” and directed towards science that has a bias for translation into real societal impact.

3. Alternate pathways to an exit
Many science platforms, like the ones described in the graphic above, will be suited for public offerings — with business models that are fairly similar to other software startups.

However, not all science startups are positioned to exit via traditional pathways like an IPO. For example, startups developing breakthrough technologies may not neatly fit into this bucket.

A new technology may be a good product but not necessarily a good standalone business; the infrastructure needed to scale up a technology may require robust supply chain relationships; or the founders/inventors of a technology may not want to pursue entrepreneurship full-time.

Investors looking to capture the most value from their investments must be flexible and willing to explore alternate exit options. This could include: investing more heavily in corp dev relationships, strategic partnerships with established supply chain players (think Quirky’s model), and/or training managers to step in and build out new businesses.

In conclusion
Science startups have all the makings for VC involvement. They go after big problems, with big markets, and are high risk.

Those developing their investment perspectives for science should look for opportunities to fund enabling platforms ahead of technologies, experiment with hybrid capital structures, and explore alternate pathways to exit.

Addressing the environmental, social, and health challenges that our generation faces in the next 50–100 years requires bold risk taking. The good news is that we’ve never before been in a sustained investment climate where so much risk-capital is available and searching for the “next big thing”. We should take this opportunity to deploy this capital productively.

As a friend of mine liked to often say: “an investment in science, raises all boats”.

5/14/15

A venture capital approach to science grantmaking

One of the major challenges facing the US science ecosystem today is the shortage of funding for novel and risky scientific ideas.

In talking with a number of scientists, the core of the problem seems to lie with the design of the current funding model.

The traditional peer review-like approach to grantmaking, limited funding resources, and political pressure, leave a suboptimal environment for surfacing, cultivating, and funding the types of risk needed for breakthrough science.

Making progress against this reality requires fresh thinking that looks outside-of-the-box for solutions.

One way to start the discussion for change, is to look to other risk-seeking funding models for inspiration. One place where this could be warranted isventure capital. As the most mature funding model that constantly transacts in risk, lessons from how VCs fund startups may be instructive for science.

A comparison of the two provides a foundation for debate around what I call“a venture capital approach to science grantmaking” .

Comparing venture capital investments vs science grantmaking
The VC ecosystem today is highly differentiated and works as a funnel. The top of the funnel is loaded with a large number of risky startup ideas that all receive small amounts of funding.

As ideas become validated with real outcomes data, only the best move onto the next stage of financing. Each stage of financing brings its own types of investors specializing in certain risk-return profiles.

Current VC Funnel For Investments

While the venture capital “funnel” shares some common characteristics with science — mainly, in its segmentation of risk into tiers, there are some notable differences. The main one being: the science funnel (today) is inverted with no robust support (in funders and funding) for “pre-seed” stage research ideas.

Note: Pre-seed stage research ideas are scientific hypotheses that just need a little bit of funding to get some preliminary data — helping to see if the line of research is worth further exploring.

Current Science Funnel For Grantmaking

Many traditional science funders have noted that there are practical constraints to vetting and managing a portfolio of research grants fitting the pre-seed description.

Therefore, changing the risk paradigm in science starts with addressing this crucial gap in the pre-seed space. We must not be afraid to experiment with new and oftentimes unconventional approaches. By addressing the challenges at the top-of-the-funnel, we should see a positive trickle-down effect through the rest of the ecosystem.

Fixing the top-of-funnel by going smaller
Funnels in venture capital work because they help to segment risk, standardize expectations, and most importantly, create right-sized investment opportunities at each risk tier. At the pre-seed stage, small investments are critical for uncovering just enough field data (per idea) to help get to a go/no go point on more significant investment.

Also, by going small, investors can diversify over a larger number of investments, while at the same time providing more “at-bats” for entrepreneurs.

Creating a similar dynamic for science practically means more experimentation with grant structures that are smaller in size, more concise in scope, shorter in duration, and less of an administrative burdento secure.

Those (funders) willing to take up the challenge and opportunity of funding pre-seed research, will need to re-think grantmaking conventions on a number of dimensions:
  • Grant size: What is the appropriate “small” grant size for a pre-seed and seed stage research idea? Does it differ by field? How can we make $5,000, $25,000, $100,000 work consistently?
  • Peer-review: How should we engage “experts” to evaluate high-risk ideas in a constructive and cost-effective manner? Should we engage non-experts? Can crowdsourced review, cross-disciplinary review, and endorsement-based review fit in?
  • Due diligence: How can we design a process where “vetting effort” is inversely proportional to the risk, and proportional to the size of the grant? This means considering short proposals, with fast decision-turnaround times, etc.
  • Overhead: What is the appropriate level of upfront overhead for small grants so as not to stifle innovation? Can overhead be “fairly” recovered from larger follow-on grants if the preliminary ideas are successful?
  • Follow-on funding: How much funding should be made available if the preliminary idea is successful–either by the original funder or other funders within the ecosystem? How can we create more co-ordinated funding partnerships across the ecosystem?

New funding mechanisms
In addition to technical changes and experiments that need to be run when funding smaller, the mechanisms that surface ideas, allocate the funding, and manage the portfolio of research projects will also need to evolve accordingly.

In venture capital, the mechanisms that have been effective in servicing the earliest parts of the funding funnel are accelerators and crowdfundingplatforms. These are distributed community-centric funding mechanisms that involve diverse groups of stakeholders — including domain, and sometimes non-domain experts [1].

Adapting these mechanisms for science may be a good starting point for operationalizing the funding of higher risk early-stage research.

Accelerators: a local focus
Popular startup accelerators (Y Combinator, Tech Stars, etc) bring together startups in batches, in one physical location, and for a short period of time. They surround them with the tools/guidance to develop their ideas (usually a product), and seed them with a small amount of funding to get started.

The environment is collegial, and fosters a strong sense of community amongst the participating entrepreneurs that helps bring up the quality of the companies/ideas.

The general partners running the accelerator are typically long-time startup veterans who source and vet applications for the accelerator, help entrepreneurs think through their challenges, and act as a sounding board to help them see the forest from the trees. They are not there to prescribe step-by-step guides.

A similar setup can be employed for science — building on the types of research collaboration that already happen within universities, colleges and public lab spaces.

Science funders (be it philanthropy or government) can explore partnerships with groups of local institutions to design accelerator programs targeting early-stage research ideas.

Like a tech accelerator, small funds (grants) would be dispersed to a number of scientists (which can be from all experience levels). Professor emeritus/retired scientists associated with these local institutions would be a possible choice as the general partners running the programs, and helping with the process for determining who’s included in each funding batch.

Institutions benefit from this type of partnership, as it strengthens their own early-stage research pipeline, and provides a possible avenue for winning larger grants later on. Funders benefit, as this is a source of local “deal flow” that targets different grant risk-return profiles that they wouldn’t normally have access to.

Crowdfunding platforms: a global focus
AngelList (equity), Kickstarter (donations), Indiegogo (donations), and other platforms have forever changed the landscape for funding startups — or products that later become startups. Crowdfunding platforms rely on the crowd to vet and fund early stage high-risk ideas.

Many of the projects/deals on these platforms are for preliminary (sometimes just “back of the napkin”) ideas that are inherently risky. In the case of the donation-based platforms, some plain-English text and a video explaining the idea is all that’s provided for funders to make decisions.

This is something that is in its nascent stages for science but could have significant implications as platforms scale up.

For example, crowdfunding platforms, opposite of accelerators, are built to be geography agnostic. They allow ideas and funders from around the globe to participate in proposing and funding ideas.

Furthermore, crowdfunding that employs an all-or-nothing (AON) funding approach double as a marketplace that can vet/vote on high-risk ideas at a low cost (addressing some of the above questions around the technical elements of small grants).

Larger science funders could leverage crowdfunding by engaging with platforms to use their community or “crowd” to complement their top-down decision-making (balancing biases), and as a source of global “deal flow”.

This practically would mean experimenting with matched funding, or setting aside portions of their funding for the crowd to allocate on their behalf. The diversity of the community forming around each project would be assets for supporting the scientist, critiquing the science itself, and as an audience for science communication efforts.

In closing
Changing the risk paradigm in science is complicated, and will involve experimentation and new thinking.

Looking to venture capital gives us one model that can be used as the basis for things that could be tried. A venture capital approach to science grantmaking points to the need for new grant structures that target bigger risks in smaller more and incremental ways, and supported by funding mechanisms that are fit-for-purpose.

Though we have a ways to go, the silver lining in all of is that we have the tools, talent, and desire to make this change. We just need to take that first step, and take some risks.


Notes:
[1] Any solution for science funding must also consider one important caveat differing from the investment world: it should try to engage a broader audience in the funding decision-making process.

As an example, the philanthropy of billionaires that directs what research gets funded and what doesn’t is a growing concern from a funding “systems” point-of-view.

Thanks to Trevor for reading versions of this.