Editorial note: This is a guest post by Richard von Kaufmann, co-founder of Zipipop and Chairman at Reality Creating Media. He has studied in great detail the different crowdfunding opportunities for some of their clients and we thought that it would be a great chance to understand the industry by sharing his findings with our community.
Government-based innovation funding agencies around the world have a great challenge to continually identify the innovative concepts and teams with the best chances of success. In recent times there has been growing criticism of the effectiveness of some Finnish funding mechanisms, but similar issues affect public funding agencies around the world.
It is now generally accepted that diversity in team compositions leads to better decision making, and there is growing evidence that, given the right conditions, other means of increasing the range of opinions also produces better results.
This then begs the question as to the validity of relying on just two or three staff, or at best a small committee, to make decisions on the funding applications that are submitted to national innovation funding agencies.
This article makes the case for opening up the decision-making to involve larger communities, using known crowdsourcing principles and social technologies, to improve the quality of funding decisions. It also introduces the potential benefits that could come from developing a government-backed crowdfunding platform that would make it easier for private individuals to invest in early-stage startups.
This article has been inspired by my work at the social media agency Zipipop, where I am the co-founder and Concepting Director; and the crowdsourcing application developer, Reality Creating Media (RCM) where I am the Chairman and a partner; however, the views expressed do not necessarily represent either company.
Towards a startup rating community
The restricted number of staff involved in making funding decisions has traditionally been due to practical constraints and the need to restrict the costs of the assessment process; and also partly to the conventional wisdom that such decisions must be made by experts in the particular areas of investment.
By making use of established social media-based technologies, however, the logistical challenges and process costs can both be drastically reduced and more diverse opinions easily processed; therefore, it is now time to review how funding decisions could be improved in cost- and time-effective ways by taking advantage of new collaborative capabilities.
Wikipedia is one of the prime examples of harnessing the wisdom of crowds, and it has virtually blown away the notion that only recognized experts are qualified to write encyclopedias.
If we decide to stick with the belief that only selected experts are qualified to make the assessments of innovation applications, then we have to ask what qualifies the experts; for not only is there currently little diversity in the decision-making process, considerable doubt has been expressed as to the relevant experience of staff members in public agencies, who have no or little first-hand entrepreneurial experience of the types of ventures on which they are deciding. Individuals with such experience are less likely to be attracted to civil service careers – so this would further suggest the need to open up the process wider to tap into those who have more relevant (and diverse) experience.
The apparent current limitations should be of concern for countries like Finland which appreciate the important role that the state can and should play in facilitating and supporting private innovation.
For such countries a means must be found for widening the range of opinions in decision making in a way that can be accommodated within government structures; while also enabling the benefits of the private investment approach that is favoured in America.
In this article I will explore whether some of these shortcomings could be addressed by harnessing the benefits of crowdsourcing and crowdfunding. The main ideas that will be explored are:
- Crowdrating – opening up the rating of funding applications to a wider community together with a more efficient and flexible application process
- Crowdfunding – opening up startup funding to private individuals together with possible governmental match funding
It is important to stress that these concepts have value independently, but could also be combined together.
Crowdrating: “The many are smarter than the few”
I have so far outlined the reasons why national innovation funding could potentially benefit considerably from tapping into the power of crowd-sourcing. I will now explain how other aspects of the funding application process would have to be adapted to better suit the necessary process changes.
One of the benefits of the private investor route in innovation funding (as predominately practiced in America) is the faster access to funds and a better understanding of the special needs of startups. Private investors can make quick decisions based on their own beliefs (e.g. Google was given its first $100 000 cheque before they had even established a company); however, many funding applications to governmental agencies require the preparation of “extensive” business plans in order for the assessors to be able to tick all the required boxes.
In a crowdrating system, however, if you want many people to engage, you cannot expect them to read through such extensive material. Therefore, you would have to design it so that the startups only supply the fundamental information in a very accessible format (e.g. short slideshow or video); hence making it possible for the raters to quickly absorb the key facts, and then use their intuition (or gut feeling) to rate only a limited number of criteria (say 5-7).
The idea of using intuition with only a limited amount of data to process potentially substantial innovation funding decisions might at first seem negligent; however, in recent years psychological and neurological research has been revealing that decision making can often be improved, in the right circumstances, by putting more trust in subconscious intuition and less emphasis on analytical thinking. Two influential books covering this topic are Blink by Malcolm Gladwell and The Decisive Moment by Jonah Lehrer.
And, if you think about the reality of our consumer experience, how often do we undertake deep analysis of services/products before trying them out. Most of the time we scan the shop shelves, flick through quick descriptions of apps / web services, ask friends, or increasingly rely on user ratings. This is the reality that the users of the crowdrating service would encounter; thereby forcing the startups to get their pitch right early on – something that many startups have often ignored at their peril.
In addition, reducing and focusing the application material would also bring other benefits; for example, creating extensive business plans in the early stage of a startup can be damaging because they have not had sufficient opportunity to interact with their potential clients and the vagaries of the market. This is succinctly captured in the oft quoted remark by internationally renowned Standford University lecturer of entrepreneurship Steve Blank, who says that “No plan survives first contact with customers“.
Thus comprehensive business plans are not only of limited value when completed too early, they are also potentially damaging because of the amount of time and resources that they take up at a critical time in a startup’s existence; and they can also lock teams down too early – before the core concepts have had a chance to be tested with customers.
Even Sequoia Capital, one of the most successful venture capitalist firms (Google, LinkedIn, Yahoo, etc) only asks for 15-20 slides to make its initial assessment; and one of the most well-known and successful crowd-funding services Kickstarter only requires a short video.
So here is a recommendation of how a crowdrating process could work:
- A diverse community of startup raters (the crowd) could be comprised of anything from fifty selected members or thousands of community members depending on the context.
- Startups would submit 15-20 slides, or short videos, to a rating platform. The crowd would then rate up the teams and ideas with the best potential for sustained success.
- The focus would be on early-stage seed funding initially.
- Rating could be done rapidly on 5-7 slider-based parameters, e.g. is the concept feasible? does this team have the capabilities required? will it make money? will it be valuable to me or someone I know? is it valuable to society as a whole?
Timely transparent processes: “Avoiding the dangers of treading (murky) water”
Hopefully I have at least opened up your mind to the potential of crowdrating, and how the material requirements for a crowdrated application process should be more focused on defining the business model (and not a full-blown business plan). And that the system, by necessity, would have to rely on the intuitive rating of either an expanded community of diverse experts, or a larger general community.
Limiting and focusing the scope of the business plan would help speed up the application process on the startup’s side however, there is still the need to speed up the decision-making process. Traditionally government funding bodies have not been renowned for speed. But this need not be the case if a rolling application process, with clearly defined time limits, could be established.
The time-conscious private sector approach has considerable merit – especially with the advent of Silicon Valley Super Angels. Treading water and time wasting while seeking funding is dangerous for startups because the quicker they can start testing their core concepts the sooner they can start fine-tuning iterations, and even “pivot” if necessary, towards eventual success.
In a bureaucratic governmental process, however, the decision makers have to be careful to protect themselves by making sure all the criteria in extensive application formats are met. This creates the risk of committing the startups to meeting specific fixed plans that in the light of more user feedback may ultimately no longer make sense.
Even though public funding agencies vary in the amount of flexibility they will allow their grantees, they are bound to insist on the adherence of stated initial objectives, and the decision makers may not be empowered, or sufficiently knowledgeable about the realities of establishing startups, to be able to encourage the startups to develop along the unpredictable more pragmatic lines that should emerge out of iteration and pivoting – which can potentially lead to substantial deviations from the original plan.
Some Finnish funding agencies are waking up to this reality and becoming more flexible, but until recently the word has not always got through, and I have come across startups which where frantically trying to fulfill their application requirements even though they knew they were potentially heading off down the wrong path.
What makes it especially hard for them to make the necessary changes is that the funding money is usually not given out until it has already been spent; so guaranteeing that they get the money back can become as pressing as doing the right thing for the service/product.
I have been informed by Tekes (a major Finnish innovation funding organization) that you can apply to make changes so long as the “scope of your ambition” does not change; i.e. you applied to take over the world, therefore it is not OK to settle with dominating the local village.
This makes sense up to a point, since the government is trying to maximize the potential returns for the whole nation, and successful entrepreneurs rightly preach the necessity to think big.
The big thinking approach, however, if not viewed with the right mindset, can produce another damaging aspect of many governmental innovation application processes: it can encourage early-stage startups to paint overly elaborate pictures of all that they could possibly achieve in some ideal future, when in practice they would do better by focusing on a few core idea value points that can realistically be implemented to the required level – with the final level, in today’s reality, being pretty much world class or nothing.
Imagine for a moment how Jack Dorsey’s initial Twitter sketch, outlining an idea that people can share short messages, would have been received by most governmental agencies. My bet is that, even with additional information, it would have been deemed unworthy of support for being too simple; but everyone who has tried developing web services soon learns that there is rarely a concept that is too simple.
I would wager that a crowdrating platform would stand more chance of picking out future potential Twitters because it would be better at judging, not only the potential of an idea, but the ability of the team to successfully realize it.
The application process should foster a long-term iterative, step-by-proven-step approach; starting with providing existing communities with services/products they need to help them do what they do better (or with more style). And in this sense an open rating platform could expose the startups to real communities from day one; and what better way to start the (often neglected) market validation process.
Crowdfunding: “Actions (and money) speak louder than words”
If you think that rating could be manipulated (see end notes), or that there might be insufficient interest in rating at all, then consider the growing phenomena of crowdfunding. For surely there can be no better endorsement for a startup than hard cash.
Let’s start with a particularly amazing crowdfunding story: TikTok asked for $15 000 on Kickstarter and got nearly a $1 million from over 13 000 backers. If you look at how they structured their offering, it is actually a pre-purchase model – since the donors get the proposed product as their reward; however, by creating a great concept and pitch they were able to get their business up and running with no outside equity investment. And, to top it all, the subsequent social media-driven fame resulted in their watchband now being sold in Apple Stores.
Although TikTok is exceptional, thousands of other projects have received significant funding via a multitude of crowdfunding services; including the Finnish startup Wishbone, that has also benefited from Kickstarter engagement.
In recognition of this new reality the US government is actively trying to change the law to allow private individuals to invest via crowdfunding platforms: The Entrepreneur Access to Capital Act passed through the House of Representatives with strong bipartisan support, but it still has to get through the Senate (for more information on this and a succinct crowdfunding video check out this congressman’s site).
So how could crowdfunding bring in some of the positive dynamism of private investment into a public innovation funding system? I suggest that this could be achieved by firstly opening up the decision-making process by using online community rating (as previously outlined), and secondly by creating a funding system that shares the startup risks between the public and private sectors via a crowdfunding platform.
The private investment would also help by introducing an investor’s risk component to help compensate for the fact that the government assessors have no personal risk invested. This should help improve the quality of decision making and the rates of success.
Here is how it could work in practice:
- Most likely successful startups first identified via crowdrating.
- The funding agency would systematically invite the top-rated startups to enter into a crowdfunding platform to which the government would commit to matching a defined amount, e.g., if the startup raises €20 000 this would be matched by the government funding agency to make a total of €40 000.
- The match funding would probably be necessary to make up for the relatively small size of the Finnish population. An alternative would be to enable foreign nationals to also invest.
- There would be a limited time within which to raise the private funding via an escrow system to ensure that individual investors/donors do not pay out unless all the requested funds have been raised (90 days has proven to work well for Kickstarter).
I recognize that the present law in Finland does not allow funds to be raised in this way. It is possible to raise up to €100 000 in equity funding without the complexities of a full IPO, but what we need is a system that is so straight forward and transparent that a reasonably well-off individual could take a bet (and it could be seen as such) on a startup, rather than investing in say stocks (also a bet) or splashing out at a casino; all without having to commit to being directly involved in the running of the company – unless they wanted to be.
In the best case the startups are successful and the private investors make money, jobs are created and the national wealth goes up; but, even if the worst comes to the worst, they have helped employ people and given them a chance to improve their skills. What could be better for Finland than that?
In theory, the platform could be tested in Finland with social enterprises that are registered as charities, but very early-stage social startups are hardly likely to go through, or be accepted, in the rigorous process of getting officially registered as a charity.
As an alternative it may be possible to persuade the government to allow the funding platform to register itself as a non-profit charity with the early-stage startups being regarded as worthy entities of such support (in a similar fashion to the UK’s Prince’s Trust); but this would require finding committed political champions to advance the proposition in parliament.
One potentially ideal Finnish community to trial these ideas would be the Aalto University Center for Entrepreneurship and the very active Aalto Entrepreneurship Society – since they already help fund startups, and the various student members I have spoken to so far (on a causal basis) have been very supportive; which is not surprising given the predominance of digital natives and early-adopter personalities.
Such a platform could also potentially be connected to investor tax incentives, such as those that have been proposed in recent times by MPs Mikael Jungner and Lasse Männistö; as the government could use it for identifying worthy startups. For example, there could be a platform for civic-minded projects (like those in Apps4Finland); since finding ways to encourage the development of privately initiated civic services is a ongoing concern as the population continues to age and government funds become more restricted.
But in the end, why not adapt the law to make it easier for all Finnish startups to benefit from more direct private investment – especially at a time when banks are being more cautious and private investors are looking for alternatives to traditional stock markets.
In general I feel it is important to create a more transparent, flexible and systemized innovation funding instrument that works with the crowd to help the best startup teams make it through (at least) a few iterations of customer exposure before “failing fast” or flying high – and bringing the wider society benefits that are the ultimate aim of the whole endeavour.
We have discussed the concept with potential stakeholders (including TEM and Tekes) and the response has been generally positive. I appreciate, however, that these are fairly radical ideas, but they have already come-of-age: CrowdCulture, a government supported Swedish project, has already made significant progress in combining crowdfunding with public money to support artistic projects. Could we in Finland dare to take a lead in being the first to trial such ideas as part of government innovation funding?
Please let me know of you are aware of similar crowdfunding ideas already being implement by government funding bodies in other countries.
Some of you might be wondering how easily the system could be manipulated. The verification process can be made reasonably fool-proof by the use of existing social media accounts for signing in (e.g. Facebook and LinkedIn); which require considerable effort and time to fake effectively.
And of course there will be startups who are more active campaigners in rallying people to vote, but to some extent this is part of the entrepreneurial game in these social media days, and, at the end of the day, there will only be a limited number of people any one startup can convince to transparently put their name to a vote if the product/service really sucks.
Also the system could either rely on a previously selected community of “approved” raters; or even better (from a crowdsourcing principles perspective) multitudes of raters, so that the voting of any small segment would be averaged out by sheer numbers.
Richard von Kaufmann
The writer is the co-founder of the social media agency Zipipop and Chairman at Reality Creating Media. Before starting his Master’s degree at the Aalto University Media Lab, he had a background in film-making and advertising, and since then he has been involved in web service development and social media consulting.