How FOMO Dictates Startup Funding

When pitching ideas to prospective investors, entrepreneurs have to choose how they're going to present their new startup venture. One option is to emphasise their own track record and past accomplishments, the startup's initial market success, or its unique resources in an effort to reassure their audience of a safe investment. The other route is to focus on the future, playing up what the company could be and making the investors part of their glorious vision.

With a view to introducing a change in which organisations, markets, and business ecosystems operate at a fundamental level, 'disruptive' visions fall into the second category. Well-known examples include Netflix, which transformed the video-rental industry. If you're looking for a personality rather than a company name, look no further than Elon Musk. The entrepreneur wins investors over by communicating increasingly more disruptive visions, such as his plans to explore outer space with SpaceX, and those where world transitions quickly to sustainable energy, such as Tesla.

Which strategy plays out best when startups are at the funding stage, going safe or disruptive? A new study by researchers from the University of California, Riverside, and the Rotterdam School of Management aims to find an answer.

More About The Study

The study was led by Ashish Sood, an associate professor of marketing at the UCR School of Business and his colleagues at Rotterdam School of Management, Timo van Balen and Murat Tarakci. It was published in Journal of Management Studies in July 2018, and detailed their research on 918 startups in Israel seeking a first round of funding. They chose Israel because it has more high-tech startups per capita than any other country and because of its track record of producing a number of highly lucrative ventures.

The second part of their study involved 203 participants with previous investment experience in exchange-traded commodities or funds, government bonds, stocks, unit trusts, angel investing, private equity funds, venture capital funds, options, or crowdfunding. They were asked questions about two fictitious vision statements, identical except for the degree of disruptiveness they expressed. Each respondent was given only one of the statements, along with other company information, and asked questions about the kinds of investment decisions they would make.

Where Does The Money Lie?

The researchers found that even a small increase in the disruptiveness conveyed by the startup improved the odds of receiving the first round of funding by 22 per cent. However, disruptive visions gathered 24 per cent fewer funds in the first round. In monetary terms, a disruptive vision caused the typical Israeli venture to lose $87,000 in the first round and $361,000 in the second round. This caused the researchers to wonder why investors were so positively biased toward disruptive visions and yet investing so little.

However, the results of the second part of their experiment provided some clarity. They found that investors funded disruptive startups quite eagerly because they saw the potential in an ambitious plan, but added a safety net by not investing as much money initially as they would put into a safe investment. Simply put, disruptive startups are more likely to raise money quickly but the amount raised is likely to be less than other safer ventures...

https://www.entrepreneur.com/article/321550

===

by Idham Azhari