Andy Bromberg - Startup Investor School Day 4

Executive Summary of Startup Investor School & Andy Bromberg Presentation

Historical Context & Macro Trends

• Three core trends have defined the history of early-stage investing: decreasing costs to start companies, decreasing costs for investors to enter, and a market arc bent toward liquidity.
• In the 1940s–1960s, entry barriers were high, requiring hundreds of thousands of dollars in personal capital from principals or family before venture funds would consider an investment.
• The 1950s saw the emergence of ARDC (investing in Digital Equipment Corp for a 500x return) and Small Business Investment Companies, legislation that provided government leverage to jumpstart the industry.
• The "2 and 20" fee structure (2% management fee, 20% carry) emerged in the 1950s and remains the industry standard today.
• Institutional capital (endowments, corporations) began investing in venture in the 1970s, leading to a boom in new funds and the professionalization of angel investing.
• The 1980s experienced a massive boom in funds (jumping from dozens to over 650), driven by increased capital availability, though tech IPOs fluctuated wildly, culminating in a market crash at the decade's end.
• During the 1980s, deal competition intensified, forcing funds to invest earlier and faster; a deal that previously took months to close could be decided in weeks or days.
• The 1990s saw venture AUM rise from $12 billion in 1996 to $120 billion in 2000, driven by a rapid path to liquidity via IPOs, which allowed funds to negotiate higher carry rates (30–40%).
• The 2000s were characterized by a bust and slow returns ($205B invested vs. $220B returned from 2002–2009), leading to the rise of accelerators like Y Combinator (2005) and Techstars (2006).
• Y Combinator standardized the convertible note between 2005–2009, lowering transaction costs and allowing rolling closes instead of single-event equity sales.
• The 2012 JOBS Act revolutionized the ecosystem by exempting venture funds from registered investment advisor status, enabling general solicitation (506C) and equity crowdfunding (Reg CF).
• The 2014 launch of the SAFE (Simple Agreement for Future Equity) returned to convertible structures but removed interest components to avoid accounting issues and lower costs further.
• 2017 marked the rise of Initial Coin Offerings (ICOs), allowing companies to raise capital via token sales without traditional meetings, democratizing access but introducing new regulatory uncertainties.
• Current trends point toward a "everyone is an angel" environment, fueled by education, platforms like Republic, and the availability of leverage for founders-turned-investors.

ICO Mechanics & Investment Paradigms

• ICOs differ from equity investing in five key ways: investors own network nodes rather than company shares; valuation models are distinct; the process is online and asynchronous; founder interaction is minimal or non-existent; and liquidity is often immediate or within months rather than years.
• Tokens function as an incentive layer on top of decentralized networks, utilizing staking (bonding tokens as collateral) and verification mechanisms to ensure trustless operation without central oversight.
• Filecoin serves as a primary case study, using token staking to ensure storage providers honor commitments and "proof of space time" to allow verifiers to confirm data integrity without viewing the data itself.
• Tokens are categorized into three types: protocol tokens (e.g., Ethereum as a foundational platform), application tokens (e.g., Numerai), and securities/asset-backed tokens.
• Andy Bromberg cautions that the ICO market is currently characterized by irrational pricing and untested norms, requiring extreme discretion from investors.
• There is no single "perfect" ICO structure yet; the industry is still evolving, and many investors now seek hybrid deals that include both equity and tokens (e.g., SAFEs with pro rata token rights).
• Unlike equity holders who are forced to stay invested through company downturns due to lock-ups, early token investors may face rapid liquidity events that could destabilize a network if early capital flees during downturns.
• The idealized form of an ICO involves raising enough capital in a single round to launch the network, after which no further fundraising is necessary, though reality often sees companies run out of capital.

Q&A Insights: Evaluation, Regulation, and Future

• Evaluating ICOs without founder meetings requires diligence on technology, team backgrounds, and network structure, often conducted via community channels (Slack, Telegram) or by following top crypto funds' diligence notes.
• The ICO market is a global phenomenon, with roughly equal capital raised in Europe and the US, though increasing regulation may eventually restrict this cross-border flow.
• Venture capital lobbying (e.g., National Venture Capital Association) successfully influenced the JOBS Act, whereas crypto lobbying (e.g., Coin Center) is currently smaller but growing.
• Y Combinator has not modified the SAFE to account for ICOs because the interaction between equity and tokens is currently too undefined to structure legally; the future of equity in token-native companies is uncertain.
• In a successful token network, the operating company should not accrue value through rent-seeking (fees); its primary value should derive from its token holdings, potentially making equity ownership functionally equivalent to token ownership.
• The historical trend of slower liquidity often correlates with higher returns, but faster liquidity (via tokens) creates a "double-edged sword" where early exits can kill companies if investors abandon them during downturns.
• Secondary funding rounds in the token space are controversial; the platonic ideal suggests raising only once to launch, but market realities often force token companies to seek subsequent capital to survive.
• Bromberg argues that ICOs are structurally more similar to seed fundraising than IPOs, noting that calling them "Initial Coin Offerings" is a misnomer that causes confusion regarding their early-stage nature.
• Regulatory frameworks (Reg D) typically lock up ICO securities for a year, effectively preventing immediate price fluctuation volatility that might occur in direct token sales, though mechanisms for the latter remain untested.