Urgent Speed

Why P2P Lending is Disruptive to Banking: In one Graphic

2015-11-03T14:11:52-05:00

Investors and Borrowers are both benefiting from the technology-driven bank disintermediation. Borrowers get a lower rate. Investors get a better return.

Based on an excellent Goldman analysis of unsecured lending costs, I estimate 250 basis points of delta between Banks cost structure and P2P cost structure in the US.

Internationally, in Emerging Markets, I would expect the delta to be greater, as we have seen higher interest rates and lower levels of bank digitization.

However, operational expenses are just part of the lending P&L. For many lenders charge-offs are a bigger expense. In the US, the Fed tracks unsecured lending charge-offs. Data in emerging markets is harder to find (If you have emerging market charge-off data please share).

As lending moves online, emerging market lenders, including P2P, will have the benefit of AI based scoring algorithms, like those offered by Lenddo.com to reduce charge-offs and expand financial inclusion. U.S. lenders will move slower to adopt AI/Big Data based lending techniques because U.S. (and especially State) regulators have less incentive to be innovative.

My banking friends would argue that cost of capital is also an important part of a lending P&L, but it seems to me investors only cost is opportunity costs, (and investor can reassess opportunity cost without a 50 person Basel III compliance department).

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Financial Inclusion - A Technologist's Perspective

2014-03-03T15:20:20-05:00

New trends such as broad mobile adoption, gamification, machine learning, big data, adaptive learning, social networks and system interoperability (APIs) create new opportunities to spread personalized knowledge in a way never before possible.

Imagine a world where every person connected to the internet has the knowledge to make healthy financial decisions. That is the world where I would like to live and through technology, innovation and hard work, I believe that world is achievable.

There is an opportunity right now to create an engaging “world class” financial health body of content that will be machine and human readable. (Machine readable for remixing by any software developer, game maker, learning management system, adaptive learning systems and publishers).

Unique Opportunity to Impact Hundreds of Millions

As a former coder, technology enthusiast and founder of several international technology companies, I believe I have a different perspective than those traditionally focused on financial health. There are many good people passionate about financial health and financial inclusion. I believe with a little help from the github crowd, the Academic and Non-Profit crowd can take financial health to a whole new level.

My role as a Founder and CEO of Lenddo has strongly influenced this opinion. The mission of the Lenddo community is to economically empower the middle class in developing countries. As part of my work at Lenddo, I have been able to meet dozens of financial experts, and review dozens of financial health training programs.

At Lenddo we believe knowledge about personal finance is critical to both health and happiness.

There is volumes of material related to personal finance, unfortunately this material is not geared for the “digital native”, especially in the emerging markets. If FarmVille can train 50 million people the benefits of milking a virtual cow, Why can't we as a society explain the benefits of saving?

Training and education is about to be transformed. My role as a Founder and Chairman at Mimeo has given me a front row seat into the latest training technologies.

Mimeo specializes in the management and distribution of documents. Mimeo has hundreds of employees thinking about training, as we derive much of our revenue from supporting the training process. When safety, productivity and profits are on the line, companies have proven themselves to be very innovative. I believe the these learning techniques have much broader applicability outside the corporate setting.

An Action Plan

Clearly there was a need to enable financial health and the team at Lenddo wanted to help.

Step 1 - Assemble Material

So the first thing we did, over the course of a year, was collect, organize and in some cases, license financial health content.

Step 2 - Benchmark & Reconcile

The second step was to distill the reams of content into its core “twitter” size summaries. The emerging middle class live on their smartphones, and long form content is not going to cut it. Digital natives need byte size, interactive components, delivered when needed and in a sharable format. We needed to think more like game designers and entertainers and less like educators and NGOs.

Much of the content was country specific, so we were careful not to include concepts that were not universal. The result produced 9 core elements.

We then reconciled the 9 core elements against discussions with financial health experts and educators. Equally important, we shared the summary with many individuals who demonstrated strong financial health. With all due respect to the numerous philanthropic experts we spoke with; I wanted to hear from some self-made millionaires also.

Step 3 - Simplify & Summarize

The result produced 9 core elements;

1. Only you are ultimately responsible for your Financial Fitness.

Behaviors/Habits:

2. It is important to manage tradeoffs and avoid unnecessary waste

3. Set goals - Setting goals greatly increases the likelihood you will improve your finances

4. Track and budget - Understanding your finances reduces stress and improves decisions

5. There are benefits to deferring gratification and saving

Concepts:

6. There will always be risk, and diversification is one tool to manage risk

7. There is a difference between liquidity and assets as well as liabilities and expenses

8. Credit can be used to manage risk, liquidity or timing of investment

9. Assets can be Invested and work for you

The Next Steps – Go tech

The next step is to work with others to begin transforming financial health knowledge into machine compatible standards. This will drive innovation.

Portability - SCORM

The content should be portable, across systems and use cases. I believe we should standardize all content on SCORM, The Shareable Content Object Reference Model defines a specific way of constructing Learning Management Systems and training content so that they work well with other SCORM conformant systems. I have been impressed with the potential of SCORM, but would like to hear if others disagree.

Measurable and Extendable - Tin Can API

Facilitating interactive, adaptive, engaging and fun learning is critical. I believe we should standardize on the Tin Can API. Tin Can lets you record any learning experience, wherever and however it happens. Learning is happening everywhere, not just in traditional SCORM courses inside traditional LMSs. The Tin Can API gives you the ability to see the whole picture. It’s easy to make SCORM content work in a Tin Can system. The Tin Can API is community-driven, and free to implement. more at http://tincanapi.com/ The “noun” - “verb” - “object” framework will be old hat to any developer familiar with working with next generation no-SQL databases.

Go Mobile First – MoTIF

The future is mobile connected everywhere. We should promote MoTIF, Mobile Training Implementation Framework, supporting alternative learning methods (e.g., performance support); leveraging the capabilities of the mobile platform (e.g., camera, sensors, GPS) driven by Dod DARPA has done a great job figuring out how to teach solders just-in-time. Like the Internet itself, why not take that technology for the betterment of society? MoTIF seems like a good standard, but we welcome opinions from other developers.

Fragmented yet Organized

Content and functionality should be broken into its elemental units, but organized (tagged) using a standard taxonomy so developers can mix and match based on the audience, language, geography, situation and medium. More research and ideas are needed in this area. If you have ideas please send them our way.

How You Can Help

The next step is to get feedback from a wider group. Please share your thoughts directly with me or in the comment section below.

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Keywords: Financial Literacy, FinTech, Financial Education, Health, Financial Health

How Facebook, Twitter, Google+ and LinkedIn will change Finance

2012-04-22T22:12:20-04:00

Western lenders have forgotten responsible lending, online social networks have the potential to bring them back to the basics.

In the Early 1900 Mr. J.P. Morgan was asked what is more important in lending, assets or income? His response, “the character of the man”. Mr Morgan knew a little about lending having financed much of the industrial revolution. Morgan knew “Character” is the cornerstone of lending. He knew, going back to biblical times, credit was based on the reputation in the community.

Lenders lost their way in the 1950s as the very nature of community changed. Harvard Professor Robert Putnam documents the change in his book Bowling Alone: The Collapse and Revival of American Community. Putnam points out that suburbia, the automobile and television all converged to change how industrialized societies interact. Western Societies became less connected with their neighbors. One of the results is that banks turned to faceless ratios and FICO scores as the core of their underwriting process. Furthermore, lending based on personal relationships did not scale well in the age of mega-corporations. The result was bad lending and ultimately the recent sub-prime crisis (at least some of it).

Bankers have forgotten how to use character as the foundation for credit.

The good news is the “lost art of character lending” is being rediscovered in the emerging markets where family and community bonds remain vibrant. The strength of the community is reflected online where social network use often exceeds activity in the west. Involving the community is the key to unlocking the riddle of character.

The rediscovery of character based lending all started with Professor Yunus desire to help the extreme poor in Bangalore. Yunus hypothesized that if members of the community were willing to vouch for each other it would be an effective way to distribute credit. He was right. It turns out that people's willingness to vouch for each other is driven by character, and the result was the Microfinance Industry. Yunus’ customers did not have access to electricity, let alone FICO scores, but thanks to Yunus they could access capital to improve their lives. Today the Microfinance industry successfully lends over $50B a year, and Professor Muhammad Yunus won a Nobel Prize for his positive impact.

Globally, the default rate in the Microfinance industry is around 2%, outperforming most western consumer lenders. Clearly, lending based on character, works. Yet $50B a year is not much in a Multi-Trillion-Dollar debt market. That’s because until recently, Microfinance lending was only used by the ultra poor, and had to be face-to-face. Social networks like Facebook, Google+ and Linkedin can change all that.

Interested in empowering the emerging market middle class and building a new global financial infrastructure based on character? Why not join our team at Lenddo.com?

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Prefer the Tedx video version

Mathematicians will inherit the Earth

2012-03-03T15:54:41-05:00

Technology, combined with social networks have the power to stop oppression and improve people’s lives.

We are already seeing the impact of Facebook, Twitter, Google+ and Linkedin in the Middle East, and the media industry, but we believe this change is just the beginning. Other industries like Finance, Education and Healthcare may be nearing their Napster moment.

At my Start-up, Lenddo.com we are using the social graph to improve people’s lives and restructure finance. Members are using their online reputation to prove identity and access credit in regions where there is little access to credit.   Every day members are able to get education for loved ones, medicine for family members, and shelter for relatives. Tangible life improvements. We expect to impact millions.

The other day I was asked about the predictive capabilities of algorithms, so I thought some background information might be helpful.

We like to think of ”trustworthiness” algorithms as falling into three broad categories.

Bayesian – This is classic machine learning (pattern matching) to build a probabilistic model, within a acceptable false positive, false negative range. The core to growing these predictors is massive volumes of data. Data could include any information collected or observed. This can include; stated interests, sites visited, biometrics, writing style, age, words uses, images, network composition, machine configuration, geographic data, internet usage, job, demographics, education, hobbies, and financial history. The Adtech industry has built a substantial “behavioral profiling” infrastructure to predict what ads are most appropriate (sell you sugar water), why not leverage and extend this technology to actually empower individuals with access to credit?

Validators – (Heuristic, Taxonomical, or Bayesian) – these algorithms are used to validate or perform a reasonableness test for information volunteered by an applicant or her friend. For example: someone from a big company will generally have friends at that company, or someone from Manila will generally have log-ins from Manila, or someone in medicine will use certain words in their general correspondence.    Validators are very important in the Emerging Markets, where standard RAC (Risk Assessment Criteria) rules are necessary but insufficient due to a general shortage of customer data.

Homophily – (“birds of a feather flock together”) builds on the well documented tendency for individuals who interact regularly, or share some social bonding to behave similarly. In science, many of the best Homophily data scientist come out of computational psychology or epidemiology. In business, Online Ad networks (Demand Side Platforms) are a good place to hire as Homophily based algorithms are often the basis of their mathematical underpinnings.

More on Homophily

A good example of Homophily in nature is with smoking, game fraud, sexual promiscuity and obesity.   For example there is some great studies and talks by Harvard health researcher Dr. Nicholas Christakis.

His team found in a social network of 12,000 over 32 years, that friends had the greatest impact on becoming obese and that the type of friendship made a difference. For example, a close, mutual friendship resulted in a 171-percent increased risk of obesity while a one-way friendship increased the chances by 57 percent. These findings contrast with a 40-percent increased risk among siblings and 37 percent between spouses. Friendships are so influential, in fact, that the likelihood of obesity even increased when the friend of a friend was the one to gain weight. Same gender relationships also have a stronger influence than those between genders.

Perhaps most surprising was the finding that geographical closeness made no difference.   This last fact is interesting to us, because we believe geographic clossness will become even less important as people increasingly use the internet to maintain relationships.   We are able to use the social graph to measure “closeness” and “friendship strength” as well as of course “geospatial closeness”.

I Hope this is helpful. Predictive Algorithms and important part of what makes Lenddo so simple for our members.

If you have an interest in using math to makes people’s lives simpler and better, please lets us know. At Lenddo.com we are trying to make a dent in the universe and always looking for exceptional Data Scientists.

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Image source Forbes

Startups Should Make a Dent in the Universe

2012-02-26T14:43:02-05:00

Steve Jobs had it right: Startups should make a dent in the universe. Big ideas attract the top teams. Big ideas keep the teams going through the inevitable hard times. Big ideas with top teams change the world. For decades, the life blood of Silicon Valley was great teams working on big ideas.

But recently, as Jon Evans at TechCrunch points out, the Valley is increasingly fascinated with “the big distraction of entertainment.” I could not agree more.

Silicon Valley has lost its way. Stop screwing around in the small pond of media and advertising and tackle big industries and real problems. Heck, why not invent a new industry? Did you know in New York City there are at least a dozen companies that have sprung up around the “personal replicators industry” aka 3D printing ( MakerBot , Quirky, Shapeways etc.).

Did you know that all Media, (including NBC, CBS, Google, AOL, ESPN, every radio station, every magazine and every advertising agency) only represents about 2.5% of GDP? The Valley has become obsessed with “selling sugar water.”

The world needs Silicon Valley back.

Energy, Finance, Healthcare, Education… that is where the BIG problems are. (BTW: Facebook already has $470M in financial service revenue from Facebook Credits).

How do you expect to attract great talent if you are not substantially improving the world? Is it pay? Has Silicon Valley become filled with “technology whores” like the East Coast hedge funds they like to make fun of?   As an entrepreneur, changing the world is what keeps me going.   Building a company is hard work. How can you work 80+hr weeks if the outcome is: it’s easier to buy crap you don’t need online (aka sugar water).

Finance:

Credit, Savings, Insurance and Payments are Huge. Sean Park has a great post on "digitally native finance.” At my startup, Lenddo.com, we are using the social graph to improve people’s lives and restructure finance. Members are using their online reputation to prove identity and access credit in regions where there is little access to credit.   Every day members are able to get education for loved ones, medicine for family members, and shelter for relatives. Tangible life improvements. Our team sees how we will impact millions. This is why you have a start-up! This is the power of technology!

Education:

At Aristotle Circle, where I am an Angel, they are using technology to build a network of peers and experts to radically improve educational outcomes. Other companies are using algorithms for adaptive/dynamic course material to tailor online material to the specific pace, medium and style of each individual learner. Today about 5.5% of GDP goes to public education which does not include private universities and corporate training. What happens when education cost half as much, or is twice as good? Technology combined with entrepreneurship will show us.

Health Care:

We waste more in healthcare then we spend in media..come on. We spend around 16% of GDP on healthcare in the US, and baby boomers are not getting younger. Did you know computational linguistics combined with analysis of social media is being used to guide drug discovery?   If you are great at math or engineering, why would you be optimizing online photos, when you could be extending human lifespan? Why not ask a health care entrepreneur?

Energy:

Don’t worry about Energy; why would we want to have more of that?

Don’t get me wrong. I love Silicon Valley. The Valley had a great run with semiconductors, PCs and the Internet. They did a fine job “taking on” media. The Media Industry is Powerful, but they are pussycats (or leave off the cats) when compared to Wall Street, The Teachers Union, Health Insurance Companies, Big Pharma, and Energy.

My friend in Silicon Valley once gave me sound advice: “Jeff, as a tech-entrepreneur you need to be back here in Silicon Valley at least every 30 days” He was absolutely correct. There is nothing like the innovative energy and echo chamber of northern California. I go often, and every trip is time well spent.

Now my advice for Silicon Valley: Get out of the echo chamber at least once a month. See what is going on in Finance, Education, Health Care, Energy and “personal replicators.”

It’s time to think big again.

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Photo: from Bob Cringely's awesome 165 minute history of the PC industry "Triumph of the Nerds"

Facebook proves it’s a small world after all – We are all connected by six degrees (or less)

2012-01-15T23:55:23-05:00

In the 1960’s, Stanley Milgram conducted a series of experiments in which individuals from Nebraska were asked to try and get letters delivered to unknown recipients in Boston. A person forwards the letter to a friend who is more likely to know the target. Letters arrived at the target, in an average of under six hops. This experiment is the earliest to verify the ‘small-world phenomenon’ (aka ‘six degree of separation’) that there exists a short path between almost any pair of individuals in the world.

Data Scientist at Facebook took Professor Milgram’s research to a new level, by analyzing the Facebook Social Graph. They found 99.6% of all Facebook users studied were separated by five degrees or less from any other Facebook user; 92% were separated by only four degrees. Furthermore, the scientist point out the distance appears to be shrinking.

The Lenddo community uses the small-world phenomenon, to help members prove creditworthiness and access life improving loans.

"Lenddo is the world’s first online community that empowers the Emerging Market Middle Class to use their online social connections to build their creditworthiness and access local financial services."

Children are getting education, grandparents are getting medicine, and leaky roofs are being fixed, all thanks to loans possible in the new “digital small world”.

Lenddo members link with Facebook to build their own trusted community, who in turn is connected to a their extended community, who are connected to others and eventually to networks of trusted individuals. At the core of the Lenddo system is a series of algorithms that analyze the connections between a prospective borrower and trusted individuals. If you have many strong and short “hops” to trusted individuals, a members ability to borrow increases. As more people pay back their loans, this trust pool grows, thus increasing the strength of the network and the borrowing capacity of the community.

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Photo Credit: AJC1 http://www.flickr.com/photos/ajc1/

A taxonomy of motivation (Part 2)

2011-10-28T15:06:27-04:00

In Part 1 “Is Zynga be the first billion dollar psychology company? or a taxonomy of motivation” I hypothesized the science of understanding motivation is about to advance, and that site designers can use the emerging framework to better segment and engage site visitors.

Like Billy Bean used math to advance baseball, scientist are about to use big social datasets to advance the disciplines of computational physiology, game theory and behavioral economics. These are important disciplines when trying to make a service viral, engaging, or impactful. Let’s hope entrepreneurs use this new science to do more than just sell more toothpaste (improving education and healthcare would be noble).

Below is a framework I use for segmenting motivation. My interest is not academic, but rather in the application of the social sciences and mathematics to business. That being said, I believe real progress will only be achieved by engaging academia.

My hope is that by posting this framework, someone from academia will reach out and advance our thinking, point out the short coming...…or even better, come work with us.

My DRAFT framework is as follows:

A. Intrinsic process motivation (fun). - If people are motivated to perform certain kinds of work, or to engage in certain types of behavior for the sheer fun of it, then intrinsic process motivation is the driving motive. The work itself, not the task outcomes, acts as the incentive, as followers enjoy what they are doing. Intrinsic motivation is characterized by task pleasure and sheer enjoyment of the work. Some of the behavioral indicators that suggest an employee is motivated by intrinsic process include:

•        Easily completes tasks when he/she doesn’t enjoy the tasks assigned.
•        Often talks about how much he/she likes or dislikes the tasks assigned.
•        Volunteers freely for the activities that he/she enjoys most.

Basically, there are four factors that contribute to an individual’s intrinsic motivation:

1.      Challenge - (levels, leader boards, badges and goals are helpful) In order for an activity to be challenging in a positive way, goal statements have to be clear and feedback has to be provided to engage and increase the site users’ confidence. In other words, the goal has to be constructive, clear, and encouraging. Quick goals are better than distant goals. “You will feel better immediately” is much more motivating than “In four weeks you will feel better". A mix of short term and long term objectives sould be provided to keep visitors engaged with their eye on a future “prize". Additionally, goals should be personally meaningful.
•       Factors that influence a person's perceptions of the relevance of a goal include:     i.      Whether or not achieving the goal allows the visitor to do something she could not do before (the goal is “functionally useful”)
    ii.     Whether or not the learner feels emotionally connected to the outcome   (“fantasy relevance”)
    iii.    Whether or not there is social relevance:
            1.      Cooperation (team dynamics, team leader boards )
            2.      Competition (personal leader boards)
            3.      Recognition (badges, personal leader boards, team leader boards)
•       Goals are necessary, but not sufficient for challenge. There needs to be a level of uncertainty. (After all, why engage in the activity if the outcome is already known) Techniques for variety include:
    i.      Goals that vary in difficulty level
    ii.     Hidden information
    iii.    Randomness
2.      Curiosity – The element of surprise and desire to explore. Curiosity can arise from the fascinating complexity of a subject we need to unravel, or from elements that challenge our preconceived notions. Note: Malone and Lepper elaborate)
•       Sensory curiosity – humans natural attraction to bling, slick interfaces, novelty, movement and blink tags
•       Cognitive curiosity “learners and organizers” – the human natural urge to organize our knowledge structures more efficiently. Learners will experience sustained engagement when exploring learning environments that help them to be more productive, a better information filter, a better creator, etc.
3.      Control - People find games compelling because games give them a sense of control. In the game world, player decisions have consequences; winning isn’t dependent on completely random factors (although there can be an element of randomness). Similarly, an empowering learning environment will be one whose options are dependent on the learner’s choices,and those choices must be tied to significant and meaningful outcomes. However, for control to be motivating, it has to be tied to the player's belief that they are capable of succeeding - too many choices, and the player is unable to distinguish between them, thus becoming frustrated.
4.      Fantasy – This evokes mental images of physical or social situations which are not actually present. The optimal learning environment might be one in which individuals can create their own fantasies (e.g., imaginary characters, locations, objects).
•       Outcome - fantasies that depend on the skill being learned (e.g. Hangman, where the hanged man appears as correct letters are not identified)
•       Interdependent Simulations - situations where the skill being learned and the fantasy depend on one another (e.g. a simulation or role-playing game).
Note: Malone and Lepper hypothesized that fantasies are richer learning experiences, allowing visitors to connect new learning to prior knowledge through their narrative structure.
Bonus: Fantasies often address the emotional needs of learners, allowing them to experiment with new constructs in a low-risk environment.
Note: for more, see (Barbuto & Scholl, and Malone & Lepper).

B.      Instrumental motivation $$$. - Instrumental rewards motivate followers when they perceive their behaviors will lead to certain tangible extrinsic outcomes, such as pay or promotions. Instrumental motivation is characterized by a concern for tangible incentives (e.g. cash, bonus, or travel vouchers ). Some of the behavioral indicators that suggest an individual is instrumentally motivated include:
•       The user wanting to know “What’s in it for me?”
•       The user expecting compensation for any and all extra work he or she performs.
•       The user talking about how much money he or she makes or should make.
•        The user will frequently talk/write about the relative wealth of others.
Note: Individuals engage in tangible exchange relationships (Barbuto & Scholl, 1998). This integrates Barnard’s (1938) material inducements, McClelland’s (1985) need for power, Katz and Kahn's (1978) legal compliance, and Kegan’s (1982) imperial stage of ego development.

C.      Self-concept external motivation (reputation). - This motivation tends to be externally based. Followers attempt to meet the expectations of others by behaving in ways that elicit social feedback consistent with their own self-concept (Barbuto & Scholl, 1998). Followers behave in ways that satisfy reference group members, first to gain acceptance, and then status. This source of motivation is similar to Etzioni's (1961) social moral involvement, McClelland’s (1985) need for affiliation, and Barnard’s (1938) social inducements and is also incorporates referent influences such as social identification theory (Ashforth & Mael, 1989). Self-concept external motivation is characterized by a concern for others’ opinions. An employee motivated this way is very interested in preserving and enhancing reputation amongst peers and supervisors. Some of the behavioral indicators that suggest an employee is motivated by self-concept external include will:
•        Individual frequently asks for others’ feedback.
•        Individual seeks praise and recognition for work performed, and is quick to post on Facebook or Twitter
•        Individual often brags or tells stories about accomplishments.
•        Individual is attentive to who receives credit when work is finished.

D.      Self-concept internal motivation (achievement). - In this source of motivation, individuals set internal standards of traits, competencies, and values that become the basis for the ideal self. They are motivated to engage in behaviors that reinforce these internal standards and later achieve higher competency (Barbuto & Scholl, 1998; Leonard, et al., in press). This source integrates McClelland's (1985) need for achievement, Kegan’s institutional stage of ego development, and Bandura’s (1986) personal standards and self-regulation. Self-concept internal motivation is characterized by a concern for meeting one’s personal standards of performance. An individual who is motivated this way is not concerned with others’ feedback and tends to be self-driven. Some of the behavioral indicators that suggest an individual is motivated by self-concept internal include:
•        He or she seeks to perform the most difficult tasks on the site.
•        He or she works best when their own skills are needed for the tasks.
•        He or she is interested in developing their own range of skills.
•        He or she performs the most important tasks with little supervision or outside direction.

E.      Goal internalization motivation (values and principles). – In this source of motivation, followers adopt attitudes and behaviors based entirely on their personal value systems Goal internalization is characterized by a need to believe in the cause. A player/visitor who is motivated this way uses value-based principles to guide decisions and actions. Some behavioral indicators that a player is motivated by goal internalization include:
•        He or she asks about, or seeks the purpose of tasks (“Why are we doing this?”).
•        He or she comments on the strategic focus of the site.
•        He or she works hard when one believes in the cause and will not if they don’t.
•        He or she lives a professional life guided by a strict set of principles and values.
Note: For more see (Barbuto & Scholl, 1998). This integrates Etzioni’s (1961) pure moral involvement, Katz and Kahn’s (1978) internalized values, and Kegan’s (1982) inter-individual stage of ego development.

Some Background, Notes and Related Reading
Some of this taxonomy is based on the work of Leonard, Beauvais, and Scholl These sources of motivation include intrinsic process, instrumental, external self-concept, internal self-concept, and goal internalization. Research using this taxonomy has examined influence tactics (Barbuto & Scholl, 1999; Barbuto, Fritz, & Marx, in press), transformational leadership (Barbuto, Fritz, & Marx, 2000) and other miscellaneous variables. In 1987, Thomas Malone and Mark Lepper published: Making learning fun: A taxonomy of intrinsic motivation.
There have been many perspectives offered from different fields. These perspectives have included psychosocial (Jung, 1971) expectancy (Vroom, 1964;), need-based (Alderfer, 1969; Maslow, 1954; McClelland, 1985), social identification (Ashforth & Mael, 1989), value-based (Etzioni, 1961; Katz & Kahn, 1978), goal setting (Locke & Latham, 1984), self concept-based (Brief & Aldag, 1981; Sullivan, 1989), and ego development (Kegan, 1982; Loevinger, 1976) perspectives.
Daniel Pink has a wide range of popular and recent material on psychology. There is a great YouTube video http://www.youtube.com/watch?v=u6XAPnuFjJc His books Drive: The Surprising Truth About What Motivates Us is a best seller, and available on iTunes
Noah J. Goldstein wrote: Yes!: 50 Scientifically Proven Ways to Be Persuasive
Alderfer, C. P. (1969). An empirical test of a new theory of human needs. Organizational Behavior and Human Performance, 4, 142-175.
Ashforth, B. & Mael, F. (1989). Social identity theory and the organization. Academy of Management Review, 14(1), 20-39.
Bandura, A. (1986). Social foundations of thought and action: A social cognitive theory. Englewood Cliffs, NJ: Prentice Hall.
Barbuto, J. E., & Brown, L. L. (1999). Motivating your employees. NebGuide G99-1397A, Cooperative Extension, Institute of Agriculture and Natural Resources, University of Nebraska-Lincoln.
Barbuto, J. E., Fritz, S. M., & Marx, D. (2000). A field study of two measures of work motivation for predicting leader’s transformational behaviors. Psychological Reports, 86, 295-300.
Barbuto, J. E., Fritz, S. M., & Marx, D. (In press). A field study of two measures of work motivation for predicting leader’s influence tactics used. Journal of Social Psychology.
Barbuto, J. E. & Scholl, R. W. (1999). Leader’s motivation and leader’s perception of follower’s motivation as predictors of leader’s influence tactics. Psychological Reports, 84, 1087-1098.
Barbuto, J. E., & Scholl, R. W. (1998). Motivation sources inventory: Development and validation of new scales to measure an integrative taxonomy of motivation. Psychological Reports, 82, 1011-1022.
Barnard, C. (1938). The functions of the executive. Cambridge: Harvard University Press.
Brief, A. & Aldag, R. (1981). The self in organizations: A conceptual review. Academy of Management Review, 6, 75-88.
Etzioni, A. (1961). A comparative analysis of complex organizations. NY: Free Press.
Jung, C. G. (1971). Psychological types. Princeton, NJ: Princeton University Press.
Katz, D., & Kahn, R.L. (1978). The social psychology of organizations. NY: Wiley.
Kegan, R. G. (1979). The evolving self. The Counseling Psychologist, 8, 5-34.
Kelman, H. C. (1958). Compliance, identification, and internalization: Three processes of attitude change. Journal of Conflict Resolution, 2, 51-56.
Leonard, N. Beauvais, L., & Scholl, R. W. (1999). Work motivation: An incorporation of self-concept based process. Human Relations, 52, 969-998.
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Is Zynga the first billion dollar psychology company? or a taxonomy of motivation (Part 1)

2011-10-28T11:24:21-04:00

The key to gamification is understanding motivation, and no game company demonstrates this understanding more than Zynga. Game, Education, Healthcare and Fintech Entrepreneurs can learn a lot by following the motivation techniques exhibited in Zynga products. Don’t believe me? Think of it this way: In a few month Zynga motivated over 50 Million new people to learn how to run a virtual farm, and have fun doing it. Try motivating 50 people to sign up for a class on farm management and you will appreciate their accomplishments.

Gabe Zichermann had a great post yesterday where he described a two branch taxonomy for understanding motivation. (Intrinsic and Extrinsic). It’s a start, but insufficient. The Mad Men of Madison Avenue sometime refer to a three branch motivation taxonomy: get paid, get laid, or get made. This too is insufficient. Entrepreneurs and product managers need a more robust framework, if they hope to create breakthrough products.

The good news is I believe a “unifying” motivation framework is coming!

Motivation has always been an elusive concept. Economists, Managers, Marketers, Psychologists and Anthropologist have wrestled with the topic for centuries.
I believe thanks to click and social graph data, the motivational social sciences will take significant steps forward in the next four years. Big Data to the rescue!

Four years is an eternity in internet time, so in the interim I propose a five node framework/taxonomy:
A.      Intrinsic Process: Derived from fun or enjoyment during the task
B.      Instrumental: Derived from expectations of tangible rewards
C.      Self-Concept External: Derived from a desire to improve one’s reputation and image
D.      Self-Concept Internal: Derived from a need to meet personal standards and achieve
E.      Goal Internalization: Derived from a deep-rooted belief in the cause or principle

Sophisticated web application developers can look at all their work flows, screen design and user stories through the lens of “motivational profiles”, and whenever possible, customize the UI, UX and messaging based on the predicted/observed motivational profile.

Hope this proves helpful, especially if you are about to use "social gamification" to change education or healthcare. Good Luck!

I will elaborate in Part 2..

NYC’s Shawn Parker Density

2011-09-28T15:21:38-04:00

Monday, Paul Graham gave a speech at General Catalyst.   Paul has great insights into what makes a great tech hub and zeroed in on the final piece of NYC’s start-up ecosystem. The piece just now cementing into place: Entrepreneurs' ability to run into high quality mentors. Paul used Shawn Parker’s mentoring of Mark Zuckerberg as the classic example. Facebook would not be what it is today had Shawn not run into Mark. HP, Apple, Intel and Google all have similar serendipity. The founders all received critical help from the ecosystem.

Paul is right to highlight the importance of running into smart, driven people who are experienced in entrepreneurship and technology. This continuous cross-pollination of experience, vision and innovation is paramount.

Over the last 15 years, the NY tech scene has really evolved.   Although it takes 20 years to build a robust start-up ecosystem, NYC has made great strides since 1995 when we started SquareEarth our first internet technology company. Back then, similar to today, there were great reserves of engineers inside wall street, but pulling them out was almost impossible.   I got lucky. Marc Andreessen came to visit Solomon Brothers to spread the gospel of the browser, and I was able to pull from the pool of engineers whose lives were changed by his visit. Back in the mid 90s, Solomon Brothers was pioneering the use of the browsers as part of their $400,000,000 annual technology investment.   Banks and hedge funds are still huge pools of technical talent, but today, technical talent is more willing to transition to a tech startup. Companies like Aristotle Circle, Delicious, Gerson Lehrman, TheLadders and Secondmarket were all founded by former Wall Streeters.

Back in 1995 people in NYC interested in tech-startups were few and far between.   Guys like Peter Bloom, Michael Bloomberg and Bernard Weinstein were important tech mentors, but your chance of running into them on the street was three in a million. Today, we have a vastly different story. Now there are hundreds of veteran tech start-up professionals in NYC playing that “Sean Parker” role.

Outsiders think access to technical talent is the gating factor for faster start-up growth on NYC. It is not. (like Silicon Valley, our demand for exceptional technical talent is limitless). Others think the constraining factor is Seed Capital. Untrue. NYC is full of dozens of seed-stage funds, hundreds of Angels, and thousands of qualified investors, all looking for investments.   You could argue that the lack of a MIT or Stanford will mean NYC will always be a tier 2 tech hub, but neither does this tell the whole story. NYC is currently pursuing Stanford and 14 other top engineering schools to set up a multibillion dollar campus in NYC. Plus, NYC is already a college town, There are about 594,000 university students in New York City attending around 110 universities and colleges.   Low rent space, easy transportation, access to media, and a huge creative class all help, but it is the high density of people passionate about startup tech that makes all the difference.

Maybe my view is skewed by having offices on either side of Union Square, with my main office sharing an elevator with Foursquare, resulting in a regular flow of random reconnections.

That said, like a diamond dealer making regular trips to Antwerp, or a movie star visiting Hollywood, as a tech entrepreneur, I still need to make regular trips to Silicon Valley.   It’s Tech Start-Up Mecca, but after 15 years, it’s good to see NYC has achieved its “Sean Parker” density.

Information wants to be Free, Money wants to flow Freely

2011-07-10T10:06:29-04:00

In the mid 1980s, technologist Stewart Brand observed “Information wants to be free”, in one simple statement Brand predicated the fall of governments and the restructuring of industries. There were powerful interests, aligned against the idea of information flow, but in the end Middle East dictators, and media executives all had to adapt to the tide of new technology.

Brand was the Founder of the Whole Earth Catalog, and his full quote is:

“On the one hand information wants to be expensive, because it's so valuable. The right information in the right place just changes your life. On the other hand, information wants to be free, because the cost of getting it out is getting lower and lower all the time. So you have these two fighting against each other.”

I think CraigsList, BitTorrent and Google are the embodiment of the idea of free flowing information. Google, along with other search tools, empower individuals to connect directly with information, disintermediating any friction that does not add value to the flow of information. Not good for record labels, great for consumers.

But just as Google empowers information flow, Facebook and Google+ empower Money.

Money and information are in many ways interchangeable. Money represents a special type of information, an informational unit called trust. In barter, one trusts that 8 chickens will be worth something in the future, either to yourself or to others. In Roman times one trusted that metal coins could be exchanged for goods, in the 50s it was trusted that paper money could be exchanged for gold or silver, and today one trusts that your government issued paper will buy goods in the future.

Information = Trust

Trust = Money

Information = wants to be free

Therefore

Money = wants to be free

Or said another way

Money wants to flow freely

Historically only big institutions had the gravitas to be the trusted intermediary for industrial scale commerce, and for this role they extracted a hefty fee. Wire fees, transaction fees, merchant interchange fees, credit card fees, regulations, bank fees and currency depreciation all represent friction to the free flow of capital.

What happens when trust can be calculated by careful analysis of your endorsements and social network?

What happens when communities can easily form groups (AKA "circles" ) to cross collateralize, insure, or drive better terms?

The result will be hundreds of new companies, maybe even new industries. Companies like AirBnB, Groupon, Lenddo and Square are just the tip of a “socially empowered” commerce renaissance.

Stewart Brand was right, and we see information flow in the form of media has been radically changed over the last 10 years. But consumer media represents only about 2% of GDP, finance is closer to 8% of GDP.

Let me say that again for emphasis. TV, Radio, Advertising and Social Media represent about 2% of GDP, and they have been transformed by technology. The finance Industry is 4 times bigger!

Media is a precursor of the change to come, Mark Zuckerberg says "every industry will be changed by social". Tom Anderson, co-founder of MySpace says "everything got better when it was social".

What happens when finance becomes socially empowered?

I guess the best way to predict the future is to create it.

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It takes 20 years

2011-07-09T20:22:21-04:00

Marc Andreessen was interviewed about Bubbles in today’s New York times. It got me thinking about a core lesson from history: breakthrough technologies impact society in unexpected ways, and generally take 20 years before their true potential is realized.

In late 1994 I had to make the biggest decision in my life: Should I quit my career as a management consultant to start my first internet business? I was learning tons as a consultant, had great mentors, and had a hard time imagining having more fun.

However, since my first lemonade stand, I always felt destined to start companies. In following the growth of the World Wide Web, I felt the time was right to try my hand as a full time entrepreneur. My gut said the magnitude of the web opportunity would more than offset my relative lack of business experience.

My holistic, big picture right brain was ready to make the move, but my analytical left brain still wanted more data. I needed data to squash my hesitation. The problem was little data existed about the World Wide Web. I charted mentions in the press; I charted user growth; I extrapolated future data. But none of them gave insights into the impact of the internet on society. For that I would have to look back into history.

Edmund Burke said, “Those Who Don't Know History, Are Destined To Repeat It.”

I say “Those Who Don't Know History, Are Destined to Not Profit From The Future.”

So I hit the books to study the biggest technological changes of the last 1000 years with an emphasis on the societal impact. My targets: Gutenberg Printing Press, Steam Engine, Electricity, Railroad, Broadcasting, Telegraph, Movies, Telephone, Automobile and the Personal Computer. Research took several weeks, but my view was unobstructed as I was able to stand on the shoulders of giants. Much had been written about the impact of technology on society. Eventually a pattern emerged:

Phase I: People at first underestimated the technology’s potential
Phase II: People then got excited about the potential, but then underestimated how long it would take (The bubble)
Phase III: Technology eventually reached its potential, but only years after the bubble popped
Phase IV: Eventually Society was impacted in even more than expected, and in unexpected ways, usually about one generation later (20 years)

Printing Press, Steam Engine, Electricity, Railroad, Broadcasting, Telegraph, Movies, Telephone, Automobile and the Personal Computer all conform to this pattern. This is not an asset bubble pattern (think Tulips, Silver or Mortgage Backed Securities). It’s a technology bubble pattern. Around 2015 we should expect to enter Phase IV for the internet.

Get Ready! Phase IV is where the second order and unexpected societal impacts occur. The automobile led to suburbization, highways, the drive-in movies, fast food and a change in how you interacted with your community. Electricity lead to the light bulb, reading at night, home appliances, and the change in the role of women in the household.

Reshaping the media industry is entertaining, but the “World Wide Web” is just getting started. The “big” industries are Energy, Finance and Health Care. When the internet, combined with social and mobile, hits those industries look out! Those changes will make CraigsLists, Yahoo and Netscape look like my first lemonade stand.

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Startups and Whiteboards: Like chocolate and peanut butter

2010-12-02T14:40:14-05:00

Really the title should be a phrase: we need more whiteboards! The number of startups here and New York are growing like brushfires. If you visit a few startups one thing you see is lots of Whiteboards. Seems like startups and dry erase boards are like chocolate and peanut butter, or like Red Bull and, well startups. They go great together.

Whiteboards are one of the most important business tools a startup could have… entrepreneurship and software development are inherently creative, collaborative, information intensive processes. The startup blogosphere has lots of posts on hiring, marketing, software development and fundraising. But what about whiteboards? The “experts” are missing this critical tool in the entrepreneur toolkit. Sure you may learn something from Lee Hower that will help you close $5,000,000 in funding, but what good is that money if can’t collaboratively design your next pivot? That requires a great collaboration and brainstorming tool, the best I've ever seen at least.

Successful project management systems revolve around people. And as you probably know, no matter how many new “innovative” project management tools you try, there is always a role for the age-old, reliable whiteboard. It is the ultimate collaborative tool.

As a startup Founder and Investor, I found the whiteboard to be central to any good business. It encourages focus, communications and effectiveness. Sadly, today, whiteboards are not getting the critical attention they deserve, an online-startup-knowledge void I hope to fill.

So at first glance, it seems easy. Walk over to Staples and pick a size and order. But wait, you’re embarking on building a world changing company, the next Facebook, and the whiteboard is a critical tool of your craft. It would be like Lady GaGa buying her outfits at Lane Bryant, or Michael Jordan buying his sneakers at Payless. They're more creative than that, and you can be too.

True, every penny counts in a startup, but you shouldn't cut corners on your most critical tools. Would you swap your new 27’ Mac for a 5 year old Gateway to save a few bucks, no way! Maybe your whiteboard is just as key?

So what are your other choices?

Whiteboard Wallpaper – I have had good experiences with wallpaper. Several of the conference rooms at Mimeo.com have floor to ceiling whiteboard walls, and the ideas just keep coming when the space allows. One consideration, the wallpaper comes in both mat and glossy finish. I recommend gloss, unless you are also using the wall for projecting in which case I would recommend a mat finish.

Whiteboard paint – I have not had as much success with paint, but I think this is a good option for irregular surfaces where you anticipate light use (i.e list that change only monthly). The other advantage is the paint can be applied it to any shape or place in your office, but it’s definitely a light duty option.

Write-on poly sheets - are basically glorified white vinyl sheets (just a small step up from thick trash bags) but they are great when you need something right this instant, right now, today. Poly sheets are also temporary, so you can take them with you when you take over your investor’s summer house for your corporate offsite.   The con, they’re tricky to handle, and like plastic wrap they cling to themselves ferociously. The other con is any office that has plastic cling whiteboards definitely gives of the image that you will be packed up and gone tomorrow. Not exactly reassuring to potential hires. (BTW, its also easy to get overly enthusiastic and accidentally write over the edge, onto the wall).

I didn't mention blackboards and blackboard paint, mainly because from time to time I wear a suit, and chalk and suits don’t mix. Betaworks seems to have success with blackboards, and I have seen them in the quantitative trading conference room at Morgan Stanley. The math PHDs love them, they give off a real academic vibe, but I don’t like the fact that the black surface can’t double as a projector screen (and like I said, chalk is messy). So until I get my own “minority report” super screen, I am counting whiteboards as a core startup tool.

The Entrepreneurial Singularity - or - Moore's Law for Start-ups

2010-11-28T11:30:49-05:00

Steve Blank has an excellent article “When It’s Darkest Men See the Stars” which is the talk-of-the-town in the serial entrepreneur community. A brief excerpt:

“Entrepreneurial Singularity - The barriers to entrepreneurship are not just being removed. In each case they’re being replaced by innovations that are speeding up each step, some by a factor of ten. For example, Internet commerce startups the time needed to get the first product to market has been cut by a factor of ten, the dollars needed to get the first product to market cut by a factor of ten, the number of sources of initial capital for entrepreneurs has increased by a factor of ten, etc.”

Sounds a lot like CPU’s and Moore’s Law, eh?

If you follow Steve’s writing you find his basic premise is that a start-up is a project to find a business model, and that most startups will need to “pivot” before finding a model that works.

Iterate to Success – Start-up Clock Speed

I look at each pivot as a special type of iteration. An iteration is a change in product, packaging or business model. Not all iterations are pivots, but all pivots are iterations. The pace of iterations is an organization’s clock speed. The faster you iterate, the more likely you are to strike success with the market. Usually the faster your clock speed the less cash you consume between iterations. A start-up that has a clock speed of 6 months will have two chance to get it right on I year of cash, a startup with a clock speed of 30 days will have 12 chances. In large organizations, an iteration is merely a product enhancement, or market expansion, but in a start-up one iteration can be the difference between riches and bankruptcy. Urgency is critical.

At the core of Ray Kurzweil’s Singularly is CPU clock speed. In 1981, my first computer, had a clock speed of 4.77 MHzs, but computer speeds have steadily marched forward. The time and cost of a cycle was roughly cut in half every two years. Will the same thing happen with start-ups? Could faster iterations result in a startup singularity? I don’t know. It seems that the maximum start-up iteration speed is constrained by how fast customers will provide feedback. But people have said Moore’s law would meet its constraint for over 15 years, yet every time the chip engineers think its over someone finds another way to speed up the chips.

I wonder if entrepreneurs will have similar success in increasing the start-up cycle time. Certainly in the next few years there will be massive improvements. The time it takes to build teams, release software, attract investors, and close customers is still measured in months. We (entrepreneurs and investors) can do better, and we will. Recruiting, Agile Development, Seed Investing and Marketing are all fertile ground where innovation is flourishing, and increased innovation will increase speed.

Innovation will stay, but Silicon Valley IPOs will go to Hong Kong, Singapore, Shanghai or Bombay

2010-07-29T13:09:42-04:00

Last weekend I got to meet several start-ups from Yale and learned more about the Yale Entrepreneurial Institute (YEI). Although Yale's start-up ecosystem is decades behind those of Stanford and MIT, I'm sure Yale will graduate several entrepreneurs of note.

Columbia and NYU also have major efforts underway to foster entrepreneurship as a respectable and obtainable profession. Last year more Columbia MBAs said they wanted to peruse a career in entrepreneurship than wanted to pursue a career on Wall Street!

The Yale event was a microcosm of why Americans should continue to be optimistic about entrepreneurship. Our risk-taking culture, critical mass of self-made-entrepreneurs, and acceptance of failure virtually guarantee a steady stream of innovation. Although many young companies will fail, others will go on to improve the world while simultaneously creating thousands of new jobs.

Unfortunately, the innovation coming out of Yale and all other universities is threatened by the current state of the American IPO. Mid-stage funding is critical to both timely returns for early stage risk capital and, more importantly, scaling innovative businesses. As I have said before, we are seriously lacking “Ten Million Dollar IPOs.” Tech IPO's will move offshore if America does not remedy its mid-stage capital markets.

Der Spiegel agrees, and further argues about the risk and expense of listing in the United States:

With expensive accounting rules, an increased threat of litigation and hundreds of millions of dollars in fines for some firms, the once prestigious New York Stock Exchange and other American markets have become unattractive to companies. Daimler and Deutsche Telekom have fled this year and the few remaining are likely to follow.

It looks as if American Entrepreneurs, Angels and VCs need to start familiarizing themselves with the “non-NASDAQ” IPO process in order to scales and remain competitive. Some already have. This week Sequoia-backed SKS Microfinance will raise over $350,000,000 in an IPO on the National Stock Exchange of India and the Bombay Stock Exchange.

A changing of the Guard - This is not the 80s or 90s

Recently, New York has passed Boston as the number two city on the planet for creating and launching technology start-ups (both take a back seat to Silicon Valley). But New York could be losing its dominance in facilitating mid-stage capital.In the 80s and 90s, technology companies from all over the world turned to New York and US investors to fund their mid stage growth. Wouldn't it be ironic if future US entrepreneurs turned their back on Wall Street to fund their mid-stage capital needs?

Tech IPO's: What TechCrunch & Fred Wilson Are Leaving Out

2010-06-21T14:34:42-04:00

Erick Shonfeld has a great post up on Techcrunch called "The Poor Pilloried Tech IPO" that's worth a read, following on Fred Wilson's recent post on the same subject. Says Erick:

A decade ago, tech IPOs ruled the stock markets and Silicon Valley. They were the end-all and be-all for ambitious entrepreneurs and venture capitalists looking to become instant billionaires, or at least millionaires. That was many booms and busts ago. The IPO market never came back, and the multiple financial meltdowns which brought on Sarbanes-Oxley and other regulations made going public even less appealing to shoot-from-the-hip entrepreneurs. The founders of the most successful tech companies today—Facebook, Skype, LinkedIn—are pushing off the inevitable IPO for as long as possible. And for smaller tech companies, IPOs seem hardly worth the bother.

As I said in my April post on "Why Ten Million Dollar IPO's Matter", the U.S. IPO torrent has turned into to a trickle:

My concern is that we are not graduating the “Intels” of tomorrow.

AT&T, Disney, General Electric, Genentech, Cisco, Intel, Microsoft, Google and E-bay all had a public offering. Since going public, they have all benefited from the credibility, profile and prestige associated with being publicly traded companies. And of course the access to capital, both as IPOs, and perhaps even more importantly, with secondary offerings. The ability to do a short lead time secondary offering gives a company enormous flexibility.

But that flexibility is unavailable to most growth companies today.

Would the phone, talking movie, television, personal computer, and internet industry have been as innovative if these leading companies were instead acquired as a division of Western Union? I think not, but that is the future of most venture-backed companies today. M&A has become the only available exit for growth investors and Founders.

But why? Erick, as well as some of the people he quotes like Fred Wilson and Frank Quattrone, point to one or two barriers to going public - mostly the lack of "category-defining, earthshaking" precedents, and regulatory hurdles (such as Sarbanes-Oxley). But I think that's just the tip of the iceberg.

As I posted before, there are at least nine major impediments preventing tech IPO's:

1. Death of the mid-market investment firms
2. Decimalization.
3. Rise of the Internet Brokerages
4. Growth of Prop Trading.
5. End of Equity Research.
6. Increased Litigation Risk
7. The Internationalization of Wealth.
8. Larger Global Funds.
9. Increased Regulatory Expense including Sarbanes-Oxley.

Quattrone's conclusion is right - VC's need an IPO market. But I think he's wrong if he thinks the problem will be solved just by a few high profile IPO's from some current web standard bearers.

Our community needs to address ALL the key impediments for tech IPOs. Something must change, even if it means moving the IPO market off-shore and and excluding U.S. participation to under 500 U.S. “Qualified” Investors.

There are smart people in Silicon Valley, London, New York and Hong Kong working on ways to overhaul the IPO process. As tech innovation moves millions more into the middle class, people need a better place to invest their new wealth. And by 2035 the majority of the world’s wealth is expected to be outside the G20. It's inevitable that markets will connect these investors with start-ups and innovation will continue, that's a given.

But the big question -- how long it will take U.S. entrepreneurs and investors to figure this out?

Why Ten Million Dollar IPOs Matter:

2010-04-23T11:20:00-04:00

In the 70s, 80s and 90s thousands of companies went public… these companies became the backbone of our modern economy. While Ford, International Harvester, Chrysler, PanAm and RCA shrank or declared bankruptcy, Microsoft, Cisco, Intuit, Amazon and hundreds of others were creating jobs, increasing our standard of living and making the world a better place.

But the US IPO torrent has turned into to a trickle.

Today only the largest of companies can go public, generally only those with over $500 million dollars of market capitalizations. In the 80s there were IPOs where the net proceeds were less than $900K. Veteran Venture Capitalist Alan Patricof told me about a $10 million IPO he did in the seventies. When I asked him about this, months later, he corrected me, pointing out it was not a $10 million IPO, it was a $1 million IPO on a $10 million pre money valuation!    Mighty Intel Corporation went public in 1971 with an $8 million IPO and a mere $53 million valuation.   My concern is that we are not graduating the “Intels” of tomorrow.

AT&T, Disney, General Electric, Genentech, Cisco, Intel, Microsoft, Google and E-bay all had a public offering. Since going public, they have all benefited from the credibility, profile and prestige associated with being publicly traded companies. And of course the access to capital, both as IPOs, and perhaps even more importantly, with secondary offerings. The ability to do a short lead time secondary offering gives a company enormous flexibility.

But that flexibility is unavailable to most growth companies today.

Would the phone, talking movie, television, personal computer, and internet industry have been as innovative if these leading companies were instead acquired as a division of Western Union?   I think not, but that is the future of most venture-backed companies today. M&A has become the only available exit for growth investors and Founders. Long term this presents a problem.

Large companies have a track record of wasting innovation opportunities.   Western Union had an opportunity to buy AT&T for one million dollars, but refrained because they figured voice would never travel adequate distances. Xerox discovered the technology behind Apple, Microsoft and Cisco but only as independent companies could theses “start-ups” attract the talent, capital and customers to create new industries. More recently, watchers of the New York tech scene will recall Google’s purchase and shutdown of Dodge Ball.

New, well-funded, stand-alone leadership is needed to drive innovation, but that is NOT the future we are building.

How many jobs were created by these innovative companies? How many lives were changed for the better?

It is estimated that 5% of America’s productivity improvements have come from the logistical excellence of Wal-Mart…. Do you think this would have been achieved if Sam Walton sold to Sears?

There is a long-term problem with the innovation engine of capitalism. So how did we get in this situation?

There is no one event, but instead a culmination and interaction of many factors.

1. Death of the mid-market investment firms. Remember Alex. Brown & Sons, Hambrecht & Quist, Robertson Stephens, Legg Mason and Montgomery Securities? These firms played a critical role in connecting investors with innovators, and often profited in the process. Today these firms have had to evolve or go out of business due to changes in the regulatory and market landscape. Other firms have attempted to fill the void and found that the economic model supported by equity research, equity sales and equity trading no longer works.

2. Decimalization. When equities were traded in eighths not hundredths, trading volume could support market making specialists, and even research.   Financial Intuitions have lost the incentive to bring new equities to market, and then trade those equities in small volumes with other humans. The profit is in high volume algorithmic trading among hedge funds.

3. Rise of the Internet Brokerages.   E*trade, Schwab, TD Waterhouse and Datek are great for the self-service day trader, but they eliminated the phone sales so critical to retail stock brokerage. There is a saying, small cap stocks are sold not bought, and the US sales infrastructure has been decimated by internet brokers.

4. Growth of Prop Trading. – In the 90s rule changes drastically reduced the risk for the owners of financial institutions. Many of the big firms went from partnerships to corporations. For Wall Street, capital-raising is now a sideshow. At Goldman, trading and investing for the firm’s account produced 76 percent of revenue last year. Investment banking, which raises capital for productive enterprise, accounted for a mere 11 percent of total revenue. While Goldman is at the extreme, it is clear that the needle can be moved more effectively by successful prop desk bets than by the hard, slogging work of identifying promising companies and underwriting their IPOs. Because investment banking fees for IPOs are based on the size of the transaction (the underwriters’ spread), bigger deals are, not surprisingly, favored over small ones. This results in an over-representation of big transactions, including, in particular, deals for portfolio companies of LBO sponsors.

5. End of Research. – Decimalization did not help, but I am not sure that Eliot Spitzer’s efforts were at least as bad. Eliot Spitzer disconnected the economic incentive for brokers to generate investment research on companies with which they may have banking relationships. You would think Eliot would understand bankers whoring their clients is a good thing. In many countries, companies literally pay to publish research. Why is it a shock that research is designed to sell stocks? Guess what --- if anyone tells you anything about a stock, you should be skeptical of his/her motivation. Memo to world, use your own judgment and don’t rely solely on third party research. That said, some level of research is critical to understanding perspectives on a company.

6. Increased Litigation Risk. - Guess what, not all IPOs go up. In the 90s there was a wave of shareholder lawsuits, resulting in massive wealth transfer to class action lawyers. I don’t know if any of these suits reduced malfeasance, but I am sure they dampened managers’ efforts to grow companies.   Note: The massive IPO litigation against 310 companies and 55 underwriters relating to 309 IPOs completed from 1998 to 2002 finally settled in late 2009 for an aggregate of $586 million. Worth noting since the case was solely about IPOs (not all public offerings) and related to allocation of perceived “hot issues.

7. The Internationalization of Wealth. – in the 70s and 80s the US was the place to be, as much of the world’s investable risk capital was connected to the US household. Unlike years ago, today the bulk of the world’s investable wealth sits outside the US borders. Brazil, Dubai, Russia, China, India, and dozens other countries have amassed significant investable wealth. In 2009 more IPO funds were raised in China than the US.    Today the largest retail broker in the world is in India.

8. Larger Funds. – Globally there is a proliferation of wealth looking for investments, the result has been larger investment funds. The problem is, these large funds can’t make small IPO investments because if they buy more than 10% of the IPO float they may get deemed a “statutory underwriter” and take unwanted potential liability. But at the same time, if a fund is going to make the effort to understand an IPO, they want to buy enough that the purchase can impact fund performance. It just does not make sense for Institutional Investors to buy IPO shares for companies under $500 million market cap.

9. Increased Regulatory Expense including Sarbanes-Oxley. – On my last trip to the London Stock Exchange, they showed me a picture of Sarbanes and Oxley, their two favorite Americans. The LSE professionals estimated that the US SOX legislation had driven dozens of companies to file abroad. The added accounting expense is almost always hundreds of thousands of dollars a year. This is time and resources going into accounting, which instead could be going into product innovation. The increased imposition of personal liability on officers by SOX reporting is another factor that deters companies from listing in the US.

From 12-15-10 WSJ - "Section 404 is still consuming more than $2.3 million each year in direct compliance costs at the average company. The SEC's survey shows the long-term burden on small companies is more than seven times that imposed on large firms relative to their assets. Are the internal controls audits helpful? Among companies of all sizes, only 19% say that the benefits of Section 404 outweigh the costs. More respondents say that it has reduced the efficiency of their operations than say it has improved them. More say that Section 404 has negatively affected the timeliness of their financial reporting than say it has enhanced it."

In the years since SOX passage, the country has experienced an historic drought of initial public offerings. Is Sarbox to blame? Many financial pundits say no, but the SEC survey results point in the other direction. When public companies are asked whether Section 404 has motivated them to consider going private, a full 70% of smaller firms say yes, and 44% of all public companies also say yes.

So what happens next? A US exodus?

Some would argue promising start-ups won’t get funded at all. They would argue the lack of an active IPO takes away the incentive for Angel and Venture investing. I disagree. At that seed stage the constraining factor is the number of capable entrepreneurs, not capital. Capable entrepreneurs will find a way get going (and a way to exit). The problem lies later, when a company starts to get traction, really starts to create jobs, wealth, and intellectual property.

Furthermore, with the proliferation of derivatives the seed stage asset class is one of the few uncorrelated asset classes.   I see an ever more active angel community stepping in at the very early stage. The problem is as a company grows.

For decades the preferred path for technology commercialization was simple; A US company, incorporated in Delaware, backed by US investors, went public on the Nasdaq. But that system is broken.

Investors still like Delaware, but today, Delaware no-longer has a monopoly on predictable governance and favorable tax treatment. Dozens of jurisdictions are vying to host the Intels of tomorrow. New Zealand will even let you use Delaware law for a New Zealand company. Ireland, Iceland, Belgium, Hong Kong, Cayman, Singapore, Dubai, Chile, Canada and England all have aggressive incentive programs to attract start-ups. Today’s star-ups are often international at inception, so why default to Delaware, especially if it is going to have negative impact on capital access and exit strategy.

I predict that the U.S. and Delaware will lose its preeminent start-up position if we don’t fix the IPO system.

Already some of the best venture deals of this decade bypassed the traditional Delaware holding company structure; Baidu and Skype

And the Nasdaq has lost its lead also.   Market makers no longer exchange information over the phone scrambling to match buyers with sellers on the other side of a trade. Today the Nasdaq is digital, and this lowers the barrier for competitors. Competitors include SecondMarket, SharesPost the PORTAL Alliance, and of course EVERY exchange outside the U.S.

There is strong incentive to move away from Nasdaq.

China (and other countries with rapidly expanding economies) is eager to support local capital markets. Obtaining a domestic listing will become much easier, since China has ambitious plans to float hundreds of companies on the new market each year. Maintenance fees are lower and disclosure requirements are less stringent when listing at home.
U.S. investment banking firms charge fees that are significantly higher than those charged by firms in other countries. As an example, the average fee charged for U.S. IPOs was about twice that charged for firms going public on London exchanges.
U.S. IPOs have greater first-day underpricing than those in other countries. While big first-day return is good for purchasers of IPO stocks, it amounts to money left on the table for the issuing company.
While not specifically measured, the perception is that non-IB fees (for lawyers, accountants, printers, etc.) are much higher for US IPOs.
A decreased value placed on the prestige of an American exchange listing.

As trading spreads and commissions are approaching zero, growth companies are forced to be huge to attract research and investors, or invest heavily in outbound stock marketing and investor relations programs. Efforts may include aggressive non-deal road show programs, social media, paid-for research and even engaging promoters to target brokers. These types of investor service are frowned on in the US, where there is an attitude that only accredited investors can handle information. But these types of free flowing information are encouraged by regulated stock market outside the US.

America needs leadership in fixing this financing gap, or the companies that shape our future won’t be American.

Related Posts:

New startup market can win if it gets off to good beginning

As Silicon Valley Falters, China Closes the Gap in Tech IPOs

Why are IPOs in the ICU?

Tomorrows Green Jobs are in Jeopardy

2010-04-22T09:48:34-04:00

For 30 years, the process of job creation in the U.S. was the envy of the world. Start-up entrepreneurs backed by private investors, followed by public investors, created and expanded companies that generated millions of jobs, all while growing the U.S tax base. These new companies became the backbone of our modern economy.

While Ford, International Harvester, Chrysler, PanAm and RCA shrank or declared bankruptcy, Adobe, Dell, Microsoft, Cisco, Intuit, Yahoo, and hundreds of others were created jobs, increased our standard of living, and made America a better place.

Today that process is under siege: .not only from abroad where nations are duplicating our process, but also domestically, as well-meaning legislators are undermining the process. We can handle the international competition, but these internal assaults could be the death of America’s standard of living.

The majority of U.S job creation follows a simple 3 step process:

Step 1 – Entrepreneurs have ideas and start companies, kicking-off the hiring process.

Step 2 – Angel investors, and eventually early stage investors, provide capital to fund further employment growth.

Step 3 – The company moves into the public market, where it has even greater credibility and access to capital, enabling it to continue to create jobs.

This whole process costs the government nothing, while it simultaneously increases the U.S. tax base. But it’s about to come to an end if elements of Senator Dodd’s new Banking Bill are passed into law. Specifically, the Dodd Bill makes it much harder for individuals to qualify as angel investors. It’s already competitive enough for startups to attract early investment.

If these changes are implemented, the definition of “accredited investor” will be individuals with a net worth of over 2.3 million. Currently that minimum is 1 million. As a serial entrepreneur and early stage investor, I know firsthand what this means to the future of startups. If these changes are implemented there will be significant reduction in the number of startups that are able to attract funding.

Other countries have no such artificial barriers. In China, where for the first time, in 2009, more money was raised in IPOs than in the U.S, anyone can have a chance of getting rich and investing in risky startups. I guess our government thinks you can’t handle the risk associated with early stage companies, unless you are already rich. Why is it only the rich should have access to this exceptional asset class? True 60% of startups will produce no economic return for investors, but in aggregate the asset class is outstanding.

Section 412 of the draft bill recommends adjusting the accredited investor to for an individual to $2.3 million in net worth or $450,000 plus in annual income. At a time when many accredited investors have lost approximately 20% of their net worth and innovative startups are having an increasingly difficult time raising equity capital, decreasing the potential pool of angel investors is counterproductive to supporting the very companies that will create new high paying jobs.

Section 926 of the bill would require, for the first time, companies seeking angel investment to make a filing with the Securities and Exchange Commission, which would have 120 days to review it. This would both raise the cost of seeking angels and delay the ability of companies to benefit from their funding. 120 days is an eternity for a fast growing start-up. Kauffman Foundation Vice President, Robert Litan notes: “that 'protections' for angel investors in Section 926 of the comprehensive financial reform bill outlined by Senate Banking Committee Chairman Senator Dodd are unnecessary and will hurt America's job creators.”

Section 928 of the legislation would repeal the existing federal preemption of state regulation over “accredited investor” securities offerings. This would end the uniform, national set of rules for financing startups. By eliminating regulation that is working well, the draft bill would expose technology startups to a potentially complicated system of patchwork, state by state regulation, resulting in higher costs, more legal risks, and the potential of not being able to raise capital because of different rules in different states. Nothing would be gained from this change: no additional protections would be provided to the accredited angel investors and there would be no benefits to the national financial system or to the economy.

These three Sections of the bill will kill the creation of jobs, especially green jobs.

Right now the CleanTech industry in the U.S is in its infancy. Many of the companies of the future are currently angel backed and all rely on investment for their early stages of growth.

These companies produce no drain on the U.S. treasury, and in fact increase the tax base by growing the economy.

A good example is Locus Energy, With Angle backing; Locus is developing the hardware and software to manage alternate energy sources like solar panels.

Another good example is high quality carbon offset provider, Belgrave Trust. With Angel backing, Belgrave Trust helps high-net-worth individuals (and some corporations) use market based solutions to completely offset their carbon footprint.

Both companies are growing their revenue, delighting their customers, and both companies are creating an ongoing stream of high quality green jobs.

Our future is dependent on entrepreneurs and angel investors, for they will create the jobs of the future. I just hope well intentioned legislators destroy the process.

Big Week for Mimeo.com!

2010-04-21T17:47:13-04:00

When we founded Mimeo.com in 1998, our vision was to be the print dial tone for the internet. In fact, when I was negotiating to buy the Mimeo.com domain name, I simultaneously negotiated for the domain Egress.com. My thinking (in 1998) was that the internet was accessed via simple “portals” and content was removed via “egresses”.    As we perused both names, it became clear that not only would the mimeo name be faster to acquire, but it also tapped into nostalgia for the mimeograph that resonated with our older users. The rest is mimeo.com history.

Last week we made more Mimeo history and moved closer to our vision of being the cloud-printing-dial-tone of the internet.

Last week, Mimeo announced integration with Scribd, the world’s largest social publishing and reading site. Working through the Scribd site, or via their well-documented API, content consumers can easily get high quality bound hardcopies. As Trip Adler, the CEO, and co-founder of Scribd clearly articulates, “we want people to be able to read on any form, or device they choose”. I could not agree more. Customers are best served when their digital documents are available in a range of form-factors – and Mimeo serves those who need hard-copies.

But we did not stop with Scribd, last week Mimeo.com also opened our print production and technology platform to other third parties. The new program enables partners and customers to offer cloud print services. My hope is in the coming months and years, developers will “cloud print” enable their applications via the mimeo platform.

I view the Mimeo as “the most powerful API on the internet”, although I think Google or Amazon might disagree. Sure through some of Goggle or Amazons APIs you can hundreds of servers to respond to you will… but with mimeo you can actually control a manufacturing facility, and tap into FedEx’s 640 plane air fleet. That’s because Mimeo’s main 140,000 s/f production facility is integrated with FedEx’s main Memphis distribution hub. Perhaps this is one of the reasons we were recognized last week as one of the AlwaysOn 100.

And then today HP announced a new product in their portfolio: The HP (VPC) Virtual Print Center Powered by Mimeo.   HP is leveraging the Open Platform Technology that Mimeo to provide a customized, co-branded solution to their Managed Print Services (MPS) clients and prospects.

Congratulations to Scribd, HP and the Mimeo Team.

Open Angel Forum – New York

2010-04-12T08:14:58-04:00

Last week, the Open Angel Forum had its first event at Dog Patch Labs. It was a great event. Jason Calacanis, Brian Alvey and Charlie O'Donnell did a fantastic job of bringing together six high-quality start ups and twenty high-quality Angels. The tone was fairly relaxed, but when it came time to present, the entrepreneurs were all business and used every second to concisely present their wares.

I think the format was successful because:

The Entrepreneurs each got into their respective demonstrations within the first 45 seconds. The Angels were able to see what the Entrepreneurs had built, rather than hearing about their accolades.

The event was fast-paced, but had built in networking time for Angels and Entrepreneurs to interact one-on-one.

The Angels were forced to pay attention – they were given no information about the presenters in advance.

Most of the session was Questions and Answers, which allowed the Angels see how the Entrepreneurs think on their feet.The companies that presented were high-quality, and had been expertly screened from over 100 applicants.

While the format was impressive, what I find most impressive is that checks will be written as a result of this event.

I will leave it to Jason and Charlie to announce who presented, and who eventually receives funding. Because time is the precious resource for an Entrepreneur, the ultimate success metric of this event will be if the time invested resulted in funding.

If you plan to seek investment in the coming months, I encourage you to apply for the next Open Angel Forum.

Building Your Start-up Team: STEM is now STEMP

2010-03-18T12:41:38-04:00

I generally prefer to hire super-smart Scientists, Technologists, Engineers and Mathematicians (STEM). Start-ups are all about having and then implementing great ideas - not just one “big idea” but hundreds of innovations, deployed in rapid iterations to create real competitive advantage and customer value. Entrenched players usually have bigger brands and deeper pockets, so a start-up needs to use intellect and hard work to win. I’ve found STEM graduates are well-prepared for the hard work and intellectual rigor of growing a startup.

Two years ago, however, I hired a Philosophy major. As it turns out, it could not have worked out better. Our resident Philosophy major was no stranger to hard work and analytical rigor.

My secret’s out of the bag: Maybe I’m on to a start-up hiring trend. Samidh Chakrabarti points out that several entrepreneurs I respect have Philosophy degrees, including Amol Sarva (Peek), Ken Reisman (TLists), Damon Horowitz (Aardvark), Patrick Byrne (Overstock), Josh Snyder (Treeline Labs), and Chris Dixon (Hunch). I can’t help but agree that students of Philosophy have many of the characteristics needed to succeed in an entrepreneurial environment. It’s great to see that these philosophical founders have already blazed a path. Maybe they can teach me a thing or two about where to find talent that has the desire, discipline and drive to start a company one day.

Therefore, this year, as we look for top new graduates to join our teams, we’ll be interviewing Philosophy majors in addition to the usual Science, Technology, Engineering and Math majors.

BTW: If you’re about to graduate from a top school with a STEMP degree, and would like to try your hand in the entrepreneurial world, please call me or email me your resume.

Focus, Time Management and the Web

2010-01-26T13:25:13-05:00

Charles M. Schwab was president of US steal in 1901, a position he rose to by impressing his bosses Andrew Carnegie and Henry Frick. My understanding is Schwab started as a management consultant, and the conversation went something like this:

Schwab: Hey I am a hot shot consultant, hire me.

Frick: No, we don’t need a consultant to tell us what to do. We already have a huge list of what needs doing.

Schwab: I know I’m good. Let me prove myself.

Frick: If you figure out how to get more done, I will pay you what I think your consulting is worth.

Schwab: Give me a week to look at your list and watch your management team.

Frick: Sounds good. Here is the list.

Schwab (one week later): Work only on the item on the top of your list. When it’s done, and only when it’s done, move to the next item on the list.

Frick (one year later): Here is a check for $25,000 (a lot of money in the late 1800’s)

I have a feeling Frick, Schwab and Carnegie would have liked NowDoThis.com … if you have internet-attention-deficit-disorder or run a steel mill you might enjoy it.

Next on the reading list: The Business Mechanic and The Hawk and the Dove

2009-09-09T12:41:55-04:00

Congratulations to John Minahan and Nicholas Thompson on the release of their respective book:

The Business Mechanic:9 Simple Ways To Improve Your Business And The Hawk and the Dove: Paul Nitze, George Kennan, and the History of the Cold War . These are the next two books on my reading list. If What Would Google Do is any indication, interesting authors write compelling books.