Sam Huleatt
Introduction
Throughout my career, I've been involved both directly and indirectly in building capital networks: marketplaces that bring together investors and investment opportunities. I’ve now done this at companies like On Deck and VC Lab / Decile Group. I’ve also advised a unicorn private investment marketplace and invested in a number of private marketplaces as an angel (example).
Private equity and credit are instrumental in driving entrepreneurial growth, so I love marketplaces and networks that help reduce investment friction. Capital networks have built our most powerful ecosystems. Silicon Valley, itself, is built on a capital network flywheel.
Some reflections on what I've learned 👇
Marketplace ‘Wedges’
One of the main hurdles when launching any marketplace is: where to start? It’s the classic classic chicken vs. egg scenario: start on the supply side (investment opportunities), or the demand side (investors)? While there is not necessarily one correct answer, textbook marketplace strategy would typically start with the supply side. My experience has been the same: great investment opportunities will generate investor demand.
This was largely the approach at On Deck. We started by curating an incredible community of founders (ODF), offering them accountability, services (like co-founder search) and education. By assembling this valuable supply of founders, we naturally attracted interest from investors (and others) looking for access.
Whether starting on the supply, or demand side first, there are two ‘wedge’ principles worth considering.
- Aggregate new sources of supply (i.e. not just incumbent supply)
- Unlock new categories of buyers/demand (i.e., find non-concentrated demand)
If you can come up with ways to accomplish both 1 and 2 above, you will have clear differentiation from the get-go. As an example, let’s consider a hypothetical marketplace for startup secondaries. If you are aggregating the same supply as everyone else, differentiation is difficult, as is pricing/margins. However, let’s say the normal minimum for a secondary on existing marketplaces is $100,000. If you’re new marketplace is able to figure out a way to offer minimums of $5,000, you immediately have created a wedge; a new source of supply that will be attractive to different type of buyer.
Packaging The Supply Side
Aggregating non differentiated supply is a recipe for marketplace failure. Sophisticated investors have no shortage of investment options. In order to stand out, opportunities must be packaged and presented in a way that establishes trust/credibility and offers low transaction friction.
Example of opportunity packaging:
Novel structure
- Novel structure could mean a new type of investment construct such as being able to invest in fractional artwork (Masterworks), aggregating fragmented supply/data (Opensea and NFTs), or offering an entirely new investable asset, like Alongside.
- Novel structure could also relate to a well know asset, but packaged for investment in a novel way. As an example, AngelList productizing SPVs opened the door for a new type of venture marketplace. More recent platforms like Allocate or UseTap use structural innovations to build new digital marketplace offerings for venture funds. iCapital, one of the OG capital networks, was a marketplace pioneer helping directly connect wealth management platforms (retail investors) with private market opportunities.
Superior curation
- Curation can simply having a unique perspective. Many great funds and capital networks have launched and gained traction by focusing on a particular thesis or world view. Examples could range from a broad ESG focus to a fund like Union Square Ventures who publishes their (evolving) theses publicly.
- Education and/or ratings is also a common tactic. Many top alternative platforms like Moonfare offer extensive education on their asset classes through white papers, courses and more. Other platforms like Velvet, use third-party rating systems or credibility in the form of highlighting existing co-investors. Another form of education is often employed by smaller venture funds who employ LP education as value prop. These fund managers go out of their way to educate LP about investment decisions. Hustle Fund comes to mind here.
- FJ Labs talks about the future of marketplaces being “marketplace-pick” models. The idea here is that where eBay simply presents every opportunity and the customer must pick the right offering for them, in a marketplace-pick model, the marketplace itself picks the best opportunity for each customer (usually by leveraging 1 party data).
Complexity Abstraction
- The true genius of AngelList was the abstraction of complexity surrounding angel investing (lawyers, taxes, etc). AngelList’s innovations were likely not possible without another market network, Y-Combinator, and its innovations of the SAFE.
- API-driven platforms like Sydecar and Brassica are also enabling platforms to watch
Allocation exclusivity & prioritization
- Many private market networks are inherently exclusive investors must be accredited, qualified purchasers, or HNWI to partake (example: Long Angle & Tiger21). However, even within these exclusive networks, prioritizing allocation can be a hot button topic. Unlike public markets, alternative deals tend to have limited allocations. When deals are particularly hot, everyone wants a piece. Capital Networks thus must be very intentional about how they structure prioritization so as not to alienate participants.
- One way to create platform exclusivity is the creation of platform funds. On Deck, AngelList and Fundrise are examples of platforms with dedicated funds creating a new source of platform value capture ($$ from management fees) as well as exclusivity. Funds can be marketed via a combination of attributes:
- Offering alpha: opinionated ‘cherry picking’ approach
- Offering beta: indexed approach
- Front running the best deals (FOMO)
- Leverage data and/or insights
→ As an example: AngelList formed Sax Capital (i.e., the Access Fund being AngelList’s index play) and has a partnership with a quant fund (their alpha play). In exchange for this superior access, AngelList charges minimum quarterly commitment for the Access Fund and a fund of funds model for the Quant Fund.
Other Perks
- Additional forms of exclusive access could be a GP providing SPV, or co-investment rights to LPs committing capital above a certain threshold.
Building Demand
Once the initial supply (i.e., the wedge) is secured and packaged, the focus becomes building demand. There are numerous strategies that can be deployed to attract investors, but it’s crucial early on to 1) attract the right early investors 2) do things that don’t scale’ 3) offer engagement beyond simply deal flow.
Finding the right investors means finding people uniquely interested in your investment offerings. There should be a clear alignment of interests investors should view the team/platform as credible. Ideal early capital network participants should also come with a working knowledge on the investments offerings. If early participants require lots of education upfront, things are in for a slow start.
Maximizing Buyer NPS
Doing things that don’t scale could mean anything from hosting intimate events, to interviewing each new investor, or personalizing their onboarding experience (yes, I have done all these!). While most marketplace tend to optimize for top line metrics like GMV, especially in the early days, buyer NPS is likely more important. I 100% agree with Sarah Tavel who states “The best marketplaces are those that figure out how to make buyers and sellers meaningfully happier than any substitute”. From my own experience, this generally means a lot of buyer handholding and 1:1 time. Early-stage capital networks should offer engagement beyond simply deal flow (examples: offering insights, networking events, etc). Another opportunity here is via the prviosuly mentioned ‘marketplace pick’ approach.
Market Networks
Market network is a term I first learned via NFX. The concept is to marry social networks with marketplaces. In a market network, buyers and sellers can interact with each other through a platform that provides tools and services to facilitate transactions and build relationships. Market networks can even go beyond social elements (like profiles) and offer more advanced SaaS workflows. As an example, NextGen Venture Partners offers tools and workflows for investors to collaborate on due diligence. AngelList offers workflows like portfolio tracking and allowing syndicate leads to search for additional investors from the PCN network. Another platform, Stonks recently launched a tax solution/workflow.
Offering market network features in advance of scaling the supply side can lead to superior user experiences and customer retention. These features also offer faster time-to-value, and offer benefits for investors independent of whether or not they actually transact.
Challenges with Capital Network & Marketplaces
Adverse Selection -
One of the biggest challenges in private markets is avoiding adverse selection. Adverse selection and signaling risk can occur on both demand and supply sides. On the demand side, investors might be concerned that the opportunities they are being shown are second rate, i.e., deals better investors passed on. In some cases this can be justified: in many instances, founders who failed to raise from top VCs turn to “dumber money angels,” or alternative platforms like crowdfunding. Capital networks thus need to get in front of this concern providing rationale to their access, allocations and any supporting data to show these specific opportunities can outperform.
Signaling Risk -
On the supply side, opportunities (startups, funds, etc.) are likely to be concerned with signaling risk. As an example, a fund manager considering raising capital on a new platform, must consider how other potential LPs might view this. Some LPs could view it as a sign of weakness or desperation. Likewise, a founder or GP selling secondaries could be seen as signaling a lack of confidence in her/his own product. The supply side may also be concerned about who the investors are. As an example some fund managers (or founder) may be sensitive to investors from certain geographies, or backgrounds.
Privacy -
Related to the point above on signaling risk, is privacy. Both sides of the market are sharing extremely sensitive data. For example, family offices and LPs can be reluctant to publicly share much at all. Likewise, startups are extremely sensitive to sharing key details out of concerns for compe tition and bad actors. AngelList has pioneered a lot on the privacy front such as watermarking key documents, tracking screenshots and emails and more.
Compliance -
Compliance is also a key risk when building capital networks. Depending on what type of asset is being sold or marketed, there are concerns ranging from KYC and accreditation laws to broker dealer concerns and general solicitation laws. A platform only transacting carried interest most likely does not need a broker dealer license. However, as soon as you sell shares, you absolutely need it.
Creating Incentive Alignment
Another key consideration point is the overall incentive(s) of the marketplace. As an example, at On Deck I wrestled with the fact that our underlying business model was revenue from founders. The work I was doing with our investor networks was 100% in service of our founders. However, what was in the best interest of founders was not always perfectly aligned with the best interests of our investors. This is a common problem, but one that needs to be acknowledged and when possible reconciled. As an example, if an investing platform is incentivized to push its own book (it makes money based on volume of transactions) investors should naturally have some skepticism on whether deal quality keeps up with scale.
I encountered another variation of this problem when I was an active investor/LP on Orchard Platform (a fund of funds for P2P loans). Orchard started out with accredited investors as the main customer persona. Over time, however, the incentive was to move to bigger and bigger customers. Eventually the platform closed to anyone who was not an institutional investor, a frustrating experience for the folks who helped prove the business viable.
Trends & Opportunities
Once the flywheel starts spinning, well-designed capital networks can create HUGE economic value: AngelList funded 11,000 companies in 2022 alone. Looking into the future, I’m excited to see more innovations that unlock access, empower entrepreneurship and drive wealth creation. To close out, I’ll highlight several trends I’m particularly excited about:
Private Market Verticalization -
- Capital networks focused on very specific niches like fintech, or geographies (such as what Latitud has done in LatAm) or Acquire.com is doing for acquisitions. I could also see more niche communities like YPO, Tiger21 or even the All-In Podcast offering structured deal flow opportunities.
Post-Transaction Value -
- Most capital network today don’t enable investor involvement post-investment. I could see a capital network develop designed to activate investors post investment, offering tools and workflows to enable value-add. Cabal might be well situated here.
- Another variation could be a capital network with fintech like offerings. For example, being able to extend lines of credit to investors or GPs
New Asset/Structural Innovations -
- Marketplaces founded on new offerings like derivatives or novel synthetic instruments. Perhaps new categories will emerge like transacting carried interest or pro rata.
Web3 Enabled Networks -
- I’m an LP in Orange Fund/DAO. Some of the capital network infrastructure they have built is truly innovative and next level.
Data & AI Enabled Networks -
- Enhanced personalization
- Superior Curation: Opportunity selection using 1st or 3rd party data plus ML/AI. Some funds like Correlation and SignalFire already have made inroads here.
Are you launching a capital network and looking for someone to provide feedback?
If so don’t hesitate to reach out!