Starting today, rank-and-file investors who want to catch a ride with a "unicorn" -- startups with valuations of more than $1 billion -- can make their fantasy more of a reality.
New investing rules are opening the doors of venture investing to the little guy, or at least anyone with $2,000 to spare. Prior to the tweak, venture capital investments were only open to so-called "accredited investors," or those with a net worth of at least $1 million and income of more than $200,000 per year.
The rule change, which has been years in the making, was designed as a way to help startups raise capital by selling stakes in their businesses through crowdfunding, while also providing more opportunities for small investors.
Yet while some investors might dream of harnessing the next unicorn, they should enter the world of venture investing without rose-colored glasses, given that there are dozens of goats for every blockbuster startup that catches the public's attention.
Small investors "might invest in a future unicorn, but if we're being honest that is very unlikely and will be the result of luck," said Marcelo Ballvé, research director at CB Insights, a company that tracks venture capital and angel investments. "There are a handful of investors and angels who are good at it, but stories about angel and VC investing suffer from the same survivorship bias seen in a lot of startup coverage."
In other words, investors don't hear about all the failures that litter the roadside of venture capitalism. For some perspective, consider CB Insights' research into the chances that a venture-backed company will flounder: about three of four early-stage companies from 2009 and 2010 had either died or hadn't yet had an "exit," such as an initial public offering, by the end of 2015. The startups that were seeded with venture capital money in 2009-10 had a 1 percent chance of becoming a unicorn, CB Insights noted.
The upshot? Well-heeled venture capitalists are more likely to lose money or fail to get their funds returned within a 5-year window than to receive a lucrative return on their investment.
"The outsize wins and winners get disproportionate attention and often endlessly self-promote, while the losers remain obscure and hidden as they bury their dead quietly," Ballvé said. "After all, nobody wants to talk about batting zero with their startup investments."
On the flip side, the rules change may allow many small businesses raise capital through crowdfunding efforts. Think of it like a super-charged Kickstarter. Instead of asking for contributions in exchange for a copy of a boardgame, companies may now solicit investments in return for stakes in their businesses.
The U.S. Securities and Exchange Commission's new rules allow a company to raise $1 million per year through so-called crowdfunding, while investors with income of less than $100,000 annually can invest either $2,000 per year or up to 5 percent of their income, whichever is greater. Investors who make more than $100,000 a year can invest up to 10 percent of their annual income or net worth.
It's likely that the new crowdfunding rules will attract smaller companies. That's because Silicon Valley startups are more likely to pursue a well-known venture firm such as Andreessen Horowitz, since scoring a top VC fund can provide status as well as millions in capital.
StartEngine, a funding portal, told the Los Angeles Times that it expected as many as seven companies to start raising money from small investors this week. One of its initial startups is Bloomery Plantation Holdings, which makes what it describes as moonshine-based craft liquors. The ask? $300 per share to buy into the distillery.
That may sound intoxicating to investors eager to try a taste of venture capitalism, but like anything involving investing -- or crowdfunding -- it involves risk. Still, the new rules may just help small businesses across the U.S. find the seed capital they need to grow into something bigger.