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New players in Entrepreneurial Finance: Opportunities and Challenges

New-players-in-Entrepreneurial-Finance-Opportunities-and-Challenges

Source: uk.businessinsider.com – All of the unicorn companies in the world in one image

More abundant entrepreneurial finance sources do not necessarily lead to a higher social welfare. The gain of more entrepreneurs/startups may be offset by the risk associated with them. The unicorns* could also quickly turn into Cheshire cats+ which destabilise the economy.
Entrepreneurship has been long considered as an engine for job creation, consequently lowering the unemployment rate. The European Union has recently shifted focus from the role of welfare programmes and active labour market policies to promote “entrepreneurship” in order to stimulate the labour markets. This correlation between entrepreneurship and employment has also been proved by extensive empirical evidence.

One of the most important determinants for startup companies is the existence of sufficient finance sources. Unlike mature companies with easier access to banks’ loan and credit markets, startup companies are often suffering from credit constraints.

Who are the new players?

Traditionally, startup companies depend crucially and mainly on venture capitalists and angel investors. However, in recent years, the landscape for entrepreneurial finance has changed. Many new players, such as crowdfunding, accelerators, and family offices have entered the arena, and several new entrepreneurial financing instruments, such as corporate venture capitalists and social venture capitalists have appeared.

These new players have not only brought a variety of new investment goals but have also introduced new investment approaches, valuation methods or measures, and business models of entrepreneurial financing (see Table 1). For example, non-financial goals have become more important. Consequently, new valuation methods or measure, such as the social return on investment (SROI) for determining the social impact of new ventures, have been developed when they are selecting investment targets.

 

Table 1: An overview of new players
New player

Investment goal Non-financial support
Accelerators Financial, strategic, political

(depends on type of accelerator)

Management support, training, network access
Crowd Financial, social, product-related

None
Family offices

Financial Little
Corporate venture capital Financial, technological, and

Strategic

Management support, technology support
Social venture capital Financial and social Management support, network access

Source: Block, J. H., Colombo, M. G., Cumming, D. J. and Vismara, S. (2018)

Opportunities

These diversified goals of the new players may potentially increase the supply of startup finance and promote job creation. One may question whether the entry of new players may mainly crowd out the finance from venture capitalists and angel investors instead of increasing the overall supply of funds. This may be partially true. However, since the roles and objectives of the new players are not the same as the ones of the venture capitalist and angel investors, it is reasonable to conjecture that the overall contribution to entrepreneurship from the new players is not negligible.

Challenges

On the other hands, some challenges associated with more abundant funds to startup companies are crucial as well. These new players have changed the whole environment of entrepreneurial finance. Startup companies nowadays have survived longer even though they have substantial losses and significant cash-burn rate. It is actually worrisome that the market capitalisation of startup companies is rising into new historical heights. The increasing amount of unicorns (private companies valued >1bn US $) is evident.

One of the challenges is that these unicorns may be able to defeat the existing competitors in the market since they have abundant financing and do not have to immediately satisfy investors’ needs as others do. This would induce the strategic behaviour of the new financiers since it is clear to them that they would have long term gains once the market is taken over.

Another challenge is related to workers’ welfare. It appears to be common that the companies which generate capital gains without attaining market sustainability appear to be encouraged to adopt strategies that treat labour as a commodity and the cost associated with labour is to be minimised.
In summary, the government policy for relaxing the startup finance could successfully promote entrepreneurship and subsequently lower unemployment. However, complementary polices to guarantee market competition and workers’ wellbeing are needed in this new landscape of entrepreneurial finance.

By Ming-JinJiang

References
Block, J. H., Colombo, M. G., Cumming, D. J. and Vismara, S. (2018). New players in entrepreneurial finance and why they are there. Small Business Economics. Volume 50, Issue 2, pp 239–250
Fonseca, R., Lopez-Garcia, P. and Pissarides, C. A. (2001). Entrepreneurship, start-up costs and employment. European Economic Review. Volume 45, Issues 4–6, Pages 692-70.
Kenney, M. and Zysman, J. (2018). Unicorns, Cheshire cats, and the new dilemmas of entrepreneurial finance. Venture Capital.


* Unicorns are the private companbies which are valued more than 1 billion US dollars
+ Cheshire cat is the fictional cat from Lewis Carroll’s Alice in Wonderland that had a distinctive mischievous grin, but whose greatest distinguishing feature was that its body would disappear and all that would remain was the iconic grin.

New players in Entrepreneurial Finance: Opportunities and Challenges was last modified: January 9th, 2019 by MIUC
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