- Investment Management
Next generation of process externalization
Alternative platforms will help start-ups grow rapidly and give investors more control, ultimately making the overall ecosystem richer for new entrants and incumbents alike
Digital democratization and growing interest in start-ups have given rise to an array of alternatives to traditional capital raising methods in recent years. While these new funding platforms are unlikely to replace the established ecosystem for raising capital, their continued growth could well change the role of older intermediaries.
Specialized financial institutions with deep expertise used to be required to facilitate capital raising by identifying and supporting investment opportunities.Businesses would depend on their size and history to demonstrate their worth and access to investment in the intermediaries was largely limited to select high net worth and institutional investors. But investments in traditional wealth management products will be partially eroded as customers access investment products better aligned to their interests and/or with higher potential returns.
A new alternative: aggregation, accuracy and access
Crowdfunding allows those with start-up ideas to bypass traditional sources of investment and seek funding from a marketplace boasting large numbers of people who typically make small-scale individual contributions. These alternative platforms enable businesses to interact directly with individual investors, thus widening their options for raising capital. In the fast-moving world of digital start-ups, crowdfunding and angel investors, many more companies and projects find sources of funding without issuing equity or debt through investment banks.
Traditional players will have to compete against distributed platforms that can give investors a more active role, especially if they want to attract angel investors.Alternative platforms don’t seek to provide investment advice or directly market investments in equity or debt capital; they aggregate investment opportunities, provide standardized views of them and facilitate legal structuring of equity or debt issued. They have no need for credit rating agencies, relying rather on the wisdom crowd or on more experienced investors to lead investment activities.
Alternative platforms can offer increased accuracy, access and control:
- accuracy because having more individual investors involved means funds flow to the most promising opportunities
- access because the potential for direct investment by individuals leads to more projects securing funding;
- control because individuals are empowered to make their own investment choices in a transparent fashion.
The universe of processes
The universe of processes that can be moved outside of the financial is growing rapidly, allowing organizations to reach new levels of efficiency and sophistication, while also driving shifts in competitive dynamics and the benefits of scale.
New opportunities and new challenges
New companies will be able to grow at a quicker pace thanks to the greater diversity of funding options available – and capital-raising cycles will reduce. This evolution could mean alternative platforms consolidate their position as a key intermediary for higher risk seed-stage companies, increasing the number of start-ups able to access venture capital.
Traditional intermediaries would then face a challenge to generate exclusivity as their internally-driven sourcing models come under pressure and most investment opportunities are made visible via distributed platforms. An alternative scenario could see new platforms lose popularity among mass investors due to the length of the investment horizon and evolve to focus on investors motivated by social factors rather than purely financial returns. The platforms would funnel capital to low-return projects in fields such as alternative energy or local community development that wouldn’t interest traditional venture capitalists.
A third possibility is that distributed platforms provide a channel for larger companies to raise capital directly from their customer base. This could reduce costs and enhance customer engagement, while also reducing the number of investment targets for traditional intermediaries and delaying IPOs. The ability to identify under-evaluated opportunities and accurately assess their value would then become critical for squeezed traditional players.
A richer ecosystem will outweigh the risks
Investment managers and investment banks face a variety of risks from the growth of capital raising alternatives and it remains to be seen exactly how they will participate in them. However, the opportunities new platforms offer incumbent institutions are likely to outweigh the risks, as they will ensure a highly diversified pipeline of investment opportunities to support a richer innovation ecosystem.
Implications for financial institutions
Less differentiation among intermediaries:
As the ability to fulfill transaction needs of customers become commoditized by market connection platforms, financial intermediaries will be less differentiated in their capabilities in the future.
Redistributed negotiating power:
With both counterparties and their intermediaries gaining improved visibility into the market demand and supply, the negotiation power will be redistributed based on actual demand and supply and prices will be more “just”.
Shift to advisory models:
As the financial intermediaries’ role in counterparty discovery and negotiation diminishes, their ability to build customer relationships based on advices will become more important to their competitiveness.
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