Registered Investment Advisors: The New Venture Capital
In the world of funding for new and innovative companies, you’re likely to hear venture capital come into the conversation. After all, it is responsible for funding the largest tech companies that many of us use today, including but not limited to Uber, Facebook, Lyft, Snapchat, WeWork, and more.
It isn’t likely that anyone would think venture capital, the standard approach for funding inventive ideas would need a revamp in it of itself, but alas we have reached that point in technology funding.
The newest preference for investors, registered investment advisors (RIA), allows firms more flexibility than ever before for investment, and has seen a great increase in the last few years that leaves companies wondering whether this is the new bank for upcoming technology companies.
Registered investment advisors, much like venture capital firms, are companies that fund investments into startup companies.
Typical venture firms, however, have one small limitation that severely limits their portfolio diversity. That is a 20% cap on investments made towards non-venture structured deals, like buying in the public markets, investing in other funds, issuing debt to fund buyouts and acquiring equity through secondary transactions.
With an RIA firm, these enterprises have the freedom to invest any amount into large high-growth companies, buy shares from founders and early investors and to trade public stocks.
Moreover, registered investment advisors are bound by fiduciary duty, meaning they must put the client’s interests ahead of their own. Compare that with traditional stockbrokers, who simply offer products that are suitable for the customer, and one can see how this funding structure is more beneficial for both sides of the transaction.
What’s Driving the Change
Why now is the venture industry seeing a shift? A large part of it is concerned with the growth of the industry, as well as the emerging assets available to investors.
Andreessen Horowitz, a massive private, formerly VC firm, has become the headlining enterprise behind this change, and they explain that much of their growth wants to be directed at cryptocurrency startups, something previously capped at that 20% ceiling.
The logic behind their approach is that “If the firm wants to put $1 billion into cryptocurrency or tokens or buy unlimited shares in public companies or from other investors, it can. And in doing so, the thinking goes, it’ll again make other firms feel like they have one hand tied behind their back”.
Furthermore, the record-level pace of innovation is driving the growth of these firms to unimaginable levels, inevitable diversifying their asset classes to the point where a 20% becomes severely restrictive in the new economic landscape.
No financial structure can ever be too good to be true, and as the case with RIAs, there are some consequences that still prevent many VC firms from converting.
For one, there is a complete lack of privacy, as RIAs must report their trades and other transactions, especially considering their risk of assets will increase following the conversion. Additionally, there are hefty added expenses for cost structures within the firm.
One estimate suggests that the median annual compliance costs are eight times higher for RIAs than for exempt registered advisors. Not to mention that these firms also run the risk of losing potential limited partners, many of whom are only interested in distinct asset classes.
Once these RIA firms become heavily involved in different investment sectors, it could lose potential money that would otherwise be garnered with a traditional VC structure.
The Bottom Line
It was inevitable that as our society diversified its industries the enterprises that financed them would soon follow.
As more firms grow to their monstrous capacity, however, the entire venture industry will have to restructure its policies if it wishes to retain large funds and remain the Uncle Sam of Silicon Valley