Startup Toolbox

Jay Parkhill April 26th, 2007

Steve Poland is a bright guy with an interesting business idea at webothlike.com. More interesting is that he is blogging the entire startup process and seeking active input from the general community along on the way. I am one of his advisers.

Early in the process Steve was trying to figure out how to get started, and we talked about ways he might be able to bring in some early cash. Almost everyone- Steve, the public and me- agreed that it would be a lot easier to get the $20,000 he needed if he could sell shares to his readers.

Unfortunately, US securities laws were the holdout. They say that anyone who wants to solicit money from the general public needs to do so via the expensive, highly regulated public offering process. Private securities offerings must be just that- private. Publicly offering to sell securities, such as through a blog, automatically strips away the ability to use private offering rules.

i was intrigued, then, when Steve told me about Cambrian House. That company is using the wisdom of crowds to solicit its own set of business ideas. The twist is that for every idea submitted, participants get a “share” of Cambrian House stock. I signed up to test it out and now have a share of stock listed in my account.

Being a securities lawyer, I wondered how the company does this. They recently put up an FAQ that explains in part.

The FAQ says that a separate entity, Cambrian House Coop, has a right to 1% of the Cambrian House equity, revenue and/or dividends (the text is a little unclear). This leads to a couple of thoughts:

First, the economics. 1% of a company is not a whole lot and my share is a tiny fraction of that. If the company becomes worth $100,000,000 the entire program will have a value of $1,000,000, which must then be divided among as many thousands or millions of people as register and earn shares. So this is a neat gimmick but I’m not sure the reward matches the effort. If I kill myself to crank out more ideas than anyone else I may end up making a few tens of thousands of dollars between now and whenever the company is sold. Neat, but I won’t cut back my day job to work at it.

Second, the mechanics. Crowdsourced program participants will not actually own a piece of Cambrian House, but of the Cambrian House Coop. Participants will be entitled to elect the Board of Directors of the Coop, whose role is to determine how shares are distributed. So participants own no part of Cambrian House itself, but of the related entity that exists solely to help distribute 1% of whatever money Cambrian House decides it has made. This seems like an incredible amount of effort to distribute a relatively small amount of money.

This isn’t meant to be a criticism of Cambrian House. They seem to have a lot of faith in the wisdom of crowds and are simply trying to extend the financial reward to the people that make it all possible.

It’s not a critique of securities laws either. Their purpose is to help make sure that investors receive enough information about a business to understand what they are getting into before they sign on.

Unfortunately, these two concepts sail right past one another. Crowdsourcing is based on the idea that aggregating the ideas of communities increases value for everyone in the aggregate. Securities laws worry that any single individual might not have the resources to make a sufficiently educated decision.

It might be fun if Digg-style ratings could be used to help determine a business’s investment worthiness and the public could rely on that. We are definitely not there yet, though and probably never will be, so for Steve, Cambrian House and everyone else there may always be an imbalance between the benefit a company can get from the community and the equity value the company can give back to individuals within that community.

• Financings , Securities , Startups