Culture 7 min read

High Risk, High Reward: How Tech Cuts out the Middle Man

Ink Drop |

Ink Drop |

Spotify plans to go public this Spring via a DPO rather than a conventional IPO. Meanwhile, two San Francisco startups have teamed up to create an insured, decentralized AirBnB-type platform.

In essence, tech startups are throwing off the shackles of conventional business–but how will it work out?

If you ask investment underwriters, they might tell you that tech startups cut all kinds of corners. Truly, the technologies that these companies are built around defy conventional business practices from the pre-digital age.

Here we’ll discuss a couple of key disruptions to the conventional business system. What’s more, we’ll consider how successful they can be.

#Investment banking revenue from #IPOs has fallen from 25% to 15%Click To Tweet

Creating a business has always required large capital investments in hardware, real estate, and personnel from private and, eventually, public investors. Private investments are huge. The returns, for unicorn startups like Facebook once was and Spotify now is, are usually massive.

For example, Goldman Sachs had invested $450 million USD in Facebook by January 2011. That was before it went public.

When Facebook went public via an initial public offering, or IPO, in May 2012, Goldman Sachs cashed out $1.09 billion USD in Facebook stock. The bank underwriting fee for the IPO was $175 million USD.

IPOs have, up until very recently, been a huge revenue source for investment banks. In fact, where IPO fees used to generate 25% of traditional investment banking revenue, today they only comprise 13-15%. This is mainly due to tech startups remaining privately financed.

But, now, Spotify (who is also partially funded by Goldman Sachs) intends to make an initial public offering that won’t benefit Wall Street underwriters.

In addition to the shake up in IPOs, the financial institution has also missed out on profits happening in the world of cryptocurrencies. Futures exchanges like the CBOE and CME are embracing Bitcoin, but many still see digital currency as a bubble.

Yet, those who believe in the efficacy of blockchain technology continue to expand its practical applications.

Spotify’s Direct Public Offering

Spotify could be setting a precedent for a kind of IPO referred to as a direct public offering. From Observer:

A direct listing allows a company to be listed on a national exchange without conducting an offering, meaning that Spotify will not sell shares at a price set by underwriters, but simply at a market-determined price.

This enables Spotify to dodge about $300 million USD in listing fees. Typically, companies launching IPOs hire an investment bank to create shares, share prices, and then facilitate the selling of the shares.

In this case, however, Spotify will simply have their shares listed at market price and invite investors to begin trading. While this may seem like a reasonable, efficient way of doing things, many investors disagree.

Stanford Graduate School of Business finance professor George G.C. Parker told NPR, “It’s like saying, ‘I got the coolest house on the block. Everyone will want to buy it, so why give a cut to a broker[?]'”

The impression Spotify hopes to make is that public investors will jump at a share price close to their own valuation of the company. Yet, Spotify may be overestimating its inherent value. In fact, as of right now, Spotify is an unprofitable company.

Many investors argue that Spotify is being forced into the DPO by private equity backers looking to cash out. An underwritten public offering might lower the share price, and current investors don’t want to risk it.

Kathleen Smith of Renaissance Capital argues that, even if Spotify was confident in its valuation, investors won’t bite. She also told NPR, “Investors have been more cautious about companies that don’t make money.”

Only time will tell if Spotify’s bold DPO will validate a healthy financial future for the company.

However, the investors they hope to attract might not take interest if their chosen method of public offering stiffs their underwriters.

One thing is for certain: If a unicorn startup as big as Spotify is willing to try a DPO, other startups are going to try as well. Take Uber, for example. If their private investors don’t want to risk their current stake being reduced, they may also try a direct listing.

Bee Token and WeTrust to Decentralize Short-term Home Rentals

San Francisco-based startup Bee Token uses an ERC-20 utility token to enable its Beenest home-sharing platform. Beenest uses Bee Tokens to trade between host and renter, like Airbnb does with the U.S. dollar. The Bee Token itself is based on the Ethereum blockchain.

The difference here is that Beenest does not take a cut of Bee Token transactions, whereas Airbnb does get a cut of the money you spend on its platform.

Late last month, Bee Token announced partnering with WeTrust. WeTrust is a blockchain-based, decentralized credit, funding, and insurance offerer.

The insurance they will offer Beenest users will be built upon crowdsourced security deposits for Bee Token customers. The crowdfunded insurance will enable better risk assessment via integration of user profiles and by including transaction history on the Beenest home-sharing platform.

One of the biggest issues that investors point to in blockchain systems is the anonymity associated with decentralization.

To address this, WeTrust will enable the sharing of user data between Beenest users. Providing this information will cut through total anonymity by giving an indication of a user’s creditworthiness. The hope is that this will reduce the risk associated with damages to host property while using Beenest. The company also hopes it will reduce insurance rates overall.

Beenest gives hosts an opportunity to rent their homes without commission fees. This reflects the goal of blockchain supporters–one that might not seem appealing to a Wall Street investor.

The Beenest decentralized approach completely cuts out the middle man. By decentralizing the home-sharing platform, tokenization allows early adopters and token owners to benefit from Beenest’s growth. Tokens can be used for payment, arbitration, and more.

Beenest hopes that this move will help to “reverse the concentrated distribution of ownership, double-digit transaction fees, and avoid the vulnerabilities to security breaches and data manipulation of the existing short-term housing marketplaces.”

Jonathan Chou, CEO of Bee Token told Globe Newswire: “The sharing economy began as an initiative to facilitate accessible, low-cost accommodations. However, the business model followed by platforms like Airbnb and Uber has resulted in multi-billion dollar valuations for leading brands while consumers pay guest and commission fees between 10 and 22 percent to cover company costs. Bee Token is bringing the community back to the sharing economy with a decentralized solution that benefits both guests and hosts by using the automation made available through Ethereum smart contracts to offer zero commission fees.

On top of all of this, Bee protocols were designed so that existing centralized house-sharing platforms like Airbnb can add on to them. In this way, Airbnb could tokenize their product and meet the demand and interest of those breaking into the use of cryptocurrency.

Underpinning this partnership is a rejection of the status quo. Airbnb also contributed to this idea in their original design–and attracted the attention of the IRS as a result. What’s different here is that Airbnb positioned itself as a middle man. In order to rent or host a house on Airbnb you have to give a cut to the platform itself. With Bee Token and WeTrust, this isn’t the case.

By implementing a crowdfunded, decentralized insurance layer to the Bee Nest platform via WeTrust, insurance companies are also avoided.

In an economy where many entities get a cut of every transaction, these sorts of companies seem too good to be true.

Traditional investment banking will still get its cut from the Spotify public offering. Yet, their direct listing does seem to cut out the middle man somewhat.

On the other hand, blockchain technologies seem to be cutting out the middle man completely. How long is that sustainable?

What do you think? Will tech always be able to cut out the middle man, or will he eventually get his?

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