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Kickstarter is Debt (bolt.io)
254 points by proee on Dec 3, 2015 | hide | past | web | favorite | 58 comments



Just to be clear though debt is actually a preferred type of financing because it is one of the cheapest forms.

A venture investor is expecting a 10x return on their investment. That means they are expected a much greater realized interest rate than debt - money that effective comes out of the pockets of the business owners.

If you can get debt, if is often preferred if you can figure out how to manage the default risk.

You do not give up equity (which could be worth a massive amount), rather you only have to pay back the debt at some future time with some much minor interest.

Also interest is often tax deductable, thus debt has further tax advantages.

One Nobel winning economic theory leads to an optimal capital structure of 100% debt: https://en.wikipedia.org/wiki/Modigliani%E2%80%93Miller_theo...

Example: Apple is buying back shares (the opposite of equity funding), while issuing massive amounts of debt.


Words like "debt" can be tricky to pin down, which is why we have an accounting profession who's job it is to establish a cohesive and consistent language system with specific meanings.

Kickstarter money represents both revenue and a liability for the company that is doing the project. There are many types of liabilities which are not exactly debt in the sense that we think about a bank loan (which is also a liability). The thing that all liabilities have in common is that they represent an obligation of the company which could require them to spend money or other assets to fulfill. This does not mean they have to satisfy the liability, it just means that there is a financial justification for any work they do relating to that.

I am sure the accounting profession is continually being tested with new business models and trying to capture the financial reality for people who are playing very different games in the world of capital.


Right, but MM's "optimal capital structure" isn't taking into account if your company can't raise debt on the public markets while maintaining cash flow.

Debt is essentially selling a put option on your assets, but early stage companies don't have substantial assets. That's why convertible debt exist and why early stage financers demand equity.


i always enjoy the "x is essentially a <somewhat_obscure_financial_instrument>". I feel like it's moderately common in startup thought leader type posts


Stacking those together ("X is essentially an Y, 100K of Y are essentially Z, 100K of Z generally behave like U") is what got us the 2008 financial crisis.


Put and call options are about as basic as it gets in finance.

Though, the more and more I think about the grand-parents comment, the less I understand it:

With debt, you can go into default: so all your assets go to the creditor, instead of you paying. That's like buying a put option, not selling one.


Yeah you're right. It should say something like the payoff of debt owned by the creditor looks like being short a put.


No need to be dismissive - simple financial instruments are only obscure to those who willfully remain ignorant.

Your parent post's statement is a reference one of the basic financial models in asset pricing literature, the "Merton model" (Merton RC. 1974. "On the pricing of corporate debt: the risk structure of interest rates." J. Finance 29:449–70)


> Just to be clear though debt is actually a preferred type of financing because it is one of the cheapest forms.

Honestly? That statement seems a tad simplistic to me. Especially in the context of startups.


The big difference is that startups generally can't get bank loans on the scale they need, because the risk is so high that it's bad for the lender. If I could replace an investor with a 10% staake with a bank that I have to pay back at 8% interest, I'd take it in a heartbeat.


When the company has no liquid asset or property, the bank will use your personal assets (e.g. your house) as a security. These loans has to be continued at the year end or be paid back within a year (over-year loans have different regulations). This is what happened to me. After two years the bank didn't continue the loan because we couldn't show up 10% profit increase or 10 times of the loan in revenue, so I had 8 days to a) pay it back b) find an other bank to finance, but because the loan was in my books, and my personal assets were also the securities, it was very-very difficult to solve this situation.


What makes a start up different than any other business?


From a lenders perspective: Credit worthiness, free cash flow, ability to service loans, lack of collateral.


Investing in getScale is vastly different to investing in IBM.

Lending to getScale is vastly different to lending to IBM.

Therefore the debt/equity argument and balance is vastly difference.


The urge to aggressively, rapidly grow.


This is a distinction without difference. You could've also said, "Startups have fewer employees" for instance.

How does the urge to grow separate a startup from a business in the desire to obtain low cost debt?


[deleted]


No, they have a different risk-reward structure. They finance those firms that probably cannot issue debt. They take equity for their funding. That's what parent is saying. Once you are in the league of issuing debt, you probably want to. Since it suggests that you are deemed to be an adequate counterparty. A small chance of default wreaks havocs on nominal interest rates.


Apple is doing it as regulatory arbitage which is distorting the normal signals.

I'm not saying you are wrong, more its a really bad example.


Apple is only issuing debt because all of its cash is overseas. At this point the interest is cheaper than paying US taxes.


> Just to be clear though debt is actually a preferred type of financing because it is one of the cheapest forms.

That is the central thesis of the linked article as well.


> One Nobel winning economic theory leads to an optimal capital structure of 100% debt

Too bad the theory is complete nonsense.

>> The basic theorem states that under a certain market price process (the classical random walk), in the absence of taxes, bankruptcy costs, agency costs, and asymmetric information, and in an efficient market, the value of a firm is unaffected by how that firm is financed.

In short, the theorem states that in conditions that will never exist in the real world, the value of a firm is unaffected by how it's financed.

>> the value of the company increases in proportion to the amount of debt used

First they say "the value of a firm is unaffected by how it's financed", but then: "the value of the company increases in proportion to the amount of debt used", so if "debt used" counts as "financing" then the theory contradicts itself, at least as described by Wikipedia.

This is where I rambled about some other related stuff, but decided to just leave it out because fuck everything about mainstream economics.


In short, the theorem states that in conditions that will never exist in the real world,...

If only Modigliani and Miller weren't total idiots. Then they might have repeated their calculations with these assumptions relaxed.

First they say "the value of a firm is unaffected by how it's financed", but then: "the value of the company increases in proportion to the amount of debt used", so if "debt used" counts as "financing" then the theory contradicts itself, at least as described by Wikipedia.

If you bothered to read the article, you'd recognize that Modigliani-Miller actually did the exact calculation you previously criticized them for not doing. Similarly, if you read it, you'd recognize that the claims you think are contradictory actually apply to different circumstances (taxes vs no taxes).

What next, medicine is contradictory because "if you don't eat cyanide, you probably won't drop dead, but if you do eat cyanide you will"?


This article, and it seems the whole blog, is an amazing resource for anyone considering a hardware startup. Very clear and very helpful.

The funny thing is that kickstarter's official policy is that they are not a pre-sale platform. But if they were serious about this, they wouldn't let campaigns offer the product being developed as a "reward" in exchange for money. It's like amazon saying that they aren't a book seller, but they will give you a $30 book as a "reward" for donating $30.

I'm not sure if I fully understand the title of this post, though. The author points out that Kickstarter funds are to be used only for production related costs and therefore should be considered debt (they must be repaid, unlike equity). But, in reality I don't think that there are any legal or even ethical stipulations placed on money raised from Kickstarter. The money is being donated, and unlike business debt can be used in whatever manner without having to be repaid. Wasting Kickstarter money may or may not affect someone's reputation for awhile, but it doesn't show up on a credit score.

For this reason, it's always seemed to me that crowdfunding is the best way to raise money for anything. If you can do a crowdfunding campaign, do it. Most certainly for hardware. Then get a line of credit if you can, and raise money from VCs as a last resort [1].

[1] Other than Bolt of course, because their blog is so awesome that I'm thinking about pitching them right now.


Yeah, Kickstarter seems like debt that has no interest, and can be forgiven (in the right circumstances), and it gives you free publicity and a form of market validation. By far the best source of debt I can imagine.


In terms of forgiveness: I think the major sin is not shipping anything at all or perhaps worse, fulfilling some of your orders but not all of them. Even if you mess up the enclosures, perhaps you can ship everyone a prototype circuit board? Because surely, surely something physical arrived on your doorstep if you burned millions of dollars.

The problem is usually about being honest where the money went. Backers are mostly not aware of just how much money it takes to build stuff at scale and when the headline is "Bolt-o-phone goes under, $5M raised, nothing shipped" it's natural to say "so what the hell did you do with my money then?".

That and making wildly optimistic optional extras if the funding gets high enough... keep it simple and it'll ship!


Of course it's the best source of debt for a company because it's completely one-sided. See also: scamming, ponzi schemes and ransomware, all great sources of free money.


Anyone who thinks they can renege on KS commitments needs to take care though. The FTC has pretty clear ideas about people's responsibility to meet their KS commitments.

http://www.npr.org/sections/thetwo-way/2015/06/11/413676042/...


I very much disagree with the idea that you don't have any ethical stipulations if you receive money from a kickstarter campaign.

Although they label things as "donations" and "rewards", it is a de-facto presale platform. If you're going to put a project on there and tell people you'll send them something for giving you money, you're making a promise beyond the words that Kickstarter is using. And while I know that there's a certain amount of risk with any project, you damn sure do have an ethical obligation to do everything in your power to make good on your promise to your early supporters.


Compared to three years ago, there are fewer game Kickstarters that offer physical rewards, and that's a good thing.

A lot of early campaigns wound up with a bunch of orders for physical goods (deluxe editions, t-shirts, figurines) that have a high marginal cost. Later (smarter) campaigns are offering digital art books and soundtracks instead, which have almost no marginal cost.

In short, don't get into the T-shirt / CD business TOO, in addition to your main product, if you can avoid it.


This calls to mind the (ongoing) MST3K Kickstarter, and his explanation of how much of the first couple million is going to fees + fulfillment of awards. At the level I pledged, I would love to dismiss the physical awards and just have the digital movie copies. But I can't.


I've kickstarted a few things, but only with tiny amounts ($24 and $12) and only for things that I couldn't find in the open market. I think Kickstarter has great potential and has brought about numerous things, but just like any tool it's got people who know how to use it and do well, and people who don't and blow their foot off.

This goes both ways: A lot of the large kickstarters that make the news usually have gotten gobs more money than they ever thought possible from way more backers than they thought they would get. Then they're buying offices, cars, some fancy headquarters and all this other bullshit they didn't need.

Were I to do that, not one sodding penny is going anywhere that isn't directly related to getting my backers what they paid for. I get that kickstarter isn't a store (people love to say that) and it's a risk, but just because the risk isn't yours doesn't mean you shouldn't mitigate it. You're spending other people's money for Christ's sake.

By the same token, there were a lot of people who got burned on obviously fake/impossible projects but quite frankly, that falls into the category of stupid tax for me. A fool and his money are soon parted, etc. etc.

I do wish there were more legal routes for burned backers though, in the current system the backers are taking all the risk and if someone's kickstarter goes tits up they just walk away, usually hardly affected (and potentially Internet famous). I understand that's the risk involved, but it effectively puts the people in charge of decisions in charge of managing the risk taken by people they have no legal obligations too, which never goes well. (See the Banking collapse.)


> I think Kickstarter has great potential

I think it had a great potential. But they ruined their brand with allowing basically anything on it. I'd say it's similar to Ebay in a way. Of course it's better for them ($$$)... but the "potential" is not there anymore.


I would disagree, but again this depends greatly on the Kickstarter in question and specifically the leaders of the campaign. I think KS would be wise to implement a little more vetting, and maybe require a prototype or something, but truth be told this is something the KS community also needs to get right. On the campaigns I follow I still notice a large amount of people complaining about the waiting which tells me they fundamentally don't understand how this is different than say, Amazon.


This relates to why Kickstarter campaigns can be very lucrative to run - you raise funds without relinquishing any of your equity, which can later be sold for massive amounts of money (see: Oculus getting sold to Facebook)


Oculus might end up being the most successful product/company to be kickstarted. They probably are the most successful money wise, going from a simple prototype on a forum to being acquired for 2billion cash/stock.

They were clever and sold (reasonably functional) devkits, not final products for their kickstarter.

I won't regard them as fully successful until they release a final product that meets expectations (as in, facebook doesn't write them off as a loss)

Product wise, Pebble is the most successful so far, it was past the prototyping stage before for the first kickstarter (though adding extra features probably set them back) Right now they are up to major version 4 of their product. Long term, I don't think they will be more successful than Oculus.


This should be required reading for anybody doing a hardware startup, not just those using kickstarter.


Agreed. As for required watching, Scott Miller of the Bolt team produced an excellent 18 part YouTube series on Design for Manufacturing https://www.youtube.com/watch?v=84VxN9K_PMM&list=PLNTXUUIxHy...


In summary:

1) Kickstarter is debt financed by consumers directly (B2C) motivated by early access to product.

2) Factory financing is debt financed by production motivated by early fulfillment.

3) Purchase order financing is debt financed by consumers indirectly through retailers (typically) (B2B2C) motivated by early access to consumers.

4) Venture debt is debt financed by investors motivated by continued confidence in company.


So really, any form of financing a company would be considered debt.


No, raising capital will also finance a company and is not debt, you give the people that give you capital a portion of the future revenues and value created in return.


Not quite. Raising capital could just be seen as massing liquid assets so you have the funds to finance your business, which could take the form of debt, equity, or just a plain transfer of assets for nothing.

With equity financing, the company transfers partial ownership of the company in the form of shares so that they can gain the capital. Having shares in a company does not automatically give you future revenues. Unless you cash out your shares in the secondary market (if it's still a private company), you are not going to see those future revenues directly. If there's an exit (IPO/acquisition) or a share buyout, that would be the only other time you would see your shares turn into a liquid asset. The value of your shares will not increase unless those events occur or if the value of the company has objectively increased through a higher valuation which in the private market is through another financing round.


> Unless you cash out your shares in the secondary market (if it's still a private company), you are not going to see those future revenues directly.

Dividends.


Kickstarter is UNSECURED debt. Almost certainly unsecured debt, positioned well below undersecured secured creditors with liens on everything.

Kickstarter is tiny unsecured debt. Debt that is not economically worth any collection effort.

Kickstarter is all about faith and trust. Good luck with that.


Just over a year ago I ran a Kickstarter campaign[1] that raised just over £45k (about $70k). Because I was applying for R&D tax credits, I filed a tax return before I shipped the products. This caused a bit of a puzzle for my accountants. In the end they decided that they'd just not book the Kickstarter money as income at all until I shipped each reward.

It's good that the author mentions factory financing. It's not something I'd thought of before, but it ended up being a crucial part of my project's success. My CM initially gave me the standard 50% upfront/50% ex works. As the time to ship drew closer, it became clear that cashflow would be very tight. Luckily my CM was very flexible, and agreed to extended terms for the final 25%, which gave me time to sell a few more flashes and cover the last payment. Choose your CM wisely! I'm going to be placing an order for a second batch soon and will be angling for better terms still.

[1] https://www.kickstarter.com/projects/vela/vela-one-the-world...


Another possible source of purchase order financing is existing investors. For example, I am a major investor in (and a board observer of) a young startup that is just ramping up production. I've indicated to them that, should the need arise, I would be willing to provide some financing to help bridge a gap in their cash flow. Obviously, I would have to be very careful not to massively concentrate my financial risks (or to throw good money after bad, if a loan is needed because the company is struggling). However, no bank is going to know them as well as I do, and, if it really is just a cash flow issue, then I am highly incentivized help them out. Any interest I would collect on such a loan would pale in comparison to the increase in the valuation of my stake in the company.


Granted, not taking enough risk is probably one of the reasons why I'm not rich. (Another reason is that I haven't had any great ideas). But in my risk-averse world, I have always thought that the idea of taking pre-orders is more to secure customer commitment, rather than to fund production.

I have a hobby business in a niche where I've seen a few small entrepreneurs take pre-orders (often 50% down payments), spend the money, go broke, and face a bunch of angry customers. They can't deliver product, and they can't refund the money. It's possible that those were cases where something like a family emergency pulled them under.

But watching those failures taught me the lesson -- similar to what the OP suggests -- that down payments are a loan from the customer. In my own case, I decided that it was preferable to risk my own money than somebody else's, and I kinda crawled out of the starting gates by doing all of my own production using small runs of parts. Thus my margins were lower, but my risk was commensurately lower too.

As it turns out, my business easily saturated its own world market quickly enough that I still sell a few units a week but am glad that I didn't try to scale up too soon. My only regret is that I have so far missed the chance to learn how to scale up a hardware business.


"I have a hobby business in a niche where I've seen a few small entrepreneurs take pre-orders (often 50% down payments), spend the money, go broke, and face a bunch of angry customers. They can't deliver product, and they can't refund the money."

Yes, and then the Federal Trade Commission dumps on you for violating the 30 Day Rule, which covers refunds and delays.[1]

In the early days of the Internet, many little companies ran into this. They put up a web site and started taking orders on line. But in those days, the online ordering system was usually disconnected from inventory control and fulfillment. A successful product could suddenly generate far more paid orders than the seller could fill. Instead of the seller refunding the money after the 60 day limit like they're supposed to, they held onto it, hoping to catch up later. (After 30 days, you have to notify the customer they can get their money back, and refund them if they ask. After 60 days, you have to refund even if the customer doesn't ask.)

Kickstarter is sort of a gimmick to get around the 30-Day Rule, by explicitly dumping more risk on the buyer. That doesn't always work for the seller.[2]

[1] https://www.ftc.gov/tips-advice/business-center/guidance/bus... [2] http://arstechnica.com/tech-policy/2015/06/feds-take-first-a...


This is pretty much spot on but not necessarily for long. I'm really saddened by how badly kickstarter is being abused. There was a time when they could've put in vetting into the process but it's really late now. I fear people have grown wise to the fact that from their perspective this is essentially a costly way to pre-order in the best case scenario and a costly mistake in the more common case.


Personally I don't bother anymore. If the project that is on kickstarter will succeed, then I'll be able to buy them when they do and not have to wait. If they fail, I wouldn't have gotten anything, and I get to keep my money.


Depends on the project. If you are promised a physical product , then it is a sale :

http://backersmanual.com/2014/03/19/crowdfunding-terminology...

I think that link provide an accurate description of what some transactions on KS are legally.

The problem is that KS TOS are vague on purpose, entertaining the confusion as backers have no legal status (hence the endless debate about what "backing" is), which is illegal in a lot of European countries. One day however even US justice will have to decide what is the legal status of backers once and for all.


It's not debt, there is no interest. It's just a liability. No different to Amazon taking a pre-order on an upcoming book.

Judging how many largish kickstarters end in disaster, I am not surprised the people running them don't use accountants.


The interest rate doesn't determine whether or not something is debt - I have a 0% interest car loan, yet it's still considered debt.

Kickstarter funds are a loan for a finite time that's paid back in product. And if the product costs more to produce than estimated, that cost overrun is the cost of the debt - i.e. interest.


Debt is the state of owing money. This is the definition of debt. Kickstarters do not owe anyone money.


Debt isn't necessarily paid in money, depending on the terms of the contract, debt could be paid in cash, labor, gold, corn, oil, hogs, or pretty much any commodity that can have a value set on it.

In this case, Kickstarter funders expect to be paid in product (or whatever perk was promised to them).


This is plainly wrong. Kickstarter isn't debt, it's sales.

Both are obligations, but that is where the similarities end. Not all obligations are debt, unless you want to back the meaning all the way out such that it's no longer relevant to the kind of debt one would discuss around a business.

Sales and debt serve two different roles within a normal business and come with important, different legal requirements and nuance.

Easy proof: Kickstarter doesn't have the same legal protections that typical debt contracts do, not even remotely close. Kickstarter has legal protections a lot closer to what a sale comes with.


I thought the author might be making a pun with "Kickstarter is dead". It this something native English speakers hear too?


This may not be relevant on a "start ups" site of HN, but some people argue that debt is inevitable to grow any business, which I would argue against.


Debt usually has highest preference during liquidation. I don't see how kickstarter is like debt.




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