7 Questions You Should Ask Before Investing in a Startup Like Uber or FanDuel
Tech stocks are complicated investment decisions under any circumstance. But tech companies in regulated environments are even harder for the average investor to fully understand (heck, it’s hard for most VCs to really understand the regulatory and political complexities facing their portfolio companies).
There’s no one size fits all rule for knowing when a tech stock in a regulated industry is a good or bad investment, but the following may at least help you make wise decisions. A bit of disclosure: Uber, FanDuel, Tesla and Handy are current Tusk clients. As always, check with your financial advisor before making any investment decisions.
Ask yourself the following questions:
- How good or bad is the entrenched interest fighting the tech company?
Uber succeeded, in part, because most traditional taxis are so awful, it was hard for politicians and regulators to get away with doing the taxi industry’s bidding. FanDuel and DraftKings are winning their regulatory battles because, despite lavishing campaign contributions by the casinos, it’s still hard to justify taking away an activity people love that isn’t causing material harm just to placate casino owners.
But Tesla, for example, struggles in its fight to sell directly to consumers because auto dealers are typically fixtures in their local communities, giving them a deep reservoir of political support.
The strength of the opposition will not make or break the company you’re considering investing in, but it’s certainly a relevant factor to keep in mind.
Once you get past the hype, is it clear how the company in question can make a lot of money? There should be clear, tangible answers to this question for any company you’re considering an investment in. So when supporters of the company instead start referencing scalability, millennials, the Chinese market, etc rather than just giving you a straight answer for how this company can succeed, stay away.
Is the product/ service a fad or a real thing?
Sure, recreational drones are hot. But their user base is relatively small and their regulatory hurdles are massive. Hover boards were hot not so long ago too. Look at them now. Just because a company has a high valuation or notable VC backers doesn’t mean much.
If you can’t see how and why real people will use this product or service in large numbers, odds are they won’t.
- Is the company an evolution of an existing activity or does it require people to do something entirely new?
Handy, for example, will likely succeed because people have been hiring someone to clean their homes for centuries and they’re just taking an inefficient market and bringing it out of the grey economy and into the real economy.
That makes sense, but people traditionally have not had someone run errands for them (Hello Alfred) or do their grocery shopping (Instacart), so their willingness to pay for the convenience may wane when the economy stalls. Knowing the difference is critical.
- Why did the company go public?
Is it because they’re now a mature business with a legitimate, formed product or service or because their investors wanted out and they can’t raise any more money from the private market?
You may not be able to get a straight answer just from basic research but you’ll at least be able to tell if there’s something amiss.
- Who regulates them?
While you shouldn’t be expected to know who has jurisdiction over what, if the technology at hand requires an act of Congress or approval from each state in order to move forward, that may be a serious red flag.
For example, the cannabis tech sector has major potential but to fully succeed, it’s going to need to be deemed legal and given the chance to fully operate (banking, transportation, interstate commerce) by both the states and by Congress.
That may take awhile and while the sector may be a smart investment, the companies currently in the mix may be too early.
- Can they survive without government subsidies?
While everyone sees renewable energy as the future, it’s not clear that any of the clean tech consumer companies can make it without being able to offer their customers significant tax breaks. That may work in the short term but ultimately, if a business can’t survive on it’s own, it can’t survive at all.
If this all seems complicated, that’s because it is. Regulations are entwined with politics and knowing how the politics affect any individual company across municipal, state and federal jurisdictions is incredibly difficult. That may mean staying away from some tech stocks entirely.
Or at least, it means doing your homework, recognizing that regulated tech companies are their own breed, and going into the investment with your eyes wide open.
The above appeared on Inc.com on June, 22 2016.