Who the hell am I
Hello world: First an intro. Hi all, I run a company in HK and Shenzhen (@vbuterin saw you speak a few months back, your Chinese is awesome, good job there!) that would consider raising in this fashion as an alternative to conventional investment. Because I have been approaching this point with my real world company I have been reading up a little bit on Private Equity (PE) deals and happen to have a meeting with one of the worldâs most respected international law firms in the space on Monday in Hong Kong specifically to discuss alternate models of financing, so may be made aware of some other options shortly. I have a history of working in the crypto space ⌠which is why after seeing an HN post on this thread I was therefore motivated to join here and contribute to the discussion - I can potentially provide a serious, real world, high visibility guinea pig deployment of this concept to a legitimate business in 9-12 months if it is adequately developed.
INVESTMENT TRANCHES
Concern: In the conventional finance world I am aware of one clear funding strategy which is used to institute control over companies which is investment tranches. This basically locks partial funds release until some kind of milestone has been achieved, for example an external audit completed or a certain business objective reached. Usually there are multiple tranches, and they are agreed ahead of time. However, there is also scope for discussion and movement. AFAIK you see this kind of approach used in all sorts of investment scenarios, from the mundane (home loan / mortgage scenario where investors manage risk throughout a construction project by requiring certain physical construction goals to be complete before the release of additional funds) to the exotic (large corporate deals). Note that in many cases, it is the nature of a project that certain tranches (large spending requirements) can be known and justified ahead of time, though actual execution tends to track less predictable project advancement rather than nominally agreed upon fixed schedules. The current proposalâs tap (rate-based) rather than event/tranche (chunk-based) design ignores this reality and makes it impossible to acquire a tranch without exotic workarounds (set high tap release rate, reset to low tap release rate).
Counter-proposal: I would therefore propose a revised design which perhaps allows a mix of:
- The current design
- A tranche-style release
- A combination thereof
- Some kind of subsequent ad-hoc tranche-style release to be voted on (fixed amount released)
TWO WAY GUARANTEES
Concern: Note also that in many scenarios the digital contract should be protecting the interests of the recipient, not just the new investors. For example, the recipient may also be invested in the outcome and may also be at great risk. The capacity of the current design to be effectively blocked over time (tranche never appears) is a huge risk for the recipient, who may manage their business under the expectation of timely funds release. Therefore I would suggest that some form of recovery scenario should be possible whereby a third party (eg. a set of three paid dispute arbitrators) can be appointed and gifted with keys to enable partial or complete control of funds in the event that it is required. While this goes against the âfreedom loving crypto paradiseâ meme, it is very much a âreal world businesses would prefer itâ kind of reality.
Counter-proposal: Add a percentage of funds (usually 100%) that can be released or controlled by the agreement of multiple arbitrators (n of m) in the event that their involvement is triggered either by the investors or the recipient. Note that the arbitrators should be actual real world legal arbitrators with reputations to uphold and there should be an enforced arbitration period (eg. 7 days), with non-participating arbitrators increasing the arbitration period by a small factor, and a minimum number of participating arbitrators, so as to avoid âappoint thousands of arbitrators and fail to garner participationâ issues or âkill the arbitrators to affect the outcomeâ type attacks. If arbitrators totally fail to check in (or lose their keys), funds could also be auto-released somewhere (eg. to a charity).
CONVERTIBLE DEBT
Concern: Another major means of structuring investments in order to influence the behavior of recipients is convertible debt. Convertible debt is basically a loan with the regular strings attached (interest payments, compounding, etc.) but also clauses allowing the loan to be converted to equity in the recipientâs organization under certain conditions. For example, this may auto-trigger if payments fail to be made, allowing the investor to obtain a large percentage of the recipient organization at a discount rate. It may also normally be subject to buyback (recipient can purchase away these rights by paying back the loan) or other specific clauses (if company goes public, rights to convert to equity at a preferable rate are guaranteed).
Counter-proposal: None. Unsure whether such a structure could fly in ETH-land.
FIAT BASELINE
Concern: In our real world business case projected expenses need to be denominated in fiat currencies. However, we do not necessarily want to do an uncapped ICO-style raise and take heaps more money than we need for a fixed supply of tokens, rather do a capped raise. The issue with a capped raise is that by the time the expenses roll around (projected tranches) ETHâs value may have moved significantly.
Counter-proposal: Allow the entity raising funds to embed some sort of plan, exchange rate projection, or other information (arbitrary document checksum and magnet URL?) with the raise in order to explain the assumptions around which the project is based. Therefore, if the fiat economy goes off a cliff (ha!) or exchange rates vary tremendously (quite frequent swings of up to 30% even amongst major currencies are the norm) then all parties are clear on how this will be mitigated or otherwise impact execution. Failing this, some set of one or more âfail to arbitrationâ or âfail to re-raise eventâ options could be hardcoded as options with specific terms that investors agree to up front.
PAYING THE ARBITRATORS
Concern: Nobody works for free, and the auditor option (cynically âfetch a grown upâ button), when pressed, needs to grab someone with enough âskin in the gameâ (reputationally and legally) that they are adequately disincentivized from malpractice. This costs money.
Counter-proposal: Tranche release or fund lifetime should have the capacity to include staged arbitration payments. Most lawyers and arbitrators will want to put in work up front (client due dilligence) so will require up-front payment. Ongoing payment (tap-style) would be ideal as a sort of annual drip for them, to keep them breathing. Finally, a per-incident payment (eg. serious arbitration case requiring actual research and time investment, suddenly activated mid-holidays with a 7-day limit) should be reasonably enough compensated as to make it worth their while to do a good job. Larger firms will have people not on holiday, and will cost more. You get what you pay for, to a certain extent.
IDLE FUNDS
Concern: In a traditional investment context, there is a very common configuration in which funds are nominally committed to an investment vehicle however they are not actually transferred until a âcall-downâ is received. This is a notification that the funds are required, and they are contractually obligated to arrive within a certain time. This is apparently the most common Venture Capital fund configuration. The benefit of that configuration is that funds can be earning interest or otherwise managed against risk until required. In the configuration being proposed, funds are locked until released, which is sub-optimal.
Counter-proposal: Consider allowing a call-down. This could be viewed as effectively as a form of reverse-tranching affecting the investor rather than the recipient. Taking that parallel further, the tap concept could also be applied here. Alternatively, acquiring all funds up front then defining a strategy for and allowing funds management (by some entity, automatic or appointed) prior to tranch-based calldown over the course of a fund could be implemented.