News came out his morning that Indonesia’s Creative Economy Agency (Bekraf) is lobbying the country’s Monetary Services Authority (OJK) to deliver a measure that will make it easy for individuals to receive financial capital from banks based simply on an idea or proposal.
The reasoning behind this proposal is so that budding entrepreneurs are not forced to sell equity or asset in order to create their product. Kompas Tekno reported that startup owners and other fledgling creatives will only be required to submit a proposal for a product to be considered for a capital outlay under this plan.
While the objective is to enable more Indonesians to become entrepreneurs and to foster creativity and innovation, it’s a dangerous move to have this proposal approved by the OJK due to the volatility and uncertainty of product creations.
Funding based on just an idea is bad
In the technology startup world, investors have generally moved away from funding individuals who only have an idea due to the simple fact that the last time that happened, the US faced a market meltdown as tech startup valuations, for both private and public companies, soared without any assurances that the startups will deliver. It was all based on potentials and projections with little to no regard towards business fundamentals. When reality kicked in, almost all the startups, especially those that have gone public, imploded, leaving investors badly burned and traumatized by the experience.
MVP and proof of execution is crucial
What startup investors today want is a greater assurance that the budding entrepreneurs will be able to carry out their idea. Startup investors generally don’t invest on the ideas but on the person’s or team’s ability to execute. Numerous startup founders fail their first few ideas but sometimes after a couple of failures, they learn and eventually succeed.
Ideas are easy to generate. They’re cheap, they’re numerous, they’re extremely easy to duplicate. Minimum viable products or prototypes, on the other hand, are not as easy to develop and executing the idea as a business is even harder. It’s not enough to just have an idea, there needs to be a working product and a show of competence in convincing startup investors to part with their money.
Risk of non performing loans
Bank loans are generally provided for businesses with proven models if the candidate convinces the bank that they are fully able to repay the loan within the projected period. While it’s entirely legal in Indonesia for someone to put forward an intellectual property as mortgage against a loan, thanks to the 2014 law on intellectual property, banks are not compelled to accept them just as banks are not compelled to accept any guarantee for a loan application without prior assessment.
If an applicant provides a physical guarantee, the bank can repossess it to later reclaim the unpaid loan. If it’s an intangible intellectual property, it’s questionable whether banks will be able to sell it especially if it’s just an idea on a proposal. Bear in mind that Indonesians in general are widely known to have little regard towards intellectual property due to ignorance of the issue.
Another aspect in this is whether the capital injection that Bekraf is considering is in the form of a loan or investment because banks are keen to avoid non performing loans (NPL). The NPL currently averages at 4.5% between January to June 2015 for micro to medium business category as per Bank Indonesia data. The majority of startups fail and startup founders generally fail the first couple times before becoming successful. Venture capital firms generally indemnify themselves against investment failures by diversifying their funds across different categories.
Another thing is that tech startups generally won’t receive any sort of revenue even after several years of operations because for a lot of founders and investors, the goal tends to be mass adoption before revenue. How long are banks willing to wait for the return? Popularity is a much more acceptable metric for startups since the crux of tech startups is to deliver a solution that positively affects the lives of millions of people, never mind that the company may be hemorrhaging cash in the process.
Failing, that, investors would push for the startup to either pivot to build a different product or change the business model. And failing that, they will push for the company to be acquired. A startup after all, is a company looking for a business model and if they can’t find a working business model after several tries, they have to shut down due to lack of funds. And this can happen multiple times to a single company over a number of years.
Even if a startup manages to secure funding from a bank or other traditional financial institution under this proposed scheme, what are the conditions? How far along the operation will the capital last? Will it allow the startup to operate for at least a full year without needing other sources of capital? Is it a seed level funding that’s generally meant for prototyping or building an MVP or is it for a more advance stage? Will it be an alternative for individuals sourcing very early stage capital from families and friends?
If the idea of this funding proposal is so that entrepreneurs don’t need to sell equity for capital, until what stage are they supposed to avoid giving it up? Is Bekraf aware of all the expenses that a tech startup need to spend on and the scale of it?
What about the hiring practices of VC-funded startups which involve ridiculous amount of money and perks? How will a bank-funded startup compete with companies with millions of US dollars in funding? Venture capital firms and angel investors are willing take big risks in funding entrepreneurs in return for equity, but what about banks?
How big of a risk are Indonesian banks willing to take? Historically, not so much. Indonesian investment banks are also not known to fund startups, unlike Goldman Sachs or J.P. Morgan Chase. Maybe this Business Insider piece is a worthwhile reading.
It’s crucial that Bekraf is fully aware of the needs and situations that tech startups and entrepreneurs in general face in the current industry climate before moving forward with a proposal that on the face of it, seems to be not only out of touch with industry practices but dangerous for all parties concerned.
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Editorial Notes: Guest Post by Aulia Masna, Editor-in-Chief AdDiction. Initially published in his Medium page and republished with his permission.
