Trends opening up the possibility of smaller rounds of funding

Currently, convertible notes and other alternative financing structures for startups are available only where the funds required by the entrepreneur are smaller than the typical VC investment. For investments of $2m or more, the VC-Preferred model is still the only significant option available to entrepreneurs[1]. There are some trends that are leading to the reduction in cost of setting up certain types of technology startups and possibility of startup companies being funded solely through Startup Bonds and other structures.

Significantly for many software and media-based startups, the cost of operating and hosting Internet websites has dropped rapidly in recent years. New software development tools automate tasks and enable engineers to achieve more with fewer resources. Combined with interoperability trends, it is quicker and easier to develop new software-based products and technologies. Interoperability essentially involves creating new products from building blocks—components that are available off the shelf instead of building them from scratch. These building blocks are available as the result of new software standards and initiatives such as Microsoft .Net, OASIS, SOAP[4], Open Source[5] movement, Java and Javabeans[6].
Interoperability applies to other technology sectors such as Semiconductors, but the costs involved in designing a new hardware chip is significantly higher than experienced in the software sector.

Outsourcing of development and engineering tasks to countries like India, Vietnam and China can reduce the product development costs. The Internet has brought down the cost of reaching customers resulting in reduced sales and marketing for companies that are able to reach customers in this way.

So, as VC’s raise larger funds and focus on multi-million dollar rounds of funding, there are an increasing number of entrepreneurs that are able to form startups and grow their businesses with smaller financings raised in the form of convertible notes. If properly structured, these entrepreneurs may be able to retain control of their startups and they will not be forced to adopt the VC-Preferred model.

[1] Fenwick & West quarterly review.
[2] The .NET framework created by Microsoft is a software development platform focused on rapid application development, platform independence and network transparency. .NET is Microsoft's strategic initiative for server and desktop development for the next decade. According to Microsoft, .NET includes many technologies that are designed to facilitate rapid development of Internet and intranet applications.
[3] Open Artwork System Interchange Standard (OASIS (TM)) is a specification for hierarchical integrated circuit mask layout data format for interchange between EDA software, IC mask writing tools and mask inspection tools.
[4] Simple Object Access Protocol. SOAP is a lightweight XML based protocol used for invoking web services and exchanging structured data and type information on the Web.
[5] In general, open source refers to any program whose source code is made available for use or modification as users or other developers see fit. (Historically, the makers of proprietary software have generally not made source code available.) Open source software is usually developed as a public collaboration and made freely available.
[6] A reusable component that can be used in any Java application development environment. JavaBeans are dropped into an application container, such as a form, and can perform functions ranging from a simple animation to complex calculations.