If you’re like us, you’ve been hearing the term crowdfunding thrown around more and more. So we thought a primer exploring what is it and who could potentially benefit would be helpful. In our research something kind of obvious yet not often made explicit is the fact that there are actually several types of crowdfunding. With donation, reward, and equity-based crowdfunding being the most common.
For this post we’re zoning-in on equity crowdfunding, a financing option that has been getting a lot of press recently due to changes at the SEC. Okay, it’s definition time: what is equity crowdfunding? Equity crowdfunding, essentially allows a crowd (ha, get it) of people to fund a company or idea in return for equity (percentage of ownership). If you’re wondering what that means in practice and how to decide if it’s right for you, then read on.
Looking for a deeper dive? Check out our Equity Crowdfunding Platform Guide.
Equity Crowdfunding Brought to Life
Equity crowdfunding exploded into the scene in 2012 when President Obama passed the Jobs Act. This history lesson is important because prior to this point regular, non-accredited people were closed off from investing in startups. Basically, if you didn’t have a high net worth you weren’t given the opportunity or privilege of investing.
The Jobs Act gave birth to the rise of equity crowdfunding and its evolution in the startup industry. While the sentiment has historically been startups who crowdfund can’t “cut it” in venture capital land, that point of view is quickly changing. Increasingly crowdfinanced companies are going on to raise venture capital or become profitable after raising from the crowd. It feels like this market is just getting started.
Benefits of equity crowdfunding
There are benefits to equity crowdfunding for both investors and founders. For investors, equity crowdfunding can allow access to a diverse range of early-stage deals. While early stage investing is inherently very risky, we have begun to see equity crowdfunding bring significant returns to their investors. Career Gig and Senta are among the most recent exits in 2021.
For founders, raising equity crowdfunding can provide significant benefits. Most importantly, it allows a startup to bring their community and earliest supporters onto their cap table, deepening their relationship with the early community that increasingly defines startup success. Founders also may find that the terms of equity crowdfunding platforms are more favorable than venture capital or angel terms, though founders should always seek experienced legal counsel to assess this.
Things To Consider
Equity crowdfunding is not without its risks. For investors, in addition to the very real risk of losing your entire investment, even investments that are successful can take a decade or more before investors are returned their capital. For companies, many successful crowdfunding campaigns take a substantial amount of time to run, and can take your focus off the underlying business. In addition, there will be time spent managing your relationships with your investors that will likely exceed what a single investor requires. Though founders that set clear expectations from the start can limit this. Lastly, this may be somewhat obvious but you are still diluting your ownership in the company - equity crowdfunding is an investment in your company.
Different Strokes for Different Folks
The amount of money you can raise from crowdfunding largely depends on the regulation you’re filing under. You’ll commonly hear the terms RegCF, RegA, floating around for instance. Under Regulation Crowdfunding (RegCF) you can currently raise up to $1 million via equity crowdfunding. It’s exciting times as this number is expected to increase to $5 million on March 15, 2021! Regulation A can allow investments of up to $50 million but is usually geared toward later stage companies given the regulatory overhead and expense.
Some of the players in the Equity crowdfunding space
Interested in crowdfunding and don’t know where to start? Below is a chart of a few of the emerging players in equity crowdfunding. This is not an exhaustive list, but a good place to get started. To see this list in an interactive format click here.