When homecare network, CareGuide, founder, John Green, sought funding for his venture, he had already lined up 10 investors. He could have continued pounding the pavement, but instead turned to an equity crowdfunding platform, AngelList, where he raised more than USD1.5 million from a group of 50 investors.
For the first time in the US, new rules set out by the Securities and Exchange Commission allow ordinary citizens to take equity positions in companies raising funds on these platforms. The rules took effect on 19 June, replacing prior regulations in which equity crowdfunding was only open to high net worth individuals.
The rule change, a clarification and amendment to the JOBS (Jumpstart Our Business Startups) Act of 2012, could be a game changer that has reverberations around the globe.
Invest for returns
Crowdfunding has been immensely popular since 2009, when Kickstarter first opened its doors. However, the most that supporters can expect from such rewards-based platforms is appreciation, acknowledgement, and perhaps access to an early version of a product. Or a T-shirt.
"The structure of equity crowdfunding platforms is similar to that of their rewards-based counterparts. The difference is they then own a piece of the company, and can share in its success"
The structure of equity crowdfunding platforms is similar to that of their rewards-based counterparts: investors sign up and browse company descriptions, watch videos, learn about the team, then choose which to back. The difference is they then own a piece of the company, and can share in its success.
Companies typically pay either a flat fee or percentage (or both) to the equity crowdfunding platform in exchange for matching them up with investors. Some platforms charge investors as well.
Even though many governments have yet to fully agree rules, equity crowdfunding is gathering steam. Worldwide, between 2013 and 2014, it grew by 182 per cent to USD16.2 billion. The fastest growth has been in Asia, driven mainly by China, where a total of USD70.9 million has been raised, according to iResearch. Meanwhile, Taiwan’s government is planning to launch its own equity crowdfunding platform.
In the UK and countries across Europe, equity crowdfunding has been open to all types of investors for several years. There are now over 35 equity crowdfunding sites in the UK, including CrowdCube, Angels Den, Syndicate Room and Investingzone – and these companies are growing.
For example, since its founding in 2012, Seedrs, the UK’s leading equity crowdfunding platform, has funded over 200 campaigns, and is growing 15 per cent month-on-month.
"In Silicon Valley, crowdfunding has emerged as a viable way to garner seed funding for new and untested products and services"
In Silicon Valley, crowdfunding has emerged as a viable way to garner seed funding for new and untested products and services. Venture capital investors view it as a way to gauge the potential market value of a startup – and Valley startups often include success in crowdfunding as part of their pitch.
Based in San Francisco, AngelList embodies the Silicon Valley ethos by making crowdfunding democratic, and giving it the same cool factor in the startup world as angel investing. In 2013, AngelList introduced a syndicate model that allows smaller, accredited investors to join with leading angels. Under the scheme, all investors receive up to 20 per cent of the investment profits just like venture capital investors, with AngelList taking 5 per cent for itself.
Read the small print
Because equity crowdfunding is so new, it’s difficult to determine how well these platforms will fare in the long term. Experts caution that investing should be viewed as high risk/high return and advise taking multiple small positions to spread investments across a variety of companies.
"Many banks are recognising that crowdfunding is emerging as a viable alternative to more established fundraising methods"
They also point out that inexperienced investors may not understand the finer points of small business funding, particularly dilution. For example, the co-founder of Facebook, Eduardo Saverin, was famously cut out of its success when the company issued new shares.
Many banks are recognising that crowdfunding is emerging as a viable alternative to more established fundraising methods. Partnering with, or backing, such platforms could give them the opportunity to participate in this new type of financing.