We keep pretty close tabs on what’s happening on earth of crowdfunding, and as I read the different articles in major publications or see segments on TV news, I’m amazed at how little understanding there’s about crowdfunding, and the vast differences involving the donation-based crowdfunding that’s existed for several years, and the equity-based crowdfunding that’s on ab muscles near term horizon.
So allow me to take a moment to attempt to explain. Donation-based crowdfunding is pretty simple. People effectively “donate” money to a company or cause with no expectations of ownership. In exchange, they receive some kind of tangible “award” because of their donation and the awards usually can be found in tiers based on what much one donates. A small donation might result within an award of a bumper sticker or t-shirt while a sizable donation might garner a first edition product, an all expenses paid weekend trip, or an invitation to an exclusive celebrity-studded launch party. These donation-based platforms, like Kickstarter and a huge selection of others, take a percentage fees from funds raised – generally 5-10%.
Equity-based crowdfunding, however, is an entirely different animal altogether, and frankly, a lot more exciting. Equity crowdfunding gets the potential to completely turn the planet of finance on its head, by giving everyday investors and small private companies direct access to each other – minus the financial intermediaries, who for many years, have essentially cornered industry on private investments, and have lined their pockets in the process.
The key difference in equity vs. donation crowdfunding is that investors get direct ownership in the organization in trade because of their investments – be it shares of stock in a corporation, or units of ownership within an LLC. So rather than a t-shirt from the following iteration of business giants like Google, LinkedIn, Facebook, or Twitter, investors will get to go along for the ride and share next wave of new business success (and yes, failure).
But additionally, there are some significant caveats to raising capital through equity crowdfunding: most companies will have to create a company plan, a financial model or audited/certified financial statements, a valuation of the equity offering, and several other things before they could list their offering on a SEC-approved website platform. The next wave of new businesses is apt to be dramatically bolstered by this new usage of capital. Instead of a small pool of investors putting capital into new companies, there will soon be billions of people worldwide who is able to fund tomorrow’s startups.
As things stand today, there are already to significant changes to securities laws in the U.S. around equity crowdfunding -first, companies already are permitted to improve capital via equity crowdfunding from accredited investors (people with significant annual salaries or net worth). And, equity crowdfunders can advertise their deals to those accredited investors, a concept called “general solicitation” ;.This hasn’t been allowed because the 1920’s in the U.S.
The third and final piece of the equity crowdfunding puzzle is likely to be when the SEC unveils the guidelines for allowing equity crowdfunding to non-accredited investors. This will probably function as major pivot point where everyone is likely to be permitted to invest in private companies. Providing the guidelines for companies to improve this type of capital aren’t too cumbersome, this is a BIG DEAL. Now what’s much more fascinating is to attempt to predict and understand what could happen once this third and final piece of the equity crowdfunding puzzle is put set up, and by all accounts, this will probably happen some time in the second quarter of 2014.
First, there’s been lots of infrastructure being built behind the scenes to prepare for the events that are now essentially upon us. Institutional investors aren’t dumb – many have already been pouring money into the portals and other businesses that may support equity crowdfunding Wefunder. Others have already been working on creating secondary market for reselling crowdfunding investments which may supply the equity crowdfunding market and investors much-needed liquidity – making those investments much more appealing. And, it’s not just the institutional investors who are making bold moves. Social networking companies, media/publishers, and others have already been jockeying themselves into position as well by either buying equity crowdfunding infrastructure companies or developing capabilities in-house.
Whenever you think back to the rise of the private computer market in the 1980’s and the emergence of the Internet in the mid 1990’s, this sea change in the finance industry gets the potential to be just like, or even more, prolific. The planet forever changed in 1995 when Netscape developed the very first web browser and managed to get freely available. It triggered the amount of web users growing from 16 million at the start of 1996 to 360 million by the finish of 2000. The share prices of the brand new firms that evolved, Yahoo, eBay, Amazon, Priceline, etc., who emerged to service the burgeoning population increased by as much as 100 times between 1996 and 2000. The same probably will happen to companies who’ll service the massive population of equity crowdfunding investors.