Your Innovation Newsletter for February 01, 2021

This is your crowdfunding newsletter [The Innovative Works]( [img]( [The innovativeworks]( Sponsored Content � � � [What Is Equity Crowdfunding?]( Credit: forbes.com For companies that need to raise capital, there are a lot of options they can choose from, but there is no question that raising money is hard. It doesn’t happen with the snap of a finger. Pitching to friends and family, selling a product before it exists, figuring out which of your friends or LinkedIn connections knows a VC, then eventually pitching to that VC if you can even get the meeting, determining which bank gives fair-termed loans and even what terms are fair. None of these options are easy. How many credit cards can a founder open before overextending their ability to pay on time? Eventually, entrepreneurs must turn to outside sources of capital to give themselves enough runway to create a profitable business, and where that capital comes from and on what terms are questions that must be carefully weighed before a decision is made. Lucky for entrepreneurs, there is now another door that entrepreneurs can open to access capital: equity crowdfunding. In essence, equity crowdfunding is raising capital from the crowd through the sale of securities (shares, convertible note, debt, revenue share, and more) in a private company (that is not listed on stock exchanges). Let’s unpack that idea. 1.Equity Crowdfunding Is Raising Capital From The Crowd Online. Anyone can invest in your offering under equity crowdfunding. You can think of it as similar in function to a Kickstarter or Indiegogo campaign, in which potential investors visit a funding portal website and can explore different equity crowdfunding investment opportunities. There are certain restrictions, in that you have to be over 18 and there are limits on how much capital an individual can invest based on their income and net worth. 2.Equity Crowdfunding Is The Sale Of Securities. The key difference between a crowdfunding site like Kickstarter and equity crowdfunding is what is being sold. With Kickstarter campaigns, entrepreneurs raise capital through the presale of their product, often at a discount, or through tiers of various perks to attract their fans and potential customers. Once the “investor” of a Kickstarter campaign receives their product or perk, the contract between the company and investor is over. [Equity Crowdfunding] With equity crowdfunding, companies sell securities, whether in the form of equity in the company, debt, revenue share, convertible note, and more. Equity crowdfunding gives investors skin in the game. Investors in equity crowdfunding don’t participate just to buy a product at a discount a year before its release; they stand to make a profit if they make a good investment and the company they invested in grows. This has benefits for the company as it can create hundreds of brand ambassadors who want to see you succeed, and that is an audience the company can depend on to spread the word about their business and share the product with their own networks. 3.The Entrepreneur Raising Capital Dictates The Terms. What makes this more appealing is that the entrepreneur raising capital has total control of the offering: what to sell, how much, and at what price are entirely up to the company raising capital. They set the terms, including their valuation and how much capital they hope to raise. Even better, companies can set a minimum funding goal alongside their desired maximum, so if they don’t reach their funding goal in total, the entrepreneur can still successfully raise capital, and those who want to invest can do so even if the market interest isn’t enough to reach $1.07M, for example, which is the limit of Regulation Crowdfunding (more on that below). Of course, the more reasonable the valuation and terms, the more likely an equity crowdfunding offering is to succeed and raise capital, but there is no VC or powers that be demanding certain terms. 4.The Companies Raising Capital Are Private Companies. Historically, the general public could only buy shares in public companies: those that had done an IPO and whose stocks traded on national exchanges, and those opportunities are growing fewer by the year. The Number of Public Companies in the US The unfortunate truth today is that IPOs are declining. Today, there are less than 4,000 publicly traded companies, less than half the number of public companies in the 90s. The reason for the decline is that becoming a fully reporting public company is a large financial burden that only very large companies can handle. IPOs are not viable for startups or even medium-sized businesses. This means two things: - it is hard for smaller companies to create liquidity for their shareholders - investors’ options to invest their savings in stock are shrinking every year However, the companies raising capital through equity crowdfunding are private and yet raising capital from the public. Traditionally, buying equity in a startup was reserved to accredited investors (those who have a net worth of more than $1M, excluding their home, or those who make over $200K annually over the past two years). In other words, only the wealthy could invest in these opportunities, the VCs, the angel investors. Through equity crowdfunding, everyone has access to these opportunities. Investing in private companies has been democratized. This solves b), but what about liquidity? Creating Liquidity The ability to invest in private companies used to carry a caveat: investors could see large returns (emphasis on the could as most startups fail), but in order to see those returns, the investors’ capital would be locked up in that startup for 5-10 years. There was little to no liquidity in the investment. Investors had to wait it out and hope the company went public via an IPO or was involved in a merger or acquisition. For wealthy investors, the lock-up is manageable as they have other liquid capital to support themselves in the meantime. However, this lockup isn’t so manageable for less wealthy individuals. The lock-up period also had another negative consequence for the entrepreneur: in order to get investors to bite, the terms are heavily discounted to account for the risks that come with the longer time frame. With equity crowdfunding, these shares can be traded on public markets. If, after a year, an investor no longer wanted to own shares in a company, they could sell them on an ATS to an interested buyer. This liquidity is possible in a way that it wasn’t before because the rules of equity crowdfunding allow companies to have more shareholders before it is required to become a publicly reporting entity. With more shareholders, there is a larger market. With a larger market, there is liquidity. The alternative structure of dozens or even hundreds of accredited investors putting in larger amounts of capital into a private business doesn’t create a large enough market to offer liquidity in the way that having thousands, or even tens of thousands, of investors does. What’s The Catch? If equity crowdfunding is so great, then why haven’t more people heard of it? Of the 6 million businesses in the US, only ~1,400 entrepreneurs have tried it. Possibly because it’s still relatively new. President Obama signed the JOBS Act, which enabled equity crowdfunding, in 2011. However, the two regulations of equity crowdfunding weren’t implemented until June 2015 and May 2016. For investors, the process of investing in equity crowdfunding is straightforward, but on the other end there are certain regulatory requirements entrepreneurs have to follow. There are two routes entrepreneurs can take: Regulation Crowdfunding – through which companies can raise up to $1.07M annually. Companies can start raising capital for free after filing a Form C with the SEC, but to raise more than $107,000, an independent CPA must review the company’s financials for the past two fiscal years, or since incorporation. Regulation A+ – the mini IPO, through which companies can raise up to $50M annually. However, before a company can start raising capital under Regulation A, the company must hire a securities attorney in order to create a Form 1-A that is then submitted to the SEC for qualification (qualification takes 3-5 months at minimum). Companies also have to conduct a financial audit for the past two fiscal years. Companies are able to “test the waters” and publicly collect investor information for the moment when their offering is qualified by the SEC, but they cannot raise capital until then. With these regulations in mind, it’s clear that equity crowdfunding is not so simple as just posting an offering and raising capital on a website. Certain disclosures must be made, certain rules followed. Equity crowdfunding is another fundraising option for entrepreneurs, but every method poses its own challenges. No one ever said it would be easy. [Credit: forbes.com]( The post [What Is Equity Crowdfunding?]( first appeared on [theinnovativeworks.com](. [Read Full Story]( ------------------  ------------------ [Venture Capital vs. Equity Crowdfunding: Which Is Better for Your Business?]( Credit: builtin.com If you want to maintain control of your company — and have more equitable access to capital — crowdfunding might be for you. Many startups have been conditioned to think venture capital is the best source of funding. While venture capital has its benefits, it may not be the right method of fundraising for your business. In a recent webinar, Josh Amster, StartEngine’s VP of sales, dove into the differences between venture capital and equity crowdfunding (ECF), comparing each method’s strengths and weaknesses to help clarify which funding pathway is right for you. [Equity Crowdfunding] Investment Activity Today To start, it’s important for entrepreneurs to understand how investors have reacted to the COVID-19 pandemic. In the VC space, we’ve seen a considerable drop in startup valuations. VCs are also taking fewer meetings and investing in fewer deals. Some VCs are even ceasing all new investment, choosing instead to distribute capital across their existing portfolios to keep those businesses alive. This dual decrease in the total amount invested and volume of deals made has also occurred in the past two economic recessions (the dot-com crash of 2001 and the housing crisis of 2008). Equity crowdfunding activity tells a very different story. Using our own data, the average daily amount raised on StartEngine has steadily increased more than 4x since the pandemic began, and we believe is showing no signs of slowing down. Deal Flow Another key area to compare venture capital and equity crowdfunding is deal flow. The roughly 1,000 VC firms in the United States made 11,000 investments in 2019 (2,500 of which were late-stage deals). Considering there are five million small businesses in the U.S., that means only a small fraction of business secure VC funding. On the other hand, the 54 equity crowdfunding portals in the U.S. hosted 735 Reg CF offerings in 2019, of which 143 were StartEngine campaigns. While the total number of crowdfunding campaigns is still far lower than the number of VC investments, the annual number of deals per platform exceeds the number of VC investments per firm (13.6 vs. 11) — meaning StartEngine’s 143 campaign count is more than 10x the average annual number of campaigns per platform. When also considering that equity crowdfunding hasn’t existed as a fundraising option for nearly as long as venture capital, we expect to see this gap widen as more platforms crop up and expand their capacity. From a geographical perspective, 80 percent of VC money goes to companies in the five largest metro areas, compared to only 42 percent of equity crowdfunding capital, indicating that equity crowdfunding creates more equitable access to capital for companies in all areas of the country. When it comes to the gender gap, only 11.5 percent of VC money went to companies with a female co-founder, while 27.9 percent of crowdfunding capital went to companies with a female co-founder. While we’re proud to be contributing to this positive change, we know it’s still not where it needs to be. Deal Size Entrepreneurs and founders have been trained to believe they should follow a certain fundraising progression. While we believe startups should “Always Be Raising,” they can still follow something similar to the “traditional” process with equity crowdfunding, as deal sizes tend to be comparable. The average VC seed round weighs in at about $1.7 million, while the average VC Series A is $15.6 million. This can easily be replicated with equity crowdfunding, where companies raise an alternative to pre-seed and/or seed rounds under Reg CF for up to $5 million (once the maximum is raised from the current cap of $1.07 million), followed by an alternative Series A via Reg A+ for $10-15 million (out of a possible $50 million, which should increase to $75 million in the near future). Strengths and Weaknesses Of course, venture capital and equity crowdfunding each have positives and drawbacks. Let’s explore them. Venture Capital Pros - Deep Pockets: With hundreds of millions (if not billions) of dollars to deploy, VCs offer startups a large amount of capital very quickly. - Experience: As a more established form of capital investment, VCs have years of experience guiding high-growth companies. - Network: VCs have access to strategic connections and valuable resources. - Validation: Companies that secure capital from a reputable firm gain immediate credibility and prestige. Venture Capital Cons Exclusivity: Less than 1 percent of companies get VC funding. - Exclusivity: Less than 1 percent of companies get VC funding. - Valuation: VCs put significant downward pressure on startup valuations to increase their upside. - Control: VCs seek advantageous terms (like board seats, preferred shares and anti-dilution protections, among others) to gain control at the expense of founders, which can lead to scenarios where the founders are forced out against their will. - Pressure: In order to generate a quick exit scenario that will bring returns to their portfolio, VCs push startups to grow at unsustainable and unhealthy levels. Equity Crowdfunding Pros - Control: Companies usually offer non-voting, common shares via equity crowdfunding, allowing founders to maintain control of the company. - Brand Ambassadors: Equity crowdfunding allows startups to build armies of hundreds (if not thousands) of investors, who then become customers and brand champions. - Exposure: By marketing their equity crowdfunding campaigns, companies reach new audiences. - Sales: Companies can increase sales by offering investment perks like discounts. - Steady Capital: Equity crowdfunding allows companies to always be raising, rather than raising capital in fits and starts. Equity Crowdfunding Cons - No Guarantees: There is no certainty a company will meet its equity crowdfunding goal. - Disclosures: Because equity crowdfunding offerings are open to the public, companies must be transparent with financials and reporting. - Costs: There are legal, accounting, platform and marketing costs associated with equity crowdfunding campaigns. Once they’ve gotten a grasp on the pros and cons of equity crowdfunding, people usually have a few questions. Here are some of the most frequently asked. How Does Funding Raised on StartEngine Break Down by Sector? In the early days, consumer-facing companies had the most success with equity crowdfunding. It’s easy for these companies to go to their existing customer base to become investors. Since then, the industry has matured. Now, we’re seeing companies with compelling missions have success, whether they’re consumer-facing or B2B — as long as a company can show the public why they make a great investment opportunity. When Do StartEngine Investors Have the Opportunity to Sell Their Shares? Reg CF securities are restricted from transfer for 12 months, after which they are freely transferable. Reg A shares are freely transferable immediately after the offering. StartEngine is planning to launch a secondary trading platform that may create liquidity opportunities for investors, as long as the company lists shares on the exchange and the seller is able to find a buyer at their desired selling price. How Does StartEngine Value a Company? While there’s no single best way to set a valuation, the most common methods are revenue multiples, comparative analysis of similar companies in the industry and discounted cash-flow analysis. StartEngine allows companies to set their own valuations (and provides collaborative guidance when necessary), but requires companies to provide a reasonable basis for their valuation. [Credit: builtin.com]( The post [Venture Capital vs. Equity Crowdfunding: Which Is Better for Your Business?]( first appeared on [theinnovativeworks.com](. 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