A new crop of companies aims to legitimize crowdfunding as a way for tech startups to earn their first round of capital.
Raising capital for startups has always been both tedious and nerve-wracking. After initial investment of their own capital, entrepreneurs may turn to family and friends for further rounds of funding to grow and develop their product or service. Once these are exhausted, venture capital and other traditional sources of capital are typically explored.
In an attempt to make access to capital easier, in 2012 Congress created a law that would allow startups to solicit capital from non-traditional sources. The Jumpstart Our Business Startups or JOBS Act compelled the SEC to create rules for crowdsourcing funding for startups online.
From the JOBS Act: “Cost-effective access to capital for companies of all sizes plays a critical role in our national economy, and companies seeking access to capital should not be hindered by unnecessary or overly burdensome regulations.”
Since implementation of the JOBS Act several crowdsourcing sites have sprung up around the Internet. While well-known sites like Kickstarter allow users to pledge money toward a single project in exchange for “producer” credit or something similar, other sites like RockThePost allow users to take equity in the company as part of their investment. The SEC is currently reviewing this concept and considering creating rules to allow shares to be sold without first being registered with the organization.
The concept and industry of Equity Crowdfunding is currently being established by the SEC, private investors and sites like RockThePost. Currently only “accredited” investors (those with a net-worth greater than $1 million or annual income in excess of $200,000) can currently participate in Equity Crowdfunding. However, most industry experts anticipate relaxation of these restrictions as the law continues to evolve.
Beyond new sources of investment, several secondary benefits of crowdsourcing funding for startups has been presented. For instance, in “The Dynamics of Crowdfunding: An Exploratory Study, Ethan Mollick of the Wharton School finds that crowdfunding endeavors provide valuable information for gauging consumer interest in new products, ideas, and services. Analyzing Kickstarter data, Mollick determined that of approximately 50,000 unique opportunities presented, 48.1% successfully achieved their funding goals. The remaining 51.9% represented a $0 loss to investors because of Kickstarter’s unique business model, which only debits an investor's account if the project’s goal is met.
While still in its infancy, the arena of crowdsourced funding for startup companies is steadily expanding and rapidly evolving. The current spectrum of sites providing avenues for entrepreneurs and investors alike is fairly limited. Sites like Kickstarter only offer token symbols of investment in projects. The projects are presented in a minimalist fashion with little in the way of usable investment-relevant facts about the entrepreneurs or the project. On the other end of the spectrum are equity crowdfunding sites like RockThePost, who offer more comprehensive information in the form of executive summaries and some market data and analysis.
I anticipate continued growth and diversification of the crowdsourced funding sector, and for the gap between sites like Kickstarter and RockThePost to become occupied with new, more highly specialized platforms.
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