Guest Post by: Nathan Rose.
With the JOBS Act Title III crowdfunding rules having now been in place for almost 3 years, and equity crowdfunding going from strength to strength elsewhere in the world, now is a good time to take a step back and ask: “why are startups and growing companies embracing equity crowdfunding?”.
In this article, we will look at 6 different ways that startups are using equity crowdfunding, along with the perspectives of several real companies who have already successfully been through it.
1. Growing Their Crowd Through Publicity
One of the main reasons to conduct an equity crowdfunding offer is to build awareness among new customers, commercial partners, and media. Some companies have reported significant increases in revenue due to the exposure gained from bringing on board loyal shareholder advocates, through their offer. Having an equity crowdfunding investor for the long-term is a much deeper sort of connection than having a Kickstarter backer.
Paul White, co-founder of The West Winds Gins explained the benefits (beyond the cash) of raising A$932,000 on Equitise, an Australian equity crowdfunding platform: “We’ve got another 270 brand ambassadors, so we’ve got very close advocates, very loyal to the brand… Things like the launch of our recent plum gin – we released that first to our investors. And the uptake from our investors was great, so we actually sold about 50% of that, to those new investors… And then we had several articles written after we closed that were talking about the campaign.”
2. Better Terms Than They Could Otherwise Get
The equity crowdfunding sites are divided as to whether higher valuations are a feature of equity crowdfunding. But because the equity crowdfunding power dynamic is more-strongly in favor of the entrepreneur, the balance of evidence suggests that higher valuations are indeed being achieved.
One of the most important ways that venture capitalists make money is through the terms they insert into the deal. “The terms from venture capital are always restrictive,” says Laurence Cook of Pavegen, a company that raised £1.9 million through UK platform Crowdcube. “They want board seats, control, liquidation preferences, restrictive terms on the founders – all things which don’t favor the company raising money. Venture capital firms make their money by negotiating hard. That’s their job, and they are very, very good at it. So of course, they are always going to push the valuation down because it gives them more upside. By raising money through the crowd, we were able to raise the money on our own terms.”
3. The Company Couldn’t Get Angel / Venture Capital Money
Some companies come to equity crowdfunding because they are told “no” by everyone else. Gaining access to money from professional investors can be fraught with difficulty. For example, venture capital are very unlikely to invest in “main street” businesses, because they are simply not scalable enough. But just because these are not the sort of companies that might go on to a 20x or 100x exit doesn’t mean that these are bad businesses, or unworthy of being funded.
Venture capital can also be restricted from the types of companies they are “allowed” to invest in, due to their own internal rules. Sandra Rey heads a company called Glowee, which €611,000 on the French equity crowdfunding platform WiSEED. Their attempts to reach out to venture capital were frustrated by the fact that Glowee didn’t seem to fit with anyone they approached. Sandra explains, “We have a very new and disruptive product – Glowee uses biotechnology to generate biological lighting. But when we were going to biotech venture capitalists, we were told that we weren’t purely biotech enough. When we went to clean-tech funds, they said they didn’t help with companies in the biotech space. Glowee just didn’t fit within the parameters they had already decided on.”
Happily, Glowee was eventually able to raise the money they needed through activating their crowd. Even innovative highly-scalable companies can struggle to get funded by angels / venture capital, and equity crowdfunding now offers a serious alternative.
4. Valuation Line In The Sand
One thing that founders often find to be very difficult is justifying a valuation for their shares when they come to raise future funding rounds, or try to negotiate an exit. One universally-accepted way to go about this is to provide information about the business’s valuation during a past fundraising event.
Running an equity crowdfunding campaign provides a publicly-validated equity value, which the founders can then use later. Anyone planning an eventual initial public offering or sale can point to their equity crowdfunding offer as an anchor point of what their new valuation should be. To take a (very) simplified example – if a company’s equity crowdfunding valuation were $10 million, and sales and traction had tripled since then, a valuation around the $30 million mark could become a reasonable starting point to kick off negotiations.
5. Increasing Shareholder Spread Ahead Of Marketplace Listing
One of the requirements of listing on a public stock exchange is often shareholder spread – for instance, the company might need at least 500 different shareholders, as a minimum, before being allowed to list there. Equity crowdfunding is an excellent way to achieve this, very rapidly.
6. Professionalizing Themselves
The process of preparing an equity crowdfunding campaign is highly rigorous. The requirements imposed by the crowdfunding platform should result in tidying up many ‘loose ends’ which are often not priorities amid the chaos of running an early-stage venture. If you use a reputable platform, then you will need to have a robust shareholder agreement, a strong company constitution, and a clean share structure in place. All of this takes work, but it is a highly valuable exercise, especially if you are hoping to be able to sell the company in the future.
—Nathan Rose is the author of Equity Crowdfunding: The Complete Guide For Startups & Growing Companies. He has appeared at crowdfunding events around the globe, and has written for top crowdfunding news sites. Today, he runs the website www.startupfundingsecrets.io, as a way of helping startups from all over the world use equity crowdfunding to gain marketing exposure and raise money at the same time.