The risks of equity crowdfunding
Tuesday, August 15, 2017/
For company owners looking to raise funds, crowd-sourced equity funding (aka equity crowdfunding) can sound attractive.
At first glance, it might even seem pleasingly familiar – a simple extension of the widely understood crowdfunding model to offer equity to potential investors. Crowdfunding provides a cheap, easy and fun way to encourage your extended network to give money for a pet project… so equity crowdfunding will be much the same, right?
Wrong. Equity crowdfunding is not regular crowdfunding’s grown-up alternative. While it shares some characteristics with general crowdfunding (such as using an online platform where investors can browse for opportunities and being a mechanism for appealing to investors outside your network), in reality, it’s a very different beast.
Before embarking on an equity crowdfunding campaign – or any capital-raising campaign for that matter – company owners should go back to the basics. What do you need the money for? How will you spend it? How long will it take to generate a return on that investment? And crucially – what’s in it for your investors?
Those fundamental questions don’t change because you’re considering equity crowdfunding. And they can help you pinpoint exactly what sort of investor you’re after. You should consider the other alternatives open to you – private investment, angel investment, venture capital and so on – to work out which best suits you.
One important consideration for equity crowdfunding is that in Australia, only public unlisted companies can engage in it. This may mean you have to change your corporate structure, including appointing at least three directors. It may also mean that your compliance costs increase.
None of these are open to all comers, in the way that regular crowdfunding platforms are. Each have vetting processes to ensure that your company is ready to raise capital and will appeal to their pool of investors. Each will have fees to consider and compare, and you’ll have consider if the amount you’re asking for makes equity crowdfunding cost effective.
Another factor is the type of investor you’re attracting. Like any capital raising option, you’re increasing the number of shareholders in your business. Are you ready to cede a certain amount of control over your business to others? Are you ready to answer to the crowd?
In the case of equity crowdfunding, your new investors will be of a certain type; the platforms are not open for anyone to dabble in – only to wholesale and sophisticated investors as defined by ASIC. So it’s not necessarily a place where you can get friends and family to kick in.
And unlike other forms of investment, you won’t have ongoing contact with your investors. While this may sound appealing to some, think of the business advice and guidance a private or angel investor might offer, which you won’t get through equity crowdfunding.
You also need to plan your campaign carefully. How many investors do you need and how much are you asking them to put in? Is this an attractive offer? How fierce is the competition? How much time and energy are you going to have to devote to selling your offer?
It will also be wise to have a plan B. What if you can’t meet your campaign’s target? What happens then? Where will you get the rest of the money to fulfil your plans?
All in all, it’s not as simple as it may first appear. This is no reason not to investigate equity crowdfunding; it’s a novel and interesting addition to the capital raising landscape. But like any business activity it pays to do your homework, consider your options carefully, take advice and consider what your long-term goals are.
Written by David Sharpe, Director Advisory & Consulting at Generate.