The opportunity and challenge in equity crowdfunding for startups

It wasn’t long ago that investing in startups was limited to Australia’s wealthy.

Private equity deals (those not listed on ASX) typically required a minimum $10,000 or $20,000 investment.

For a small investor, this could mean a significant portion of their portfolio taken up by just one high-risk, high-reward position – a very unattractive proposition that kept many away from the startup scene.

For a startup this meant capital sources were limited to much larger investors, or banks.

But capital-hungry startups may be about to get a break after all.

With the Australian government currently considering loosening the Crowdfunding Bill to open up private equity deals to “the crowd”, startups may be about to benefit from an impending cash inflow from smaller investors.

These investors will be able to contribute smaller sums of money using online crowdfunding platforms, making it easier than ever before for startups to receive the cash they need to grow and flourish.

So will this be all smooth sailing for Australian startups, or will there be some hurdles to overcome?

The challenges

For many startups, this will be their first time raising capital through an equity offering.

Understanding how to manage a startup and how to manage investor expectations can be two very different things.

There will be a steep learning curve for managers as they begin to navigate the world of shareholder returns and earnings reports. Managing expectations will be key in this process, as unexpected roadblocks are commonplace within any high-growth enterprise.

Another factor to consider is the sweat equity a startup will forgo when participating in a crowdfunding launch.

Many startups rely on low-paid but technically skilled employees who receive equity in return for an injection of expertise (or “sweat”).

This is often critical to early growth for many startups. So startups considering the crowdfunding route should very carefully consider whether they will be able to grow without this added expertise.

The opportunities

The obvious opportunity is for startups to generate large sums of capital in a very short amount of time.

By going directly to the crowd, companies can generate thousands of small investments which can outpace the capital raise from just a handful of wealthy investors.

This is because, as we all know, it’s much easier to get $500 from an investor than it is to get $5,000. Selling $500 ten times can sometimes end up being far easier than selling $5,000 just once.

Additionally, debt financing is a notoriously challenging process for many startups seeking capital. It’s often an enormously lengthy and expensive process which often ends in a “no” from the bank.

So why bother going down this nightmarish rabbit hole if your firm has access to a much faster and surer path to capital?

Finally, crowdfunding may provide opportunities to startups that have been turned down by angel investment or venture capital networks. These networks receive so many hundreds of pitches each year, it’s possible that even great ideas can go unfunded if the startup owner struggles to articulate its brilliance.

On top of this, as more firms go live, the competition for capital has become increasingly intense.

So, turned down by an angel network, VC, large investor, or bank? It may be time to consider the crowd for your next capital raise.

Clayton Howes is chief executive of digital consumer finance firm MoneyMe.

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