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Crowdfunding: a roar from a young lion

With help from JJ Richa

Can you imagine having 300 shareholders?  With recent legislation and new portals on the Web, it’s entirely possible, perhaps for the first time for small businesses.

Simply stated crowd funding or crowdfunding is the raising of capital in small amounts, from a broad base of investors. Usually the investors are non-accredited, and only invest a small amount.  It’s similar to microfinance, but for the most part using equity instead of a low-interest loan.  The object behind crowdfunding is to open up more opportunities for capital to flow into businesses to help them grow and create new jobs.  Participants can raise funds without having to do a public offering, which is a costly undertaking.

Crowdfunding is not for everyone.  Entrepreneurs who can raise funds in more traditional ways from knowledgeable investors should still lean toward doing just that.  But there are many businesses that just won’t appeal to professional or knowledgeable investors.  Are you an artist with a new record, a new movie idea, a new small product EA-9817to offer?  Perhaps you can attract a large number of investors who just want to support your idea, or get discounts for your product.  The returns are not as important to them as the joy of participating in your dream.  These are the more likely candidate companies and investors.

[Email readers, continue here…]  In order to participate, certain exemptions and criteria must be met, some of which are:

  • No more than $1 million is raised via crowdfunding in any 12 month period; and
  • No single investor invests more than a specified amount in the offering:
    • The greater of $2,000 or 5% of the annual income or net worth of the investor, as applicable, if the investor has annual income or net worth of less than $100,000; or
    • 10% of the annual income or net worth of the investor, as applicable, if either the annual income or net worth of the investor is equal to more than $100,000, capped at a maximum of $100,000 invested.
    • The offering is conducted through a registered broker or “funding portal”; and
    • The issuer complies with certain other requirements. Some of the important ones are:
      • Public listing of the name, legal status, address, website, directors, officers, 20% stockholders, and more
      • Share price and methodology for determining the price
      • A description of the ownership and capital structure of the issuer and a host of disclosures including a disclosure of various risks to investors
      • Companies looking to raise $100,000 or less via crowdfunding can provide financials that are merely certified as true by the officers of the company. Companies looking to raise between $100,000 and $500,000 must provide “reviewed” financials, which means they have to pay a CPA to check them. Companies looking to raise over $500,000 must provide full-blown audited financial statements, prepared by a CPA. Moreover, every year after a successful crowdfunding offering, issuers must file with the SEC and with investors reports of the results of operations and financial statements of the issuer.
      • The issuer must clearly disclose any compensation it pays to any person promoting its offerings through a broker or funding portal.
      • Issuers are not allowed to advertise the terms of the offering, except for notices to direct investors or through the approved intermediary.  Hence, all general solicitations for crowdfunding must at all times flow through an SEC-registered intermediary.

So, what are the advantages of using crowdfunding as your first effort and then going after professional investors?  It does prove your business model is attractive to at least some segments of the population, a fact which would be attractive to the later investors.  What are the disadvantages?  Either too many crowdfunding investors and / or any non-accredited investors in early rounds will most likely cause professional investors to pass and find companies without the complexities in structure caused by crowdfunding rounds earlier.

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