The SEC’s adoption of new crowdfunding rules could be a game changer for growth-focused businesses and investors. On October 30, 2015, it approved final rules allowing companies to offer and sell securities through crowdfunding. The new rules provide another capital raising option for growth-oriented companies and offer additional options for investors who want to get in on the ground floor of what could be a very successful business.
Benefits to Companies and Investors
Crowdfunding permits companies to raise capital from the general public through the Internet. Benefits of crowdfunding include:
Early stage and growth companies that may be unable or unwilling to raise capital from institutional or private investors have access to another source of capital
By offering and selling equity in their company through the Internet, companies gain a wider and more efficient distribution of the offering to a larger audience compared to traditional sources
Using the Internet to offer and sell securities should decrease the cost of capital
Non-accredited individual investors, previously excluded from equity crowdfunding investments, are now invited to become investors with certain limitations
Investors have a level of protection since companies raising capital through crowdfunding will be required to utilize funding portals or registered broker dealers and will have certain disclosure requirements to investors. Additionally, funding portals that wish to participate in the crowdfunding process as an intermediary will be required to register with the SEC and become a member of FINRA
Launching a Crowdfunding Campaign
A successful crowdfunding effort will require expert marketing surrounding your efforts to raise funds. You and the members of your management team will assume the responsibility of formulating a marketing campaign to create interest in your offering. You will need a good story to tell investors complete with business plans, financial statements, and projections.
“Transparency is the key if you want to keep your investors informed and hungry to make additional investments in the future.”
In the crowd, you’ll be competing for investment dollars with other companies so you need to engage in strategies to elevate your offering over all others. Earning the trust and confidence of investors can lead to a successful offering. Consider activities that could strengthen your relationships with clients, customers, and even vendors. These relationships may help to support a successful crowdfunding campaign and could represent your future investors.
To launch your crowdfunding campaign, you will be using the services of an SEC registered broker/dealer or SEC registered crowdfunding platform or funding portal. Each will probably offer different services and fee structures. Once your customers, clients, and vendors have invested in your business, you may want to reach out to a broader base of potential investors. Getting your offer in front of the right investors will be critical to achieving your capital raising goals.
Communicating to Investors
As a private company, you may not be accustomed to sharing operational and financial information publically. A successful crowdfunding campaign may require additional transparency if you are to build trust and confidence with prospective investors. If you are not comfortable sharing company information with the world, you may want to explore a more proprietary method of raising capital.
Once you have executed a successful crowdfunding campaign, you will need to have a plan as to how you will continue to communicate to your new investors. How much information are you willing to share? Which rights to information will investors have? Consider creating an investor-only section on your company’s website where you can post periodic information about your company’s progress, financial results, and more. Transparency is the key if you want to keep your investors informed and hungry to make additional investments in the future.
As a firm, CohnReznick fully supports capital formation whether it comes through the public markets, through private equity or venture capital, or from individual investors. We do believe, however, that a solid balance must be maintained between fueling the needs of growth-oriented businesses and providing oversight to protect investors eager to support the next generation of innovation.
As with any form of capital, we recommend that issuers consider the opportunities, challenges, and risks associated with offering and selling securities through crowdfunding. We also advise investors to perform an appropriate level of diligence before making any investment decision.
Critics were concerned about the risk to investors in these smaller offerings. However, given the rules established by the SEC, we don’t believe that the risks with a crowdfunded investment are any greater or worse than with a non-crowdfunded investment. Investors should be reminded that many growth companies using crowdfunding as a method to raise capital may expose them to certain inherent risks. We therefore encourage investors to perform the appropriate amount of diligence necessary before committing funds.