On May 16, just a week away, a new type of crowdfunding will be starting for entrepreneurs. In traditional crowdfunding, and individual contributes money to a business in exchange for a gift. Equity crowdfunding is where entrepreneurs sell pieces of their companies. Entrepreneurs have historically only been able to raise money through equity crowdfunding from accredited investors or those with sufficient levels of wealth. Yet one week from today, Title 3 of the Jumpstart Our Business Startups Act signed by Obama back in 2012 means that entrepreneurs can raise money through equity crowdfunding from anybody with the cash, giving them access to a much wider pool of investors. Here are some things you need to know:
The amount you’re allowed to raise is capped: Under the law, the amount you’re allowed to raise is capped at $1 million over 12 months. That might be plenty for some small businesses, but it definitely isn’t enough to be a complete funding round for some entrepreneurs. Startups on average raise around $2 million at a seed stage. The fact that they’ll have a limit of $1 million per year will either force them to be under-capitalized or conduct another type of offering.
Ask the portal what kind of support it offers: There will be a whole lot of equity crowdfunding platforms in the weeks and months after May 16. However, entrepreneurs need to remember not only what the crowdfunding platform will offer during the campaign, but also after the close of the fundraising period. Choosing a platform is a critical component of an equity crowdfunding investor’s journey. Startup companies will need help navigating areas such as business development and raising additional funds.
Don’t take money from too many unprofessional investors: As the law is currently written, a small business with more than 500 unprofessional investors and more than $25 million in assets will be subject to the same regulations as a public company, a potentially serious burden for small-business owners. While Congress is debating on an act to fix this issue, small businesses shouldn’t accept more than 480 shareholders.
Marketing is critical: Launching your campaign is just the first step; startups will need to have a plan to get the word out, the same as with more traditional crowdfunding campaigns.
Be (extra) careful about what you say online: Entrepreneurs are allowed to share the name of the business they’re raising money for, the type of business, its location, contact information, a general description and the platform on which they’re raising funds. Yet they can’t get into a pitch about why investors should invest. Entrepreneurs can’t discuss the specifics of their crowdfunding campaign through social media; they’re specifically forbidden from hyping or promoting any detail of the offering apart from communication to investors.
There’s going to be paperwork: While regulation crowdfunding affords plenty of opportunity, it also comes with responsibility. Specifically, the procedural and substantive requirements need to be followed, or else entrepreneurs will risk a whole array of penalties. This paperwork is meant to protect unwitting investors from making an uninformed risk. The specific financial disclosure paperwork depends on just how much an entrepreneur is raising. All this regulatory paperwork and disclosure documents could become a turnoff for some entrepreneurs.
Stay in touch with your investors: Larger companies have entire investor relations departments, and smaller companies will also need to manage these communications on their own. Post-offering communication will be very important, and probably a challenge, until platforms and the industry have a chance to mature. Startups will need better tools to help manage and communicate with their shareholders, but it’s going to take time to understand just what will be necessary to make sure companies can engage their crowdfunders.
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