Through a combination of evolving technology and regulations, many believe that the arrival of equity crowdfunding is now poised to disrupt every aspect of startup funding.
That disruption is at the same time exciting and a cause for legitimate concern. On the one hand, the platforms let investors put money into startups they might never have heard of, and give startups a chance at funding from investors that only recently would have been barred from participating in their funding rounds. But on the other hand, more investors may mean more complications and risk, with possibly dire consequences for startups and investors, and that's not even mentioning how unscrupulous people might try to game the new system.
New worlds of investment
As technology to connect investors and startups has blossomed, the platforms they meet on have started to grow rapidly, if with some caution. Up until very recently, the same rules about accredited investors applied to the platforms as much as anywhere else and that meant the platforms had to tread very carefully.
"We've become more and more excited about the possibilities of equity crowdfunding," said Tanya Prive, co-founder of equity crowdfunding platform Onevest. "But it's so important to do it right."
Applicant companies to Onevest get vetted heavily before being allowed to raise money on the website. That might be a stumbling block in convincing some companies to join, but generally speaking the platform has had no problem finding companies that think it's worthwhile.
"Fundraising is incredibly time consuming, and it takes you away from actually building the company" said Danny Boice, a serial entrepreneur in D.C. "The vetting took weeks but the report will actually be useful for later rounds."
Boice is using Onevest to raise $500,000 of a $1.5 million round for his latest company, an on-demand private investigator service called Trustify.
"An angel list can be hard to corral, and to get all those $1,000 checks you need name recognition," Boice said. "You have to be a nerd celebrity or get one to help."
Having a platform like Onevest handle that side of things could really be a draw now that Securities and Exchange Commission changed the rules on equity crowdfunding, making it possible for startups to sell up to $50 million worth of stock online to anyone willing to put up to 10 percent of their net worth into a startup. That's a much larger pool than the previous standard for accredited investors, who needed $200,000 a year in income or to be worth more than $1 million.
Boice's round started before the new rules came into play, but he said he could be convinced to try using the larger pool of investors if the hassle of extra stakeholders was outweighed by the resources they'd bring in.
"Without a doubt, we are experiencing a unique moment in time as now companies can raise different rounds of financing online from anyone in America,” said Onevest co-founder Alejandro Cremades.
Hidden perils of bigger investor pools
The dangers and issues of investing in startups in general don't vanish when it happens on equity crowdfunding platforms. And the larger number of possible investors allowed by the SEC's new rules could magnify those problems, no matter how carefully they are regulated by the agency and the platforms themselves.
"There's a reason we're obsessed with curation and management," said Jon Medved, CEO of equity crowdfunding platform OurCrowd. "It's not just a junior IPO system, we reject 98 percent of the applicants."
Israel-based OurCrowd is one of the largest equity crowdfunding platforms in the world, with about 10,000 investors who have raised almost $140 million for around 70 companies. It speeds up and smooths the process of fundraising, but keeps the threshold for entry mostly the same as traditional funding systems precisely because of what could happen if those entry barriers drop. That's why OurCrowd will not be opening up to the smaller investors the new SEC rules could allow.
"It's quite important to make a foundation of equity crowdfunding working well before opening it to everyone," Medved said. "Our $10,000 minimum means it's not for everyone."
Doing it this way also lessens potential issues with future funding rounds, he added.
"No VC in their right mind would want to deal with 500 disparate shareholders," Medved said.
It's likely that there will always be a mix of equity crowdfunding platforms, some open to small investors, others sticking to the traditional accreditation. The World Bank suggests equity crowdfunding will be worth $93 billion in ten years though, so regardless of the details, startups will be turning to the platforms for fundraising at an escalating pace, and regulators will have to do their best to keep up.
