March 21, 2016
Imagine that you keep $1000 to $5000 aside every year so that you can invest in stock markets directly or through other instruments to pick a small stake in a listed company. On the other hand you have been recently tracking these 5 startups and couple of teams impressed you a lot (happens a lot these days right? you can perhaps, thank LTP). Now, you think that 2 of these 5 startups have great potential as you understand the space. If there is an option for you to invest $100 to $1000 in these startups would you do that? if they are on one of the Equity Crowdfunding platforms mentioned in our article below which makes the whole process super easy? Many VPs and Presidents at large to mid-size companies are already doing this.
Let’s start with the basics and then review the market, regulations and major players in the equity crowdfunding market
1. Definition of Equity Crowdfunding
"Equity crowdfunding is a form of investing that involves many individuals investing online in a business in return for share capital, whether through a dedicated equity crowdfunding platform or independently organized by the company itself - according to the research done by Nesta along with some universities.
For the sake of completeness, let me also say that its roots are in Crowdfunding. Crowdfunding is a way for businesses or other organizations to raise money in the form of either donations or investments from multiple individuals, e.g., Kickstarter. This new form of capital formation emerged in the wake of the 2008 financial crisis.
2. Global Equity Crowdfunding Market
According to SeedInvest– an investing equity crowdfunding platform – the global equity crowdfunding market has grown from $400 million in 2013, to $1.1 billion in 2014, to $2.6 billion in 2015 (approx.).
I must say that not only equity crowdfunding but in general crowdfunding has seen tremendous growth for the last couple of years and reached the $34.4-billion mark in 2015.The global crowdfunding market was up by 112.3% from 16.2 USD billion to 34.4 USD billion in 2015
3. Equity Crowdfunding Market in the U.S. and Europe
In the past four years, more than 2,000 companies have raised about 175 million with zero cases of fraud in the U.K.
In the last few years numerous equity crowdfunding platforms have come up in US such as Seedrs, CircleUp, Crowdfunder, and Fundable.
4. Regulations in the U.S. and Europe for Equity Crowdfunding
The U.S.: The new rules and proposed amendments according to US Jobs Acts are designed to assist smaller companies with capital formation and provide investors with additional protections. Regulation crowdfunding permits individuals to invest in securities-based crowdfunding transactions subject to certain investment limits. The regulation allows a company to raise a maximum aggregate amount of $1 million through crowdfunding offerings in a period of 12 months.
The regulation in the U.S. enables individual investors, over a 12-month period, to invest in the following aggregate across all crowdfunding offerings:If either their annual income or net worth is less than $100,000, than the greater of:
- If either their annual income or net worth is less than $100,000, than the greater of:
- If both the annual income and the net worth are equal to or more than $100,000, 10 percent of the lesser of the annual income or net worth;
Crowdfunding in the European Union (EU) is regulated by the same sets of laws that govern financial institutions, notably lenders (e.g., banks) and investment entities (e.g., venture capital firms, and angel investors). The Prospectus European Directive specifies the information that has to be transmitted to investors for funding targets over €5 million. Funding targets of less than €100,000 are exempted throughout the EU while national authorities are allowed to specify rules governing amounts between €100,000 and €5 million. Investment Services Directive (ISD) enables crowdfunding platforms to operate across all European countries using the so-called passport that enables any investment services firm regulated in one country to serve investors and issuers from other European countries.
"The UK has much more advanced regulations when it comes to Equity Crowdfunding" - Jeff Lynn, CEO at Seedrs
5. Technology trends driving Equity Crowdfunding
- Digital equity crowdfunding: Combining blockchain technology and equity crowdfunding, decentralized exchanges are being used to create digital stock offerings. Equity crowdfunding itself is an emerging market with several early leaders like Seedrs and Crowdcube. The appeal of digital-based equity crowdfunding is that it is easier to create an aftermarket once a sale takes place as well as marketing the offering around the globe. Among firms to watch are Swarm, which uses the Counterparty protocol as its underlying blockchain technology, as well as Ethereum, which is trying to make everything that can be made digital.
- Smartphones will take crowdfunding mainstream: With 24/7 mobile access, investors are constantly exposed to new fundraising initiatives – from a political campaign, to a new tech gadget, or even a cross-border investment in a promising new start-up.
- InvestTech clubs will move online: Investment clubs and angel groups will move their operations online and social investing will take a giant leap forward. Investors will leverage personal connections to create online syndicates for start-up investments, forming not just social circles but rather new investment circles.
6. Raising Funds through Equity Crowdfunding Platform
- The investor invests directly into the company, which in return issues new shares. The investor holds a direct equity interest in the operating company subject to the rights and risks of any other minority investor.
-Nominee Structure: A nominee company collects the funds and issues shares to the investors; afterwards, that nominee company invests in the company seeking finance, which in turn issues shares to the nominee. Seedrs, which is a European equity crowdfunder, uses a nominee structure. Seedrs, while giving direct beneficial ownership to the individual investor, holds voting and direction power over the group of shares held by all investors as their nominee. The nominee structure allows Seedrs to negotiate certain protections for its investors such as anti-dilution, tag-along, and consent to certain corporate action rights.
7. Risk Management for Investors
Active angel investors should invest not more than between 5% and 15% of their capital in the early stage of their businesses, and the investor should diversify by investing small amounts of funds in multiple businesses. Companies such as Seedrs have led the industry with the development of its FCA-approved questionnaire in order to meet proper investor-sophistication standards, a move that other platforms are now emulating. This questionnaire is like a mini exam that potential investors must pass prior to investing in a company on the site.
8. Some Examples of Major Players from Europe and U.S. in Equity Crowdfunding and Their Performances over the Years.
Successfully funded projects: £145 million
Successfully funded projects: 372
Total registered investors: 263,964
Success rate (2015): 55%
-E-Car Club, the London-based electric vehicle car club, sold a majority stake to Europcar, Europe’s leading car Rental Company, in July 2015. The 63 members that invested in E-Car Club through Crowdcube received a multiple return on their investment. E-Car Club had raised £100,000 in seed funding via Crowdcube in March 2013 and subsequently raised another £700,000 in two rounds from VCs and angel investors.
-Parking app Justpark received funding from Index Ventures and BMW i Ventures and then raised £3.7 million in a record-breaking round via Crowdcube (with existing investors chipping in).
Successfully funded projects: £100 million
Successfully funded projects: 320
Total investors per deal: 180+
Success rate (2015): 35%
- Trillion Funds, a leading environmental and social crowdfunding platform, raised £536,800 through Seedrs in December 2014.
- P2P lending platform for buy-to-let property raised £569,044 across several fundraising rounds through Seedrs in late 2013 and 2014. Also important is that LandBay has since gone on to raise a venture capital round from Omni Partners.
"The idea of facilitating cross-border investment flow across Europe is at the heart of what we do. And we're already doing a lot of it, but quietly. About 20% of our investments are coming from outside of the UK right now. We have a significant number of investors and a rising number of deals coming from all over Europe. That's where we're really leaning in." - Jeff Lynn, CEO at Seedrs
Successfully funded projects: $185 million
Successfully funded projects: 154
Success rate (2015): 35%
-Three Twins Ice Cream, a California-based ice cream maker, raised over $3 million from investors through CircleUp, including the founders behind the popular energy bar PowerBar.
-Rhythm Kale Chips, closed their round (almost $800,000) in two weeks –bringing together strategic investors from across the country
9. Potential of Equity Crowdfunding Market
According to a report by Massolution, equity crowdfunding has the potential of reaching $36 billion by 2020, and it has the capacity to surpass venture capital as the leading source of start-up funding.
Equity Crowdfunding in its full potential allows even retail investors to put money in startups. So you or me might be able to put $500 in a startup or $200 each in 10 startups. As we see these platforms evolve, they might become private company stock exchanges of the future. awesome right?