Raising Investment Capital
What has been the driving force behind the rise of social media has been the power of the crowd to express satisfaction or dissatisfaction about something by using technology to broadcast messages instantly to anyone willing to listen.
On-line marketplaces such as Kiiji (open market trading), OpenTable (restaurant reservations), Match.com (dating), Ebay and Amazon (products) have eliminated inefficiencies in connecting buyers and sellers by making transactions more accessible through the use of technology.
Not surprising then, the power of the crowd and on-line technology have been the drivers in launching a new way of raising money - Crowdfunding. As defined by Forbes, Crowdfunding is “the practice of funding a project or venture by raising many small amounts of money from a large number of people, typically via the Internet”. And this is the topic of the next series of blog articles that I will write for you.
With Crowdfunding Platforms (CFP) supporting the raise of an estimated $2.78 billion in project funding in 2012 and forecasted to generate $5.18 billion worldwide in 2013, the sector is particularly strong, boasting double or triple digit growth rates.
With such favorable fundamentals, Crowdfunding just shouldn’t be ignored.
For those of you not familiar with this rather unique way of micro-financing; let me start with a quick definition and then describe the types of Crowdfunding models in operation today. There seems to be a lot of confusion about the differences and it’s important to have a good starting point to get at the right facts as a foundation.
Crowdfunding refers to an exchange between a person and/or a company (initiator) that has an idea, project, social/political cause or product prototype and for which they are looking for funding support from third parties (backers/crowd). Crowdfunding is the means by which small contributions are collected from many parties in the crowd so the initiator can reach a specific funding goal. Sometimes the contribution amounts are very small $5 and some can scale to $1000’s of dollars depending on the project.
All parties in this marketplace use on-line Crowdfunding technology platforms to broker these transactions. These platforms have been developed by companies that handle the exchange. Examples are Kickstarter, Indiegogo, RocketHub, CrowdCube, Kiva, FundRazr, CircleUp and hundreds of other sites that have been developed since the Crowdfunding concept got its start in 2005.
Now, here is where the confusion arises with regard to Crowdfunding and its opportunity.
There are essentially four types of Crowdfunding models in the market today. They are very distinct in terms of profiles, risk orientation and regulatory limitations. So if someone talks about Crowdfunding you must seek clarification on what type of model they are referring to because there are important distinctions to consider of each.
Here are the four types.
Donation based Crowdfunding is philanthropic or sponsorship oriented which is very much commonly recognized. If there is a cause, event or charity a donation is provided by a backer and there is no expectation of compensation or financial return other than the satisfaction of contributing. Well, OK, there might be a tax receipt issued and a financial benefit (Smile).
Reward based Crowdfunding involves the exchange of non-monetary rewards such as gift or the opportunity to pre-purchase the initiators product or service. The backer does not expect a financial benefit in return for his or her financial contribution. These backers are fans or evangelists of the initiators project. This type of Crowdfunding has been the most popular and widely used by entrepreneurs from artists, musicians, film producers to designers of products.
Lender based Crowdfunding is based on advancing a loan to an initiator with the expectation that it is paid back in regular installments which include the original principal investment. Examples of some sites are LendingClub.com and Prosper.com. This is the least popular of the models.
All three of the Crowdfunding types mentioned above are legally employed. The following model is not.
Equity based Crowdfunding is the model where funders receive an interest in the company in the form of equity or shares and may also share in revenue or profit-sharing arrangements. This type of Crowdfunding is being touted as a new phenomenon that will put the current traditional equity funding mechanism such as Angel investment on its head. But, the problem right now is that the various Securities Commissions have yet to approve its use and therefore this type of Crowdfunding is illegal in various jurisdictions.
For example, equity-based Crowdfunding is widely legalized in several countries in Europe, as well as Australia, but not yet in Canada. And although the United States, through the Jobs Act, is working toward a legalized standard for equity Crowdfunding the regulators are slow in implementing a functional law and by that I mean rules employed to implement it into law. The SEC, which is already late with its submission, will probably continue to delay for the unforeseen future. Equity Crowdfunding on ice!
You can now appreciate why Crowdfunding is often referred to as the democratization of funding. It allows a greater opportunity for anyone to fund a project and participate in turning dreams into reality.
You now know the different types of Crowdfunding models. Why is this important? Because knowing the varying types will allow you to assess if one of these models is the right fund raising channel for you.
Crowdfunding has several advantages and disadvantages. I’ll cover these in my next post entitled – “Crowdfunding – Is it right for you?”
Over half of all startups are dead in the water within 2 to 5 years. This certainly may help explain the exponentially popular appeal of business incubators and accelerators, which promise to boost the chances of individual startups to raise capital, get to a positive revenue stream and provide community benefits like higher regional employment.
There were about 12 incubators in 1980 and today they number in the thousands in the USA alone. Some of the most famous ones are Y Combinator or TechStars. Even governments are getting into the act: the Obama administration in White House has launched Startup America to facilitate public and private partners investing in American entrepreneurs.
In different ways, incubators and accelerators aim to leverage high-quality mentorship and access to funders to produce dramatically different results; but do these methods actually work? Read more
A self-publisher of a web-comic asked for $57,000 on Kickstarter to reprint a series of comic strips and raised ten times as much from more than 7,000 backers – with two weeks to go before the funding drive ended. Meanwhile, a new fashion company took in over $64,000 from nearly 800 funders to launch their new line of multi-functional fabrics – tripling the amount they initially asked for. Clearly, the age of crowdsourced funding has arrived; it’s time Canadian entrepreneurs started examining the possibilities. Actually, they are.
Crowdfunding for new companies and established ventures
Crowdfunding, otherwise known as crowdsourcing, as an alternative source for funding companies is getting more attention these days, since the US Senate has got on board in November with the “Entrepreneur Access to Capital Act”.
According to Forbes Magazine, the legislation allows companies to bypass dated regulations to take advantage of the flourishing online fundraising economy. Specifically:
The bill provides a crowd funding exemption from Securities and Exchange Commission registration of securities offerings, with certain limitations: Read more
Entrepreneurs are often confused and sometimes even frightened when an investor asks to see the “cap table” or capitalization table. If an entrepreneur doesn’t have a capitalization table then there is great deal of fear to be had and it’s not because the investor is asking for this document. It’s because the entrepreneur has not done a very good job in structuring the financial building blocks of the company namely the number and price of shares that make up the “capitalization” or valuation of the company.
- (Click to download the YCE Capitalization Table product. It’s FREE)
A capitalization table is an important document because it shows who owns the company and what they paid to obtain the shares for this ownership. If you are accepting money from investors you must have this document as it shows two important elements that:
- You have done the proper paperwork in documenting ALL of the shares offered by the company.
- You have established a valuation (price) of each share at each subsequent round and can provide a rationale for the share price being established resulting in an overall company valuation
A capitalization table is important because if it is not kept up to date and investors that you have accepted money from are not on the list – law suits can fly. Worse yet, if a new investor finds out that there are investors that are unaccounted for and not on the list, it is a sure fire fact you’ll never see a dime from that investor. Trust being an important factor in any transaction.
Principles of Capitalization Tables. Tell the Investor a Story
A good capitalization table should be guided by the following essential principles.
- It should do more than just list the names of all the shareholders and their respective share ownership numbers and percentages. It should tell an investment story by chronicling appreciated value of the company over time.
- It will show what type of investor came in at each round and the associated share price paid by these investors at a point in time and is used as a forward looking tool to see the impact financing decisions on ownership, dilution and capitalization values of the company over time.
- It should be the cornerstone in making sure all the paperwork is properly registered, filed and distributed when money is exchanged for equity. For example, paper work needed by the Securities Commission to be filled out by the investor, promises made to others via verbal agreements are then fulfilled and logged in a paper trail with the issuance of share certificates (make sure your lawyer controls these).
- It should be used as an important tool in the establishment of a fair valuation for the company by rationalizing deal arithmetic into a clear and concise document.
I will be covering more about capitalization tables in the weeks ahead to help entrepreneurs understand the components of a good cap table, how to use them, and how deals are structured with them.
You’ve certainly heard of Silicon Valley as the number-one tech startup hub based around the San Fransisco Bay area. But what about Silicon Alley (New York), Silicon Beach (Los Angeles) or Silicon Mitten (Michigan)?
Forbes Magazine explains how hubs of innovation are springing up all over North America. Plenty of entrepreneurs are still making it big by banking on technology companies churning out software, web apps and other products with the potential to change how we live and do business (Think: Google, Facebook, Apple… It’s hard to believe now, but at one time, no one had ever heard of them.)
Though most start-ups today have little to do with silicon, there’s something powerful about the evolution of our lexicon to confer a greater meaning upon a simple chemical element. It’s not about chips anymore, it’s about communities of thinkers, dreamers, and doers who support one another to create the innovations of tomorrow. And that tomorrow can’t be confined to any valley.
Technology Hubs Across the USA and Canada
The USA is not the only place where startup hubs are developing. Canada has been called a startup paradise, hosting high-tech hubs around Toronto and Vancouver. What accounts for the country’s success? A report titled Entrepreneurs Speak out: A Call to Action for G20 Governments gives some indications, including a high level of tailored support to create an environment that gives entrepreneurs a higher chance of success.
The report affirms that Canada offers young entrepreneurs low business startup costs, funding from public aid, a well-regulated banking sector, a highly educated workforce and a variety of coaching programs that go a long way in promoting entrepreneurship. Results from the research suggest that enhancing communication around entrepreneurial success stories, promoting career opportunities offered by entrepreneurship, and highlighting the role of entrepreneurs in creating new jobs are essential components to developing a strong entrepreneurial culture.
Successful entrepreneurship doesn’t “just happen”. There are many reasons why business startups tend to flourish and thrive in certain cities in the USA and Canada while new businesses are thin on the ground elsewhere. We do see a correlation between highly livable cities and a growing creative class that can seed a startup hub. Some cities like New York City or Toronto are natural magnets for these types of people. But by focusing on livability and a business-friendly environment, communities can take steps to become these kinds of hubs that attract both entrepreneurs and investors
BONUS: For entrepreneurs seeking tech startup riches wherever they may be, I highly recommend this Silicon Valley Entrepreneur series of videos featuring interviews with angel investors and entrepreneurs who have found success. The videos themselves are representative of the Silicon Valley style – they look like they might have been recorded in someone’s garage, but the insight offered far outpaces the production value:
Silicon Valley Entrepreneur Videos
It’s been a busy time at the office, but I always try to keep up with the latest news on entrepreneurship and capital raising for companies. I found some good-news stories about the investment community as well as some well-written overviews on the capital-raising process. Please enjoy!
- Angels Looking for More Investments. “Recent data shows that high net-worth individuals are making more private equity investments.” Very promising.
- Angel Investing Trends for 2012. Angel investors talk about what they’re looking for this year.
- How Entrepreneurs with Social Vision Secured Venture Capital. Two friends, a killer competitive advantage and a passion for changing the world led to entrepreneurs to success.
- Immigrants Founded Half Of Top U.S. Start-Up Companies: Study. Venture capitalists are continuing to help fund the American dream.
- How to talk to venture capitalists. I’ve been talking about these fundamentals for years. A good overview.
- Venture capitalists focus on later stages, but Silicon Valley still rules. Some excellent bar graphs illustrating recent deals.
- Venture Capital Survey Shows Clean Tech Realism. An interesting update on the viability of green tech startups.
- Entrepreneurs make the right moves. A good article on the process of raising capital for an Internet startup.
Have you read any great articles or books lately on entrepreneurship or raising capital ? Make your own suggestion by contacting us