What the proposed crowdfunding rules mean for startups
Crowdfunding has been around since the late 1990s. Since then, crowdfunding has been wildly successful in helping startups raise capital. I’m talking about hundreds of billions of dollars have been raised by startups through the crowdfunding process. Some sources even believe that number will reach $300B by 2025.
It is important to revisit the basics of how crowdfunding works. Think of it as raising startup capital in the form of small dollar contributions from a larger number of people than if you went the angel investor route.
Crowdfunding transactions typically occurs in one of two forms. The distinction between the two is what the investor gets in return for their contribution. In many instances the investor is not getting a chunk of equity in return for their investment. Instead they get early adopter perks that the mass market will not get once the product or service is generally available. In some instance, although it appears to be much less common, the investors are giving equity in the startup. This model is less common for a variety of reasons. Not the least of which is that true angel investors and venture capitalists frown on investing in a startup that went this route because the cap table is very congested.
Up until this year, crowdfunding was limited to a total of $1M in funding. Under the proposed updates to the rule startups would be able to raise up to $5M.
That increase is important for many startups. Certainly $1M is a lot of capital. But in my experience working with startups it is just as time-consuming and costly to raise $1M as it is a few million dollars. And while $1M is a sizable funding round it isn’t uncommon for a startup to need to raise multiple rounds of funding. So, the increase could help speed up that process.
Now, before you get too excited there are a few other things to note. According to some of the statistics I saw the average successful crowdfunding campaign raises just over $100k, with the median investor contributing around $260.
What that means for startups is two key issues. First, most crowdfunding attempts won’t come close to the $5M benchmark under the proposed rules, let alone the $1M mark. Second, at a few hundred dollars per investor a startup would be managing a lot of contributors.
So, while I applaud the attempt to make the attraction of capital less frictionless, I am not sure it will impact the vast majority of startups.
