We keep pretty close tabs on what's happening in the world of crowdfunding, and as I read the various articles in major publications or see segments on TV news, I am amazed at how little understanding there's about crowdfunding, and the vast differences involving the donation-based crowdfunding that's been around for a number of years, and the equity-based crowdfunding that's on the very near term horizon.
So i'd like to set aside a second to attempt to explain. Donation-based crowdfunding is pretty simple. People effectively "donate" money to a company or cause without expectations of ownership. In return, they receive some sort of tangible "award" for his or her donation and the awards usually come in tiers based on how much one donates. A tiny donation might result in a award of a bumper sticker or t-shirt while a big donation might garner a primary edition product, an all expenses paid weekend trip, or an invitation to an exclusive celebrity-studded launch party. These donation-based platforms, like Kickstarter and a huge selection of others, take a percentage fees from funds raised - generally 5-10%.
Equity-based crowdfunding, however, is an entirely different animal altogether, and frankly, far more exciting. Equity crowdfunding gets the potential to fully turn the entire world of finance on its head, by providing everyday investors and small private companies direct access together - without the financial intermediaries, who for many years, have essentially cornered industry on private investments, and have lined their pockets in the process.
The main difference in equity vs. donation crowdfunding is that investors get direct ownership in the company in trade for his or her investments - be it shares of stock in a corporation, or units of ownership in a LLC. So as opposed to a t-shirt from another iteration of business giants like Google, LinkedIn, Facebook, or Twitter, investors can get to go along for the ride and share within the next wave of new business success (and yes, failure).
But there's also some significant caveats to raising capital through equity crowdfunding: most companies should create a company plan, an economic model or audited/certified financial statements, a valuation of these equity offering, and a number of other things before they could list their offering on a SEC-approved website platform. Another wave of new businesses is probably be dramatically bolstered by this new access to capital. In place of a tiny pool of investors putting capital into new companies, there will soon be billions of people worldwide who can fund tomorrow's startups.
As things stand today, there are already to significant changes to securities laws in the U.S. around equity crowdfunding -first, companies are actually permitted to boost capital via equity crowdfunding from accredited investors (people with significant annual salaries or net worth). And, equity crowdfunders can advertise their deals to those accredited investors, a concept known as "general solicitation" ;.This hasn't been allowed because the 1920's in the U.S.
The 3rd and final piece of the equity crowdfunding puzzle will undoubtedly be once the SEC unveils the principles for allowing equity crowdfunding to non-accredited investors Wefunder. This is going to function as major pivot point where everyone will undoubtedly be permitted to purchase private companies. Providing the principles for companies to boost this kind of capital are not too cumbersome, this can be a BIG DEAL. Now what's much more fascinating is to attempt to predict and know what could happen once this third and final piece of the equity crowdfunding puzzle is put set up, and by all accounts, this is going to happen some time in the second quarter of 2014.
First, there's been a lot of infrastructure being built behind the scenes to prepare for the events which can be now essentially upon us. Institutional investors are not dumb - many have been pouring money in to the portals and other businesses that'll support equity crowdfunding. Others have been focusing on creating secondary market for reselling crowdfunding investments which may supply the equity crowdfunding market and investors much-needed liquidity - making those investments much more appealing. And, it's not merely the institutional investors who are making bold moves. Social networking companies, media/publishers, and others have been jockeying themselves into position as well by either buying equity crowdfunding infrastructure companies or developing capabilities in-house.
Whenever you think back to the rise of the private computer market in the 1980's and the emergence of the Internet in the mid 1990's, this sea change in the finance industry gets the potential to be in the same way, if not more, prolific. The world forever changed in 1995 when Netscape developed the very first browser and made it freely available. It triggered how many web users growing from 16 million in the beginning of 1996 to 360 million by the end of 2000. The share prices of the brand new companies that evolved, Yahoo, eBay, Amazon, Priceline, etc., who emerged to service the burgeoning population increased by as much as 100 times between 1996 and 2000. Exactly the same probably will occur to companies who will service the massive population of equity crowdfunding investors.