Many of you are asking, what is equity crowdfunding?
Photo Credit: Rutgers University

Many of you are asking, what is equity crowdfunding?

As you saw, we’ve recently launched an equity crowdfunding campaign (ECF) on the StartEngine platform . We’re excited about it because StartEngine is a great fit for us. So what is ECF??

You’ve heard for years of other kinds of crowdfunding. On GoFundMe.com an individual can raise money for a friend who has medical bills, for themselves to go to college, to see if people will help fund their vacation; pretty much anything. On Kickstarter and Indiegogo, companies - usually startups - seek prepayment for products they plan to make. If they raise more than the threshold they’ve set, meaning they think they have enough to succeed, they go on to make the product, ship it to the prepaid customers, and next hopefully to the world. Sometimes it works out, sometimes not.?

Equity crowdfunding is different. People who put money into a company this way are buying a piece of the company, just like a VC or Angel Investor does, but the minimum investment can be as low as $100. The security that investors are buying might be stock (common or preferred shares) or convertible debt (typically in the structure of a Simple Agreement for Future Equity, or SAFE). The idea is to make startup investing accessible to anyone, while making clear the risks involved.?

It’s important to note that it’s not like buying stock in a public company. Publicly traded shares are normally liquid, easy to buy or sell anytime. Like a VC’s investment in a startup, an equity crowdfunding investment isn’t liquid. An investor will only be able to get paid for their shares when the company is acquired or goes public. If you are fortunate, your investment may be worth a multiple of what you put in, but there is also a real risk that the startup will fail and your investment will be worth nothing. In the meantime, there’s nothing you can do with the shares.?

Public companies also fail occasionally, and certainly the stock price can go down a lot, but in most cases the risks of investing in a startup are greater. VCs and Angel Investors can get rich by spreading their investments over a portfolio of companies, knowing that no matter how careful or smart they are, they can’t reliably predict which startups are going to succeed and which are going to fail.?

For these reasons it’s generally advised to not invest more than you can afford to lose without losing any sleep, and spread it across multiple companies on a platform like StartEngine.?

Until recently the opportunity for making high risk/high return private company investments was not available to the majority of US households. Laws were put in place back in the 1930s - “Blue Sky” laws - that limited high risk/high return start-up company investment to individuals who met certain wealth and income criteria, called “accredited investors”. Today the SEC defines an accredited investor as a person with two years of annual income exceeding $200,000 ($300,000 for joint married income) who had the expectation of earning the same or higher income this year, or who has a net worth exceeding $1 million not including their primary residence.

While well intention-ed, over time the Blue Sky laws further exacerbated the already extreme concentration of wealth in the US. Only 8.25% of US households qualify as accredited investors. Before the JOBS Act was passed in 2010 – more on that in a minute – returns from private equity investments were contributing significantly to the wealth these top households already had.?

I am personally one of those beneficiaries. When I was running seed stage venture capital firm Osborn Capital in the late 1990s until 2001, we invested in 21 companies. Of these 12 failed. The other nine produced positive returns from acquisitions by large tech companies including Cisco, EMC, Nortel, and Microsoft, and two from IPOs. One of these produced a greater than 200 times return: we were seed stage investors in Arrowpoint Communications, a company that was acquired by Cisco for $5.7B in 2000.?

I'm also familiar with the VC world from my experience in the industry as Managing Director of Osborn Capital, on the boards of companies backed by tier one VC firms like Fidelity Ventures and Charles River Ventures, and as EIR for Standford, Connecticut based Trident Capital. As CEO, I raised over $50M in nine rounds from top VCs including Venrock, Menlo Ventures, Highland Capital Partners, and Intel Capital.

VC funding has its strengths and weaknesses. I could write many articles on venture capital from my long experience, a project for another time. Long story short, venture capital is a segment of the banking industry. In my view, it has an important role in later stages of company development. For a company like VirZOOM in its early stages, equity crowdfunding is better suited.

That was a decade before the JOBS Act was passed. These new regulations democratized this kind of investment, making it possible for anyone to invest in early stage companies and gain exposure both to the upside and downside, and for founders like me to raise funds outside the VC ecosystem.?

The new regulations that govern our StartEngine campaign are called Regulation Crowdfunding, or RegCF for short. There are significant disclosure requirements, such as fully audited financial statements. The exposure that an individual is allowed to take on is limited by their income and net worth. If either your annual income or your net worth is $124,000 or less, you can invest a maximum of $2,500 or 5% of the greater of your annual income or net worth amount. If both your annual income and your net worth are equal to or more than $124,000, then during any 12-month period, you can invest up to 10% of annual income or net worth, whichever is greater, but not to exceed $12,400.?

These guardrails are intended to limit investor risk in proportion to means, which is a whole lot more fair than cutting 81.5% of the population out completely.?

You may be wondering how ECF investments perform. While there is a limited amount of research on the topic, this report is interesting. Internal Rate of Return (IRR) is the way venture capital firms are measured. It refers to the market value of portfolio assets marked to market at a particular time. The report shows that at least for the investment cohort reported on that particular platform at that time, the online crowd did a better job of selecting early stage companies to invest in than than the top 25% of VC firms. Who knew??

This may explain why equity crowdfunding is gaining momentum recently even as VC funding has dried up. Investors in VC funds are called limited partners. Many are looking at the stats and asking themselves, Why am I paying venture capitalists, who are supposed to be investment experts, 2% in fees and 20% in carry, the fund’s portion of every liquidity event, when I can select my own companies to invest in and pay only a nominal fee and typically no carry at all??

There’s quite a bit more to it. There are types of ECF besides RegCF, such as one called RegA that allows companies to raise as much as $80M in private equity offerings to the public. I encourage you to use Google or ChatGPT to learn more. The more educated you are, the better your investment decisions will likely be.?

In a world that seems to be getting less democratic by the day, it’s refreshing that there is at least one area of our lives where we are given more, not less control over our decisions. ?

In case you are concerned that it may be complicated or time consuming to invest this way, after you've made a decision it takes only around 10 minutes to create an account and make an investment.

Please review our campaign page to learn more about VirZOOM.?

Xavier Jameson

Co-founder and Chief Growth Officer at Musiversal - Innovating Music Production | 2X Startup Founder | Cambridge Uni | Musician and Aspiring Composer ??

1 年

Great, Eric Janszen! Just sent you a message! Have a question about closing our crowdfunding round successfully.

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