The digital universe is disrupting every aspect of our lives, changing the way we shop, interact with friends and family, operate our businesses and lately, even the way that we invest.
The rise of the internet, as well as the popularity of social networking and efficiency of big data analytics, is enabling the digitalization of the traditional investment model. With the adoption of the smartphone, information is more accessible than ever, available at anytime and from any place. The rise in popularity of social networking is creating a connected global community. It is possible to tap into the wisdom of the crowds, leveraging the combined knowledge of the masses to make smarter investment decisions. The power, which was once in the hands of the select few advisors, has now shifted to the masses, enabling more and more people to take their portfolio management into their own hands.
Leading the financial revolution is a relatively new practice known as crowdfunding, which allows a large number of individuals to invest in a project via the internet. The crowdfunding market has grown exponentially over the past couple of years, currently valued at approximately $10 billion as of 2014 and expected to reach $300 billion as early as 2020. Even though it is a relatively new market, impressive crowdfunding success stories are already visible, including the $2.4 million crowdfunding round raised by Oculus, which was sold to Facebook for $2 billion a year and a half later.
Crowdfunding is proving to be a powerful tool, offering entrepreneurs access to available capital in the post 2008 credit crunch. Post-recession banking conditions have made small business lending tougher, as banks work to recapitalize their damaged balance sheets. US President Barak Obama described the struggles of small business stating, “Because we’re still recovering from one of the worst recessions in our history, the last few years have been pretty tough on entrepreneurs. Credit’s been tight, and no matter how good their ideas are, if an entrepreneur can’t get a loan from a bank or backing from investors, it’s almost impossible to get their businesses off the ground.”
To help alleviate the credit crunch, the US government passed the JOBS Act in July 2013, which led to the formation of a new type of crowdfunding known as equity crowdfunding. The eighty-year ban on general solicitation and advertising for small, private security offerings was lifted. The equity crowdfunding model allows private startups and small businesses to raise investment funds publicly in exchange for equity, which until today was only possible with public offerings of multi-million dollar enterprises. This is a relatively new market, which has opened up the angel investing and private equity markets to a blue ocean of investors.
What are the main types of crowdfunding platforms?
Today, when looking to raise funds via crowdfunding, entrepreneurs have four main platform types to choose from. These include donation platforms, peer-to-peer lending platforms (debt), rewards based platforms, and equity crowdfunding platforms.
The four types of crowdfunding platforms:
Each platform is a good fit for a different type of startup, depending on the startup’s stage and capital requirements. For example, rewards based platforms are a great fit for early stage startups that only have a prototype or idea. Throughout the capital raising process, the startups will be able to evaluate market demand for their product, quickly changing the product based on feedback from potential clients.
Equity based crowdfunding is a better fit for slightly larger startups that would like to secure significant capital raises and add leading angel and VC investors to their cap tables. It is also an attractive mechanism for investors that are looking to earn attractive returns on their investments. For example, had the Oculus project been funded on an equity crowdfunding platform instead of a rewards based platform, its investors could have made a 200x return on their investment!
No matter what type of crowdfunding platform is chosen, one thing is certain… in 2015 these platforms are becoming a mainstream part of startup cap tables.
Founding Partner, iAngels