Equity crowdfunding is the new way to raise funds for a private company or business venture. Many early-growth companies choose this model when traditional financing methods such as venture capital, private equity, or public trading fall short. The main difference is that crowdfunding gives everyday people the opportunity to become investors. As the company grows, so does the stake of its shareholders who earn equity ownership and even a share of revenue profits that are distributed in the form of dividends each year or more often.
President Barack Obama signed the Jumpstart Our Business Startups (JOBS) Act into law on April 5, 2012. This gave the direction to the Securities and Exchange Commission (SEC) to create the rules for equity crowdfunding. Later, in 2015, Regulation A was formed, giving companies the opportunity to raise up to $75 million every year. The next year another form of regulations – Regulation Crowdfunding – was legalized allowing companies to raise up to $5 million every year.
The most notable principle of crowdfunding is that nearly anyone 18+ years of age can participate. Prior to its formation, investing in private companies (those not traded publicly on a stock exchange) was often limited to the wealthy, or accredited investors.
Accredited investors are considered to be individuals who make $200K+ a year for at least two years ($300K with a spouse), or have a net worth of $1 million+. Aside from already being wealthy, with connections to early-growth companies, you’d have to essentially be in the right place at the right time.
Now the barrier to entry is much lower for retail investors, or everyday people. Ensuring that people are still protected from high financial risks, the SEC has set certain requirements:
Investment limit is $2,200 or 5 percent of income or net worth
Investment limit is 10 percent of income or net worth (up to $107K)
Raising Capital – Most founders and entrepreneurs have experienced their fair share of struggle. When it comes to raising the funds needed to hire staff, pay for software or equipment, or other miscellaneous investments, seeking outside financing is often the only way to succeed through the startup or growth phases. Black founders and entrepreneurs are especially prone to resistance when it comes time to secure venture funding, bank loans, private equity, business credit and other forms of capital. When these traditional options fall short, crowd investing becomes the ideal route to go.
General Solicitation – Prior to the legalization of crowd investing, private companies had to be extremely careful with how they informed or advertised investment opportunities to the public. Without access to shares actively traded on a public stock exchange, someone would essentially need to be positioned within a company’s inner circles to receive an invitation to invest. Now nearly anyone can get the investment memo for the next Google or Airbnb.
Regulation D CrowdInvesting – Imposes no limits on how much you can raise or the number of investors in a pool. It is important, however, for the investors to be accredited.
Regulation A+ CrowdInvesting – You are permitted to raise anywhere from $20 to $50 million from investors. These investors can be both accredited and unaccredited. In this type of crowdinvesting, you can first test the water. In other words, gauge the level of interest from investors before launching your campaign fundraising.
Regulation CF CrowdInvesting – Used by most crowd investing platforms. Here you can raise up to a million dollars within a year. Like in Regulation A+ crowd investing, investors here too can be both accredited and unaccredited.
Nicely enough, grants, bank loans and other non-crowdfunding options remain on the table without counting toward the above thresholds.