In previous columns I introduced three crowdfunding sources including donation fundraising, startup transactions, and lending. Now let’s talk about the fourth and most problematic method: raising capital from investors.
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Historically, small businesses acquired investor capital from two sources: venture capital and angel investors. So when crowdfunding popped up on our radar, many in the entrepreneurial universe got excited thinking the Internet could be used as a lever for investor capital as it has for other business applications. Here are four reasons why I was not among this group.
1. Securities Laws
Remember those two crowdfunding markers identified in my previous columns, “innumerable and anonymous?” Well, they’re the most problematic in raising investor funds because, by definition, the public (people you don’t know) has access to Internet offerings. U.S. securities laws are enormously restrictive about selling investments to the public, and the approval process is prohibitively expensive for most startups. Plus, even as part of Obama’s 2012 JOBS Act, the Securities and Exchange Commission (SEC) has yet to approve crowdfunding for investors and won’t say when rulemaking will happen.
2. Financial reporting
One of the essential markers of investing is financial reporting. Alas, one of the markers of the small business sector is poor financial recordkeeping. When small businesses learn the level of disclosure required for crowdfunding investment, most will not pursue this path.
3. Minority shareholders
Investors become shareholders. A crowdfunding offering is likely to create many shareholders. When small business owners understand the maintenance expense and effort to comply with mandated reporting to shareholders, most will seek other capital sources.
4. Exit strategies
Small business owners love their businesses, but most don’t have an exit strategy. Since capital is not romantic, it’s unlikely that a small business owner’s idea of an exit will align with that of crowdfunding investors. And with no after-market for these shares, crowdfunding creates an inherent exit expectation conflict, which will be a non-starter.
When and if SEC rulemaking occurs, crowdfunding equity will benefit some entrepreneurs. But I predict this capital source won’t be a high percentage option for most small businesses. Crowdfunding is part of the future of small business capitalization, but it’s not for everyone.
Write this on a rock …
Don’t count on crowdfunding to replace your banking relationships.
Jim Blasingame is the author of the award-winning new book, “The Age of the Customer®: Prepare for the Moment of Relevance” www.AgeoftheCustomer.com .
Jim is one of the world’s leading experts on small business and entrepreneurship, and founder and president of Small Business Network, Inc. www.SmallBusinessAdvocate.com . He’s the founder and host of the syndicated weekday radio program, “The Small Business Advocate® Show,” where for more than 16 years he has conducted over 1,000 live interviews annually with his “Brain Trust,” the largest community of small business experts in the world.