Dispelling Myths #1 and #2: “Extraordinary popular delusions and the madness of crowdfunding”

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NCFA Canada  |  Posted on August 3, 2013

True or False

Note to readers:  This post is part of a series of posts written on behalf of Canada’s leading industry crowdfunding association, NCFA Canada, its members, and affiliates.  Special thanks to our sponsors Joi Media (Katipult), FundRazr, Amplifi, CNW, and Wires Law,  and the following contributing thought leaders including Craig Asano (NCFA Canada), John Wires (Wires Law), Christopher Charlesworth and Asier Ania (HiveWire), and Heri Rakotomalala (Seeding Factory).

On July 31, 2013 an opinion post article in the Financial Post’s comment section highlights the wide disparity in thinking between the established finance industry insiders and the rest of the world (view article).

It appears the world can be divided into two camps:

Camp A:  Those that feel the general public or ‘crowd’ should have little or no participation in private market placements because they are thought unfit or incapable of adding value to the process, and the regulations required to protect them would duly outweigh the benefits they may receive from participating in the first place.  Further, investing in start-up or growth capital investments is a risky game that should be left to professional VCs and sophisticated investors alone.

Camp B:  Those that feel the general public or ‘crowd’ should have the choice to participate in private market placements in a regulated capacity, and that the general public is motivated to seek returns that go beyond financial incentives alone, such as supporting innovation, regional job creation and social impact goals.  Equity crowdfunding markets globally have demonstrated that crowds can play a significant role in helping small to mid-sized enterprises (SMEs) access start-up capital and the necessary support to achieve business goals that would otherwise be unavailable to them in traditional capital markets.

To assist readers in making their own unbiased conclusions, NCFA Canada offers readers a response to the myths or one-sided beliefs that were conveyed in this Financial Post article:

Myth 1:  History has shown crowd wisdom to lead to witch-hunts, bulb-mania and world meltdowns. Crowds are unable to vet deals as well as professional venture capitalists and experienced angels.

RESPONSE 1:  Crowds offer the power of diversity and play a pivotal role in democratizing the entire funding and start-up eco-system

DiversityCrowds offer the ‘the power of diversity’. 

In today’s dynamic marketplace, being open, inclusive and allowing diverse crowds to participate in your business offers start-ups and SMEs strategic competitive advantages, such as:

  • Increased adaptability to constantly evolving market conditions
  • Increased creativity and innovation – a cross pollination of ideas and perspectives in a larger pool of ideas to meet business goals
  • Diverse views that facilitate effective decision making
  • Deeper understanding of varying market and customer needs

The ‘crowds’ of crowdfunding play a pivotal role in helping the entire funding and start-up eco-system:

  • Risk is diversified by having a large number of crowd investors contribute a small amount of investment dollars, as opposed to a few larger investors assuming greater risk
  • Once committed, crowd investors help promote offers throughout their networks often making warm introductions to key players of the deal
  • Crowd investors are first and foremost ‘customers’ and not backseat management drivers
  • Crowds offer invaluable feedback and market research that is often critical to ascertaining the optimum product and marketing mix
  • Crowd intelligence combined with sophisticated fraud detection algorithms will help detect and prevent fraud

Crowdfunding goes way beyond ‘funding’

Crowdfunding motivates and connects people and organizations and democratizes the underlying limitations of the current system driving fundamental change:

  • Reduces the cost of transactions by leveraging the advancements of technology to handle high volume financial transactions and investment administration
  • Crowdfunding breeds confidence and sparks participation.  It enables a marketplace for ‘arm chair’ dragons to cultivate thus improving the general public’s awareness and understanding of small business finance and investments
  • Gives government, industry and academia the opportunity to work together to achieve the common goal of Canadian competitiveness, innovation and job creation
  • Adds transparency, tracking and standardization to financial transactions that occur in private markets that are non-reporting issuers
  • Gives investors choice to diversify and self-manage their own portfolios by independently choosing the crowdfunding portal that best suits their interests and appetite for risk
  • Enables investors to support their local businesses
  • Allows lower margin and higher volume business models to compete and innovate in a traditional industry that will ultimately benefit from being disrupted

Myth 2:  There’s been little or no statistical proof that equity crowdfunding works

RESPONSE 2:  Crowdfunding works!  Leading equity crowdfunding portals have proven that markets are becoming more sophisticated and accelerating in terms of total funding volume & the number of transactions.

  • Equity crowdfunding is a global phenomenon and legal in several international jurisdictions such as Australia, UK, Netherlands and soon the US with the passing of the JOBs act.  Why should Canada be at a disadvantage?
  • In fact, ASSOB has legally been operating its equity portal for over 5 years and has successfully raised over $133 million dollars for over 180 companies of which over 80% of them are still operating today.  Yes – that translates into innovation, more jobs and GDP for the country with zero fraudulent cases reported.
  • CrowdCube in the UK has raised ~£10 million for 58 businesses including self-funding £1.5 million in 2 days from its membership base of 40,000. £4.4 million or almost half of all funds raised to date occurred in the first six months of 2013 indicating that growth is accelerating.

Further, Doug Cumming, Professor of Finance and Entrepreneurship at York University, and team studied 5 years of historical ASSOB data and released a report called ‘signaling in equity crowdfunding’ that demonstrates crowdfunding participation and markets are much more involved than just posting an idea as CAMP A would lead readers to believe.  The most successful crowdfunded companies displayed the following characteristics and signals to their investors:

  1. Attracted more educated Board members to their company than average
  2. Signaled intention to go public (IPO) or exit the company via prominent venture capital firms or investment banks
  3. Offered financial forecasts
  4. Operated for some time with the entrepreneur investing his own funds (‘skin in the game’)
  5. Offered a limited amount of equity for sale

WHAT CAMP DO YOU SUPPORT? 

Innovation and lightbulbCrowdfunding is about providing capital to the rest of us - to that broad swath of the Canadian public that doesn’t have friends on bay street, isn’t connected to VC’s from the valley, and doesn’t have their private banker on speed dial.   In fact, CAMP A sentiments simply underscore the reality that capital is constrained, and primarily accessible to a very small and select group of people.

Innovation is happening everywhere, and in every group, including those that are typically overlooked by the traditional financiers.  However it is often occurring at a small and incremental level, rather than at the ‘home run’ level that CAMP A refers to.

Crowdfunding is certainly not going to be looked favourably upon by ‘wheezy old securities lawyers’ disinterested in rolling up their sleeves to innovate and change the currently expensive process that seems to benefit their practices in the first place.  Change requires hard work and effort, and in this case, the beneficiary is the public and small to mid-sized businesses asking for help.

Who’s going to rescue them?   Wheezy old securities lawyers; or new, dynamic online investment communities powered by crowdfunding markets and new technologies.

Next: Dispelling Myths #3 and #4 --> click here

 

The National Crowdfunding Association of Canada (NCFA Canada) is a cross-Canada crowdfunding hub providing education, advocacy and networking opportunities in the rapidly evolving crowdfunding industry.  NCFA Canada is a community-based, membership-driven entity that was formed at the grass roots level to fill a national need in the market place.   Join our growing network of industry stakeholders, fundraisers and investors.  Increase your organization's profile and gain access to a dynamic group of industry front runners.  Learn more eBrochure | Prezi or contact us at casano@ncfacanada.org.

 

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