U.S. Equity Crowdfunding 101: Is It Right For Your Startup?

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Forbes | Contributor | March 18, 2014

Equity Crowdfunding image“I need capital, Eric.”

Sitting in my archives are hundreds of emails with the same plea.

And although my comeback tells entrepreneurs to bootstrap and run lean for as long as possible, there does come a time to seek the almighty buck.

Startup entrepreneurs can knock on the door of angels, venture capitalists, friends, banks or their Aunt Milly — but crowdfunding?

Judd Hollas, Founder and CEO of EquityNet, shares helpful details of crowdfunding so you can determine if it’s right for your startup.

To get your arms around this, last year the global online crowdfunding industry raised $5.1 billion for thousands of cash strapped businesses, charities, and startups. In fact, according to Massolution’s 2013 Crowdfunding Industry Report, equity-based crowdfunding raises 40 times more per company than any other type of crowdfunding in the marketplace.

Simply put, equity-based crowdfunding allows entrepreneurs to reach investors interested in purchasing equity in their startup or other privately held small business. In stark contrast to your average fundraising effort as seen on platforms such as Kickstarter and Indiegogo where founders do not give up a percentage of ownership in exchange for the cash.

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If you ponder the launch of an equity crowdfunding campaign, here are the 3 types of equity crowdfunding, 4 tips to make the most of your efforts and 10 valuable resources to dig deeper:

Three Types Of Equity Crowdfunding

Equity I: Enacted as a result of the IPOnet, SEC No-Action Letter issued in 1996 — it allows for accredited investors to view private investment opportunities on a password-protected website. The vast majority of issuers who use Equity I rely on Rule 506 of Regulation D, which allows them to raise an unlimited amount of capital from an unlimited number of accredited investors. According to Hollas, this type of crowdfunding would suit entrepreneurs who want to avoid public exposure of their fundraising campaigns.

Equity II: Relies on Title II of the JOBS Act which went into effect last September and allows entrepreneurs to publicly advertise their need for funding. Founders who engage in Equity II can raise an unlimited amount of capital from an unlimited number of accredited investors — all done through equity crowdfunding portals which make it simple to advertise their offerings across the web. Becoming the most popular type of equity crowdfunding, it exposes entrepreneurs to a huge audience of potential investors. In fact, go this route and you can potentially share your business with 6-8 million accredited investors in the U.S.

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Hollas says “Entrepreneurs willing to publicly advertise their need for funding and who are also willing to take reasonable measures to confirm the accreditation status of potential investors are a good match for Equity II.”

Equity III: Expected to go into effect later this year, this type will allow unaccredited investors to participate — in other words, the 99% of investors. Allowing equity crowdfunding platforms to offer and sell securities online, entrepreneurs will enjoy the ability to potentially reach out to over 50 million Americans. Of course, exposure to a larger investor audience who might lack sophistication in investments also means entrepreneurs will have more regulatory requirements to manage.

Four Tips To Make The Most Of Your Fundraising Efforts

1. Create A Solid Business Model/Plan

Although I am a huge fan of a working business ‘model’ vs. a business ‘plan’, the basic premise remains the same: you must show investors you have traction, customer validation and possess a solid plan to maximize your market opportunity. Hollas says “The advantages of a well-developed business plan cannot be overstated. Not only does it serve as a powerful fundraising tool — it provides a solid framework for operations, helps establish your priorities, and helps you determine your company’s valuation and how much equity you need to part with to reach your fundraising goal.”

2. Prepare Yourself Legally

Raising capital in exchange for equity brings tremendous responsibility and regulation. Do your homework. Learn the 3 types because each has varying levels of regulatory compliance and limitations on who can invest in your company and how much you can raise. Plus, grab a good attorney because a private placement memorandum (PPM) is necessary for any offering you make. Hollas says “Doing so helps protect you and your company as it discloses regulations that dictate the offering and indicates to the investor that you uphold a professional attitude towards regulatory compliance with the SEC.”

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