What is crowdfunding and what does it mean for the future of financing?

Have you heard that the world is getting smaller? That cliché is commonly used to describe the effects of technology, social media, and mobile connectivity. The same technology that is making the world smaller is actually expanding funding options. It is having a profound effect on the way organizations, from nonprofits to technology startups, are connecting with potential donors and investors. And now there’s even a word to describe these rapidly evolving funding options – crowdfunding.

What is crowdfunding?

Crowdfunding is a funding phenomenon made possible by social connectivity. It relies on the Internet and social media to facilitate the financing of initiatives from a large pool of disparate backers. These initiatives could be anything from political campaigns to seed money for startup companies. Where traditional funding avenues are often limited by geography and familiarity, crowdfunding harnesses digital and social media networks to connect initiatives with an enormous number of potential contributors anywhere in the world.

In what ways can it be utilized to raise capital?

It is really nothing more than a method of connecting people and money with initiatives. It follows that wherever initiatives exist that need funding, it is being utilized. Major types of crowdfunding include donation-based funding, where supporters give money to support a cause; reward-based funding, where sites like Kickstarter allow backers to receive rewards in exchange for monetary pledges; credit-based funding which is commonly known as peer-to-peer lending, and finally equity-based funding, where backers can actually receive ownership shares in a company based on their investment. For the business community, equity funding is by far the most intriguing development.

What is the potential for equity crowdfunding?

At the moment, equity funding is both the least developed and potentially the most exciting form of crowdfunding. Raising equity capital from the public has been strictly regulated to protect investors since the passing of the Securities Act of 1933. But as this type of funding is evolved and grew in popularity, Congress reacted by passing the 2012 JOBS Act to crack open the door for equity crowdfunding.

How did the JOBS Act open the door for equity crowdfunding?

Full implementation of the JOBS Act is still contingent upon the release of final regulations by the U.S. Securities and Exchange Commission (SEC). Nevertheless, speculation on its potential effect is already rampant. Two major sections of the JOBS Act address crowdfunding. Title II of the JOBS Act went into effect Sept. 23, 2013 and allows for “general solicitation” by private companies to raise money publicly via “accredited investors.” For savvy business investors, Title II is probably more important, because it deals with larger investments, more developed opportunities, and more substantial equity issuances.
Equity crowdfunding for non-accredited investors was addressed in Title III of the JOBS Act and could potentially connect countless businesses with an enormous pool of potential investors that were previously off-limits. While the impact of Title III could be tremendous, the actual implementation is still on hold as the SEC works to put together final regulations.

Could equity crowdfunding fundamentally change the way ventures are financed?

The potential impact of equity crowdfunding is still up for debate. Limitations placed on the total value of crowdfunding equity issuances as well as limits placed on investments by individual investors will likely minimize the incursion of crowdfunding into larger traditional equity-backed initiatives. Equity crowdfunding has greater potential to benefit startups with the seed capital needed to turn an idea into a business. If equity crowdfunding means getting more good ideas off the ground, the effects will eventually be felt throughout the venture capital and the entire business community.

Feel free to contact us with more questions about crowdfunding!