Equity Crowdfunding for Startups
The participatory financing platforms are committed to the professionalization of the sector in order to win the trust of the users.
Invest as a professional. That’s what equity crowdfunding platforms (or equity-based equity financing) are looking for. The intention is that startups get an alternative source of financing in this model and that users gain confidence in the system and feel like an investor in a venture capital fund or in a network of business angels.
Crowdfunding is usually associated with reward funding, where a product or service is offered as consideration for the contribution made. But the Business Finance Promotion Act distinguishes three types of models:
- Reward or donation (which is not regulated)
- Crowd lending (or P2P loans from individuals to business projects through an online platform) and
- equity crowdfunding.
The latter two are subject to the law and have become popular in the startup ecosystem thanks to specialized platforms.
In the case of crowd lending, the entrepreneur resorts to small investors to lend money without any transfer of shares; in the case of equity crowding, the startup goes to investors who do receive in return a shareholding in relation to the money contributed.
The National Securities Market Commission already registers 20 participatory financing platforms and, according to body sources, 12 more are in the process of being processed.
The myth of fraud
With the rise of these new platforms also arises the phantom of fraud. As in all kinds of businesses, fraud exosts in the crowdfunding universe. But, the occurrences are few and far between.
And as a mechanism to prevent cases of fraud, large platforms (such as Kickstarter or Capital Angel) submit the projects to the analysis of experts in the sector. Thus, it seeks to professionalize the ecosystem and provide the user with the same level of confidence that an investor would have in a venture capital fund or in a network of business angels.
These experts conduct an analysis similar to the one made by an investment fund: They review finances, value technical feasibility etc…
The risk of investing
Understand that fraud cases can occur, more in startups than in crowdfunding. It is not a matter of the platform, but the (non) business model of the startups, which have a high level of risk no matter how invest either through equity crowdfunding or through a network of business angels,
However, though startups have a very high risk, they also a greater reward and the chance to earn more money if they succeed obviously.
The law, in an attempt to protect the user, has classified investors in credited and non-accredited, while forcing participatory financing platforms to inform the user that they are making a high risk investment.
These two figures delimit the participation of the agents in the sector. Thus, the accredited are those institutional investors and non-accredited individuals.
Regardless, crowdfunding is here to stay. Add the fact that ICOs are become more prevalent and you have a system that is allow more access to capital that was once restricted to those who had access to VC money. A rising tide lifts all boats.