Revolutionary. A potential game-changer. The biggest change to securities law in 80 years.
That’s what people in the know are saying about crowdfund investing, or CFI, a new vehicle in “marketplace” investing that capitalizes on the accessibility of the Internet to connect small businesses and potential investors like never before.
It expands on already popular and increasingly common “rewards-based” crowdfunding sites like Kickstarter.com and IndieGoGo.com, which invite investors to help fund start-up projects in exchange for an early prototype product or other merchandise-based “rewards” – and sometimes for nothing at all beyond the satisfaction of boosting a good cause or idea.
The new crowdfund investing platforms, however, will let investors actually buy equity shares in small, privately owned businesses, or fund loans against assets in those businesses.
The true game-changing aspect of CFI is that, for the first time, it will extend the opportunity to invest in small businesses and start-ups to anyone, not just those in the highest income levels, as had previously been the case. Federal rules restrict non-family and friends funding to “accredited” investors.
“When the Securities and Exchange Commission (SEC) releases its guidelines and these crowdfund investing portals are allowed to go fully live, not only will you be able to get a reward, but you’ll also be able to own shares of these privately held companies,” said Mary Thorsby, CEO at iList Media and corporate communications consultant at Thorsby + Associates. “Now, (start-up investors will) have some ownership of the project, of that product and of that company. It just opens all sorts of new doors.”
Thorsby, who has business experience and contacts in San Antonio, Texas, and San Francisco, has been researching the crowdfunding industry through a University of Louisville Entrepreneurship MBA program internship and is involved in an effort to create a Kentucky presence in the new funding sector when activity begins. That’s expected in the next few months when regulations are finalized and made public.
The new stock market
Thorsby anticipates that crowdfund investing may result in “billions of new dollars in investments,” all facilitated by Title III (“the Crowdfund Act”) of the federal Jumpstart Our Business Startups Act. Signed into law last April, the JOBS Act’s goal is encouraging entrepreneurial start-ups and small business development by easing federal regulations about which citizens can invest in privately owned companies.
[pullquote_left]“I really believe that this can be a huge game-changer. And what it’s doing is helping grow both sides of this two-sided marketplace.” — Vik Chadha, executive vice president of venture development with Nucleus.[/pullquote_left]
Previously, equity shares of business start-ups have been available only to “accredited” investors as defined by the SEC – those with a proven minimum $1 million net worth and whose income was at least $200,000 for the two most recent years.
In what many see as a long-overdue democratization of the marketplace, CFI will open equity ownership to a vast array of willing investors who may not have large sums to invest, but who do have the capital to make small contributions to help small businesses get off the ground.
While everyone is awaiting the release of the SEC’s official crowdfunding guidelines, which were due to be made public by early this year, it’s expected that they will limit businesses to a maximum $1 million per year in fundraising acquired by crowdfunding. Further, the amount a single investor can invest in crowdfunding opportunities will be limited, based on income. Investors’ yearly limits will likely be set at the greater of $2,000 or 5 percent of annual income if they make less than $100,000; or 10 percent of annual income, up to a maximum of $100,000, if they make more than $100,000 annually.
“I really believe that this can be a huge game-changer. And what it’s doing is helping grow both sides of this two-sided marketplace,” said Vik Chadha, executive vice president of venture development with Nucleus, a University of Louisville-based entrepreneurial management consulting firm that focuses on life sciences. “On one side are the people who would like to invest small amounts of money in small business, but hadn’t been allowed to because they were not considered accredited. And then the second piece, which in my mind is even more exciting, is that companies that are deemed to be not a good fit for existing angel investors or venture capitalists, could tomorrow become very viable in terms of what people have an appetite to invest in.”
Chadha points to early-stage, university-based scientific research as one area that could leverage crowdfund investing not only to obtain essential start-up dollars but to also establish an equally vital sense of involvement and community engagement among local investors and interested alumni.
Louisville-based entrepreneur Alex Frommeyer, CEO of Beam Technologies LLC, is excited about the potential investment opportunities CFI may bring to Kentucky business start-ups like his own, especially those that may have difficulty finding funding from banks or other traditional sources.
His firm’s initial product, the Beam Brush (beamtoothbrush.com), released late last year, connects to an app on users’ smartphones to monitor and track their tooth-brushing habits and work toward rewards goals. (Think earning free movie tickets for brushing your teeth.) The product has gotten widespread media attention – from a mention in Time magazine to national web and TV coverage. Frommeyer launched a rewards-based campaign on IndiGoGo to help fund the Beam Brush’s continued development, but his team is also “very interested in the possibility of using crowdfund investing and is following that option very closely,” he said.
“There’s potential for equity crowdfunding to essentially become what the stock market is today, which is investing in companies that you think are going to do well. But crowdfund investing will let investors do that in a much more intimate way, on the front end, where your investment can mean a ton to the company,” Frommeyer said.
Putting Kentucky at the starting line
Helping to make sure that Kentucky is ready for CFI when it goes live – potentially in the fourth quarter of this year – are those like Chadha, Thorsby and roughly 20 others representing businesses, local and state government, and academia, who have joined with Kent Oyler, founder and CEO of Louisville-based OPM Entrepreneurial Services, to create the Regional Crowd Fund Investing Committee.
Oyler has had repeated start-up success, having launched 18 business ventures. He is a former UofL Business School Distinguished Alumni of the Year and is active in a variety of civic and charitable organizations.
“In Kentucky, we have a history of helping each other, so the concept is the same, in that with crowdfund investing, neighbor can help neighbor, not in this case by shoveling the driveway, but by investing in locally based companies,” said Oyler, the committee’s chair. “It’s very exciting.”
The committee plans to hold workshops and CFI “boot camps” to educate small businesses and entrepreneurs – as well as lawyers, accountants and others who will help form businesses’ necessary financial support networks – about the opportunities that crowdfund investing may bring.
One key message to small business owners and entrepreneurs alike is the importance of presenting their business or product in an engaging, informative way in their online campaigns to make that essential connection with potential investors. (The group is also actively working to help establish connections with a web-based CFI portal – either one they create themselves or one based elsewhere – that will enable Kentucky businesses to share their ideas with the world.)
“Our theory is, if we have a strong infrastructure (for CFI) in our state, and we’ve got good awareness, then we’ll also have good project offerings coming out of Kentucky. And that will spread our footprint outside of the state to the national level,” said Oyler.
Already, the committee’s early organizational work has garnered national attention.
“Kentucky is being seen as a leader in crowdfund investing among those of us who are working on this,” Olyer said. “And it’s important to note that our group is not something that was dictated by the government or by a chamber of commerce or any of that. We’re including those groups; we’re not being exclusive of anyone. But we started this, purposely, as a grass-roots, volunteer-led movement. That allows us to make sure that everyone who wants to be involved can be.”
Direct investing for the masses
While CFI will be new in the American marketplace, it already exists and is operating successfully in England and elsewhere, Oyler said. And with the success of crowdfunding rewards sites like Kickstarter – which since its launch in 2009 has helped connect some 35,000 projects with $450 million in funding from more than 3 million donors – the potential fundraising capacity for crowdfund investing is staggering.
There’s still debate as to whether the majority of CFI-seeking businesses will be traditional bricks-and-mortar small businesses (think locally owned salons or restaurants) or techy start-ups. Likely, there will be a mixture of both.
Initially, Oyler believes debt crowdfunding – in which investors loan small amounts to businesses for some rate of return or against business assets – may be even more popular than equity crowdfund opportunities, due to perceived greater security.
Cincinnati-based SoMoLend.com, which launched last May, is at the forefront of debt crowdfunding opportunities nationally, already connecting small businesses with loans from banks and accredited lenders. In just one year’s time, without any marketing, the site has seen approximately 5,000 businesses sign up for loans on its platform, said SoMoLend’s CEO Candace Klein.
When CFI goes live in the United States later this year, “small businesses who may have trouble getting bank loans will be able to access capital from local investors who are their own customers, who know the most about the business, and who will be able to grow their wealth as the business grows,” she said.
What excites Klein the most, though, are the opportunities crowdfund investing is bringing to women and minorities – both as small business owners and as investors.
“Seventy percent of our borrowers are women and minorities, and about 70 percent of our individual investors are women and minorities,” she said. “It’s opening business growth and investment opportunities to an entirely new segment of the population. I feel like it’s the modern day equivalent of the suffrage movement,” Klein said. “It’s opening doors for a new population of people to access capital. It’s so exciting.”
Robin Roenker is a correspondent for The Lane Report. She can be reached at [email protected].