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As a small business owner, it can be difficult to attract traditional investors to help fund your startup. For example, less than 1% of startups receive funding from angel investors and only 0.05% of startups receive venture capital, according to crowdfunding platform Fundable.
On a positive note, you may be able to leverage company stock in exchange for capital through a strategy known as crowdfunding. Equity crowdfunding is not the right approach for all entrepreneurs. But if you’re interested in debt-free ways to fund your business, this might be for you.
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What is equity crowdfunding?
Equity crowdfunding is a unique way to raise capital for your business without incurring new debt. It is a form of fundraising that attempts to attract willing investors to contribute financially to your business goals in exchange for a financial stake in the business.
In general, equity crowdfunding is a business financing model that involves raising small amounts of money from a larger number of private investors. Potential investors may be able to get involved for as little as $100. This approach differs from trying to attract large investments from venture capitalists or angel investors – an enterprise capital strategy that is out of reach for many established startups and small businesses.
How Equity Crowdfunding Works
Equity crowdfunding is also called regulatory crowdfunding because it is regulated by the federal government. Even if you don’t sell stock on the stock exchange, your company still offers equity to investors in exchange for capital. As a result, the process involves more rules than you would encounter with a simple online fundraising campaign like GoFundMe or Kickstarter.
If you want to use crowdfunding to raise capital for your business, it’s essential to follow the rules. Otherwise, you may face unpleasant consequences. For example, breaking the rules may require you to repay the investments you receive. In some cases, the United States Securities and Exchange Commission (SEC) may even freeze your company’s ability to offer stock to investors for a period of time.
Below are some of the steps you will need to follow to sell trading shares through an online crowdfunding platform.
- Work with an SEC-registered broker (aka a funding portal) to process all investment transactions
- Do not accept more than $5 million per year in crowdfunding investments
- Follow federal limits on the amount you accept from unaccredited individual investors over a 12-month period (amounts vary by income)
- Make public all necessary financial information, depending on the amount of funds raised by your company
Beyond legal concerns, you’ll also need to craft a compelling campaign if you hope to energize audiences and convince others to invest in your business. A good crowdfunding campaign should communicate key details to potential investors, including:
- The amount of money you need to raise
- How do you plan to use the funds
- Your target customers
- Your profit margin
- What makes your business different from competitors
- Why Investors Should Support You
Equity Crowdfunding vs. Other Types of Crowdfunding
With equity crowdfunding, you can attempt to raise funds from private investors and offer unlisted shares of your company in return. This model differs from the offering of shares of a company on an official stock exchange. However, you will still need to register with the SEC to participate in this form of stock-based fundraising.
Of course, offering shares of your company to potential investors isn’t the only form of crowdfunding out there. There are other ways to reward and attract investors through crowdfunding platforms that don’t involve giving up elements of your business.
Reward-based crowdfunding is another fundraising option that may appeal to entrepreneurs who don’t want to incur debt that needs to be paid off. This form of crowdfunding solicits contributions from funders and offers some type of benefit in return.
The rewards you offer to contributors can be as simple or as complex as you want. For example, an author can donate copies of their book before publication or a massage therapist can reward donations with gift certificates for future services.
Keep in mind that it may take some trial and error to find rewards that motivate people to support your vision. Some entrepreneurs also offer different types of rewards depending on how much a contributor also contributes.
Debt crowdfunding is a cross between traditional crowdfunding and a small business loan. With this type of business financing, you take out a loan from a crowd instead of a financial institution or online lender.
When you use debt crowdfunding to finance your business, you will have a loan agreement just like you would with a lender. You will repay the borrowed money, plus interest, over an agreed number of months. However, you do not have to offer shares of your company to obtain this type of financing.
Donor crowdfunding, also called donation-based crowdfunding, is a process that involves people contributing money to a cause without expecting anything in return. For example, friends and family members can donate money to support a loved one’s dream of opening a new business. Charities and nonprofits can also use this form of crowdfunding to solicit donations from supporters who believe in the cause they represent.
There are many online platforms available for donation-based crowdfunding campaigns. Some examples include GoFundMe, CrowdRise and Fundly.
Since the SEC regulates equity crowdfunding, you must use an SEC-registered funding platform if you want to solicit funds from the public in exchange for stock in your company.
Despite regulatory hurdles, there are a number of crowdfunding platforms available. As a small business owner, this is good news. You can check several sites to find the option that best suits your situation.
Below are nine crowdfunding sites to consider.
Advantages and Disadvantages of Equity Crowdfunding
As with any form of business financing, there are positives and negatives to consider when it comes to crowdfunding.
Benefits of Equity Crowdfunding
- Equity crowdfunding offers a business financing solution if you cannot access sufficient funding elsewhere due to credit issues, income limitations, or other lender requirements necessary to qualify for a business loan. .
- There is no debt to repay.
- By working with more investors, you may be able to raise more money.
- As a business owner, you can structure crowdfunding campaigns to retain the majority of your business equity and offer only a small portion to investors.
- You may be able to attract non-traditional investors to support your business goals.
- You can gain exposure and build excitement even before you launch your new business.
Disadvantages of Equity Crowdfunding
- You are now giving up a portion of your company’s future profits in exchange for cash.
- Under SEC guidelines, you must disclose your company’s financial details to potential investors, which means almost anyone can access this information.
- There is a risk of public failure if your crowdfunding campaign fails.
- Equity crowdfunding platforms charge fees and may retain a percentage of the funds your business raises (often 5-15%) as a commission.
- Traditional investors are unlikely to be interested as it can be difficult to resell the shares of small companies without incurring financial loss.
- Crowdfunding campaigns can take time, and there is no guarantee that you will generate enough funding to make the time commitment worthwhile.
Alternatives to crowdfunding
Equity crowdfunding can be a great way to raise capital for some entrepreneurs. However, for some companies this is not the right approach, and for others it may just be one piece of the overall funding puzzle. If you need an alternative to equity crowdfunding or a way to supplement the funding you raise, one of the three options below might be worth considering.
Small business loans are a more traditional way to generate the capital you need to start or grow your business. There are also many options when it comes to small business loans, from affordable loans from the US Small Business Administration (SBA) to online business loans that can work well for new businesses and others who are struggling. qualify for traditional financing.
Business credit cards
Business credit cards offer a flexible way to borrow money for your start-up or existing business. If you have good personal credit, there are many business credit card options that may be easier to qualify for, even if your business is new.
If you have a promising start-up business, you may be able to attract funding from venture capitalists or angel investors. While trying to work with accredited investors isn’t the right move for every new venture, if you’re successful, you may be able to secure enough funding to take your startup to the next level.
Find the best small business loans of 2022