Equity Crowdfunding: The Good and the Bad

March 08, 2017

By Evan Kelly, Senior Communications Advisor for BBB serving Mainland BC

What is crowdfunding? Crowdfunding is big money these days! Ever since the advent of online companies like Indiegogo and Kickstarter, startups and entrepreneurs have more chances to raise money than ever before. Those two brands, of course, support smaller companies to raise money and build a brand by promoting a unique product or service. In return, investors (and I use that term loosely), get to be early adopters of the product or receive piles of swag and social media mentions. They are great platforms for artists who wish to raise money for an album where those giving money get a copy of the finished product and maybe a thank you note on the CD liner, but little more.

How much can you raise? Bigger companies raise cash for things like the latest electric bike which can cost several thousand dollars in a store. But investors can get in on the ground floor and pay less by supporting the build up. There is very little risk involved and it’s not an investment in the true sense of the word.

What can you expect? There is caution with these open fundraising platforms. Some scammers have made off with money without providing a finished product to the funders even though consumers are protected by the policies of the crowdfunding websites. Kickstarter, for example, has an all-or-nothing policy. If the venture does not meet its money raising goal, the project does not get off the ground, and you get your money back. This lowers the risk of failure from the beginning. Equity Crowdfunding is fundamentally different in that investors (and they really are this time as companies now become a security) get a piece of the business as a percentage, just like on the popular TV shows Dragon’s Den or Shark Tank.

Why do companies use this platform? This process is solving a problem that many startups face: access to capital. That’s a good thing. Usually, startups that don’t have capital or connections end up leveraging mortgages, begging, borrowing, and stealing from friends, or get by with a tenuous hold an on Angel investor. So in a sense, equity crowdfunding levels the playing field and potentially creates a lot of opportunity for entrepreneurs with big ideas to connect with those who wish to invest, without having to earn an MBA and network until you’re 80.

It starts with Uber! The biggest success story with equity crowdfunding you ask??...a little thing called Uber. First seed stage of funding netted 1.3 million in 2010, it’s now worth billions.

Who manages crowdfunding? Equity Crowdfunding is a relatively new thing and has spawned several online portals over the past few years. Here in BC, the BC Securities Commission only allowed equity crowdfunding in 2015 and limited monies raised to half a million a year. Typically, only accredited investors get to jump in on the ground floor of a startup before it goes the route of an IPO (initial public offering), but this has changed in the US and Canada and non-accredited investors can take part in equity crowdfunding regardless of experience or income.

The downside. Investors in equity crowdfunding inherit all the risk of a growing company which could go out of business as quickly as it begins. A far cry from shelling out twenty bucks for a yet-to-be-recorded album. As well, equity crowdfunding runs the risk of inexperienced investors throwing money at a bunch of bad ideas. The thinking is, if anyone can do this, then anyone will. And many, many will fail. Shrewd investors and experienced entrepreneurs likely won’t take this route because they know how it’s done in a traditional sense. They understand risk; they do their research and invest accordingly. And like the Shark Tank, siding with an experienced investor could let startups gain valuable insight on future moves. With equity crowdfunding, you don’t get access to the brains of top-shelf investors.

There is risk. Experts would advise investors hoping for the next Uber to be very careful when getting involved in equity crowdfunding. Like any real investment, one needs to balance the risk they are willing to take with the amount of money they wish to invest. In other words, how much can one stomach to lose? Especially when an Industry Canada Report indicates 50% of startup businesses in Canada fail after five years.