The Risks and Rewards of Crowdfunding

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Crowdfunding is a promising way for startups to raise money from small investors, but there are a number of issues you need to be aware of before you take the plunge.

Last year’s JOBS (Jumpstart Our Business Startups) Act promises to make it easier to accept small investments, but here are some of the things you need to consider, courtesy of Joe Taylor Jr. at Small Business Computing.

Like traditional angel investments, crowdfunded investment rounds mean you surrender an ownership stake to a pool of qualified investors in exchange for funding. The JOBS Act requires companies to use registered broker-dealers to manage investments and handle paperwork. The process will likely resemble current crowdfunding platforms, with broker-dealers charging commissions on successful investment rounds. The act limits most Americans’ investments to 5 percent of their annual income, with an extension to 10 percent for investors who earn more than $100,000 per year.

But there are a number of caveats to consider before jumping in. Investors may demand a say in how you run your company. It is also possible that an inexperienced small business leader could quickly burn through a funding round without achieving measurable results.

One other issue to consider is your company’s valuation. A crowdfunded investment round could raise the valuation of your company, making it less attractive for bigger investors later on.

We’re still waiting for federal regulations under which broker-dealers can advertise crowdfunded investment offerings, so stay tuned as this important funding option develops.

Adapted from Details and Dangers of Crowdfunding Under the JOBS Act by Joe Taylor Jr. at Small Business Computing.

4 comments
acremades
acremades

Good article, Paul. However, please consider revising the following points: 1)The JOBS Act doesn't require registered broker dealers, it requires the platforms to be registered funding portals 2)No limitations for people making over $200K (accredited investors) 3)Investors participating do so via convertible preferred stock where they relinquish their voting rights, so their are no problems for later rounds. Would love to explain in detail. Shoot me an email at alejandro(at)rockthepost.com

Paul_Shread
Paul_Shread

@acremadesThanks, Alejandro. The rules are very much up in the air, but consider one quote from Cringely: "it appears the SEC is uncomfortable relying solely on crowdfunding portals to handle the deals and is leaning toward requiring registered broker-dealers be part of each crowd funded transaction." (http://www.cringely.com/2012/11/17/jobs-act-crowdfunding-is-unlikely-to-help-most-startups/) So the Act as implemented could turn out differently, but you raise a very good point.

acremades
acremades

@Paul_Shread thanks for your response Paul. Please note that we are launching our investment crowdfunding portion on March 5th where we address all these points. Feel free to register for early access @ http://www.rockthepost.com