Despite all the hype and hoopla about pent-up demand for equity crowdfunding, few U.S. companies are actually using it. Elsewhere, even where it’s being utilized more, it isn’t yielding the bonanza of capital we’ve been told to expect.
The U.S. numbers can only be described as paltry. In accordance with their federal Jumpstart Our Business Startups statute (the JOBS Act), an equity crowdfunding exemption has been available under Securities and Exchange Commission regulations across the U.S. since 2014, but so far only 11 applications have been filed to use that exemption. Intrastate crowdfunding is also available in 29 states — some since 2011 — yet just 179 businesses have pursued it.
Likewise in the U.K., equity crowdfunding has been happening since 2011. It’s been helped along there by generous tax incentives (allowing investors to deduct the amounts they invest and shelter portions of any gains they may someday realize on investments in startups), so by 2014 nearly 2,000 companies had experimented with equity crowdfunding. But those campaigns only raised, on average, about £87,000 ($146,000. That’s a far cry from the £5-million ($8.4 million) limit allowed under U.K. securities laws.
Things aren’t much different on the European continent, where equity crowdfunding in 15 countries yielded a combined total of just €82.56 million ($118.9 million) in 2014 — averaging a scant €5.5 million ($7.9 million) per country.
The piddling trickle of interest in the U.S. has prompted some lawmakers there to conclude that the design of the exemption must have been bungled, and that equity crowdfunding therefore needs to be “fixed.” They’ve introduced a bill in Congress aimed at making equity crowdfunding a more useful and attractive tool to raise capital. How?
The bill would significantly increase the amount of money small companies can raise each year through crowdfunding. This might, indeed, cause entrepreneurs to reconsider crowdfunding as a serious option; and if lawmakers stopped there, the measure would be no more controversial than other exempt-market facilities.
But the bill provides that the increased amounts can be raised from unaccredited investors, and that unsophisticated individuals can invest a higher percentage of their income or net worth in crowdfunded equity offerings. It also ends the prohibition against using social media to whip up demand for those offerings, instead allowing pre-sale online outreach campaigns to “gauge” initial interest in the company’s shares.
In effect, the bill proposes to fix equity crowdfunding largely by watering down or stripping away measures designed to protect investors. It would sacrifice the public’s safety in order to goose demand for something that isn’t selling on its own — yet no explanation has been offered as to why such seemingly unnecessary and irresponsible action on the part of Congress is in the public interest.
If anything, politicians should be asking whether the moribund state of equity crowdfunding is a sign that it’s simply a poor concept built on a false premise.
The assumption all along has been that equity crowdfunding can successfully tap the same wellspring of money powering altruistic crowdfunding, but this assumption makes little sense. Altruists intend to part with their money. They want it to do some good, and of course they don’t want to be defrauded; but unlike equity investors, their priority isn’t getting the money back, so altruistic crowdfunding has been able to blossom despite the absence of consumer protection measures that provide accountability and help fend off frauds.
Also, the monetary stakes are typically much lower for individuals engaging in altruistic crowdfunding. Donations to Kickstarter campaigns aiding arts projects average around $75. In contrast, equity crowdfunding aims for investments in the range of $1,500 to $2,500 – amounts most consumers can’t afford to give away or lose.
And, crucially, it shouldn’t be assumed that equity crowdfunding strongly appeals to those seeking capital. They may view crowdfunding as an inefficient process compared to nailing down one or two angel investors. And given a choice, they might well prefer being accountable to a small group of experienced and practical investors instead of having to manage the sky-high expectations of an amateur multitude.
These distinctions should be kept in mind by Canadian regulators, whose recent expansion of access to the exempt market opened up a variety of avenues for funding. If it turns out that one of those avenues – equity crowdfunding – just isn’t the big draw that policymakers expected, they shouldn’t rush in to “fix” it, especially not by putting investors at more risk.
Instead, they should simply accept the wisdom of the entrepreneurial crowd, who have, perhaps, found the other avenues much more useful.
This article appears as an Inside Track op-ed in the online version of Investment Executive.
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