What is equity crowdfunding and what could the future have in store?
By Vanessa Malone
Equity crowdfunding is a capital raising method typically utilized by startups and small businesses, whereby companies leverage social media, email, and other digital marketing efforts to sell securities to fans and customers.
We have the JOBS Act of 2012 signed into law by President Barack Obama to thank for the Regulation A+ (Reg A+) and Regulation CF (Reg CF) exemptions that gave investors of all levels access to early stage investment opportunities. Traditionally, these private investment opportunities were reserved for high-net worth individuals. Equity crowdfunding works to level the playing field.
These new rules didn’t come into effect until 2015 and 2016 but in just 5 years, equity crowdfunding has established itself as an attractive way to raise meaningful capital from the crowd.
We’ve even seen a handful of unicorns that incorporated equity crowdfunding into their capital raising strategy: Cruise, BrewDog, and most recently Revolut have all reached valuations of over $1 billion and in turn have delivered hefty returns to their early-stage supporters.
While equity crowdfunding continues to reach important milestones, we believe that several hurdles have prevented it from reaching its full potential. These include investment limits, secondary liquidity, and general awareness.
Fortunately, a lot has happened recently on all of those fronts that we believe will position equity crowdfunding as an obvious addition to any companies’ capital raising strategy in 2020 and beyond.
Increased investment limits
On November 2, 2020, the SEC increased capital raising limits for equity crowdfunding. Notably, the investment limit for Reg A+ was raised from $50 million to $75 million and Reg CF from $1.07 million to $5 million.
According to startup database Fundz, the average seed funding amount in 2020 is ~$2.2 million. This meant that the previous Reg CF capital raising limit of $1.07 million immediately excluded more mature businesses capable of raising the average seed round from viewing equity crowdfunding as a viable option.
We believe these new capital raising limits could entice more established companies to incorporate equity crowdfunding into their capital raising strategy, which will inevitably bring more attention to the equity crowdfunding industry.
Push for secondary trading
A big gap in the equity crowdfunding infrastructure has always been secondary liquidity. Typically, investments in the private market are deemed illiquid as investors don’t expect to see a return for 5–10 years, depending on when a company is bought or goes public. Companies today are staying private longer which could push the potential to see a return on investment even further. We believe that in order for equity crowdfunding to continue to thrive, active secondary trading venues need to be part of the ecosystem.
We are seeing movement here. In the U.S., equity crowdfunding platform StartEngine just launched their Alternative Trading System (ATS) for issuers who raise capital on their platform. The company FAQ states that each stock trading on StartEngine Secondary will have individual market hours. In the U.K., Seedrs secondary market is open one week per month for trading.
Horizon aims to deliver the next step of this secondary liquidity evolution, powering active, real-time marketplaces for the entire equity crowdfunding sector.
Increased general awareness
Crowdfunding as a broader industry is seeing a general uptick in the wake of the COVID-19 pandemic. This isn’t surprising, as equity crowdfunding initially began making strides in an earlier economic downturn during the recovery years that followed the 2008 financial crisis.
While larger businesses traditionally turn to capital markets or to an existing audience of investors to raise necessary funds, these options are generally less accessible for start-ups and other smaller companies. Equity crowdfunding offers an innovative way for companies to mobilize their fanbases to raise necessary capital.
We believe that this will sprout interesting fan-driven asset classes. Horizon is helping to foster this trend with the launch of Global Fan Exchange, a sports platform that will allow fans to invest in their favorite professional athletes.
We believe that in the coming months and years, favorable regulation, maturing infrastructure, and increased adoption will continue to cement equity crowdfunding as a natural step in the capital raising process.
Horizon offers a suite of integrated securities software applications for compliant issuance through secondary trading of electronic securities. Truly a compliance-first business, our solutions combine Wall Street and Silicon Valley to power the next generation of exchanges and securities offerings in the U.S. and globally. Visit us at https://www.horizonfintex.com/.