Innovative thinking and new market pressures are removing many of the barriers that once stood between small businesses and the capital they need to launch and grow. Now more than ever, small and medium-sized companies are finding success by raising funds from everyday investors.
The Jumpstart Our Business Startups Act was passed in 2012 to streamline financing options for small businesses and to increase crowdfunding opportunities for investors. While the Securities and Exchange Commission has been slow to rule on aspects of the JOBS Act, several states, including California, have been pushing for local legislation to better facilitate crowdfunding.
Crowdfunding has become a popular, cost-effective way to attract capital without engaging in expensive, regulated equity trading on a stock market, taking on pricey bank loans or gambling on venture capitalists. Online portals like Fundable, IndieGoGo and Kickstarter list businesses seeking seed money, with fully developed marketing and business-model information, allowing the average person to pledge money in exchange for prizes and rewards. This style of fundraising is perfectly legal as long as the rewards for donating aren’t actual stock in the venture (which is known as equity crowdfunding, open only to high-level investors, some 8.5 million individuals in the US).
A number of Capital Region businesses have found great success in raising initial capital through crowdfunding: On Kickstarter there are currently some 20-odd local companies, ranging from local bands to an artisan skin care line, trying to raise funds for their next big thing.
In the Sac App, a smartphone app designed for locals and visitors alike to discover fun and useful aspects of the region, is currently raising funds on Kickstarter. Michael Broughton, CEO of Blanket Marketing Group, worked with the creators of the In the Sac app on launch strategy. “Crowdfunding is very viable for apps or brick-and-mortar plans: Your project gets out into the world faster, you can test the market cheaply and make adjustments based on feedback. That’s not possible with an IPO,” he says.
Recently, the SEC addressed several aspects of small business investment in the JOBS Act, expanding the pool of potential investors to include those with a net worth of less than $1 million; raising the amount companies can offer in a private stock trade to $50 million and reducing the number of state and federal registration levels these offerings must endure..
Smaller businesses are still waiting for the final set of rulings the SEC must make on Title III of the JOBS Act, the most ambitious part of the law. It would create a new space in the business world for mom-and-pop investors and small businesses seeking capital through equity trading, without the expense of SEC registration that larger investments must leap through. While the nation waits on federal law to expand, several California bills might bring this grassroots-style exchange to pass here much sooner.
Proposed by Assemblyman Henry Perea, Assembly Bill 722 would enable small California businesses to raise up to $1 million annually through the sale of stock to everyday investors, who can contribute up to $5,000, or 10 percent of that investor’s net worth, whichever is lower. These ventures would also now be able to publicly solicit potential investors within the state via email, traditional advertising or other online avenues, such as social media. Currently, only those with prior relationships to the venture could be solicited for stock sales not made on a formal exchange platform, like the New York Stock Exchange. Companies would not have to funnel through for-profit portals like Kickstarter (which take a percent of monies raised on their site), instead ponying up a mere 0.4 percent of the issuance to cover review costs..
The Local Economies Securities Act, Senate Bill 577, proposed by state Sen. Ben Hueso, focuses on agricultural and renewable energy enterprises seeking equity crowdfunding opportunities. This framework would allow up to $100 per investor for an offering of up to $100,000, or $1,000 per investor for stock sales up to $500,000.
Member-owned consumer companies like co-ops may also see benefit, as the ceiling on investment from their members would grow from $300 to $1,000. Paul Cultrera, general manager for the Sacramento Natural Foods Co-op, notes that while raising the ceiling on buy-in from members is a good concept, the co-op doesn’t plan on changing policy soon.
“Three-hundred dollars doesn’t buy what it once did, but there is a cost barrier for many co-ops and their members,” Cultrera says. The co-op raised its membership costs by $100 seven years ago, after more than 20 years at $200 per member, and has recently developed a tiered preferred stock offering to facilitate the store’s upcoming move in midtown Sacramento.
Eric Ullrich, co-founder of Hacker Lab, a co-working nonprofit for startups, and a former selections committee member with venture capital group Sacramento Angels, sees all of this as small steps toward a more secure and dynamic small-business stock exchange, potentially impacting how small businesses and startups operate — and not necessarily the way the laws intend.
“I think for the small business, I’d want to sell product, not stock,” he says. “The other side of this is return on investment, the liquidity of these assets. In order for me to make money on my investment, the company has to grow very big and have some sort of second market offering eventually, where I can sell my shares for a profit. Otherwise, I’m just sitting on these shares with no idea if their value is increasing and no way to profit.”
Another consideration for this public model of fundraising is intellectual property and the need for tech start-ups especially to keep their business model and product details close to the vest. As a business, says Ullrich, “You’ve got your product, your employees to manage — you don’t want to have to answer to a thousand investors. There’s customer service and now there’s investor service, too.”
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