Starting and building a business requires money. Entrepreneurs typically turn to banks, grants from development funds, angel investors, and venture capitalists—but it can be challenging for a new, unproven business to persuade lenders or outside investors to hand over capital.
The online era offers another option: equity crowdfunding. Through the support of customers, fans, and strangers who believe in what founders are building, crowdfunding has generated financing for millions of businesses and projects. Here’s how it works, and how you can use it to raise capital.
What is equity crowdfunding?
In equity crowdfunding, businesses turn to the public to raise capital—typically many small investments from a large number of individuals—in exchange for a stake in the company. Generally, each investor is entitled to an equity stake that’s proportional to their investment: If you invest more money, you’ll receive a bigger stake.
This exchange of equity sets the process apart from general crowdfunding on platforms like Kickstarter. There, founders and creators might offer funders a reward, product, or thank you note while they retain full ownership of their business or project.
Equity crowdfunding has been around for years, but until recently it was limited by federal securities laws to accredited investors, with the goal of ensuring investors understand the risks. Accredited investors are wealthy individuals or private companies that meet specific net worth and income criteria set by the US Securities and Exchange Commission (SEC).
In 2015, US regulators declared equity crowdfunding to be an exception to these securities laws, letting companies that use this process accept non-accredited investors. Regulators permit equity crowdfunding platforms to serve as intermediaries between companies seeking funding and investors, including non-accredited investors. Although there are still limits—for example, how much money you can raise—this lets you reach a much wider pool of potential investors.
Like any method of raising capital, equity crowdfunding offers both potential benefits and possible drawbacks.
6 advantages of equity crowdfunding
- Broader pool of investors
- Retention of company control
- Potential to raise money more quickly
- Diversification of capital
- More opportunities for non-tech companies
- Avoids debt and interest expenses
Crowdfunding can offer benefits to help you get your company off the ground. These include:
1. Broader pool of investors
For small businesses and medium-sized businesses, a major benefit of equity crowdfunding platforms is they open the door to a much broader pool of prospective investors. Rather than being limited to institutions like venture capital (VC) firms, private equity firms, and traditional lenders, you can raise money from a wide range of individual investors. This includes customers, friends, family, fans, or anyone else interested in supporting your business.
2. Retention of company control
When angel investors, VC funds, and other seasoned professionals invest in a company, they typically invest significant amounts and therefore receive significant stakes. This can dilute founders’ ownership and control over the company. Traditional investors like VCs may also require conditions like taking a board seat, regularly reviewing financial statements, or having a say in management decisions. In crowdfunding, you retain management control and don’t need to give board seats to outsiders.
3. Potential to raise money more quickly
Loans and VC deals can take months or even years to complete. Equity crowdfunding sites make it possible for you to go from underfunded to fully capitalized in as little as a few weeks. Online platforms make it easy for your backers to help you attract funding by mentioning your campaign to friends and acquaintances or posting about it on social media.
4. Diversification of capital
When you crowdfund, you automatically diversify your sources of capital, making you less dependent on any single source of funding. If a single, individual investor decides not to participate in a future round of fundraising, it matters less because many others may be willing to participate. In contrast, if a bank lender or VC backer declines to provide additional funding as your business expands, your business might be headed for trouble.
5. More opportunities for non-tech companies
Crowdfunding platforms can help a wide array of businesses access capital. VC backers often prioritize funding early stage companies in the tech industry that they believe have outsized growth potential. This means they pass over businesses that may have strong growth prospects but none of the buzz associated with tech.
6. Avoids debt and interest expenses
Borrowing to fund your business means taking on the obligation to repay the debt as well as incurring periodic interest expenses. Interest payments can drain your business’s resources, making it harder to achieve profitability. Depending on the type of debt, you may need to come up with a large lump sum payment when the debt matures.
4 disadvantages of equity crowdfunding
- No support from experts
- Limited investment amounts
- Challenging valuation process
- Possibility of missing funding goals
Raising capital through crowdfunding can have drawbacks, including:
1. No support from experts
When raising capital through traditional sources like a full-service investment bank or an angel investor, you often foster relationships with people who have expertise and a wide network of contacts who might be of use to your company. Raising capital online attracts investors from the general public who rarely have relevant business experience or connections to help your business.
2. Limited investment amounts
In the US, the Regulation Crowdfunding rules let a company raise a maximum of $5 million in a 12-month period through crowdfunding. Non-accredited investors are limited on how much they can invest, based on their net worth and annual income. The upper limit for an individual investor is $124,000.
The SEC puts these rules in place to protect less-experienced investors while still increasing access to potentially rewarding investments. But they limit how much capital you can raise through equity crowdfunding portals.
3. Challenging valuation process
Equity crowdfunding forces you to set a valuation for your company, part of which you are selling to the public. This is not necessarily required with other forms of funding, such as bank loans. Setting a valuation can be difficult. If you set the company’s worth too high, investors may balk, figuring they won’t get enough for their money. Value the company too low, however, and you might end up selling your equity for too little, diluting your own ownership stake in the process.
4. Possibility of missing funding goals
There’s no guarantee campaigns on equity platforms will succeed. Depending on the funding portal, a campaign that falls short of its goal may not receive any of the money raised. If that happens, the time and expense invested in your campaign may go to waste. The public nature of failing to meet the goal could reflect poorly on your brand.
How to seek equity crowdfunding for your company in 6 steps
- Develop your business plan or project pitch
- Work with experts to structure an offering
- Sign up through a registered equity crowdfunding platform
- Submit essential information
- Launch, promote and collect funds from your campaign
- Distribute equity and executive your plans
Undertaking an equity crowdfunding campaign requires a number of steps.
1. Develop your business plan or project pitch
Your crowdfunding pitch is a crucial part of attracting investors on a funding portal. Show you’ve done your research on market trends, financial projections, and the need for your product or service. Show investors why you need funding and what you’ll use it for, whether it’s launching a new business or raising capital for a particular project or expansion of your company.
2. Work with experts to structure an offering
Financial advisers, lawyers, and other experts can help you determine the types of securities you will offer, the terms of the equity, and the valuation of your company. Legal experts can also ensure you structure both your company and the offering to meet equity crowdfunding legal requirements.
3. Sign up through a registered equity crowdfunding platform
In the US and other countries, only certain platforms are registered with regulators to allow investments from non-accredited investors. Review their terms, their popularity with companies similar to yours, and their unique benefits to ensure you choose the right platform for your needs. These registered equity platforms include Fundable, StartEngine, and UK-based Crowdcube, among others.
4. Submit essential informationThe funding platform you select will ask you to provide information for background checks to ensure that you are not disqualified from using crowdfunding under the SEC’s Bad Actor rules. You will also need to submit financial statements, business plans, and forecasts for prospective investors to review.
5. Launch, promote, and collect funds from your campaign
Once you’ve launched your funding campaign, share the news with customers, suppliers, family, friends, and other potential investors. When you’ve hit your financing target (or your campaign ends, depending on the platform and your offer’s setup), the funding platform will undertake a final vetting process before releasing the funds to your business. They’ll also take a fee for handling some of the legal and processing duties on your behalf. This charge may take the form of a percentage of the funds raised, transaction fees, or equity, depending on the platform.
6. Distribute equity and execute your plans
When your funding goal is met, your company will issue equity to backers based on how much they invested. You can then use the capital you’ve raised to launch your business or expand. You’ll update your investors about your progress and, depending on what happens, you may issue dividends or other payouts if the company becomes profitable or is sold.
Equity crowdfunding FAQ
What percentage do equity crowdfunding platforms take?
It varies depending on the funding platform and the specifics of your campaign. Charges may include a platform fee levied as a percentage of total funds raised, potentially 5% to 10% or more. It could be an additional fee when the campaign reaches its funding goal and a payment processing fee per transaction. It is usually a small percentage of each individual investment—around 2% to 3% of the amount invested, plus 20¢ to 30¢ per investment, though this can vary.
Are there limitations on the amount of money that can be raised through equity crowdfunding?
Most jurisdictions impose a ceiling on how much money you can raise through equity crowdfunding. In the US, for example, the Regulation Crowdfunding rule allows a company to raise a maximum of $5 million in a 12-month period.
Is equity crowdfunding limited to accredited investors only?
No. That’s one of the major benefits of equity crowdfunding. Registered equity crowdfunding platforms serve as intermediaries between companies seeking funding and their investors, including those who don’t meet the requirements to be accredited investors—making the pool much broader for potential funders.
Are there regulations in place to govern equity crowdfunding activities?
Yes, most countries have equity crowdfunding regulations to protect both businesses and investors. These rules often include disclosure requirements, investment limits, and fundraising through a registered platform, among others.