If I Raise Money Using Crowdfunding, Will I Be Able To Raise More Money Later?

 

I have rarely attended a Crowdfunding conference where this question wasn’t asked. Maybe those of us in the industry haven’t done a good enough job answering it.

Before getting into details, I’ll note that it is no longer a hypothetical question, as it was when the JOBS Act was signed into law in 2012. Today, many companies have indeed graduated from Crowdfunding to venture rounds, to angel rounds, to Regulation A offerings, and even to IPOs.

But judging from the look on the faces of the audience, that answer never seems completely satisfying. Isn’t there something about Crowdfunding that sophisticated investors don’t like?

The answer is “Only if the Crowdfunding round is done wrong!” So:

  • Institutional investors don’t want anyone else participating in their round. If you give your Crowdfunding investors preemptive rights, or the equivalent of preemptive rights, the institutional investors won’t like it. That’s why you don’t give your Crowdfunding investors preemptive rights.
  • Institutional investors don’t want anyone but you managing the company. That’s why you keep your Crowdfunding investors (and friends & family investors) out of management. Ideally, you issue non-voting stock (or its equivalent) to the Crowdfunding investors, and don’t permit representation on your Board.
  • Institutional investors want to know what they’re getting into. If you conduct your Crowdfunding round carefully, with clear legal documents, that’s not a problem.
  • Institutional investors don’t like surprises. They don’t want to learn afterward that your Crowdfunding investors, or anyone else, have rights they didn’t know about. That’s why you form your entity in Delaware, which gives the parties to a business transaction more or less unlimited freedom of contract.
  • Institutional investors don’t like a messy cap table. There’s no reason to have a messy cap table in Crowdfunding. Often, we bring in Crowdfunding investors through a special-purpose vehicle, or SPV. We can also issue to Crowdfunding investors a separate class of stock. One way or another, we keep the cap table clean.
  • Institutional investors worry about legal claims brought by Crowdfunding investors. Of course they do! That’s why we conduct the Crowdfunding offering correctly, just as we conduct the institutional round.
  • Institutional investors don’t like sharing information with all those investors. With today’s technology tools, communicating with investors isn’t difficult, and Delaware law allows us to limit who gets what. But it’s certainly true that the more investors you have, the more people get the information.
  • Institutional investors just don’t like hanging out with the riffraff. That’s never stated outright, but implied. If we address all the real issues, I have never found it to be true.

As Crowdfunding gains traction, I expect institutional investors to embrace it fully, as another facet of their own business models. In the meantime, be assured that if done right, raising money through Crowdfunding today will not keep you from raising more money in the future.

Questions? Let me know.

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2 thoughts on “If I Raise Money Using Crowdfunding, Will I Be Able To Raise More Money Later?

  1. Anthony Zeoli January 19, 2017 at 12:54 pm Reply

    Great article as always Mark. I also recommenced to my clients including “drag along” rights as well as other buy-out/redemption options (even on an individual person level) in equity deals to ease in later round sales/capital events.

    • crowdfundattny January 19, 2017 at 2:41 pm Reply

      Thanks Anthony. Great comment as always. Definitely Yes to the drag-along rights. I’ve also heard people suggest giving the Company the right to redeem the Crowdfunding investors – in effect kicking them out of the deal. That would definitely allow the Company to clean up its cap table but I don’t think it’s a good idea (no sane investor would go for it) and am also opposed on principal. It’s like saying “Okay, now that you ‘little people’ have taken all the risk to get the Company started, we ‘important people’ are going to reap the rewards.” As you and I know, all the pieces can work together if it’s done right.

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