Revenue-Based Finance (RBF) is a type of capital provided to growing businesses in which investors give funds in return for a pre-determined percentage of ongoing gross revenues. Repayments are due until the principal and a predetermined multiple of revenue are paid back.
Equity-Based Crowdfunding
Equity-Based Crowdfunding is a way of raising money to finance projects and businesses based on small slivers of equity. Company owners typically utilize equity crowdfunding platforms to raise capital from their community of customers or backers.
Equity-based vs. rewards-based crowdfunding
Equity-based crowdfunding differs from rewards-based crowdfunding, also known as creator funding or project crowdfunding. But equity crowdfunders expect to be repaid through equity appreciation, whereas rewards crowdfunders do not.
Equity crowdfunding involves similar mechanisms to rewards-based crowdfunding, but the capital raised involves the sale of securities in a private company, in the form of shares, convertible notes, debt, or revenue.
When companies use rewards-based crowdfunding, they do not give up any ownership and the capital is therefore considered “non-dilutive,” meaning that founders do not give up any ownership to providers of this type of finance.
Equity-based crowdfunding is dilutive, but typically in small increments of many equity holders with small amounts, sometimes as small as $500 or $1000. In the US, for angel and venture investing, investors need to be accredited, meaning they have to make at least $200,000 a year or have a net worth of $1 MM (minus real estate holdings). But Equity Crowdfund investors can invest without meeting these requirements.
Example Crowdfunding Platforms
Republic | Seed Funder | We Funder | Angel List | Start Engine
Is Equity-Based Crowdfunding the right capital for your business at this stage?
COMPANY PERSPECTIVE
Benefits
- Invite customers and their community to have "skin in the game" with the founders
- Allow non-accredited investors to invest
- Attract a much wider pool of backers than in a traditional VC or angel model
Challenges
- Crowdfunding campaigns are time-consuming and you may spend time applying and not raise money
- Regulatory limitations make it expensive for small companies to crowdfund on their own
- While the limit for Equity Crowdfunding has been raised to $5 MM in the US, companies have to turn non-accredited investors away after that amount has been reached
Key Performance Indicators
- Percent of funding goal met
EQUITY CROWDFUNDER PERSPECTIVE
Benefits
- Back a company you believe in, share in the ownership and upside
- Easier to access and execute a deal on crowdfunding platforms (vs. spending on legal fees)
- More money goes directly to the company, rather than a fund or intermediary
Challenges
- Investing in startups is risky and there is no evidence that crowdfunded companies have better odds than angel-backed companies (1 out of 10)
- Due diligence is time-consuming relative to the potential return of a small investment
- Investment is illiquid
Key Performance Indicators
- Internal rate of return
When it Works Well
The company has a community
Companies often overestimate the strength of their email list and social media connections and underestimate how many early potential customers are actually project backers. Those that do well actively cultivate a customer community who respond to any offer of engagement with the product, service, company, or founding team.
Financials are ready
Unlike Rewards-Based Crowdfunding, Equity Crowdfunding is regulated by the Securities and Exchange Commission in the US and companies must share their financials.
Compliments other capital types
It helps if you’ve also been able to attract a lead established Angel Investor and have successfully raised funds in the past to give confidence that you know how to steward “other peoples’ money.” Some equity-based crowdfunding platforms call this type of capital the “community round,” expecting later-stage VC in further rounds of funding.
Challenges to Equity-Based Crowdfunding
Limits to growth
If the company raises the max amount of $5 MM but needs more than that amount to fund effective scale and get to profitability, the company may stall and struggle.
A successful Equity Crowdfunding on its own is not enough for the company to proceed to later Venture Capital stages.
Limits to upside
A company that seeks profitability as a near-term goal may not want to pursue additional rounds of funding or seek an exit strategy when the company is acquired or sold. Investors then are left holding “illiquid” investments without necessarily clear paths or timelines for return.
Not available everywhere
Not all countries make it easy for investors to receive ordinary shares when participating in equity crowdfunding. Instead, investments are considered as a financial contract so that investors participate in future cash flows or profit-participating loans, but investors do not have a say in the company’s strategy.
Trends in Equity-Based Crowdfunding
Recent limits raised
The demand for new types of equity, debt, and real-estate crowdfunding platforms is accelerating with shifting legislation. The JOBS Act which legalized fundraising in exchange for equity ownership finally raised the limits for funding.
The upper limit in the US was raised from $1 MM to $5 MM in March of 2021, resulting in successful raises for companies like Gumroad.
Real estate vs. startups
Real Estate Equity-Based Crowdfunding was more successful at the start, potentially because the investments were backed by the asset.
Meanwhile, it’s taken time for high-quality tech startups to raise money this way. They are at higher risk, typically have no hard assets backing the investment, and have most of the value in the future potential of the founders, the technology, and the customers.
Changing investor requirements
In the US, the SEC adopted new rules that allow certain investors to qualify as accredited not only by income and net worth requirements but by profession and/or holding certain certifications.
Wealth and income alone do not make for an accredited investors. This is enabling a younger generation of investors to participate in backing private companies.
Before You Consider Equity-Based Crowdfunding
- Do you have a large and engaged network that will show up to invest in your business?
- Do you have the time to manage a successful campaign?
- Are you certain about the timeline?
Exploring Equity-Based Crowdfunding
- Take a look at Republic, We Funder, and Seed Invest to see the different types of companies and creators across these leading platforms
- Consider crowd investing to learn how it works
- Compare the time investment for running an Equity Crowdfunding campaign vs. fundraising other types of capital
- Plan out your funding and capitalization strategy to figure out if Equity-Based Crowdfunding might be right for you, or if it compliments an overall capitalization strategy
Discover Alternative Capital
Equity Crowdfunding is one way to grow your company, and you can choose other capital types as an alternative or pair and combine at different stages of your business. Consider these alternative capital sources or explore our Capital Library.
