Saturday, September 15, 2012

Adventurous Capital

The SEC shortly will ease limits on individual investing in venture-capital projects. Going with the “crowd."

Earlier this year Congress passed the Jumpstart Our Business Startups, or JOBS, Act, which had rare bipartisan support. Of interest to retail investors, the small-business stimulus measure would ease some Securities and Exchange Commission restrictions on how new stock offerings in start-ups are publicized and sold to individuals, including over the Internet. A number of Websites already are being developed to facilitate what’s called “crowdfunding” for small enterprises, and more can be expected as the act is implemented, most likely early in 2013.

The SEC is required by the act to modify the prohibition against general solicitation and advertising contained in the Securities Act of 1933. Investors will still need to be “accredited” to participate, in order to limit the possibility of a devastating loss. As a result, caps will be placed on how much a person can invest relative to his or her annual earnings or net worth. The agency released its proposed rules on Aug. 29, though they are still vague in some areas and will become more specific as responses to the proposal are evaluated.

In the meantime, those interested in funding start-ups can browse sites such as Kickstarter (kickstarter.com) and Indiegogo (indiegogo.com), both of which operate under a donation model. When you invest in a project listed on one of these sites, typically you are promised a product in return. The more you donate, the more you are promised. A large majority of the projects listed on Kickstarter and Indiegogo come from aspiring musicians and artists, but you might also find some tech toys as well. One of the most popular projects on Kickstarter was the Oculus Rift, a virtual-reality headset for videogames. Those who donated $10 got a “sincere thank you,” while those who donated $575 or more were promised a developer kit for the device itself, allowing them to write a videogame for the headset.

These generous individuals who helped get the Oculus Rift off the ground did not, however, receive any kind of equity in the company. The provisions of the JOBS Act will, in time, allow early investors to receive an equity stake in a pre-IPO company.

There are other sites that focus on microfinancing, allowing an investor to make a small loan to a company or individual in need. These include Prosper (prosper.com), which seems to list a lot of individuals looking to borrow money, and AngelList (angellist.com), which helps fledgling start-ups locate financing.

FIRST FUNDER (firstfunder.com), launching later this month, is poised to take advantage of crowdfunding based on equity investing rather than donations. According to CEO Jonathan Beninson, the founders have been working on this concept for nearly two years, starting well before the JOBS Act came along.

“We’re partnering with entrepreneurship programs, including those at universities,” says Beninson. “These programs will qualify a company in some way, either through mentors or access to experts.” These partnerships create a community of entrepreneurs, investors, and an interested organization. Beninson notes, “The benefit of investing in a start-up that comes out of your community is that you’re investing in a known quantity. You’re not investing in a Nigerian prince” who’s e-mailing you for money.

First Funder’s model is unique because the potential investments are vetted and have some backing that goes beyond financial. The site plans to merge elements of microlending to individuals and small companies with equity and donation-based crowdfunding. Before First Funder (or any crowdfunding site) can enable equity-based crowdfunding, though, the SEC rules have to be finalized. Beninson says, “At First Funder, we’ve prepared a variety of strategies to react to whatever comes down the pipeline. But we don’t know what they are yet.”

The site organizes projects in a variety of ways, including by program partner such as incubators, universities, or associations. You can also browse by category, such as arts, finance, technology, science, and environment, or health and medicine.

We expect to continue monitoring the development of crowdfunding as the SEC rules are clarified, and as additional sites make this form of investment possible. 

Published in Barron’s, September 10, 2012. 

Posted by twcarey on 09/15 at 01:41 PM
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