Crowdfunding Is About to Go Bananas

The idea is to democratize capital, making investment more accessible to more people while also making fundraising easier for startups, which previously had to rely on clubby Silicon Valley connections to raise money.

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Sep 25 2013, 1:15pm

Although it's still best known as the go-to cash source for indie bands, Zach Braff, and guys who want to build their own robots, crowdfunding took a big step into the mainstream this week, thanks to a new law that paves the way for entrepreneurs to take their fundraising requests straight to the masses. 

The rule, which went into effect on Monday, allows startups to publicly solicit funding from potential investors, ending an 80-year ban that prevented companies from announcing when they were looking to raise money. Until this week, if you wanted money to build your own dating site or underwater done, you had to ask for it privately, in closed door meetings and emails with private investors. But under the new provision—part of the 2012 federal JOBS Act—anyone who needs funding for a business venture will be able to market private share offerings publicly, using social media, websites, newspaper ads, billboards, and whatever other means they have at their disposal. 

The idea is to democratize capital, making investment more accessible to more people while also making fundraising easier for startups, which previously had to rely on clubby Silicon Valley connections to raise money. 

So far, though, only the latter goal has been accomplished: While startups can market their private share offerings to everyone, they can only accept funding from "accredited investors"—people with $1 million in net worth or $200,000 in income—under the assumption that those investors are wealthy and sophisticated enough to take on the risk. True Kickstarter-style equity crowdfunding won't be available until another provision of the JOBS Act goes into effect, likely sometime in 2015. That rule will allow startups to raise up to $1 million a year from the general public. 

Still, the regulations that went into effect this week open the floodgates for a larger, if slow-moving, crowdfunding revolution. "This does have game-changing potential," said Chris Tyrrell, chairman of the crowdfunding lobbying group CFIRA (short for Crowdfund Intermediary Regulatory Advocates), and CEO of OfferBoard, a small-scale equities offering platform that is launching as a result of the new rules. 

"It's potentially revolutionary for the way companies raise capital, it lets them do a lot of things that were just previously impossible," Tyrrell added. "Now you can reach out to the world—through social media, through advertising—and let them know that you're raising money." 

Tyrrell also noted that it's not just entrepreneurs that benefit from the new fundraising freedom. "It's going to change the way growing companies, family-owned companies, mom-and-pops, raise money in the private euity market," he said. "It's going to change the way everyone who is still a private company raises capital in the United States." 

Crowdfunding is not without its drawbacks, as anyone who's ever donated to a failed Kickstarter can attest. The original ban on general soliciting was put in place during the Great Depression to protect trusting grandmas from shady investment offers, and critics of deregulation fear that the new rules will unleash a flood of 21st century snake-oil startups onto unsuspecting and unsophisticated crowdfunders. To stem the potential for fraud, the federal Securities and Exchange Commission is currently considering new safeguards, including rules that would require companies who solicit equity funding to prove that their investors actually are accredited and submit their advertising materials to government regulators. 

But despite the criticism, it's already clear that crowdfunding is the future—and that future is fast-approaching. Within hours of the new rule taking effect on Monday, a crop of companies, including PeoplesVC and WeFunder, announced that they will serve as portals to connect accredited investors with startups looking for funding—and those firms say they will be ready to take funds from anyone whenever the law allows it. One accredited investor told Motherboard Wednesday that she has been aggressively courted from the moment the SEC "said go." 

"It almost feels like Land Rush Times," she added.