March 2013, stay tuned: how crowdfunding will change the worldPubblicato: 17 settembre 2012
Some stories happen only in America. This is one. It’s about how three entrepreneurs have convinced President Barak Obama to change the US Securities laws and legalize crowdfunding in a little more than one year. It’s the story of a revolution that it’s about to happen in front of our eyes starting from March next year: the democratization of startup funding.
April 2012, Barak Obama signed the JOBS act and starting from the second half of 2013 crowdfunding will be legal in America, something the President himself described as “game-changing”. Any US company will be able to raise funds online, leveraging its own social network of customers, partners and friends. What many don’t know is that the idea of leveraging crowdfunding for economic development is not something that some think thank of consultants came up with, but was the result of a crazy idea from three entrepreneurs: Jason, Zak and Woodie. Three friends, that decided to change the world and started lobbying the public opinion and the government with their game-changing idea.
Crowdfunding is a new segment in the wider ‘crowdsourcing’ space. It relates to the business of collecting capital online through social networks. Current legislation across the world limits capital investing to qualified investors, through the mediation of qualified intermediaries. A setup mainly aimed at preventing and limiting fraud. Nevertheless the recent history has made clear that this system does not work perfectly, to say the least. Furthermore, we now have two new incredibly powerful instruments which didn’t exist before: Internet infrastracture and social networks. There is no technical reason that can prevent us to digitalize financial transactions based on trust and it’s even likely that the collective intelligence and conversations of millions of people can do better and selecting investments, predicting trends and protect us from frauds and wrong practices.
So why isn’t crowdfunding legal yet?
Well that’s only because Securities laws need to be changed and a legal crowdfunding practice needs to be established. Which is exactely what Jason Best, one of our three heroes had in mind when he started lobbying the idea. Crowdfunding is already legal in the US for not-for profit entities (Kiva being the biggest example) which ‘donation based’ or within the limits of a ‘commercial’ transactions rather than a financial one. This is the reason why sites like Kickstarter and RocketHub have been able to operate and be thrive.
Prior to President Obama signing the JOBS Act it was practically impossible for startups and small businesses to get access to capital that was necessary to start their business. In fact, in a recent survey by the National Small Business Association, nearly half (43 percent) of small-business respondents said that, in the last four years, they needed funds and were unable to find any willing sources, be it loans, credit cards or investors. This failure to secure financing has caused 32 percent to reduce their number of employees, 20 percent to reduce employee benefits and 17 percent were unable to meet existing demand.
Jason Best, Principal of Crowdfund Capital Advisors works with his partners for organizations such as the World Bank and State Department—teaching them how to launch and implement crowdfunding frameworks in developing nations to investment funds and family offices helping them to develop crowdfund investment strategies—to increase overall deal flow. Jason currently serves as an Entrepreneur-in-Residence at the Center for Entrepreneurship and Technology at UC Berkeley.
Jason how did you come up with the idea?
I was trying to raise funds for our startups with my co-founders Zak Cassady-Dorion and Sherwood Neiss, we are all successful entrepreneurs . We were frustrated that in the post global economic crisis, there was no access to capital for small businesses and entrepreneurs. Collectively we had raised over $80M as leaders of previous companies. We discussed the problem and said “If I can lend money to small businesses in developing countries with http://www.kiva.org and I can donate money to artists and musicians on http://www.kickstarter.com, why can’t I invest my money in small businesses I use, and entrepreneurs I believe in?” We are living in a social media and real time web world. To us didn’t make sense that the laws on the matter were written in 1933, before most homes even had a land line telephone. So we decided to design a regulatory framework that would allow this new ‘crowdfund’ asset class. We setup the “Startup Exemption” blog and started to lobby in Washington for it.
Everyone told us it would be impossible to change the laws and they said we were crazy. Maybe we were crazy for trying, but that is what entrepreneurs do everyday – they do what seems crazy or impossible. It was an amazing feeling to attend the White House ceremony to watch President Obama sign the crowdfunding legislation just 460 days after we began our journey.
What were the initial reactions?
People liked the idea, but when we brought it to the Securities Exchange Committion they told us in several meetings that this was never to happen and in any case it would have required an ‘act of the congress’ to be permitted. There was also a big precedent. In 2008 an American beer company Pabst Blue Ribbon was trying to sell for $300 million. A clever social media marketer, Mike Migliozzi, suggested using the power of social media to find the money and started to collect small committmens from many individuals. It massively worked and SEC was forced to take notice and stop it, when Pabst had already generated $282 million from online investors. The story broke out on the Wall Street Journal and created a lot of buzz.
We created our Startup Exemption blog and one day someone from The White House called and asked for more information on our plan. Soon after, we had the opportunity to take our framework to the House of Representatives Committee in charge of government reforms, the office of Darrell Issa. They immediately recognized how this had the potential to create many employment opportunities and reduce the administrative burden on small businesses. Discussion among policy makers and business people built up and the pressure for Startup Exemption grew.
We were invited for a hearing by the Committe. The startup exemption act was included in the JOBS act (Jumpstart Our Business Startups Act), it was one of the fastest bill outside of war legislation to pass through Congress and to be signed into law in US history.
How did traditional banks react to crowdfunding?
It is funny, at first they ignored crowdfunding and our work in Washington DC. Now there are banks that are exploring it and what their relationship will be to crowdfunding. We see this as a benefit to banks. After a business has successfully raised money from crowdfunding, and the founders have demonstrated they can execute their plan, a bank may look at the business in a different view. The business may appear to be more worthy of a loan. We have met with a few US Banks already. They want to learn more about crowdfunding and are thinking of what it means to their business in the future. I believe that crowdfunding can be a way for businesses to prove themselves to banks, angel investors and Venture Capitalist, that they are worthy of professional investment. This creates more dealflow from higher quality companies.
Is there something that happened that was instrumental in moving the process?
The most important thing we did was to create a solution for the problem and then use a mix of social media and phone calls and visits to Washington DC to advocate for the solution . I believe you cannot be successful in making this change by asking government to create the solution. You will get a better results if you bring a solution for them to debate. We went to Washington DC and explained that crowdfunding was a way to create more jobs and strengthen small business. It is very hard for anyone in government to argue that those are bad things. Then we spent time proving to government officials that we could create regulations that protected investors from fraud while allowing entrepreneurs to raise capital. I believe that entrepreneurs and angel investors are best suited to create a balanced proposal to help entrepreneurs and protect investors. They are also highly motivated to create a proposal that will create a stable and successful market. We are working with angel groups and entrepreneurs in several countries to use our Startup Funding Framework as a starting point for creating the right framework for each country based on their own laws and culture.
Can you explain us the crowdfunding investing framework?
First of all we need to distinguis between what we call crowdfund investing and token crowdfunding. The latter is a form of donation or consumption (Kickstarter for example), while we intend crowdfund investing as the funding relationship wherein the investor receives some claim on the business’ future assets in retur for investor’s capital pledges.
The JOBS Act states that entrepreneurs can raiase up to $1MM per year from unaccredited investors and must follow reporting and accounting standards so that investors are informed about how the businesses are using their funds. It also changes the general solicitation laws so that potential investors can be solicited via social media.
For the first time in almost 80 years, the average American will be allowed to invest in any entrepreneur they believe in without limiting it only to the top one percent of Americans. There are some checks and balances however. Only entrepreneurs that pass a fraud and criminal background check can participate and all transaction must go through a Securities Exchange Commission (SEC) registered website. Further, a campaign must hit 100 percent of their funding target before they receive a penny of the capital—reducing risk of fraud even more.
There are already several crowdfund investing platforms being built so that once the SEC has completed its rule making, they can being to help entrepreneurs raise capital from their social networks.
Do you foresee some other countries besides the US that will follow the crowdfunding movement?
Australia has a limited version of crowdfunding that has been in existence for 7 years and has experienced no fraud. The UK also has a limited version of crowdfunding that has been available for about 2 years – also with no fraud. We have been contacted by several countries that are dealing with the issues of economic recession, high unemployment and outdated regulations. We have begin to work with these countries and their investors and entrepreneurs to explore how crowdfunding can create jobs and innovation while improving both economic and political stability. When people have jobs or own a business, they are less likely to seek regime change.
What is your expectation in terms of impact of crowdfunding for the future?
We are working with a global bank at this time to help them look at the role that crowdfunding will play in both the developed world and the developing world. I believe that crowdfund investing is truly disruptive to the way that small businesses will raise capital. It has the opportunity to engage communities of geography, communities of origin and communities of interest in helping their friends and business associates pursue their entrepreneurial goals. This does not mean that everyone can or should be an entrepreneur, and it does not mean that money will fall from the sky as soon as people ask for it. Raising money is always difficult. What it does provide is a new funding source for smart, driven and hardworking people. So many individuals have money in bank accounts and are afraid to invest in the public stock markets. I believe they may be willing to invest a small portion of their savings in businesses and entrepreneurs they know who create products and services they love.
The other huge change/impact is transparency in the private capital markets. Crowdfunding creates Web 3.0 – where the social Web (Web 2.0) meets capital formation. The social Web is very transparent. Entrepreneurs will use Facebook, LinkedIn, Twitter and other sites to engage their networks in their crowdfunding, and then will use social media to manage their investor relations over time. Over time, I think this will bring greater transparency in other parts of the private capital markets also.
Currently accredited investors are less then 2% of the US population. If through crowdfunding we bring Americans to invest just 1% of their savings, this policy will deliver over $300 billion to the small businesses, which stimulate entrepreneurship, innovation and job creation.
Without a dime in government spending.