- By SeedInvest
- February 15, 2022
- 12 minute read
As an early stage founder, you probably already know two immutable truths about raising money. The first is that it’s absolutely essential if you have any hope of realizing your company’s vision. The second is that fundraising is hard. Really, really hard.
But once you’ve hit up friends and family, tapped yours and your co-founders’ savings accounts, and maxed out your credit cards, there are few places left to turn for early stage capital. Obtaining a business loan from a commercial bank is one option, but it’s often a challenge finding a lender offering favorable terms. These entities will usually want to see a greater degree of traction than your startup has garnered at such an early stage.
Another common route to obtain startup funding is through pitching venture capital firms, but the process can be time-consuming and soul-crushing, and there are no guarantees you’ll get the funding you need, if you can even get a meeting. There are approximately 1,000 active venture capital firms in the U.S., who combined made 8,000 early stage investments in 2021, totaling $201 billion.
Even though these numbers are on the rise–nearly doubling 2020’s raise totals–with hundreds of thousands of startups out there, it’s easy to see just how rare it actually is for a company to secure those coveted VC dollars.
Accessing traditional VC has also gotten more difficult for early stage founders as the average seed round size has steadily increased. Since 2015, the percentage of startup raises under $500,000 dropped from 48.6% between 2015 and 2017 to just 37.6% between 2018 and 2020. At the same time, the number of rounds between $1.5 million to over $5 million has increased across the board when comparing those same time periods.
This trendline creates something of a paradox for early stage founders: bigger seed rounds reflect greater traction, but getting that traction usually requires access to more capital before getting to the VC stage.
Increasingly, founders are turning to equity crowdfunding to address this funding gap. Unlike crowdfunding platforms like Kickstarter where backers can’t profit from their investment, equity crowdfunding leverages the awesome power of thousands of potential retail investors ready to back you in exchange for a small piece of your company–and without much of the baggage that typically accompanies the founder-VC relationship.
How is Equity Crowdfunding Different From Venture Capital?
For the less than 1 percent of companies who do manage to get VC startup funding, the terms of the relationship are often dictated by the deep-pocketed backers, whose priorities may not align with your long-term vision for your business. Corporate governance demands, misalignment between optimizing for growth vs. profitability or customer experience, and other concessions often result in startup founders ceding more control over their business than they’d like, and could even result in them eventually being squeezed out in the event unexpected issues crop up.
In other words, although VCs have millions or even billions of dollars at their disposal, the relationships often carry unseen or unacknowledged burdens beyond what’s detailed in the term sheet when it comes to strategic direction, prioritization, goal-setting, and values.
Equity crowdfunding, on the other hand, allows founders to retain more control of their business. Less investor concentration means no one entity can exert outsized control, and a large investor pool enables companies to leverage the power of community and fans to fuel future growth. Plus, it removes the “2/20” lens through which VCs usually view investments and early stage operations–since they’re always “swinging for the fences”, this can sometimes create misaligned objectives in terms of what the company is building towards.
That’s not to say that traditional VC and equity crowdfunding can’t complement each other as a company matures. If your business eventually goes the traditional VC route, an early stage round raised through equity crowdfunding can make your startup a more attractive investment prospect for the big-money VCs you’ll be courting. And the more attractive an investment prospect, the more leverage you have in your negotiations with them.
How Much Can You Raise Online?
Historically, angel investing in private companies was almost entirely reserved for accredited investors, which federal securities law defined at that time as those earning at least $200,000 a year or having a net worth of at least $1 million, not including their primary residence. The Jumpstart Our Business Startups (JOBS) Act of 2012 changed all of that, opening the floodgates for all investors to participate, and making angel investing nearly as easy as buying a stock. SeedInvest played a prominent role in advocating for the Act’s passage, which was ultimately signed into law by President Barack Obama.
In 2016, following years of SeedInvest and others continuously working closely with policymakers and regulatory bodies like the SEC and FINRA, Title III and IV of the JOBS act took effect, which opened the door for Reg A+ and Reg CF and legalized equity crowdfunding once and for all, although the new regulations differ somewhat. Reg CF became a preferred fundraising method for startups looking to raise money through equity crowdfunding, but without the usual audits or SEC approvals required under Reg A+.
The landmark law allowed early-stage startups and other small businesses to initially raise up to $1 million through equity crowdfunding, enabling retail investors to start investing in startups with minimums that are a fraction of those typically seen in angel investing circles.
Subsequent rule changes have also significantly increased the amount early stage businesses can raise using equity crowdfunding. In late 2020, the Securities and Exchange Commission announced its final set of rules which bumped the equity crowdfunding cap for Reg CF up to $5 million in a 12-month period, inclusive of both accredited and everyday angel investors, and up to $75 million for Reg A+.
We’re still continuously discovering new ways equity crowdfunding can benefit founders, investors, and the entire venture ecosystem. But with eight years of historic investment data to look at, and hundreds of startups having used SeedInvest to raise hundreds of millions of dollars, we’ve already seen firsthand what equity crowdfunding can help founders achieve for their businesses.
Take NowRX, an on-demand pharmacy and telehealth pioneer. NowRX joined the SeedInvest platform as a less than one year old company with five employees, 1,200 customers to date, and $1 million in revenues. The company initially completed a Reg D private placement and a Reg CF+ campaign on the platform in 2017, but they were only getting warmed up. SeedInvest led their $7 million Series A a year later, and then led and oversubscribed its $20 million Series B raised in 2020, both offered under Reg A+.
How Equity Crowdfunding Works
Equity crowdfunding provides an alternative to - and often complements - traditional venture financing, allowing you to raise capital without depending on a small handful of investors. If a business gathers enough traction, it’s possible to raise millions of dollars from a virtually limitless pool of investors, even with relatively small individual contributions.
For investors, equity crowdfunding provides new opportunities to get in on the ground floor of a private company with a relatively small upfront investment, and offers the potential for outsize returns provided the company is successful, the investment is structured well, and proper investor protections are in place.
Since equity crowdfunding is normally dependent on large numbers of backers, the fundraising method has a magnifying effect for getting your company in front of more eyeballs, and allows vibrant communities of enthusiasts to spring up around your business. With a vested financial interest in your success, these investors could even become brand evangelists who help spread the word to other potential angel investors, casting an even wider net for additional networking or funding opportunities.
Perhaps best of all, traditional startup funding methods and equity crowdfunding are not mutually exclusive, and a successful equity crowdfunding round can help prove the viability of your company and strengthen your negotiating position if you eventually sit down with a traditional VC for subsequent fundraising. Shelf, CleanCapital, and PetDesk are a few examples of SeedInvest portfolio companies that have gone on to raise from notable VCs including Tiger Global, John Hancock, and PeakSpan Capital.
Rules, Regulations, and Exemptions for Equity Crowdfunding
Before a security can be offered for sale, the Securities and Exchange Act of 1933 requires it either be (1) registered with the SEC or (2) meet one (or more) of the following exemptions which allow private companies to fundraise without the usual red tape and cost that goes along with SEC registration. Offerings on SeedInvest fall into three categories: Reg D, Reg CF, and Reg A+. Each security exemption has a different use case, depending on what your company needs at that specific point in time.
Regulation D: Raising from Accredited Investors
- How much you can raise: Unlimited
- Who you can raise from: Accredited investors
- Typical company stage: All stages, including Seed to Series D and Bridge Rounds
Regulation D (“Reg D”) offerings enable companies to fundraise by selling equity shares directly without having to register the offering with the SEC, but they are limited to accredited investors. Reg D is often favored by companies looking to optimize speed or privacy as they don’t have to release a great deal of information via public filings applicable to the two other offering exemptions.
There are two ways to raise on SeedInvest under Rule 506:
Rule 506(b): As long as your company will not be soliciting the general public or otherwise advertising its offering, Rule 506(b) allows for the private sale of securities to an unlimited number of accredited investors. Companies that raise under 506(b) on SeedInvest can only be displayed to our accredited investor network, and we generally see startups leverage the rule to quickly top off larger venture rounds or for a bridge round.
Rule 506(c): Offerings under Rule 506(c) allow for general advertising for a private offering (typically by a company emailing their customer base), however, all investors must be accredited, and companies are required to take “reasonable steps” to verify any purchasers meet those requirements, which can include reviewing official documentation detailing their income or net worth. When you raise on SeedInvest, we confirm investor accreditation statuses on your behalf.
Used in 90% of private offerings, Rule 506 is commonly known as the private offering safe harbor. Offerings under Rule 506 have no limits imposed over how much they can raise, and are not required to register at the state level, provided offerings are only made to accredited investors.
Many companies that raise under Rule 506(c) do so in a Side-by-Side round – leveraging accredited investors, family offices, and VCs under Reg D and fundraising from everyday investors under Reg CF.
Regulation Crowdfunding: Often Used for Community-Driven Early Stage Capital
- How much you can raise: Up to $5 Million
- Who you can raise from: Retail investors, accredited investors, and your community
- Typical company stage: Seed to Series A, Bridge Rounds
Regulation CF (“Reg CF”) allows private companies to raise funds from the general public, permitting them to provide investors with equity or other securities. Initially, Reg CF offerings were capped at $1 million, but in March 2021 the limit was increased to $5 million, making it easier for startups to raise the capital they need while providing investors with access to opportunities that were previously restricted to wealthy individuals.
This enables you to not only market your company, but engage your community and your customers to participate in your raise and the growth of your company.
Offerings under Reg CF must file a Form C with the SEC before the fundraise can begin, outlining key information such as the duration of the campaign, the amount of funds being raised, the purpose of the raise, the types of security being offered, as well as disclosing the names of any company officers or directors. Companies raising funds under Reg CF must also submit annual progress updates (Form C-U) and annual reports (Form C-AR), although these requirements can eventually be terminated if certain qualifications are met.
General solicitation is allowed under Reg CF, and an unlimited number of non-accredited angel investors can participate, though there are limitations at higher income levels.
Regulation A+: Often Used for Crowd-Powered Growth Capital
- How much you can raise: Up to $75 Million
- Who you can raise from: Retail investors, accredited investors, and your community
- Typical company stage: Series A, B, C
Also known as a “Mini-IPO,” Regulation A+ (“Reg A+”) also allows companies to offer their shares to the general public. Issuers must file with the SEC for approval before launching a Reg A+ offering, but the time and costs required are considerably lower than through the typical IPO route. And you still have the benefit of allowing everyday investors and your community to participate in your raise.
Reg A+ offerings break down into two tiers, but SeedInvest only supports what are known as Tier 2.
Tier 2 Reg A+ offerings allow companies to raise up to $75 million in a 12-month period, from both accredited and non-accredited investors. Compliance with Blue Sky Laws and other state securities regulations is not required for the primary offering of securities, but Tier 2 Reg A+ offerings must provide audited financial statements and annual reports to the SEC.
Restrictions around promoting or marketing a securities offering under Reg A+ are tighter than under the other exemptions, but the SeedInvest team is very experienced in navigating the complexities of raising a large round online and can help your company ensure regulatory compliance of your offerings every step of the way.
Despite its more onerous requirements and associated costs, Reg A+ allows you to raise VC-level sums of capital from a large and spread out pool of angel investors, without surrendering nearly as much control over your company.
Who Equity Crowdfunding is Right For and How To Get Started
Although our initial assumption was that consumer-focused offerings would resonate most with retail investors, what we’ve found over the years is that sectors like Enterprise Software, Robotics, HealthTech, and more have also had a great deal of success.
Simply put, equity crowdfunding is for any company with the potential to grow and scale. SeedInvest is industry, stage, and geographically agnostic, but we generally focus on companies with signs of traction, not idea-stage projects or concepts.
When you raise through SeedInvest, you’re not just opening up your company to a network of hundreds of thousands of potential investors. You’re also getting a dedicated resource throughout the fundraising process, from diligence to structuring, onboarding and regulatory filings, to fundraising, marketing, closing, and post-fundraise investment management. It’s a turnkey platform-based solution to help you quickly get started pursuing your next tranche of backers in a regulatorily compliant way.
Perhaps best of all, your company is charged nothing upfront. We invest significant time, energy, and resources into the select number of companies we bring into our network, and only receive compensation when we uphold our end of the bargain and bring money to the table.
Getting started applying to raise on SeedInvest couldn’t be easier. Simply enter basic company information and hit submit – we’ll get back to you within 2-3 days to let you know whether your company is a candidate for SeedInvest.
If you move forward, you’ll meet with a member of our Venture Team to learn more about your company, its challenges and goals, and how you may be able to launch an equity crowdfunding round.
Whether you’re just starting out and looking for a viable path to startup funding, or topping off a previous tranche of VC- or angel-led rounds, SeedInvest is invested in your success, and committed to delivering thorough, proven solutions to bring your startup from application to successful launch and beyond.
Disclaimer: Past performance is not indicative of future performance. The experience of one issuer may not be representative of the experience of others and are no guarantee of future performance or success.
This communication is for information purposes only and should not be regarded as a recommendation of, or an offer to sell or as a solicitation of an offer to buy, any financial product. Investments are offered only via definitive transaction documents and any potential investor should read such documents carefully, including all risks, before investing. Startup investments involve a high degree of risk and those investors who cannot hold an investment for the long term (at least 5-7 years) or afford to lose their entire investment should not invest in startups.
All securities-related activity is conducted by SI Securities, LLC dba SeedInvest, an affiliate of Circle, and a registered broker-dealer, and member FINRA/SIPC.