One of the biggest challenges founders and CEOs of startups face is funding: courting angels and VCs, pitch decks, travel, and meetings, getting ghosted, negotiating and swallowing unreasonable terms, eroding control–all at the expense of actually running and growing the business. When you hear the word “crowdfunding” your mind may immediately go to Kickstarter or Go Fund Me, yet in 2021 crowdfunding emerged as a serious option for serious businesses to potentially raise serious capital.
The reasons are due to changes in the law and advancements in technology.
Traditionally, only accredited investors, private equity firms, or major financial institutions have been able to invest in early-stage, high-growth companies before an initial public offering. While there are many VCs and angels out there, they hear many pitches, they have many options, their funding often makes up only part of what a start-up needs and can come with some significant strings attached.
But in March 2021, the U.S. Securities and Exchange Commission (SEC) changed a key regulation known as Regulation A, Tier 2, now enabling U.S. based companies to raise up to $75 million every 12 months from a wider range of investors, including retail investors. This was a major, under-reported addition to the startup founders’ toolkit.
Blockchain and digital investor onboarding technology are now making it comparatively easy for founders to turn to retail investors in funding their still-privately held businesses, with shares issued in the form of tokens securely recorded on public blockchains such as Avalanche, Algorand, Ethereum, or permissioned chains if more privacy is needed. This can be a fundamentally better way to raise capital, and privately held companies and their customers are already taking notice.
Unlocking wealth creation
This blockchain-based “Mini-IPO” solution, which works within the existing regulatory framework, can’t come a moment too soon. Even before the current inflationary period, the smart money was already moving to private market alternative assets in search of meaningful returns, such that the private markets grew in 2020 at twice the pace of the public markets. Yet the wealth creation benefits of this growth have been enjoyed by the very few who were aware of private market opportunities and able to access them, particularly institutions, VCs and accredited investors.
Gone are the days of Microsoft, Amazon, and Oracle, whose early IPOs were seen as opportunities for individual investors to share in unicorn-driven wealth. With businesses remaining private longer than ever and approximately 80% of companies losing value when they IPO (as major private investors cash out), the need to democratize access to the wealth creation occurring in the private markets is pressing. While an IPO used to be a sign that a company had “made it”, today it can just as easily be a sign of its decline. Creating a market for shares of private businesses before they go public can create both liquidity and eliminate the fall to earth that often follows an IPO.
So, we know the regulatory environment is favorable to unlocking broader access to alternative investments, we know the technology is there, and we know investors are interested in investing in the private capital markets once they become aware of the opportunities. Let’s explore why a Mini-IPO capital raise from individual investors can make sense for your business:
- A Mini-IPO allows you to raise capital directly from your existing customers and fans, creating an opportunity to deepen, cement and increase the value of those relationships.
- When your customers are also your shareholders, their interests become even more tightly aligned with yours.
- Because a Mini-IPO is an almost entirely digital process, you can perform one much faster and less expensively than a traditional IPO, since tasks previously performed by transfer agents, lawyers and other middlemen during business hours can be performed automatically by smart contracts in milliseconds.
- Issuing your shares on the blockchain also allows you to manage your shareholders digitally, with real-time investor cap tables, instantaneous reporting, and much tighter control over investor communications and rewards (more on that below).
- A Mini-IPO is a sector-agnostic solution. Whether you’re an established tech start-up, a consumer products company, in hospitality or real estate, you can turn to your customers for your next capital raise rather than relying on angels and VCs.
- This has other advantages, too: your customers are already invested in your business emotionally (as early adopters) and with their dollars. When they become shareholders, they are more likely to understand and stick with you through growing pains and can be involved in growing your business without the need to surrender control or board seats.
- Finally, a Mini-IPO can increase the liquidity of your shares since secondary markets now exist to trade these digital asset securities. Since businesses are remaining private longer than ever, founders and early investors traditionally need to wait approximately 10 years before finding liquidity. By creating the ability for individuals to invest and trade in your private company, no longer are you unable to sell shares to willing buyers when you need to buy a new house, put a kid through school, launch another start-up, or have unforeseen life events.
Birds of a feather flock together — rethinking brand loyalty
I mentioned above that the digital nature of Mini-IPO makes it easy to manage investors, your cap table, shareholder communications and rewards. This is an important point.
Recent studies have shown a high degree of correlation between being a shareholder in a business and loyalty to that business. For example, one recent study found that 80% of individual investors agree that being a shareholder in a brand would make them more likely to be a customer of that company or buy their products; and individuals granted stock in a brand increased their average weekly spend by 30-40% and maintained that spend level for 3-6 months.
Now, consider the potential benefits to customer loyalty, spending, and evangelism to others if customer-sharehoders can participate in, or are first to know, about strategic decisions, or exclusive perks, such as early product releases or access to VIP events. Consider this even on the scale of a restaurant, where shareholders can get the best tables, meals unavailable to other customers, or dishes named after them. The opportunities to further align and tighten your relationship with your customers are as endless as your imagination.
Case in point, AMC Entertainment Holdings Inc (NYSE: AMC) sought to capitalize on the sudden, Reddit and Robinhood-fueled retail demand for its shares by converting potentially opportunistic or transient shareholders into long-term shareholders and customers, particularly at a time when movie attendance was down. They launched AMC Investor Connect, a portal to communicate with those shareholders, and offered them exclusive rewards–a free large popcorn–when they attended a movie. AMC is a public company and couldn’t leverage a Mini-IPO, so their process was clunky, and investor status hard to verify, but the results speak for themselves: investors returned to theaters as paying customers, brand loyalty was built, and 365,000 people signed up for AMC’s investor portal and marketing.
With a Mini-IPO, you know who your investors are, the size of their relationship with you and their trading activity and can thus tailor offerings to them. Similarly, your investors can immediately prove their status, eliminating the need for logging in to portals, producing statements, or other inefficiencies. Your customers are rewarded for their early and sustained support of your business, and you are rewarded with a loyal, diversified investor pool, enabling better capital formation, the potential for liquidity far earlier than a traditional IPO (without eliminating the possibility to IPO), and more freedom to run your business.
Exodus: Sparking a movement
One of the best success stories and proof points of the Mini-IPO approach is Exodus, a digital wallet company that allows users to secure, manage and exchange cryptocurrencies, which raised $75 million from over 6,000 almost entirely retail investors in just six weeks in May 2021. The first $59 million was raised in just the first four days of the raise.
As a result, Exodus’ funding needs were met, with its Mini-IPO driving a 40X increase in its valuation–from $20M before to $800M after. And there is strong evidence for potential liquidity in secondary trading: while the raise was fully subscribed by approximately 6,000 investors, 31,000 had completed the process to invest without completing it, and 70,000 expressed interest in investing. With 70% of investors taking positions of $1,000 or less, the evidence of both strong retail demand for investing in private companies and the beginnings of a more democratized private capital market is clear.
For CEO JP Richardson, allowing his company’s most important early backers–his customers–to share in the upside they fueled was deliberate: “The Mini-IPO was done with the intent and aim to empower our customers to come in and share in our success before Wall Street,” he told a recent conference.
Many entrepreneurs are taking notice of Exodus’ success in its capital raise, in engaging its customers, and in providing its early investors the prospect of liquidity before an IPO.
As more founders and leadership teams realize the fundamentally better benefits of a Mini-IPO capital raise over a traditional round in enabling serious companies to raise serious funding, I think we can expect an 500% increase in Mini-IPO adoption during 2022.
And as crowdfunding becomes an increasingly important part of funding privately owned businesses, the line between the public and private markets will become increasingly blurred, as the market overall is increasingly democratized.