Editor’s note: Did you know author Sherwood Neiss literally wrote the book on crowdfund investing? If you’re interested in learning more about the next big thing, be sure to check it out!
Regulation Crowdfunding went into effect on May 16, 2016. For the first time in 80 years, startups and small businesses can raise up to $1M from their friends, family, and customers via online websites registered with the Securities and Exchange Commission.
Prior to this, if you were an entrepreneur, your options for financing came down to your own personal savings, credit cards, banks (if you qualified), and angels or VCs (if you were one of the lucky few).
While most of the media attention about this new opportunity has focused around the ability for an entrepreneur to sell shares (equity) in his or her enterprise, the real (and neglected) opportunity for Main Street businesses comes down to debt crowdfunding.
How does debt crowdfunding work?
Did you know that the first Regulation Crowdfunding offering to hit its funding target was a restaurant by the name of Chapman & Kirby? They are based out of Houston, Texas, and the founders have a proven track record (and clearly a large following).
They were initially seeking $250,000 to finance the construction of the restaurant and working capital. After 40 days—yes, just 40 short days—they raised $440,800 from 134 investors!
Investors lent money to the team and in return they will receive 1.75 times what they put in. That money will be paid out over time and rather than tie the entrepreneurs to a fixed monthly payment, the entrepreneurs will pay back a percent of revenue each month (starting after the 5th month).
Debt crowdfunding and small businesses
This type of debt crowdfunding is called revenue-based financing.
It works particularly well for small businesses that will have cash-paying customers for three reasons:
- Payments usually don’t start for a few months, giving the entrepreneur time to get the business up and running.
- Since payments are a percent of revenue, and since a company usually has smaller revenues early on, loan payments will be less at the early stages than later on when it is more established and can handle larger loan repayments.
- Since it is based on a percent of revenue, if a business is seasonal or cyclical, in the low season months the company won’t be burdened with a large loan repayment, giving the entrepreneur more breathing room.
The reality is that if you are a Main Street enterprise (think food truck, local restaurant, CrossFit gym, farm to table grocery store, and so on), you will most likely have to use debt crowdfunding.
Equity crowdfunding versus debt crowdfunding for Main Street businesses
If you are selling equity to investors, they are looking for an exit. That means that the company has something of value that an acquirer will want, or that the concept has a revenue model that has the potential to be so huge that the company could go public.
However, most Main Street businesses would never survive a public offering (too small, not enough public interest, too expensive) and most likely won’t be acquired (who is going to buy a mom and pop store or restaurant?).
Equity crowdfunding works well for the tech startups that have a proven technology and a crowd of supporters that understand who will be buying the technology down the road. It also works for investors that understand their payday is far down the road (think five to seven years) and don’t need their money returned today.
Debt crowdfunding, on the other hand, works well for businesses that have customers and cash flow. It works really well for investors that want to support a local business, know the proprietor(s), or want to diversify their investments to include supporting local enterprises but want to reduce their risk by getting an immediate start on their return.
Additionally, debt crowdfunding allows a small business to engage their customers as investors in their business. It provides them with immediate cash to achieve their desired goals. As an added bonus, it turns customers into marketing and sales agents for your business, because once they become an investor they have a vested interest in the success of the business (and getting their money back).
While equity crowdfunding would mean that your investors get a vote in major decisions you make (like raising follow-on capital), in a debt crowdfunding world, your investors aren’t owners, just lenders. So, they don’t have a vote in what you do (although we’d encourage you not to piss your investors off).
If you need money and you are a Main Street, retail, brick-and-mortar business, consider looking into debt crowdfunding. It might be cheaper and faster than going to a bank, and you might be surprised at the bonus marketing you get from a vested group of customers that have a mutual desire to see you succeed.
from Bplans Articles http://ift.tt/2aLdLiA
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