Raising money through crowdfunding used to be a last resort for startups. Now, it's attracting unicorns.

Wefunder cofounder and CEO Nick Tommarello at his home office.
Wefunder cofounder and CEO Nick Tommarello says new SEC regulations has made equity crowdfunding popular among startups. San Francisco Chronicle/Hearst Newspapers via Getty Images / Contributor
  • Equity Crowdfunding used to be a last resort for startups looking to raise capital.

  • Game-changing new SEC regulations is make crowdfunding safer for both startups and investors.

  • WeFunder and StartEngine are helping startups raise millions by selling shares to individual investors.

After Immad Akhund, the CEO and founder of banking startup Mercury, secured $120 million Series B from top-name venture capitalists at a $1.6 billion valuation, he made a relatively unheard-of move: he let retail investors buy $5 million worth of shares through the crowdfunding platform Wefunder.

By doing so, the San Francisco-based startup became the highest valued company to launch an equity crowdfunding campaign, an alternative fundraising route where a large group of investors can fund startups similar to raising money for gadgets on Kickstarter.

Mercury's move to raise capital through equity crowdfunding was considered unusual by many observers because the tactic had previously been considered a last resort for founders who couldn't raise money elsewhere.

"Crowdfunding had a bit of a bad vibe," Akhund said.

But then on March 15, new U.S. Securities and Exchange Commission crowdfunding regulations went into effect, turning the black sheep of the investing world into a viable option for companies of all sorts to raise capital from individual investors.

As a result of these regulations, equity crowdfunding has boomed over the past several months, with an increasing number of startups raising money through platforms like Wefunder and StartEngine. In doing so, equity crowdfunding has realized a mission of not only allowing startups to raise capital from a larger pool of investors beyond venture capitalists, but also giving customers and supporters a chance to buy shares in their favorite new companies.

In several weeks on Wefunder, Mercury raised $22.6 million from more than 3,000 individual investors. Two-thirds of Mercury's investors, according to the company, were also customers. Legally, even with the new regulations, the company will have to return a majority of the capital it raised through the platform, but according to Akhund the stunt showed the incredible enthusiasm for equity crowdfunding.

His motivation to go the crowdfunding route wasn't because he needed the money or clout. After all, the Series B was led by Coatue, with participation from Andreessen Horowitz, CRV, and Sapphire Ventures. He did it to spread the wealth.

"We really want our existing customers to have ownership in our success because they're the reason we are successful," he said, adding that before the rule change that would have been "pretty infeasible."

Mercury's campaign was so well received, Akhund said, he has entrepreneurs regularly emailing him, "How did you do the crowdfund and how do we do it ourselves?"

The growing popularity of equity crowdfunding is an impressive turnaround for the bad reputation that had plagued crowdfunding since its birth in 2012. According to Nick Tommarello, CEO and co-founder of Wefunder, startup founders and investors often complained that fundraising was capped at $1 million and that having to deal with hundreds, if not thousands, of individual investors was not only an administrative nightmare but could trigger an SEC rule forcing a company to go public.

"This led to a perception of adverse selection, where if you're on Wefunder it means that no real investor would invest in you - therefore you must be bad," Tommarello said. "I think that the stigma has only changed this year."

Among the new rules, the SEC increased the limit a company can raise from $1 million to $5 million; allowed companies to clean their books by listing capital raised through equity crowdfunding as a single entity rather than thousands of small individual investors; allowed founders to test the waters by offering reservations for equity before having to do compliance work.

After the rules went into effect, Wefunder's investing volume skyrocketed from $3-4 million dollars a month to $25 million a month. StartEngine, a crowdfunding platform that counts SharkTank's Kevin O'Leary as one of its spokespeople, generated $13.3 million in the first six months of this year - more revenue than it made in all of 2020.

Chai Mishra, founder and CEO of Move - a Bay Area-based membership e-commerce startup and Y Combinator alum that has been described as Costco-meets-Trader-Joe's online - said the name equity crowdfunding is "terrible branding." To Mishra, who has been crowdfunding since 2019 it is more than just raising capital.

"I would say $1 raised in equity crowdfunding is worth at least $3 to $4 raised in VC for an early-stage company," he said.

For Mishra, crowdfunding is a marketing tool that can lead to acquiring new customers and recruiting new employees. With new favorable regulations, he anticipates his crowdfunding campaign reaching a bigger audience.

But equity crowdfunding still isn't without its risks and headaches for startups and investors alike. Founders still must disclose finances and communicate with a large pool of often amateur investors.

For the investors, crowdfunding can be much riskier than the stock markets, too. But for investors like Angela Joseph, an independent movie producer and publicist, the risk is worth the reward. Joseph invested several hundred dollars in Legion M, a fan-owned entertainment company funding movies and television shows, because she says she believed in its mission.

"You're not going to get rich, but I am not in it for that, I am in it for the passion," she said. "It's way more fun than investing in the stock market."

Before 2016, regular investors like Joseph weren't allowed to invest in private companies at all. That was reserved only for wealthy individuals with a high income or net worth. Now as investing in private companies becomes more accessible to the masses, proponents expect higher quality startups and more unicorns like Mercury offering regular people a slice of their pie.

"We're just at the start of crowdfunding being much more significant," Akhund said.

Read the original article on Business Insider