Equity crowdfunding in Wisconsin: Another way for startups to raise capital
It’s no surprise that startups have long had difficulty raising capital. Few people are willing to invest thousands of dollars in a new business whose future is uncertain. As a result, some startups have turned to reward crowdfunding, which allows hundreds or thousands of individuals to donate smaller amounts and thereby minimize risk.
Reward crowdfunding campaigns often use Kickstarter or IndieGoGo, and the startups offer donors rewards or incentives based on the amount donated. Reward crowdfunding has been around for a number of years, and few regulations apply to this method because the contributions are considered donations.
In addition to reward crowdfunding, startups in some states are now able to use equity crowdfunding to raise capital. In June 2014, Wisconsin became one of the first states to pass a law permitting intrastate equity crowdfunding. This law allows Wisconsin businesses to sell shares of stock to Wisconsin residents through an equity crowdfunding website. Although equity crowdfunding is heavily regulated because it is a securities offering, this new law does provide startups with another way to acquire funds.
Historically, the SEC has prevented companies from making a nonpublic offering of securities, including shares of stock, to individuals who are not accredited investors (those with at least a $1 million net worth or $200,000 in net income) unless an exemption applied. This was meant to protect individuals from fraudulent offerings. The intrastate offering exemption — which Wisconsin and other states are now taking advantage of — essentially tasks each state with regulating purely intrastate offerings and removes many of the SEC’s regulations.
For the intrastate offering exemption to apply in Wisconsin, the business must, among other requirements: 1) be organized and incorporated in Wisconsin, (2) have a majority of its full-time employees in Wisconsin, (3) have its principal office in Wisconsin, and (4) do the majority of its business within Wisconsin, meaning it generates at least 80% of its gross revenue in-state, has at least 80% of its assets in-state, and deploys at least 80% of the proceeds from the offering within the state.
Advantages and disadvantages
Equity crowdfunding is meant to provide an additional way for startups to raise capital, but every business should carefully consider the advantages and disadvantages of this new model. Equity crowdfunding is not as time-consuming as an initial public offering (IPO) and does not require as large a financial commitment, but the process can last anywhere from a few months to more than a year, and the regulatory and compliance costs can quickly add up.
The equity crowdfunding process requires a great deal of preparatory work, including assembling and consulting with a team of advisers and preparing marketing materials. The offering itself lasts several weeks or months, and there is a great deal of maintenance associated with post-closing, such as issuing quarterly reports. One of the biggest drawbacks is the complexity of the capital structure following an equity crowdfunding offering, which will likely discourage any future investors.
Who’s using crowdfunding?
Certain businesses and industries — such as the craft food and beverage industry — are better suited for equity crowdfunding than others. In Wisconsin, only two equity crowdfunding offerings have been made under the new law, and both involve craft breweries. Typically, equity crowdfunding should be used by a company that will require no more than $1 million in initial capital and will have tangible assets or collateral to later use to acquire a bank loan. Usually, companies that fit this mold are breweries, restaurants, distilleries, small grocery stores, etc.
An area that is generally not well suited for equity crowdfunding is technology. Software or technology-oriented companies often do not know how much capital they will need, and if the software does not succeed, the company will be worth little to no money and have no assets or collateral on hand to acquire a bank loan. The goal of equity crowdfunding is to raise enough capital to expand the business to a point where it will either not require additional contributions from investors or have sufficient collateral or revenue to secure a bank loan.
Although some companies do not fit the traditional equity crowdfunding mold as outlined above, it does make sense for every startup to carefully consider all avenues of raising capital. There are pros and cons to each method, and it is crucial to be fully informed of these advantages and disadvantages because the method used to raise capital will often affect the organization and its profits for the life of the company.
Trevor L. Currie is an attorney with Whyte Hirschboeck Dudek, S.C., practicing in the areas of corporate transactions and commercial finance. He can be reached at firstname.lastname@example.org.
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