Crowd Sourced Funding — A Big Deal or The Big Deal?
If you’ve ever wondered what alternate routes to raising capital look like, you’re likely to have come across Crowd Sourced Funding (CSF).
Over the last few years, we’ve witnessed a huge momentum gain in the CSF space. Think of some recent announcements in Australia — Bunsters Hot Sauce raising $2,000,000 from 1,452 investors, the SeaBin Project raising $1,815,528 from 1,685 investors and WholeKids raising $1,100,794 from 594 investors — huge stuff. LUNA, too, has played a role in 5 massive raises over the past 6 months, including the successful and well publicised campaign by Bubble Tea — also huge stuff.
These successes highlight a growing trend — consumer based startups pivoting away from traditional fundraising options to skilfully market themselves and raise capital from the general public.
From the outset, the CSF process seems like a breeze — sign up with an online platform, list your funding needs and within a few weeks — your startup has the capital to scale. But this relatively new way of raising comes with caveats, and it’s worth taking the time to consider the good and the not so good for your startup.
SO, WHAT’S THE DEAL WITH CSF?
The CSF regime in Australia was established not too long ago (we’re talking 2017) with the aim of providing startups and SMEs with an alternate, fundraising option.
Under this, approved private companies can raise up to $5 million from the public (an option previously open to public companies only) as long as they do so on an approved platform.
There are a few requirements you need to meet before you go live, including having:
your principal place of business in Australia;
at least two directors (with a majority of those directors residing in Australia); and
less than $25 million in consolidated gross assets
The CSF regime also allows you to bypass the usual 50 shareholder limit (imposed under the Corporations Act for a private company) to gain a huge pool of investors cheering on your success!
While (almost) every startup can opt for CSF raising, it’s worth noting that it is generally more appropriate (and successful) for consumer-facing brands to participate, for example, those in the food and beverage space. Why? Because they’re likely to have an established (and passionate) consumer following which helps gain investor traction during the CSF campaign period (instead of re-inventing the wheel.)
WHO ARE THE INTERMEDIARIES?
To run a CSF campaign, you need to engage with an ‘intermediary’. You may have heard of the names Birchal, Equitise and VentureCrowd being slung around in the CSF universe — these players facilitate the raise by operating online platforms where startups offer CSF shares to investors.
Unlike other processes to raise equity, CSF raises rely heavily on the presence and involvement of these intermediaries. Their role will generally include making all offers on behalf of the company, handling incoming investment applications and conducting a range of checks in relation to the company.
But with great power comes great responsibility. And so, under the CSF regime, intermediaries must have an AFS licence as well as follow through their gatekeeper obligations, including performing checks on a prospective offering company and ensuring that information made available to the public is neither misleading nor deceptive.
Point to take note of — intermediaries do charge a success fee on a successful completion of a raise. This fee usually starts at around 5% of the total amount raised, but it can go as high as 15%.
THE GOOD
A CSF raise can deliver huge benefits and truly propel a startup's ability to scale.
To start with, CSF allows you to raise a relatively large sum of money in a relatively short period of time, and for a smaller piece of your equity pie. This is generally in comparison to a traditional equity raise that can take several months and means giving away a larger % of your company to a single investor or group of investors who might want some form of control over your company. Note that a CSF investor can’t invest more than $10,000 per year, they are unlikely to gain any real control (but this depends on the company rules and regulations you have set down in your Constitution and your valuation).
Secondly, CSF is an amazing way to test the market without having to spend money on flashy websites or marketing campaigns. It also allows you to gain traction for your idea or product that might not appeal to conventional investors. By skilfully marketing yourself, your offering might just pique the interests of those aligned with your startups’ offering.
The process also opens doors to a huge pool of public investors keen to see you grow and succeed, and to top it off, they might also have some great networking and new customer opportunities for you!
THE MIDDLE
It’s definitely worth taking a moment to reflect on a recent ASIC survey that revealed that over a 6 month period, CSF raises had a 50% success rate, but some intermediaries are reporting even higher success rates in 2021.
Take for example, Australian operated book marketplace Booktopia (who had 16 years of operation and over $150m in revenue) who failed to hit their minimum $3,000,000 target, raising only $900k over a 90 day period. The failed campaign was attributed to poor disclosures around liabilities and lack of transparency. Interestingly, they went on to raise $20m in a private capital raise.
Ok, so what does this mean? Well, you shouldn’t place all your hopes and dreams into the CSF raise process, but be prepared to look for alternative funding options should your raise not be successful.
THE NOT SO GOOD
As with every fundraising option, CSF does have its shortcomings. So let's weigh up the good with some of the not-so-good.
There is a lot to understand about the regime, how it operates and what your obligations are. For example, startups need to provide an ‘offer document’ to potential investors right at the start. This document sets out who you are, what your plan is and what you are seeking. Startups are obligated to ensure that none of the information they provide is misleading or ambiguous. This includes not overstating or giving an unbalanced view to the potential benefits of the investment. Because the risk of doing so would mean convictions or penalties against the company or its directors.
Next, at the close of a CSF round, a glaring issue is the huge number of shareholders and managing a cap table that seems never ending. Having too many investors can impact the startups’ ability to raise funding during the next round, especially where future investors might be deterred by a lengthy cap table.
Running a company post-CSF comes with the additional challenge of dealing with potentially inexperienced investors, especially those who are new to CSF. They can have unrealistic expectations regarding liquidity (ability to sell their shares) and access to founders — creating an admin burden for a small team. The best way to deal with the huge number of shareholders is to have a carefully crafted constitution. This prevents new CSF shareholders from interfering with company decision making. You could also consider using a management platform to assist with the communication process.
Finally, having a public campaign also provides a chance for ‘trolls’ to scrutinise your every move. We’ve seen plenty of trolls leaving negative comments on raising platforms that can impact not only the success of a raise, but also the founder’s mental health and their brand's reputation.
THE KEY TAKEAWAYS
It is super important to understand that CSF is a relatively new way of raising capital in Australia and has yet to be fully tried and tested across different scenarios. From a non-traditional angle, it’s definitely proving to be a viable option for investment, but we would recommend that you approach it with a critical lens to see if it’s right for you:
Here are our top takeaways for those seriously considering this avenue of funding:
Don’t jump straight in without doing proper research. Talk to the professionals, i.e., lawyers, accountants and CSF experts!
Reach out to those who have already been through the process and get their take on what worked and what didn’t.
Think about your structure, and how a CSF raise will impact your cap table now and in the future. Ask yourself if you have enough shares on issue or whether you need to move shares around before you begin the process.
Make sure you engage a professional to carefully craft your company’s governing documents, such as your constitution.
Engage a cap table management platform, like CAKE Equity to make your life much easier when you have 100+ shareholders.
Understand your obligations under the CSF regime - there are some great resources available - including us!
Think long term - CSF could have implications on your ability to raise capital in the future.
Finally, don’t be afraid to reach out to us - we are always more than happy to jump on a call to chat through your raising options!
Drop us a line at hello@weareluna.co
