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Sowing the seeds for future rewards?
When names like Facebook step up with a $2 billion cheque the investor world is going to take notice. Facebook's acquisition of Oculus VR not only put Oculus on the map but also turned attention to Kickstarter, the crowdfunding platform which gave Oculus its well needed start in life and to the crowdfunding market itself. Suddenly crowdfunding had come of age and was accepted as a legitimate early stage funding source. Clearly the crowdfunding investors who together stumped up the development capital to get Oculus going didn't anticipate its likely success since none of them reaped the rewards when Facebook swept in and scooped it up. Simply put, their investment wasn't really an investment at all, merely a buy-in to a reward scheme that gave them access to an early version of the company's new technology.
Nevertheless, the Oculus deal is a demonstration of a new and extremely accessible source of seed and development capital now frequented by many technology and film entrepreneurs and opening out into a much broader cross section of business sectors. Surely though, those savvy backers are going to get wise and will be questioning the current model if they continue to remain outside of the real rewards. It should be remembered by any enthusiastic crowdfunder looking to be part of the next big thing that often, despite believing they have some real skin in the game, they in reality have a very small slice of probably no more than 20% of the overall equity pot. Furthermore, unless they are expressly protected from dilution through the constitutional documents of the investee company or through contractual shareholder arrangements, their stake could be watered down to very little through future rounds of crowdfunding, seed investment or development capital raisings.
The attraction for investors will inevitably wane the more successful exits from crowdfunding there are, unless platform investors are participating in the upside. A business looking to attract $250,000 but achieving well over £2,000,000 in funding (as was reportedly the case with Oculus) is going to attract the attention of strategic corporate buyers and institutional investors alike but only if that flurry of crowd investment continues to throw the spotlight on new innovation, creativity and sound entrepreneurship.
It is crucial therefore for fledgling companies, their founders and crowd investors alike to understand how they fit together from the start. This is, after all, seed financing and professional seed investors wouldn't back any venture without a full understanding of how their interests are protected – neither should a crowdfunder or founder. For the crowdfunding concept to be sustainable investors need to become more informed and to consider the exit at their point of entry rather than relying on a prevailing wind and a large chunk of luck.
It will be interesting to see how the commercial arrangements evolve. Crowdfunding investor groups are large meaning there could be several hundred shareholders on exit. From a purely practical perspective this will have an impact upon the costs of and time taken to complete an exit. The market is starting to see a grouping of investors meaning that for the purposes of capital structure and any shareholder arrangements the crowd will optically appear to be a single shareholder, a role filled by a nominee custodian of the legal interest in the crowd's shares with the individual beneficial interests managed through some kind of trust or nominee arrangement. Although a sensible idea, it requires all of the crowd to sit together with any decisions made as shareholders (whether as to exit or otherwise) falling to the nominee or manager – a structure not dissimilar to traditionally managed investment funds. Query whether this shift will remove the feeling of ownership from crowdfunding investment, only time will tell but the crowdfunding market continues to grow at an astonishing rate.