Saturday, February 19, 2011

Part II: Crowd funding: Facilitating of Family and Friends Financing

In my previous blog post, I described the federal and state laws that apply to friends and family rounds of financing. To an entrepreneur trying to raise only $100,000, this will sound complicated and even overwhelming, as well as expensive. Preparing extensive disclosure statements and making the necessary filings require hiring an attorney, and legal fees may make the whole offering not worth pursuing.

The market need for conducing family and friends rounds of investing in an efficient and cost-effective manner has generated a response in terms of crowd funding. One of the companies in the crowd funding space is a newcomer called ProFounder. This is the way it works: A start-up founder who wants to get funds from family and friends creates an account with ProFounder. He describes the company, its financials, the investment terms, and risks associated with the investment. Investment terms are simple: founder offer a share of their revenue in exchange for the investment (ProFounder currently offers only revenue sharing, but nothing bars founders from offering other terms through other crowd funding sites). A term sheet is then created and emailed to the friends and family of the founder (i.e., people with whom the founder has personal pre-existing relationship). Those interested reply and the offering is consummated. Average investor invests only about $1,500, and an average round is between $35,000 and $60,000. ProFounder also educates the founders on how to comply with each state’s securities laws and provides guidelines for the filing of the necessary forms and paying the necessary fees. It is the founders’ responsibility to do so in a timely manner.

Assuming compliance with all applicable state and federal securities laws, the idea of crowd funding is appealing. It is very inexpensive and easy to do. It also eliminates the necessity of hiring an attorney, potentially saving the start-ups thousands of dollars. In fact, crowd funding may be just the response we all need to the problem of securing investments from the general public instead of VCs or professional investors. It opens doors to millions of investors who can contribute small amounts to social ventures and start-ups that would otherwise go unnoticed by the professionals.

Note that crowd funding is not for everybody and in certain situations business owners would be well advised to hire an attorney.

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