Startup Experts Debate Merits of Crowdfunding

Everything from film and art projects to small businesses are finding ways to get off the ground by receiving modest contributions from anonymous, online investors.

Angels & Demons

This year, the direction of crowdfunding took a turn toward the free market, as the federal JOBS Act passed through the U.S. House and Senate with a crowdfunding provision and was signed into law in April by President Obama.

The language, which will have to be converted into a set of investor rules by the SEC, currently allows equity investments in projects through crowdfunding. The legislation requires crowdfunding websites like IndieGoGo to register with the SEC and restricts an individual’s investment in crowdfunded companies based on net worth or income. For example, an investor making less than $100,000 annually can kick in no more than $2,000 to a crowdfunded company. But the legislation doubles the number of shareholders a private company can have before it’s considered public, from 500 to 1,000.

Crowdfunded companies can raise up to $1 million annually under the provision, which could result in the augmentation or even replacement of traditional “professional” investment routes like VC, just as Wikipedia did with Encyclopedia Britannica.

The crowdfunding provision has generated a maelstrom of debate, and the head of the SEC, Mary Shapiro, openly voiced skepticism of the provision, saying it would weaken investor protections and be a “step backwards.”

The SEC currently has 270 days to make necessary regulatory modifications to implement the crowdfunding provision, but Shapiro went on record saying 18 months was more appropriate for “regulations of this magnitude.”

Echoing Shapiro’s doubts, a smattering of economic experts suggest that, despite the JOBS bill’s attempt to stimulate job growth by lowering hurdles to entrepreneurial investment, the “crowd investing” provision will create more problems than it solves. This has led some Silicon Valley attorneys to start giving their startup clients stern warnings about intellectual property poachers.

“If you have a system set up to sell securities to unaccredited investors, in relatively small amounts, to fund risky new ventures, that’s a gigantic flashing sign to attract the worst scumbags on Earth,” says Antone Johnson of Bottom Line Law Group, which works with early stage mobile and web startups in Silicon Valley.

But as the economy remains somewhat stagnant, the future seems ripe for open funding models that sidestep the traditional system.

“We’re trying to democratize the funding process,” Rubin says, “where anybody in the world is able to raise money for absolutely any idea without judgment. Crowdfunding will become very much the norm.”

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