Crowdfunding lures new investors seeking shares

Man plays a video game wearing an Oculus Rift virtual reality headset. Backers helped Oculus raise more than $2.4m through Kickstarter before it sold to Facebook for $2.3b. Photo / AP

New crowdfunding sites are giving investors the chance to earn something other than t-shirts and trial products - money.

Facebook's latest $US2.3 billion deal for Oculus VR left the 9,522 backers of the startup's online fundraising campaign with T-shirts and trial products.

Oculus initially raised cash on Kickstarter, a service that rewards donors with test versions of its wares and other token compensation.

Newer crowdfunding sites are giving investors the chance to earn something else: money. CircleUp Network offers equity in private companies, while Funding Circle lets investors buy company debt. College graduates can turn to Social Finance to refinance loans with help from alumni.

The crowdfunding market is taking off, altering how capital gets deployed, as projects, companies and individuals flock to the Web for fundraising instead of tapping banks and big financial firms. Regulators are hopping on board - at a measured pace - loosening restrictions that to date have limited how companies raise money and who can be an investor.

"It's going to be a big market and it's going to change how a lot of small businesses finance themselves," said Arun Sundararajan, a professor at New York University's Leonard N. Stern School of Business.

In all, online crowdfunding jumped 89 per cent to $5.1 billion last year, according to Massolution, a research firm. The appeal goes well beyond the U.S. In developing markets, where smartphones and high-speed internet are gaining rapid adoption, crowdfunding may attract as much as $96 billion a year by 2025, with China representing about half that amount, according to a 2013 report from the World Bank.

A crowdfunding pioneer is New York-based Kickstarter, which lets filmmakers, hardware manufacturers and skate-park designers raise money from supporters. More than 59,000 projects have raised a total of over $1 billion since the site debuted five years ago. Rival Indiegogo has brought in millions of dollars for thousands of campaigns worldwide since 2008, according to its website.

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Oculus raised $2.4 million on Kickstarter in 2012 for the development of its virtual-reality gaming goggles, with donations ranging from $10 to more than $5,000. Low-end supporters received a special thanks or a poster, and at the $300 level, donors got a developer kit.

"Nobody thought when they donated that money that there was a stock certificate coming in the envelope," said Kendall Almerico, chief executive officer of FundHub, which provides compliance services for crowdfunded companies.

Facebook agreed to buy Irvine, California-based Oculus for more than $2 billion last month, 18 months after the Kickstarter campaign. The deal lined the pockets of founders and venture investors with hundreds of millions of dollars.

CircleUp represents a different model, encouraging crowdfunders to partake in profits. On March 26, the day after the Facebook-Oculus deal, San Francisco-based CircleUp said it raised $14 million in venture funding to expand its service for letting online contributors buy stock in startups.

Since opening its site in April 2012, CircleUp has helped more than 30 companies, which turned to CircleUp for funding, raise over $30 million late last year, mostly in the consumer goods and retail markets. More than 60 companies are currently seeking capital on the site, which connects startups with investors.

"When you have someone who's an equity investor, they go to greater lengths to grow the business," said Matt Clifford, co-founder of San Diego-based Barnana, which turned to CircleUp for financing late last year. "We look at investors as partners; we're in this together."

Barnana, a seller of organic banana-based snacks, used CircleUp to link up with investors that it wouldn't otherwise find. The company raised $1 million, with some of that money coming via CircleUp, to fund its supply chain and inventory. Barnana's plain chewy banana bites sell for $3.99 a bag and chocolate-covered bites for $1 more at retailers including Whole Foods Market and Wegmans Food Markets.

Under current laws, only accredited investors - such as large institutions and individuals with a net worth higher than $1 million - are eligible to purchase equity in startups. That's poised to change when the U.S. Securities and Exchange Commission institutes rules from the Jumpstart Our Business Startups Act.

The JOBS Act, signed into law by U.S. President Barack Obama in 2012, would allow non-accredited investors to put a small piece of their net worth into crowdfunded startups, and companies would be able to raise as much as $1 million a year through campaigns. The proposed rules would require crowdfunding to take place online through an entity that provides a forum for investors to ask questions and find information about a deal.

While the SEC plans to issue its final rule in October, the JOBS Act has already reduced restrictions on so-called general solicitation, allowing companies like Barnana to publicly promote their fundraising.

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Crowdfunding is also shaking up the debt markets. LendingClub and Prosper Marketplace have grown by giving individuals the ability to buy pieces of consumer loans online. Social Finance, or SoFi, is letting college graduates refinance debt at lower rates by turning alumni from 2,200 schools into lenders. The investors make money as loans are repaid.

Sam Hodges graduated from Stanford University with two masters degrees in 2011. He also had tens of thousands of dollars in debt, payable to the government and private institutions. With SoFi, Hodges's interest rate was cut by 25 per cent to about 6 per cent and the number of payments he made each month was reduced from five to one.

As important as the money, SoFi gets involved with customers on both sides of the transaction, planning dinners and networking events to connect lenders with borrowers.

"It's a community of like-minded people at your career stage and further along, who value education and helping each other succeed professionally," Hodges said. "People who succeed professionally can pay off their student debt."

SoFi, based in San Francisco, said on April 3 that it raised $80 million from investors including Discovery Capital Management and Facebook backer Peter Thiel.

Hodges's role in crowdfunding is more than just as a borrower. He co-founded the U.S. arm of Funding Circle, a provider of business loans to companies so small that most banks aren't interested. Funding Circle started in the U.K. in 2010 and has since funded more than $420 million in loans.

For Hodges, it's all part of the same theme: new Web-based platforms are, in a growing number of cases, displacing traditional financial institutions.

"There's been a structural pullback by banks and other existing lenders from many credit opportunities," said Hodges. "And there's investor appetite for direct investment opportunities particularly ones with yield."

- Bloomberg