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University-Industry Engagement Advisor

Equity crowdfunding may be tempting for university start-ups as investments dry up

By Jesse Schwartz
Published: July 8th, 2020

A detailed article on equity crowdfunding for university start-ups appears in the June issue of Technology Transfer Tactics. For subscription information, click here.

With venture capitalists less approachable during the pandemic shutdown, TTOs are looking for investment alternatives for university start-ups and some are wondering if equity crowdfunding is a good option. It can be, the experts say, but tread carefully and consider the potential downsides.

VCs may not be looking at as many deals right now because they are trying to focus on their existing portfolio companies, says Amit Singh, JD, a shareholder with Stradling Yocca Carlson & Rauth in San Diego, CA. With everyone hurting from the shutdown, investors are looking to preserve their interests in companies they already have committed to rather than taking on new risks, he says.

For example, if a VC invested in a company that is about to do a pay-to-play round and investors who don’t participate in that round will get hurt, the VC will want to be sure to have money available. “They’re thinking they have to reserve money for all those investments in case there are additional rounds and those companies need money, so they are less interested in investing in new projects right now,” Singh says.

That is particularly true for early stage companies seeking investments of $1 million or less, Singh explains, because VC funds with $200 million or $500 million under management don’t usually make small investments like that in normal circumstances. The angel market is more receptive to investments of that size, so for many early stage companies the choice is really between angels and equity crowdfunding, which the SEC limits to $1.07 million in a 12-month period, Singh says.

Equity crowdfunding gained plenty of interest several years ago but seemed to have faded from view as the economy churned forward and investment dollars became plentiful. That’s all changed in the current climate. “There has been more interest in equity crowdfunding, and I do think there is good reason to be thinking about it now,” Singh says.

“One thing that makes crowdfunding tough is that you don’t know how much money you can raise. Normally if you talk to VCs or angels you can determine how much money is going to be coming, but with crowdfunding it’s sort of a crapshoot and you don’t know if you’re going to be raising any money.”

There is also the question of whether crowdfunding is right for a particular start-up. Singh says it may be most useful for a start-up with a product that is a singular, standalone item or license that just needs a capital investment to get it to market. For something more complicated like a medical device or computer chip technology, equity crowdfunding probably isn’t the right choice, he says.

The major downside to equity crowdfunding is that you can end up with thousands of people attached to your company, Singh says. If you want to solicit VCs later, they will not like the look of that.

“My worry is that you’re going to have thousands of investors on the cap table and that doesn’t appeal to investors. It also makes it harder to do a sale of the company because if there is a stock transaction, for instance, you’re going to have to find a securities exemption for getting the stock to those folks,” Singh says. “It may not be so easy if they’re not accredited, so it’s easier to have only accredited investors on the cap table.”

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