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10 differences between equity crowdfunding vs. traditional VC funding

Much has been written and said in the last decade about equity crowdfunding and many platforms have emerged as instruments and enablers of this new way of financing startup companies.

Although big VC funding rounds continue to consistently make the news, crowdfunding campaigns are increasingly gathering steam in the media. Take for example the recent campaign by Cowboy on Crowdcube, which smashed its original target of €1.3 million and took home a final €4.2 million.

Platforms deserving a highlight in recent years are FundedByMe (Sweden), Companisto (Germany) and Invesdor (Finland). Other examples of Europe-based platforms can be found in our article Top 10 equity-based crowdfunding platforms in Europe.

So which should you consider for your company? When comparing traditional venture capital funding with crowdfunding, there are some differences that one should take into account when deciding which source of capital may be the right choice.

Companies with high scalability potential are suited to both VC funding and crowdfunding options. Such companies have highly innovative business models, and typically work within the software, fintech, biotech, medtech and gaming industries. The reason for this is that both funding options allow them to raise capital quickly to acheive fast growth, and avoid the risk of being swallowed up or beaten by competitors with deeper pockets and more endurance.

Other types of business, including more ‘traditional or ‘main-street’ companies, might consider crowdfunding. If they wish to go down the VC route, it’s worth remembering that typically VCs are unlikely to be interested in any investment that doesn’t have a chance of delivering a 10 – 100x original valuation exit.

Below you will find 10 differences between traditional Venture Capital investment and Equity Crowdfunding, in order to consider the latter as an alternative to your growth plan.

  1. Business Model Complexity

Equity crowdfunding is based on a huge marketing effort and momentum. If your business model is not simple and your story cannot convince people, this road is not for your startup.

As your traction depends on the understanding of a wide range of people across all walks of life, your publicity campaign should describe very simply how their investment in your business will bring them returns.

For companies that deal in consumer electronics, foodtech, and software, it is easier to get crowdfunding investors than in other industries.

  1. Investment Terms

Equity crowdfunding is usually more entrepreneur-friendly than traditional VC funding. Many founders do not like the idea of having to give board seats, majority control, having restrictive terms on themselves and losing preference in some liquidation events.

Raising money via equity crowdfunding is a way for the entrepreneur to raise funds his/her own way. Raising via VC usually means to raise money on the terms and valuation of the investor, with rare exceptions.

  1. Smart money or spectator investors

Equity crowdfunding may onboard ‘smart money’ investors as well as ‘spectator’ or ‘passive’ investors.

Regarding this topic, usually VC funding is better, as it frequently comes with a higher level of engagement. It is not rare for VCs to try to help the startups they invest in by suggesting company strategy via the board of directors, make some introductions to flagship suppliers and most importantly, clients.

On the other hand, large investors can also be brought in via crowfunding rounds, as equity crowdfunding platforms today will even encourage anchor investors to take part in the round in order to improve the odds of a successful round and aftermath valuation.

  1. Investor mindset and aspiration

Equity crowdfunding can be powerful beyond measure for companies aiming to make a big social impact, rather than focusing solely on financial returns. Many crowdfunding investors want to use their money to accelerate a change that they support or dream of, and then it is only a matter of finding the right company for an “aspiration-fit”.

This is good news not only for social impact companies but also for companies that can rewrite their proposals and solutions as having a major social or environmental effect.

  1. Marketing approach

The marketing used in both situations is different. With crowdfunding we are talking about digital and online marketing, and trying to reach the biggest number of investors using pay-per-click advertising, mobile marketing campaigns, e-mail explanatory teasers and other digital materials.

While with VC funding we are talking about raising the interest of the right people through the introduction of business partners or through self-introduction, pitch meetings and networking events.

Thus, VC funding is usually prone to happen if you either live or spend some time in VC hub cities like Berlin, London, Madrid, Paris and Amsterdam, rather than if you don’t live in those areas in Europe, or San Francisco or New York in the US.

  1. Funding Restrictions

Venture Capital funds often follow criteria to select investment targets which are more restrictive than crowdfunding criteria.

Crowdfunding remains a more flexible investment vehicle than VCs; if your company is scalable and has a good story, the decision of investing will fall on various deciders and not only a few, like in the case of VCs.

  1. Corporate Culture

When a startup favors keeping its culture rather than becoming another “corporate personality”, it is usually better to choose equity crowdfunding as with many investors none of them tends to have very big influence and they agreed to your terms in the first place.

On the other hand, if you are trying to emulate the corporate cultures of other startups that were in part developed by certain VCs, and if you value the way they accelerated said companies, you should consider raising funds through a VC instead.

  1. Equity crowdfunding fees

In absolute terms, VCs here have a win, as they allow all the raised money to be kept by the company, instead of crowdfunding platforms which take 5-10% of the fundraising round on average – with most platforms charging as a success fee. You can always see this as a marketing expense, as you decide between the pros and cons of each fundraising method.

  1. Publicity, exposure and impact

Your network becomes larger with crowdfunding, and this (at least theoretically) spreads the word about your company across a bigger pool of people. The simple fact of adding your startup name to a crowdfunding campaign will bring a lot of attention, because you will have been at least vetted by the criteria of the platform where you are raising the round.

So just by putting your name as a potential investment target to the crowdfunding public may bring in more exposure than the amounts raised of less than €1 million, as well as the press coverage and public relations campaigns that you can achieve through the crowdfunding platform.

It is advisable that you organize your crowdfunding investors into one separate holding company invested in your company – this way legal matters and communication issues are more easily addressed. If you plan to make a stock exchange public listing, depending on the exchange, they may demand at least 500 to 1000 shareholders to consider listing your company, and crowdfunding can assist you accelerate that requirement.

On the other hand, the publicity you get from being invested in by a VC may well be astonishing, as usually such funds manage press releases well. In addition, they will likely have contacts in important financial vehicles which will bring attention from other bigger investors, and perhaps start conversations about  your business potential.

  1. Valuation Outcomes

The negotiation process between founders and crowdfunding investors can be thought of like any other online purchase process. All information is ready for the crowdfunding investor, and after reading all material he/she clicks to make an investment, totally under your terms. In the VC scenario, the valuation may not always be on your terms, and VCs may request a bigger stake in your business when they see potential.

Of course there are VCs known for their fair play in terms of valuation, but usually equity crowdfunding will give the founders a better valuation after a first round. This means that they need to give up less shares for more money, rather than more shares for less mone, as long as they set a fair valuation in their equity crowdfunding round.

We hope that this article has helped you get a little closer to deciding which funding option is right for your startup. If you are leaning towards crowdfunding, check out our article ‘The basics of launching a successful crowdfunding campaign‘.

Bernardo Arnaud
Bernardo Arnaud
Bernardo lives in Vienna and has been consulting and advising companies for 18 years in fintech, commodities trading, telecom assets management, messaging, jobs marketplaces, agribusiness, luxury, e-commerce and SaaS. He founded a few companies throughout his entrepreneurial journey.

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