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Crowdfunding

3 Myths You Should Know About Crowdfunding

3 Myths You Should Know About Crowdfunding
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Whoever said three's a crowd surely got it wrong! In fact, the apt idiom here is, "More the merrier"!

Gone are the days of shouting orders and instructions on the trading floors and gone are the days of computerized stock exchanges. Here comes the internet at the speed of 5G. When we can fill our wardrobe and groceries online, why not manage our portfolios, while we are at it!

India is an ever evolving market. While the dust was settling on FDI, the eCommerce sector took India by storm. It is true that while there may be one Flipkart, there may be many flopkarts too. But the fact remains that e-commerce has made its mark and is here to stay. Will crowdfunding too gain popularity and take India by storm

Crowdfunding, as its name suggests, is nothing more than a group of investors congregating and funding a project, but not on the stock exchange or through a roadshow but via the internet.

Startup investing and fundraising is moving from the boardroom to the deal room (online) as new laws for equity crowdfunding come into effect across various jurisdictions. Prior to this, traditional fundraising has been a fractured process that takes place across hundreds of private emails, calls and in person pitch meetings. But now, early stage venture capital is being disrupted and moving online in a public way. Alongside this, tens of thousands of startups are opting to use the web and equity crowdfunding to find, pitch and close investors.

The crowdfunding model is fueled by three types of actors: the project initiator who proposes the idea and/or project to be funded; individuals or groups who support the idea and a moderating organization that brings the parties together to launch the idea. Crowdfunding as a concept pre-dates the internet and projects like the Statue of Liberty raised funds from a large number of donors.

So, why crowdfunding?

There are many advantages of crowdfunding. It is the biggest global funding resource, which brings a large group of believers and avid supporters for the business.

The risk is shared among many investors, thereby putting less financial pressure on just a few individuals. It cuts out banks, venture capitalists and professional investors to create a business funding process. Last, but not the least, it gives you the possibility to engage with your believers even before the business launches.

The return on investment from equity crowdfunding can be enormous. While most startups may not achieve the ROI of the magnitude of Facebook or Dropbox, a long-term investment of five to eight years in the right startup could produce higher returns than any other asset.

Is crowdfunding recognised in India?

Recognised yes, regulated no! The Securities & Exchange Board of India recognises that crowdfunding, if regulated appropriately, can provide an excellent funding alternative for early-stage ventures and cash-strapped small businesses. However, given its vulnerability to "regulatory arbitrage" and fraud, the regulatory framework needs to strike the right balance between protection of investors and promotion of entrepreneurship.

While regulations and restrictions are necessary to regulate crowdfunding in India, the limited class of investors will expect an outcome out of their investment. This is a setback to creative works and social causes which do not give return on investments.

The technical startups will benefit the most from this new class of analyze-before-investing. Earlier, most crowdfunding was through small donations from individuals who invested because a friend had recommended or they felt for the project.

The emotional vibes in investment will take a backseat as the accredited investors will evaluate the project and its potential before investing. A QIB will prefer to stay away from investing in a project where the risk element involved is higher and, therefore, there are chances of investment not being returned.

In June 2015, SEBI decided not to bring out any regulations for crowdfunding as of now. SEBI is currently in the midst of evolving guidelines for funding arrangements for startup entrepreneurs and aiming to give a strong boost to India's already buzzing start-up space. On June 23, 2015, SEBI made it easier for entrepreneur-driven new companies to list on stock exchange platforms with easier listing, shareholding and disclosure norms. The new rules intend to attract start-ups to list in the country, rather than looking for funds from a foreign bourse.

Will crowdfunding die a natural death in India?

Not at all. Crowdfunding, although not regulated in India, will nevertheless flourish. Even though SEBI may have introduced easier listing, shareholding and disclosure norms for start-ups, the fact remains that the risk appetite and quality of investors is much more advanced with investors overseas than in India.

Since the crowdfunding platform in India will not be regulated, the risk to the investor will be far more than when a startup company proposes to list on the stock exchange platform and allows itself to be regulated by the stock exchanges.

The reach of the internet and the crowdfunding platform has made access to funds a lot easier. An Indian company may set up an overseas company in a crowdfunding-friendly jurisdiction, and then seek funds from investors around the world. On the other hand, an Indian retail investor, who was not able to participate in the equity of the Indian company, can now invest through the crowdfunding platform.

Conclusion

The traditional boundaries of corporate finance are breaking down. It is time to shed older notions of corporate finance within the frameworks of political confines and instead address the issue of the world being better connected, even within the realm of corporate finance.

While we wait for listing of startup companies and the herd mentality to take over, Indian entrepreneurs will continue to raise funds on the crowdfunding platform and grow their business. Whether one or both the platforms will be successful or whether one platform will overtake the other; only time will tell.

Edition: December 2016

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