Crowdfunding represents a radical new approach for entrepreneurs seeking capital, standing in stark contrast to old-fashioned venture capital or small bank loans. In New York City’s entrepreneurial ecosystem, founders are more and more resorting to crowdfunding models adapted to the nature of their business and their growth objectives. While equity crowdfunding and reward-based crowdfunding are the two major models, each offers a development path that is quite different from each other. This guide will cover the ins and outs of both, including benefits, challenges, and considerations so that NYC founders will be able to make an educated decision.
Understanding the Two Crowdfunding Models
Equity crowdfunding refers to fundraising in exchange for the issuance of shares of ownership of the company to the investors. This model falls under U.S. Securities and Exchange Commission (SEC) regulation of Regulation Crowdfunding (Reg CF). Platforms such as Wefunder, StartEngine, and Republic allow startup companies to pitch business ideas to the investing public segment, from accredited to non-accredited persons.
Reward-based crowdfunding, however, allows companies to accept monetary contributions in return for tangible reward products instead of offering shares in the business. This method is mostly associated with platforms like Kickstarter and Indiegogo and fits well with funding creative projects or consumer product launches. Contributors here are not investing in the company; rather they are supporting the campaign in exchange for early access to a product, branded merchandise, or various other non-monetary incentives.
Pros and Cons of Equity Crowdfunding
Equity crowdfunding has a number of worthy benefits. Besides allowing founders to raise a considerable amount – sometimes more than a hundred thousand or even into millions of dollars – it also creates a community of supporters who will be invested in the success of the company for the long haul. Furthermore, equity crowdfunding also brings word out in media with its campaigns, exponentially increasing the reach that a startup may have.
However, such a model comes with a plethora of legal and regulatory obligations. Founders have to file a very thorough reporting of finances with the SEC, and in some cases, audited financial statements. This cumbersome process can take a long time, in addition to the hours spent with legal and accounting fees. Moreover, it comes with ownership dilution since founders have to give up a certain percentage of their company for receiving funds.
Equity crowdfunding may serve as a stepping stone in a city like New York, where investor networks are strong but very competitive, for start-ups that haven’t actually reached the stage at which they’re ready for institutional venture capital.
Pros and Cons of Reward-Based Crowdfunding
Most often, reward-based crowdfunding is easy and straightforward to initiate. It allows founders the opportunity to raise small amounts of capital, usually between $5,000 and $100,000, without giving up any ownership in their companies. It is an excellent way to test products, find early adopters, and validate the business idea.
Since, unlike equity crowdfunding campaigns, reward-based campaigns are less regulated in all countries, they also carry relatively fewer legal requirements. But there are also risks attached to operations. The founder must deliver on all the promises he made such as product manufacturing, shipping, and communication with backers, without which he will not only run into defamation but will also lose a majority of customer’s confidence.
Of course, this is especially true when it comes to the fashion industry. In fact, it applies to any business that thrives by giving consumers something of value-an opportunity in the New York marketplace consumer driven areas. These are clearly food and fashion, but this would include local lifestyle brands with great stories and super visual appeal.
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NYC-Based Examples
An independent bookstore located in the Bronx has raised a Kickstarter fund to open a brick-and-mortar location. For unique rewards, the founders offered limited-edition books, meet-and-greet events, and behind-the-scenes updates. In total, over $30,000 have been raised successfully, proving that local initiatives can draw together the community using story and transparency.
One such New York fintech startup is based in Brooklyn and has opted for equity crowdfunding through Republic. An immigrant community not served by the mainstream credit systems was targeted, and the startup was able to attract nearly 800 investors to raise over $400,000. The campaign gathered not only cash but also possible future users and brand advocates.
Legal and Financial Considerations in New York
Founders wishing to go for equity crowdfunding have to ensure compliance with Regulation Crowdfunding requirements. In brief, a Form C offering statement must be prepared, the financial statements must be reviewed or audited depending on the amount of the raise, and any possible risks to the investors must be then disclosed. Many platforms provide assistance in these areas, but we strongly recommend legal advice.
reward-based crowdfunding tends to be less regulated, founders certainly should be cognizant of laws affecting consumers and fulfillment liability, as well as tax ramifications. Transparency and realistic timeframes are among those required to retain the trust of backers.
Those specifically about crowdfunding in New York City include the NYC Department of Small Business Services, the Bronx Business Incubator, and such mentoring organizations as SCORE NYC.
Choosing the Right Crowdfunding Model
Always choose crowdfunding type-an equity or reward-that is compatible with your company’s growth strategy, financial needs, and willingness to concede ownership. In all likelihood, equity crowdfunding would suit very well for a scalable business, expecting to raise bigger amounts. Reward-based crowdfunding may provide a better, straightforward, and quick option if you are introducing a physical product for market testing and community engagement while avoiding any dilution of ownership.
Some key questions to consider include:
- Are you prepared to manage legal compliance and investor relationships?
- How much capital do you need, and what will it be used for?
- Do you have the resources to manufacture and ship rewards?
- Is your business more of a community-oriented venture or a high-growth startup?
Final Thoughts
Contradictions do not end here: for NYC founders, what drives them to choose between reward and equity crowdfunding is not the money but the community-building, the testing of ideas, and the long-range setting for success. Both crowdfunding models have received success across the sprawling city from ultra-local mom-and-pop businesses to next-gen financial services innovators.
This is so important: alignment. Your crowdfunding model ought to be appropriate to be in alignment with your business goals, customer, and investor expectations as well as your delivery capability. By understanding what each approach can or cannot do, you will be able to design a campaign that meets your funding needs and strengthens your brand and community presence.
Dear entrepreneurs of NYC navigating the funding landscape of today, download our free cheat sheet, comparing equity and reward crowdfunding.