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Entrepreneurs go public for cash

On March 20, CordCruncher appeared on Kickstarter.com with 30 days to raise $20,000.

With just 10 days left to deadline, the extendable latex headphones stalled out at $5,000 raised. If the product didn’t reach its goal on the popular crowdfunding website, its Las Vegas-based developers wouldn’t see a single penny.

"We had flatlined," said Jaerrett Gaaei, the company’s director of operations. "We were only raising a couple hundred dollars a day."

Then a Florida public relations firm contacted the company, offering to help CordCruncher reach its $20,000 threshold. CordCruncher’s Kickstarter pitch went viral. Donations poured in, bringing the company’s final tally to $66,689.

Welcome to the new age of startup business financing, when all you need is a dream and social media marketing.

Crowdfunding portals Kickstarter and Indiegogo are circumventing traditional means of finding capital by allowing entrepreneurs to tap directly into their customer base. CordCruncher, for example, set up a tiered structure for donations, where each tier received a different premium for donating. More than 1,000 backers donated $20 or more and will receive a first-run set of headphones.

Paul Thistle, chairman of the finance department at the University of Nevada, Las Vegas Lee Business School, said the traditional startup path begins with an entrepreneur’s own money, then help from family and friends, angel investors and, finally, venture capital.

"(Crowdfunding) is probably going to supplement the family and friends and, to a certain extent, the angel investor step," Thistle said.

So far, crowdfunding has been popularized by donation-based sites like Kickstarter, which have an all-or-nothing approach. If a startup misses its goal it doesn’t see a dime. Crowdfunding portals typically take a cut; Kickstarter takes 5 percent.

Crowdfunding got a big boost in April with passage of the federal Jumpstart Our Business Startups (JOBS) Act, which lifted restrictions on equity-based crowdfunding or the use of Internet portals to raise funds by giving equity to small investors. The legislation allows startups to raise as much as $1 million a year using equity-based crowdfunding. Currently, private companies are not allowed to give equity to the public.

The Securities and Exchange Commission is still working out the details of the legislation. The National Crowdfunding Association formed and has signed on more than 400 crowdfunding stakeholders in the last six weeks to contribute to the SEC regulation discussion.

"It’s going to be a brave new world," said David Marlett, the association’s executive director. "The great thing is, it’s already been well proven that the Internet and social media has a fantastic sunshine effect of clearing out a lot of the bad deals, just by all the comments that people will make."

However, the new wave of interest in crowdfunding will contribute a lot of noise to the startup scene. Marlett tells entrepreneurs to get in now.

"We are encouraging people to use the donation model now," Marlett said. "It’s free money if you can get after it."

Free money has its obvious advantages. But when equity comes into play, crowdfunding is more complex.

"You are now going to have a presumably large number of investors," said Thistle. "It’s a trade-off. They’ll have issues to deal with, but it gives them another source of capital. If I needed to raise capital from friends and family, I wouldn’t be able to raise $1 million."

The Pebble, a smartwatch connected by bluetooth to your smartphone, came out of Palo Alto, Calif., in April to raise more than $1 million in 28 hours on Kickstarter. The product is now the pillar of successful crowdfunding. Pebble has since raised more than $10 million, far exceeding its goal.

Software developer Matt Kronyak earlier this month launched his Kickstarter pitch for a video game called Realm Explorer. His company, RealmSource, is seeking $250,000 to build the fantasy computer game. So far, the game has garnered a little over $9,000 in donations.

Video game development is typically funded by publishing companies that pay creators up front and pocket profits from sales.

"Kickstarter is really appealing because we get to retain full ownership over our intellectual property," Kronyak said. "Any future profits go back into our company. We’re not really beholden to the winds of the publishers."

Art installations, independent films and music tours will continue to rack up donations. But for startups with products to sell, like CordCruncher, equity-based crowdfunding may replace angels.

CordCruncher developer Jay Johnson is using the original $20,000 to fund his company’s first production run of 5,000 headphones, which retail for $24.99. The remaining $50,000 will be used for future production.

Contact reporter Caitlin McGarry at cmcgarry@review journal.com or 702-387-5273.

 

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