November 5, 2018
FOCUS: Banking & Finance

Small but growing number of CT startups turn to crowdfunding

Photo | contributed
Photo | contributed
Bloomfield-based LiquidPiston, whose employees are shown above, has tapped crowdfunding investment on two separate occasions to help fund development of its fuel-efficient engine.
Minds' social-media interface.
Another view of Minds' social network, which offers an alternative to Facebook.
Anthony Price, CEO, LootScout

Source: Crowdfunding Capital Advisors

Alex Shkolnik says he's built a better engine — one 10 times smaller and lighter than a diesel, and twice as fuel efficient as its conventional gas-powered cousin.

His Bloomfield company, LiquidPiston, had a promising prototype, media buzz (they'd been written up in Forbes) and a cult-like following among tech geeks and green-energy fans alike.

But propelling its high-efficiency rotary engine out of the lab and into the commercial market would take more money, and though he'd attracted large investors and federal funding in the past, Shkolnik feared he'd have a tough time getting venture capital firms to bite.

"We're not a traditional software company that the VCs love to eat up," he said, noting past attempts to remake the internal combustion engine have flopped.

So in 2016, he turned to Wefunder, an online business crowdfunding platform, hoping to tap the company's legions of followers as potential investors. The campaign was a hit, raising almost $1.3 million.

"We're an experimental company, so for us the crowdfunding was a bit of an experiment," Shkolnik said. "But it turned out to be very successful."

LiquidPiston is one of a small but growing number of companies using equity crowdfunding (also known as investment or regulation crowdfunding) to raise business capital, an option legalized two years ago under new federal regulations approved as part of the JOBS Act of 2012.

Under equity crowdfunding (which differs from donation-based crowdfunding made popular by sites like Kickstarter), companies can offer a stake in their business to everyone — rather than just wealthy, accredited investors — through web portals or broker-dealers approved by the federal government. Participating companies must register with the U.S. Securities and Exchange Commission and are limited to raising $1.07 million a year.

"It opened up the whole world of investing to everyone, sort of the Joe six-pack," said Anthony Price, CEO of LootScout, a Hartford-based company that helps businesses raise capital. "It's a nascent industry that's been growing over time and it's going to get even bigger."

So far, relatively few companies have taken advantage of the new law, with the average campaign raising a modest $229,500, according to figures compiled by Crowdfunding Capital Advisors, whose founders helped craft the legislation.

In Connecticut, 10 companies have registered with the SEC to run crowdfunding campaigns since the regulations took effect in May 2016, raising a combined $2.82 million, according to CCA data.

But Sherwood Neiss, a CCA partner, said the industry has been doubling in size every year. Nationwide, more than 1,300 companies have raised $164 million through investment crowdfunding to date, the figures show.

"Awareness is the biggest challenge," said Neiss. "Small businesses are still struggling to find capital, but they don't know that there's an alternative way to do it."

Wefunder, the largest of the investment crowdfunding sites, currently has 50 active crowdfunding campaigns, with about four or five companies going live each week, said company spokesman Everett Cook. He said a year ago it was closer to one a week.

"Anecdotally, we're seeing way more companies lined up for service," he said.

Cook said the most successful businesses are those that already boast a loyal following or customer base. Think craft breweries or restaurants.

"For those kinds of companies it's kind of a no-brainer," Cook said. "Instead of trying to pitch a VC on why you're a different brewery than the other 2,000 microbreweries in the U.S., you just go on our platform and all of these people who are buying your beer now have a chance to own part of your bar."

He said crowdfunding can also be a good option for women- or minority-owned businesses, which historically have a harder time raising capital, as well as "moonshot" startups considered too risky for traditional investors. (Wefunder is upfront about the risk, likening investments on its website to a "socially good lottery ticket.")

"LiquidPiston is a pretty good example. (They're) trying to re-make the car engine. That's a pretty out-there kind of crazy thing," Cook said. "But if it works, it's going to change the world."

Buoyed by the response to the first campaign, Shkolnik said LiquidPiston has since launched a second round hoping to raise another $1 million.

Wilton-based Minds, a decentralized, open-source social media network, raised $1.03 million in just 19 days on Wefunder in 2017, setting an industry record for the fastest million-dollar raise at the time, CEO Bill Ottman said.

Billed as a privacy-focused alternative to platforms like Facebook, the network allows users to earn cryptocurrency for contributing and creating content. Minds is now seeing 75 million boosted views on its ad network monthly, Ottman said.

He said the crowdfunding allowed the company to grow its development team and "massively" enhance the product.

"It just changed everything for us," he said, adding the site has grown from 50,000 to 200,000 active users.

He credits that momentum with helping the company recently land $6 million in Series A funding from Medici Ventures, a subsidiary of Overstock.com, which invests in companies advancing blockchain technology.

"When you're successful raising a million dollars from 1,500 people, it's pretty validating," he said. "It looks great to an investor when you have that large-scale support."

Transparency is key

Although a small number of companies have struck gold, crowdfunding isn't for everyone, warned LootScout's Price. He said companies considering crowdfunding need to be organized, transparent and comfortable interacting with the public.

Complying with federal requirements, such as filing annual reports with the SEC, can be burdensome for some smaller businesses, he said, and communicating regularly with hundreds of investors can be taxing.

"People have to understand that there's no magic button you can press," said Price. "There's a lot of work involved."

While crowdfunding skeptics have raised concerns about fraud and abuse, advocates say so far those fears have not materialized.

In a 2017 report on the industry, CCA found no incidences of "abnormal activity or irrational investor behavior." In Connecticut, there have been no consumer complaints about crowdfunding fraud, said Matthew Smith, spokesman for the state banking department.

Price said it's important for businesses to paint a realistic picture for investors.

"You shouldn't be telling them you're the next Apple computer," Price said. "If you're a bar or a restaurant, these are people who already love you … you don't want to turn those followers into disgruntled customers."

On the flip side, customers with "skin in the game" will often do more to help the company succeed, Wefunder's Cook said. "You have this group of lifelong evangelists and brand ambassadors," he said. "For an early stage company, that's a huge thing."

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