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Why Crowdfunding Is The Next Big Thing: Let's Talk Numbers

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Stephen Hawking once said: "I don't think the human race will survive the next thousand years, unless we spread into space." Bold statement. But as I've been working on organizing the upcoming Next Generation and Global CrowdFunding Forum which is set to be on November 16th here in Los Angeles, I've been asking myself the similarly dramatic question: can we, as entrepreneurs in desperate need of capital, survive the next ten years unless we spread into crowds?

A Global Entrepreneurship Monitor (GEM) study revealed that out of the $51 billion invested in start-ups by individuals in 2010, only $9.4 billion was committed by angel investors (formal investors) while the bulk of capital, $41.6 billion (81%), came from friends and family. What about VCs? Let's look at the data from the National Venture Capital Association (NVCA): in 2010, venture capitalists invested approximately $22 billion into about 2,750 companies, 36% of which received funding for the first time. Now let's compare the numbers: in 2010 we had $41.6 billion coming from friends and family, aka "informal" investors, fearlessly backing up start-ups and only $22 billion from the VCs committing to both: start-ups and established business. Are you thinking what I'm thinking?

More recent data from GEM confirms that in 2011, 4.8% of the U.S. population personally provided funds for new businesses while only 1% of the population was represented by formal or accredited investors (must have an annual income of at least $200K or over $1 million in liquid net worth) along with venture capitalists. Alas, the last were not much of a help to the majority of entrepreneurs - 95% of business plans received by the accredited investors and VCs were rejected.

From my frequent talks with VCs, I've collected even more astonishing numbers - on average a VC reviews 2,000 business plans annually while choosing to invest in just 3-5 ventures per year. So, your probability of getting funded by a VC is 0.2%. On the flip side, one of the VCs told me that he has to raise capital himself most of the time and is often sad to let the company go - moreover, he wouldn't be surprised to find out that his "rejected portfolio" would perform better than the acquired one. What? Does it mean that we might miss the next Mark Zuckerberg? And who holds the cash anyway - money that might have been invested in the emerging ventures otherwise?

The enlightening answer has arrived from the Federal Reserve. It turns out that large U.S. corporations currently hold about $1.73tn (50% more than they held in 2007) and banks keep in their reserves an estimated $1.5tn in excess. Realistically speaking, can we expect such cash hoarding to be unleashed any time soon with a goal of rescuing small businesses under the premise "too small to fail because nobody will notice anyway"? You get the point.

Needless to say, entrepreneurs in the U.S. are waiting with their hands up for the SEC to arrive with new solicitation and general legislation rules that would allow them selling shares over the Internet utilizing the equity- based crowdfunding model. Yet, some of them have already employed an altruistic or reward-based crowdfunding model which is operational today. If you are a small business owner or have a creative project, chances are you are familiar with Kickstarter , IndieGoGo or GoFundMe - crowdfunding platforms with the investment proposals spanning from film makers to innovators offering non-financial incentives for micro-sponsors. Furthermore, last week Lockitron released a crowdfunding software under an open source license and launched Selfstarter - a ground-breaking platform which would allow inventors to set up their own crowdfunding campaigns.

Interestingly, the long awaited crowdfunding model where micro-investors take an equity part in the company, has been already operational in the UK for over two years, in Australia for seven, and recently was legalized in Italy by the Monti government. My Italian friend commented after that legislation: "I must say that this is a time I am proud to be an Italian!"

Overall, according to Crowdsoursing.org , the company that does an admirable job tracking the industry numbers and trends, the crowdfunding platforms raised $1.5 billion in 2011 - still a tiny number in global terms but the growth is impressive: 72% from $854 million in 2010 and almost a triple jump from the $530 million raised in 2009. The study forecasts further growth which is expected to be almost doubled this year reaching $2.8 billion globally.

What's next? Well, I am sure that SEC with the help of the two most active groups in the industry Crowdfund Intermediary Regulatory Advocates and the Crowdfunding Professionals Association will frame the legislation just right remembering that the initial goal of crowdfunding has been to simplify access to untapped capital for the entrepreneurs and innovators, not complicate it. Quoting Stephen Hawking once again, "The idea of 10 dimensions might sound exciting, but they would cause real problems if you forget where you parked your car."