Equity crowdfunding: Information for investors

Contents borrowed from a recent Forbes article on the topic.

“Invest in What You Know”. This principle of the great investor Peter Lynch applies to investors considering putting their hard earned cash in private companies. If you aren’t an engineer, or have deep backgrounds understanding the key drivers in a tech company, don’t invest in a company claiming to have a better search algorithm than Google. There are platforms that are today selling secondary stock in large private tech companies like Dropbox or Pinterest. Lets think about that for a second- you cant see financials, you cant dig into their technology in a meaningful way and you have no access to the management team. How would anyone in that situation know if the company is worth $2B, $20B or $200B. If you don’t know why valuation is critical, you shouldn’t be investing into private companies. With small consumer and retail companies, investors can understand the product, often look at historical financials and talk with the management. Peter Lynch’s mantra is one reason why in our personal opinion consumer and re tail companies will benefit the most from this regulatory change and the resulting advertising.

• Be Cautious. Investments in private companies are risky. Very risky. While they can produce staggering returns when successful, these investments are very illiquid and have incredible volatility — you need to be prepared for your investment to be worth nothing. If you are going to invest in private companies, you should decide upfront how much of your portfolio you want to allocate to such investments and then spread this amount over at least 5–7 companies, as diversification is critical when dealing with such volatile return profiles.
• Work With Intermediaries You Trust. This advice is the same as it is for entrepreneurs. For investors who plan to turn to crowdfunding portals to find deal flow, it is critical to identify the most reputable ones, as these will have the highest quality investors and, in turn, the best companies. Make sure the platform is a registered broker dealer, or partnered with one.

This change marks an incredibly exciting leap forward for small businesses and investors alike. General solicitation, when used right, will offer a new level of transparency and democratization to finance by giving investors more choices and allowing entrepreneurs to raise capital more efficiently so they can get back to their day job of building their business. However, all participants need to be careful on how they use/rely on advertising efforts. There will be hiccups along the way, but I believe the ban’s removal will be a win-win for investors and entrepreneurs.