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How has crowd funding altered the investment landscape for entrepreneurs?

Square One Law Partner, Mark Lazenby explains crowd funding, how it works and the legal implications for growing businesses.

Crowd funding is an increasingly popular way to raise finance. It offers an accessible and transparent method of raising funds as potential investors are told from the outset how much finance is required and what they will potentially get in return of their investment.

There are four distinct types of crowd funding:

Equity Crowd Funding

Investors can provide sums in exchange for shares or a stake in the business or project being marketed. The investment offers greater returns but also greater risk in that, as with ordinary share investments, the value of the investment can down as well as up. This route should be carefully considered as it could mean giving up a large proportion of equity and control.

Debt Crowd Funding

With debt crowd funding, or peer-to-peer lending as it is commonly known, investors receive their initial input plus interest. Given the increasingly stringent lending criteria of traditional high street lenders and historically low interest rates for savers, cash-rich investors are increasingly turning to peer-to-peer lending to make a return on their investment.

Investors are able to decide on the level of return (and therefore risk) they seek, and peer-to-peer lending platforms spread their investment amongst a number of borrowers so as to minimise the risk of potential defaults.

Reward Crowd Funding

This type of crowd funding often receives the most headlines primarily due to popularity on social media.

Small sums are requested for returns that are often unquantifiable such as products, acknowledgement on album covers or the opportunity to be an ‘extra’ in a movie. Given that no real return on investment is offered, finance is usually sought from an emotive stand point whether it be progressing a ‘bright idea’ prototype into a mass-market product or an idea that has been rejected by traditional financiers such as a movie of a television show with a passionate fan base.

As an example fans of Veronica Mars established one of the fifth highest grossing crowd funding projects to date when attempting to fund the movie adaptation of the TV show. Aiming for $2 million in funding, it ended up with over $5.7 million and a studio-backed film adaptation.

Donation Crowd Funding

This is used when raising funds for a charity or charitable project. As its name suggests it is simply a donation platform without any return generated.

Crowd funding, in any form, has a number of legal complexities which need to be considered. It is vital that professional advice is sought from the outset as crowd funding is increasingly falling within the remit the Financial Conduct Authority.

Nonetheless, crowd funding can be an effective way to raise finance, especially if your project or business has a story with the potential to engage multiple audiences.

To find out more about crowd funding and the legal complexities to consider, contact corporate partner Mark Lazenby on 0843 224 79 06 or email mark.lazenby@squareonelaw.com

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