Signaling in Equity Crowdfunding

Abstract

This paper presents an empirical examination of which start-up signals will small investors to commit financial resources in an equity crowdfunding context. We examine the impact of firms' financial roadmaps (e.g., preplanned exit strategies such as IPOs or acquisitions), external certification (awards, government grants and patents), internal governance (such as board structure), and risk factors (such as amount of equity offered and the presence of disclaimers) on fundraising success. Our data highlight the importance of financial roadmaps and risk factors, as well as internal governance, for successful equity crowdfunding. External certification, by contrast, has little or no impact on success. We also discuss the implications for successful policy design. Signaling in Equity CrowdfundingABSTRACT This paper presents an empirical examination of which start-up signals induce small investors to commit financial resources in an equity crowdfunding context. We examine the impact of firms' financial roadmaps (e.g., preplanned exit strategies such as IPOs or acquisitions), external certification (awards, government grants and patents), internal governance (such as board structure), and risk factors (such as amount of equity offered and the presence of disclaimers) on fundraising success. Our data highlight the importance of financial roadmaps and risk factors, as well as internal governance, for successful equity crowdfunding. External certification, by contrast, has little or no impact on success. We also discuss the implications for successful policy design. JEL Classification: G21, G24, L26Keywords: Entrepreneurial Finance, (Equity) Crowdfunding, Micro Lending, Internet, Given the recent passage of the JOBS (Jumpstart Our Business Startups) Act in the U.S., which will permit equity crowdfunding by early 2013, this number is likely to increase sharply. Small investors, who are often the primary support of start-ups, do not usually have the capability to extensively research and assess potential investments. In order to successfully raise money via an equity crowdfunding platform, therefore, start-ups need to find ways to clearly signal their value to small investors.Two contrasting London-based crowdfunding cases illustrate the issues discussed further here. In December 2011, The Rushmore Group, a start-up that now operates three bars in London, sold 10% of its equity for £1,000,000 to 143 small investors through Crowdcube.The aspiring entrepreneurs of The Rushmore Group accomplished this feat in a little over two weeks -a remarkable success story.A strikingly different outcome, however, is illustrated by our second example. In early April 2012, another owner and operator of a London bar, Meatballs, offered a 25% equity 2 stake for £300,000 on Crowdcube. Two months after the start of the offering, they had raised only £4,750.The Rushmore Group and Meatballs perform essentially the same service in the same city.Both start-ups were presented in the same fashion and on the same online platform. Why, then, di...

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