Raising start-up cash in the 21st century

October 27, 2013 at 12:00 AM EDT
A report on new potential uses of 'crowdfunding' - raising a large pool of money from many small contributions online. Thanks to the bipartisan JOBS Act entrepreneurs will soon be able to use this method. Supporters think the it could be a key to spurring economic growth and job creation. But is it a good idea for investors?

KARLA MURTHY: Artur Makylyervsky is in New York City trying to raise money for his start-up company. It’s called juicy canvas – an online business that allows users to customize original artwork to make prints, T-shirts or mobile cases.

ARTUR MAKLYERVSKY: Takes two clicks to just essentially change the product…

KARLA MURTHY: It’s an idea that he thinks could be huge.  So he’s doing what most start-ups do at this stage – trying to sell his idea to big investors, venture capitalists.

But competing for their money is a time consuming and difficult process. It takes face to face meetings, networking, and luck to hook an investor with big bucks.

ARTUR MAKLYAREVSKY: There’s only so much that they’re going’ to invest per year. And every– hour, there is exponentially more and more and more and more start-ups getting into the market. So it’s going to be harder for us to kind of bubble up.

KARLA MURTHY: but now startup businesses could soon have another source of cash.

PRESIDENT OBAMA: For start-ups and small businesses, this bill is a potential game changer.

KARLA MURTHY:  That’s because a little-known provision in the 2012 JOBS Act, signed by President Obama, allows non-publicly traded companies to use the Internet to raise investment capital. It’s a practice known as crowdfunding – raising a large pool of money from many small contributions. Companies can raise up to $1 million dollars a year.

Before the JOBS Act, to invest in most startups an individual had to be “accredited” meaning that they earned more than $200,000 dollars a year or were worth at least a million dollars.

Now, even if you earn less than $100 thousand dollars a year, you’ll be allowed to invest up to $2,000 or 5% percent of your annual income in these new companies.

PRESIDENT OBAMA: For the first time, ordinary Americans will be able to go online and invest in entrepreneurs that they believe in.

KARLA MURTHY: The question is this: will it provide an opportunity for someone of ordinary means to get in early on a potentially lucrative investment? — Or is it a disastrous rollback of laws designed to protect investors from risky ventures that often fail?

Steve Case co-founded AOL and is now CEO of Revolution, an investment firm in Washington D.C. he’s convinced the law will encourage the creation of more startups.

STEVE CASE: I think it’s going to unleash another wave of entrepreneurship all across the nation.

KARLA MURTHY: Case served on President Obama’s jobs council and was a major supporter of the jobs act,

STEVE CASE: We need to really make sure we’re doubling down on our nation’s entrepreneurs, and– the JOBS Act will help do that by providing more entrepreneurs in more places in more sectors of our economy the ability to raise the capital, either to get started or to grow their company.

KARLA MURTHY:  Artur Makylyervsky says this new law could make it easier for him raise money.

ARTUR MAKYLYERVSKY: Essentially it’ll– allow us to   focus   on growth much faster  and not have to deal with– the standard– angel– vc funding– adventures that we would have to go on.

KARLA MURTHY: Is this also going to create more jobs?

STEVE CASE: Absolutely. If we want to get our unemployment rate down, the place to focus is startups. If we want to get our economic growth rate up, the place is to focus is startups. If we want to make sure we’re competitive, the place to focus is startups.

KARLA MURTHY: According to the Bureau of Labor Statistics, each year since 1994, startups have created more jobs than the total number lost and gained by all us businesses. And supporters say that by updating the law so companies can raise money from anyone over the Internet, entrepreneurs will have more access to capital and will in turn create more jobs.

STEVE CASE: The Internet didn’t exist 80 years ago.  Most people didn’t have television, you know, 80 years ago.   Most people didn’t have cars 80 years ago.  The world has changed and it was time to update our securities law to reflect that—

KARLA MURTHY: But at what risk to small investors, who could be putting their money in the riskiest of startups: businesses that may have failed to raise enough money from venture capitalists.

MIKE STOCKER: The issue is, is it a good idea for investors? And I think the answer to that is a resounding no.

KARLA MURTHY:  Attorney Mike Stocker represents investors. He says this new provision in the jobs act undoes protections put in place during the Great Depression.

MIKE STOCKER: If we change them now we are forgetting not only what we learned then, but what we learned in this great recession that we’ve just come through.

KARLA MURTHY:  A lot of the supporters are saying we are just bringing these laws into this century, I mean the Internet wasn’t around back then and we really need to update these laws in order to reflect the way business works now. What’s your response to that?

MIKE STOCKER:  Well, that’s certainly been part of the huge mass appeal to crowdfunding that it sounds kind of sexy and kind of 21st century, and most importantly kind of democratic because everyone can get involved.  The thing that they are actually asking to be updated is traditional limitations on the ability of small, private companies to raise money from ‘mom and pop’ retail investors. And those restrictions have been in place historically because those are very risky investments.

KARLA MURTHY: Isn’t there some benefit for having this just open to accredited investors that are wealthy and maybe more sophisticated and know exactly what kind of what– what’s entailed with the risk and are more knowledgeable  about investing?

STEVE CASE: I understand that concern. We don’t have that limitation in terms of letting people buy a house which is risky.  We don’t have that limitation in terms of people investing in the stock market which is risky.  We don’t have that limitation in terms people gambling in Las Vegas which is really risky.

Why should we tell people they shouldn’t be able to invest in startups? Before JOBS Act passed, for the last 80 years, you essentially had to be a millionaire to invest in startups.  So it was kind of a way for the rich to get richer, but everybody else was being left out.

KARLA MURTHY: I know some skeptics are really worried about fraud and protecting the investors.  I mean, is that something you’re concerned about, that maybe some of these mom and pop investors, might get fleeced?

STEVE CASE: I think there’s always risk of that. I think the right protections are being put in place and I remember, since– we– started AOL almost 30 years ago when the Internet just beginning to be an idea. 

And when people started talking about the idea of ecommerce– when people entering their credit cards on the Internet, they said, “that’s never going to happen.  People are never want to enter their– credit cards.”  over time, people got comfortable that they were going to be protected.

These new technologies, these new ideas will take some time to really settle out and really have the kind of impact they can have.

KARLA MURTHY:  But there’s a catch – even though startups were supposed to be able to use this new tool to raise money by this past January, the sec still hasn’t fully implemented the crowdfunding provision of the JOBS Act.

STEVE CASE: I think they want to be deliberate and make sure they get it right which I understand.

But I think they also– need to understand there are a lot of entrepreneurs out there with companies that aren’t getting started because they don’t have access to capital or with existing companies that could be growing and creating jobs that aren’t doing that because they don’t have access to capital.

KARLA MURTHY:  In the meantime, because he hasn’t been able to raise money from investors, Artur Maklyarevsky will be preselling T-shirts, prints, and phone cases to fund his business.

So once the rules are in place, the S.E.C. rules, what kind of impact is that going to have on your company?

ARTURO MAKLYAREVSKY: Well, it’ll have a major impact. It would let us do what we really want to do much faster. You’re just going to have– a lot more Einsteins that  would never see light of day be able to get  into the market, you know this country’s built on that.