July 23, 2014 4:13:39 am
Online crowd-financing platforms could be a major boost for India’s entrepreneurial ecosystem.
A major part of the world is consistently encouraging entrepreneurship. Start-ups are drawing the best people into the ecosystem, building solutions, executing them tirelessly and making a significant impact on society. Over the years, start-ups have redefined the economics of business, particularly so in India. With many incubators, accelerators, investors and venture capitalists entering the start-up community, the support system for the same is rapidly gaining strength in terms of knowledge, experience, infrastructure and capital. Despite that, a start-up’s journey to success is filled with challenges and uncertainties.
One of the major reasons why start-ups fail is lack of adequate capital. In a place like India, where raising investment requires immense effort and a long turnaround time, there is a need for alternate funding sources. This will make the investment market more competitive, flexible and accessible to upcoming entrepreneurial talent.
The Securities and Exchange Board of India (Sebi) recently released a paper that discusses the legal and regulatory challenges involved in implementing crowd-funding in the country. Online crowd-financing forums are already active in many jurisdictions and, considering our present situation, have the potential to massively boost the entrepreneurial ecosystem. They will help start-ups reach out to potential investors in a much easier way. Additionally, a more competitive investment market will enable entrepreneurs to negotiate better deals and have a greater say in deciding the future of the company. I’ve come across a few cases where start-ups over-dilute equity or are restrained from naturally building their company due to the limited investment opportunities available to them.
Sebi’s discussion paper considers the risks, benefits and responsibilities involved in opening our economy to crowdfunding from the perspectives of start-ups, investors and entities that set up the crowdfunding platforms. However, the proposed rules indicate high entry barriers for those who can raise funds and can invest. For instance, the regulations only allow those companies no more than 48 months old to raise funds. Many start-ups go through a long journey to realise their true value in the market. They undergo several pivot strategies and repeatedly reinvent themselves to eventually build a strong and longlasting foundation.
So, even after a few years of operation, they continue to operate as start-ups and seek to raise early stage investment. According to Sebi’s proposal, the crowd-funding system will not be accessible to such start-ups after a duration of 48 months. Hence, these start-ups will have to shift to existing methods of fundraising, and the purpose of having alternate funding sources will not be served. This may dilute the significance of introducing crowd-funding as many companies in the past have gone through this reinvention cycle to finally emerge as pioneers in their respective industries.
Further, Sebi regulations don’t allow companies to raise capital of more than Rs 10 crore in a period of 12 months. This may restrict many start-ups, which are in fact in need of higher capital to execute their vision, from using crowdfunding platforms. A company’s investment requirements depend on what it aims to do. For example, a software start-up that builds a web/ mobile platform may require less early stage investment than a start-up building the next generation of robotic arms.
Keeping a safe limit of Rs 10 crore will not allow many high-potential concepts to become reality. Moreover, a start-up’s growth trajectory is difficult to predict, especially considering the scale that the use of technology allows a company to achieve in little time these days. A Rs 10 crore limit may be sufficient for a start-up in its first two years of execution, but if the company manages to show great progress in that time, it might need to raise higher amounts in future. Such start-ups will have to turn back to traditional methods of fundraising.
The main reason for restricting crowd-funding platforms is to mitigate the risk for investors in a newly introduced system. This is important, but can always be taken into account while deciding which parties can invest. The regulations only allow those retail investors to invest who have knowledge, experience or access to investment advice, and have resources to cope with potential loss on their investment. Coupled with strict restrictions on start-ups that can raise funds, this will considerably limit the value of this system.
Though these restrictions may lead to a safe beginning for crowd-funding in India, they will not have as much of an impact on the entrepreneurial ecosystem as they could. Sebi must relax the regulations at each end over time, once users are more comfortable using these platforms and understand the risks, benefits and responsibilities better. If executed well, an open crowd-funding environment will serve as a gamechanging concept in fundraising. It will enhance the growth of entrepreneurship in India, enabling more start-ups to execute and scale their vision faster.
The writer is founder and partner, TommyJams, and an ambassador for Microsoft Ventures
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