Startup report slams crowdfunding model, claims it "fails to adequately protect retail investors"

Startup report slams crowdfunding model, claims it "fails to adequately protect retail investors"

Illustration from State of Australian Startup Funding Report 2023.

Authors of the State of Australian Startup Funding Report 2023 have chosen to omit crowdfunding campaigns in their analysis after concluding the current model 'fails to adequately protect retail investors, the very group the regulation governing it aims to serve'.

The reported $71 million raised by Australian companies via crowd-sourced funding (CSF) last year pales in comparison to the $3.5 billion raised through venture capital and angel investing; the latter itself under threat from proposed income and asset restrictions on who can be classified as a wholesale or sophisticated investor.

The latest report, prepared by Cut Through Venture and Folklore Ventures, has recognised the positive intent behind crowdfunding and its suitability for certain businesses, but calls for several changes that could be either legislated or self-regulated.

"During the period that Cut Through Venture analysed the sector, we identified several issues that we deemed not in investors' best interests," the authors state.

"These issues included inflated valuations, confusing investor materials, aggressive marketing tactics, and a failure to disclose failed prior attempts to raise capital from professional startup investors.

"These actions benefit the company conducting the campaign and the platforms that generate income from successfully fulfilled campaigns."

The authors claim this advantage comes at the expense of investors who 'do not receive accurate information about the company's current status or its potential to secure additional funding for future growth'.

"We believe there are some simple changes that either the regulator should require, or the crowdfunding platforms should choose to implement on their own accord, which will increase transparency to participants in crowdfunding campaigns," they state.

The proposed changes include banning celebrity endorsements of campaigns, except when the celebrity is a founding shareholder of the company, and requiring transparency when it comes to summarising previous attempts from the crowdfunding company to raise from professional investors or angels, whether successful or not.

Among the seven recommendations, the report authors also emphasise any social media campaign promotion to comply with advertising regulations governing other financial institutions, and that disclosure of past campaign performance such as cash distributions and paper valuations be mandated.

"These changes will not negatively affect high-quality companies that conduct crowdfunding campaigns," the authors claim.

"We also believe these will benefit the crowdfunding platforms themselves, given that the improved disclosure will draw a new set of investors to the platforms and ensure that only high-quality companies utilise their services."

The call from the VC sector comes shortly after it was revealed that crowdfunding investors lost 87 per cent on their investments in helmet technology Forcite as part of its sale to US camera giant GoPro (NASDAQ:GPRO), while preferential shareholders made a modest profit.

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