1 On the Road to Success in Equity Crowdfunding Aleksandrina Ralcheva* Rotterdam School of Management, Erasmus University Peter Roosenboom Rotterdam School of Management, Erasmus University Abstract This paper investigates the role of signals and certification in equity crowdfunding. Our sample consists of 541 pitches on Crowdcube, one of the world’s largest equity crowdfunding platforms. Our results show that backing by professional investors, such as venture capitalists and business angels, and having received grant money are key contributors to success in equity crowdfunding. Companies that have won awards and that have protected their intellectual property rights via patents, trademarks or copyrights are also more likely to be successful in equity crowdfunding. Depending on the model used, we report that companies that have crowdfunded before, companies that have adopted an advisory board, appointed non-executive directors and/or hired professional advisors and companies, in which the original owners plan to retain a large fraction of the equity after the capital raise, benefit from higher funding success. Overall, we show that, controlling for other pitch and firm characteristics, signaling and certification play an important role in equity crowdfunding. * Corresponding author. Rotterdam School of Management, Erasmus University. Mandeville Building T8-29. Burgemeester Oudlaan 50, 3062 PA Rotterdam, The Netherlands. Phone: +31 10 4082601, Email: [email protected], [email protected].
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On the Road to Success in Equity Crowdfunding
Aleksandrina Ralcheva*
Rotterdam School of Management, Erasmus University
Peter Roosenboom
Rotterdam School of Management, Erasmus University
Abstract
This paper investigates the role of signals and certification in equity crowdfunding. Our sample
consists of 541 pitches on Crowdcube, one of the world’s largest equity crowdfunding platforms.
Our results show that backing by professional investors, such as venture capitalists and business
angels, and having received grant money are key contributors to success in equity crowdfunding.
Companies that have won awards and that have protected their intellectual property rights via
patents, trademarks or copyrights are also more likely to be successful in equity crowdfunding.
Depending on the model used, we report that companies that have crowdfunded before,
companies that have adopted an advisory board, appointed non-executive directors and/or hired
professional advisors and companies, in which the original owners plan to retain a large fraction
of the equity after the capital raise, benefit from higher funding success. Overall, we show that,
controlling for other pitch and firm characteristics, signaling and certification play an important
role in equity crowdfunding.
* Corresponding author. Rotterdam School of Management, Erasmus University. Mandeville
Building T8-29. Burgemeester Oudlaan 50, 3062 PA Rotterdam, The Netherlands. Phone: +31 10
The global crowdfunding market has experienced a substantial growth in the past few
years reaching $16.2 billion raised in 2014, that way almost tripling the amount of $6.2 billion in
2013 (167% market growth)1. With an estimated market value of $34.4 billion for 2015, the
crowdfunding industry increasingly gains momentum. In particular, equity crowdfunding, where
start-up firms sell shares to investors via the Internet, is expected to grow significantly once Title
III of the JOBS Act will also permit private company investing by non-accredited individual
investors in the United States2. Carl Esposti, the CEO of Massolution, a crowdfunding research
firm, comments: “while lending, donation and reward-based crowdfunding have thus far been
leading this global financial revolution, equity-based crowdfunding is about to take center
stage”. 3
We study the determinants of equity crowdfunding success using 541 pitches on
Crowdcube during 2012 until March 2015. Crowdcube opened its doors in 2011 in the United
Kingdom (henceforth, the UK) and is authorized and regulated by the Financial Conduct
Authority (FCA). This platform is thus far the world’s largest equity crowdfunding platform with
investments of more than £130 million, 352 successful campaigns and nearly a quarter of million
registered investors as of January 2016. Equity crowdfunding has taken off in the UK since
2011. Equity crowdfunding platforms now account for about one fifth of all early stage
1 Source: Massolution’s 2015 CF Crowdfunding Industry Report. Available at
http://reports.crowdsourcing.org/index.php?route=product/product&product_id=54 2 Dambra, Field and Gustafson (2015) suggest a notable increase in small firms IPO activity since the passage of the
Jumpstart Our Business Startups (JOBS) Act in April 2012 and more specifically its Title I (Titles I, V, and VI of
the JOBS Act became effective immediately upon enactment), implying the potential future impact of legalizing
other funding opportunities for small businesses. Particularly, Title III, which will be in effect as of May 2016, will
enable firms to sell limited amounts of equity to non-accredited investors via the internet, allowing more than 200
million Americans to invest via equity crowdfunding platforms. 3 Source: http://www.prnewswire.com/news-releases/crowdfunding-market-grows-81-in-2012-crowdfunding-
We examine a sample of 541 equity crowdfunding campaigns posted on Crowdcube in
the period from 2012 until March 2015. Out of those, 197 campaigns were successful at reaching
their targets. Crowdcube operates in an ‘all-or-nothing’ manner, which means that investors are
only committed to providing their pledged funds in case the campaign raises the full amount.
Business pitches on Crowdcube are live for up to 60 days7. If fully funded, firms have the choice
to keep the campaign open and allow it to overfund, or close it at the target amount. If
unsuccessful, the pitch gets closed and the investors’ pledges get voided.8
Entrepreneurs pitch their ideas for a fixed amount of funds and a set amount of shares,
however, Crowdcube allows for campaign adjustments after the pitch is launched, giving
founders the chance to adapt to the investors’ needs. The shares could include voting and
preemption rights (A shares) or no rights (B shares). Share issues typically qualify for tax relief
7 At the writing of this paper, Crowdcube has shortened the lifespan of a pitch on its platform. However, during our
sample period a 60-day window applied. 8 Crowdcube charges a success fee of 6.5% (VAT exempt) of the total funds raised, but no pitch listing fee. There
are no costs for investors. Source: Crowdcube.com.
directors/founders has received at least one award in 27.5 percent of the pitches. Professional
investors such as business angels or venture capitalists have backed about a quarter of the
companies. Six percent of the firms have crowdfunded before and almost ten percent of the firms
have received grants. About 36 percent of the companies have protected their intellectual
property rights via patents, trademarks and/or copyrights. More than half of the companies make
use of advisory boards, professional advisors and/or non-executive directors. Equity retained
averages 83.9 percent of outstanding equity after the capital raise.
Control Variables
We include a set of control variables in all our analyses. In designing their campaign,
entrepreneurs make choices on the target amount, valuation10, investment and reward structure
and whether to apply for tax relief. In our study, we control for the target amount because
previous research has documented that campaigns aiming to raise larger target amounts are less
likely to be successful on reward-based platforms (Mollick, 2014). The average target amount is
£188,500 ranging between £20,000 and £2 million. We also control for whether the pitch
involves only equity (no nonfinancial rewards offered). Table 2 shows that 31 percent of the
pitches only offered equity and no additional non-financial rewards. Companies may decide to
sell only B shares in equity crowdfunding. These B shares bear additional risks for investors
because they are not protected against dilution and have no voting rights. Companies that are not
willing to offer voting rights to investors may not be as successful as other firms that are willing
to give investors votes. Table 2 shows that 13 percent of pitches only offer B shares. The
dummy variable No tax break identifies the projects that have not applied or qualified for a tax
break scheme. The availability of investment schemes (EIS and SEIS) tends to encourage
investments. Ten percent of the pitches do not offer tax breaks for investors. We also include a
dummy Lowered price to capture pitches during which the price of the shares has been lowered
in order to augment investor demand. The price of the shares is lowered in 16% of the pitches.
We also control for several company characteristics such as age, stage of development,
industry and location. Companies are on average 2 years and 9 months old, with the oldest
company in our sample being 30 years of age, and the youngest being established only 2 days
10 In the case of startup companies with unrealized profits and only a projection to rely on, the valuation terms can
be ambiguous and are in most cases based on the founders’ own perception of the project.
12
before the pitch. We use two dummy variables Prototype and First sale to measure the firm’s
stage of development. Table 2 shows that 21 percent of companies have developed a prototype
and 46 percent already made their first sale. More than one third of companies are active in the
technology industry and 44 percent are located in a big city (i.e., Manchester, Liverpool,
Sheffield, Bradford, Birmingham, Bristol, London, Leeds, Glasgow, or Edinburgh). We also
include year fixed effects in all regressions.
Insert Table 2 Here
4. Results
Univariate Results
Table 3 presents the difference in means between successful and unsuccessful pitches.
Successful pitches raise 136% of their target11 and have 163 backers on average, while
unsuccessful ones seem to fail by a large margin (15% raised) with only 15 backers on average.
Table 3 shows that successful pitches are more likely to have won awards. Companies with
funding success are also more likely to be backed by professional investors, to have
crowdfunding experience, to have received grants, to have protected their intellectual property
rights and make use of advisors. Original owners of successful pitches also retain significantly
more equity. These univariate results present initial evidence that signaling and certification
matter in equity crowdfunding.
Looking at the control variables we observe that successful pitches more often offer tax
breaks and have more often lowered the price of the shares. Successful companies are younger
and have higher targets. They have also been more successful in securing a first sale, more often
belong to the tech industry and are more often located in one of the big cities (Manchester,
Liverpool, Sheffield, Bradford, Birmingham, Bristol, London, Leeds, Glasgow, or Edinburgh).
Insert Table 3 Here
11 The majority of successful campaigns (80%, unreported results) choose to overfund.
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Regression Results
Table 4 presents the results of the regression analysis with the three dependent variables.
We estimate a logit model with success as a dependent variable and report the corresponding
marginal effects in the first column (Model 1). Additionally, we run an OLS regression using the
percentage raised as dependent variable (Model 2). In Model 3, we employ a negative binomial
regression to account for the non-negative integer values that the dependent variable number of
investors takes. All models include robust standard errors, as well as the same set of control
variables. The correlation matrix12 and Variance Inflation Factors (VIF)13 reveal no severe
problem of multicollinearity.
In all three models, we find consistent evidence for a strong positive impact of awards,
backing by professional investors, grants, and of intellectual property rights protection on equity
crowdfunding success. The presence of advisors and a higher percentage of equity retained are
also positively related to funding success. More specifically and in line with our Hypothesis 1, if
the company or its founders/directors has won one or more awards, it is 13% more likely to
succeed in reaching its target, it raises 11% extra funds and attracts 34%14 more investors. This
result is in contrast with the findings of Ahlers et al. (2015), who report no relationship between
awards and the equity crowdfunding success for the Australian platform ASSOB.
Insert Table 4 Here
Among our independent variables, professional investor backing proves to be the most
persistent determinant of success with significance at the 1% level in all models. Being backed
by professional investors, such as a venture capitalists or business angel, increases the chances of
success by 16%, the percentage raised with additional 17% and the number of investors by
36%15. This supports our second hypothesis. Additionally, we look at whether the project has
sought crowdfunding before (Hypothesis 3), which seems to positively affect current
crowdfunding success (Model (1)), but is not statistically significant in Models (2) and (3). That
could have to do with entrepreneurial learning (Xu, 2016) and the fact that entrepreneurs who
have previously crowdfunded are more experienced in structuring a successful campaign, e.g.
12 Available upon request. 13 Mean VIF is 1.38. 14 The number of investors increases by a factor of exp(0.290), which equals 1.3370. 15 The number of investors increases by a factor of exp(0.304) = 1.3551.
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setting their valuation terms, which is probably depicted in other variables (retained equity,
target amount). The most economically significant impact, according to our specifications, is
associated with previously winning a grant (Hypothesis 4). Companies that qualified for grants
were 21% more likely to succeed in raising money from the ‘crowd’, raised additional 36% of
their target and attracted more than 54%16 more investors. These results are in contrast to the
findings of Ahlers et al. (2015), who control for the availability of government grants, but find
no evidence of their impact on funding success most likely due to the small size of their sample.
There is also consistent evidence for the positive impact of IPR protection on funding
success (Hypothesis 5). Companies that filed for a patent, trademark and/or copyright have 12%
higher chance of success, raise additional 13% of their target and attract 22%17 more investors.
One important difference, as compared to Ahlers et al. (2015), is that we look into filed
applications rather than granted patents. It usually takes considerably long before the application
is reviewed and a patent is granted, while companies that engage on crowdfunding platforms are
predominantly at a very early stage of their development, which introduces a bias. However,
once an application is filed, the intellectual property is considered protected until the final
decision of the patent or trademark office, which corresponds with our previous line of
argumentation and, hence, we consider a better quality signal in an equity crowdfunding setting.
Having appointed non-executive directors, an advisory board and/or made use of
professional advisors (Hypothesis 6), is also associated with funding success, but does not have a
significant impact on the percentage raised or the number of investors. On the contrary, the
percentage of equity retained is not associated with funding success (Model 1), but has a
significant impact on the percentage raised and the number of investors, albeit of a low
magnitude. These results are consistent with the findings of Ahlers et al. (2015) and Vismara
(2015a).
Considering the control variables, we find that lowering the share price, showing a first
sale and being located in a big city positively impact funding success. Target amount, the age of
the company and the tech industry dummy also appear significant in some of the models. More
specifically, a one logarithmic unit increase in the target amount is associated with a higher
16 The number of investors increases by a factor of exp(0.432) = 1.5409. 17 A factor of exp(0.195) = 1.2150.
15
number of investors, which is expected, as more investors are needed to reach the higher target
(size effect) and consistent with the findings of Vismara (2015a). More importantly, if the
company has been successful in securing a first sale, it has 15% higher chance of success, raises
an extra 13% and attracts 33%18 more investors. This shows that companies that have already
reached this stage of development benefit from improved funding success compared to
companies that have yet to show a first sale. Additionally, if the price of the shares has been
adjusted during the pitch, it is 15% more likely so succeed, it raises additional 15% and attracts
50%19 more investors. Younger companies, tech companies and companies located in a big city
also increase their chances of reaching their target and attracting high number of investors. The
other control variables are insignificant. Interestingly, companies that do not offer rewards,
voting rights or tax breaks to investors do not experience lower funding success.
5. Conclusion
Equity crowdfunding is continuously increasing in popularity. This paper investigates the
role of signaling and certification in this novel source of entrepreneurial finance. We analyze a
sample of 541 equity crowdfunding pitches on Crowdcube, the UK’s leading equity-based
crowdfunding platform during the period 2012-March 2015. We use three measures of funding
success: a dummy variable indicating whether the company is successful or not, the percentage
of the target amount raised and the number of investors.
We document that backing by professional investors, such as venture capitalists and
business angels, and grants are key determinants of equity crowdfunding success. This shows
that having (offline) access to external finance via professional investors or grants may facilitate
(online) success in the equity crowdfunding market. This stresses the intertwined relation
between those traditional funding models and equity crowdfunding, where professional investors
may play an important role in ‘picking the winners’ (also see Agarwal, Catalini and Goldfarb,
2015).
18 A factor of exp(0.288) = 1.3333. 19 A factor of exp(0.381) = 1.4639.
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We also report that awards and the protection of intellectual property rights positively
contribute to funding success. These findings contrast with those of Ahlers et al. (2015) who do
not find that awards, patents or grants matter to funding success on the ASSOB platform in
Australia. Prior experience with crowdfunding, the presence of advisors and mentors, and the
percentage of retained equity positively impact the success of the pitch but results vary
depending on which of the three measures of funding success is used. Looking at our control
variables we report that funding success improves when companies are younger, have already
made a first sale, are located in a big city or lower the price of their shares during the pitch.
Our findings offer several implications for companies and crowdfunding platform
operators. First, it is important for companies and platform operators to be aware that investors
pay attention to signals and certification. Companies that are tapping the crowd without signals
or certification are less likely to be successful. Second, many of these (certifying) signals are
obtained in the ‘offline’ world such as professional investor backing, grants and awards. These
signals are similar to the ones typically taken into account by professional investors (also see
Mollick, 2013). This suggests that most investors are not the unsophisticated ‘armchair’ investors
but instead look for signals and certification of quality and rely on the due diligence efforts of
professional investors. Third, although crowdfunding fits younger companies seeking seed and
start-up capital, our results show that companies that have already made a first sale are more
likely to be successful. This suggests that companies first need to reach a certain stage of
development before they can be successful in equity crowdfunding. Fourth and final, companies
can learn from the feedback from investors to better design and structure their pitches. Equity
crowdfunding platforms and companies would benefit from taking the feedback from investors
into account (also see Xu, 2016). For example, we find that companies that lower the price of
their shares after feedback from investors are more likely to raise their target amount in equity
crowdfunding.
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