Equity Crowdfunding 102: Doing your Due Diligence - KingsCrowd

February 13, 2019

Equity Crowdfunding 102: Doing your Due Diligence

What do I look for in an Equity Crowdfunding Investment?

Now that we’ve had some insight into the potential of these investments from our previous article: “Equity Crowdfunding 101”, it’s important to conduct research before you invest into these companies. I would subscribe to publications like Kingscrowd, which I have found very helpful, and supplements my research seen below below as information remains unavailable.  

Also, not all the criteria below are available readily, so I would focus on the information I can accumulate. From my standpoint, it is not necessary to fulfill all the criteria or check-boxes.  

 

Management

Perhaps the most important criteria for which I use to evaluate equity crowdfunding campaigns, asking these questions will help evaluate each company.

    • Does the Chief Executive officer have a good track record?  
    • Is he/she a serial entrepreneur, continuously coming up with new ideas and successful businesses? It is fine if the answer is negative. As long as he/she has a strong background in the field, and is well respected.
    • Is there a strong team in place – I would look to the other top executives and employees and research them as well.

Their names are usually advertised on the crowdfunding campaign or on the website, and Linkedin is a useful place to research them.

 

Sales / Valuation 

In the show ‘Shark Tank’ on CNBC, sales and valuation remain one of the top criteria utilized by the venture capitalists to evaluate the feasibility of the company. So should you. Sales growth and future projections of sales are vitally important in discovering if the company is functioning well, and they have customers. Also, what plans do they have for finding new customers? Is there a website? Future orders? These are some of the questions that we need to be asking.

Valuation of the company implies how much the company is valued at this present time noted on their fundraiser page under ‘Pre-Money valuation’. For example – 20/20 Genesystems has a valuation of $26 million. A high valuation also implies that this company has gone through prior rounds of fundraising, and prior investors are making money on it. In this example, the prior fundraise was at a $20 million valuation, so investors from their prior round have gained 30% already.  

As a rule of thumb, I like to look at equity crowdfunding companies valued around $10 million or less. This leaves a lot of room for growth. However, these don’t often occur, as by the time you discover them, or they’re raising money through crowdfunding, their value might be much higher. Sales and valuations go hand in hand. The sales, growth projections and future customers usually justify the valuation of the company. Also I must point out that just because a business model is complex, it doesn’t necessarily mean that it’s good, it must be crystal clear how they make money. If it’s not clear, then it might be a better idea to not invest.

Venture Capital Backing

When venture capitalists back a company, it proves that they have done their research, and are willing to provide further backing if needed. It also proves that this is a viable business. For example: the company I mentioned prior – Pin An Ventures, a Chinese venture capital fund, backs 20/20 Genesystems.

If a company has not been backed by venture capital it is not a deal breaker by any means. Some of the companies raising money on crowdfunding platforms are very early stage (angels), and have not had the opportunity to get in front of private capital investors.

 

Industry Growth 

It is important to research the industry growth rates to get an idea of how big the market is and how fast an equity crowdfunding startup can grow. Secondly, how much of the market size can they penetrate in order to get more sales and customers? Certain industries that have high growth trajectories are Artificial Intelligence and Robotics. For example, the Global Artificial Intelligence market is expected to reach $300.26 billion by 2026 growing at a compounded annual growth rate (CAGR) of 38.8% during the forecast period.

This is the level of detail you need in order to say that is a high growth industry. In contrast I came across the beer industry report from Alliedmarket research, which stated that Global beer market will grow at approximately 2% from 2019 and 2025. This is not exciting by any means, but shouldn’t be a draw back as this is a safer industry, where people will not stop consuming beer, and there are possibilities for  the company to get acquired by a bigger company like Anheuser Busch for example.

Bottom Line: I must emphasize that the biggest factor in doing due diligence is what you evaluate after doing your research. I am going to call this the ‘X-Factor’ – what you bring to the table.

Having worked in the industries these companies companies look to raise money in, many of you have an expertise. If you haven’t, then your neighbor or relative might have. Share ideas and talk about it with them.  

Also ask questions on the crowdfunding chat boards. As a prospecting investor, you have direct access to the CEO or key people in the company. If you feel your questions have been answered, I would go ahead in making a small investment in the company.

 

Notice:

This piece is part of the KingsCrowd Knight Collection. Put simply, this is a crowd contribution. While we ensure it meets our general contributor guidelines we do not endorse this piece. Instead, we recognize that pieces like this add value to our investor community. If you have questions, be sure to reach out to hello@kingscrowd.com.


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About:

Experienced Senior Analyst with a demonstrated history of working in the investment management industry. Skilled in Sell Side, Securities, Mutual Funds, Trading, and Hedge Funds. Strong business development professional with a Master of Business Administration - MBA focused in Corporate Finance / Business Analytics from Georgia Institute of Technology.

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