EXPERT INSIGHTS

How to set up your crowd-sourced funding raise

for future funding success

Raising capital is a challenge faced by every founder. And while it often starts with the generosity of family, friends and fools, it’s not long before scaling the venture demands a more sustainable funding strategy.

There’s a range of options available for raising capital including bank loans, angel investors, VC funds, accelerator programs, government grants and, of course, equity crowdfunding through platforms like Birchal.

Choosing the route of bringing on investors is an amazing milestone for any startup. But there’s a lot to consider when offering up equity in your company, and a stake in your future.

With more than 100 capital raises under their belt, including 35+ equity crowdfunding raises, My Legal Advisor Director Jeremy Goldman and Legal Counsel Will Rouse, have first hand experience on how to get it right, not just for your first raise, but with the longer term in mind.

Here, in Expert Insights, they share tips and advice on how to “keep the door open” for future investor prospects from further equity crowdfunding, to future VC rounds and exits.

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Cash is king and most startups, even those that have bootstrapped their way to success, need to raise money at least once in their journey to fully realise the potential of their business. Increasingly, startups are considering equity crowdfunding rounds (crowd-sourced funding raise) as one such way of raising capital.

The good news is that the Australian regulatory framework allows you (in most cases) to execute on this opportunity while remaining a private (pty ltd) company. This is in contrast to years gone by where companies undertaking a crowd-sourced funding raise had to adopt public company status before taking funds (which was often a major stumbling block for companies as it brought additional disclosure and compliance obligations which in turn impacted future investability).

While these regulatory changes have made it easier for companies to carry out crowdfunding rounds, there remain a range of other factors that startups need to consider and address to successfully complete a crowd-sourced funding raise in a way that best positions the company for future fundraising activities (whether that be from VCs, angel investors or in future crowdfunding campaigns).

Here are our tips and tricks for companies looking to undertake crowdfunding and strike the right balance between maintaining strong governance, appropriate operational flexibility and future investability.

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Get the right documents in place

Leading into a crowd-sourced funding round, your company may have a shareholders’ agreement and company constitution in place.

However, when pursuing a crowd-sourced funding round, companies often prefer to transition to a model where all key governance and shareholder mechanisms are set out in their company constitution (i.e. without the need for a shareholders’ agreement). There are a number of reasons for this (which themselves justify another article or two) but some key advantages with having a company constitution alone in this context include company rules automatically applying to all current and future shareholders, increasing the company’s ability to amend the company’s governance

arrangements in the future and reducing potential complexities around shareholder approvals, signing and other procedural matters.

Getting appropriate governance documentation in place as part of your  raise will be critical to the success of the crowd-sourced funding round and the ease at which your company can raise funds in the future. Your crowdfunding round is a great opportunity to tailor a set of rules for your company going forward that suits the way you wish to run your business, how you intend to interact with your shareholders, the role that the directors and founder will play and what you expect from your stakeholders (more on these points later).

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“While not as exciting, sexy or fun as a funky pitch video or shiny new investment deck, getting your legal structure and shareholder documents right is critical for long term success – especially if you intend to raise money."

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Make it easy for VCs and future investors

While setting out all rights in your company’s constitution (and terminating your existing shareholders’ agreement if necessary) may be the right model for your crowdfunding round, it is important to note that many Australian VC and angel investors are accustomed to investing in private companies where their key investor rights are contained in a shareholders’ agreement.

VCs in particular will require certain rights as a precondition of any investment in your company, so to make it easier for VCs to approve investment in your company in a future round, companies conducting a crowd-sourced funding raise should consider clearly setting out these rights in their constitution in a manner and style that is familiar to VCs and which will satisfy their core requirements.

If your constitution is drafted in such a way that doesn’t accommodate key provisions that VCs require as part of their investment process, VCs will likely require amendments to your constitution as a condition of their investment.

With expert legal guidance, you can ensure that your constitution is carefully tailored to incorporate both the priorities of investors in the crowd-sourced funding round, as well as the key concepts and investor protections that many VCs would expect see as part of a company’s shareholders’ agreement.

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Proactively address cap table concerns

One of the key concerns that VCs and angel investors may have when considering an investment in a company that has previously raised a crowd-sourced funding round is the company's cap table. Having a larger and more diverse cap table than what is typical may raise concerns around governance and decision-making, as well as potential conflicts of interest between different investor groups.

In our experience, the best way to address this concern is to own it.

Be proud of your journey and your investor community (who are also likely your customers, supporters and brand ambassadors). As well as educating investors on the value those shareholders bring though, it is important to ensure that your constitution is well drafted and contains suitable governance structures which are clearly defined and appropriate for your company (see points below for further details).

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Put your investor hat on

Founders should review their crowd-sourced funding constitution from an investor’s perspective and consider whether they themselves would invest in a company on these investment terms and with the set of rules in its constitution. This involves making sure that the constitution addresses decision making in a transparent and accountable manner – ensuring certain key decisions are reserved as special resolution matters (and sometimes involving trusted investors in that decision-making process) as well as implementing other mechanisms to ensure that key investor groups have a voice in major decisions.

With a significant number of new investors coming on board as part of the crowd-sourced funding round, companies should consider which decisions should best be managed at Board level and which should require shareholder input.

VCs and angel investors will typically look carefully at how a company’s governance and decision making framework is constructed when making an investment, so regard should be had to their likely position when preparing your constitution as part of a crowd-sourced funding round. Equally though, VCs and angel investor will generally expect to see a range of other key investor protections, including:

• Pre-emptive rights for new securities: Pre-emptive rights in this context are essentially rights to participate in the issue of any new securities by the company in the future. These are critical rights for most VCs and angel investors but, in the context of a crowd-sourced funding raise, companies should consider how these rights should apply to a potentially large shareholder base more broadly.

• Information rights: VCs and other investors making material investments in your company may expect to receive rights to receive certain information about your company. Again, companies should consider how such rights should apply to the broader shareholder group.‍

• Exit provisions: If you are early on in your journey, you may not necessarily be thinking about your exit opportunities day to day. However, VCs and angels will want to see clarity around exit and share transfers. These concepts need to be carefully considered as part of your pre-crowd-sourced funding legal strategy and find their way into your crowd-sourced funding ready constitution. This includes provisions around drag-along, tag-along, IPOs and pre-emptive rights on transfer. These provisions help to ensure that investors are able to exit their investment in a fair and transparent manner, while also protecting the company from unwanted transfers of ownership or control. It is important for companies to ensure that these provisions are clearly drafted and that appropriate thresholds are included to ensure that the package of rights stacks up for the company, its investors and its founders.

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Align your interests

VCs and angels back more than just an idea and business plan – they back the people who are entrusted with bringing the concept to life and growing it. These investors will want to ensure that the company's founders (and other integral personnel) are aligned with the interests of investors.

To address these concerns, you may want to consider including provisions in your crowd-sourced funding ready constitution around confidentiality and events of default.

It is also worth considering including bad leaver regimes for founder misconduct and non-compete restrictions. In addition to incorporating these concepts to satisfy requirements that may be needed as part of future funding rounds, these provisions also provide your company with valuable protection in the short term by ensuring that the company's most critical people are incentivised to act in the best interests of the company rather than pursuing their own personal interests at the expense of the company and its stakeholders.

Business fundamentals

While getting the legals on point can help you stay in the mix, a great crowd-sourced funding constitution alone won’t bring in that next cheque.

First and foremost, it is important to recognise that VCs and angels will be looking for quality businesses with high growth potential, regardless of how they raised their previous capital. With that in mind, together with drafting appropriate legal documentation as part of your crowdfunding round, it is important to maintain a laser focus following your crowd-sourced funding raise on key commercial drivers of your business including:

• developing and executing on your businesses plan
• pursuing top line and bottom-line growth
• understanding your product mix and associated unit economics
• building a strong brand and team
• maintaining close relationships with your investor community

Get the right advice

As with any capital raising process, there is a lot for startups to consider when undertaking a crowd-sourced funding raise. Speaking with expert advisors can help you navigate the process and complete your crowd-sourced funding raise whilst maintaining a structure that is suitable for future investment.

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More about My Legal Counsel

My Legal Advisor (MLA) is a boutique law firm focussed on supporting the core legal needs of startups and scale ups from capital raising and M&A to employment and commercialisation. In the fundraising space, MLA has deep knowledge and experience from over 100 capital raises (including VC rounds, angel rounds and crowdfunds).

Jeremy Goldman is a director of strategy and law at MLA with a robust client base of high growth companies. Jeremy has worked in the crowdfunding space since its inception in Australia – having advised in various capacities on 35+ equity crowdfund raises. Jeremy has top tier legal experience but also enjoys getting involved on the strategy side - assuming non-legal operational roles as well as advisory board roles with several fast growing startups.

Will Rouse has a wide range of experience in the VC and investment space having worked in top tier legal firms in Australia and overseas and as head of legal for one of Australia’s most active VC funds. In his various roles, Will has overseen a significant number of successful VC investment rounds of different kinds (including Seed, Series A and Series B rounds).