Raising capital for your company is as just a demanding process as managing the day to day volatility on guiding your company. New developments in capital access comes in the form of crowd funding. But I question whether crowd funding can be a long term strategy for the company or really falls into the category of “friends or family” (or by another parlance, “dumb money”). Another popular approach but older strategy is the reverse merger, where a company acquires a public traded shell under the assumption that a “public” company will gather additional capital. I personally don’t see these how two routes would achieve the maximum valuation of a company or even gain more capital.
In contrast, my experience has been predominantly with companies that reached the pinnacle of financial success by going public through NASDAQ or had been traded at the NYSE. To reach those milestones, the company has to meet some minimum yardsticks in terms of liquidity, revenues, and valuation. If a company fails to meet the Board’s strict metrics, the company is warned and then given a time to recover financially, or be delisted. And, as one CEO commented to me, once a NASDAQ stock begins to fall below $4, institutional investors shy away since the stock demonstrates too much volatility for small incremental trading values. Then the stock value begins to drop even faster.
Even to reach that plateau, many companies had been financed by well-known Private Equity or VC firms. Look at the capital raising history for Facebook where major investment, both VC and Private Equity, firms invested substantial capital and, since Wall Street believes that these investors represent the seal of approval, it expedites a company’s access to additional capital on the Street.
Does Crowd Funding add a similar cachet? I doubt that. The major trait of companies navigating through KickStarter have a characteristic that attracts the main stream public – a gadget or a product that is immediately attractive. KickStarter investors are not pro-active investors – VC firms add value to their investments by “hand holding” the company, providing professional advice, and adding more capital whenever needed. Some recommend senior management teams, steer the company into profitable alliances. This additional help is not available through a diverse group of shareholders who only have a financial stake in the company.
Another approach to raising capital is the reverse merger. These are known also as shell companies that are traded as “penny” stocks.
Even this nomenclature forewarns the underlying problems with these shells. The stocks are valued far less than equity traded in NASDQ. No institutional investor will allocate its capital in such stock. The stock begins as a penny stock and ends as a penny stock. Some of these shares are even traded way below one cent! These companies don’t have the regulatory incentive to implement strategies that push the stock’s valuation above $4. Rarely does any penny stock ever graduate to be traded as a NASDAQ or even on the NYSE.
I am vexed by law firms or smaller investment firms that claim that they will make a publicly traded company. None of firms have the resources that Wall Street institutions have. Any law firm can register a company at the SEC. But prior to filing the registration, an underwriter begins to create value in the company through rigorous “road shows,” hallmarking the company to select institutional investors and firms. That process initializes the liquidity for the shares before the IPO. The IPO registration is only a fraction of what makes a company public.
The best way to reach the brass ring is to drive the company’s growth in such fashion that will attract the major investment banks and underwriters. Once the major banks commit themselves to support a newly minted stock on an exchange, they will do whatever necessary to maintain a reasonable value – issue additional bonds for capital, offer strategic assistance through M&A. Companies that raise their capital through reverse mergers or crowd funding will not have that advantage.