Crowdfunding Tips And Best Practices.

I have raised over $32 million in Venture Capital during the course of my career, so I have learned something about creating the cognitive and affective trust required to gain investor interest so that they become excited about a deal and then commit to it.  Now that we are about to launch what we hope will be the first CrowdFunding site in the U.S., I have been thinking about how entrepreneurs can transform the dynamics of traditional face-to-face investing to virtual web-based investing, while still preserving both cognitive trust (rational economic reasons to believe) and affective trust (emotional rationalization of data to market behavior). Because, without both elements, your plan will not get funded.

In the “real” world, my affective trust has been created as the result of my track record in business and my past relationships with investors. My cognitive trust is created based on the elements of a sound business and marketing plan combined with a believable solution to a real world problem that has breadth and reach, and can be clearly monetized.

But, what if you haven’t successfully raised Venture Capital before and you don’t have a network of people who have a reason to believe in you? This would probably be the reason you are relying on Crowdfunding to get your raise done. One of the growing misconceptions about Crowdfunding is that all you have to do is throw up a business plan and a whole bunch of people will throw money at you. Wrong. So, how do you create this affective trust element that is so important to the raise?

You withdraw a bunch of social capital from your account and seed your deal with it to start. Where is that social capital account? Facebook, LinkedIn, Twitter, Klout, MySpace, Pinterest, and in every other social media platform in which you have invested. If you haven’t done this yet and you still want to start a business, then my advice is to hold off on posting a funding proposal and begin building a network of friends on these social media platforms. If you say, “These social media platforms are a waste of time, and nobody I am interested in having a relationship with wastes any time on these stupid sites,” here are a few interesting statistics that may wake you from your social networking stupor (sorry):

  • Social networking now accounts for 39% of all time spent online in the US.
  • A total of 294 million people age 13 and older in the U.S. used mobile devices in December 2011.
  • Twitter processed more than three billion tweets in December 2011 and averages almost 100 million tweets per day.
  • Over 45% of U.S. internet page views occurred at one of the top social networking sites in December 2011, up from 13.8% in 2009.
  • Australia has some of the highest social media usage in the world. In usage of Facebook Australia ranks highest, with over 17 million users spending almost 9 hours per month on the site.
  • The number of social media users age 65 and older grew 190 percent throughout 2011, so that two in four people in that age group are now part of a social networking site.
  • As of June 2011 Facebook has 750 Million users.
  • Facebook tops Google for weekly traffic in the U.S.
  • Social Media has overtaken pornography as the #1 activity on the web.
  • iPod application downloads hit 1 billion in 9 months.
  • If Facebook were a country it would be the world’s 3rd largest.
  • U.S. Department of Education study revealed that online students out performed those receiving face-to-face instruction.
  • YouTube is the 2nd largest search engine in the world.
  • In four minutes and 26 seconds 100+ hours of video will be uploaded to YouTube.
So, now that you have seen the light, you may begin setting up your accounts and inviting your (real life) friends to become your virtual, social network friends, as well.
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Once you have a few (real life) friends, you can begin inviting their friends to join you and once they start to do that, you can begin inviting their friends to join you. And, before you know it you will have a thousand “friends”, only three of which you actually “know”. If you have read this far and haven’t skipped down to the bottom of this post, I will assume you are what I call a random dope who actually doesn’t know any of this stuff because you have spent most of your young adult life in your Daddy’s Pizza joint actually working for a living instead of frittering away all of your spare time on the web.
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Once you get the thousand friends in place on Facebook or your social networking platform of choice, you can begin implementing the “third man” strategy for crowdfunding. Aha, you say “what is that?”. Well, the “third man” catalyst is a little known behavioral psychokinetic that refers to the crowd behavior that ignites when a “third man” joins a “second man” in a given behavior within a crowd. Here is a video demonstrating this whack point:
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http://sethgodin.typepad.com/seths_blog/2009/06/guy-3.html

So, the key at this point is to have amassed this crowd of “friends” that are somehow connected to you, largely through others whom you have never met but who know or believe that you are “friends” with someone they “know” and therefore you have earned a certain degree of affective trust. Only YOU realize how artificial this trust really is, but you ignore that and forge ahead, because you now have a thousand “friends” who largely have no idea how they know you, but are willing to believe that they know someone who has “vouched” for you because they have ended up in your “friends” bucket. This is enough for you to start floating your business plan. iSellerFINANCE has a platform extension on which you can post a funding proposal, allowing you 90 days to reach your goal.

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The next thing you need to do is to start with your original two friends and present your business plan.  All that these two people need to do is convince themselves that there is a basis for cognitive trust based on the business plan, and that they are confident that sharing your plan with their “friends” will result in an accord among this crowd that your idea is a good one, so that in turn these people will share your plan with their “friends”. They already have that affective trust because they like you. The third guy that jumps in will have the same effect as the goof-ball in the video above. The crowd will be on its way.
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Short case study from the real world: 2003. San Francisco. A start-up whose name I won’t reveal was preparing to raise $100 million in VC. Word “got out”. The management team had success in prior companies with exits entirely through acquisition – zero IPO’s (the big money deals). One of my investors called me ($800 million fund) and begged me to introduce him to the founder/CEO whom I happened to know (he and I were in the same space and had become friends). I did. He was in line with 23 other venture firms. The raise happened in 24 hours with 7 VCs participating. My guy lost out. They were over-subscribed and raised $190 million. Why? Because, a large group of  like minded people became aroused by an idea (cognitive trust) and a management team who were being lusted after by every VC in the Valley (affective trust) and almost killed each other to be on the ‘A’  list for a raise that ended up yielding a very small post-money valuation for a deal that hadn’t even gotten out of the gate. Everybody want’s to be on that train. (Ummmm, not that it matters, but that company burned through the $190 million and is out of business today.)
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The point is you are now positioned to launch your funding proposal. Here’s what you do:

1. Offer an opportunity, don’t ask for a hand out.

Reach out to your first two friends. Be very confident about the investment opportunity that you are offering – if you believe that it will be a big success, others will believe as well. If you can’t be confident, forget it. Whatever it is – you need to own the space! Be the space! You .. are .. the .. guy !!!

Then, reach out to all 1,000 “friends” with a pre-funding announcement – something like, “Hey. We are getting ready to launch RocketFuel, 3.0, the coolest sales productivity tool on the planet. I will be circulating the business plan to a select few in the next few days. We are keeping the Series ‘A’ round open for two weeks from today. This will be an opportunity for some of you to be in on the ground floor of a sales tool that will revolutionize the sales productivity space. Watch for it.”

2. Tell your personal and business story.

You are inviting people whom you know to invest, and they want to hear your authentic, personal voice shine through and feel your passion; even your “friend” friends. Remember, your company’s biggest asset at this point is you! Keep that in mind as you tell the story of your business and how it will grow. Make your marketing plan sing with passion (the key in the process of creating affective trust). Study the Facebook pages of all of your friends and ask yourself what would make them get excited about your plan. Then, speak to that.

Make your business plan resonate with somber tones around your modest estimates of growth (the key in assuring cognitive trust). Everyone wants to be assured that they are not about to do something stupid (like throw $500 away on your ridiculous business plan), so you have to assure them that you have carefully thought through all of the alligators in the swamp and are ready for them. If you have been through the wars before and have scars to prove it, show those scars and explain how you plan to avoid getting more. People want to know you have learned lessons, and they want to know that you understand what those lessons are.

3. Include a video.

Since there are only two people who actually know you, your social media campaign should invite people into your psyche. Videos are a great way to do that. iSellerFINANCE enables video sharing (excuse shameless plug). People want to see your shining face speaking to them directly. That way, they can attach the vague connection they think they have with you through Facebook to something more tangible in their cellar of affective trust. And, by all means be cool. Whatever that means to you. What you want is for your audience to say to themselves, “Yeah, Jim’s friend Paul is a cool guy. Great beret. Cool tee-shirt. Obama 2012. Check out his dreads.”   These days, it doesn’t take much equipment to record a high-quality video of you and your team telling your story. But, always be authentic. You will be far better off if you rolled out of bed and fired up your camera while telling the truth, than if you rehearsed for days, and then dressed for success and told a lie on a carefully staged production set.

4. Get all of the co-founders/officers of your business involved.

If you have multiple co-founders or Board members, create accounts for each of them tied to your iSellerFINANCE raise and ask them each to invite their networks to invest as well. This may seem like a no-brainer, but you might be surprised at how many missed opportunities entrepreneurs leave on the table because it hadn’t occurred to them that their humble and media-shy accountant who was going to be their CFO turned out to actually be connected to 750 Facebook friends. Mostly because he has three teenage daughters and their school friends’ parents all want to be hip and have FB pages.  But, since he doesn’t like “imposing” in other people’s space (because he is after all, an accountant), he doesn’t mention it and you don’t ask. Well, ASK! Favorite accountant joke: You can tell an extroverted accountant because he is the one who is staring at your shoes instead of his own. BWAHAHAHAHA.

5. Follow-up your 1,000 friends pre-funding announcement with the raise details.

You have sent your plan to your two real friends and have asked them to reach out to their networks. Now, it is time to announce to your 1,000 “friends” that you have received initial interest from your two real friends and that the fundraising is underway. Hopefully, your two real friends will have committed some money, so your statement of interest is true. Even if it isn’t, you can say that the funding is building momentum and that 1,000 of your “friends” are looking at the plan. Point out the term sheet details and explain what a $100 investment will mean in terms of percentage ownership.

Set a realistic minimum. You want to set a minimum that is high enough to reach your fundraising goal with the number of investors that you reasonably believe you can attract. Investors are also motivated by being able to contribute a meaningful percentage of the goal. A default minimum is $25. This is a number that anyone can afford, but it contains a sense of seriousness in that it is not on the order of a political campaign donation.  $100 may blow a lot of people out of the market. You need to consider your audience demographics. If your product or service will appeal to younger, college kids, then your investors are probably in the same demographic. Make it cheap. If on the other hand, you are creating a web site for an Angie’s List for Cosmetic Surgeons, you might want to set the minimum at $1,000. Stress that the offering will only be open for a few days.

How much should you ask for? Ha! No one ever knows this answer, so if you don’t, don’t feel bad. There is no answer. Make some assumptions about price and market and uptake over time, and then sit down and do a pro-forma. Your investors will want to know when they can expect you to get to break-even and they would like that event to coincide with the moment where some of their cash is still in your bank account.

So, you will need to create a pro-forma P&L that shows how you begin to generate profitable revenue before you run out of cash. . If you believe in your idea, you have vetted the market, you fully understand how your solution solves a broad problem, and it can be easily monetized, then you should have no problem convincing investors that your pro-forma makes sense.

Ask for an amount of money that fits with your product build and your audience demographics. Most products that live on the web cost little in the way of engineering, and most of the money you will raise will be used for marketing. Talk to your channels and estimate the marketing burn and ask for twice that amount. If your product lives in  brick and mortar, you need to estimate the distribution signature and ask for twice that amount. The smaller the ASP (the average sales price), the less you will need to raise. The bigger the ASP, the more you will need to raise. Conservative and older demographics usually cost more to sell to, while younger and hipper demographics are generally consuming lower cost product. If you think you are appealing to college students, try a raise in the $50,000 neighborhood. If your appeal is to golfers for example, your raise could easily be in the high sixes. You will rarely raise what you actually need, so look at this raise as a first step. You can always come back for more.

6. Leverage early success.

Let’s assume that some of your closest community members are teed up to invest in the first week of your raise.  Or, even one. This is the holy grail, and it will create the weird crowd-momentum that will compel others to get involved. Your 90 days are ticking, so you should ask your early investors to share testimonials about you and the business and why they invested, and distribute these testimonials in follow-up emails to other potential investors and on the iSellerFINANCE site, and Facebook, and on all of your other social media platforms. The key is to begin leveraging your early success and broadcasting that everywhere you can. What you are looking for is that magic moment when people begin begging you to let them in.

7. Consistent and constant follow-up.

After sending out an invitation to invest, continue to stay in touch with investors with updates throughout the 90 days of your raise. Some of the obvious points about which you can communicate are the fund-raising status, the number of investors that are participating, and one-time, major events like an investor ponying up $10,000, and the story behind why she did it.

Most start-up business plans morph during any given 90 day period (sorry, and maybe scary, but true), so this is a good opportunity to share your new, revised vision for your website. Think about it. Amazon thought they were gong to be an online bookseller. Google was simply a search engine. Facebook was a guide to getting laid in one college. eBay was an online flea market. What are they today? Update and re-publish your business plan.

Talk about new markets for your plan. Use other companys’ success stories as metaphors for your own projected success. You know, ABC Lemonade Stand just morphed into ABC Lemonade Mobile and is using Twitter to let their fans know where they will be this afternoon at 3 pm. And, this is just like your plan to roll your BigZapatoTaco Truck out to east L.A. using Pinterest and Facebook. You get it, right?

8. Get an attorney.

The best way to do this is to reach out to friends and family and find an attorney who knows something about private placement or who can refer you to someone who does. When you finalize your raise, you will need someone to guide you through the maze of securities law and capitalization while assisting you to close your round. Most of these law firms will do this for you in exchange for equity. And, if you don’t have friends that can refer someone, just go to the Valley and start with the top law firms. All of this is templated law and their paralegals do the actual work, so this costs them essentially nothing. You can afford the equity, so it is a win-win. No, I am not a lawyer and we are not a shill for law firms. But, you would be insane to try to do this yourself.

9. Assign someone on your team to Investor Relations and Communications and always be transparent.

The likelihood is that you will need a second round of funding. Your most fertile second round investors are your first round investors. When you come back to them when it is double-down time, you want them to be right there with you on this terrifically entertaining ride. That means you have to have someone on your team in constant communication with these people. They are your partners. Even the 73 people who ponied up $25. They need to know everything that is happening along the way to you becoming the next Facebook.

The more forthright and transparent you are, the more empathy they will have. And, when it comes time to ask them for more, you really want an empathetic audience. You want them to have been along for the ride right alongside you, experiencing all of the joys and wins as well as the disappointments and tragedies. Do not ignore them. Ever.

10. Don’t give up.

When you see that you are not going to successfully raise that $200,000 you need to launch your Doggy-Day-Care service, the takeaway may well be that your plan sucked. Or, your market is already saturated with doggy day care services and your twist on the play was not compelling … to anyone. It’s cool. Pick up your marbles and think about where you went wrong.

One of the exciting things about Crowdfunding from our point of view, is that it has the capacity to thoroughly vet a business plan by having a hoard of people ripping it apart in a 30-60 day period. No polite conversations with venture capitalists thanking you for presenting and considering them, but your plan, while brilliant, is not quite the right fit for them at this time. No. Instead, you get the deafening silence of zero response to your funding proposal, or the roar of the crowd screaming about your galactically stupid business plan.

Maybe the crowd is too dense to get you. Maybe you need a different approach. Maybe you need to re-think your go-to-market, or your brand or your geography or your timing. The point is that Crowdfunding gives you an immediate and uncensored critical review.

And that, as a true entrepreneur, is what you should really want. Now, get out there and knock ’em dead.

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About Steve King

iPeopleFINANCE™ Chief Operating Officer. Former CEO of Endymion Systems, Inc. a $36m Information Systems Services company. Co-founder of the Cambridge Systems Group, the creator of ACF2, the leading IBM Mainframe Data Center Security product; acquired by Computer Associates. IBM, seeCommerce, marchFIRST, Connectandsell alumni. UC Berkeley alumni. View all posts by Steve King

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