One of the biggest challenges facing the equity crowdfunding world is the question about how a secondary market is going to work. After all, at some point, investors must have the option of selling an ownership interest. That liquidity is necessary whether an investor owns stock in either Exxon or the car dealership down the street. We take it for granted as investors that we can always sell our publicly traded simply by logging onto Ameritrade. However, for a private company (those that are in every neighborhood in America) there is a relatively illiquid market. If you are the majority owner of a private company, you can hire a business broker to hook you up with a buyer. But if you are a minority owner, you usually have very few choices.
One of the challenges of with crowdfunding is that each individual owner may have a life circumstance that makes them want (or need) to sell their stock. Although there are some legal rules (with likely more to come) that bear on when and how someone can sell their stock, one thing is certain: people are going to need to a market in order to sell. Companies like SecondMarket are putting together the pieces to let third parties bid for private company shares.
But prior to the development of these secondary markets (which are going to require further regulation in the crowdfunded economy), it is critically important that the issuing company put policies in place to allow investors the right of “redemption”. That means that the company agrees to repurchase the shares at a pre-arranged price, adjusted by a periodic appraisal.
It is a critical feature for an investor. And redemption rights allow the company to truly get the benefit of having the crowd. There’s nothing worse than having an owner who is angry at you – especially if the reason is that they are stuck with their shares.
Cricca’s term sheet always includes a redemption right. Our companies have an annual redemption policy, which allows an investor to get on a list, and then have their shares repurchased by the company at a preset price.
Investors will learn to demand this right. Companies that ignore the right of redemption do so at their own peril.
Jonathan Frutkin is CEO of Cricca Funding, LLC. He’s written a new book called “Equity Crowdfunding: Transforming Customers into Loyal Owners” which was published in May, 2013.