Sponsored By

Is equity crowdfunding a good fit for funding game development?

On Oct. 23, the SEC proposed rules that would allow crowdfunding of a company in exchange for equity. Given the particulars of the proposal, will this be a good fit for the game industry? Can we, or do we want to, move from Kickstarter to an equity model?

Zachary Strebeck, Blogger

December 9, 2013

8 Min Read

The introduction of equity crowdfunding:

Since the passage of the JOBS Act in April 2012, there has been an expectation that crowdfunding could make the jump from contribution-based fundraising (such as that seen on Kickstarter) to equity-based crowdfunding. On Oct. 23, 2013, the Securities and Exchange Commission released their proposal for a set of rules implementing Congress’s equity crowdfunding mandate, passed as Title III of the JOBS Act. While there is certainly some excitement in the crowdfunding space over this new opportunity, it remains to be seen whether this will result in a shift away from using Kickstarter to fund game development or if it is even a good fit for the industry.

Securities law essentials:

Before delving into the specifics of the JOBS Act rules, a little background on securities is necessary. Whenever you sell a financial instrument, whether a stock, bond, or some other investment vehicle, you are selling what’s called a “security.” Securities are heavily regulated and have costly disclosure and registration requirements before they can be sold. The SEC estimates that the average cost of a public securities offering is $2.5 million, with another $1.5 million per year in compliance costs. However, many smaller securities offerings meet one of the exemptions to these requirement, either through a low fundraising amount or by limiting the number of purchasers. This significantly lowers the cost, provided that only certain so-called “accredited investors” purchase the securities. Accredited investors are, most commonly, those who make over $200,000 a year or have $1,000,000 in net worth.

The new regulatory requirements:

The JOBS Act changed these rules up a bit, adding a new exemption meant to facilitate the crowdfunding of securities. This exemption allows an issuer of securities to raise up to $1 million from an unlimited number of purchasers. Purchasers are limited in how much they can invest, though; up to 5% of their annual income for those making under $100,000, and up to 10% for those making over $100,000. The proposal doesn’t require any action on the issuer’s part to verify the income of the investors, which is a huge change from other securities exemptions (which require costly verification procedures for each investor). Additionally, the exemption requires the issuer to have a business plan, to disclose who its officers and major shareholders are, and how the proceeds of the sale will be used.

Is this a good fit for game development?

Whether there will be a move toward equity crowdfunding in the game development depends on a few things:

  • The proposed rules are not final, so it is possible that comments from the business world will result in a very different set of regulations than we are seeing now.

  • The pool of potential investors who would want equity in a company may be very different than the pool of Kickstarter backers that currently drive the game industry’s crowdfunding success. The securities that are purchased under these equity crowdfunding rules are called “restricted securities.” This means that they cannot be resold for at least a year after purchase. If you think that the long wait for a board game to be developed after a Kickstarter is tough, wait until you’re holding shares of a company for over a year with no product in return. The value of the shares may go up if the company is successful, but like with any other investment, there are huge risks. Added on to this issue is the fact that there may not be a secondary market for these securities. This means that, once the restricted year is up, there may be no easy way to sell them. This is especially true if the company is a dud.

  • The need to have a business plan in place prior to raising the money and the other disclosure requirements may be more than the average game designer is used to. The various Kickstarter failures over the last few years shows that creative types don’t always have their mind on business at the outset of a development project. This, however, will require that business is the first thing on everyone’s minds at the start of fundraising.

  • Lastly, there are specific restrictions on how the offer can be advertised. The terms of the fundraising (ie, how many shares are being sold, how much each share is sold for, etc.) cannot be advertised without a link to the applicable fundraising portal. Violations of the advertising rules can result in harsh penalties for the issuer.

While these issues may not be new for many in the financial sector or in the startup community, they are not familiar to those who have cut their teeth on Kickstarter. When a company is ready to make the jump to selling equity, there may be resistance or a complete lack of interest due to the particulars of these new securities regulations. It remains to be seen whether or not the game development industry takes advantage of them. Above all, before engaging in either contribution or equity crowdfundingconsult an attorney to ensure compliance with the law.

Read more about:

Daily news, dev blogs, and stories from Game Developer straight to your inbox

You May Also Like