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On the Road to Success in Equity Crowdfunding

Aleksandrina Ralcheva*

Rotterdam School of Management, Erasmus University

Peter Roosenboom

Rotterdam School of Management, Erasmus University

Abstract

This paper investigates the role of signals and certification in equity crowdfunding. Our sample

consists of 541 pitches on Crowdcube, one of the world’s largest equity crowdfunding platforms.

Our results show that backing by professional investors, such as venture capitalists and business

angels, and having received grant money are key contributors to success in equity crowdfunding.

Companies that have won awards and that have protected their intellectual property rights via

patents, trademarks or copyrights are also more likely to be successful in equity crowdfunding.

Depending on the model used, we report that companies that have crowdfunded before,

companies that have adopted an advisory board, appointed non-executive directors and/or hired

professional advisors and companies, in which the original owners plan to retain a large fraction

of the equity after the capital raise, benefit from higher funding success. Overall, we show that,

controlling for other pitch and firm characteristics, signaling and certification play an important

role in equity crowdfunding.

* Corresponding author. Rotterdam School of Management, Erasmus University. Mandeville

Building T8-29. Burgemeester Oudlaan 50, 3062 PA Rotterdam, The Netherlands. Phone: +31 10

4082601, Email: ralcheva@rsm.nl, proosenboom@rsm.nl.

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On the Road to Success in Equity Crowdfunding

1. Introduction

The global crowdfunding market has experienced a substantial growth in the past few

years reaching $16.2 billion raised in 2014, that way almost tripling the amount of $6.2 billion in

2013 (167% market growth)1. With an estimated market value of $34.4 billion for 2015, the

crowdfunding industry increasingly gains momentum. In particular, equity crowdfunding, where

start-up firms sell shares to investors via the Internet, is expected to grow significantly once Title

III of the JOBS Act will also permit private company investing by non-accredited individual

investors in the United States2. Carl Esposti, the CEO of Massolution, a crowdfunding research

firm, comments: “while lending, donation and reward-based crowdfunding have thus far been

leading this global financial revolution, equity-based crowdfunding is about to take center

stage”. 3

We study the determinants of equity crowdfunding success using 541 pitches on

Crowdcube during 2012 until March 2015. Crowdcube opened its doors in 2011 in the United

Kingdom (henceforth, the UK) and is authorized and regulated by the Financial Conduct

Authority (FCA). This platform is thus far the world’s largest equity crowdfunding platform with

investments of more than £130 million, 352 successful campaigns and nearly a quarter of million

registered investors as of January 2016. Equity crowdfunding has taken off in the UK since

2011. Equity crowdfunding platforms now account for about one fifth of all early stage

1 Source: Massolution’s 2015 CF Crowdfunding Industry Report. Available at

http://reports.crowdsourcing.org/index.php?route=product/product&product_id=54 2 Dambra, Field and Gustafson (2015) suggest a notable increase in small firms IPO activity since the passage of the

Jumpstart Our Business Startups (JOBS) Act in April 2012 and more specifically its Title I (Titles I, V, and VI of

the JOBS Act became effective immediately upon enactment), implying the potential future impact of legalizing

other funding opportunities for small businesses. Particularly, Title III, which will be in effect as of May 2016, will

enable firms to sell limited amounts of equity to non-accredited investors via the internet, allowing more than 200

million Americans to invest via equity crowdfunding platforms. 3 Source: http://www.prnewswire.com/news-releases/crowdfunding-market-grows-81-in-2012-crowdfunding-

platforms-raise-27-billion-and-fund-more-than-one-million-campaigns-finds-research-firm-massolution-

201911701.html

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investment deals and 35% of the number of seed stage deals in the UK4 with Crowdcube being

the market leader with a market share of 52%5.

One of the main concerns about equity crowdfunding remains whether the ‘crowd’ can

adequately deal with the high levels of uncertainty and information asymmetry that plague seed

and early stage equity finance. Many of the small ‘armchair’ investors that invest in

crowdfunding pitches might not have the time or expertise to conduct due diligence to the same

degree as professional investors such as business angels or venture capitalists (Wilson and

Testoni, 2014). Moreover, investors may free-ride on the due diligence efforts of other investors

which may lead to an underinvestment in due diligence (Agarwal, Catalini and Goldfarb, 2013).

In an attempt to mitigate this problem equity crowdfunding platforms screen companies before

allowing them to pitch on their platform and require companies to at least share information on

their business idea and strategy with potential investors. Nevertheless ex ante information

problems continue to loom large.

It is important that companies mitigate these information problems in order to prevent the

well-known lemon’s problem of Akerlof (1970) where high levels of uncertainty and lack of

information make it difficult to separate the high quality firms from the poor quality ones. One

important way to deal with information asymmetries is signaling (Spence, 1973). Using credible

signals companies can convey positive information which enables investors to identify good

quality investment opportunities. The theory of certification introduces the role of effective

signals sent by a third party – a reputable agent that can address adverse selection problems by

certifying the quality of a firm’s future prospects (Megginson and Weiss, 1991; Stuart, Hoang

and Hybels, 1999). In this paper we examine the workings of seven (certifying) signals: (i)

whether the company and/or entrepreneur has won awards, (ii) whether companies are backed by

professional investors, (iii) whether companies have crowdfunded before, (iv) whether firms

have received grants, (v) whether the company has protected its intellectual property rights, (vi)

whether the company has hired professional advisors, adopted an advisory board and/or has

appointed non-executive directors to its board and finally (vii) whether the original owners of the

company retain a large fraction of the equity in their firm.

4 Source: http://about.beauhurst.com/report-the-deal-q3-15 5 Source: http://www.crowdfundinsider.com/2015/08/72395-crowdsurfer-data-released-crowdcube-leads-uks-

investment-crowdfunding-market/

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Our paper adds to the growing literature on crowdfunding. The extant literature mostly

focuses on reward-based crowdfunding platforms where backers pre-purchase a product under

development or receive other rewards in kind (e.g., Belleflamme, Lambert and Schwienbacher,

2014; Colombo, Franzoni and Rossi-Lamastra, 2015; Mollick, 2014; Mollick and Nanda, 2015),

as well as on peer-to-peer lending platforms (e.g. Burtch, Ghose and Wattal, 2014; Lin and

Visnawathan, 2015; Zhang and Liu, 2012). Equity crowdfunding has attracted far less attention.

Ahlers, Cumming, Günther and Schweizer (2015) is, to our knowledge, the only published work

on equity crowdfunding. In their paper, the authors document a positive signaling effect of

retaining equity and providing more detailed information about risks on funding success for the

largest Australian crowdfunding platform ASSOB. Vismara (2015a) confirms that equity

retention by entrepreneurs has a positive effect on funding success on UK equity crowdfunding

platforms SEEDRS and Crowdcube. Other working papers on equity crowdfunding focus on

funding dynamics in the UK (see Vismara, 2015b; Vulkan, Ȧstebro and Fernandez Sierra, 2015)

and Germany (Hornuf and Schwienbacher, 2015).

Our paper extends the work of Ahlers et al. (2015). First, we test a different and more

comprehensive set of signals as in Ahlers et al. (2015) and Vismara (2015a) and introduce the

role of certification. Certification has so far largely been neglected in the crowdfunding context.

Second, we study a larger sample of equity crowdfunding pitches (541 pitches with 197

successful ones) compared to Ahlers et al. (2015) (104 pitches with only 10 successful ones).

This does not only strengthens our findings, but also contributes to a better understanding and

helps to further complete the picture of the equity crowdfunding market. Third, we introduce a

different institutional context. Our data comes from the regulated UK equity crowdfunding

market. Although considered the first and an early success case, the crowdfunding market in

Australia has been described as very different from other countries (European Commission,

2015). At the time of the sample of Ahlers et al. (2015) no specific equity crowdfunding

regulation existed in Australia and only a limit of twenty unaccredited investors were allowed to

invest in a given company. This makes it less comparable to equity crowdfunding in Europe

where many more unaccredited investors can invest in the shares of private companies.

Moreover, the rules currently being developed in the US more closely correspond to the British

model, suggesting that the UK experience with crowdfunding is a more indicative example of the

equity crowdfunding potential in the US than the Australian experience (see Steinhoff, 2015).

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Controlling for pitch and firm characteristics we find that signaling and certification are

important determinants of funding success in equity crowdfunding. We find that companies that

win awards, are backed by professional investors, win grants, protect their intellectual property

and/or make use of advisors and mentors experience more funding success. Our results contrast

with those of Ahlers et al. (2015) who do not find that grants, patent protection or awards matter

to equity crowdfunding success on the ASSOB platform in Australia. We also report that the

equity that is retained by the original owners of the firm is positively related to funding success.

This is similar to the findings of Ahlers et al. (2015) and Vismara (2015a). Looking at our

control variables we report that funding success improves when companies are younger, have

already made a first sale, are located in a big city or lower the price of their shares during the

campaign.

In the next section, we formally present the theories of signaling and certification, as well

as develop our hypotheses. Section 3 discusses our data and variable measurement. Section 4

presents our empirical results and Section 5 concludes our paper.

2. Theory and Hypotheses Development

Signaling theory originates from the seminal work of Spence (1973), in which he

introduces the concept of signals – alterable observable characteristics, and their role for

reducing information asymmetries by persistently conveying information from one actor to

another. The fundamental focus of the theory lies in the intentional communication of positive

information by insiders in an effort to distinguish themselves among actors of various

unobservable quality. The costs associated with signaling should be negatively correlated with

quality, thus reducing the incentives for false signaling. An effective signal is only worth

investing in for high quality actors (for which the benefits will be greater than the costs) and too

costly to pursue for those of low quality.

The idea of certification was put forward by Booth and Smith (1986). According to

certification theory, a third party having access to inside information, can ‘certify’ the quality of

a firm’s future prospects. Central to the certification theory is the active contribution of the

certifying organization. For a third party to be considered a credible certifier, several conditions

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have to be met. There must be reputational capital at stake, which would be forfeited if certifying

falsely and the value of which should be greater than the one time transfer of wealth that could

occur by certifying falsely (Megginson and Weiss, 1991). A third party signal must also be

costly for the actor seeking certification, which relates certification theory to signaling theory.

On the equity crowdfunding market, dominated by new ventures with unobservable

quality, investors are likely to rely on signals and certification. We expect that effective and

unambiguous signals and certification of the quality of the entrepreneur(s), and hence the quality

of their firm6 help to mitigate information asymmetries and thus increase funding success. In this

paper, we consider seven of these (certifying) signals that we discuss below.

Awards

Awards serve as certification of high quality human capital by recognizing and rewarding

skills, achievements, best practices, and innovation in the field of business. Having undergone a

severe selection and screening procedure by an expert jury putting their reputation at stake, an

award recognizes the quality of a business or individual entrepreneur, sending an effective

positive signal towards investors. As such, business awards fulfill the criteria of an effective

signal (Spence, 1973), as the application process requires considerable effort and investment

which makes it especially costly to enter into for businesses or entrepreneurs of lower quality. To

the extent that higher human capital individuals establish more successful firms (Colombo and

Grilli, 2010), awards could serve as an important signal of the venture’s future potential and

increase funding success.

Hypothesis 1: Awards increase funding success.

Professional Investor Backing

Equity crowdfunding campaigns are specifically aimed at a large group of small

‘armchair’ investors, who typically lack experience in evaluating investment opportunities. In

6 When it comes to new small businesses, the firm is assumed to be built around the entrepreneur (Cooper, Gimeno-

Gascón and Woo et al., 1994). In that sense, new venture success and quality are tightly related to the knowledge,

abilities and skills of the entrepreneur.

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addition, assessing a large pool of potential projects to identify the ones worth investing in is

associated with substantial costs that could outweigh the potential benefits for small investors. In

comparison, more informed, experienced and more reputable investors, such as business angels

or venture capitalists, are better equipped in dealing with uncertainty, and are, hence, more likely

to identify profitable projects at a very early stage. By choosing to invest, those more

knowledgeable investors also put their reputation at stake, thus, their investment behavior can be

considered a credible certification of project quality. Small investors are likely to rely on such

signals and imitate the behavior of those professional investors, which increases equity

crowdfunding success.

Hypothesis 2: Professional investor backing increases funding success.

Prior Crowdfunding Experience

The ‘wisdom of the crowd’ (Surowiecki, 2005) itself could also offer certification

through its ability to efficiently make aggregated decisions (by building up individual decisions

and, hence, ending up making better decisions overall). The crowd has been shown to be just as

skilled in selecting potentially successful projects as conventional experts (Mollick and Nanda,

2015). Individual investors could, thus, interpret previous success on crowdfunding platforms as

a credible positive quality assessment granted by the ‘wisdom of the crowd’.

Hypothesis 3: Prior crowdfunding experience increases funding success.

Grants

Another source of prior external funding is offered by government grants. These grants

also play a role in certifying venture quality (Lerner, 2000). Being awarded a grant gives both the

project and the founding team visibility, making them stand out among their peers as being

successful in securing financial resources.

Hypothesis 4: Grants increase funding success.

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Protection of Intellectual Property Rights

By launching a crowdfunding campaign, entrepreneurs publicly disclose their business

ideas and strategy, thereby risking misappropriation of that information by others. This

introduces the need for protection of the firm’s intellectual capital via patents, trademarks and/or

copyrights. The protection of intellectual property rights can be viewed as a credible signal that

conveys information to investors about innovation capabilities, the ability to stake technological

claims, as well as firm’s characteristics and managerial skills (Long, 2002). Patent and trademark

applications are at the same time costly to undertake making them a credible quality signal.

Extant literature has already recognized the unique signaling power of patents for raising

funds in an IPO and venture capital context (Heeley, Matusik and Jain, 2007; Hsu and Ziedonis,

2013). However, their signaling value diminishes with firm maturity and the decrease of

information asymmetries (Hoenen, Kolympiris, Schoenmakers and Kalaitzandonakes, 2014),

which highlights their important effect on start-up financing. We therefore hypothesize:

Hypothesis 5: Intellectual property rights protection increases funding success

Advisors

The entrepreneur’s social network can also serve as external endorsement by

knowledgeable actors (Baum and Silverman, 2004) such as advisors and mentors. Start-up firms

often use advisory boards in this regard. An advisory board consists of an external group of

knowledgeable professionals selected to provide information, expertise and help with the

business. As such, they are especially suitable for entrepreneurs, as they not only provide high-

quality advice, but also access to their own industry network. Participation by highly reputable

advisors also serves as certification of quality, as they are better equipped for performing due

diligence and would only affiliate themselves with high quality companies. The same argument

applies to professional advisors and non-executive directors that are willing to affiliate

themselves with the company.

Hypothesis 6: The presence of advisors increases funding success

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Retained Equity

Leland and Pyle (1977) argue that the actions of entrepreneurs ‘speak’ for the quality of

their project and that their willingness (being the people with inside information) to invest in

their own project is an action that serves as a signal of the true quality of the project.

Entrepreneurs who are confident of the potential of their business are likely to retain more

equity, as offering more equity to new investors would dilute their future wealth. On the

contrary, entrepreneurs who are less committed to their company are likely to sell a higher

proportion of equity to new investors. Thus, higher equity retention could be perceived as a

quality signal to future investors, increasing the likelihood of funding success.

Hypothesis 7: Higher equity retention by existing owners increases funding success.

3. Data and Variable Measurement

Data

We examine a sample of 541 equity crowdfunding campaigns posted on Crowdcube in

the period from 2012 until March 2015. Out of those, 197 campaigns were successful at reaching

their targets. Crowdcube operates in an ‘all-or-nothing’ manner, which means that investors are

only committed to providing their pledged funds in case the campaign raises the full amount.

Business pitches on Crowdcube are live for up to 60 days7. If fully funded, firms have the choice

to keep the campaign open and allow it to overfund, or close it at the target amount. If

unsuccessful, the pitch gets closed and the investors’ pledges get voided.8

Entrepreneurs pitch their ideas for a fixed amount of funds and a set amount of shares,

however, Crowdcube allows for campaign adjustments after the pitch is launched, giving

founders the chance to adapt to the investors’ needs. The shares could include voting and

preemption rights (A shares) or no rights (B shares). Share issues typically qualify for tax relief

7 At the writing of this paper, Crowdcube has shortened the lifespan of a pitch on its platform. However, during our

sample period a 60-day window applied. 8 Crowdcube charges a success fee of 6.5% (VAT exempt) of the total funds raised, but no pitch listing fee. There

are no costs for investors. Source: Crowdcube.com.

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schemes, such as EIS or SEIS9. Crowdcube pitches can also feature rewards. Data comes from

the Crowdcube website, as well as from the business plans posted by firms on the Crowdcube

website.

Variable Description

Table 1 provides an overview of the variables and a variable description.

Insert Table 1 Here

Dependent Variables

Our main (dependent) variable is pitch success, which takes a binary value and is

measured based on whether the target amount has been reached or not. The choice of this

measure is driven by the ‘all-or-nothing’ character of the platform. To our knowledge, this is one

of the first studies to utilize this approach, as other studies (Ahlers et al., 2015) were limited by

their data (only 10 successful pitches). Alternatively, we look at the percentage of the target

amount raised and the number of investors as dependent variables. The percentage raised, which

can take values above 100% (in case of overfunding), is a more fine-tuned measure of success

that depicts how close the pitch was to reaching its target. We also use the number of investors as

a dependent variable because one of the main goals of crowdfunding is to accumulate a large

investor base. Table 2 shows that 36 percent of the 541 pitches ended up being successful. The

average pitch raised 59.1 percent of its target amount and attracted 72 investors.

Independent Variables

The independent variables in our study are awards, professional investor backing,

previous crowdfunding experience (Crowdfunded before), grants, intellectual property rights

(IPR) protection, the presence of an advisory board, professional advisors and/or non-executive

directors (Advisors) and retained equity. Table 2 shows that the company or at least one of its

9 The Enterprise Investment Scheme (EIS) offers 30% tax relief on the issue of new shares for small and high risk

companies. The Seed Enterprise Investment Scheme (SEIS) offers investors, including directors, initial tax relief of

50% and is aimed at seed investment and early stage companies. Source: Crowdcube.com.

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directors/founders has received at least one award in 27.5 percent of the pitches. Professional

investors such as business angels or venture capitalists have backed about a quarter of the

companies. Six percent of the firms have crowdfunded before and almost ten percent of the firms

have received grants. About 36 percent of the companies have protected their intellectual

property rights via patents, trademarks and/or copyrights. More than half of the companies make

use of advisory boards, professional advisors and/or non-executive directors. Equity retained

averages 83.9 percent of outstanding equity after the capital raise.

Control Variables

We include a set of control variables in all our analyses. In designing their campaign,

entrepreneurs make choices on the target amount, valuation10, investment and reward structure

and whether to apply for tax relief. In our study, we control for the target amount because

previous research has documented that campaigns aiming to raise larger target amounts are less

likely to be successful on reward-based platforms (Mollick, 2014). The average target amount is

£188,500 ranging between £20,000 and £2 million. We also control for whether the pitch

involves only equity (no nonfinancial rewards offered). Table 2 shows that 31 percent of the

pitches only offered equity and no additional non-financial rewards. Companies may decide to

sell only B shares in equity crowdfunding. These B shares bear additional risks for investors

because they are not protected against dilution and have no voting rights. Companies that are not

willing to offer voting rights to investors may not be as successful as other firms that are willing

to give investors votes. Table 2 shows that 13 percent of pitches only offer B shares. The

dummy variable No tax break identifies the projects that have not applied or qualified for a tax

break scheme. The availability of investment schemes (EIS and SEIS) tends to encourage

investments. Ten percent of the pitches do not offer tax breaks for investors. We also include a

dummy Lowered price to capture pitches during which the price of the shares has been lowered

in order to augment investor demand. The price of the shares is lowered in 16% of the pitches.

We also control for several company characteristics such as age, stage of development,

industry and location. Companies are on average 2 years and 9 months old, with the oldest

company in our sample being 30 years of age, and the youngest being established only 2 days

10 In the case of startup companies with unrealized profits and only a projection to rely on, the valuation terms can

be ambiguous and are in most cases based on the founders’ own perception of the project.

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before the pitch. We use two dummy variables Prototype and First sale to measure the firm’s

stage of development. Table 2 shows that 21 percent of companies have developed a prototype

and 46 percent already made their first sale. More than one third of companies are active in the

technology industry and 44 percent are located in a big city (i.e., Manchester, Liverpool,

Sheffield, Bradford, Birmingham, Bristol, London, Leeds, Glasgow, or Edinburgh). We also

include year fixed effects in all regressions.

Insert Table 2 Here

4. Results

Univariate Results

Table 3 presents the difference in means between successful and unsuccessful pitches.

Successful pitches raise 136% of their target11 and have 163 backers on average, while

unsuccessful ones seem to fail by a large margin (15% raised) with only 15 backers on average.

Table 3 shows that successful pitches are more likely to have won awards. Companies with

funding success are also more likely to be backed by professional investors, to have

crowdfunding experience, to have received grants, to have protected their intellectual property

rights and make use of advisors. Original owners of successful pitches also retain significantly

more equity. These univariate results present initial evidence that signaling and certification

matter in equity crowdfunding.

Looking at the control variables we observe that successful pitches more often offer tax

breaks and have more often lowered the price of the shares. Successful companies are younger

and have higher targets. They have also been more successful in securing a first sale, more often

belong to the tech industry and are more often located in one of the big cities (Manchester,

Liverpool, Sheffield, Bradford, Birmingham, Bristol, London, Leeds, Glasgow, or Edinburgh).

Insert Table 3 Here

11 The majority of successful campaigns (80%, unreported results) choose to overfund.

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Regression Results

Table 4 presents the results of the regression analysis with the three dependent variables.

We estimate a logit model with success as a dependent variable and report the corresponding

marginal effects in the first column (Model 1). Additionally, we run an OLS regression using the

percentage raised as dependent variable (Model 2). In Model 3, we employ a negative binomial

regression to account for the non-negative integer values that the dependent variable number of

investors takes. All models include robust standard errors, as well as the same set of control

variables. The correlation matrix12 and Variance Inflation Factors (VIF)13 reveal no severe

problem of multicollinearity.

In all three models, we find consistent evidence for a strong positive impact of awards,

backing by professional investors, grants, and of intellectual property rights protection on equity

crowdfunding success. The presence of advisors and a higher percentage of equity retained are

also positively related to funding success. More specifically and in line with our Hypothesis 1, if

the company or its founders/directors has won one or more awards, it is 13% more likely to

succeed in reaching its target, it raises 11% extra funds and attracts 34%14 more investors. This

result is in contrast with the findings of Ahlers et al. (2015), who report no relationship between

awards and the equity crowdfunding success for the Australian platform ASSOB.

Insert Table 4 Here

Among our independent variables, professional investor backing proves to be the most

persistent determinant of success with significance at the 1% level in all models. Being backed

by professional investors, such as a venture capitalists or business angel, increases the chances of

success by 16%, the percentage raised with additional 17% and the number of investors by

36%15. This supports our second hypothesis. Additionally, we look at whether the project has

sought crowdfunding before (Hypothesis 3), which seems to positively affect current

crowdfunding success (Model (1)), but is not statistically significant in Models (2) and (3). That

could have to do with entrepreneurial learning (Xu, 2016) and the fact that entrepreneurs who

have previously crowdfunded are more experienced in structuring a successful campaign, e.g.

12 Available upon request. 13 Mean VIF is 1.38. 14 The number of investors increases by a factor of exp(0.290), which equals 1.3370. 15 The number of investors increases by a factor of exp(0.304) = 1.3551.

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setting their valuation terms, which is probably depicted in other variables (retained equity,

target amount). The most economically significant impact, according to our specifications, is

associated with previously winning a grant (Hypothesis 4). Companies that qualified for grants

were 21% more likely to succeed in raising money from the ‘crowd’, raised additional 36% of

their target and attracted more than 54%16 more investors. These results are in contrast to the

findings of Ahlers et al. (2015), who control for the availability of government grants, but find

no evidence of their impact on funding success most likely due to the small size of their sample.

There is also consistent evidence for the positive impact of IPR protection on funding

success (Hypothesis 5). Companies that filed for a patent, trademark and/or copyright have 12%

higher chance of success, raise additional 13% of their target and attract 22%17 more investors.

One important difference, as compared to Ahlers et al. (2015), is that we look into filed

applications rather than granted patents. It usually takes considerably long before the application

is reviewed and a patent is granted, while companies that engage on crowdfunding platforms are

predominantly at a very early stage of their development, which introduces a bias. However,

once an application is filed, the intellectual property is considered protected until the final

decision of the patent or trademark office, which corresponds with our previous line of

argumentation and, hence, we consider a better quality signal in an equity crowdfunding setting.

Having appointed non-executive directors, an advisory board and/or made use of

professional advisors (Hypothesis 6), is also associated with funding success, but does not have a

significant impact on the percentage raised or the number of investors. On the contrary, the

percentage of equity retained is not associated with funding success (Model 1), but has a

significant impact on the percentage raised and the number of investors, albeit of a low

magnitude. These results are consistent with the findings of Ahlers et al. (2015) and Vismara

(2015a).

Considering the control variables, we find that lowering the share price, showing a first

sale and being located in a big city positively impact funding success. Target amount, the age of

the company and the tech industry dummy also appear significant in some of the models. More

specifically, a one logarithmic unit increase in the target amount is associated with a higher

16 The number of investors increases by a factor of exp(0.432) = 1.5409. 17 A factor of exp(0.195) = 1.2150.

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number of investors, which is expected, as more investors are needed to reach the higher target

(size effect) and consistent with the findings of Vismara (2015a). More importantly, if the

company has been successful in securing a first sale, it has 15% higher chance of success, raises

an extra 13% and attracts 33%18 more investors. This shows that companies that have already

reached this stage of development benefit from improved funding success compared to

companies that have yet to show a first sale. Additionally, if the price of the shares has been

adjusted during the pitch, it is 15% more likely so succeed, it raises additional 15% and attracts

50%19 more investors. Younger companies, tech companies and companies located in a big city

also increase their chances of reaching their target and attracting high number of investors. The

other control variables are insignificant. Interestingly, companies that do not offer rewards,

voting rights or tax breaks to investors do not experience lower funding success.

5. Conclusion

Equity crowdfunding is continuously increasing in popularity. This paper investigates the

role of signaling and certification in this novel source of entrepreneurial finance. We analyze a

sample of 541 equity crowdfunding pitches on Crowdcube, the UK’s leading equity-based

crowdfunding platform during the period 2012-March 2015. We use three measures of funding

success: a dummy variable indicating whether the company is successful or not, the percentage

of the target amount raised and the number of investors.

We document that backing by professional investors, such as venture capitalists and

business angels, and grants are key determinants of equity crowdfunding success. This shows

that having (offline) access to external finance via professional investors or grants may facilitate

(online) success in the equity crowdfunding market. This stresses the intertwined relation

between those traditional funding models and equity crowdfunding, where professional investors

may play an important role in ‘picking the winners’ (also see Agarwal, Catalini and Goldfarb,

2015).

18 A factor of exp(0.288) = 1.3333. 19 A factor of exp(0.381) = 1.4639.

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We also report that awards and the protection of intellectual property rights positively

contribute to funding success. These findings contrast with those of Ahlers et al. (2015) who do

not find that awards, patents or grants matter to funding success on the ASSOB platform in

Australia. Prior experience with crowdfunding, the presence of advisors and mentors, and the

percentage of retained equity positively impact the success of the pitch but results vary

depending on which of the three measures of funding success is used. Looking at our control

variables we report that funding success improves when companies are younger, have already

made a first sale, are located in a big city or lower the price of their shares during the pitch.

Our findings offer several implications for companies and crowdfunding platform

operators. First, it is important for companies and platform operators to be aware that investors

pay attention to signals and certification. Companies that are tapping the crowd without signals

or certification are less likely to be successful. Second, many of these (certifying) signals are

obtained in the ‘offline’ world such as professional investor backing, grants and awards. These

signals are similar to the ones typically taken into account by professional investors (also see

Mollick, 2013). This suggests that most investors are not the unsophisticated ‘armchair’ investors

but instead look for signals and certification of quality and rely on the due diligence efforts of

professional investors. Third, although crowdfunding fits younger companies seeking seed and

start-up capital, our results show that companies that have already made a first sale are more

likely to be successful. This suggests that companies first need to reach a certain stage of

development before they can be successful in equity crowdfunding. Fourth and final, companies

can learn from the feedback from investors to better design and structure their pitches. Equity

crowdfunding platforms and companies would benefit from taking the feedback from investors

into account (also see Xu, 2016). For example, we find that companies that lower the price of

their shares after feedback from investors are more likely to raise their target amount in equity

crowdfunding.

17

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20

Table 1 Variable Description

Variable description

Dependent variables

Success Dummy variable that equals 1, if the campaign was successful, and 0 otherwise.

Percentage raised (in %) Total amount raised at the end of the campaign divided by the target amount.

Number of investors Number of investors at the end of the campaign.

Independent variables

Awards Dummy variable that equals 1, if one of the directors/founders and/or the company

itself received one or more awards, and 0 otherwise.

Professional investor backing Dummy variable that equals 1, if the company was previously/is currently backed

by an angel investor and/or VC, and 0 otherwise.

Crowdfunded before Dummy variable that equals 1, if the company has previously been successful in

crowdfunding, and 0 otherwise.

Grant Dummy variable that equals 1, if the company has previously received a grant,

and 0 otherwise.

IPR protection Dummy variable that equals 1, if the company has protected its intellectual

property via granted or filed patents and/or trademarks and/or copyright, and 0

otherwise.

Advisors Dummy variable that equals 1, if the company has appointed one or more non-

executive directors, has made use of professional advisors and/or has adopted an

advisory board, and 0 otherwise.

Retained equity (in %) Variable that equals 1 - the percentage of equity offered.

Control variables

Target amount Campaign target amount.

Only equity Dummy variable that equals 1, if the campaign was a pure equity campaign (no

rewards were offered), and 0 otherwise.

Only B shares Dummy variable that equals 1, if only non-voting shares were offered, and 0

otherwise.

No tax break Dummy variable that equals 1, if the company does not offer tax relief on new

shares (EIS or SEIS), and 0 otherwise.

Lowered price Dummy variable that equals 1, if the share price was lowered one or more times

during the campaign, and 0 otherwise.

Age (in days) Company age in days.

Prototype Dummy variable that equals 1, if the company was successful in releasing a

prototype, and 0 otherwise.

First sale Dummy variable that equals 1, if the company was successful in closing a first

sale, and 0 otherwise.

Tech industry Dummy variable that equals 1, if the company belongs to the tech industry, and 0

otherwise.

Big city Dummy variable that equals 1, if the company is based in one of the big cities

(Manchester, Liverpool, Sheffield, Bradford, Birmingham, Bristol, London,

Leeds, Glasgow, Edinburgh), and 0 otherwise.

21

Table 2 Descriptive Statistics

Obs. Mean Std. Dev. Min Max

Dependent variables

Success 541 0.364 0.482 0 1

Percentage raised (in %) 541 59.100 65.604 0 333.372

Number of investors 541 72 172 0 2,886

Independent variables

Awards 541 0.275 0.447 0 1

Professional investor backing 541 0.255 0.436 0 1

Crowdfunded before 541 0.061 0.240 0 1

Grant 541 0.096 0.295 0 1

IPR protection 541 0.366 0.482 0 1

Advisors 541 0.571 0.495 0 1

Retained equity (in %) 541 83.891 8.784 30.000 99.610

Control variables

Target amount (in £) 541 188,506 204,530 20,000 2,000,000

Only equity 541 0.31 0.46 0 1

Only B shares 541 0.13 0.34 0 1

No tax break 541 0.10 0.30 0 1

Lowered price 541 0.16 0.37 0 1

Age (in days) 541 1,008 1,191 2 11,006

Prototype 541 0.21 0.41 0 1

First sale 541 0.46 0.50 0 1

Tech industry 541 0.35 0.48 0 1

Big city 541 0.44 0.50 0 1

Notes: This table presents the descriptive statistics on the dependent and independent variables used in this study.

See Table 1 for variable definitions.

22

Table 3 Difference in Means between Successful and Unsuccessful Pitches

Successful Unsuccessful Difference in means

Dependent variables

Percentage raised (in %) 135.92 15.11 -120.82 ***

Number of investors 163.33 19.01 -144.32 ***

Independent variables

Awards 0.371 0.221 -0.150 ***

Professional investor backing 0.396 0.174 -0.222 ***

Crowdfunded before 0.122 0.026 -0.096 ***

Grant 0.173 0.052 -0.120 ***

IPR protection 0.462 0.311 -0.151 ***

Advisors 0.706 0.494 -0.211 ***

Retained equity (in %) 85.593 82.916 -2.678 ***

Control variables

Target amount (in £) 216,811 172,297 -44,514 ***

Only equity 0.335 0.291 -0.044

Only B shares 0.107 0.151 0.045

No tax break 0.066 0.119 0.053 **

Lowered price 0.228 0.128 -0.101 ***

Age (in days) 862 1092 230 **

Prototype 0.249 0.192 -0.057

First sale 0.594 0.390 -0.204 ***

Tech industry 0.411 0.308 -0.103 **

Big city 0.553 0.378 -0.175 ***

Notes: This table presents the difference in means between successful and unsuccessful pitches. ***, ** and *

denote statistical significance at the 1%, 5% and 10% level, respectively. See Table 1 for variable definitions.

23

Table 4 Regression Results

Model 1: Success

Model 2: Percentage

raised

Model 3: Number of

investors

Marginal

effect z-value Coefficient t-value Coefficient z-value

Independent variables

Awards 0.129 ** 2.39 11.454 * 1.75 0.290 *** 2.46

Professional investor backing 0.160 *** 2.88 17.148 *** 2.47 0.304 *** 2.57

Crowdfunded before 0.192 * 1.80 13.790 1.20 0.166 0.85

Grant 0.208 ** 2.42 35.754 *** 3.17 0.432 *** 2.57

IPR protection 0.117 ** 2.30 13.017 ** 2.17 0.195 * 1.69

Advisors 0.122 *** 2.51 5.639 1.01 0.140 1.21

Retained equity (in %) 0.004 1.32 0.718 *** 2.49 0.019 *** 2.86

Control variables

Target amount (ln) -0.023 -0.58 -1.467 -0.35 0.447 *** 5.56

Only equity 0.015 0.29 -0.565 -0.1 -0.183 -1.61

Only B shares -0.015 -0.22 -7.580 -1.14 -0.212 -1.32

No tax break -0.108 -1.25 -6.178 -0.69 -0.385 * -1.63

Lowered price 0.146 ** 2.26 15.415 ** 2.35 0.381 *** 2.97

Age (ln) -0.082 *** -3.94 -5.844 *** -2.84 -0.072 -1.45

Prototype 0.005 0.08 0.499 0.07 0.057 0.44

First sale 0.150 *** 2.72 13.031 ** 2.02 0.288 *** 2.60

Tech industry 0.086 * 1.68 12.043 ** 2.08 0.065 0.55

Big city 0.123 *** 2.59 14.252 *** 2.73 0.245 ** 2.28

Year fixed effects Yes Yes Yes

Constant 48.767 0.83 -2.2523 * -1.85

Number of observation 541 541 541

Wald χ sq. 98.04 327.10

(Pseudo) R sq. 0.197 0.261 0.058

Adj. R sq. 0.233

F stat. 10.970 ***

Notes: This table presents the results of our regression analysis. Model 1 presents the results of a logit regression

using robust standard errors with success as the dependent variable. Model 2 presents the results of an OLS

regression using robust standard errors with the percentage raised as the dependent variable. Model 3 presents the

results of a negative binomial regression using robust standard errors with the number of investors as the dependent

variable. ***, ** and * denote statistical significance at the 1%, 5% and 10% level, respectively. The results are

robust to the exclusion or inclusion of different control variables. See Table 1 for variable definitions.