The Case For Localizing Mom-And-Pop Investment

When small business (SMB) investment marketplace MainVest announced a $3 million Seed funding round last week, it did something that many Main Street SMBs cannot do.

Companies are staying private longer, lengthening initial public offering (IPO) cycles and lowering benefits for the average investor, MainVest Co-founder Nick Mathews told PYMNTS in a recent interview. At the same time, many early stage startups, particularly in the technology sector, still have access to traditional financing, like venture capital and private equity.

When it comes to bars, restaurants and mom-and-pop storefronts, though, those funding options are out of the question.

“There’s not really a Seed round option for a yoga studio,” Mathews said.

Congress’ introduction of Title III under the JOBS Act opened the doors for non-accredited investors to participate in crowdfunding for companies, with lawmakers hoping that Main Street SMBs would benefit from the initiative. The legislation enables businesses to raise up to $1 billion a year through qualified funding portals.

The creation of MainVest, Mathews explained, put the financing world to the test of being able to put these new rules into practice. One of the biggest challenges today, he noted, is raising awareness among small businesses that this is even an option for them.

Last week, small business accounting company ScaleFactor released a new survey on how SMBs access capital. For businesses with between 20 and 99 employees, credit cards remain their top financing source, while bank loans are more commonly reserved for firms with between 100 and 500 employees. The smallest of the SMBs, meanwhile, simply use their own profits to reinvest in their firms and finance growth. Personal loans from family and friends also remain popular for this group.

Title III has added crowdfunding platforms to the growing list of alternative financial players looking to fill the credit gap for small firms. While awareness among SMBs of these options is growing, Mathews said it is “still very much in the Seed phase itself.”

That lack of awareness can be damaging to the economy: An entrepreneur who fails to obtain a bank loan may give up on the business venture altogether, losing out on an opportunity to generate revenue, create jobs and contribute to the broader economy through tax payments.

Localizing Capital

Exploring the importance of the small business through the lens of its immediate community is a critical component of promoting education among entrepreneurs. According to Mathews, MainVest aims to encourage local investors to invest in businesses of their own community. This is beneficial in more ways than one, he noted.

For instance, for the small business, turning toward the community for investment not only means access to capital, but supports marketing and customer acquisition. On the investor side, investing in local businesses means that the investor has an incentive to see that company succeed, likely becoming a customer of that business themselves.

“Being in Boston, Massachusetts, I’m much less likely to invest in a restaurant in Oklahoma if the same business was right next to me,” Mathews said. “The aspect of localization creates almost a sense of meritocracy, allowing market validation to be moved much earlier in the process, and aligned with fundraising.”

A company that approaches its own community for investors will build up demand for its business by doing so. Investors that finance that company will have a greater incentive for it to succeed.

Yet, just as with education among entrepreneurs about this kind of funding opportunity, Mathews noted the importance of educating potential investors as well.

Since the regulations that open up SMB funding for non-accredited investors remain so new, marketplace platforms like MainVest have the challenge of not only attracting small businesses to the space, but those investors as well. In this effort, the platform is turning to regional and national economic development organizations to promote education on both sides.

One of the largest barriers to investors participating is the assumption of risk when financing a new company, a concern that Mathews said is perpetuated by scary statistics like those from the U.S. Bureau of Labor Statistics. Those stats noted that one-fifth of new companies fail within their first year, with 50 percent failing within five.

Those data points must be understood in context, though, he said. For instance, restaurants are generally considered to be risky investor targets, thanks to their high failure rates. However, what’s often the case is that a restaurant owner may close that business and open a new one with a different concept — sometimes with the same staff onboard — in an effort to keep up with the demand for fresh concepts.

Furthermore, he explained, a small business that defaults after five years still generates a return for investors in those five years.

“Education around the opportunity here, not just on the social impact side, but also on the side of the validity of the asset class and ability to diversify into it from other forms of investing — that’s out biggest challenge,” Mathews said, “and yet our biggest opportunity.”