Edward Lai had dreams of creating beverage pairings at his Korean-inspired bistro Bae Bae's Kitchen in Pittsburgh. But first, he needed a liquor license.
Lai knew right away he’d have to secure external funding. Pennsylvania notoriously has some of the highest liquor license costs in the country, ranging anywhere from $15,000 to $500,000, due to a state law that puts a limit on the number of available licenses.
So Lai sat down and looked at his options. Eventually, he decided on trying something new – rather than take out a loan with a bank, he’d try for a loan funded by his very own customers, using an investment crowdfunding platform called Honeycomb Credit.
Lai has since raised well beyond his minimum goal of $50,000, reaching nearly $90,000 in four weeks, all of which he’s pledged to pay back with interest to the 50-plus investors who’ve backed him. He’s part of a growing number of restaurateurs who are using investment crowdfunding platforms to raise capital.
“This provided better community outreach than getting funding from a bank, and it’s not like other crowdsourcing platforms like Kickstarter, where there’s no real monetary incentive for investors,” says Lai. “You can reach out to the community while giving them a return, which was really important to me.”
How investment crowdfunding works
It wasn’t until recently that restaurants could even publicly solicit investments from the general public, outside of “accredited investors” – defined by the Securities and Exchange Commission (SEC) as having a net worth of over $1 million, or an annual income of over $250,000. In 2016, Title III of the JOBS Act was enacted, which for the first time made it legal for everyday people to finance companies through regulated crowdfunding portals. This brings additional fundraising opportunities for restaurants who typically aren’t great candidates for equity fundraising. And it also creates opportunities for businesses that otherwise can’t secure a bank loan.
“We adhere to fair lending practices, but because we’re not a traditional lender, we can be more flexible with who we work with,” says Chip Homer, director of customer experience at Honeycomb Credit. “For example, many banks won’t fund businesses that don’t have two years of operator history, but we can work with startup businesses.”
Investment Crowdfunding platforms are registered with the SEC, and every business that wants to run a campaign must first go through a due diligence process. The platforms vet businesses based on factors like company financials, owner credit history, business plans and projections, and current debts.
“When you work with a bank, it can be really complicated, but this wasn’t too invasive,” says Erik Bruner-Yang, chef-owner of Washington D.C.’s Maketto, who raised $130,890 towards a covered patio using investment crowdfunding platform SMBX. “They were super thorough, but their approach was really thoughtful.”
Once the approval process is complete, platforms like SMBX and Honeycomb Credit work with business owners to come up with a fair interest rate that’s commensurate with the risk. Honeycomb Credit, for example, says its interest rates average between six- to 12-percent.
“The interest rate we’re paying back is a little higher than traditional sources like banks, but the money goes directly to our supporters rather than a big bank, and that appealed to us 100-percent,” says Lai, who agreed to a 7.5-percent interest rate on his campaign. “At the end of the day, it’s about creating community engagement, and your investors want to see you succeed, and hopefully that generates more revenue because they want to see you succeed.”
As soon as a campaign goes live, anyone 18 years and older can invest. If a business reaches its minimum campaign goal, funds are then transferred to the business, and the owner is required to make regular repayments to the investment crowdfunding platform. Investors receive payouts (a portion of their principal, plus interest) for the life of the loan, as long as the business sticks to its payment schedule. With Honeycomb Credit, payments are aggregated and dispersed quarterly to investors. With SMBX, investors receive monthly payments.
Power of community
The restaurant industry has long been deemed one notoriously steeped in risk. But Honeycomb Credit, which currently runs campaigns primarily with food and beverage clients, says its default rate on loans is well below the industry average.
“The crowd derisks the risk,” says Homer. “We know that if a business reaches its campaign goal, they have a network of supporters who are going to shop there. Now you have 50, 75, 100 people who have a financial interest in you becoming successful.”
Homer adds, “When that investor gets repaid, they get an email, and that’s a really big trigger to go spend money at that restaurant, so it creates this wonderful circular economy.”
For Lai, the community engagement aspect was the primary draw to investment crowdfunding. But he points out that it can add a layer of pressure, making it particularly important to ensure every aspect of the campaign is deliberate and calculated. Agreeing to a funding goal that’s too high creates risk for an owner of letting down friends, family, and their biggest supporters.
“Our purpose was to buy a liquor license, which in itself is an asset, and at the end of the day, I could sell it and still pay back my investors, so it’s a pretty sound investment,” says Lai. “If I was trying to build something new, I’m not sure I’d go this route because there’s inherently more risk. But every business person has their own decisions to make, and if it makes financial sense for you, I’d say go for it, but you have to have that sound reason and should always prepare for the worst.”
Keys to a successful campaign
When launching a campaign, restaurants also have to be prepared for some upfront work. “You can’t just throw up your campaign and think the traffic will come,” says Bruner-Yang. “We promoted it constantly and shared it with our customers.”
Restaurants should be comfortable advertising campaigns on social media accounts and ready to be proactive about doing so.
“We joke that we’re the only lender that looks at your social media following – and it’s true because we know that businesses with big social media followings, email lists, and things like that can be really successful on the platform,” says Homer.
However, before turning to social media, Honeycomb strongly encourages operators to first reach out to friends and family, noting that gaining momentum in the first 24 hours of a campaign can prove crucial to its success. Raising funds quickly signals that a project’s already supported by others and that it’s a worthy cause, which is generally useful when reaching out to social media followers and more distant supporters.
Operators generally won’t be alone in their marketing efforts. Most investment crowdfunding platforms offer support. SMBX, for example, helped Bruner-Yang make a short video to promote his campaign and also provided printed posters. Videos are a valuable platform for explaining campaigns.
“You’ll want to make sure the community really understands the purpose of why you’re doing this, and as investors, they’ll want to see a game plan,” says Lai.
While investment crowdfunding potentially requires more upfront effort than alternative fundraising options, it allows restaurants to get their community behind them in a way that benefits both parties.
“You’re going to pay interest no matter where you get a loan, and a lot of these restaurant owners would rather pay back their community than just have it end up on the bottom line of some bank on Wall Street,” says Homer.
Grace Dickinson is a reporter at Back of House. Send tips or inquiries to firstname.lastname@example.org.