Is Wisdom of the Crowd a Positive Signal? Effects of Crowdfinancing on subsequent Venture Capital Selection

We examine the impact and signaling effects that prefunding has on subsequent venture capital funding rounds. The seed funding gap is still a major obstacle for the initiation of new ventures. Crowdfinancing – an innovation... [ view full abstract ]

We examine the impact and signaling effects that prefunding has on subsequent venture capital funding rounds. The seed funding gap is still a major obstacle for the initiation of new ventures. Crowdfinancing – an innovation in the market for startup finance – could be a possible market-based option to partly close this gap. However, crowdfinancing cannot be regarded as a substitute for venture capital or business angel funding, e.g. since it is not likely to fully finance a new venture over time. It therefore appears important to study the interaction between crowdfinancing and more traditional forms of startup finance. Drawing on a choice experimental design and data on 2,860 decisions of 65 venture investors, our results indicate that for professional venture investors the crowd is a negative signal, but that they do not ignore positive signals sent by the crowd. We find causal evidence that crowd-investing (securities-based crowdfunding) is regarded as highly negative by venture capitalists, while high sums of (reward-based) crowdfunding, collected fast by startups with a B2C business model, can have a positive effect on VC managers’ funding decisions. Our results also suggest that prior business angel investments significantly increase the likelihood of subsequent financing rounds. Theoretical and managerial implications are discussed.