The perils of the pivot

Everyone in the startup world knows a good pivot story, right? The wedding planner site that became a peer-to-peer boat rental outfit, the “gay Groupon” that became a fabulously successful retailer. It’s not that unusual for a team to find that their original concept just isn’t going to work, but they have this other idea that is going to disrupt some totally different industry. If they are operating on their own money, no one cares.  If they’ve already raised funds then they may have to have some uncomfortable conversations with their angel or VC investors. But the likelihood is that those investors have been watching the business closely, may have a board seat, and are not going to be blindsided when the team decides to change direction.

It’s going to be totally different in crowdfunding.

If a start-up has taken crowd money in an offering made under Title III of the JOBS Act, then it’s had to disclose its current business and the plans that it has for that business, and post that description publicly on a crowdfunding portal site and with the SEC. It’s had to explain what it’s going to do with the crowd’s money. If the business description explains that the start-up is going to provide a platform for organizing pet health records and then the team decides to pivot to sourcing materials for organic cupcakes, it should be prepared for trouble.

If you take money from people who think you are going to undertake Project A and you end up undertaking Project B, those investors may think that you’ve committed securities fraud (because they gave you money on the basis of what you said about Project A, and you used their money for something different) and sue you (under Title III, that would be the company AND its officers, i.e., you). You think the conversation with the angel investors was uncomfortable? Try explaining things to the SEC, a plaintiffs’ law firm and a couple hundred angry crowd members. Easier to get forgiveness than permission? Nope. Not in SEC land.

So how do you avoid this unhappy state of affairs? One option is not to seek crowdfunding money until you get to proof of concept. Of course, it could be that you needed the crowdfunding raise to GET to proof of concept in the first place. The safest course upon pivoting might be to do a second crowdfunding round, offering existing investors a chance to recommit to you or take their money and go home, and soliciting new investors to replace those that have bailed. But there’s no guarantee a second round will succeed, and you may not have enough money left to repay investors who want to leave.

If you think there is any chance that you are going to have to pivot, disclose that fact. Explain what Plan B might be. Make sure your investors understand the concept of changing business plans, and communicate with them the whole way. Don’t go dark. Tell your investors how and when you are going to communicate with them, and what kind of information you will be providing them, and then follow that plan. If you build a relationship of trust and transparency with your crowd, you should be able to keep them with you. The more you explain, the better the chance that the crowd lets you pivot without problems.

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