Beijing coffee shop brews a unique business model

Equity crowdfunding promises to be the next big thing for Chinese startups

Does spending 300,000 yuan ($48,716) to become a share-holder in a coffee shop without any guarantee of earnings sound like a good idea? Perhaps not. But that's the deal that a group of China's shrewdest financiers recently made.

The crowdfunded store in a traditional siheyuan (Chinese court-yard house), complete with gray tiles and painted rafters, will soon open in Beijing's "Wall Street" district, the Jinrongjie area comprised mainly of sky-scrapers housing the country's most prestigious financial institutions.

Total financing for JRCoffee is estimated to reach 100 million yuan, quite an ambitious sum for one coffee shop, said YiHui, a funder as well as secretary-general of the enterprise, which is run not only like a traditional company but also like a society or foundation. Funders in this scenario invest money and receive shares of equity.

Equity crowdsourcing is a burgeoning fundraising model for entrepreneurial projects, and experts said the potential size of the market in China could dwarf those of the United Kingdom or United States.

A number of crowdfunded coffee shops have sprung up in cities such as Beijing and Hangzhou over the past several years, and most of the funds were raised among circles of acquaintances or alumni.

Yi said the coffee shop's funders were carefully selected from financiers of varied backgrounds, such as banking, insurance and securities, as well as innovative financing such as peer-to-peer and Internet financing and virtual currency.

About 60 percent of the funders hold an advanced business degree, such as an MBA or EMBA, and up to 30 percent are from overseas. Most shareholders of the coffee shop are in their 40s or 50s, and tend to be middle-to top-level managers at financial institutions.

Yi and his partners are planning two rounds of fundraising for their coffee shop and hope to collect 300,000 to 500,000 yuan per person from 200 funders. In retur hey will get a coffee consumption card worth the same value with a five-year validity period. That is roughly the equivalent of about 164 to 273 yuan per day, which is equal to about seven lattes from Starbucks.

All funders will hold equal shares in the company. The first round of fundraising is almost over. Yi said the price of its coffee will be a bit higher than Starbucks and that the shop will also offer food and other beverages for sale, as well as such services as hosting meetings, parties or other events in the approximately 2,000-square-meter space. Though the coffee shop will mainly serve its members, it also will provide take out service.

The raised capital will guarantee that the coffee shop will survive for at least five years. Any other money raised could be invested, but there's no guarantee of returns, he said.

So far, there is no withdrawal mechanism; however, investors may transfer their membership to other qualified candidates in the future, Yi said.

Yang Yong, also a major funder of the JRCoffee, opened his first crowdfunded cafe, the 1898 cafe, late last year in Zhongguancun, China's Silicon Valley. All 200 investors of Yang's cafe are Peking University alumni.

While many crowdfunded coffee shops have closed, 1898's success has provided Yang with plenty of opportunities to talk about his business model. In fact, now he calls himself a preacher of crowdfunding.

"I think equity crowdfunding among acquaintances has more potential for entrepreneurial projects, compared with debt-based crowdfunding in China. Chinese people don't trust crowdfunding Internet sites. China is a nepotistic society; sometimes people trust the binding force of friendship more than a legal contract," said Yang.

The cafe has hosted more than 200 crowd-sourcing seminars since its establishment. "We also provide a platform for funders to share experiences such as raising children," said Yang.

"We always thank Tencent and its messaging app WeChat, which provided instant communication tools for 200 funders," he said.

The potential size of the market in China is huge, said Conor Roche, associate director at BOP Consulting in China, and director and cofounder of the consultancy company Fieldwork.

"If regulation facilitates inward and out-ward international investment, perhaps through the Shanghai Pilot Free Trade Zone, that could develop a whole generation of cross-border entrepreneurs from China," said Roche.

"If equity crowdfunding lives up to its potential, it will be used as a funding tool across a broad spectrum of projects, from small ideas to the expansion of large multinational businesses," said Roche.

In the US, the JOBS (Jumpstart Our Business Startups) Act of 2012 declared that equity crowdfunding is a legal means of raising capital in the US, but the Securities and Exchange Commission mandated that an investor in such projects should have more than $1 million capital of net worth to protect against fraud.

"Equity crowdfunding has the potential to encourage atypical investors by lowering investment costs, and regulation should protect but liberalize investment opportunities for the general public," Roche said.

Zhao Xijun, deputy dean of the school of finance at Renmin University of China, noted a legal gap between regulations and a law addressing equity crowdfunding that is still being written.

"Equity crowdfunding is still at an early stage of development. The government should launch related regulations as soon as possible to lower the risks for investors," Zhao said. In late July, Zhang Xiaojun, spokesman for the China Securities Regulatory Commission, said the agency is stepping up efforts to draw up equity crowdfunding regulations.

Yi of JRCoffee said there are three lines that must not be crossed: The number of investors cannot exceed 200; fundraising should only be among acquaintances; and investors should never be lured with a promise of high returns.

Chen Wen, an analyst with Chinese New Finance Research Institute of Peking University, said the equity crowdfunding projects contain high moral hazards as most of them derive from networks such as alumni.