For the first time in nearly 80 years, private startups and small businesses can raise investment funding publicly- using sites like Facebook or Twitter to help spread the word, and taking in investment online via equity crowdfunding sites who power the investment process in a more open and collaborative way.
Before today, publicly advertising the fact that you were raising investment (general solicitation) was against the law for early stage private companies. Fundraising from the general public was the exclusive domain of larger companies who can afford to spend the millions it takes to become listed on stock exchanges like the NASDAQ.
But now, as a result of Title II, early stage investing in the U.S. has stepped squarely into the digital age and has become more public, kicking off one of the largest new capital markets in our time for online investing via equity crowdfunding.
As the CEO of Crowdfunder.com where we help companies raise investment online, and as a participant in JOBS Act legislative and regulatory initiatives, I’m thrilled at seeing the last 2 years of hard work on the JOBS Act come to fruition among participating friends, colleagues, policy makers, and regulators.
What’s more, the new opportunities this creates to help companies raise capital and grow will not just transform the startup investing world, but also evolving markets like impact investing in for-profit Social Enterprises.
In this brief article I’m going to share a little background on the laws governing private investment in the U.S., what Title II means for investors and entrepreneurs in the U.S., and outline the basic mechanics of how companies looking to raise crowdfunded capital can take advantage of Title II of the JOBS Act in a safe and legal way.
Background on Title II of the JOBS Act
It was 1933 when the Securities Act was passed in the U.S., creating with it a ban on general solicitation (advertising investment to the general public for private companies). At the time, radio was the dominant communication medium, and there was little access open information, education, or disclosures to help protect investors.
While these laws passed in 1933 helped reduce fraud at the time, they also had unintended consequences that hurt honest everyday small business owners and entrepreneurs, restricting them in their efforts to attract potential investors and critical seed and growth capital.
The world has changed since 1933, and early stage investing has been long overdue to catch up.
On April 4th, 2012 the JOBS Act was signed into law and included two investment crowdfunding related items in Title II and Title III. It was then the job of the SEC (Securities & Exchange Commission) to implement the new laws and regulations. But the SEC delayed JOBS Act implementation for over a year, as its leadership was in open opposition to what legislators and pro-business advocates had created and passed into law.
Then on April 10th of 2013, Mary Jo White was sworn in as the new Chair at the SEC. She quickly pushed the new regulations forward and put Title II to a vote in July, passing with a 4-1 vote in favor.
That brings us to today.
How Does Title II and General Solicitation Work?
Today, as these laws finally roll out, we now have clarity and a path for open and public fundraising for startups and small businesses.
Here is the SEC Fact Sheet for Title II, and a more detailed guide to How General Solicitation Works.
In short, companies who file Form D with the SEC can generally solicit to the public. Within 15 from soliciting they must disclose additional information about the solicitation.
Only accredited investors can actually invest in fundraising rounds where companies generally solicit, and companies are required to perform strict verifications that all investors are accredited, or face being banned from fundraising for 1 year.
To simplify the details down for you, here are the basics:
For Startups & Small Businesses
- You can now generally solicit and advertise publicly
- Only accredited investors can actually invest in generally solicited companies
- File Form D with the SEC before you begin soliciting, letting them know you will
- Disclose details about your general solicitation to the SEC within 15 days from first solicitation
- Strict verifications done by companies are required to confirm that each investor is accredited
- The penalty for not adequately meeting and following general solicitation requirements with the SEC is being banned from fundraising for a full year
- Only accredited investors can invest in companies who generally solicit
- Qualifying as accredited means having $1 million in net worth, or making over $200,000 a year for the past 3 years
- Investors will need to prove accredited investors status, which can be done through written confirmation by a CPA, attorney, investment advisor, or Broker-Dealer, or income-related IRS forms
Implications of Title II of the JOBS Act
The notable venture capitalist Marc Andreesen was quoted as saying that part of his investment thesis centers around the idea that “software will eat the world.”
The existing private and early stage investment markets are now being eaten by software and will rapidly transform from a world of private boardroom deals towards a more open, collaborative, and efficient online process, much of which will center around investment crowdfunding.
Given the potential scope of the crowdfunding market under Title II, it’s interesting to consider the following…
What will happen to the existing Reg D and placement market of roughly $1.2 trillion annually? How much of this will move online and towards online platforms?
And over 2 to 3 years, what portion of the roughly $30 billion annual venture capital market will move towards this online investment model?
And finally, how much new capital will flow in as Title III of the JOBS Act is implemented by the SEC (estimated early 2014), bringing non-accredited investors into the fray as a whole new set of investors and capital?
There are estimates on the size of these markets, but only time will tell.
One area I’m particularly passionate about is the potential for investment crowdfunding to rapidly develop and crowdfund local ecosystems. And not just in the US, but globally in countries like crowdfunding in Mexico where they have the potential to leapfrog from nascent early stage market to a more clustered and healthy investment ecosystem.
An interesting statistic is that according to a recent TechCrunch article, only 3% of the U.S.’s 8 million accredited investors are currently active in the tech startup space. That leaves a lot of room for growth.
With general solicitation now putting opportunities in front of untapped accredited investors and the ones who are already engaged, the angel and individual investor capital base is certain to grow.
For companies fundraising, the growth of these capital markets and the movement towards online systems and investment crowdfunding is going to bring much greater potential access to capital and opportunity. Most early stage entrepreneurs don’t have an existing network of wealthy potential investors, and fundraising is hard.
Now that the general solicitation ban is lifted, within a matter of days startups and small businesses can leverage the internet as a marketing tool for their fundraising, and use an online investment platforms where investors have already been engaging, like CircleUp or Crowdfunder, to reach potentially thousands of potential investors. Prior to this, reaching a targeted audience of 20 or more active investors often took 4 to 6 months.
Reason For Caution & Safety In The Market
While general solicitation is now a powerful new tool in the fundraisers arsenal, there are important restrictions and securities requirements to follow. Companies who don’t follow these guidelines will be banned from fundraising for a full year, which for many startups is a death sentence.
Online platforms will be helpful and an important place to bring necessary education, standardization and proper process to online solicitation and offerings that companies undertake.
Doug Ellenoff, significant JOBS Act participant, securities attorney, and partner at Ellenoff, Grossman & Schole said, “Today’s implementation of Title II of the JOBS Act is momentous for the US capital markets. Title II, however, is only available to certain entrepreneurs that qualify and aren’t deemed to be “bad actors” and to investors that have more substantial financial means and are verified to qualify as Accredited.”
Ellenoff also stated that, “I do caution both entrepreneurs and investors to be cautious about the amount of money any investor invests in venture financings to ensure that it is suitable for them in the context of their overall financial picture and so that a complete loss wouldn’t alter their lifestyle in any meaningful sense.”
Title III: Equity Crowdfunding with Non-Accredited Investors
According to current regulations, businesses may not raise money with non-accredited investors.
Title III will create rules and a path for non-accredited investors to begin investing in companies, but the SEC has yet to finalize any rulings. The timing of Title III is expected to include a proposal and a commenting period coming this Fall, and for finalized rulings and a vote in early 2014.
If you’re passionate about supporting entrepreneurship, or being an investor who helps early stage startups or social enterprises get funded and grow, getting involved is as simple as joining one of the leading platforms that are building these new investment ecosystems.
*This post is for educational purposes and does not represent legal advice. To reduce Title II compliance risks and potential penalties, it’s important to consult with your lawyer prior to initiating any general solicitation campaigns via Crowdfunder or any other online platform.