This post is intended for those who have been following the topic of equity crowdfunding for some time. Refer to our post above for a broader treatment of the subject if you are catching up on the issue for perhaps the first time.
The momentum has shifted back in favor of equity crowdfunding! As of late yesterday we have a Senate bill with bipartisan sponsorship, a balance of state oversight and federal uniformity, industry standard investor protections, and workable funding caps. Senate Democrats and Republicans took strong action and hammered out a heavily revised version of Senator Merkley’s bill (S.2190), called in short the CrowdFund Act, that incorporates much of the easy to understand funding caps and intent of Senator Brown’s bill (S.1791). General intent from the House bill (H.R. 2930) is upheld, but the CrowdFund Act is a departure from the simplicity and higher limits of the original bill championed by Representative McHenry and others.
The CrowdFund Act should have a legitimate chance at quieting those who were trumping up fears of fraud/bad actors as well as the various state oversight concerns. At Launcht these concerns resonated quite clearly with us because we will be responsible for establishing a respectable crowdfunding marketplace where investors can feel safe. If equity crowdfunding were to get a reputation as ill-conceived or prone to fraud, we would have wasted a great opportunity to secure a real shift in the ability of ordinary folks to invest in viable businesses.
The Crowd Fund Act does put in place plenty of regulations on our new industry. Having read the the full bill language and yesterday spoken personally at length with one of the legislative counselors key to drafting the bill, we are confident that the regulation is in place for the right reason. That is to say that the added regulation is clearly there to silence earlier opposition, help get the bill passed, and to ensure investor confidence in this emerging market.
If you don’t feel like reading the bill line by line, a summary in plain language of most of the key regulations are as follows:
- Investors who make less than $100k per year can invest up to 5% of annual income or $2,000, whichever is more, in any single company.
- Investors who make more than $100k per year can invest up to 10% of annual income.
- Funders are capped at $100k total in crowdfunding investments annually
- Companies are capped at $1,000,000 in crowdfunded investment raised annually
- All crowdfunding must be conducted through a crowdfunding intermediary, *read “Launcht” and perhaps others.
- The intermediary can register with the SEC as either a Broker or a Funding Portal. Funding Portals are not Brokers and are not required to register as Brokers.
- Regulation on Funding Portals is lighter because, unlike Brokers, they agree not to solicit purchases, offer investment advice, or themselves handle investor funds.
- The intermediary must register with an applicable self-regulatory organization, read FINRA.
- Intermediaries must ensure that investors fully understand the nature of their investment and associated risks.
- Intermediaries must take reasonable measures to prevent fraud, including a background check and securities enforcement regulatory history check on all principals in the business.
- All investment offerings on the platform must be registered in advance with the SEC through a filing of basic information about the corporation and its principals. Fundraising up to $100k requires very minimal financial statement filings and allows for pre-revenue businesses to still raise up to $100k. Fundraising from $100k to $500k requires review of financials by a public accountant. Fundraising from $500k to $1M requires audited financials.
- Companies must hit or exceed their fundraising goal in order to receive any funds. *The “All or None” funding model from H.R.2930 won here.
- The company issuing the stock and its principals as well as the intermediary are liable for any false statements or omissions in the offering.
- The intermediary, most likely, must share information of the offering with every state, territory, and the District of Columbia.
- The investor cannot resell the stock for a year, except back to the issuing company, an accredited investor, through a subsequent registered IPO, or to their family. *This is consistent with non-public offering re-sale restrictions.
- Crowdfunding investors are excluded from shareholder caps (currently at 500, though likely to be increased soon) for purposes allowing a private company to stay privately held. *Companies will be able to raise crowdfunding from as many people as they want.
- States have the authority to prosecute cases of alleged fraud relating to their own state laws, so long as those laws are not more stringent than those established nationally by the SEC.
- The state where the company principally does business is allowed to collect a fee and basic filing from the company offering the investment.
- If any one state has investors who purchase 50% or more of the total stock offering, they are allowed to collect a fee and filing from the company offering the investment.
- The SEC must report annually at first and then every two years to Congress on the progress of crowdfunding generally and some specific metrics.
- Any State securities regulator may file complaints with the SEC to report incidents or trends that might undermine investor protections. The SEC must review and respond to the State within 120 days.
- The SEC has broad powers to interpret this legislation during a rule making period of 270 days from the passage of the bill into law. Almost every provision in the bill is up for further interpretation and rule making by the SEC. *This is a concern, but the SEC does not want to be cast as the obstructionist in this game, so we at Launcht are cautiously optimistic that they will uphold the intent of the bill.
But that’s not all folks, if you act now you can also change the world! No joke, that is a lot to digest and the full bill is 28 pages long. Here are our immediate reactions at Launcht:
- As we expected, even with swift passage of this bill or a similar one, we’re looking at a year at least before we can offer this type of investment. That is plenty of time for us to leverage our success in the contribution crowdfunding market and position ourselves as the leader in providing customized fully compliant technology solutions to enable crowdfunding.
- The SEC could still scuttle crowdfunding. Even with swift passage and a clear majority from Congress, advocacy for crowdfunding will still be necessary during the SEC rulemaking period.
- While we were at first glance in favor of the $1M fundraising cap, in reality that cap is too low. Just yesterday, a contribution crowdfunding project for a new computer game eclipsed all previous records for crowdfunding and topped out at over $3.3M raised (M stands for ‘Million’ here folks) from 87,142 people on the artistic project crowdfunding platform Kickstarter. If that project can raise over $3.3M in contributions for a single computer game project, we think $1M for an entire company is already proven to be too small an amount. We propose fundraising caps at more like $3M.
- The investor caps per investment and per year are somewhat cautious yet quite workable as they scale well based on income.
- There is a lot more regulation on our new industry than in earlier drafts of crowdfunding legislation, and the associated costs will be distributed throughout the market, but on the whole we think they are worth it.
We look forward to your comments and to your active engagement with the Senate as they move this bill through to law. Stay tuned for much more from us as this chapter of the crowdfunding story unfolds.