Here at Launcht, our main goal is to help our clients be successful. Further, for our equity crowdfunding clients our focus is on providing frameworks for operating under the regulations put in place by the SEC. On September 23, 2013, the Securities and Exchange Commission (SEC) will adopt their proposed rules for Title 2 of the JOBS Act, creating the new 506(c) option. The following are our tips for adjusting to this change and creating a successful investment crowdfunding platform.
Pick a Model
In order to implement an accredited investor crowdfunding platform, it is important decide how you will be compensated and earn revenue through your platform operations. The following are some examples of revenue models to consider:
1. Success Fee Model: In this transaction-based revenue model, a broker-dealer would receive compensation at the time of the closing of a successful raise. This model is heavily regulated, as only licensed broker/dealers are allowed to collect fees on the sale of the security. The process of becoming a broker/dealer is laborious and those considering this revenue model should strongly consider FINRA’s requirements for broker/dealer formation and the 6-12 month timeline that comes with formation.
2. Carried Interest Model: In the carried interest model the platform operators structure the deal so that they have a long term interest in the company and compensation will only be obtained after a liquidity event that allows the early accredited investors to take their exit. From a philosophical standpoint, this model aligns incentives so that the platform operators are invested in the long-term success of the startup, not just the initial sale of the security. Two examples of crowdfunding platforms that operate under this model within existing 506(b) regulations are Funder’s Club and AngelList, both having received no action letters from the SEC specifying the exact dimensions within which they can operate.
3. Service Fee Model: In the service fee model the platform operators charge a flat service fee to a broker/dealer or other licensed financial player for the use of the platform. A flat fee is used in this model in order to separate the success fees received by the broker/dealer or other licensed financial player from the cost of the service of operating the platform.
4. Listing Fee Model: In this model, the company raising the money will pay a fee to the platform operator in order to raise any money on the crowdfunding platform. The fee cannot be tied to the amount of money eventually raised and is a fee for the company’s use of the service.
Each of these revenue models present their own set of regulatory challenges that must be addressed, some more easily than others. In all cases, early movers in this industry owe it to themselves and the industry as a whole to be fastidious with their compliance measures.
Compliance under both Rules 506(b) and 506(c) presents a challenge and certain barriers to entry. One important thing to note is that the upcoming Rule 506(c) does not replace Rule 506(b) but instead creates a different way for companies to conduct their raises. In order to ensure that your platform model is in compliance, your business should have great legal counsel. This is absolutely vital.
In your conversations with your lawyers, make sure you at least address:
- Your revenue model
- Form D filing deadlines
- Accredited investor verification measures
- Submitting issuer advertising materials to the SEC
- Filings following the closing of the round
- Parameters for operation in partnership with a broker/dealer, if appropriate.
Stay tuned for Part 2 of this series which will look at other important steps necessary to implement a successful Regulation D crowdfunding platform. To learn more about equity crowdfunding and how Launcht can help, please click here.