158 posts categorized "Crowdfunding"

Title III Do-Over

It is an absolutely glorious, summerlike morning in Seattle.

I'm walking to work, listening to a webcast of a hearing of the House Financial Services Committee, which is considering draft legislation to fix things not working with the JOBS Act (both the text of the original legislation, and the implementation of it).

6a01156e3d83cb970c01a3fcfe88cc970b-580wiIt's very gratifying to hear Representative Patrick McHenry openly admit that Title III was a failure from the get-go, and that the fault lies with Congress, not the SEC's prospective implementation. (Title II and the rulemaking surrounding new Form D filing requirements is a different story.)

Gratifying, but not surprising. Rep. McHenry made similar statements at the ACA Summit in Washington DC in March of this year.

State securities administrators are going to be heard on the non-accredited crowdfunding issue. Bill Beatty, the state securities administrator for Washington State, should be speaking at this hearing shortly.

With respect all sides, I think my Individual Crowdfunding Account concept may be part of a holistic, national solution.

When I get to a desktop, I will add links to relevant prior posts on that topic, just below.

Update; links on McHenry Do-Over / Individual Crowdfunding Accounts:

Non-accredited crowdfunding: a license to pillage the vulnerable, or democracy in action?

Monday, a friend sent me a link to a weekend New York Times editorial which strongly condemned the SEC's proposed rules under Title III of the JOBS Act.

However, unlike the criticism coming from those in the nascent non-accredited crowdfunding industry, the NYT editorial board faults the SEC's proposed rules, not for being unworkable, but for not being restrictive enough.

BjvXNWuIgAASow1I'll leave aside the Times' misconception that the faults lie in the agency's rulemaking rather than the legislation itself. In this regard, the editorial board makes the same mistake that non-accredited crowdfunding advocates, coming from the other direction, make. (Interestingly enough, at the ACA Summit last week in Washington DC, Rep. Patrick McHenry, the father of the original federal non-accredited crowdfunding bill, stated that Title III needed to be fixed legislatively, by Congress, not by rulemaking at the SEC.)

I'll also leave aside other aspects of the legislation and proposed rules which the NYT editorial board gets wrong.

Instead, I want to identify certain presumptions implicit in the NYT critique, for purposes of comparing and contrasting those presumptions with those underlying the critique of the very same proposed rules by non-accredited crowdfunding advocates:

Here are what I infer to be the NYT editorial board's presumptions:

  • People of modest means or on fixed incomes will be scammed out of money they can ill-afford to lose.
  • Even if a crowdfunded company turns out to be promising, later, more sophisticated investors will cheat the earliest investors out of fair returns.
  • Reliance on participant representations and self-policing is a recipe for fraud.

Non-accredited crowdfunding advocates approach the subject from a variety of different subcultures, you might say: some our tech start up oriented; others are community activists; others have a small business orientation. But these advocates share at least one or more of the following presumptions:

  • Startup and private company funding should be democratized in some meaningful way, and not remain the private preserve of the 1%.
  • Friends and family should not be shut out of legally investing in the business of a nephew, or a child, or an aunt, or a colleague.
  • More local dollars should circulate through local communities. Neighbors should be able to own a piece of the local restaurants, craft breweries, and other brick-and-mortar small businesses they support with their day-to-day commerce.
  • People are motivated to crowdfund for reasons other than Wall Street-like fixation on financial return.

So, which set of presumptions are correct?

Both sets are correct.

And herein lies the problem with non-accredited crowdfunding under Title III of the JOBS Act: it does not pick a consistent worldview, but instead hedges each feature of the exemption as though the fears of each camp are certain to be realized.

I happen to agree with the New York Times editorial board. For purposes of a federal law which preempts state law, crowdfunding should be limited to accredited investors. Accredited crowdfunding is supported by Title II of the JOBS Act, and the changes to Rule 506 that have been implemented by SEC regulation under Title II. There are transition headaches here, to be sure, but so far these accredited crowdfunding reforms are enabling (some would say, ratifying) significant changes in how angel deals are syndicated.

And I happen to agree with the aims of most of the non-accredited crowdfunding adovcates, though I believe Title III to be a lost cause, not worth fighting anyway because the proper place for non-accredited crowdfunding exemptions is at the state level, where rules can be scoped with local conditions in mind.

Photo: Rep. Patrick McHenry addressing the 2014 Angel Capital Association Summit last week.

Again, which kind of crowdfunding?

Over breakfast, I flipped the pages of a newsprint version of The New York Times and came across an article by Michael J. de la Merced, about a startup crowdfunding portal, called Junction Investments, that is focusing on Hollywood film financing.

Text at the bottom of the first column of the piece startled me into diverting more of my attention from my French toast to the paper:

"Perhaps [the] most notable change [brought by the JOBS Act] was that it blessed crowdfunding. Groups of so-called accredited investors – people who either make $200,000 a year or . . ."

Unexpectedly, I have been handed a coda to the discussion yesterday opening the 2014 Thompson Reuters Online Financial Symposium. At that event, we panelists had debated the right use of the "crowdfunding" term, with some of us eschewing it altogether as risqué; others of us applying it precisely to one subset of crowdsourced financing or another; and still others allowing the term to embrace almost everything, using adjectives to narrow its scope as necessary.

Here was a news article using the term "crowdfunding" to denote Title II crowdfunding limited to accredited investors. A sign, I thought, that an insurgent message (which I approve) is getting traction.

But what the first column inflated, the top of the second column deflated:

" . . . have a net worth of more than $1 million, excluding their home – can band together to buy up to $1 million of a company's equity."

Sigh. That confusion again, conflating JOBS Act Title II accredited crowdfunding with JOBS Act Title III non-accredited crowdfunding.

There is no $1 million limit under Title II, of course, anymore then there is any limit at all on what can be raised under a Rule 506 deal. The $1 million cap is a feature of Title III, still not implemented.


Again, which kind of crowdfunding?

What exactly is crowdfunding?

This morning I took part in a panel at the Thompson Reuters 2014 Online Financial Services Symposium.

Moderated by Suzanne Barlyn of Thomson Reuters, the topic was "disruptive alternatives," including crowdfunding and peer-to-peer lending.

Bjkz7mTIQAEPKAkThe audience is made up of financial services professionals who manage online trading and other retail financial services on a massive scale. As I blog this, a panel is getting into the nitty-gritty of trade execution. A later panel will talk about user interface design and new ways to engage both self-directed and managed investors (and how the categories are blurring).

So I hope that lends context. The panel I took part in was to discuss new classes of investing that might be around the bend for the mainstream online financial services industry.

6a01156e3d83cb970c01a3fcde8425970b-580wiSomething big that I learned in the course of the morning is that peer-to-peer lending is something not far off into the future, like Title III non-accredited crowdfunding, but a phenomenon already here and even embraced by policy makers at the Federal Reserve. Ron Suber (pictured) of Prosper, a San Francisco based marketplace matching consumer borrowers with lenders, captured everyone's imagination with his vision of disintermediating banks in the consumer credit space. He calls it an investable asset class, and emphasized the pains taken to qualify would-be borrowers (eighty percent of applicants are turned down, he said).

Closer to the world with which I am more familiar - equity financing provided by accredited investors to startups - Michael Raneri of Venovate, another San Francisco-based company, described a sweet spot for online activity that is post-seed stage (later than AngelList or FundersClub), but still very much emerging growth. His company is part broker, part part portal, part VC fund (or maybe fully all three). He does not appear to like the term "crowdfunding," however, for the connotations it brings of Title III.

BjlGgPNIUAAnRkwTim Baker, Global Head of Content Strategy at Thomson Reuters, reminded all that angel and venture financing is relatively small - only about $25 billion a year. He cited historical precedents which suggest to him that, if crowdfunding on the equity side is going to take off, it will take 5 years or so to catch on.

If Tim is right, I imagine that, in that span of time, people will get comfortable with the idea that some kind of clearinghouse will standardize accreditation. When that happens, the 506(b)/506(c) distinction - so very existentially critical in this moment of transition - won't be as big a deal. 

So debt crowdfunding at a retail level is here already. And accredited crowdfunding (Tito Singh of Thomson Reuters terms it "elite crowdfunding") is finding its footings and will likely impact angel investing as we know it. What about equity crowdfunding for everyone?

I know there are people in the nascent non-accredited crowdfunding industry, who see non-accredited crowdfunding of startups as a asset class. That is a mistake. In fact, part of why I like the state crowdfunding alternatives (alternatives to JOBS Act Title III) is that they seem to take more of the approach that people want to back small companies for reasons that are as compelling or more compelling than the prospect of financial return.

Picture credits: first two, Lauren Young of Thomson Reuters (from her tweet stream); third is picture I took from the dais of Suzanne Barlyn before she took the podium.

Further thoughts about the public disclosure requirements in the Washington State crowdfunding bill

As we mentioned last time, the Washington State crowdfunding bill (which seems to be making its way to the Governor for signing; looks like the House has signed off on the bill as amended by the Senate, so, both chambers have now approved the identical bill) has a requirement that companies relying on the exemption must make public disclosure of their executive and director compensation, and other financial information.

Here's what the bill says:

"For as long as securities issued under the exemption provided by this section are outstanding, the issuer shall provide a quarterly report to the issuer's shareholders and the director by making such report publicly accessible, free of charge, at the issuer's internet web site address within forty-five days of the end of each fiscal quarter. The report must contain the following information: (a) Executive officer and director compensation, including specifically the cash compensation earned by the executive officers and directors since the previous report and on an annual basis, and any bonuses or other compensation, including stock options or other rights to receive equity securities of the issuer or any affiliate of the issuer, received by them; and (b) A brief analysis by management of the issuer of the business operations and financial condition of the issuer."

My initial reaction was, this disclosure requirement would make the exemption less useful for tech startups. The information to be disclosed would become increasingly sensitive over time, and public disclosure would hurt the companies competitively. Or, alternatively, the disclosure requirement would push companies to issue securities that would evaporate overtime (say, a revenue loan, or a series of stock with call rights in the company's favor).

Now I'm having another thought: maybe if the money is being raised from unsophisticated investors, or from a group of investors, no one of which has a big enough steak to lead (and negotiate a board position, protective covenants, etc.), maybe the very public disclosure requirement serves as a kind of rough proxy for investor accountability.

What board is going to vote itself excessive compensation, even if it is a group of insiders, when all the figures have to be posted publicly every quarter?

Much more to digest, for sure.

Joe Wallin, Jonny Sandlund and I intend to have a Spreecast this Friday about the Washington bill. Shooting for 11:30 AM Pacific time.

Further thoughts about the public disclosure requirements in the Washington State crowdfunding bill

Looking under the hood at the Washington State crowdfunding bill

A Washington State crowdfunding exemption is not yet a law, but substantially identical versions of a crowdfunding bill have now been passed by both houses of the Washington State legislature. So it's a good time to have a look at what the Washington State legislators have come up with.

6a01156e3d83cb970c017d3c5361f7970c-800wiWe're looking here at the bill as amended on the floor of the Senate and passed by that chamber on March 7. (I should say, we're looking as best as I can tell at the bill in its most active form. If 'm reading the official bill history report correctly, the bill as amended by the Senate should now return to the House for consideration.)

One great thing about it is that no portal is required. Portals are optional.

Now, don't misunderstand me; crowdfunding portals are good things, in the area of accredited crowdfunding, particularly, I think. But one of the main ways the federal crowdfunding bill lost its way - forfeited most of the strengths of the original Rep. Patrick McHenry bill that passed the US House of Representatives with such huge bipartisan support and had the support of the White House - was when the Senate added a requirement that a portal must be used.

The Washington bill otherwise copies key parameters of the federal statute:

  • $1,000,000 annual limit, per issuer;
  • same (confusing) per-investor limits (whatever; just say the limit is $2,000 and call it good);
  • escrow of proceeds until a stated target is hit.

But no requirement for audited financials, no new theories of personal liability for directors and officers, no (oxymoronic) ban on advertising, or any of the other show-stoppers in Title III of the JOBS Act.

All in all, I think the bill makes the grade and, if passed and signed by the Governor in its current form - and if not later undermined by administrative rulemaking - it will meet the criteria I set out last summer in testimony before a Washington State legislative committee.

Of course, the Washington crowdfunding exemption is boxed-in; it stops at the borders with Canada, Idaho, Oregon and the Pacific Ocean. Like all the other state crowdfunding exemptions, on the books or in the works, the potential viability of the Washington bill depends on the federal intrastate offering exemption.

The most surprising thing to me is that advocates for the Washington State crowdfunding exemption - indeed, more to the point, the state legislators themselves - doubled down on the utility of the exemption in helping tech startups. Here's a quote from the bill's preamble:

"Helping new businesses access equity crowdfunding within certain boundaries will democratize venture capital and facilitate investment by Washington residents in Washington start-ups while protecting consumers and investors."

Emphasis added. This is more of a tech startup perspective than we've seen in connection with, say, the equity crowdfunding advocacy efforts in North Carolina or Wisconsin. It may speak in part to the widespread perception in Seattle that venture capital financing in the state is too hard to secure, the ranks of venture capital firms here too thin. (Personally, I believe there is plenty of seed financing available in the Seattle area, though agree that it is true that emerging companies typically have to go out of state for VC financing.)

I'm troubled, however, by the bill's requirement of potentially perpetual public disclosure of competitive business information. The following is from Section 3(3) of the bill:

"For as long as securities issued under the exemption provided by this section are outstanding, the issuer shall provide a quarterly report to the issuer's shareholders and the director by making such report publicly accessible, free of charge, at the issuer's internet web site address within forty-five days of the end of each fiscal quarter. The report must contain the following information: (a) Executive officer and director compensation, including specifically the cash compensation earned by the executive officers and directors since the previous report and on an annual basis, and any bonuses or other compensation, including stock options or other rights to receive equity securities of the issuer or any affiliate of the issuer, received by them; and (b) A brief analysis by management of the issuer of the business operations and financial condition of the issuer."

Emphasis added. That aspect of the bill, unless changed, will compel equity crowdfunders in Washington State to figure out how to sunset or buy-out their crowdfunding investors. You'll want to choose a revenue loan or other kind of security that can be bought out or redeemed. One of the benefits of being a private company is that you don't tell your competitors what you pay your management, don't tell them how much revenue you have, etc. It's a bit crazy to think you'll be putting such stuff on the open web every quarter. (Folks involved in the drafting of Section 6 of the bill: is there something there to narrow the scope of Section 3(3)?)

Photo: US National Archives / Flickr.

Crunch time for the Washington State crowdfunding bill

Got an urgent message this morning from my friend Joe Wallin, who is a leader in the effort to get a state crowdfunding exemption passed into law in Washington State. (As regular readers know, a few states already have legislative or regulatory crowdfunding exemptions, and other states are considering them).

WAflag

Here's Joes message:

#HB2023, the Washington Jobs Act, is on the Senate calendar, but it either gets put to a vote today, Friday, March 7th, or starts from scratch next year.

You can help. Today, please call the following four Senator’s offices, and ask them to please bring this bill to a vote today by 5 p.m. 

Joe Fain - (360) 786-7692

Andy Hill - (360) 786-7672

Steve Litzow - (360) 786-7641

Rodney Tom - (360) 786-7694

Friday is the last day when the Senate can vote on this bill. It passed unanimously out of the House committee, and again unanimously out of the Senate committee. It has bipartisan support.

We just need the bill brought to the Senate floor for a vote. Thank you.

Obviously this appeal is to those who live in Washington State, but I don't see why supporters of the state-by-state crowdfunding movement couldn't lob in calls as well, to impress upon the state legislators here that they could be part of a positive, national trend.

Related Posts with Thumbnails