56 posts categorized "Seed Financings"

The general solicitation quandary: can you shoehorn today's pitch events into yesterday's rules?

Lots and lots of questions about the new and final general solicitation rule, as well as proposed rules that would add additional conditions - beyond the accredited investor verification required by Congress - for exempt offerings that make use of general solicitation.

As we sort through the questions and ambiguities, however, one point couldn't be clearer: the old rule used for most startup and emerging company financings, old Rule 506 (hereinafter to be known as 506)b)), was expressly preserved.

9417926220_c54429ce2f_zTrue, if the proposed Reg D rules are finalized as proposed, new Form D filing requirements will impact Rule 506(b), as well as the new, final, general solicitation-friendly rule 506(c).

But 506(b) has no heightened verification requirement, and no pre-filing or information requirements have been proposed for 506(b) deals. It may well be that Form D filing obligations will soon have more teeth, regardless of whether you choose 506(b) or 506(c), but it's fair to say that the new Reg D rule set goes out of its way to preserve the old way of doing things, as long as you do not generally solicit or generally advertise, and as long as you otherwise comply with the conditions that have always been in place for Rule 506.

It didn't have to be thus and the SEC deserves credit and praise for thinking this through.

As drafted, Title II of the JOBS Act did not actually require that the old 506 be preserved. The notion had been in the air. A version of the JOBS Act that had been introduced in the Senate in March 2012, not the version that made it into law, expressly contemplated that the SEC might bifurcate 506 in the way that the agency ended up doing. And I and others advocated for such an approach in the run up to the SEC's August 2012 proposed rules to implement the lifting of the ban on general solicitation. But there was no Congressional imperative that the agency do so.

And because the Reg D rule set expressly preserves "the old way" of startup and emerging company financing - no general solicitiaton or general advertising - there is actually pretty darn good intuitive appeal to the apparently commonsense reaction, "just stay away from general solicitation."

I'll bet many companies will decide to stay inside the cozy, clubby confines of 506(b). But here's the problem with taking too much comfort from such a reassurance: industry practice today has been bending the old rule - prohibiting general solicitaiton and general advertising - to the point of breaking.

Joe Wallin puts it this way on his blog:

"What about startup weekends? What about business plan competitions? What about incubator demo or graduation days? Will the teams that compete in these events be deemed to have generally solicited an offering? Some of these events, if conducted as they’ve been run in the past, will clearly constitute general solicitation."

If you're going to content yourself (limit yourself? liberate yourself?) with the old way, if you're going to stay within the confines of 506(b), here's the longstanding verbiage from the Reg D rule set you need to get comfortable with:

". . . . neither the issuer nor any person acting on its behalf shall offer or sell the securities by any form of general solicitation or general advertising, including, but not limited to, the following: (1) Any advertisement, article, notice or other communication published in any newspaper, magazine, or similar media or broadcast over television or radio; and (2) Any seminar or meeting whose attendees have been invited by any general solicitation or general advertising . . . ."

Ask yourself: come September 23, will some offerings that formerly looked like 506(b) now look like 506(c)?

Photo: Entrepreneurs Club Berlin / Flickr.

Congress not yet fully awake to the problems with the SEC's proposed overhaul of Reg D

A letter to the SEC from two Republican congresspersons is getting a lot of attention.

The subject is SEC proposed Reg D rules at odds with Congressional intent under the JOBS Act. This is a point I and others previously made in the press so it is good to see some members of Congress waking up. (From TechCrunch: Let’s Have General Solicitation As Congress Intended It.)

8355141_067c162acc_oBut it's disappointing, frankly, that the letter is so strident and partisan. Yet again we have to hear over and over how late the SEC was in adopting 506(c). (Get over it already Rep. McHenry and look forward!)

And it's difficult to credibly speak for Congressional intent when you get core features of your own legislation wrong. Example: the letter speaks of the lifting of the ban on general solicitation "for those Rule 506 offerings that solely target accredited investors." That is exactly the opposite of the policy choice actually made in the legislation. The greatest significance of the lifting of the ban on general solicitation is that you need not target. You can broadcast if you like. The point is to only allow as purchasers those persons for whom you have taken reasonable steps to verify accredited status.

Really, the SEC's proposed re-trading of Title II of the JOBS Act should not be a partisan issue. I would think that moderate Democrats and the White House would be equally interested in seeing 506(c) work and in 506(b) being protected. After all, the JOBS Act was actively supported by the Obama administration, and championed by the President himself.

And I imagine the SEC could probably use the political cover as state regulators will never be at peace with the democratization of angel investing. I am speculating here, but the agency could be more worried about hedge fund advertising then what a little incubated three-person startup raising $200,000 might do. The right policy choice might be to say yes to information requirements for hedge funds, no for operating issuers.

The consensus, non-partisan agenda should include, not just general solicitation, but also the angel platform exemption that Rep. McHenry originally introduced as a floor amendment, with express support from then Rep. Barney Frank. Congressional intent for that provision could not have been clearer. And yet an SEC staff FAQ threatens to compromise its utility.

My call to New Democrats, White House policy staffers, independents worried about depriving startups of a useful federal exemption: get together and own, by consensus, what the JOBS Act was supposed to do for angel investing.

Photo: Diane Hamilton / Flickr.

Feeling helpless about the new proposed rules for startup financing?

This morning, the leader of a Seattle group active in the seed financing / startup contest space emailed me to ask that I outline three to five things people in the startup ecosystem can do, to impact the rulemaking the SEC has started to change Reg D. (If the changes are made final in the form proposed, they would completely overhaul Reg D and probably at least quadruple legal compliance costs for seed financings.)

Below is an adaptation of the email reply I sent him a few minutes ago.

* * *

Here are the top four things people can do:

1. Get a basic grounding in the topic.

I can think of three or four independent ways to go about this:

(a) For some people, just taking the hour or two required to read through the actual text of the SEC release with the proposed rules, that might be the best. Let me see if I can identify which particular section of the release might be the most pertinent.

(b) Every few days on his blog, Joe Wallin writes about this topic. Joe's posts are both passionate and absolutely authoritative as to what the proposed rules say. http://www.startuplawblog.com/

(c) People can read my posts on the topic under the category tag "general solicitation." http://www.wac6.com/wac6/general-solicitation/

(d) People can refer to and follow the links found on http://saveregd.org

2. After getting some familiarity with the topic, people can and should leave comments on the official SEC comment webpage. THIS IS THE MOST IMPORTANT STEP. The SEC staff read the comments. Usually, entrepreneurs and individual angels do not leave comments. Comments are usually left by banks, big financial institutions, institutional investors, etc. You get the picture.

3. Spread the word.

4. Tell your representatives in Congress you are concerned that the agency is undermining the very goal of the JOBS Act, which was, as the acronym suggests, to jumpstart America's business startups.

Feeling helpless about the new proposed rules for startup financing?

Liveblogging SEC Webcast - Tweeting for Investors (of the "Verified Accredited" Variety)

William Carleton and Joe Wallin live blog the SEC Open Meeting webcast on Wednesday, July 10.

Update 12:22 Pacific: here are links to the various rules, now posted:

This meeting is about:

  • lifting the ban on general solicitation in Rule 506 offerings limited to accredited investors (angels);
  • "verification" of accredited investor status;
  • changes to Form D (the filing that is made in connection with most startup offerings); and
  • "bad actor" rules for startup investing.

Recent posts on this blog, anticipating today's meeting:

Series Seed, everywhere

Yesterday I was critical of a template inventions assignment agreement, and suggested that state-by-state differences make standardizing employment documents difficult to pull off.

I want to circle back to Ted Wang's Series Seed Equity financing documents today, by way of being positive of the prospects for document standardization in other key areas.

AngelList docs graphicThe Series Seed templates are good and they're gaining traction. The AngelList Docs service offers them in a modified version, and it looks like a new, 3.0 "official" version of Series Seed takes advantage of and adopts those AngelList mods.

What's more, the Series Seed document repository has moved to GitHub. I'll bet this move will facilitate not only better dissemination, but communal iteration of the templates, too.

Docracy has posted the Series Seed 3.0 documents as well.

I use and recommend the Series Seed documents for seed financings where the parties agree to price the deal. And I'm noticing and hearing of other law firms that are using the vehicle.

Series Seed GitHub pageWhat makes standardization viable in this area, compared to documents dealing with employer/employee rights and relationships?

For one thing, on core, corporate organizational issues, on relationships among companies, boards and shareholders, lawyers across the country can standardize against Delaware law.

Though you never bypass state anti-fraud authority, it also helps that virtually all seed financings are structured to meet the standard, federal 506 securities registration exemption.

In short, the law you are standardizing around is the same as to most (all?) of the key issues to address in an angel seed financing.

Docracy Series Seed pageDo legal costs for a seed financing plummet - can a lawyer meet Fred Wilson's $5,000 seed financing legal challenge - using the Series Seed templates?

Yes and no.

AngelList says the Wilson Sonsini firm will that's isn't a company using the Series Seed documents in a seed financing, for free. But you have to be a client of that firm, and there is probably some fine print.

My fine print is that first time entrepreneurs can easily overlook the distinction between work to organize the company, and the financing transaction - they often blend the two efforts into the same project ("legal stuff").

In other words, if you are doing foundational things - like getting inventions assignments in place for founders! - at the same time, you won't get the seed financing done for under $5,000 in legal fees (unless you're working with one of those firms that provides start up services for free).

More Seattle self-reflection

From time to time, John Cook will post what amounts to a "state of the health of startup seed financing in Seattle" address.

I think he started doing this back at the Seattle P-I, then with TechFlash; certainly, the tradition is already now well established on GeekWire.

Space needle reflection

John's latest "address," Why this entrepreneur is moving to Vegas, and what it means for the Seattle scene, ran yesterday on GeekWire, and I thought it was the most heartfelt of John's calls for Seattle to step it up a notch:

"One of the rubs on Seattle is that the pool of angel investors is not that deep — a perplexing issue given the huge pockets of wealth created in the city in the past 25 years....

"But there’s no brand name angel investor with the drawing power of [Las Vegas-based Tony] Hsieh or the connections of Ron Conway or the rabble rousing of Dave McClure. Seattle needs some of that flowing into the startup community at heavier doses than is currently being administered, if it wants to establish itself as a go-to startup city."

What makes this post especially interesting is the response it drew from Bill Bryant, a mainstay of the Seattle startup investment scene (and someone whom others might put on a list of Seattle brand name angels that John suggests is blank).

"I do agree with John that we could use another 100 angel investors," Bryant commented, "but seriously, let's stop ripping on how bad Seattle is as a startup hub. Its wearisome." Bill draws no inference from the fact that an entrepreneur has left Seattle for Las Vegas, other than that entrepreneur's startup is probably not worth backing.

My own perspective is likely somewhere between John's and Bill's. I think there are many angels in Seattle who don't draw attention to themselves as such; and I think much of the wealth created by the larger tech ecosystem does get channeled into startup activity, of the self-funded variety.

But there's no question first time entrepreneurs without deep connections to (i.e., employment history in) some of the established tech giants find it much more difficult to find seed money in Seattle.

In the comment thread, John says he thinks "real impact could be made with $50M to $100M," presumably meaning a seed financing fund or just some kind of program or pool focused on pre-revenue seeding of startups.

Photo: four12 / Flickr.

Which Series Seed terms are disadvantageous to investors? Should an investor try to modify these terms?

The following is the answer I gave on Quora this past weekend, to two questions put to me by Samuel Chenard. His questions are: "Which Series Seed terms are disadvantageous to investors? Should an investor try to modify these terms?"

There are no Series Seed terms that are disadvantageous to investors (plural). For a round of seed financing, the Series Seed terms are investor friendly, and they spare the company and the investors the cost and effort of negotiating customized terms.

Magnolia seedsNow, your second question, "should an investor," singular, "try to modify these terms," brings a different perspective to the subject.

If you're an individual investor, participating in the Series Seed round with other investors, then you do have an personal stake in where the definition of "Major Investor" is set. Let's say you mean to invest $25,000 in the round, but the term sheet says you need to invest $50,000 to be a "Major Investor." You would do well try to modify that term, to lower the threshold to the amount you mean to invest. The reason is that "Major Investors," under the Series Seed documents, are entitled to participation rights in subsequent financings, as well as information rights.

Another term that is arguably disadvantageous to an individual investor, singular, who does not control the Series Seed as a class, is a drag along covenant that is in the Series Seed documents. This covenant requires the individual investor to vote in favor of a sale, if a majority of the common, the Series Seed, and the company's board approve the sale. This covenant makes it harder for a minority shareholder to block a sale she does not want. On the other hand, I would argue that the drag along covenant is probably, in most cases, protective of all investors, insofar as it helps ensure that a transaction can occur, if in fact a majority of the Series Seed round is in favor of it.

Photo: "Sweet Bay Seed" by Phlora / Flickr.

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