On April 5, 2012, President Obama signed into law the Jumpstart Our Business Startups Act (or “JOBS Act”), which makes rather significant changes to the way that money can be raised for many business, but especially small businesses raising funds online.
Almost any transaction for the sale or transfer of an equity stake in a business is regulated by considerable State and Federal regulations overseen primarily by the Securities Exchange Commission and governed by the Securities Act of 1933. The legal costs involved in compliance are often a substantial bar to new and small businesses and limit their access to capital. At the same time, the strict adherence to legal compliance in raising money comes with significant protections for potential investors, who are granted access to detailed financial information, reports, and projections, before making a decision about investing.
With the rise of social media and Web 2.0, the greatest impediment to merging fundraising and the internet has been the prohibitions in the Securities Act of 1933 against “general solicitations.” As a basic rule, those parties seeking investments could only discuss their opportunities with individuals they had an existing relationship with, or who had been “pre-qualified” as an “accredited investor” based on their annual or net income. To prevent liability related to general circulations, the first “crowdfunding” sites that attempted to connect businesses in need of capital and individuals willing to give that capital were structured so that money was given as a “donation” or in exchange for a nominal “reward,” rather than as a true investment in a company associated with profit participation or equity. Despite this seemingly altruistic structure, crowdfunding quickly established itself as a legitimate way to raise large amounts of money. Crowdfunding sites like Kickstarter and Indiegogo generated so much buzz and attention that crowdfunding caught the eyes of enough members of Congress and the President’s advisors that bills were introduced to loosen restrictions on online investments.
While the JOBS Act represents a political compromise, it is very true to the original proposals aimed at bringing the power of crowdfunding to businesses that desperately need money to turn our economy around. Following revisions to current regulation to be made by the SEC within the next ninety days, “emerging growth companies,” those with total annual gross revenue of less than one billion dollars, will enjoy reduced restrictions on the circulation of their investment opportunities. In addition, there will be relaxed reporting and auditing requirements, which will likely reduce the costs involved in large-scale rounds of financing. It is precisely these reporting and auditing requirements, however, that has opponents of the JOBS Act concerned. If companies are only required to show 2 years of audited financial statements in order to register their offerings, there is less information for potential investors to base their decision.
Title III of the JOBS Act, the so-called “Capital Raising Online While Deterring Fraud and Unethical Non-Disclosure Act of 2012” or “CROWDFUND Act,” specifically addresses raising investment capital online. For issuers seeking less than one million dollars, the use of an approved online portal is available, which eliminates concerns over general solicitations. Potential investors can invest the greater of $2,000 or 5% of their annual income of net worth if either is under $100,000 and up to 10%, but not more than $100,000, if either is over $100,000. While the requirements for registration with the SEC are reduced, issuers must still present financial and business information in compliance with the Act upon which potential investors can base their investment decisions.
Finally, Title IV of the JOBS Act, the “Small Company Capital Formation” title, makes further concessions to issuers who are seeking an aggregate investment from investors of $50,000 or less. These micro-issuers will be nearly free to solicit their investment opportunities, which shall not be considered “restricted securities” within the meaning of the Federal securities laws, provided that audited financial statements are annually filed with the SEC and certain other terms and conditions are met, which are to be set by the SEC over the next year.