As SEC Mulls Equity Crowdfunding, CA Entrepreneurs Test Other Options

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advertise its securities offerings to the general public—even spreading the word through social media networks like Facebook. But there’s a tradeoff for this privilege. Not only must the company sell the securities only to accredited investors, (no 35 non-accredited family members) it must also take extra steps to verify that the buyers are wealthy enough to qualify.

Santa Monica, CA-based FlashFunders operates under this rule, and it performs those investor verification chores for companies that raise money through its online platform from investors worldwide.

“We allow accredited investors to invest as little as $1,000,’’ FlashFunders CEO Vincent Bradley says.

Although these investment opportunities still aren’t open to people of modest means, the low threshold investment amounts take fundraising closer to the equity crowdfunding model: small investments from a large number of people who learn about startups through Web portals. The hitch is, when each investor contributes a small amount, you need more investors if you plan to raise significant amounts of early stage funding. And current SEC rules limit the size of the “crowd” here, Bradley says.

FlashFunders, like Propel(x) and DreamFunded, folds smaller amounts from wealthy investors into LLCs, which in turn invest in a single startup. But the SEC allows no more than 99 investors in each LLC, Bradley says.

“We need to get rid of that limit,” Bradley says.

That solution would broaden the possibilities for accredited investors. But Bradley is still looking forward to SEC rules that would fulfill the complete equity crowdfunding vision: startups raising money in small increments from thousands of people, including non-accredited, ordinary investors.

Those Main Street investors could also be folded into LLC funds—perhaps hundreds or even a thousand of them at a time if the SEC could be persuaded to raise the 99-investor limit, Bradley says.

A new opening to non-accredited investors: RegA+

Even before the JOBS Act, private companies already had one means to raise money from both non-accredited and accredited investors: an option called Regulation A. But Bradley says it was little used. It involves expenses and financial reporting obligations like those that result from going public—but without all its benefits. Under Regulation A, companies could raise a maximum of no more than $5 million. Also, the fundraising company would have to register its securities offering in every state for review. Issuers have complained of the additional expenses and potential delays. “That was the nail in the coffin,” Bradley says.

But the SEC this year created variations on Regulation A under Regulation A+, which allows companies to raise as much as $50 million in what’s often dubbed a “mini-IPO.” The new rules, which became effective in June, are divided into two options.

Tier 1 offerings can raise as much as $20 million—four times the amount permitted under the original Regulation A. Tier 1 offerings are still subject to review by each state where the securities are sold. But the financial reporting requirements are not as stringent as those governing the second option, Tier 2 of Regulation A+.

Under Tier 2, companies can raise up to $50 million, and they’re exempt from state review of the offering. But they must prepare audited financial statements under GAAP standards, and continue to issue periodic financial reports once the securities are sold.

San Francisco-based investment bank WR Hambrecht has announced that it’s preparing to help companies raise capital under Regulation A+. Santa Monica-based fundraising portal StartEngine has five companies teeing up Tier 2 offerings, says CEO Ron Miller.

Companies can advertise their fundraising campaigns under Regulation A+. They can also “test the waters” before … Next Page »

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Bernadette Tansey is Xconomy's San Francisco Editor. You can reach her at btansey@xconomy.com. Follow @Tansey_Xconomy

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