How legislation is changing the crowdfunding landscape

The JOBS Act has been well received by small businesses, and for good reason; however, the long awaited Title III has thus far come up spectacularly short

Kickstarter CEO Perry Chen: the five-year-old crowdfunding website has made over $1bn in overall donations as of March this year. There are still legislative inconsistencies that have to be solved to drive future investment
Kickstarter CEO Perry Chen: the five-year-old crowdfunding website has made over $1bn in overall donations as of March this year. There are still legislative inconsistencies that have to be solved to drive future investment 

As of March this year, overall donations to the five-year-old crowdfunding platform Kickstarter surpassed the $1bn mark, with in excess of half that amount made payable in the 12 months previous. What’s more, $663.3m of the $1bn stemmed from US shores, which serves only to accentuate a new class of internet investor whose wish it is to see inspired start-ups and innovative ideas pushed to the fore.

While the crowdfunding phenomenon has exhibited consistent and impressive gains recently, the regime is plagued by regulatory inconsistencies and security concerns, making it near impossible for authorities to come to terms with it. Nonetheless, if America’s small businesses are to expand upon their investment horizons and attract capital from alternative channels, the powers that be must work towards ridding the investment landscape of its longstanding exclusivity.

At present, laws allow unaccredited investors only to contribute capital to a particular product or service on websites such as Kickstarter, which in itself carries little to nothing in the way of ownership and amounts rather to the lesser status of donor as opposed investor. However, the next phase of the Jumpstart Our Business Startups (JOBS) Act looks like it could change the crowdfunding market, as it gears up to enter the complex domain of securities.

The SEC’s crowdfunding proposal, otherwise cited as the ‘CROWDFUND Act’ and commonly referred to as Title III, in theory could bring comprehensive new powers to unaccredited investors and broaden the funding opportunities for small enterprises and start-ups in one fell swoop. However, many remain unconvinced of the SEC’s capacity to bring fundamental regime changes to fruition, with the approval of the long delayed Title III reforms looking an increasingly unlikely prospect as times wears on.


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According to figures compiled by Docstoc, the US plays host to some 28 million small businesses, and upwards of 50 percent of the national population is on the payroll of companies with fewer than 500 employees. What’s more, small businesses are responsible for over 65 percent of the country’s net new job growth since 1995, so the importance of smaller parties in spurring national economic growth should not be underestimated by any means.

“Cost-effective access to capital for companies of all sizes plays a critical role in our national economy, and companies seeking access to capital should not be hindered by unnecessary or overly burdensome regulations,” writes the SEC. Knowing this to be the case, JOBS Act represents an attempt on the part of US authorities to lighten the load on the country’s millions of start-ups and small businesses seeking investment, and signals an effort to empower an emerging class of unaccredited internet investor.

Signed into law on April 5, 2012, the JOBS Act is a formidable legislative package designed to boost the ease by which small business owners and start-ups can secure capital, and in effect take their company public. “For startups and small businesses, this bill is a potential game changer,” remarked President Obama moments after the bill was signed. “Laws that are nearly eight decades old make it impossible for others to invest.

“But a lot has changed in 80 years, and it’s time our laws did as well. Because of this bill, start-ups and small business will now have access to a big, new pool of potential investors – namely, the American people. For the first time, ordinary Americans will be able to go online and invest in entrepreneurs that they believe in.”

Understandably, since the act first came into being, sites such as Kickstarter, Fundable and Indiegogo to name a few have all gathered extraordinary momentum, and crowdfunding has emerged as a viable business option for young companies seeking the means to scale up their operations. However, the central fact remains that the process is still little understood by regulatory authorities, and the issues obstructing the legislation from passing in full are incredibly difficult to negotiate.

The advent of Title II
Despite on-going deliberation with regards to the CROWDFUND Act, Title II of the JOBS Act was implemented in September 23, 2013 and should be seen as a no less crucial step forward for small enterprises and start-ups seeking additional capital.

Essentially, the introduction of Title II does away with the 80-year-old ban on mass marketing private securities offerings.

Whereas previously companies could not put their address books to good use when appealing for additional capital, the new regulations, or lack thereof, have opened up various new channels for taking a small company public, regardless of their having ties to the SEC or not. In order to qualify as an investor, the interested party need only be certified as an institutional buyer or accredited investor, which, crudely put, amounts to an annual income of $200,000 or net worth of $1m.

Prior to the Title’s incorporation, engaging in general solicitation was illegal for small private companies, and the process was reserved only for larger companies whose stock was listed on the public exchange. Fast-forward to today, however, and small companies are utilising social media, email and all manner of public forums to secure highly sought after capital inflows. In essence, the changes to the 80-year-old laws amount to a long overdue response to the vastly improved-upon means of communicating with the wider public.

While Title II acknowledges the lengths by which the investment landscape has changed these past few years – most notably since the advent of the digital age – the overhaul does, however, stop short of inviting unaccredited investors into the mix, which is where Title III comes into play.

The emergence of Title III
Title III is without doubt the most eagerly anticipated development contained in the JOBS Act, although it also amounts to the most overdrawn, with the comment period and rule-making phase having only recently been extended yet again, this time to the third quarter of this year. What’s more, many expect the reforms to falter further still in the coming months, owing to increased scrutiny stemming from affected parties.

[T]he SEC’s proposed rule changes appear to be utterly unworkable
in places

The biggest change with regards to Title III is that of investor accreditation. Whereas investing in private companies has for long been the preserve of the wealthy, the revolutionary Title III reforms invite far lesser earners to the fray and attempt to do away with the upper limit restrictions.

Although individuals have for some time been able to commit capital to various projects posted on crowdsourcing platforms, it is only with the introduction of Title III that donors’ capital can finally be exchanged for equity. In effect, given that Title III is signed into being, crowdfunding sites will be populated not by mere donors, but actual investors. However, this change is not without its own set of complications.

Whereas the opportunity for everyday citizens to invest their money in whatever company they see fit looks an appealing one at first glance, very few businesses want their stock to be spread thin across the globe by hundreds of internet investors. Moreover, whenever – or if ever – Title III is unleashed, the market will no doubt play host to wave upon wave of new capital and a greater exposure to fraud than ever before for both businesses and investors alike.

The principal challenges here are twofold: the first being that companies asking for capital are able to legitimately uphold investors’ best interests; and second, that the contributors can afford to pay the sums they claim they can. While the problems here sound simple enough in theory, constructing a framework whereby the issuer and investor’s best interests are kept at arms length is incredibly complicated – some would say impossible.

The overriding issue hampering the implementation of Title III is that there exists a fundamental conflict of interests between the issuer and investor. Whereas investors want access to as complete a set of financial information as possible before they commit to their investment, small companies and start-ups are utterly unwilling to expose the innermost workings of their businesses to the masses.

As such, the SEC’s proposed rule changes appear to be utterly unworkable in places. Add into the mix the as-yet-inconclusive proof that the proposed changes will make good business sense and that the market for unaccredited investors is in fact a viable one and the reforms proposed changes look incredibly unlikely to come into play.

Granted, the Title III proposals amount to a long overdue shake up of the investment market; however, for as long as either party is unwilling to make concessions on the way to its realisation, the stalemate between issuer and investor will remain in place.