When the JOBS Act was passed back in April, the most talked about part of the new law were its crowdfunding provisions, which were meant to ease restrictions on small businesses so that they could raise more money, from more investors, more easily.
One way the law made it easier for money to come was to relax restrictions on solicitation, turning back decades of laws that prohibited venture capital firms, private equity funds and hedge funds from marketing their investments to a wide audience by advertising them.
On Wednesday, the Securities and Exchange Commission voted 4-1 to invite public comment on a proposal that would allow these companies to publicly market themselves.
The funds would still only be allowed to sell securities to accredited investors. An accredited investor is one whose net worth is $1 million or more, or one who make more than $200,000 a year.
In the past, companies were given an exemption on registering their offerings with the SEC in exchange for not advertising to the public. The SEC proposal specifically targets Rule 506 and Rule 144A.
In 2011, companies that took advantage of these two exemptions raised over $1 trillion, compared to $984 billion raised in registered offerings.
“In recent years, the need for the prohibition against general solicitation has been the subject of increasing debate, particularly in light of changes in communication technologies. New technologies have caused many to question the feasibility and continued desirability of communication restrictions in private offerings,” Mary Shapiro, Chairman of the SEC, said in her opening remarks on Wednesday.
Part of the reason that these restrictions existed was to combat fraud. The SEC proposal puts the burden onto the issuer to “take reasonable steps to verify that purchasers of the securities are accredited investors.”
Shapiro addressed some of the concerns.
“I believe that the proposed rules fulfill Congress’s clear directive that issuers be given the ability to communicate freely to attract the capital they need, while obligating them to take steps to ensure that this ability is not used to sell securities to those who are not qualified to participate in such offerings,” she said.
“Nonetheless, I recognize that there are very real concerns about the potential impact of lifting the ban on general solicitation.”
To verify that an investor is accredited, the SEC issued a "flexible standard."
In an interview with VatorNews, Ryan Caldbeck, CEO of CircleUp, an equity-based crowdfunding startup, praised the way the SEC handled this, calling it a "wise approach."
By not creating the same circumstance for every investor as to how to verify whether or not they are accredited and, instead, basing it on the facts and circumstances of each individual case, the SEC "wasn't overly prescriptive," Caldbeck said.
He also said that he was excited that they would be allowing issuers to rely on third-parties for verification, including broker-dealers.
"This helps bring credibility," Caldbeck said, as broker-dealers have higher standards for determining if an investor is accredited. This will help to protect both the investors and the companies.
While companies will be able to advertise that they are looking to raise money, and say how much, they will not be able to guarantee returns.
How will this proposal change the way investments are made?
If companies are allowed to advertise that they are raising money, they "can talk directly to consumers," Caldbeck says. He called the effect it would have on his business "profound."
Given that CircleUp clients are only established companies with over $1 million, they generally have a strong Facebook presence, with 10-15,000 likes, he said.
If the proposal passes, both CircleUp, and its clients, will be able to appeal directly to these fans for investments. CircleUp will also be able to put the investor information on its home page, without having to have people sign in.
Unlike many other similar services, it is free to invest in a company on CircleUp. There is no money taken from the investor, only a commission from the company if it is successful.
So if companies are allowed to solicit money, and since money can be invested at no fee, do companies risk an overabundance of smaller investors?
CircleUp takes care of this potential problem by allowing companies to set a limit on the number of investors. Since the average investor puts in more than the minimum $1,000 investment, companies do not have to worry about having hundreds of small time investors.
While it is registered with FINRA, CircleUp is partnered with an existing broker dealer, which allows it to receive a success based commission.
See the SEC's proposal below. The public will have 30 days to comment on the proposal before it is fully voted on in October. If passed, it will be enacted later this year.
(Image source: venturebeat.com)