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Opening the Door to a “Crowd”? A new SEC exemption could eventually allow startup businesses access to a new group of potential investors

Many individuals and startup businesses face a similar problem: they have an idea and need capital to further explore that idea, but their bank accounts, credit cards, and close friends and family are not sufficient or unwilling to fund the idea’s initial development. Now, there is the possibility of becoming eligible for an SBA loan, but those have become increasingly difficult to obtain. If only they could tap those 1,000 Facebook friends or other social networks … Capital for these companies could be more easily accessible if they had access to a larger number of potential investors, but current Securities and Exchange Commission (SEC) regulations usually restrict the general solicitation that such offerings require. However, a recent letter by the SEC Commissioner, Mary Schapiro, suggests that the SEC is considering a new exemption from the SEC regulations which could allow businesses access to a new “crowd” of investors. This new “crowd” would be those investors accessible using “crowd funding.”

Crowd funding is the idea of using social networks and small contributions from a number of different individuals to raise money. The crowd funding model has proved successful in political campaigns, and certain sites (e.g., kickstarter.com, indiegogo.com) currently use the concept to fund businesses and activities. The businesses who solicit using these sites are limited, though, because they cannot provide a financial return (per SEC regulations) to their “investors”; instead, they provide other rewards (e.g., t-shirts, CDs, recognition). Creating an exemption from SEC regulations that permits investors to receive an equity interest could allow entrepreneurs to leverage the crowd funding model and access the necessary capital to fully vet their idea.  As mentioned above, the SEC is considering an exemption but has not discussed any details. However, one proposal that the SEC is reviewing is by the Sustainable Economies Law Center (SELC). The SELC proposed that an exemption contain the following limitations, which it believes to be in-line with the SEC’s primary goal of protecting investors:

  • $100 per investor;
  • $100,000 per offeror;
  • Offerors must be individuals (U.S. Citizens or legal residents) and not entities;
  • An offeror may only have one offering open at a time; and
  • All offering materials and communications contain a disclaimer clearly stating the risk of total loss of the investment and the necessity of careful evaluation.

Many more hurdles need to be cleared before such an exemption could be adopted and implemented (including a look at how the exemption would affect State-level securities regulations), but many are optimistic that crowd funding could eventually serve as a valuable source for entrepreneurs with great ideas to access capital. This is becoming a fast moving area of the law.  Check back on our website frequently for updates to this and other topics of interest, or contact the Corporate and Transactional attorneys at Bingham Greenebaum Doll LLP.

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