Starting today, private businesses, startups and investment funds will be able to publicly raise funds from accredited investors, who must satisfy net worth and annual income requirements. Previously, it was a violation of securities law to publicly raise funds without registering the securities and complying with SEC regulations, so much fundraising was limited to pre-existing relationships and private networks.
The new ability, however, comes with the possibility of complicated filing requirements that could trip up startups, some legal experts warn.
Lifting the 80-year-old general solicitation ban was approved in July following the JOBS Act, which was passed by Congress in April 2012 and designed to make capital raising easier for small businesses. The idea is that under the resulting new regulations, the investor pool expands for companies and investors now allowed to openly raise funds by advertising in newspapers and social media.
“You can see there’s a great opportunity,” said Lincoln attorney Kevin McManaman, “but the burden now is on the issuer to take reasonable steps to verify accredited investors.”
Because everyone will see public advertising, people who aren’t accredited investors could string along a startup or investment fund until their wealth is verified by third-party sources.
Some criticize the verification process as not strict enough and, without proper safeguards, say it could lead to fraud. Others, particularly those in the angel investing community, say the verification process is too strict.
McManaman recommends companies consult with their attorneys before deciding to raise funds publicly because violations of compliance requirements can be costly.
Koley Jessen attorney Dan McMahon agreed, noting another area of concern is more burdensome proposed rules by the SEC that are pending and won’t take effect today. For example, the SEC may require that 15-day advanced filings be made before general solicitations. If a company would violate the requirement, it would be forced to sit out a year from fundraising.
“For a startup, not being able to raise money for an entire year can be the end of that company,” McMahon said.
The proposed rule raises questions about Demo Days, or the pitch presentations that often conclude a startup accelerator experience.
Some say Demo Days violated the old general solicitation ban because even though companies may not necessarily state the amount of investment they’re looking for — companies at the Sept. 5 Lincoln-based NMotion didn’t, for example — it’s implied they’re there to connect with investors. Others say the intent of Demo Days are to showcase the companies, not to ask for money. The SEC, meanwhile, has yet to take a stance on such events.
Companies taking part in the Oct. 3 Demo Day for Omaha-based startup accelerator Straight Shot plan to announce the amount of capital they’re seeking so they increase the odds an investor will follow up, said managing director Faith Larson.
Announcing the goal makes it easier for investors to understand what the startup is looking for in terms of funding and why and gives everyone clarity, said Larson, who said she is getting guidance from the Global Accelerator Network.
Donation-based crowdfunding services, such as Kickstarter and Indiegogo, generally are not subject to the new and proposed rules because they take the position that they are not selling securities.
For now, McMahon said companies should be thoughtful and cautious when deciding whether to use general solicitation in their fundraising efforts, because for some types of companies private efforts seem to be working.
“Even in Omaha and even in the Midwest, there is an avenue to raise funds,” he said.
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