Two years after Title II of the JOBS Act, known as 506(c), went into effect well over one billion dollars of financings have been closed through online funding portals under this provision and 506(b). The year over year growth has been substantial. Entrepreneurs and real estate professionals have benefited and so have investors. Even with all that activity so far, there has been very limited reported fraud- one maybe two at most, representing significantly less than 1% of the capital raised. This is not to suggest that there won’t be more and no doubt other legitimate investor losses as well, but online 506(b) and (c) has thus far delivered on the promise of an alternative way for entrepreneurs to raise capital, for investors to participate in opportunities not previously available to them, and equally importantly, for this not to become a regulatory burden.
The data suggests that nearly two thousand such entrepreneurs have received such funding, which inevitably creates jobs. The key being that the balance of interests between capital formation and investor protection (from fraud, not losses) has been more than satisfied so far. The voiced concern of overwhelming fraud has not materialized and regulators generally acknowledge this reality.
All crowdfunding constituents continue to need to remain vigilant and keep the problems limited. We all share this responsibility if we want to benefit from this considerable departure from old securities law conventions. Building on the strength of this new approach to permitting capital formation, May 16 of this year marks the date upon which the third provision relating to crowdfunding under the JOBS Act, Regulation CF, makes available unregistered investment opportunities to all Americans. This isn’t open to debate, it’s the law. You might be surprised at how many events that I attend where panelists and attendees continue to debate the issues as if we were still in a time warp prior to the JOBS Act enactment in 2012.
For all of the genuine concern, many of these folks have neither read the Regulation CF rules, don’t fully appreciate the construct of the statute and rules, nor care to recognize that these rules came to be after a bi-partisan congressional action, signed by the President and extensively considered and refined by both the SEC and FINRA after four years of comment letters by both supporters and detractors of the legislation have had full opportunity to share their comments.
As a participant and observer, I am proud of what Titles III Regulation III Crowdfunding represents, how thoughtful the final rules are, the care and consideration that the staff members of both the SEC and FINRA have put into making the final approved rules viable and the institutional restraint from being inflexible. Moreover, tremendous credit must be given to the perseverance of the industry and the individuals that stayed the course and engaged in the process- this truly was a crowdsourced effort. We are well aware that there are investor protection concerns and believe that the current rules are quite respectful of those interests. We are also aware that some market participants must make a more concerted effort to fully recognize that this is a highly regulated industry for good reason and their business processes must become more compliant in order to protect investors even better. Certainly, we also support continuing efforts to address aspects of the final rules which would make the final rules more commercially viable. If the securities activity that gets transacted after May 16 under Regulation CF is as responsibly undertaken by the online 506(b) and (c) community, then legislators will have the necessary momentum to take additional positive action beneficial to the industry.
As I travel across the country, the basic awareness of securities based crowdfunding continues to build. The funding portals that have conducted business responsibility for the last couple of years are now prepared to extend their offerings to retail investors.
Notwithstanding narrative often stated by established capital market professionals, crowdfunded companies have in fact raised accredited investor capital and then gone on to raise VC funding, been sold to strategic buyers or even gone public in an IPO.
Many of these liquidity events were thought to be improbable by those same detractors if an issuer accepted crowd capital, even accredited investor funding. The investment landscape is shifting, no different than with other industries and the trend is healthy, undeniable and irreversible.
Regulation CF is an equally responsible approach to enabling limited investments of “high risk” privately placed illiquid securities to interested investors in a very controlled and regulated manner. I would observe that not much differently than the unease caused by many early online initiatives, like one’s first purchase through Amazon or eTrade, this is going to take some getting use to, but it’s the law and should be assessed with full thought and consideration, not just knee-jerk negativity or paternalism. Little discussed is that the amount invested by friends and family in opportunities offered offline is far greater in absolute dollars than either VCs or Angels. So, in many ways all Regulation CF is seeking to accomplish is to provide greater centralized discipline to an activity that is otherwise already being conducted less responsibly offline with very little litigation profile or regulatory burden.
If retail crowdfunding is anything as impressive as the crowd-sourced effort and intelligence that I was lucky enough to have been a part of this past few years than this new industry should flourish.
Doug Ellenoff is Managing Partner of Ellenoff Grossman & Schole LLP, a leading law firm serving the securities crowdfunding industry. Recognized as a thought leader and expert on the nuanced legalities of the JOBS Act, Douglas S. Ellenoff has been a key representative and advocate for the industry and has actively engaged with the SEC to discuss many aspects of the proposed new law. Additionally, EG&S is working with securities professionals internationally to assist them with shaping smart legislation to foster investment crowdfunding in their jurisdictions. EG&S is actively engaged with clients in the crowdfunding industry, including funding portals, broker-dealers, technology solution providers, software developers,investors and entrepreneurs. Doug is also co-founder of iDisclose, a new legal technology company focused on the disclosure needs of small business and startup entrepreneurs accessing capital.