Online capital formation became legal following the approval of the JOBS Act of 2012. Signed into law by President Obama, the bipartisan legislation sought to make it easier for firms to raise money from both accredited and non-accredited investors. While the bill was signed into law in 2012, it took several years for the Securities and Exchange Commission to craft final rules, with Reg CF [Regulation Crowdfunding] finally becoming actionable in 2016 (After over 500 pages of rules were released).
In brief, Reg D is the most successful and, hence, the most important securities exemption. Reg D allows an issuer to raise an unlimited amount of money from Accredited Investors. Reg D 506c enabled “general solicitation” or the ability to promote the offering online. Reg D 506b does not allow for general solicitation but is less onerous in the Accredited Investor qualifications. Reg D is the exemption that is used by VCs, institutions, and Angels to invest in promising early-stage firms.
Reg A+ allows an issuer to raise up to $75 million from anyone after the firm is qualified by the SEC from retail and Accredited Investors.
Reg CF allows a firm to raise up to $5 million from anyone following a notice filing being submitted to the SEC. A Reg CF issuer must use a regulated Funding Portal or a Broker Dealer to raise money online.
So where are we now?
Recently, the SEC Office of the Advocate for Small Business Capital Formation (OASB) completed its annual report, which provides insight into the utilization of these various exemptions. While comprehensive data on Reg D continues to be somewhat opaque due to the limited amount of information needed to file for the exemption, the SEC’s numbers provide a good perspective in the progress of these paths to raising capital.
Overview.
According to the SEC, for the time period ending on June 30, 2023 (DERA data for the period July 1, 2022, to June 30, 2023):
- Reg D 506b (no general solicitation) – $2.7 trillion raised (median raise $1.2 million)
- Reg D 506c (general solicitation) – $169 billion (median raise $750,000)
- Reg A – $1.5 billion (median raise $1.6 million)
- Reg CF – $352 million (median raise $100,000)
- Rule 504 – $258 million (median raise $250,000)
- Other exempt offerings (Reg S – Rule 144A) $1.3 trillion
Of note is the fact that the majority of funds raised under Reg D is for pooled investment funds and not early-stage firms. When you remove pooled investment funds from the equation, private companies raised $662 billion from these private securities exemptions. To break this down further:
- Reg D 506b – $259 billion
- Reg D 506c – $16 billion
- Reg A – $1.4 billion
- Reg CF – $352 million
- Rule 504 – $200 million
- Other exempt offerings – $385 billion
Why is this all important? Because private firms create jobs, and generate economic growth and prosperity. Due to the excessive amount of regulation and disclosure demanded today for public firms, most companies seek to remain private for as long as possible as the costs are very high to become a public firm. These costs are expected to go higher as the SEC aims to add more rules and regulations for public firms, thus making it more challenging to be a public company. A good current example is the ESG push by the Commission that aims to compel a social agenda to become a public firm. Forthcoming environmental impact disclosures will create a black box of unknown costs to these companies and a new industry of advisors and consultants for compliance, which will inevitably spill into private firms. Even though this mandate is beyond the safe and efficient markets mission of the SEC, extreme politics have taken hold at the securities regulator.
The OASB reports that:
- 90% of new businesses need external funding to start
- 78% are worried about the ability to access capital
- In 2022, 3.7X more startups failed than in 2020 due to the lack of financing
When looking at Angel Investors, individuals who are Accredited and invest in early-stage firms, $22.3 billion in investments were made by this group in 2022. This is a decline of 23.7% from 2021. For each Angel investment, 3.4 jobs are created.
CI has published numerous stories on the decline in venture capital in 2023, largely due to the challenging economic environment.
As for online capital formation, it has been a bit of a mixed bag in 2023 as Reg CF has declined, and, at least anecdotally, Reg A seems to be generating more interest.
So, what should policymakers be doing? This should be obvious: crafting policy and rules that make it easier for private firms to raise money and easier for investors to participate in this vital asset class. As 99.9% of all businesses are small businesses, which create 63% of net new jobs and almost 44% of GDP, small businesses should capture the support of all elected and appointed officials. Unfortunately, that does not seem to be the case today.