The final JOBS Act regulation went live in 2016, and now the market is learning how it works.
After many years of waiting for the Securities and Exchange Commission (SEC) to take action, 2016 saw the final installment of the JOBS Act trilogy come to life with the introduction of Regulation Crowdfunding — allowing startups and small businesses to turn friends, family, followers and fans into investors. The JOBS Act was the single largest change to regulations affecting investment offerings by small companies since the creation of the SEC and Federal Reserve after the Great Depression. History with innovative securities for capital formation shows that it usually takes at least a decade for an industry to take off and hit its stride. We are really in the earliest stages of a fundamental change to early stage security law.
There are three essential forms of equity crowdfunding:
- Regulation Crowdfunding, which is designed for seed stage funding of startups and microenterprises;
- Reg 506(c), more commonly known as General Solicitation, which was designed for the syndication of wealthy investors and is the foundation for the success of AngelList, the world’s largest platform that allows investors to discover investment opportunities in early stage companies online; and
- Regulation A+ which is a form of equity crowdfunding designed as a low cost alternative to a full public offering for growing companies.
These three varying forms of equity crowdfunding could not be more different — but media, pundits and small business owners alike frequently fail to understand the differences between them or when to apply which new set of opportunities to raise funds for their business. At the start of 2017, let’s review what the data tell us and where these new forms of raising capital are headed.
Experienced investors showing up
The first installment was Title II of the JOBS Act, which was enacted as part of Rule 506(c) way back in 2013. This first form of investment crowdfunding allowed firms to generally solicit investments, meaning 80 years of federal law preventing small firms from seeking investments from people they didn’t have a pre-existing business relationship with went out the window. A common mistake by startups is to assume that all forms of crowdfunding allow broad soliciting and advertising. However, the SEC only allows general solicitation of accredited investors (wealthy individuals). Title II helped transform AngelList into what is arguably now the leading hybrid angel network and VC firm in Silicon Valley. This also saw the creation of an entirely new industry of Real Estate Investment Crowdfunding. 2016 overall saw a dramatic increase in deal quality, as well as an industry first of a company launching its fourth funding round in a row through equity crowdfunding on the leading platform OurCrowd.com.
The good news is that the outlook for 2017 is very positive. 2017 should see tens of thousands of new investors in companies through Regulation Crowdfunding and at least double the number of successful Regulation A+ campaigns. Investors are also not shying away from firms that have raised funds through equity crowdfunding and in fact have an appetite to continue investing in these firms. This will lead to an increased willingness of many founders to consider crowdfunding as a viable option for capital.
Established firms showing interest
The second installment was Title IV of the JOBS Act, which modified Regulation A and created what is called a Regulation A+ offering. This went live in September of 2015, but by the end of 2016 less than 20 companies had closed an offering through Regulation A+. This act allows what is called “testing the waters” (TTW) — securing non-binding expressions of interest in making investments in advance of the costs, time and effort of filing for approval with the SEC. A cottage industry also developed in 2016 to help companies create, manage and monetize these TTW campaigns. The single most misunderstood aspect of Regulation A+ is that it is not designed for startups or even firms up through a series A round. Regulation A+ was designed to restore some sanity to the early stage stock market — allowing firms to go public with valuations in the low tens of millions of dollars, not the $500 million or more needed for a full public offering. 2017 will see dramatic growth in this sector with established firms starting to use Regulation A+ offerings in lieu of venture debt or seeking growth equity.
Positive signs for regulation crowdfunding
The latest installment was Title III or Regulation Crowdfunding, which went live on May 19, 2016. Regulation Crowdfunding has started slowly, but PIPEs, SPACs and other forms of alternative equity offerings were also essentially flat their first couple of years. This shows that the market is learning, not that the model is failing. In fact, early data suggest some very positive signs for how Regulation Crowdfunding may grow.
Steady growth trends
As of the end of 2016, our NextGen Crowdfunding Data Dashboard shows that just over $16.35 million has been invested in startups through Regulation Crowdfunding. Q2 of 2016 saw $2.2 million of investing; Q3 saw $4.8 million; and Q4 saw $9.6 million. With investment dollars doubling each quarter in 2016 — even with an expected dip around the holidays — the future of Regulation Crowdfunding appears strong.
We cannot predict how the growth curve will develop, but it is fair to say that both crowdfunding platforms and issuers are starting to learn how to use this model. Also with the potential of decreased regulation stemming from the “Fix Crowdfunding Act” making its way through Congress, there is real potential for Regulation Crowdfunding to take off in 2017.