While investing in startup firms has been somewhat restricted to institutional investors and the extremely affluent, 2015 has seen the marketplace open up some for involvement for middle-class investors looking to get in on the storied “ground floor.”
The first big step in that transition happened over the summer.
In July, major changes to Regulation A+ went into effect that gave smaller investors their first potential taste of startup investing. Created through Title IV of the Jobs Act, the SEC approved the expansion of Reg A+ to allow small firms to raise as much as $50 million via a mini IPO. Small-scale public offerings have existed legally for some time (via Regulation A), but with a low ceiling of $5 million and a lot of associated complexity. The result was that few companies ever bothered to make use of them.
The reformulated mini IPO process is designed to be a somewhat less intensive process than a traditional IPO. It is also designed to be much more open as it allows firms to solicit investments from “average Joe” investors. That reverses the trend of the last 80 years, wherein only accredited investors — those who earn over $200K a year or have $1 million in combined (non-primary residence) assets — were allowed to invest directly in non- public firms.
Regulation A+ investors do not need to be accredited — and though there are limits to how much an individual can invest (only 10 percent of their net worth or annual income), anyone who wants to take part is welcome to do so.
And while this move was somewhat contentious. Some argued it as a victory for the little guy investor and startups struggling to gain ground. Others held that it was a very good way to set small investors up to waste considerable sums of cash on startups with low long-term odds of success.
However, the consensus was that more likely than not the move would be fairly low impact — as the mini IPO still involved expense and complexity where firms might not otherwise need to take it on. Given that accredited investors poured upwards of $1 trillion into startups in 2014 alone through Regulation D, there isn’t a real gap in funding, at least not yet.
"Compared to [Regulation D], Regulation A+ takes way more time to launch an offering, and is far more costly in terms of legal fees, accounting costs, and annual reporting obligations,” noted Scott Purcell of FundAmerica.
However, as of last Friday, the door cracked open just a bit more for the smaller scale investor looking to get a hand into startups. Federal regulators finalized yet more new crowdfunding rules that make it easier for startups to solicit investments from small investors by putting few filings between them.
So, what do the new rules mean?
By a 3-1 vote last week, the SEC will now allow a much more open access to equity crowdfunding than had been previously available.
By implementing yet more provisions of the 2011 JOBS Act, the rule change will allow startup firms to raise up to $1 million in crowdfunding cash a year‚ while in some cases being able to skip out of registering with the SEC.
Once again, the new rules eliminate the “accredited investor” requirement, though it is not quite accurate to say that anyone can simply invest any amount of money — as there are measures in place to prevent consumers from getting in over their heads on risky investments.
Those with incomes under $100,000 are limited to 5 percent of their yearly income or net worth, or $2,000 - whichever is the larger figure. Those with incomes at or above $100K are allowed to invest up to 10 percent, though individuals are capped at $100K in investments per year via crowdfunded offerings. Investors are additionally required to hold their crowdfunded securities for at least a year.
Additionally, consumers aren’t allowed to just buy securities from any old person they met on the street with a lead on a hot startup. The updated SEC rules require crowdfunding to go through an intermediary broker-dealer or a registered funding portal.
And those are just the consumer requirements. Firms looking to access crowdfunding dollars via everyday people are also looking at some requirements, albeit ones far less steep than those associated with Regulation A+.
Firms looking to raise $100K or less are free to submit their own statements. However, firms looking to raise in the $100K-$500K range must do an outside financial review, though there is no additional auditing requirement. Only firms looking to raise funds in the $500K -$1M range will have to both file audited financial statements.
Will It Work?
As was the case with Regulation A+, the question arises as to whether this will have much in the way of impact. Michael Piwowar, the SEC’s one dissenting vote, noted his doubts. Piwowar complained the rules were potentially unworkable and full of "tricks" and a "complex web of provisions and requirements" that may hinder small businesses.
Others note that those inexperienced with investing run a high risk of being overly influenced by the spectacular - and spectacularly rare - supersized success story like Uber when making choices. Even in an era of plentiful unicorns, startup home runs are still surpassingly rare and investors will likely lose money rather than making money when investing in firms new enough to the market to be crowdfunding for equity.
Erin Glenn, CEO of equity crowdfunding site Quire, notes the new rules might also give small businesses with difficulty gaining traction among VCs a way to take their case directly to the people.
For its official part, the SEC remains largely neutral taking a “watch and wait” attitude.
Commissioner Kara Stein noted that the SEC will conduct a three-year study to measure the development of crowdfunding. "Let's see how this experiment works," she said.
Investments from the Fourth Week of October
No tricks, no treats, no blockbuster deals to make the month of October sparkle. Just a slightly less tepid investment pace than had been seen earlier in the month.
Total investment activity for the last week of October, which ended the 30th, saw fund flows of roughly $747 million. Not a lot of money changing hands here, and the great bulk of allocation, by broad sector, came in the FinTech realm, with 99 percent, or $743 million of the investments.
The United States dominated the regional activity, with 97 percent of all investments, and that was trailed, by quite a bit, to the tune of $9 million in Asia outside of China. The chart below shows the regional breakdown of the week’s activity.
Now, drilling a bit down to the individual activity, Cisco snapped up security firm Lancope for $453 million, and the tech giant is doing so with an eye on beefing up its networking prowess, with better visibility into network status through analytics. The only other triple-digit transaction that marked the week came from a sizable investment into Social Finance, via China's Renren, which put up $150 million. That helps give the loan serving tech outfit a $4 billion valuation, according to reports, and that also sheds light on the attractiveness of new, alternative financing avenues that are challenging the traditional banking model. The Top 5 investments ranked by dollar amount for the week were:
Since FinTech showed up as heavy hitter in the week, it makes sense to see how that sector shook out in reference to B2B. In fact for the month, FinTech held only a bit more sway in October, at $1.9 billion vs. $1.5 billion for B2B.
Below is FinTech, with subsegments defined in October.
And here, of course, is B2B.
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