by Jenny Kassan of Cutting Edge Capital
Remember, crowdfunding was supposed to get easier, with the passing of the JOBS Act? Now, the SEC has finally issued the most important rules for implementing the new law.
The following is a summary of the requirements for using the crowdfunding exemption that was created by the JOBS Act. It describes the requirements under the statute as well as the recently released proposed rules. Some of the details could change.
Limitation on Capital Raised
Maximum amount that can be raised under the crowdfunding exemption: $1 million per year (the SEC is required to adjust this amount for inflation at least every five years).
If you raise capital in other ways such as through a private placement or DPO, the amount raised does not count toward the $1 million maximum.
An offering under the crowdfunding exemption will not be “integrated” with other securities offerings (in other words two offerings will not be treated as if they were one for purposes of determining eligibility for an exemption which means that you could conduct an offering under the crowdfunding exemption simultaneously with, preceded by, or followed by, another exempt offering).
The aggregate amount sold to any investor by an issuer cannot exceed:
(i) if both annual income and net worth are less than $100,000, the greater of $2,000 or 5 percent of the annual income or net worth of such investor; and
(ii) if either annual income or net worth exceeds $100,000, 10 percent of the annual income or net worth of such investor, not to exceed a maximum aggregate amount sold of $100,000
(the SEC is required to adjust this amount for inflation at least every five years).
Transaction Conducted Through an Intermediary
The offering must be made through an online intermediary and each offering may be made through only one intermediary.
Exclusion of Certain Issuers from Eligibility to Use the Crowdfunding Exemption
The following kinds of issuers may not use the exemption:
(1) issuers that are not organized under the laws of a state or territory of the United States or the District of Columbia;
(2) issuers that are subject to Exchange Act reporting requirements (i.e. public companies);
(3) investment companies;
(4) issuers that have sold securities in reliance on the crowdfunding exemption and have not filed the ongoing annual reports required under the exemption during the two years immediately preceding the filing of the required new offering statement;
(5) issuers with no specific business plan or that have indicated that their business plan is to engage in a merger or acquisition with an unidentified company or companies.
Issuers are required to make the following disclosures:
- the name, legal status (form of organization, jurisdiction in which it is organized, and date of organization), physical address, and website address;
- the names of the directors and officers (and any persons occupying a similar status or performing a similar function), and each person holding more than 20 percent of the shares of the issuer; all positions and offices with the issuer held by such persons, the period of time in which such person served in the position or office and their business experience during the past three years;
- a description of the business of the issuer and the anticipated business plan of the issuer – the proposed rules do not specify the disclosures that an issuer must include in the description of the business and the business plan;
- a narrative description of the financial condition of the issuer;
- a description of the stated purpose and intended use of the proceeds of the offering sought by the issuer with respect to the target offering amount;
- the target offering amount and the deadline to reach the target offering amount (for example, if the issuer sets a target offering amount of $200,000 but is willing to accept up to $750,000, the issuer would be required to disclose both the $200,000 target offering amount and the $750,000 maximum offering amount that it will accept; in addition, the issuer would be required to disclose, at the commencement of the offering, how shares in oversubscribed offerings would be allocated);
- regular updates regarding the progress of the issuer in meeting the target offering amount no later than five business days after the issuer reaches particular intervals – i.e., one-half and 100 percent – of the target offering amount (if the issuer will accept proceeds in excess of the target offering amount, the issuer also would be required to file a final progress update, no later than five business days after the offering deadline, disclosing the total amount of securities sold in the offering);
- the price to the public of the securities or the method for determining the price;
- the name, Commission file number and Central Registration Depository number (“CRD number”) (as applicable) of the intermediary through which the offering is being conducted;
- the amount of compensation paid to the intermediary for conducting the offering, including the amount of any referral or other fees associated with the offering;
- disclosure of certain legends about the risks of investing in a crowdfunding transaction and about the required ongoing reports, including how those reports would be made available to investors and how an issuer may terminate its ongoing reporting obligations to be included in the offering statement;
- the current number of employees of the issuer;
- a discussion of the material factors that make an investment in the issuer speculative or risky;
- a description of the material terms of any indebtedness of the issuer, including the amount, interest rate, maturity date, and any other material terms;
- exempt offerings conducted within the past three years;
- disclosure of certain related-party transactions;
- a description of the ownership and capital structure of the issuer including
- the terms of the securities being offered and each other class of security of the issuer, including the number of securities being offered and/or outstanding, whether or not such securities have voting rights, any limitations on such voting rights, how the terms of the securities being offered may be modified and a summary of the differences between such securities and each other class of security of the issuer, and how the rights of the securities being offered may be materially limited, diluted, or qualified by the rights of any other class of security of the issuer;
- a description of how the exercise of the rights held by the principal shareholders of the issuer could affect the purchasers of the securities;
- the name and ownership level of persons who are 20 Percent Beneficial Owners;
- how the securities being offered are being valued, and examples of methods for how such securities may be valued by the issuer in the future, including during subsequent corporate actions;
- the risks to purchasers of the securities relating to minority ownership in the issuer and the risks associated with corporate actions including additional issuances of securities, issuer repurchases of securities, a sale of the issuer or of assets of the issuer or transactions with related parties; and
- a description of the restrictions on the transfer of the securities.
Issuers offering $100,000 or less are required to file and make available to potential investors income tax returns filed by the issuer for the most recently completed year (if any) and financial statements that are certified by the principal executive officer to be true and complete in all material respects;
Issuers offering more than $100,000, but not more than $500,000, are required to file and make available to potential investors financial statements reviewed by a public accountant that is independent of the issuer; and
Issuers offering more than $500,000 are required to file and make available to potential investors audited financial statements.
The proposed rules would require all issuers to file with the Commission, provide to investors and the relevant intermediary and make available to potential investors a complete set of their financial statements (a balance sheet, income statement, statement of cash flows and statement of changes in owners’ equity), prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”), covering the shorter of the two most recently completed fiscal years or the period since inception of the business.
The proposed rules require an issuer amend its disclosure for any material change in the offer terms or disclosure previously provided to investors. Information is material if there is a substantial likelihood that a reasonable investor would consider it important in deciding whether or not to purchase the securities.
Investor Right to Cancel
Investors may cancel an investment commitment until 48 hours prior to the deadline identified in the issuer’s offering materials; if an issuer reaches the target offering amount prior to the deadline identified in its offering materials, it may close the offering early if it provides notice about the new offering deadline at least five business days prior to that new deadline.
Ongoing Reporting Requirements
The proposed rules require the filing of an annual report no later than 120 days after the end of the most recent fiscal year covered by the report.
These reports would be required to be posted on the issuer’s website.
These reports must be filed every year until (1) the issuer goes public, (2) the issuer or another party purchases or repurchases all of the securities issued pursuant to the crowdfunding exemption, or (3) the issuer liquidates or dissolves.
Prohibition on Advertising Terms of the Offering
The proposed rules would allow notices advertising the terms of the offering to include no more than the following: (1) a statement that the issuer is conducting an offering, the name of the intermediary through which the offering is being conducted and a link directing the potential investor to the intermediary’s platform; (2) the terms of the offering; and (3) factual information about the legal identity and business location of the issuer, limited to the name of the issuer of the security, the address, phone number, and website of the issuer, the e-mail address of a representative of the issuer, and a brief description of the business of the issuer.
The proposed rules would not restrict an issuer’s ability to communicate other information that does not refer to the terms of the offering.
The proposed rules also would allow an issuer to communicate with investors and potential investors about the terms of the offering through communication channels provided by the intermediary on the intermediary’s platform, so long as the issuer identifies itself as the issuer in all communications.
Compensation of Persons Promoting the Offering
The proposed rules would prohibit an issuer from compensating, or committing to compensate, directly or indirectly, any person to promote the issuer’s offering through communication channels provided by the intermediary unless the issuer takes reasonable steps to ensure that the person clearly discloses the receipt (both past and prospective) of compensation each time the person makes a promotional communication.
People compensated to promote the offering must comply with the prohibition on advertising discussed above.
Types of Securities Offered and Valuation
The proposed rules would neither limit the type of securities that may be offered nor prescribe a method for valuing the securities.