When new rules for private offerings under the 2012 Jumpstart Our Business Startups Act came into effect last month, they appeared to represent a major new step in realizing the vision of a marketplace in which investors of all stripes can hold equity in private companies. The enhanced Regulation A+ under Title IV of the JOBS Act now allows private companies to raise up to $50 million from nonaccredited investors, in a process sometimes known as an “IPO lite.”
Private placements under the old Regulation A were restricted to accredited investors, who have an annual income above $200,000 or a net worth of more than $1 million. “In the old days of private offerings, you could only talk to people you already knew or to established institutional buyers,” says James Dowd, the founder and managing director of North Capital Private Securities, a Salt Lake City-based broker-dealer that has been managing private placements since 2012. The lifting of restrictions on general solicitation of accredited investors under Title II of the JOBS Act and the expansion of Regulation A have, says Dowd, “changed all that.”
Still, it’s not yet clear whether companies will in fact want to raise capital from nonaccredited investors through Regulation A+. The meat of the JOBS Act’s grand vision of broad investor participation in the private markets is not Titles II and IV, which simply enhance existing capital-raising rules. It’s the crowdfunding component, Title III, which creates a whole new set of “funding portals,” not subject to ordinary broker-dealer requirements, to connect early-stage companies with anyone looking to buy shares in them. When finalizing the rules under Title III, the Securities and Exchange Commission will need to strike a balance between access to markets and investor protection.
Whereas the agency set out to draft rules under this portion of the JOBS Act in late 2013 and last year declared that final rules would be published by the fall of 2015, progress on finding that balance has been slow.
The reason Regulation A+ has come into effect more quickly is because the existing rule it enhances already included sufficiently strong due diligence and regulatory approval provisions to meet policymakers’ concerns over investor protection.
However, even with those protections in place, “it’s easy to see this market devolving into a collection of boilovers,” argues Dowd, with stock promoters potentially preying on unsophisticated investors in much the same way they sometimes do in the public markets. If Regulation A+ “doesn’t get integrated into the established financial system, it will go the same way as the penny-stock market, and all investors with any kind of gravitas will move elsewhere,” he adds.
Dowd’s firm’s focus is on using technology to build syndicates that bring together issuers and investors. North Capital has helped manage about 30 private offerings over the past 18 months. But all of these have involved traditional Wall Street investors, and Dowd concedes it will be a challenge to expand the platform to embrace nonaccredited investors in a way that simultaneously ensures their protection and the quality of offerings — especially in a market in which private company valuations are soaring and start-up capital is abundant and cheap.
“When you get into this phase of a cycle, everything looks like a good deal,” he says. “Our job is to make sure deals are highly curated and there is a meaningful integration between our platform, traditional finance and newer investors.”
Other players in the burgeoning investment platform universe agree. “We have a view that quality and curation are going to win here,” says Rory Eakin, co-founder and chief operating officer of San Francisco’s CircleUp, an online investing service which has helped more than 100 companies raise in excess of $100 million from investors since launching in 2011.
However, Regulation A+ involves significant reporting and filing hurdles: Under Tier 1 offerings (up to $20 million annually), companies have to file documentation with each state that they plan to raise capital in, and Tier II offerings (up to $50 million) require ongoing reporting requirements commensurate with those imposed on a public company.
Title III, as currently proposed, involves even more onerous disclosure burdens. “I think what you’ll see is that only companies that can’t raise money through accredited investors will go to the other parts of the act,” argues Eakin. “The best companies won’t want to raise capital through Title III or even Regulation A+.”
Several industry participants, including Eakin, have called for Congress to relegislate Title III in light of the concerns raised over the past few years. But for now, the issue of broad retail participation in the private markets remains in limbo.
To be fair, Title II is opening avenues of access for private companies to accredited investor capital, although its impact on overall fundraising remains muted, accounting for only 5 percent of all private capital raised in 2014. Regulation A+ may confound the skeptics and become a meaningful, inclusive channel for private companies to raise money from accredited and nonaccredited investors alike. But for now, as private markets blossom and venture capital climbs to levels not seen since the dot-com boom, the JOBS Act’s crowdfunding mission appears to be slipping away.
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