A New Era in Crowdfunding

By Cohen, Deborah L. | Success, March 2013 | Go to article overview

A New Era in Crowdfunding


Cohen, Deborah L., Success


THE JOBS ACT WILL LET INTERNET INVESTORS BUY STOCK.

IT'S A CHANGE EXPECTED TO TRANSFORM THE WAY STARTUPS AND SMALL BUSINESSES RAISE MONEY.

Under the JOBS (Jumpstart Our Business Startups) Act, raising money on the Internet through crowdfunding promises to be a tantalizing option for small businesses seeking capital. This new federal law stipulates that, for the first time, business owners will be able to offer shares of private stock to everyday investors.

Earlier, regulations had limited entrepreneurs, inventors, artists and others attempting to drum up capital using social media on Internet platforms such as Kickstarter and lndiegogo to a rewards-based model. It worked like this: The fledgling venture created a profile to build Internet buzz, pledged online backers a product, discount or other reward in exchange for seed money, and hoped for the best.

Sometimes results far exceeded expectations: Last May, an outfit called Pebble Technology eclipsed its $100,000 goal, raising a staggering $10 million on Kickstarter by offering early access to customizable watches that sync with smart-phones, allowing them to view incoming texts and notifications on the watches. More often than not, however, fundraising has been modest. Consider Kult Kitchen Pickles, which in December used the site to secure more than $3,000 for its kraut and kimchee business, just over its $2,600 target.

Many entrepreneurs believe the JOBS Act will make the process more lucrative for (and more attractive to) crowdfunders. But no one will really know for sure until the act takes effect; Douglas Ellenoff, a securities lawyer who has closely studied the new legislation, expects that equity-based crowd funding under the JOBS Act will begin later this year.

"The Securities and Exchange Commission has a lot going on," says Ellenoff, noting the agency is busy interpreting an avalanche of new regulations under the Dodd-Frank Wall Street Reform and Consumer Protection Act. "Crowdfunding, while it's important and on the agenda, is not going to get preferential treatment."

Once all the details become known, entrepreneur Winston Ibrahim will consider offering stock in his privately held business--Philadelphia-based Hydros, which makes water bottles with built-in filters--to online backers based on opportunities spelled out under the new law. Those who purchase shares will probably be enthusiasts already sold on Hydros and its ability to deliver clean, portable water in the United States and abroad.

"You're actually buying a piece of the company," says Ibrahim, who co-founded Hydros in 2009 and has raised several million dollars under existing securities regulations. "it really galvanizes an evangelistic fan base."

The JOBS Act, passed by Congress and signed into law by President Obama in April 2012, provides significant benefits to startups (like Ibrahim's) and small businesses that are attempting to raise capital at a time when traditional lending sources remain difficult to tap.

Before the new law, the sale of private stock was restricted by SEC regulations to friends, family and so-called "accredited investors," which are defined as institutions and high-net-worth individuals considered savvy enough to understand the potential risks of investing in nascent businesses.

Now, with certain limitations, businesses can raise up to $1 million in a 12-month period from mainstream investors. The law isn't expected to fully take effect for a few months, when the SEC, which polices stock transactions, completes the regulations for crowdfunding that offers equity.

Among other conditions, the amount sold to a single investor cannot exceed the greater of $2,000 or 5 percent of that person's annual income or net worth if his or her earnings are less than $100,000. For higher-earning investors, the amount may not exceed 10 percent of annual income or net worth, up to a maximum $100,000 investment in crowdfunding per person per year. …

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