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Monday, 30 April 2012 08:13

Opportunity in numbers: Entrepreneurs hope crowdfunding will fill lending gaps

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KALAMAZOO — Paul DeVries, who played college football for Western Michigan University two decades ago, has turned to an online “crowdfunding” campaign in hopes of raising $20,000 to underwrite the further development costs for his computer game.

So far, CyberPlayerGames.com — a game that lets non-jocks know what it’s like to train as an athlete for high school, college and even pro sports — has raised just $1,000 on a crowdfunding platform called Kickstarter.com, far short of DeVries’ $20,000 goal. But at least DeVries is raising some cash to fund his dream project after failing to persuade more traditional high-net worth individuals, called angel investors, to invest in his idea.

Many more entrepreneurs and small business owners will soon have the opportunity to turn to the crowd for funding, and for much bigger amounts. Importantly, their options will grow from just web-based platforms and expand into their backyards.

The JOBS Act

The JOBS Act changed the Exchange Act Section 12(g) registration triggers and, for banks and bank holding companies, the Section 12(g) and Section 15(d) deregistration and cessation of reporting triggers. The Division of Corporation Finance has issued a release setting forth Frequently Asked Questions regarding these provisions are at http://sec.gov/divisions/corpfin/guidance/cfjjobsactfaq-12g.htm

Also, as it did in the wake of the Dodd-Frank Act, the SEC is inviting pre-rulemaking comments with respect to the rulemaking the SEC will engage in under the JOBS Act. The SEC’s notice is at http://sec.gov/news/press/2012/2012-60.htm.

On April 5, President Obama signed the “Jumpstart Our Business Startups Act” (JOBS Act) that will soon make it possible for businesses to borrow up to $1 million over 12 months, from an unlimited number of investors, including non-accredited investors through a soon-to-be created crowdfunding mechanism. By Jan. 1, 2013, the Securities and Exchange Commission must work out the final details of exactly how the middleman — the role now played online by groups like Kickstarter.com — will play out on Main Street.

In addition to the emerging growth company and crowdfunding provisions, the legislation also removes SEC regulations preventing small businesses from using advertisements to attract investors and raises from 500 to 2,000 the number of shareholders a company can have before it must register with the SEC.

The main part of the bill would phase in SEC regulations over a five-year period to let smaller companies go public sooner. Companies that have annual gross revenues of less than $1 billion would enjoy this “emerging growth company” status.

But for Main Street, the expansion of crowdfunding through the JOBS Act may become the next big wave of small business and startup financing.

Under the JOBS Act, an individual investor with annual income or net worth of more than $100,000 can invest up to 10 percent of his or her annual income or net worth into a business. Thresholds are lower for investors with annual income or net worth of less than $100,000. But in any case, the individual investment cap is $100,000 per project for someone making $1 million a year.

Phillip D. Torrence, managing partner of the Kalamazoo office of Honigman Miller Schwartz and Cohn LLP, said the JOBS Act, when fully implemented, will give a big financial Christmas present to the business community that has been starved for investment capital since 2009.

“Crowdfunding offers an interesting new method of funding outside of traditional angel or institutional investors,” Torrence said. “For nascent technology companies looking to get off the ground, it will be well-utilized. There is a big pool of non-accredited investors on the sidelines now. That money, perhaps upwards of the high hundreds of millions of dollars, will make its way into the market place, which will be particularly helpful for early-stage companies.”

Torrence said investors and companies that typically haven’t been funded by traditional private equity markets are the big winners under JOBS. Well-off individuals with a net worth of $1 million or annual incomes in excess of $250,000 who didn’t qualify as accredited investors to participate in an angel-investing group, such as the Grand Angels in West Michigan, will be able to invest in a business that may have been unable to secure traditional financing because of the tight credit markets.

Companies and startups that didn’t meet the standards set by typical angel or venture capital investors — that they have a replicable business product, preferably patent-protected, in a huge potential market — will soon be eligible for investments from a vast new pool of smaller investors, many local.

“It means the local dry cleaner or bowling alley could ask his neighbors for an investment,” said Ken Kousky, president of Blue Water Angels of Midland and CEO of the Mid Michigan Innovation Center. “And those investors could walk by these businesses every day and see their investment dollars at work. The JOBS Act will provide a big financial boost for the Michigan economy.”

Kousky said prior to Wall Street’s meltdown, small business owners and entrepreneurs typically tapped the equity in their homes to finance growth. But after the housing market collapsed during the resulting recession, such self-funding schemes disappeared.

The devil remains in the details on how the middlemen collecting the funds and making the investments will be regulated, however. This as yet undefined “broker” role has prompted some to worry aloud that the JOBS Act will instead open the door to wholesale financial fraud.

“You can’t prevent bad people from doing bad things,” Torrence said. “We’ll still need self-regulatory agencies to provide oversight.”

He predicts investment banks may initially offer the intermediary service to their clients. But he also expects a new type of service company to spring into the crowdfunding space.

“You may see an opportunity for more boutique shops to become the go-to funding intermediary in the state of Michigan,” he said. “They’ll have to submit an application to the state to become a broker dealer.”

But how brokers will operate is what the SEC is now reviewing, said Seth Galligan, communications coordinator for Local First in Grand Rapids. Local First advocates for local business ownership and for community support of local businesses.

“Certainly there are potential risks to potential investors in the JOBS Act,” Galligan said. “The nuts and bolts haven’t come to light yet. The regulations are something that deserves a good solid look when we get them done.”

One group that could get involved are hedge funds — private, less-scrutinized investment groups, said Jeff Van Winkle, corporate practice group leader for Clark Hill PLC in Grand Rapids. Hedge funds had previously been barred from advertising for potential investors. They also don’t have the same reporting requirements or restrictions as do players in the much larger mutual fund market.

Van Winkle said the bigger issue solved by the JOBS Act that will have the most impact is the businesses that had come to Clark Hill looking for lawful ways to get the word out on their private placements now have the opportunity to openly bring investment opportunities to legitimate investors.

“The JOBS Act is like an angel network, but broader now,” he said. “And these investments don’t have to worry about complying with the ‘no public advertising’ provisions. Now there might be even more stringent requirements going forward. Some fraudulent efforts by some people to get investment dollars for some businesses that are not legitimate may benefit. But these activities go on today. So the question is: Will it go up because of the JOBS Act? I don’t think so.”

This story was written by Senior Technology Writer Mike Brennan. His day job is editor and publisher of MITechNews.com.

Read 1586 times Last modified on Monday, 17 September 2012 12:15

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