My niece, Kiki Karpus, donates small amounts of money to start-up and emerging businesses that she admires. You may recall that I blogged about the art director and graphic designer last month. Furthermore, her investments are not for financial compensation. Rather, she and other well-educated, young professionals are part of a burgeoning phenomenon called “crowdfunding.”
According to the U.S. Small Business Administration’s Blog, “Crowdfunding is a collective cooperation of people who network and pool their money and resources together, usually via the Internet, to support efforts initiated by other organizations.” SBA’s Blog cites Kiva as “one example of a hugely successful non-profit crowdfunding venture.” Instead of the “crowd” making donations as it would on Kickstarter, “Kiva requires that you repay the loan over time.” Furthermore, Kiva expects borrowers to pay interest on the money they borrow.
Neither of these concepts offers ownership shares to investors. If they did, federal and state securities laws would apply. The filing and disclosure requirements are extensive, costly, and in most cases, the investors would have to be “accredited investors.”
An individual accredited investor would need a minimum net worth of $1 million, excluding her home. Alternatively, she would have had to earn at least $200,000 during the two years prior to investing.
On April 5, President Barack Obama signed the JOBS Act into law. The Act permits entrepreneurs to raise up to $1 million in any 12 month period with much less stringent requirements. Moreover, non-accredited investors will be permitted to invest up to $2,000 each.
Notably, crowdfunding will not place any restrictions from acquiring debt, such as bank loans. “The entrepreneurs with newly-raised equity from crowdfunding will become attractive loan applicants,” says Mike Rozman, co-president of BoeFly, LLC. “Our premiere matchmaking website has over 2,200 member lenders that are eager to make loans to borrowers with lots of cash on their balance sheets.”
BoeFly’s lenders actively compete for quality applicants that have strong financial ratios and “equity raised through crowdfunding will substantially enhance their loan to equity ratio,” Rozman says. “It is one of the key financial ratios that lenders look at in their underwriting process.”
Last month, the SCORE Association and National CrowdFunding Association sponsored a webinar about the JOBS Act’s effect on crowdfunding. The presenters said that one hundred million American households are not accredited investors but they will become potential investors when the JOB Act’s rules are written.
The Securities and Exchange Commission is charged with writing the securities rules. The Federal Industry Regulatory Authority, an independent regulator for all securities firms doing business in the United States, is writing the crowdfunding requirements for licensed broker-dealers. It is anticipated that entrepreneurs will hire a broker-dealer to sell the securities and guide them through the crowdfunding process.
The process begins with the entrepreneur posting a business plan and equity offer on a registered investment crowdfunding portal. Potential investors will have a limited time to evaluate the offer and invest. Of course the quality of the business plan and attractiveness of the offer will weigh heavily on which investment the crowd will choose.
The investments will be held in trust by an escrow agent until the offer is fully pledged during the allotted timeframe. If it is fully pledged, the money goes to the entrepreneur after service fees are deducted. Alternatively, the funds will be returned to the investors.
The entrepreneur will transfer stock to the crowd through a transfer agent to complete the transaction.
“The JOBS Act opens the doors to entrepreneurs that would otherwise be shut out of the capital markets,” Rozman says. “BoeFly’s lenders are anxious to provide financing to recipients of crowdfunding equity. Qualified loan applicants on BoeFly get multiple offers to choose from.”
Jerry Chautin is a former entrepreneur, commercial mortgage banker and business lender. He writes and blogs about business and real estate for several publications and is SBA’s 2006 national “Journalist of the Year.” Jerry is a volunteer business mentor with SCORE, “Mentors to America’s Small Business,” offering free business advice. Post your comments and ask questions on this Blog or send Jerry an e-mail.
Copyright © 2012 Jerry Chautin — All rights reserved.