Crowdfunding 101— PART 2: Potential Disadvantages

Posted by on Jul 30, 2013 in Crowdfunding and Fund Raising

Ok, so last time in Part 1 we went over what crowdfunding is as contemplated by Title III of the JOBS Act and how crowdfunding can be useful.  We also discussed how true JOBS Act crowdfunding is not really an option right now until the SEC and FINRA adopt final rules clarifying the scope of crowdfunding potential. Before getting into the potential disadvantages of crowdfunding should the final rules be adopted any time during our lifetime, we would like to emphasize how late the SEC and FINRA are in their rulemaking efforts regarding crowdfunding possibilities: Given that it is already almost August 2013, the government is woefully behind in its end-of-2012 deadline for promulgation of crowdfunding rules– and, despite the potential disadvantages of the JOBS Act crowdfunding methods, much of the startup and entrepreneurial world is frustrated with the (not-so-atypical) regulatory clog. Now that the regulatory rant is over, we can go over the potential disadvantages of crowdfunding (despite the many potential advantages, there are many concerns): Potential Disadvantages of Title III Crowdfunding We can boil the potential disadvantages of Title III crowdfunding down to: Cost and Effort–  Many practitioners fear that offerings relying on the Title III crowdfunding exemption will be too costly and time-consuming for the very companies and investors the exemption purports to target.   EXAMPLE: 1) Disclosures:  Title III of the JOBS Act requires issuers to make an inordinate amount of disclosures.  Issuers will have to provide detailed descriptions of their officers and directors, ownership and capital structure, business and financial condition (including financial statements–some of which may need to be audited). 2) Liability:  Issuers may be held liable for material misstatements or omissions in their oral and/or written statements in a manner that is not too different from the potential liability arising out of a traditional SEC registered offering. 3) Attorneys’ and Professionals’ Fees:  In order to comply with the requisite level of disclosures, many practitioners believe that a substantial amount of legal and accounting help will be required and that a large portion of the funds raised will end up going to pay the fees associated with such services. 4) All or Nothing:  The issuer in a Title III crowdfunding offering must set a fundraising goal and, unless the company raises that specific amount (or more) from investor commitments, no securities can be sold.  This raises the potential risk that an issuing company can incur a significant amount of up front costs for absolutely no reason. Given the uncertainty surrounding the regulatory requirements of Title III crowdfunding, as well as the potential costs and burdens of compliance once applicable final rules are promulgated, alternative crowdfunding platforms have developed and will likely continue to do so in the future. For more information on alternatives to Title III crowdfunding, stay tuned for PART 3 of the Crowdfunding 101 series, and, as always, if you have any questions concerning raising capital, crowdfunding or otherwise, please seek the advice of an attorney who can take you beyond the 101 series into the practical world of implementation.