Monthly Archives: January 2012

White House Press Release: Legalize Crowdfunding

In a press release issued by the White House today to celebrate the 1-year anniversary of Startup America, President Obama again called on Congress to pass a Crowdfunding Bill that would allow entrepreneurs to Crowdfund Investments to launch new businesses and create jobs.

The announcement comes after the State of the Union Address in which President Obama made reference to easing the regulatory burdens on startups, small businesses and entrepreneurs.

The current regulatory system requires that entrepreneurs seeking to raise capital go through lengthy and costly  procedures.

These procedures are necessary for businesses that are raising larger, more traditional means of financing but for ideas coming from college business plan competitions or Startup Weekend Challenges they are a deterrent.

Since small businesses are our nation’s net job creators, we need to do everything in our power to get them the capital they need so that they can innovate and hire.

Crowdfund Investing is a zero-cost solution to the jobs crisis.  It doesn’t require government spending but easing of regulations that were written over 80 years ago.  These regulations while good in there intent are holding back the creative force of America’s entrepreneur.  Only with the advances in the Internet and Technology can easing regulations allow the crowd to step in where Wall Street and the Banks have left off.

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Obama Pressures Congress for Crowdfund Investing!

In tonight’s State of the Union Address the President said the following to a loud round of applause: “It means we should support everyone who wants to work and every risk taker and entrepreneur who espires to become the next Steve Jobs.  After all innovation is what America has always been about.  Most new jobs are created in startups and small businesses.  So let’s pass an agenda that helps them succeed.  Tear down regulations that prevent aspiring entrepreneurs from getting the financing to grow.  Expand tax relief to small businesses that are raising wages and creating good jobs.  Both parties agree on these ideas.  So put them in a bill and get it on my desk this year!”

Crowdfund Investing is the zero-cost government initiative he is discussing that can create millions of jobs!  The President gets it.  The House of Representatives gets it!  Now we have 2 bills in the Senate.  Let’s get this on the desk of the President NOW so that we can get back to innovating and creating jobs!

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You Can Crowdfund a Politician but you Can’t Crowdfund an Entrepreneur

On Tuesday January 24, 2012 President Obama delivered the State of the Union Address.  He highlighted the challenges our economy faces and the direction in which we need to take the country.   One of our nation’s biggest challenges he focused on is unemployment.  Crowdfund Investing (CFI) also known as equity-based crowdfunding, is a solution to the jobs crisis.  We originally pitched this idea to Washington a year ago. CFI allows the community to fund their local entrepreneurs to spur innovation, launch businesses and create jobs.  And it is one of the solutions the President supports.   Our framework is the basis for all the bills before Congress (HR.2930, S.1791 & S.1970).  And until we legalize it, we can’t help fund our nation’s net new job creators.

Politicians use crowdfunding daily.  It is how they fund their campaigns.  They go out to thousands of supporters and say, “Hey give me as much money as you can afford (capped, of course).  Collectively it will add up to something substantive so that I can talk about my goals, build my team, market my message and get elected (or re-elected).”  Entrepreneurs do the same thing (take an idea, make a proof of concept, build a company, and hire employees to market and grow) but only with accredited investors.  Here’s the ironic part.  It is legal for politicians to go to the masses but illegal for entrepreneurs to do the same thing.

When it comes to crowdfunding, entrepreneurs are held to a different standard than politicians. Yet politicians constantly look to them as the solution to our economic woes.  Why are there rules on how much money one has to make in order to give to an entrepreneur but there are none when it comes to politicians?  Do you know that 100% of Americans can give to politicians of their choice but only 5% of Americans can invest in entrepreneurs that can create jobs?   In full disclosure, the rationale (according to the opponents to Crowdfund Investing) is that Americans aren’t sophisticated enough to understand the risks inherent in investing in startups.  They don’t understand that there are bad actors in the marketplace.  They are gullible and believe the first thing anyone says.

If they don’t think people are sophisticated enough to decide how to invest a few thousand dollars in a venture, why do they think they are smart enough to choose the right candidates?   Why do we allow people the freedom to use their money as they wish when it comes to crowdfunding politicians but we don’t give them the same freedom to use their money as they wish when it comes to investing in startups and entrepreneurs?  Are we to assume that there’s no fraud in politics?  Should the supporters of Representative Weiner or Presidential Candidate Herman Cain get refunds?

This election season half a billion dollars will go to fund the campaigns of many a politician.  Imagine the impact we could have on our economy if those same dollars went into starting new business ventures?  Businesses create jobs; jobs provide income, which consumers spend in order to live.  Increased consumer spending stimulates the economy. This will get us out of the recession.

Our conclusion is simple.  If people are deemed smart enough to invest in the right politician, shouldn’t they be able to do the same, freely, in a business?   The time is now to change the security laws that were written 80 years ago.  The Internet can allow us to identify those ideas we deem worthy and fund them with the same dollars we spend on political campaigns. Crowdfund Investing is the mechanism to allow it all to happen.  Join our cause to make Crowdfund Investing legal in 2012!

Ps – Our statisticians performed some analysis on entrepreneurship based on data from the Census, the SBA and the Kauffman Institute.  If we legalize Crowdfund Investing over the next 5 years we can launch over 500,000 jobs that have the potential to create 1.5M jobs!

 

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Investor Protection in Crowdfunding – Why for 5 Years There Has Been No Fraud

When discussing the current crowdfunding taking place, the question is raised: “why are people doing this?” If only 43% of projects on Kickstarter succeed, why aren’t people crying foul but instead pledging more than ever before? ($9M in December, 2011 on Kickstarter compared to $4m in January, 2011). The answer is simple. They want to help someone they know. They want to support an idea. They want to be part of a community and they want some recognition for it. People are drawn to crowdfunding because they are capitalists. They admire entrepreneurs, and they know that sooner or later they may be entrepreneurs as well.

What are they basing it on? It comes down to trust and transparency. AirBnB is one of the nation’s fastest growing crowd sourcing startups focuses on renting other people’s floors, rooms, homes, yachts – even igloos. It is growing at a staggering 45% per year because people trust the system, vet the offerings and rate them as well. On the Internet, when your “wares are out there,” it is on the line for everyone to see. By being transparent, you build trust. Users check out the reviews, read what other people are writing and make careful and informed decisions. All of this is recorded and becomes part of a larger “self-­policing community” of profiles for both parties and a greater community rating system. These reputations today are carrying across the web from eBay to Tripadvisor to Rate-­a‐VC.

Other companies like TrustCloud aim to become a portable reputation system where their algorithm collects your online “data exhaust” – the trail you leave as you engage with others on Facebook, LinkedIn, Twitter, commentary-­‐filled sites like TripAdvisor and beyond – and calculate your reliability, consistency and responsiveness. The result is a contextual badge you carry to any website, a trust rating similar to the credit rating you have in the offline world. These are tools that can and will be incorporated into any online crowdfunding platform to help foster transparency and accountability.

We think any of you would find it hard to disagree with this statement, “the internet today has made the world a more transparent place. Your actions are followed and the opinions flow freely.”

According to the Sustainable Economies Law Center, “The success of crowdfunding sites demonstrates the desire of the public to support projects that they believe in. Enabling the additional motivation of possible financial return would only reinforce this economically healthy impulse.”

But crowdfunding goes beyond money, experience or trust. Michael Shuman, author of The Small Mart Revolution: How Local Businesses Are Beating the Global Competition, states “Crowdfunding has the potential to deliver the jobs Americans have been longing for. We know that small businesses, especially locally owned ones, are key for expanding the nation’s employment, and these businesses comprise (by output and jobs) more than half the private economy. And yet almost none of the $30 trillion we have in our long-­term investments (stocks, bonds, pension funds, mutual funds, insurance funds) touches these businesses. This is a colossal market failure, driven by obsolete securities laws. Moving even a few percentage points of our capital into local, small business could effect a stimulus home run.”

So let’s address all the naysayers. What if we carve out an exemption and it all comes tumbling down? What if we open the doors to defrauding thousands of people out of $80? Are these protectionists right? Will crowdfunding bring down the entire economy? To them we say, recall what happened in the Ireland Banking crisis of the late 70’s when the bankers went on strike and warned the public that the economy would collapse without a banking system. What happened instead was a peer-­to-­peer banking system where the local pubs became de facto banks, lending money to their customers. It worked so well that some people even joked that there is no better judge of character than a bartender.

Opening the doors to a limited exemption will not cause the fraud that Worldcom and Enron did to their employees and investors, or that Wall Street and Bernie Madoff perpetrated on the American people. It will create a peer-to-­peer system where communities become the de facto seed and early stage funders to entrepreneurs. And if you think about it, there is no better judge of character in the United States than your neighbor, friends, and family.

But there are more reasons to trust the crowd. First, they are massively diverse. Fundamentally the collective IQ of the crowd works like this. Every time a new member joins who has one or more superior facets of IQ, the collective IQ is raised by those unique facets. Second, the values that VC’s claim to provide will be disrupted by the crowd. A VC’s Rolodex is easily replaced by social networks (i.e.: LinkedIn). And the Rolodex of a few thousand crowd investors is much stronger than that of a few VCs. Third, expertise – it is disputable that the people who manage money bring more operational experience to the table than an interconnected crowd of people, many of whom are investing in you because they understand your business. And finally, valuation sophistication – the crowd has been putting their value on things since the beginning of time. Price anything too high and no one will buy it.

These naysayers act as if crowdfund investing were made legal, then every American will dump their savings into this. So either that makes us think they REALLY think we have the solution to kick starting our economy and are afraid of money not being invested traditionally OR they think that everyone for some reason will see crowdfund investing as lower risk than any other choice they make in their daily lives when in fact we all know this isn’t true.

Crowdfund investing is more than just money – it is facilitation, diligence, team building, and valuation. Most importantly, it is jobs.

That being said, we shouldn’t assume that “everyone” will bring expertise. Some will be a marketing engine for the entrepreneur and others will just bring a few dollars. Collectively, they will gather behind entrepreneurs they believe in, they will fund only those they are willing to risk their investment in and they will invest only if they think what they are being offered is fair. Trying to circumvent the crowd to bilk them out of a lot of little dollars isn’t going to be worth the time or energy of a shyster.

There seems to be a general understanding in Washington that government spending stimulates the economy, but that when it comes to letting the average American decide how he or she wants to spend and/or invest his or her own money, then we need government oversight.

We stand at a moment in time when we can use crowdfund investing to start an education process. Where the average American who wants to be part of the process (mind you there’s no forcing here) can be taught to think like an investor and ask questions of entrepreneurs like, “How does your idea generate cash? Do you offer a product or service I would buy? What skills/experience do you have to be accountable with my money and why should I trust you?”

In doing so, Entrepreneurs will learn how to communicate, be accountable and transparent, and investors will provide critical seed and early stage capital. Jobs will be created, innovation will be spurred and our economy will continue to grow.

We do not believe it is the role of government to limit how we can spend our money. Nonetheless, we appreciate their desire to protect our savings and so let’s have the discussion, “if you believe that $10,000 is too much for an American to risk, what is the smallest amount you believe I should be able to invest in my entrepreneurial friend without SEC scrutiny? If you are fine with $1, at what point are you uncomfortable?” That is the point whereby we should set the limit. I wouldn’t be surprised though, if we put it to a vote, the crowd would tell you “I’m an adult, I can make my own financial decisions.”

If the dollar amount isn’t what concerns you but the potential for fraud, even at $1, then we need to have a frank discussion about that.

As Kevin Lawton, author of The Crowdfunding Revolution says, “Fraud isn’t really the issue, ‘Failure’ occurs much more frequently in startups.” According to a Kauffman Foundation survey, approximately half the time you will lose all or some of your investment. Just as you diversify in the publics markets to reduce exposure, having a portfolio of varied investments solves failure in the crowd funding space. As we have seen from over $500 million donated to projects and ideas through crowdfunding already, while people are concerned about losing their money, they are more interested in helping someone bridge the gap, bring an idea to fruition, succeed, and in the end being able to tell their friends and family they had a part in the creative and entrepreneurial essence of what it is to be American. It’s like paying for a brick in a new park or baseball stadium to be engraved with your name.

“Fraud is just some noisy component of failure,” As Lawton says, “and at that, it’s going to be pretty hard to get away with much of it when there are millions of eyeballs worth of visibility and mechanisms which social networking enables to further vet entrepreneurs.”

And thus, the biggest problem we need to solve is education. Running a portfolio and understanding the risk-­vs.-­reward dynamics of investing in early phase companies is essentially an education problem. One way to solve the problem of unaccredited investors making investments, if you think of it as a “problem,” could be to make people ‘educationally accredited’. This can be done with a simple document, which explains the basics of the risk-­vs.-­reward curve of risk startups and the basic principles of a portfolio. It can be done in a few pages and can be sent out in paper form, transmitted via email as a pdf, or done online in a more scalable way via a platform. Before being allowed to invest, people would have to answer a series of questions that test their comprehension of the document.

Instead of pushing people down with a relentless assault on their intelligence, perhaps we should contemplate that people are adults and will make their own decisions. Our job should be to educate: education helps to create prosperity.

Education will teach the participants about analyzing and understanding risk. Nearly every company has a level of opacity. Even a brick-­and-­mortar restaurant business probably doesn’t give you their recipes. Tech startups don’t give you their ‘IP’, often not even to VCs. That’s how it is. Lack of complete transparency creates a level of risk, which is why we have varied portfolios. And within an open market, if an investor has access to two similar deals, one of which is more transparent, which do you think he’ll invest in? Concerns should be focused on the basics of investing, such as disclosures of the principal people in the company, details of the business model, use of funds and the securities offered.

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Answers to the Arguments Against Making Crowdfund Investing Legal – Part 1

There are two sides to every story.  The same can be said for those who support and those who are against Crowdfunding.  The proponents tend to be entrepreneurs, innovators, and America’s jobs engine.  They are the ones advocating in favor of allowing entrepreneurs to raise a limited amount of capital from their friends, family & community.  They are a fragmented group by nature, heads in the sand, focused on their businesses without deep pockets or the backing of special interests.  The major opponents to crowdfunding are the SEC, FINRA and NASAA.  They are government bureaucratic agencies with a vested interest in the current system, widespread oversight and deep pockets.  Their job is to protect and regulate the large, often complex, public markets.  However they tend to do so at the expense of small businesses.  Overly bureaucratic rules, we see time and again, have a trickle-down effect on small businesses that hamper growth.

The following chart summarizes the arguments for and against Crowdfund Investing.

 

Lobbyists Against CFI

Advocates for CFI

1) CFI will undermine important investor protections and prevent State Securities Regulators from enforcing meaningful parts of state investor protection laws. 1) CFI provides the same enforcement at the community level with hundreds of people, that the highly bureaucratic and costly process of only a few eyes does at the state level. Both State Regulators and users of CFI will actively be regulating the CFI industry: making sure the entrepreneur is real and making sure the investment opportunity is sound. Unless hundreds of people agree together no business will be able to raise their funding round. In addition, CFI users will provide something that State regulators can’t: the ability to decide pre-funding if an idea is worthy through an open dialog between and among the investors and the entrepreneur. Regulators can determine if enough information is disclosed but they cannot control the conversation that will either foster or deter investments. This conversation among the participants is the key element of investor protection that will be handled better by the participants, who have a vested interest in finding the truth, rather than the State Security Regulators.
2) Provisions of the Crowdfunding Bills would preempt the states’ authority to review offerings of “crowdfunded” securities 2) Current State-based regulations do not fit into the way business is done in the internet age.  The SEC will have strong regulatory power over all Crowdfund Investing Websites and only SEC-regulated sites will be able to conduct CFI.  This will limit who can crowdfund and provide a filter of crowdfunded securities.  If startups and small businesses are forced to file with all states, they would spend all of their time and the majority of the funds they raised in filing fees and regulatory process.  Streamlining the process with SEC oversight, while preserving the enforcement powers of states to pursue bad actors is what CFI proposes.  This will lead to more organization and structure for those companies that go on to larger, more traditional rounds of financing that require state review.
3) It is crucial that the states retain full authority to review securities offerings in this area, given the significant fraud in this segment of the market. 3) Before any entrepreneur can use any CFI platform they will have to submit to a fraud/background check.  No other form of current capital raising makes this mandatory.  Unless an entrepreneur’s fraud/background check comes out clean (we also advocate for having a minimum credit score), he won’t be able to raise capital on CFI platforms. The opponent’s argument misses the transparency and speed that the social Web provides in investor protection. If you are confused about transparency think of all the data we emit on the internet on a daily basis.  Any false moves can and will be uncovered and disclosed.  For easy examples think of what happened with Representative Weiner and actor Alec Baldwin – their actions were immediately discussed on the internet: this is the nature and power of Social Media.  Our framework also proposes a “one-touch” filing mechanism so that states can receive a “unified dataset” on a regular basis. This is the same data that they would seek in their review, and much of the same data found on a SCOR filing form. State Regulators fighting to be the ones to control this process will only make the process longer, more bureaucratic, and end up costing more for the same effect.
4) Protections provided by state review are even more essential because companies offering exempt securities under the Crowdfunding Bills will not issue ongoing reports like true public reporting companies. 4) We agree, there is nothing more transparent than communication. The reporting and communication that takes place for public companies is required because of the complexity of their organizations and broad spectrum on their investors.  Public companies need to file public reports so investors can see what they are doing. (Albeit we’d love to see a report of how many investors are reading a corporate’s 10k’s). Because CFI is based on community financing, the social interactivity between the entrepreneur and investors will provide the communication and transparency about what is happening with the company and money invested.  All this information will take place on CFI platforms, which will be open to the community investors as well.  Again, a degree of transparency much more acute than that of public companies. Because of the open nature of the SEC regulated CFI platforms that we are proposing, when one investor has a question, all investors will be able to see the question and the answer. Today, if an investor has a question about a public company chances are it will go unanswered or only addressed at an annual meeting.  CFI will provide immediate and continual reporting.
5) Further, as crowdfunding centers on community investment, the oversight should be vested in the regulator with the most direct interest in protecting that community. 5) Agreed, regulators need to provide the oversight for complex organization for which there is no other advocate for the investor.  In CFI platforms those most directly connected to the community are the entrepreneur and those investing in them.  The difference is now the community has a ‘role’ to play in Crowdfund Investing.  And that role is oversight.  Today more than ever, people aren’t haphazardly throwing money away.  They have seen too much fraud taken place in the “regulated” markets to make them overly optimistic and confident about what someone says they are going to do, nonetheless someone they aren’t directly related.  The oversight is going to be better regulated by individuals that know the entrepreneur and expect him or her to live up to what they say than a 3rd party regulator who is not related to the entrepreneur at all.  Community banks tend to have lower default rates because of the relationship between the banker and the lendee.  The same will be said for crowdfunding.
6) Strongly oppose provisions of the Crowdfunding Bills that would expand the registration exemption under Rule 506 of Regulation D by requiring the U.S. Securities and Exchange Commission to remove the long-standing prohibition against the general solicitation of these offerings 6) Prohibiting general solicitation had a time and place prior to the advent of the Internet and advances in Technology.  Before these advances it was easier for one-to-one fraud (the majority of fraud) to take place.  By restricting the communication channel down to two people it is easier to take advantage of unsuspecting individuals.  By opening up the field of communication to regulated CFI platforms where general solicitation can only take place we still maintain how people are solicited and restrict it to these platforms.  Controlling who and how general solicitation takes place this way will provide the investor protection that the ban on general solicitation was put in place to protect.

 

 

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