Welcome back,
Today we will look at Regulation CF and how you can use it as an alternative to raising capital from VCs and Angel Investors.
A special thanks to our partner DealMaker for providing this great explainer.
Click here for our free legal templates.
Onwards and upwards,
Liam
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Background
In the past, private companies could only raise capital from what are called “accredited investors” - which typically are made up of the wealthiest 2% of Americans. In 2012, President Obama signed a landmark piece of legislation called The JOBS Act, which allows entrepreneurs to publicly advertise that they are looking for investors pre-IPO. Four years after The JOBS Act was signed a new exemption called Regulation CF went into effect. This exemption allows private early-stage companies to raise money from all Americans. Equity crowdfunding was born - startups could now use equity crowdfunding to turn customers into investors and raise up to $5 million.
Reg CF is a great alternative to getting funding via traditional VC firms, which - in today’s market - seems to be drying up.
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The Law
Requirements for a raise via Reg CF
- require all transactions under Regulation Crowdfunding to take place online through an SEC-registered intermediary, either a broker-dealer or a funding portal
- permit a company to raise a maximum aggregate amount of $5 million through crowdfunding offerings in a 12-month period
- limit the amount individual non-accredited investors can invest across all crowdfunding offerings in a 12-month period and
- require disclosure of information in filings with the Commission and to investors and the intermediary facilitating the offering
Keep in mind…
All Regulation CF raises must occur entirely through a single SEC/FINRA registered broker-dealer or funding portal. In addition, a company must draft and file a Form C with the SEC before proceeding with their raise. Form C is a document the company must file with the Securities and Exchange Commission (“SEC”) which includes basic information about the company and its offering and is a condition for making a Reg CF offering available to investors. It is important to note that the SEC does not review Form C, and therefore is not recommending and/or approving any of the securities being offered.
In a nutshell, Reg CF governs transactions taking place online through an SEC-registered intermediary. These are usually Financial Industry Regulatory Authority-regulated broker-dealers or funding portals (like DealMaker Securities & DealMaker Tech). The directive stipulates how much a company can raise through crowdfunding in 12 months; in late 2020, an SEC action raised the ceiling to $5 million from the original $1.07 million. It also limits how much individuals can invest across all crowdfunding offerings in 12 months – between $2,200 and $107,000, depending on their financial resources.
At the very least, issuers have to file a Form C with the Securities and Exchange Commission disclosing:
- bios of officers, directors, and owners of 20% or more,
- a description of the issuer’s business,
- the intended use of proceeds,
- the method for determining the security’s price,
- the target offering amount and deadline, and
- a discussion of the issuer’s financial condition and financial statements.
- There might be more requirements depending on how long the company has been in business and what its current revenue stream looks like.
While much of the capital raised via Reg CF is common stock, you can also go this route to issue preferred stock, debt, or hybrid securities. Foremost among these are simple agreements for future equity – or SAFEs – a form of convertible notes.
Eligibility
To be eligible for Reg CF issuance, your company would have to be U.S.-domiciled, in compliance with SEC, and have no current plans to engage in a merger or acquisition with an unnamed company.
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Takeaways
While many founders are used to the standard pattern of starting a company, raising a family and friends round, raising an angel round then raising successive rounds of VC, there are now many different ways to fund your company.
Crowdfunding is unique because it allows you to simultaneously find investors and customers. Many investors who back a crowdfunded company also become their most loyal customers.
If you are planning your funding consider all your options, including but not limited to crowdfunding, Reg A, Reg A+ and other new methods of funding directly from the public.
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