Monday, May 5, 2014

Intrastate “Crowdfunding” – Thawing Frozen Capital Markets?

Benji's Blog by Benji Jones

The Deep Freeze.  This winter has been vicious.  Never-ending snow and icy roads leading to school cancellations, missed work and botched conference calls. Up until very recently we saw the claws of Old Man Winter scraping to hold out just a few more days against the sunny breezes and bright skies of spring.  This is unheard of in Raleigh, NC.  It’s been a frustrating winter, to say the least.

Benji Jones
For years entrepreneurs have faced similar frustrations in the quest to raise capital.  They claim well-established rules prohibiting the use of “general solicitation” and “general advertising” freeze them out of much of the market.  People are clamoring for the chance to use the web and social media outlets to not only promote their companies and ideas, but to raise the money they need to make those ideas come to life.  Initial excitement surrounding the “crowdfunding” provisions of Title III of the JOBS Act has waned.  It’s taking too long to get the rules from the SEC (it’s been two years!) and, weighing in at 500+  pages, describing them as “complicated” is an understatement.    

Roads are still icy and school is cancelled (again) -- the deep freeze seems endless.

Thawing Isolated to Local Areas. So, like winter bunnies, folks have gotten “creative.”  Over the past year or so, companies have begun using the (relatively unused) “intrastate” offering exemption under Section 3(a)(11) of the Securities Act of 1933 (and the related Rule 147 “safe harbor”) to “crowdfund” from residents in a particular state. The number of states that have adopted (including Kansas, Georgia, Washington) or are considering adopting (North Carolina, Florida and Texas) statutes and regulations permitting “intrastate crowdfunding” is snowballing.  Raising capital locally through the internet and social media seems to be a real possibility.

As with all novel solutions to complex problems, there are some nagging interpretive questions – spots of “black ice” to watch out for along this road.  For instance, Rule 147 stipulates that an offering may not be offered or sold to non-residents of the state in which the issuer resides and is doing business.   This begs the question of whether using the “world-wide” web to promote investments could ever really be viewed to be so isolated in nature.  Even if I’m only going to let people in Georgia invest, have I blown my exemption under Rule 147 if my tweet also reaches folks in North Carolina and Virginia (not to mention England or Brazil)? 

Roads are Clearing, But Watch Out for Potholes.  A few weeks ago, the SEC issued three compliance and disclosure interpretations (or C&DIs) which have the effect of clearing the road for using the internet and social media for intrastate crowdfunding.  But has one hazard been replaced with another? 

You see, the SEC said that companies can use a third-party internet portal to promote an intrastate offering if the portal implements specific measures to ensure that offers of securities are made only to persons resident in the relevant state or territory.  These measures include the use of disclaimers and legends to notify potential investors of the restrictions and actually limiting access to information about specific investment opportunities to persons who confirm they are residents of the relevant state.  But, the SEC also cautioned that an issuer’s use of its own existing website or social media presence to offer securities would likely involve offers to residents outside the state, making the offering inconsistent with Rule 147. 

So, based on this, it seems companies can hire someone else to help them crowdfund on the intrastate level but might not be able to do it themselves.  The SEC tells us that whether a company can “go it alone” under Rule 147 will be a “facts and circumstance” test.  That’s a fairly sizable pothole to watch out for.  As is the case with crowdfunding under the JOBS Act, it seems everyone needs a matchmaker . . .

More on that in my next post – in the meantime, if you have questions or comments, feel free to reach me by email at:

Benji Jones is a Partner at Smith Anderson, focusing on corporate and securities work (particularly private offerings). She also teaches at Campbell Law and lives with her family here in Raleigh.

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