Today the SEC lifted the ban on general solicitation, which means investment funds and startups don’t have to raise capital in secret if they don’t want to. The rules banning general solicitation were in place long ago to protect “unsophisticated investors.” The SEC prefers they lose their money in the stock market. (Ha.)
This is great for hedge funds, private equity funds and venture capital funds and the publications that cover them: They can stop this charade of fundraising “scoops” from “sources familiar with the situation,” a style of story I wrote many times in my peHUB days. Firms want to be able to advertise their fundraising processes to potential investors. Now they can finally talk about it in the press and even buy advertisements for their new vehicles. Have at it, guys.
The impact on startups will be less pronounced. Startups have always walked a fine line when it comes to talking about fundraising. Technically they are not supposed to do it, but short of buying late night information airtime to advertise their investment opportunity, none have been investigated for generally soliciting. (If you know of any, please let me know.)
“Currently, good startups with good lawyers tend to steer clear of general solicitation. If they violate it, they don’t do it knowingly,” says Naval Ravikant, founder of AngelList.
“(General solicitation) was already happening on an informal basis, across social media and even in the media,” says Ryan Meyer, Founder & CEO at crowdfunding site AlumniFunder. “And a lot of equity crowdfunding sites have disregarded general solicitation rules in one way or another,” he notes.
A disregard for general solicitation was especially pronounced at demo days, where startups generally solicit a room full of investors and media to invest in their companies. Demo days exist in a sort of legal gray area — technically they’re illegal, and yet, none of the many demo days I’ve attended have been under threat of shut down by the SEC.
Important to note: Startups and funds still can’t fundraise from any random person. They have to raise from accredited investors, and the new SEC rules mandate that anyone who chooses to engage in general solicitation must take “reasonable steps” to verify that they are accredited. In other words, fundraisers must now prove to the SEC that their investors are sophisticated. Before the investors merely checked a box and that counted as proof. Hedge funds and later stage companies may be more willing to go through these steps, as they are used to spending more on legal fees and more time on fundraising, Ravikant notes.
But startups will likely stick with what they’ve been doing. Selling equity to the unsophisticated masses a la crowdfunding is still not legal. (Since the passing of the JOBS Act last year SEC has been dragging its feet on releasing rules for implementing it for over a year now and today’s ruling does not make that clear.)
So to answer the main question of this post, not much will change for startups. Within large startup ecosystems, there are established systems and networks in place for raising capital. And even those systems have already been moving online with the help of sites that vet their accredited investors — AngelList, Gust, and others offer these services.
It may impact companies outside of established tech ecosystems. “For tech companies, we 100% believe that the lift in the general solicitation ban will not have significant impact at all for startups,” says Ryan Caldbeck, founder and CEO of crowdfunding site CircleUp, which serves small consumes goods and retail companies. “In the tech world startups and small companies can get funding easily –from hundreds of venture firms, angel groups, incubators and other sources of capital.”
Wil Schroter, CEO of consumer and retail-focused crowdfunding site Fundable, echoed that sentiment: “Tech startups only represent one to two percent of businesses that get started each year,” he says. He believes the ability to openly solicit investors will have a big impact on young non-tech companies.
The one startup that this news affects the most might be Secondmarket. As Dan Primack pointed out last week, this news gives SecondMarket a sort of second life. The secondary shares company was forced to downsize after Facebook went public. But the company is now using this rule change as a catalyst for a new product, that will serve funds and companies looking to engage in general solicitation. Similar to the way AngelList and Gust vet the investors on their platforms, SecondMarket will help entities to vet the investors they’re generally soliciting to.
All the kinks have yet to be worked out in this rule change. The SEC is expected to release more details on how general solicitation will be executed in the coming weeks.