General solicitation starts Monday. Demo day organizers, startups, and other general solicitors get ready
On Monday the JOBS Act finally goes into effect, and startups as well as venture capital and private equity funds can advertise their fundraising efforts to the world. However, they still can’t sell stock to the world. The onus is on the companies to prove that their investors are “sophisticated.” They are simply allowed to talk publicly about it now.
Back when the rules of general solicitation (aka, advertising risky investments like startup stock) were announced, I wrote that it didn’t matter much for startups. All they have to worry about is filing an advanced Form D and verifying their investors. That requires jumping through a few more hoops than before, but my impression was that they’ll figure it out and all will be fine.
Since then, several startup advocates, including Naval Ravikant of AngelList, have spoken out against the new rules. Ravikant has argued that new requirements are dangerous for startups and that the punishment for violating them is too harsh.
With the new rules, startups must file an advanced Form D with the SEC fifteen days before they plan to solicit investors. That is a challenge for many startups, because the forms are very detailed and these companies are often so early stage that they can’t answer all the questions. If they have to update anything, they must re-file with the SEC. And every time they so much as publicly talk about fundraising, they have to include the same sort of legal jargon that public company CEOs are required to include. If mess up, they’ll be placed in a penalty box of sorts, where they can’t raise new funds for a full year.
(I’ll be interviewing Ravikant about this today at 1:00 PT for our PandoWeekly radio show. Listen along here.)
Beyond that, there is the issue of demo days. Several securities lawyers I spoke with this week said SEC will be carefully watching these events.
Prior to Monday, demo days have existed in a legal gray area, when it comes to the issue of general solicitation. Startups have not been allowed to solicit “unsophisticated” investors, i.e., the general, non-rich public. But they have done just that explicitly on stage for years at demo days, which host a crowd of actual investors as well as media and random community members.
“The SEC enforcement division has allowed (general solicitation to happen at demo days) by inaction,” says Joseph Bartlett, a securities attorney with law firm McCarter & English. “It has not gone out and gone after the issuers of these events for violating Reg D.”
But there is still confusion in the execution. Members of SEC’s advisory committee have been unclear, calling it a “gray area” themselves.
Today Dan Primack asked the key question: Do next week’s demo days recognize the new rules, or just proceed with business as usual? If they comply with the rules, they admit they’d been technically breaking the law before. If they don’t, they risk getting in trouble.
At least one program is already planning to recognize it. FlashStarts, an accelerator based in Cleveland, has organized its demo day on Monday morning, specifically to accommodate the rule change. The program will broadcast its demo day live over the Web. One of the program’s participants, Crowdtentials, even built a tool that helps verify that investors are sophisticated. So the company is clearly all-in on the new rules.
The CEO and co-founder of the program, Charles Stack, declares that the new SEC rule changes allow founders to use “all modern marketing techniques to connect with nearly nine million accredited investors across the USA.” Every little bit helps when you’re outside of a major startup hub.
In New York, the next demo day is ERA, scheduled for Wednesday, Sept. 25. Blueprint Health is the next day and SeedStart happens the following week. They are clearly thinking about the rules but not openly — all three programs refused to answer any questions about their upcoming demo days. Same goes for other programs, including Y Combinator.
From my understanding, most demo days will go about business as usual with some tweaks. One way I’ve heard that companies will play it safe is by not articulating exactly how much capital they’re raising. Most demos end with something like, “We’re raising $500,000 in seed funding, and we already have one-third of it committed from Angel Investor X.” If they cut that line out, it’s just an innocent pitch, and the fundraising part is simply implied. At least, that’s the hope. Nothing to see here. Move along.
To be clear, next week is not exactly “do or die” time. The rules are technically still in an open comment period, so once they are solidified, any ongoing general solicitations will be exempt from changes.
[Image via Thinkstock]