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Is State Crowdfunding The Answer?

Published: 6/24/2013 2:40:26 PM

A recent post on VentureBeat asserted that state-level crowdfunding initiatives will “moot” the recently enacted JOBS Act.

By way of background, the SEC, which has jurisdiction over making rules implementing the JOBS Act, has been slow to finalize those rules. In addition, the rulemaking it has finalized has created a virtual hairball of competing and conflicting rules that may make equity crowdfunding difficult or unprofitable from a business model standpoint for the crowdfunding portals.

Now, in response to this situation, certain states have decided to take matters into their own hands and are working on legislation to allow startups to raise funding within state. As with most everything, there are pros and cons to consider.

First, it is entirely rational for states to increase their competitiveness in order to grow and retain new and exciting businesses. It’s good economically (and good politically) for the sponsors of these initiatives.

Second, the states have always been “incubators” for a variety of competing legislative initiatives across all forms of public policy. Typically one or two formats will work best and other states, who watch to see the results of various policy approaches, are then fast followers to adopt the best approach that fits for their situation.

So, kudos to states who want to try to create a more fertile environment for connecting entrepreneurs and investors.

On the other hand, there are a number of potential pitfalls for market participants in state-only crowdfunding initiatives.

First, entrepreneurs looking to cast their net as widely as possible for a diverse investor base and potentially larger amounts of fundraising may not be able to achieve their financing goals in some of the smaller states or those that have less of an entrepreneurial investor class.

Second, legal considerations are paramount. The federal JOBS Act was created to facilitate a national market for such activity. The Issuer (the company looking for funding) will have to take extra steps to make sure that no out-of-state investor is investing in or being solicited by the offering. Failing to do so will subject the company and any participating or related individuals to federal liability.

Lastly, state “blue sky” legislation against fraud that applies to crowdfunding is specifically preempted by the federal act.  The Feds want to standardize and centralize penalties for illegal activities, which may complicate enforcement provisions at the state level.

I suspect that highly motivated states will probably find ways around the federal act. However, entrepreneurs should think twice before putting all of their eggs in their home state’s basket.

 

 

Don Jones
CEO, VentureDeal

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