Regulation CF Update

Last Year, we discussed the SEC’s most recent attempt to implement Title III of the Jumpstart Our Business Startups Act (JOBS Act) through the establishment of a new rule, Regulation Crowdfunding (Regulation CF). Regulation CF became effective on May 16, 2016, and this February the SEC released a white paper outlining Regulation CF offerings initiated in the first six months (May 16, 2016-December 31, 2016).

To recap, Regulation CF allows issuers to raise up to $1 million over a 12-month period from individual investors. Issuers that utilize Regulation CF are required to utilize a funding portal or broker-dealer. Additionally, there are limits to the amount each individual investor can invest. Over a 12-month trailing period, investors with an annual income or net worth of less than $100,000 may invest, among all securities offered under Regulation CF, the greater of (i) $2,000 or (ii) 5% of the lesser of their annual income or net worth. Over a 12-month trailing period, investors with an annual income and net worth of at least $100,000 may invest, among all securities offered under Regulation CF, the lesser of (i) 10% of their annual income and (ii) 10% of their net worth.

From May 15, 2016 through December 31, 2016, there were 163 unique offerings (on a Form C) seeking a target amount of $18 million. While most of the 163 offerings are still ongoing, as of December 31, 2016, 28 offerings filed documents signifying completion (on a Form C-U). Those 28 offerings raised approximately $8 million. Here are additional takeaways from the first six months of Regulation CF:

Characteristics of the Offering

• The average offering set a target of $110,000. The median amount was $53,000.
• Of the 28 offerings that filed a Form C-U, issuers raised an average of $290,000 and a median amount of $171,000 for a total of $8.1 million.
• The average target duration for an offering was 4.5 months.
• Issuers offered equity in 36% of the offerings; debt in 20% of the offerings; and other security types such as units, convertibles, simple arrangements for revenue sharing (SAFEs), and other revenue sharing and membership interests in 44% of all offerings.

Issuer Characteristics

• The average issuer age was 28.7 months (18 months median). 21% of all issuers were incorporated less than three months before initiating an offering.
• Issuers had a median of three employees.
• The median issuer had $43,000 in assets and an average of $210,000 in assets, although 21% of all issuers had no assets.
• The median issuer had $0 in revenue. 60% of all issuers were pre-revenue.
• The average net loss of the most recent fiscal year was $147,900, and only 9% of all issuers generated positive income in their most recent fiscal year.
• The average debt/asset ratio was 5.2; the median was 0.7.

Intermediary Characteristics

• 21 intermediaries participated in Regulation CF offerings (13 funding portals and 8 broker-dealers)
• The top 5 intermediaries (Wefunder Portal LLC, StartEngine Capital LLC, Trucrowd Inc., Nextseed Us LLC, and Dreamfunded Marketplace LLC) constituted 71% of all offerings.
• The average fee as a percent of proceeds for funding portals was 5.1% and the median was 5%. The average fee as a percent of proceeds for broker-dealers was 7.7% and the median was 7%.
• Funding portals took a financial interest in 16% of their offerings. Funding portals took an average 2.4% financial interest in issuers, while broker-dealers took an average financial interest of 5.2%.

Regulation CF appears to be a fairly popular method of raising funds. Issuers utilized Regulation CF in 163 unique offerings in its first six months, compared to Regulation A+’s 147 offerings in its first 16 months. Given the average target amount is $110,000, and the average target offering timetable is 4.5 months, it appears that issuers are electing to utilize Regulation CF for quick access to relatively small amounts of capital.

From the data, we can see that the typical issuer fits into the definition of a startup company. The typical Regulation CF issuer has been in business for less than three years, zero revenue, little to no assets, few employees and moderate amounts of debt. Given the relatively low cost of raising funds (~5-7% intermediary fees), Regulation CF might be the cheapest or most effective method of raising capital until these small, up-and-coming companies can begin to generate revenue.

It will take quite some time to determine the success or failure of Regulation CF. From May 15, 2016 through December 31, 2016, 28 of the 163 offerings filed completion documents, reporting approximately $8 million in raised capital. We will continue to monitor the capital raising activity of Regulation CF as well as the outcome for the issuers that conduct offerings pursuant to Regulation CF.

Please feel free to reach out to us if you have any additional questions or if you think that Regulation CF could be a viable option for your investment offering.