Since the new SEC regulations regarding our capital markets went into effect, we get many inquiries regarding the advance out-of-pocket costs pertaining to crowdfunding equity capital raises and Regulation A+ capital raises. Immediately following the posting of the new rules last November, our firm launched an extensive series of analyses and simulations to determine what these costs might be for an entrepreneur or commercial real estate developer seeking capital.
The Bad News – Raising Capital Isn’t Free of Cost or Risk
There is no free lunch under the new capital markets construct. Raising capital involves measured risk-taking and the investment of capital to raise still more capital. This is unavoidable as a crowdfunding securities offering (or a Regulation A+ securities offering) leaves the issuer to handle their own marketing and advertising.
Unfortunately, advertising platforms do not provide advertising contracts that offer terms of payment due when and if the offering closes. In addition, the due diligence reporting cannot be structured that way either, due to the inherent conflicts-of-interest these terms would create. All of these issues combine to require significant out-of-pocket cost commitments in order to raise significant capital.
The Good News – Cost of Raising Capital & Risk Definitely Look Better
The new rules and regulations provide entrepreneurs and developers with a whole new set of tools. Yes, these “tools” cost money to deploy but the good news is that these tools provide the opportunity to dramatically increase the probability of success odds owing to obtaining capital financing – much better than those attending bank financing or government-insured lending, not to mention venture capital or angel investor capital financing.
What you need to know about the rule changes…
The final rule (SEC Release No. 33-10884) created a whole new path forward for small businesses, medium-sized businesses and commercial real estate developers to obtain capital financing in an essentially-similar method to that of an initial public offering (or “IPO”) but without necessarily having to spend the money and time it takes to launch a public offering.
Why is the IPO comparison important?
Of all of the paths to obtaining capital financing for businesses in America, the IPO offers the highest overall probability of success odds (on average, only about 1 in 5 IPOs fail to fully subscribe the offering and are subsequently withdrawn). The new rule change allows for the use of broadcast advertising, news releases, public relations, media events and pre-offering funding presentations (something IPOs don’t get to do).
Financing is about the numbers…
The imputed probability of success odds attending this approach on an integrated basis approach 1 in 1.47. Compared to commercial bank loans (1 in 8.74), SBA loans (1 in 5.55) or credit union loans (1 in 4.77), crowdfunding offerings are a gut-cinch.
What do the rule changes mean in terms of available financing and costs?
The rule changes primarily impact the amounts you can raise under the Rule 4(a)(6) exemption (commonly known as “Regulation CF” or “Regulation Crowdfunding“) and other sections of Regulation A (commonly known as “Regulation A+”).
The end-result is the ability to undertake a public offering of up to $75 million of the securities of your choice – and you will be choosing equity securities! The change to the Regulation CF limit increased it to $5 million. This increase is the hidden gem in the entire 388-page final release.
Regulation CF New $5 Million Limit
The new $5 million limit is critical because there is no prior review of crowdfunding offerings – you simply file the forms and required disclosures and you can immediately launch the offering on a qualified intermediary platform.
Hidden Gem is Unbelievable Financial Investment Leverage for CRE Deals
The combination of no costly regulatory review delay (as is the case in Regulation A+ registration-exempt offerings) and the $5 million limit means the Regulation CF exemption can be used to raise a seed round of capital financing that includes funding to launch a much larger Regulation A+ offering of up to $75 million. In terms of financial investment leverage, this is positively unbeatable.
Regulation A+ Changes
The changes to Regulation A Tier I and Tier II registration exemptions are relatively minor – the focal point of interest being the increase of the funding limits to as much as $75 million. The requirement for prior review by SEC not being made any easier or regular in nature.
Tier I or Tier II filings have an indefinite review time and this is why the Tier I and Tier II registration exemptions were largely left unused as a result of the JOBS Act. With the increase of the crowdfunding limit to $5 million, this issue is no longer potentially the deal-killer that it used to be, as the $5 million crowdfunding may be utilized to jump start the Tier I or Tier II offering as the seed round. The value of this relief is incalculable.
The changes are definitely in favor of small businesses, medium-sized businesses and commercial real estate developers (and the final rule makes repeated note of the intention to provide a pathway for these market participants). In the end, the changes will mean more regulatory filing changes, but this comes with some pretty big carrots for those who take the time to compute the odds, then organize and execute a professional offering approach that integrates all of the available tools.
