Startups could face a “death sentence” one year ban from fundraising if they violate awkward new general solicitation fundraising rules, AngelList co-founder Naval Ravikant wrote in a letter to the SEC this week. Ravikant says the Regulation D and Form D changes that go into effect soon are designed for Wall Street, not Silicon Valley, and must change or they’ll harm rather than help startups.
Last month the SEC voted to implement some parts of the JOBS Act, including lifting the ban on General Solicitation. This allows startups and funds to openly advertise that they’re looking for investors, rather than quietly using private communication to solicit money. The theory is that this will make it easier for startups to raise money, build companies, and create jobs.
The problem is that the SEC also decided to add a bunch of red tape to the fundraising process too. This includes notifying the SEC 15 days prior to fundraising, filing all changes to written investor materials to the SEC, and providing verbose disclosures whenever soliciting funding. As TechCrunch contributor and Seattle lawyer William Carleton wrote, ”the SEC’s proposed new Reg D rules and filing requirements, if adopted, will make general solicitation more of a burden than an efficiency.”
Ravikant shares Carleton’s opinion, and delivered to it to the SEC in more forceful terms, hoping the rules can changed.
“We are concerned that the newly proposed Form D filing rules could create disastrous unintended consequences for the startup community…Rules that may be easy for Wall Street are a death sentence for startups…Since young companies are responsible for most of the job growth in the US, we believe this is against the spirit of the JOBS Act” Ravikant writes.
He explains that while Wall Street actors are used to this level of formality and have lawyers to navigate it, they would cause big problems for budding companies. Startups likely can’t afford expensive legal counsel to help them avoid breaking the rules, yet “the very severe penalty for non-compliance (not fundraising for a year) is a death penalty for a not-yet-profitable business.”
Startups are often in a constant state of fundraising as they test the waters of investor interest. That makes it tough to know when to file the start-of-fundraising notice, and could force them to turn away spontaneous opportunities. As startups often iterate quickly and evolve the messaging to investors by updating their websites, filing each of these changes with the SEC would be a huge hassle. And it would nearly impossible to fit a proper disclosure into a tweet soliciting investment.
Some of these rules are designed to protect inexperienced investors that would be allowed to fund companies if the equity crowdfunding portion of the JOBS Act is finally implemented. Right now only accredited investors, people with over $1 million in personal wealth, are allowed to invest. They’re generally tougher to dupe into sham investments. But if average Joes can invest, they may need greater protections afforded by tighter regulations.
The hope is that more focused rules that actually guard amateur investors could be put in place alongside true crowdfunding so the frictions described here wouldn’t be necessary.
After breaking down the threats to startups in his letter, Ravikant provided the SEC with a list of remedies:
- “Allow third parties to do the filing on issuer’s behalf via API” provided by sites like AngelList
- “Allow the company (or a third party like AngelList) to hold the financing materials so the SEC can access them” via a permalink URL to an updated set of materials
- “Only require legends and disclosures when terms are communicated” instead of in tweets, public statements, or other time fundraising is more casually mentioned
- “Drop the 15-day-in-advance before financing rule entirely” and use the existing file-after-the-fact system
- “Don’t impose death penalties for noncompliance. Instead, reduce the costs of compliance” and keep more Form D information confidential so startups don’t have to reveal sensitive information too early
- “Don’t be overly broad in the penalty application” by only punishing the violator, not surrounding businesses and funding platforms that support them.
The question now is whether the historically slow-moving SEC will budge on these rules, despite the sound logic behind Naval’s suggestions.