Maine Crowdfunding - Is Your Business a Good Candidate?
The following was authored by Gregory Fryer and Elizabeth Riotte and was originally distributed by Verrill Dana's Securities Law Group as a client alert.
The Maine Office of Securities has published a Maine crowdfunding rule that goes into effect on January 1, 2015. New Rule 523 – entitled “Rule Regarding Short-Form Seed Capital Registrations”1 – can be found at MOOS’s home page: http://www.maine.gov/pfr/securities. The rule allows a Maine-based company to seek up to $1,000,000/year of new capital through a broadly disseminated offering – such as through Internet social media sites, Internet advertising, a securities broker-dealer, or the company’s own website. The rule is somewhat fussy, and in each case requires that a registration statement be filed and cleared by MOOS before any solicitations begin. The short-form registration statement is built around a company business plan and a detailed set of financial statements, supplemented with a Q&A format disclosure document covering a range of topics. Securities can be sold under this registration only to Maine residents, and there is a $5,000/year cap on the amount any one person can invest (unless the person has sufficient wealth or income to be an “accredited investor,” as defined). All subscription proceeds must be impounded with a bank until a company-specified minimum dollar amount has been raised. The company must also specify a maximum dollar amount to be raised (not exceeding 3.33 times the minimum).
Who is a good candidate for using the new Maine crowdfunding rule? We will know better as people gain experience with this, but in our judgment the following factors will be important:
- Seeking to raise at least $150K: Smaller offerings are permitted, but with a smaller offering size it is difficult to justify the large amount of work needed to get the offering up and running.
- Willing and able to devote at least four months to the process: We don’t yet know how quickly the Maine Office of Securities will turn around a Fund-Me filing. The statutory period is 30 days, but MOOS has broad discretion to take more time if it feels it needs to. Without doubt, amateurish filings will take longer to process than well-constructed filings with good business plans. Once the filing is cleared by MOOS, the selling effort can begin. The selling effort will typically chew up a substantial period of time.
- Having a receptive set of prospective investors, such as:
- A devoted set of local fans who want to be part of the company’s success: Having an active, well-cultivated affinity group through social media (Facebook, Twitter, etc.) is an advantage in raising money in small increments from large numbers of people.
- A devoted set of customers who consider the company to be highly trustworthy and worthy of investment. Even if the business is not one with a huge social-media profile, if the company has a reputation for quality and dependability, an offering of securities (particularly, debt securities) could meet with success.
- A new venture with unusually high growth prospects, supported by a trusted lead investor or broker-dealer: Some lines of business have broad appeal as “hot” areas for investment. If the company has good management and is backed by quality players, a case can be made for soliciting funds from large numbers of potential investors. In recent years, these types of ventures have sought investment from wealthy “angel investors” and/or from “institutional investors.” Crowdfunding offers the possibility of a different – or even complementary – funding source for these kinds of ventures.
- A company that has recently been successful with “Kickstarter” type funding: A prior successful “in-kind” crowdfunding campaign (i.e. no offering of securities) is interesting evidence of customer acceptance and excitement. A company may be able to use that prior success to seek favor with potential investors.
- A venture that is a great candidate for “Kickstarter” type funding: A web-based solicitation based on a quirky but appealing short video could prove successful in seeking broad support through offers of financial rewards in lieu of (or in addition to) “in-kind” rewards.
- Possessing the following necessary additional ingredients:
- A CEO who is committed to the process: Persuading others to risk their money on your business is a very difficult and time-consuming challenge, and company management needs to display an abundance of patience and persistence.
- A willingness to disclose financial statements: If the company has operations in the prior year, it will need to publish with its offering circular at least one year’s worth of financial statements. If the maximum offering size is $100,000 or less, copies of year-end federal income tax returns will suffice; otherwise the year-end statements must be reviewed or audited by an independent public accountant. Regardless, the company generally will need to make future financial statements available to its investors. The more investors, the more people with access to the financial statements.
- A business plan that will survive scrutiny first by the Maine Office of Securities and then by prospective investors: The business plan must address the major things that could go wrong, while at the same time making a positive case for future cash flow.
- A flexible and persuasive case for uses of proceeds: The Maine Seed Capital Rule requires the business to set a minimum and maximum offering target. The company should be prepared to make the case that the minimum amount is enough to provide the business a good chance of success, and that the maximum amount can productively be put to good use in ways that should appeal to investors.
- A well-conceived financing strategy and capitalization structure: There is no substitute for good attorneys and good accountants in this regard. Maine crowdfunding could be pursued on a do-it-yourself-basis, but that requires lots of competent decision making in an uncertain environment, and makes it even harder to satisfy regulators and investors simultaneously. Also, having lots and lots of investors will complicate any company’s future, and so planning for a successful offering can be even more important than coping with an unsuccessful offering. Unless your company is going to be just a one-hit wonder, your strategy should be constructed in a way that will allow future rounds of financing.
Readers should be aware that offerings of stock and other securities are heavily regulated under both federal and state laws. Choosing between Maine crowdfunding and other possible routes for raising capital is a complex topic with important implications. Those having questions about the new Maine crowdfunding rule are encouraged to seek advice from legal counsel knowledgeable about securities laws.
For further information, please contact Gregory S. Fryer ([email protected]) or Elizabeth K. Riotte ([email protected]). Other articles of interest, may be found at Greg’s bio page under “Publications” (www.verrilldana.com/gfryer). ___________________________________________________________________________
1 The title comes from an underlying statute, enacted in 2014, but is something of a misnomer – the rule is equally available to established businesses as it is to those at the “seed capital” stage. Rule 523 might also become known as the “Fund-ME” Rule – based on the cleverly named cover sheet that accompanies all registration filings under the rule.