Tuesday, December 11, 2012

Crowdfunding (a working paper, updated 12/16/2012, comments welcome)

Crowdfunding and Open Communication

Jin Kong



Executive Summary

This paper examines crowdfunding registration requirements under the current federal securities regulations as well as its soon exemption under the JOBS Act. This paper will also spend some time examining the JOBS Act’s Title III, the CROWDFUND Act’s structure, and will briefly consider the new liability section imposed on crowdfunding ventures exempt under the JOBS Act. There are some inherent risks to crowdfunding and the JOBS Act leaves much to be desired; but this paper focuses on one issue in particular—the missing “open communication” provision. In addressing this openness issue, this paper hopes to offer some suggestions as to how to balance the crowd information cascade problem with the social computing confidence so prevalent in web 2.0 technologies.


Table of Content

I.          Introduction
II.        Crowdfunding Under the Current Federal Securities Laws
A.        SEC’s Registration Requirements and Exemptions
1.         Crowdfunding and “Securities”
2.         Possible Exemptions
B.        The JOBS Act and the Crowdfunding Exemption
C.        Risks and “Open Communication”
1.                  New Liabilities and Inherent Risks
2.                  The Open Communication Provision
III.       Conclusion


I.          Introduction

Entrepreneurship is increasingly recognized as one of the major driving forces of economic development.[1] According to economists, entrepreneurial start-ups accounted for most of the positive net job growth in the United States during 1992–2005.[2] In addition to job creation, entrepreneurs and their start-ups also promote market efficiency by “correcting market errors or inefficient uses of market resources.”[3] Finally, these entrepreneurial start-ups also facilitate new knowledge in the market place by commercializing innovation otherwise unnoticed.[4]  
Funding for a start-up during its early stages is critical,[5] yet attracting outside capital during an entrepreneur’s start-up years is difficult because of two things: (1) there is an information asymmetry problem—informational failure means potential sources of capital would not be matched with a viable start-up idea; and (2) start-ups often lack collateral or operating experience, and are riskier by nature, making them incompatible with institutional investors.[6]
Given the funding gap, entrepreneurs around the world are now relying on the Internet to directly seek financial help by appealing to the “crowd.”[7] Since its re-inception for the information age, crowdfunding has successfully funded ventures, artists, and political campaigns in the last decade.[8] Crowdfunding is now a billion dollar industry.[9] According to a research firm, Massolution, “crowdfunding platforms raised close to $1.5 billion dollars in 2011, almost twice the amount as in 2010, successfully funding more than a million campaigns around the world.”[10] Reuters expects total crowdsourced funding to double again.[11]
Crowdfounding based in an equity-model is still illegal in the United States;[12] but crowdsourcing is an established innovation here. From open-sourced software projects, to the Human Genome Project, to even our search for aliens,[13] Americans have pursued difficult tasks with the strength, wisdom, and capabilities of a crowd. At the same time, however, we have one of the most well-regulated and efficient securities market in the world,[14] which is at odds with the idea of letting any Joe or Jane issue securities on the Internet freely without regulation.[15] Because small businesses and start-ups are inherently risky,[16] crowdfunding attracts less informed investors who may not have the sophistication necessary to deal with the elevated risk.[17] The crowdfunding concept is also relatively new thus fertile for easy scams where the market has not yet developed immunity. Potential problems would inevitably compound to produce exponential risk factors to the would-be crowd-investors; invariably, I suspect, the cost of capital via crowdfunding would skyrocket and eventually kill the funding model before it can do any good. With the current economic troubles still looming, an unregulated crowdfunding model only spells trouble.
Despite the concerns and delays, and with immense public and political support for crowdfunding of some kind,[18] President Obama signed into law the Jumpstart Our Business Startups (JOBS) Act on April 5, 2012.[19] Title III of the JOBS Act, known as the CROWDFUND Act,[20] carves exceptions to the securities laws to ease online access to capital through securities offerings for small or startup businesses. 

II.        Crowdfunding Under the Current Federal Securities Laws


Until the SEC adopts its rules under the JOBS Act, however, any securities offerings online will have to register under the federal securities laws absent any applicable exemptions.[21] Any crowdfunding efforts thus raise the issue of whether they are considered as offering of securities subject to the registration requirements of the Securities Act of 1933, and if so, is there any exemptions that would apply to the crowdfunding efforts in question.[22]

A.                SEC’s Registration Requirements and Exemptions

In general, securities sold in the United States must be registered. The Securities Act of 1933 (“’33 Act”) established the process of registration by three events: filing, effectiveness, and free writing.[23] Section 5 of the ’33 Act prohibits offers, sales, communication of prospectuses, and delivery of securities during the filing and waiting periods.[24] The ’33 Act defines “offer” in much broader scope than the contract law’s definition—offer is defined with respect to securities as “every attempt or offer to dispose of, or solicitation of an offer to buy” as opposed to contract law’s definition of an offer as a proposition that must be accepted.[25] Prospectus is also defined broadly by the ’33 Act as “any . . . communication . . . which offers any security for sale or confirms the sale of any security.”[26] Under this expansive regime, then, if an entrepreneur wishes to solicit funds for his or her business online, the mere act of such solicitation openly on the Internet constitutes as a public offering and such sale of securities to the public thus violates section 5(c) of the ’33 Act.[27] Even if the entrepreneur files a registration statement, but before the waiting period ends, when the entrepreneur display any material on the world-wide-web to potential buyers violates section 5(b)(1).[28]
It is possible, however, to list a crowdfunding effort online without violating the ’33 Act. Under two Supreme Court cases, Howey[29] and Reves[30], the primary test of whether there is an offering of “securities” is dispositive on the motives of the parties to the transaction. There is a presumption for considering crowdfunded ventures as securities offerings (by the expansive definition of “offers” and “prospectuses”), but the presumption is rebutted when it can be shown investors intended something entirely charitable in nature and expect nothing outside of a determinative and nominal return, either as consumable products or bears no interests, that are based in the success of some third-party ventures.[31] If the presumption cannot be rebutted, then crowdfunded projects (before SEC adopts its final rules under the JOBS Act) will have to comply with the SEC’s registration requirements unless it can fit into one of the existing exemptions. But as we shall see, crowdfunding, as how the market intends to use it now to fund new and small ventures, does not fit so easily into any existing SEC exemptions. It requires separate treatment; times are simply changing, the law should as well.
1.                  Crowdfunding Models within the Meaning of “Securities”

While “securities” mean different things in different federal statutes, the relevant inquiry of “securities” within the context of crowdfunding starts with the Supreme Court case SEC v. W. J. Howey Co., (where the Supreme Court defined an investment contract to constitute “securities” as based on investment of money in a common enterprise with an expectation for profits solely from the efforts of the promoter or a third party).[32] Subject to the federal securities laws, then, there are at least four crowdsourced fund-raising models to consider: (1) the donation model, (2) the reward and pre-purchase models, (3) the equity model, and (4) the lending model.[33]
First, a strict crowd-donation model where the contributors expect no profit whatsoever is outside of the Howey’s definition of securities.[34] Intermediaries such as Kickstarter should be able to operate its project-based investments without triggering SEC registration requirements so long as contributors expect nothing in return for their donation, even if there are some nominal rewards involved.[35]
Second, the Supreme Court specifically carved an exception for the reward or pre-purchase category in United Housing Foundation Inc., v. Forman by stating that if “a purchaser is motivated by a desire to use or consume the item purchased . . . [then] the securities laws do not apply.”[36]
Third, if Kickstarter’s crowdfunded projects propose a transaction of returns in equity, such as capital appreciations on business stock or earnings, then they are offering securities and therefore subject to the SEC registration requirements.[37] If Kickstarter projects offer a partnership take, then they are within the meaning of “securities” for the purpose of SEC registrations.[38] Even if the projects do not involve businesses and are sponsored by individuals, do not mention any such words as “stock,” “dividend,” “interest,” or “partnership,” but are an investment of money in a common enterprise with an expectation for profits solely from the efforts of the promoter or a third party, the Howey analysis still applies.[39] Crowdfunding is by definition a common enterprise, therefore if the contributors expect profits of some sort by the virtue of the fundraiser’s or third party’s effort then the crowdfunding venture constitutes as an offering of securities.[40] However, if the project only offers a repayment, even in the whole invested amount, but there is no expectation of return of additional profit of any kind, it is beyond the Howey’s definition.[41]
Finally, if the crowdfunded projects are structured as a loan, the Supreme Court has applied a different analysis.[42] The Court begins with a rebuttable presumption that every note is a security;[43] however, the presumption is defeated if it can be shown that the note in question bears a “strong family resemblance” to list of exceptions made by the Second Circuit in Chemical Bank v. Arthur Andersen & Co., and that it must be added to the list of exceptions.[44] The Supreme Court, in Reves v. Ernst & Young, applies a four factors test to see if there is sufficient sui generis family resemblance.[45]
Reves’s four factors are: motivations of the seller and the buyer, plan of distribution, expectations of the investing public, and other regulatory considerations.
Under the plan of distribution factor, crowdfunding, with the promise of interest returns on loans, would be labeled as securities.[46] Under the Reves analysis, loan notes do not have to have a particular market; rather, it is sufficient if the loan notes are simply offered and sold to a broad segment of the public even if there is no established market to trade the notes.[47] The Internet makes crowdfunding possible by virtue of offering the opportunity to a “broad segment of the public” and it’s hard to see how the plan of distribution factor could be weighted in favor of crowdfunding as something other than securities.[48]
Reves did not clarify the “expectations of the investing public” factor but the Ninth Circuit has interpreted this factor to mean “whether reasonable member of the investing public would consider these notes as investments.”[49] So if the investors were led to believe they are to receive returns on their investment, it does not matter how the facilitators dress up the crowdfunding scheme, the offering loans would be considered securities.
As for other regulatory considerations such as preemption, crowdfunding loans as far as they are uncollateralized and uninsured, are not regulated in any other way.[50] It’s hard to see a situation where this factor of the Reves test would help crowdfunding loans escape securities regulations.  
Thus the most determinative factor with respect to crowdfunding triggering the current securities laws, is the motivation behind the loan transaction. If the seller’s motivation is to raise money for business or to finance investments and the buyers are interested in the profit generated by loaning money to the seller, the instrument is likely to be a “security” and subject to the existing securities registration requirements.[51] If the loan is for the “purchase of a minor asset or consumer good, to correct for the seller’s cash-flow difficulties, or to advance some other commercial or consumer purpose,” then the loan is probably not a security.[52] Here, the burden is high to establish the motives of both seller of the notes and buyers of these notes to escape the definition of “securities;” especially if parties decide to litigate: establishing seller’s motives to solicit funds online is simple, but if the buyers are suing, they are likely to claim motives for the profits of seller’s business or investment. Since the presumption is in their favor, it’s hard to see how seller of the loan notes in a crowdfunded model can escape the SEC rules.   
2.                  Possible Exemptions

“Offerings of securities must be registered with the SEC unless an exemption is available.”[53] But registration with the SEC is simply too expensive and time consuming for the start-ups.[54] There are ways to get around the SEC delays, but they too are “costly, burdensome, and do not translate easily to equity crowdfunding.”[55]
There are other exemptions to the SEC registration requirement, but since they are not specifically designed for crowdfunding they too are not conducive. Two Regulations make possible exemptions available to crowdfunding ventures: Regulation D (Section 4(2), Section 4(5), Rule 504, 505, and 506) and Regulation A. While crowdfunding can be stretched to fit into these categories, the process would either render crowdfunding ineffective and undesirable, or else the process would not escape registration requirements regardless. In the following sections, we briefly examine how crowdfunding would fit into each of the potential current exemptions.   
Section 4(2) of the Securities Act exempts private offerings.[56] However, the advantage of crowdfunding is its appeal to a public “crowd”; even if an intermediary can solicit enough of a “private crowd” to a private site to meet the funding challenges, investor sophistication still will determine if the offering is exempt from securities registration rules.[57] The cost of finding enough sophisticated investors and attracting them to a private site is prohibitive and defeats the purpose of crowdfunding by small investors in public forums; even if Section 4(2) exemptions are available, crowdfunding model could not fully utilize the “crowd.”
There is a Safe Harbor provision to Section 4(2)’s private offering exemption: Rule 506 of Regulation D.[58] However, 506 requires that the contributors be “accredited investors” or meet the sophistication requirement.[59] Rule 506 has the same problem with crowdfunding as Section 4(2) does: sophisticated investors are just not the intended target-demographic for crowdfunding small ventures where the investigation cost is much more than return on investment initially.
The 506 Safe Harbor does offer a “general advertising” exception to the “private” offerings that could open a door to online crowdsourcing, but the SEC understands this too only applies to preexisting relationships (the SEC takes the position that “any solicitation of an investor with whom the issuer or its sales representatives do not have a preexisting relationship violates the general solicitation restriction”).[60] Having a pre-existing relationship limits the application of crowdfunding online to a mere communication tool as opposed to a substantial funding facilitation tool.
Section 4(5) of the Securities Act allows investment interests offered to accredited investors provided that there is no “advertising or public solicitation.”[61] To try and fit into this exemption, crowdfunding online will have to give up its substantial advantage of social marketing and peer-to-peer information relay. It would reduce any meaningful platforms of online crowdfunding to a mere communication tool, (one which can be easily replaced by a combine use of emails and other communication applications) as opposed to a true funding facilitation tool (attracting potential investors, provide peer-verification, peer-education, and meaningful investment information in a single platform open to the public).
Rule 505 exempts offerings of up to $5 million and does not restrict the pool of contributors to accredited or sophisticated ones.[62] But Rule 505 does prohibit general solicitation[63] and limits the number of contributors per funding request to thirty-five, which makes it rather less of a “crowd” for funding purposes.[64]    
Rule 504 exempts funding requests not exceeding $1 million in any 12-month period, but there is a general solicitation ban, as it is in Rule 505 and 506, unless the offering is exempted under state laws.[65] Again, a ban on general solicitation creates obstacles to fully leverage the power of the Internet to crowd small unsophisticated investors together to help start-ups.  
The Commission also makes available a mini registration process for “small” enterprises. Regulation A does not prohibit general solicitations and “is available to offerings by non-reporting companies of up to $5 million.”[66] Even though this mini registration is less expensive than a full scale SEC registration for public offerings, it too is much too expensive for many start-ups this paper is considering.[67] If a company is able to meet the cost demand, it is likely to have an established financial track to attract other types of investment help from institutions. We are concerned with companies that are much smaller and need much help from the public.    
B.        The JOBS Act and the Crowdfunding Exemption

A crowdfunding model of business creation is much needed; however, not fitting into any one of the existing exemptions, crowdfunding faces entry barriers from the existing regulations. The Obama Administration enacted the JOBS Act hoping to remove those entry barriers and help small business and new enterprises to meet their funding gap. “Title III of the JOBS Act, known as the CROWDFUND Act, creates a new federal securities law exemption for crowdfunded securities offerings.”[68] It adds a new section to Section 4 of the 1993 Act, which exempts certain offerings from Section 5 registration requirements.
There are four basic requirements to fit into the new exemption: total aggregate limit, individual investment limit, qualified intermediaries, and disclosure.  First, the new Section 4(6) exempts from Section 5 registration requirements “transactions involving the offer or sale of securities by an issuer . . . provided that . . . the aggregate amount sold to all investors by the issuer . . . is not more than $1,000,000.”[69]
Second, the maximum securities issuance to any one investor depends on the investor’s income or net worth level. If the investor has a net worth or annual income more than $100,000, then she is capped at the lesser of 10% of her annual income or $100,000 to invest.[70] If “either the annual income or the net worth of the investor is less than $100,000” then the individual investor is capped at “the greater of $2,000 or 5 percent of the annual income or net worth of such investor.”[71]
Third, the transaction must take place through an intermediary that meets the requirements of Section 4A(a) of the Securities Act. Section 4A(a) thus creates a new category of regulated entity branded as a “funding portal” (“as defined in section 3(a)(80) of the Securities Exchange Act of 1934”)[72] to allow intermediaries that are not brokers to facilitate crowdfunded offerings. The intermediary must “ensure” that each investor receives investor education pursuant to the Commission’s final rules; “affirms” the investor understands the risks and that s/he can bear such a loss; “take measures” to reduce fraud in accordance with SEC rules; obtain background and securities enforcement checks for anyone holding more than 20% of the outstanding equity of the issuing company; file information provided by the issuer with the SEC; “ensure” delivery of funds only if the capital goal is reached and allow cancellation of investment in accordance with SC final rules; “ensure” the aggregate amount limit is not breached; protect the privacy of information collected.[73] The intermediary must also not compensate the third-party for investor referrals and refrain from having a financial interest in the issuer.[74] The SEC is empowered to add other appropriate rules “for the protection of investors and in the public interest.”[75] (As we shall see in later sections of this paper, the SEC will need to promulgate at least some rules to empower the funding portals to prevent an information cascade problem while taking advantage of the wisdom of the crowd.)
Finally, issuer must meet Section 4A(b) annual disclosure requirements.[76] To meet the 4(6) exemption requirements, the issuer will need to disclose company contact information, ownership and capital structure, business description and plan, financial condition including any other any other offerings the issuer has made within the last 12-months.[77] The issuer must also disclose the targeted amount, terms of the offering with modification provisions, deadline for reaching that target, the intended use with respect to the amount targeted, price to the public and method of valuation.[78] In addition, the issuer must also keep regular updates as to reaching target funding goal and give reasonable opportunity to the investor to rescind the commitment.[79] Risks relating to minority ownership and corporate actions must also be disclosed.[80] The Commission may also enact any rules for the protection of investors or to promote public interest.[81]   
The Commission has until the end of this year to enact rules under the new law, but the speculation is that it will not meet this deadline.[82] Once the SEC adopts its rules under the JOBS Act, however, entrepreneurs issuing securities for their start-ups will enjoy exemptions to SEC registration requirements if they meet the bounds of the JOBS Act and SEC issued rules.[83] Their offerings must be done through qualified intermediaries (‘funding portals”); and existing intermediaries, such as Kickstarter, will have to comply with any final SEC rules.[84] This will spur a generation of investors, brokers, and enterprises. The hope is that the economy in general will recover through new enterprise formation—jobs will grow, funds will flow, and companies will again produce to stimulate the economy. But the Act has its shortcomings;[85] and with those shortcomings, we will consider, in the following section, potential synergies between utilizing the “crowd” in this information age and how information can be structured to employ the crowd to minimize risks and maximize growth.   
C.        Risks and “Open Communication”
The targeted investors of the new 4(6) exemption are not sophisticated investors with resources and expertise. The whole point is to make investments small and available to a wider public audience; to pool together a “crowd” to help worthy start-up ideas. Since the risk/return ratio is disproportionate, the incentive for individual investors to do costly investigation on accuracy of the issuer information is small. Without any safeguard, it’s relatively easy for fraud to occur. Section 4A(a) puts disclosure duties on the issuer and puts a significant burden of verifying information and “ensuring” investor protection on the intermediaries.[86] In addition to existing SEC liability rules such as 10b-5, the Act also creates new liability requirements applicable only to Section 4(6) offerings.[87]  
1.                  New Liabilities and Inherent Risks

Section 4A(c)(2) of the Securities Act states an issuer shall be liable if
“by the use of any means or instruments of transportation or communication in interstate commerce or of the mails . . . makes an untrue statement [written or oral] of a material fact or omits to state a material fact . . . necessary . . . to make the statements . . . not misleading . . . .”[88]

Any purchaser of “a security in a transaction exempted by the provisions of section 4(6)” may bring action against an issuer for violating Section 4A(c) or any other liability provisions of the SEC rules.[89] Professor Bradford pointed out that this language may bar secondary offerings from invoking this Section.[90] This means Fraud on Market reliance is not available and actual reliance must be established. The Act does lessen the reliance standard by incorporating negative causation defense: for liability to attach, the issuer must fail to show the loss resulted from “something other than the fraud.”[91] The issuer also has the burden of proof that s/he “did not know, and in the exercise of reasonable care could not have known, of such untruth or omission.”[92] Liabilities under Section 4(6), then, is entirely defense driven; the plaintiff must allege fraud and it is up to the defense to say that it is not.
            But there are problems: if the issuer can reasonably establish the loss was due to something else other than fraud, then s/he is not liable; although there is no scienter requirement in pleading (thus hinting at a higher standard of proof necessary to rebut the presumption), if the defendant issuer plays dumb, claims no knowledge, and offers fraudulent proof to rebut the presumption, then unless some smoking gun evidence there is doubt for liability to attach. (“[C]ould not have known” suggests likely an objective standard on the defense’s burden, but can the defense mitigate the wrong-doing under the “something other than the fraud” element? Causation is an elusive thing, after all, can’t the issuer point the fingers and say “yes we knew, but it was ultimately the intermediary’s duty to alert us this is a material problem”?) It is the intermediary who must ensure investor education and risk disclosure, therefore it is reasonable to argue the intermediary is in the best position (at the lowest economic cost) to judge what is “material fact required to be stated or necessary in order to make the statement, in the light of the circumstances . . . not misleading.”[93]
There are also inherent risks: given that the targeted investors are small and unsophisticated, probably do not vest the information on its own, and probably can’t spot fraud as a professional would, they invite the would-be fraudsters on the readily accessible Internet. The new breed of intermediaries will also likely to include new broker players with small capital and expertise and no broker license. If the SEC rules are too relaxed, or if contributory negligence may mitigate, without a scienter requirement the deterrence of fraud is not likely served under the new exemption. Rather the innocent negligent party may end up paying for part of the wrong-doing.
            There are other issues Professor Bradford raised. For example, Bradford notes individual investment limits are too high, the Act needs a “substantial compliance rule,” and there are uncertainties with respect to “funding portals.”[94] From technical errors to interpretation issues to integration issues, Professor Bradford notes the rough road ahead.
2.                  Crowdfunding and the Open Communication
Leaving those troubles aside for the SEC to sort out in its final rules, this paper focuses on one of the particular troubles Professor Bradford noted: that there is not an “open communication” provision in the finally enacted JOBS Act. Professor Bradford notes: “[t]he new exemption omits a crucial element of crowdfunding—an open, public communication channel allowing potential investors to communicate with the issuer and eachother.”[95] “Congressman McHenry’s and Senator Brown’s bills each required open communication channels, but that requirement was excluded. . . .”[96] It is not clear why the finally enacted JOBS Act did not contain an open communication provision, but there are distinct advantages and disadvantages of an open communication requirement.
According to Professor Bradford, an open communication provision will help crowdfunding sites to take advantage of “the wisdom of crowds,”[97] allow investors to communicate particular knowledge about an offering to other investors thus better inform investors,[98] and allow investors to crowdsource monitoring thus relieving the burden and cost of monitoring from just one investor or the funding portal.[99] The problems associated with open communication include: group-think leading to an “information cascade” problem (“deliberative discussion ‘is the enemy of collective intelligence because it reduces diversity’”)[100], and spam or fraudulent comments increasing the information cost.[101] 
The SEC, in its final rule making, must address the cascade issue, spammers, and fraudulent comments, while preserving the openness of crowdsourcing. If the SEC were to leave the void unfilled, the risks of spammers, fraudsters, and clever marketers (such as the Circle City Card Co.) taking advantage of the system becomes quite real; but if the SEC promulgates a final rule regarding “open communication” that is too elaborate or skims away from the intended purpose, it risks the market turning away from crowdsourcing all together.
Spammers are easy to deal with; we have seen enough of them to know they are spams. The SEC can simply enact a rule to allow funding portal to remove them as the crowd reports them. The investigation cost should be relatively low and there is little risk of cascading problem here. Dealing with fraudsters is bit trickier. What if the fraudster is not the issuer and is not aiming to defraud the crowd but to sabotage competitors? In such an instance, they are not subject to the new liability provision 4A(c)(2) since the bad actor is not the issuer. The SEC can either impose a positive duty on the funding portals to censor accordingly but limit the power of that censorship to actual knowledge or reasonably certainty of fraud; or the SEC can impose other fraud provisions, such as rule 10b-5, on the fraudsters to deter and give rescission remedies if the fraud is material to the transaction. But the deterrence rule is only useful if enforcement is simple and unburdensome. Enforcing rule 10b-5 on any and all potential misstatements by the crowd requires a lot of investigation cost and time, both of which neither the SEC nor the funding portals themselves can afford. (Note it is entirely possible for a venture competitor to register as a user/investor, put in the required, but small, amount of investment, and then speak recklessly about the issuer’s venture; the probability of this occurrence is high and the proportion of the damage too great—an economic balancing analysis will show these multipliers will outweigh any benefits that may come with incorporating fraud provisions such as 10b-5 to apply generally.) The SEC will need to consider if it is better to leave the power of censorship in the hands of funding portals subject to some benchmark from the “wisdom of the crowd.” This leads us to the cascade problem.
The information cascade problem originates in the authenticity of the crowd. Because the crowd is not authentic, fraudulence acts like an infectious disease. According to James Surowiecki, “group judgment is most likely to be accurate if each person’s opinion is not determined by the opinions of those around them. . . . ‘The more influence a group’s members exert on each other, and the more personal contacts they have with each other, the less likely it is that the group’s decisions will be wise ones.’”[102] The crowd acts like a loaded gun in a Russian roulette—one corrupted member of the crowd can send the crowd to a frenzy of fear thus impeding legitimate ventures; before too long, the market will realize the problem and lose confidence in the crowdfunding market place entirely.
This problem is nothing new. We see this in disputes and mob rule mentalities and it originates in a lack of authentic information, compounded with disparate and relative point of views, distorting a portion of the population to believe one thing and the remaining believing in another. In general, there is no real solution to the cascade problem aside from obtaining more information and allowing negotiations led by third party neutrals to occur with whatever information is available.
In the crowdfunding instance, the party most capable of burdening the cost of information is the funding portal. The portal will already have basic information about its users and can lay a baseline in fraud detection. These funding portals will also already be third party neutrals and can act as such in the negotiations for suitable outcomes. The SEC will need to empower the funding portals to investigate and act as mediators in a potentially fraudulent scenario. The funding portal should have some basic censorship power (thus limiting the “openness” of the crowd) in limiting exposures of bad information that can potentially cascade the market. Here, the wisdom of the crowd is restricted to inputs but does not carry any decision making power (outputs). The funding portal will have to do most of the lifting and distinguish what is real and what is fraud, but if the censorship power of the funding portal goes too far, we risk potential internal corruptions. So the SEC will have to balance giving power to the funding portals and giving due consideration to the crowd. Perhaps making rescission remedies available and letting the funding portals burden the cost of such rescissions will deter them from corrupting internally.     
3.                  Conclusion

In both of Professor Bradford articles published in 2012 regarding crowdfunding, he argued for the advantages of an open communication provision: it reinforces market confidence and serves to advance the goals of the JOBS Act. We also note that the U.S. securities market is efficient because it is well regulated, but regulation themselves do not bring efficiency. Professor Georgakopoulos noted that there is a confidence coefficient “generated by [a] strict securities fraud regime.”[103] This confidence reduces fear of fraud and thus the United States enjoys a lower cost of capital. The goal then is to inspire confidence and lower the cost of capital. The SEC should be mindful of the confidence coefficient and the inherent power of open communications in magnifying that confidence. The balance, then, is between having a deterrence regime against the cascading problem via empowerment of funding portals and empowering the crowd to make wise decisions about what information to process via these funding portals. In other words, the JOBS Act is not a success yet, not until the funding portals receive the proper attention from the SEC as the principal agents in making information available to the crowd and at the same time, held responsible for the “wisdom of the crowd.”  



[1] Haifeng Qian, Kingsley E. Haynesb, The Small Business Innovation Research Program as Entrepreneurship Policy, (Working Paper) (August 30, 2012) available at: http://ssrn.com/abstract=2140096.
[2] Haifeng Qian, Zoltan J. Acs, Roger R. Stough, Regional systems of entrepreneurship: the nexus of
human capital, knowledge and new firm formation, Journal of Economic Geography 1-29 (2012) (referencing data from Haltiwanger, et al., Who create jobs? Small vs. large vs. young, (NBER Working Paper, w16300.) (2010).).
[3] Qian & Kingsley, at 2.
[4] Id.
[5] E.g., Mario P. Borini, Give Small Business the Tax Break They Deserve, Bus. Wk., June 18, 1984, at 11.
[6] Steven Bradford, Crowdfunding and the Federal Securities Laws, 2012 Colum. Bus. L. Rev. 1, 101-03 (2012); see also Armin Schwienbacher & Benjamin Larralde, Corwdfunding of Small Entreprenurial Ventures, book chapter forthcoming in Handbook of Entrepreneurial Finance (Douglas Cumming ed., forthcoming 2012) (discussing the same informational asymmetry problem and the lack of traditional financing for start-ups in U.K. and European countries); see also Jill E. Fisch, Can Internet Offerings Bridge the Small Business Capital Barrier?, 2 J. Small & Emerging Bus. L. 57, 59-62 (1998).
[7] Frank Kleemann, Gerd Günter Voß, and Kerstin Rieder, Underpaid Innovators: The Commercial Utilization of Consumer Work through Crowdsourcing, 4 Science, Technology & Innovation Studies, No. 1, 5-26 (2008).
[8] For example, Sellaband.com, launched in 2006, acted as intermediary between bands and their fans; the fans would invest in production of CDs in exchange for free copies or benefits from the sales. In just about three years, the company raised more than $3 million from individuals to promote their artists; almost 4,000 artists received support from more than 65,000 fans. See Schwienbacher & Larralde, at 4. Crowdsurcing political campaigns should be of no surprise. President Obama used the Internet in his 2008 campaign to raise over $750 million from under four million donors. Tahman Bradley, Final Fundraising Figure: Obama’s $750M, ABC News (Dec. 5, 2008), available at http://abcnews.go.com/Politics/Vote2008/Story?id=6397572&page=1. See also, Jeff Howe, Crowdsourcing: Why the Power of the Crowd is Driving the Future of Business 247 (2008).
[9] Natalie Huet, European Start-Ups Court Crowds for Cash, REUTERS, May 9, 2012, available at http://www.reuters.com/article/2012/05/09/finance-crowdfunding-idUSL5E8G50RB20120509.
[10] Natalie Huet, European Start-Ups Court Crowds for Cash, REUTERS, May 9, 2012, available at http://www.reuters.com/article/2012/05/09/finance-crowdfunding-idUSL5E8G50RB20120509.
[11] Id.
[12] In the U.S., crowdfunding a business venture that would constitute as selling securities is still illegal until the SEC issue its final rules implementing the JOBS Act. See SEC, Information Regarding the Use of the Crowdfunding Exemption in the JOBS Act (April 23, 2012), available at http://www.sec.gov/spotlight/jobsact/crowdfundingexemption.htm (reminding the public that offerings in reliance on the JOBS Act’s crowdfunding exemptions are unlawful until SEC adopts its rules). Until recently, ProFounder was the leading equity-model crowdfunding site in the U.S.; it was ordered to stop selling securities on its website unless it registers as a broker under California law. There are now no major, publicly accessible equity crowdfunding sites in the U.S. See Bradford, at 25.
[13] See Jane Wakefield, Seti Live website to crowdsource alien life, available at http://www.bbc.co.uk/news/technology-17199882.
[14] Nicholas L. Georgakopoulos, Frauds, Markets, and Fraud-on-the-Market: The Tortured Transition of Justifiable Reliance from Deceit to Securities Fraud 49 U. Miami L. Rev 671 (1995) (“United States has both the lowest cost of capital and the strictest securities regulation in the world.” Id., at 710. Professor Georgakopoulos notes “[t]he cost of capital in the United States is 6% above inflation. The rest of the world has a higher cost, by nearly 50%, at more than 9% above inflation . . . ” (footnote omitted). (Professor Georgakopoulos argues that because we have a stricter legal system in the United States, the fear of fraud is reduced; and thus the United States enjoys a lower cost of capital. This is important for crowdsourced funding since a lower cost of capital means more money is funneled from investors to entrepreneurs for their start-ups. The better we can regulate the crowdfunding model, the more we can expect to gain form its intended purpose.)     
[15] Until recently, ProFounder was a leading equity-model crowdfunding site in the U.S. It was ordered to stop selling securities on its website by the California Department of Corporations in June of 2011. There are now no major, publicly accessible equity crowdfunding sites in the U.S. See Steven Bradford, Crowdfunding and the Federal Securities Laws, 2012 Colum. Bus. L. Rev. 1, 24-25, n.99 (2012).  
[16] Steven Bradford, Crowdfunding and the Federal Securities Laws, 2012 Colum. Bus. L. Rev. 1, 99 (2012).
[17] Id.
[18] In September of 2011, the Obama Administration publicity endorsed a crowdfunding exemption to the SEC regulations. See Press release, White House Office of the Press Secretary issues Fact Sheet and Overview for American Jobs Act 2 (Sept. 8, 2011), available at http://www.whitehouse.gov/the-press-office/2011/09/08/fact-sheet-and-overview. The first House bill was introduced in Congress on September 14, 2011 by Republican McHenry from North Carolina and passed by a bipartisan 407-17 vote. See Entrepreneur Access to Capital Act, H.R. 2930, 112th Cong. (as passed by House, Nov. 3, 2011). Two separate Senate bills were introduced by Democrat Merkley from Oregon and Republican Scott Brown from Massachusetts, but the Senate too no immediate action on these bills. See Democratizing Access to Capital Act of 2011, S. 1791, 112th Cong. (2011); Capital Raising Online While Deterring Fraud and Unethical Non-Disclosure Act of 2011, S. 1970, 112th Cong. (2011).  
[19] Jumpstart Our Business Startups Act, Pub. L. 112-106, 126 Stat. 306 (2012) [hereinafter, “JOBS Act”].
[20] “CROWDFUND” is an acronym for “Capital Raising Online While Deterring Fraud and Unethical Non-Disclosure.” Id. §§ 301-05.
[21] Securities Act of 1933 § 5(a)(1), 15 U.S.C.A. §77e(a)(1) (2010).
[22] See Steven Bradford, Crowdfunding and the Federal Securities Laws, 2012 Colum. Bus. L. Rev. 1, 29-30 (2012).
[23] 15 U.S.C.A. §77e (2010) (“Filing is the date that the registration statement is filed with the SEC. Effectiveness is the date when the SEC declares it effective. Free writing for each investor starts the moment that a complete and effective registration statement is transmitted to that investor. . . . after which the issuer can even send glossy puffery.” Nicholas L. Georgakopoulos: The Ralston-Landreth-Gustafson Sunthesis: A Security!, (forthcoming)). 
[24] 15 U.S.C. §77e, (Section 5(a)(1) prohibits the sale of securities during pre-filing period and waiting period; section 5(a)(2) prohibits delivery of securities during the same periods. Section 5(b)(1) applies only to securities “with respect to which a registration statement has been filed” and contains the timing of the prohibition of section 10 prospectuses, but section 10(b) defines the allowed statutory prospectuses and section 2(a)(10)(b) exempts some communications from the definition of prospectuses thus leaving the waiting period open to some communications. Id.)  
[25] 15 U.S.C. §77b(a)(3) (2006); see also Nicholas L. Georgakopoulos: The Ralston-Landreth-Gustafson Synthesis: A Security!, note 50.
[26] 15 U.S.C. §77b(a)(10) (2006).
[27] 15 U.S.C. §77e(c) (2006) (prohibiting any offers before filing).
[28] 15 U.S.C. §77e(b) (transmitting any materials to potential buyers violates section 5(b)(1), which prohibits any transmission of prospectuses, as defined by section 2(a)(10) to include “any . . . communication . . which offers any security for sale . . .”).
[29] S.E.C. v. W.J. Howey Co., 328 U.S. 293, (1946).
[30] Reves v. Ernst & Young, 494 U.S. 56 (1990).
[31] See Steven Bradford, Crowdfunding and the Federal Securities Laws, 2012 Colum. Bus. L. Rev. 1, 29-30 (2012). The courts have, however, struggled with the application of the ’33 Act and the definition of securities under the motive test. Professor Georgakopoulos points out that prior to the Supreme Court’s rejection of the “sale of business doctrine” courts have employed three “harmonious” analyses to determine if a transaction constitute as a security offering: the court looks at (1) if the intent to participate in a “common enterprise” “solely from the efforts of others” is without any control by the investors; (2) if the offering and participation in the common enterprise from efforts of others “relates . . . to lack of current access to information and lack of future control”; and (3) an economic analysis to determine the passivity of investors. Nicholas L. Georgakopoulos: The Ralston-Landreth-Gustafson Synthesis: A Security!, note 42-49 (“The legal definition of a security—a presumed intent to invest in a common enterprise—and its analysis as an investment with neither access to information nor control are consistent with the information nor control are consistent with the economic understanding of a security as a passive investment. . . . The harmony among them would be the happy conclusion, had the Supreme Court not rejected them by rejecting the sale of business doctrine and then reinstated them but implicitly and partly, in the same context of transactions about controlling blocks of shares with Gustafson.” Id.). “According to the sale of business doctrine, the sale of the shares forming the controlling block of a business was not the sale of a security despite the form of a sale of shares.” Id., note 43 (noting “the Circuits that adopted [the sale of business doctrine] relied on the distinction of Forman from Howey.” Id., (citing United Housing Found., Inc. v. Forman, 421 U.S. 837 (1975), SEC v. W.J. Howey Co., 328 U.S. 293 (1946).). However, the Supreme Court did not distinguish Forman from Howey based on factual determination of buyer’s motives; rather, the Court “interpreted the facts to draw a legal conclusion which imputed a motivation to the buyer . . . .” Georgakopoulos: The Ralston-Landreth-Gustafson Synthesis: A Security! ).  
[32] S.E.C. v. W.J. Howey Co., 328 U.S. 293 (1946) (“In other words, an investment contract for purposes of the Securities Act means a contract, transaction or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter or a third party, it being immaterial whether the shares in the enterprise are evidenced by formal certificates or by nominal interests in the physical assets employed in the enterprise.”); see Securities Act of 1933, § 2(1), 15 U.S.C.A. § 77b(1).
[33] Bradford, at 31-41.
[34] Bradford, 2012 Colum. Bus. L. Rev., at 31-32 (“[g]ratuitous contributions, even to a business entity, simply are not securities.”). Since it is entirely donation based, there are no loan notes issued; thus the Reves’ factors test does not apply.
[35] Take, for example, a recent project on Kickstarter requested $10,000 in funding to remake playing cards with a modern military theme (the project was extremely innovative. Instead of just putting a picture on the face of the card, this project called for a complete redesign of the Kings, Queens, and Jacks, with machine guns instead of the traditional axes and spears complete with modern helmets). See Adam Clarkson, Bicycle ‘Army Men’ Playing Card Deck, (last visited September 29, 2012) available at http://www.kickstarter.com/projects/onefreehour/bicycle-army-men-playing-cards-deck?ref=home_location). The project called for $10,000 and received $11,230 as of September 29th with 15 days before deadline. Contributors receives nothing in terms of profits and only receives certain rewards in accordance to amount pledged with incentive packages ranging from a few dollars to upwards of over a thousand dollars. The project appears to be based in Indianapolis, making it appear “local” when users visit Kickstarter’s website. The funds collected goes to the “Circle City Card Company”—which is a servicer of KEM Plastic Playing Cards (available at http://wwwcirclecitycards.com); as Professor Gerogakopoulos pointed out, this venture may appear to be a crowdfunding venture but is perhaps a rather clever advertising gimmick. As we shall see later, there is also a danger this may violate the “no financial advice” provision under the new JOBS Act’s crowdfunding exemptions. Infra.
[36] United Hous. Found., Inc., v. Forman, 421 U.S. 837, 852-53 (1975). The Court, adopting a more pragmatic approach as opposed to the formalistic path, re-stated its precedent “‘in searching for the meaning and scope of the word ‘security’ in the Act(s), form should be disregarded for substance and the emphasis should be on economic reality.’” Id., at 848 (quoting Tcherepnin v. Knight, 389 U.S. 332, 336, (1967).).
[37] See Bradford, 2012 Colum. Bus. L. Rev., at 32-33 (if investors receive corporate stock in exchange for their contribution, then the investors received securities and the offering is subject to applicable laws); see also, Landreth Timber Co., v. Landreth, 4171 U.S. 681, 693 (1985) (“[i]nstruments that bear both the name and all of the usual characteristics of stock seem to us to be the clearest case for coverage by the plain language of the definition.”).
[38] E.g., U.S. v. Leonard, 529 F.3d 83 (2d Cir. 2008); Williamson v. Tucker, 645 F.2d 404 (5th Cir. 1981). 
[39] In other words, substance over form: if it quacks like a duck, as the saying goes . . . . Supra, n.__.
[40] Bradford, 2012 Colum. Bus. L. Rev., at 33-34.
[41] Id., at 34-35.
[42] Reves v. Ernst & Young, 494 U.S. 56, 63-68 (1990) (“While common stock is the quintessence of a security . . . and investors therefore justifiably assume that a sale of stock is covered by the Securities Acts, the same simply cannot be said of notes, which are used in a variety of settings, not all of which involve investments. Thus, the phrase “any note” should not be interpreted to mean literally “any note,” but must be understood against the backdrop of what Congress was attempting to accomplish in enacting the Securities Acts. Id., at 62-63.
[43] Id., at 63.
[44] Id., at 64. The Supreme Court adopts the Second Circuit’s “family resemblance” test in Reves; the Second Circuit lists types of notes that are not “securities” include “the note delivered in consumer financing, the note secured by a mortgage on a home, the short-term note secured by a lien on a small business or some of its assets, the note evidencing a ‘character’ loan to a bank customer, short-term notes secured by an assignment of accounts receivable, or a note which simply formalizes an open-account debt incurred in the ordinary course of business. . . .” Chemical Bank v. Arthur Andersen & Co., 726 F.2d 930, 939 (2d Cir 1984).
[45] Reves v. Ernst & Young, 494 U.S. at 66-67.
[46] Id., at 66. The Supreme Court indicated that the plan of distribution factor depends on whether there is a “common trading for speculation or investment. . . .” Id., (citing SEC v. C.M. Joiner Leasing Corp., 320 U.S. 344, 351 (1943).).
[47] Id., at 68.
[48] Id.
[49] McNabb v. SEC, 298 F.3d 1126, 1132 (9th Cir. 2002), accord SEC v. Wallenbrock, 313 F.3d 532, 539 (9th Cir. 2002).
[50] Steven Bradford, Crowdfunding and the Federal Securities Laws, 2012 Colum. Bus. L. Rev. 1, 37 (2012).
[51] Reves v. Ernst & Young, 494 U.S., at 66.
[52] Id.
[53] Bradford, 2012 Colum. Bus. L. Rev., at 42 (Section 5(c) of the Securities Act provides that no one may offer securities until a registration statement has been filed with the SEC. Securities Act of 1933 §5(c), 15 U.S.C. §77e(c) (2010); and Section 5(a)(1) prohibits sales of those securities until registration statement is effective. Id., §77e(a)(1).).
[54] Accord Bradford, 2012 Colum. Bus. L. Rev., at 42-44. Take for example, the current competitiveness cycle for a mobile application development is four weeks. There is a compressed product life span to keep up with the operating system updates and therefore require a quicker time-to-market scheme. When the average delays in a SEC filing around one hundred days, registration kills the opportunities. See SEC, Report of the Advisory Committee on the Capital Formation and Regulatory Processes [1996-1997 Transfer Binder] Fed. Sec. L. Rep. (CCH) P 85,834, at 88,439 tbl. 2 (July 24, 1996), available at http://www.sec.gov/news/studies/capform.htm.
[55] Bradford, 2012 Colum. Bus. L. Rev., at 44 (Professor Bradford raised the peer-to-peer lending site Prosper and Lending Club (“Prosper and Lending”) as an example. On the Prosper and Lending model, the contributors give money to Prosper and Lending rather than the entrepreneurs. Prosper and Lending then issues non-recourse notes to the contributors (emphasis added). Prosper and Lending then file a single shelf registration statement for all of the notes they issue. Each funding opportunity to the borrower is treated as a separate series requiring its own prospectus supplement as required by the SEC. Id. This made Prosper and Lending file prospectus supplements two or three times a day having to include even the most trivial information. Id., at n.81-96.).   
[56] Securities Act of 1933 §4(2), 15 U.S.C. § 77d(2) (2012) (exempting transactions by an issuer not involving any public offerings).
[57] SEC v. Ralston Purnia Co., 346 U.S. 119, 125 (1953) (held that the Section 4(2) exemption’s availability turns on whether the investors need the protection of the Securities Act or are able to “fend for themselves.”). Subsequent cases have also focused on access to information in addition to the sophistication of the offerees. See Bradford, 2012 Colum. Bus. L. Rev., at 45.
[58] Securities Act Rule 506(a) states that offers and sales that satisfy Rule 506 conditions “shall be deemed to be transactions not involving any public offering within the meaning of section 4(2) of the Act.” 17 C.F.R. §230.506(a) (2012).
[59] A sophisticated investor is one with “such knowledge and experience in financial and business matters that [s]he is capable of evaluating the merits and risks of the prospective investment. 17 C.F.R. §230.506(b)(2)(ii). This rule is satisfied as long as the requesting party (the issuer) reasonably believes the investors are sophisticated. Id. This would be a factual question for the tribunal.
[60] Bradford, 2012 Colum. Bus. L. Rev., at 47; see also 17 C.F.R. §230.502(c); e.g., Kenman Corp., Exchange Act Release No. 21,962, 32 S.E.C. Docket 1352 n.6 (Apr. 19, 1985).
[61] Section 4(5) limits the amount of offering to $5 million. 15 U.S.C. §77d(5) (2012).
[62] 17 C.F.R. §230.505(b)(2)(i).
[63] 17 C.F.R. §230.502(c).
[64] 17 C.F.R. §230.505(b)(2)(ii) (allowing no more than thirty-five purchasers); see also 17 C.F.R. §230.501 (excluding accredited investors from the limited number requirement).
[65] Bradford, 2012 Colum. Bus. L. Rev., at 47-48, n. 234-39 (Professor Bradford raised the ProFounder example noting that ProFounder attempted to fit into the Rule 504 exemption before California order them to comply with state broker registration requirements).
[66] Bradford, 2012 Colum. Bus. L. Rev., at 48.
[67] Id., (“the average cost of a Regulation A offering in 1997 was $40,000-60,000. This is too expensive for the very small offerings that crowdfunding attracts.”).
[68] Steven Bradford, The New Federal Crowdfunding Exemption: Promise Unfulfilled, 40 No. 3 Sec. Reg. L. J. ART 1 (2012).
[69] Securities Act of 1933 §4(6), JOBS Act, Pub. L. No. 112-116, § 302(b), 126 Stat. 306 (2012) (to be codified at 15 U.S.C.A. §77d(6)).
[70] Id. (Professor Bradford reads the statute as “investor’s annual income and the net worth are both equal to or greater than $100,000” (emphasis added) and that the “statute does not say whether the limit is the greater or the lesser of the two 10% figure.” Bradford, The New Federal Crowdfunding Exemption: Promise Unfulfilled, 40 No. 3 Sec. Reg. L. J. ART 1, note.66 (2012). Professor Bradford points to the express language “the greater of” in Section 4(6)(B)(i) and the lack thereof in Section 4(6)(B)(ii). But I read the statuary language “10 percent of the annual income or net worth of such investor, as applicable, not to exceed a maximum aggregate amount sold of $100,000, if either the annual income or net worth of the investor is equal to or more than $100,000” to mean either 10% of the person’s income is something less than $100,000, which means that number will be the limit the investor can invest, or 10% of the investor’s income exceeds $100,000, which then the $100,000 will serve as maximum amount that investor can contribute.)
[71] Securities Act of 1933 §4(6), JOBS Act, Pub. L. No. 112-116, § 302(b), 126 Stat. 306 (2012) (to be codified at 15 U.S.C.A. §77d(6); again Professor Bradford reads this statutory language to mean “if the investor’s annual and the investor’s net worth are both less than $100,000” whereas I read the language to mean either an investor with less than $100,000 annual income or one with less than $100,000 net worth are subject to the rule. Bradford, The New Federal Crowdfunding Exemption: Promise Unfulfilled, 40 No. 3 Sec. Reg. L. J. ART 1, note.66 (2012)).
[72] Securities Act of 1933 §4A(a), JOBS Act, Pub. L. No. 112-116, § 302(b), 126 Stat.. 306 (2012) (to be codified at 15 U.S.C.A. §77d-1(a) (Section 3(a)(80) defines “funding portal” as “any person acting as an intermediary in a transaction involving the offer or sale of securities for the account of others, solely pursuant to section 4(6) . . . that does not offer investment advice or recommendations; solicit purchases, sales, or offers to buy the securities offered or displayed on its website or portal; compensate employees, agents, or other persons for such solicitation or based on the sale of securities displayed or referenced on its website or portal; hold, manage, possess, or otherwise handle investor funds or securities; or engage in such other activities as the Commission,
by rule, determines appropriate.”).
[73] Id., (these provisions are subject to SEC final rules on the matter).
[74] Id.
[75] Id.
[76] Securities Act of 1933 §4A(b), JOBS Act, Pub. L. No. 112-116, § 302(b), 126 Stat.. 306 (2012) (to be codified at 15 U.S.C.A. §77d-1(b)).
[77] Id.  (If the issuer offered $100,000 or less in the preceding 12-month, then the issuer will need to disclose the income tax return filed by the issuer for the most recently completed year” and “financial statements certified to be true by [its] executive officer.” If the issuer offered more than $100,000 within the preceding 12-month, but less than $500,000, then the issuer will have to disclose its financial statements certified by an independent public accountant using professional standards and procedures. If the amount is more than $500,000 then the issuer’s financial statement is subject to audit. The law states the Commission has discretion to establish any amount to trigger this auditing requirement.)
[78] Id.
[79] Id.
[80] Id.
[81] Id.
[82] See Steven Bradford, The New Federal Crowdfunding Exemption: Promise Unfulfilled, 40 No. 3 Sec. Reg. L. J. ART 1 (2012).
[83] Id. (Although the JOBS Act preempts state laws, but it only does so with respect “solely to State registration, documentation, and offering requirements, and [has] no impact on other State authority to take enforcement action with regard to an issuer, funding portal, or any other person or entity using the [section 4(6) exemption].” Id., (quoting JOBS Act, Pub. L. No. 112-116, § 302(b), 126 Stat.. 306 (2012).).
[84] Id.
[85] Id.
[86] Supra note 66-69.
[87] See Steven Bradford, The New Federal Crowdfunding Exemption: Promise Unfulfilled, 40 No. 3 Sec. Reg. L. J. ART 1, note 181 (2012).
[88] Securities Act of 1933 § 4A(c)(2), JOBS Act, Pub. L. No. 112-116, § 302(b), 126 Stat. 306 (2012) (to be codified at 15 U.S.C.A §77d-1(c)(2)(A)).
[89] Id. (See Steven Bradford, The New Federal Crowdfunding Exemption: Promise Unfulfilled, 40 No. 3 Sec. Reg. L. J. ART 1, note 185-86 (2012).).  
[90] See Steven Bradford, The New Federal Crowdfunding Exemption: Promise Unfulfilled, 40 No. 3 Sec. Reg. L. J. ART 1, note 185-86 (2012).
[91] Id. (Section 4A(c) incorporates Section 12(b) of the Securities Act and enforces a negative causation defense: “[placing] the loss causation burden on the defendant.” Id. Note 189 (Securities Act of 1933 § 4A(c)(1)(B), JOBS Act, Pub. L. No. 112-116, § 302(b), 126 Stat. 306 (2012) (to be codified at 15 U.S.C.A §77d-1(c)(1)(B)).
[92] Id. (Plaintiff does not have to prove “scienter.” See Steven Bradford, The New Federal Crowdfunding Exemption: Promise Unfulfilled, 40 No. 3 Sec. Reg. L. J. ART 1, note 191 (2012).).
[93] Securities Act of 1933 § 4A(c)(2), JOBS Act, Pub. L. No. 112-116, § 302(b), 126 Stat. 306 (2012) (to be codified at 15 U.S.C.A §77d-1(c)(2)(A)).
[94] See Steven Bradford, The New Federal Crowdfunding Exemption: Promise Unfulfilled, 40 No. 3 Sec. Reg. L. J. ART 1, (2012). (i.e., if the funding portal placed a few offering in a “spotlight” section, it is reasonable to think the funding portal violated the “no advice or recommendations” requirement of the Act. Id., note 267.)
[95] Id., at note 257.
[96] Id., at 261; see also H.R. 2930, 112th Cong. § 2(b) (as passed by House, Nov. 3, 2011); S. 1791, 112th Cong. § 6 (2011).
[97] See generally JAMES SUROWIECKI, THE WISDOME OF CROWDS: WHY THE MANY ARE SMARTER THAN THE FEW AND HOW COLLECTIVE WISDOM SHAPES BUSINESS, ECONOMIES, SOCIETIES, AND NATIONS (2004).
[98] See Steven Bradford, Crowdfunding and the Federal Securities Laws, 2012 Colum. Bus. L. Rev. 1, 134-36 (2012).
[99] Id.
[100] Id., (quoting JEFF HOWE, CROWDSOURCING: WHY THE POWER OF THE CROWD IS DRIVING THE FUTURE OF BUSINESS 247 (2008)).
[101] Steven Bradford, Crowdfunding and the Federal Securities Laws, 2012 Colum. Bus. L. Rev. 1, 135-36 (2012).
[102] Steven Bradford, Crowdfunding and the Federal Securities Laws, 2012 Colum. Bus. L. Rev. 1, 135 (2012) (quoting JAMES SUROWIECKI, THE WISDOM OF CROWDS: WHY THE MANY ARE SMARTER THAN THE FEW AND HOW COLLECTIVE WISDOM SHAPES BUSINESS, ECONOMIES, SOCIETIES, AND NATIONS 10 (2004)).
[103] Supra note 14 (While Professor Georgakopoulos does not directly link confidence with market efficiency, he does reject volatility as the cause of lower cost of capital. See also Rajnish Mehra & Edward C. Prescott, The Equity Premium, A Puzzle, 15 J. Monetary Econ. 145, 154 (1985).).

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