ComplianceLegalFinanceTax & AccountingJuly 22, 2020

Need business capital? Advertise for investors

While equity crowdfunding is still in the future, company's needing capital now can begin to explore advertising as a means to reach potential investors.

Business owners place advertisements for many things--to sell products and services to customers or to attract talent to the operation. With recent changes to federal securities laws, these business owners may now want to consider advertising for investors.

If you are starting a business or expanding an existing business, you are likely to need capital in order to acquire land, assets and other necessities of business. Traditionally, there are two primary sources for infusions of capital: debt and equity financing.

Most small businesses are familiar with debt financing, which takes the form of loans which may be secured by business (or personal) assets. Equity financing, on the other hand, gives the other party an interest in the business itself, not just in the business assets.

Small businesses generally have used equity financing less often--in part because the rules and expenses involved in a public stock offering were overkill for the typical small business and in part because it was against the law to advertise for investors. The ban on advertising limited your potential equity investors to only those people you knew personally, unless you were able to connect to a network of angel investors or capture the attention of venture capitalists.

But on September 23, 2013, the rules changed and the 80-year-old ban on advertising was lifted. Now, you are free to solicit investors using any method you wish, including social media. This means that you can now offer an equity position in your company via LinkedIn, Twitter or Facebook, without having to comply with Securities Exchange Commission (SEC) rules regarding registration and disclosure.

Work smart

The private placement rules apply only to stock offerings of corporations. Therefore, in order to take advantage of the more lenient rules, you must operate your business as a corporation.

However, this is not "crowdfunding" in the usual meaning of the term: funding a venture with small contributions from a large number of individuals. While you may be able to cast a wide net for potential stockholders, only institutional buyers or "accredited investors" can invest. An "accredited investor" is an individual who has either:

  • Annual income of $200,000 or more (or $300,000 or more of joint annual income with a spouse) in the two most recent years, and a reasonable expectation of the same level of income in the current year
  • Net worth (or joint net worth with a spouse ) of more than $1 million-excluding the value of a principal residence.

The burden of determining whether an individual qualifies as an accredited investor falls upon the company issuing the stock. The SEC requires that you take reasonable steps to verify that the individual is an accredited investor.

According to the SEC, you can meet this due diligence requirement for annual income by requesting potential investors provide their tax returns for the preceding two years and requiring them to certify that they will meet the requirements for the current year. If the purchaser is meeting the accredited investor test based on net worth, you can request documentation that supports the valuation of the assets (appraisals, brokerage account statements) dated within three months prior to the proposed purchase date, along with a written statement that all liabilities necessary to determine net worth have been disclosed.

If the idea of requesting and reviewing investor information doesn't appeal to you--or you do not have the bandwidth to add "financial review" to your to--do list, then you can opt to rely on someone else's expertise in the financial area. The SEC provides that you will meet the due diligence requirement if you receive a written confirmation from a registered broker-dealer, SEC-registered investment adviser, licensed attorney, or certified public accountant that reasonable steps have been taken to verify the purchaser's accredited status.

If you are interested in obtaining additional capital for your business, now is the time to meet with your financial advisors and explore whether advertising for investors--who then could have a say in how your business is run--makes sense, or whether debt financing is still the better route for funding your growth plans.

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