SEC Investor Bulletin
The SEC issued an Investor Bulletin on February 16, 2016, that provides general examples of some of the risks associated with Title III investments. Please see the SEC’s description below as well as the Investor Bulletin for additional information.
Speculative: Investments in Startups and early stage ventures are speculative and these enterprises often fail. Unlike an investment in a mature business where there is a track record of revenue and income, the success of a Startup or early stage venture often relies on the development of a new product or service that may or may not find a market. You should be able to afford and be prepared to lose your entire investment.
Illiquidity: You will be limited in your ability to resell your investment for the first year and may need to hold your investment for an indefinite period of time. Unlike investing in companies listed on a stock exchange where you can quickly and easily trade securities on a market, you may have to locate an interested buyer when you do seek to resell your crowdfunded investment.
Cancellation restrictions: Once you make an investment commitment for a crowdfunding offering, you will be committed to make that investment (unless you cancel your commitment within a specified period of time). Investors have up to 48 hours prior to the end of the offer period to change your mind and cancel your investment commitment for any reason. Once the offering period is within 48 hours of ending, you will not be able to cancel for any reason even if you make your commitment during this period. However, if the company makes a material change to the offering terms or other information disclosed to you, you will be given five business days to reconfirm your investment commitment.
Valuation and capitalization: Your crowdfunding investment may purchase an equity stake in a Startup. Unlike listed companies that are valued publicly through market-driven stock prices, the valuation of private companies, especially Startups, is difficult and you may risk overpaying for the equity stake you receive. In addition, there may be additional classes of equity with rights that are superior to the class of equity being sold through crowdfunding.
Limited disclosure: The company must disclose information about the company, its business plan, the offering and its anticipated use of proceeds, among other things. An early stage company may be able to provide only limited information about its business plan and operations because it does not have fully developed operations or a long history to provide more disclosure. The company is also only obligated to file information annually regarding its business, including financial statements. A publicly listed company, in contrast, is required to file annual and quarterly reports and promptly disclose certain events — continuing disclosure that you can use to evaluate the status of your investment. In contrast, you may have only limited continuing disclosure about your crowdfunding investment.
Investment in personnel: An early stage investment is also an investment in the entrepreneur or management of the company. Being able to execute on the business plan is often an important factor in whether the business is viable and successful. You should also be aware that a portion of your investment may fund the compensation of the company’s employees, including its management. You should carefully review any disclosure regarding the company’s use of proceeds.
Possibility of fraud: In light of the relative ease with which early stage companies can raise funds through crowdfunding, it may be the case that certain opportunities turn out to be money-losing, fraudulent schemes. As with other investments, there is no guarantee that crowdfunding investments will be immune from fraud.
Lack of professional guidance: Many successful companies partially attribute their early success to the guidance of professional, early stage Investors (e.g., angel investors and venture capital firms). These investors often negotiate for seats on the company’s board of directors and play an important role through their resources, contacts and experience in assisting early stage companies in executing on their business plans. An early stage company primarily financed through crowdfunding may not have the benefit of such professional Investors.