50. The 3-year Wait is Over | SEC Vote on JOBS Act Title III (David S. Rose)

The Full Ratchet Podcast on iTunesNick Moran Angel List

David S. Rose is back on the program.  He is Managing Partner of Rose Tech Ventures, Founder & Chairman Emeritus of New York Angels, Associate Founder of Singularity University and, of course, Founder & CEO of Gust.  David joins us to cover recent news that the SEC has finally adopted rules on title 3 of the JOBS regarding crowdfunding.  We will address questions including:

  • Crowdfunding Jobs Act Title III SEC VoteToday’s topic is the JOBS Act Title III, which the SEC finally voted on on October 30. Can we start off w/ a quick recap on what title III of the JOBS Act includes?
  • Let’s start with the facts on the unaccredited investor-side… Can you highlight the specific rules by which an individual may invest in private equities?
  • Transitioning to the startup-side… If a founder decides to make a securities offering to the non-accredited, what rules, restrictions and processes will they have to follow?
  • Many are claiming that this goes into effect in 90 days. The official press release from the SEC states that “The new crowdfunding rules and forms will be effective 180 days after they are published in the Federal Register.” Can you talk about when we expect this to officially go into effect?
  • In your estimation… How will the ruling impact the startup investing/fundraising environment?
  • Who do you think will benefit most and least from this?
  • Are there potential unintended consequences that you are wary of?
  • Will Gust change/adapt its approach in light of this?
  • Out of the four SEC commissioners on the committee, there was one dissenting vote from commissioner Michael S. Piwowar. Piwowar position is as follows:
    • The complexity of the new fundraising tool will ultimately render it inefficient and useless. “The rules will spin a complex web of provisions and requirements for compliance. I fear that many traps for the unwary are hidden in the regulations, creating potential nightmares for small business owners that fail to place regulatory compliance at the top of their business plans,” Piwowar said. “Such burdens will spook many small businesses from pursuing crowdfunding as a viable path to raising capital.”
    • David, what’s your take on Piwowar’s statement?
  • Any final thoughts on what you’d like to see happen moving forward that could help yield more positive outcomes for everyone involved?
  • Prediction?  How many years until a company, crowfunded under Title III, files for an IPO?

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Key Takeaways:


1- Unaccredited Investor Rules

The SEC will restrict the amount that can be invested over a 12-month period. The rules are as follows…

If annual income or net worth is less than $100,000, than
the greater of:
$2,000 or
the lessor of 5 percent of net worth or 5 percent of annual income

So if one’s salary is $90k
and their net worth is $50kFirst compute the lessor of salary or net worth
5% * net worth of $50k = $2,500
5% * annual income of $90k – $4,500The lessor of these two is $2,500
then it’s the greater of that figure or $2,000
So, in this case, the unaccredited investor can invest $2,500

Now the second part of the provision relates to those that have an annual income or net worth that is equal to or greater than $100,000. In this case the rule stipulates that one can invest the lessor of 10 percent of annual income or net worth.Also, the total amount of securities purchased via crowdfunding during a 12-month period may not exceed $100,000.

So, in this case let’s assume that one has a salary of $190k and a net worth of $990k.

We need to compute the lessor of salary or net worth
10% * net worth of $990k = $99k
10% * annual income of $190k – $19k

In this case, the lessor is $19k, so the investor would be able to invest 19,000 over twelve months.


2- Startup Rules

-Fundraise Channel: Must issue equity through a broker dealer or one of these online portals setup and approved for title III crowdfunding.
-Disclosures: Have to File a Form C. As David mentioned, this is not nearly as onerous as a public filing, but serves as a mini offering memorandum. This covers what you’re going to use the money for, the amount of the raise, the price, description of business, names and history of directors and officers, any owners of 20% or more, company debt, related offerings, detailed list of risks, restrictions on transfer of stock, financials and a number of other business specifics. The startup executive will also need to file an annual report with the Commission and provide it to their investors. If they do a subsequent raise, they will also have to file a Form CU and povide it to the commission and investors.
-Amount: Startups will be limted to raising $1M in a 12-month period. And as David mentioned, regardless of the raise amount, the financial statements will have to be prepared under GAAP. If the raise amount is between $100k – $500k then they’ll also have to be reviewed by a public accountant. And if the raise amount is between $500k-$1M, they will need to be audited by a public accountant.
-Promotion: Remember that there are strict limitations on advertising and promoting a fundraise. So, don’t expect to see Tweets and mass emails promoting a startup fundraise campaign like you’d see for a kickstarter campaign.

The last thing I wanted to mention here is not a rule for startups but has to do w/ cost.  Directionally, David gave us some guidance on the cost of launching one of these offerings. He cited that the standard IPO costs around $1M
The Reg A, sort of mini-IPO costs around $100k
and now this new Title 3 securities offering, he is estimating will cost around $10k or more
3- Potential Outcomes


From David’s standpoint, he thinks that the biggest effect, from the vote, will be to legalize friends and family rounds. Currently, over 90% of startup funding is from very early-stage friends and family. These are not being done legally, in most cases, as the startups are not taking this capital from accredited investors and securing the right documentation. This has had negative effects in later-stage rounds and IPOs when investors on the cap table are discovered to be unaccredited, although I have not ever experienced this first-hand.And in terms of who benefits here, he believes that startups and founders that have businesses, not traditionally fundable by VC or Angel standards, will benefit most. While, the unaccredited investors that choose to make investments through Title III will benefit least. Certainly, after investing full-time for a couple years and publishing over 65 episodes and investor stories, it’s pretty clear that it’s easy to lose money in this asset class and those that want to make money have to be very educated and disciplined in their approach. While it’s nice to think that unaccrediteds will become sophisticated startup investors en mass, behaviors in public stock market investing demonstrate that this is very unlikely.


Tip of the Week:   Title III:  Issues, Opportunities and Gatekeepers


*Please excuse any errors in the below transcript

Nick: Today # David S. Rose is back on the program. David is Managing Partner of # Rose Tech Ventures, Founder & Chairman Emeritus of # New York Angels, Associate Founder of # Singularity University and, of course, the Founder & CEO of # Gust. David joins us to cover the recent news that the SEC has finally adopted rules on Title 3 of the JOBS Act regarding crowdfunding. David, thank you so much for joining us again here on the program.David: Oh it’s my pleasure

Nick: Just to kick things off, we’ve had you on the program before and I’m sure that many people are familiar with you and your profile. But can you briefly touch on your current efforts within the startup investing landscape?

David: Sure, I’m a serial entrepreneur. So, sort of, born one. I’ve started half a dozen companies since my first at the age of 10 or thereabouts. And I’ve been termed an Angel Investor after the dot com crash about 15 – 20 years ago. I’m actually a third generation entrepreneur and a third generation business angel investor. And so I’ve got some history in the space. Since then I’ve invested as an individual angel in well over a 100 companies. I then put my other hat back on and came back to start Gust, which you noted. And Gust is the infrastructure platform which powers most of the organized angel investing world. So at this point Gust has many hundreds of thousands of companies and over 85,000 accredited investors and it powers by 80% of the world’s organized angel groups in 190 countries around the world. We have 28 countries, we’re the official platform for their national business angel federations. So I founded New York Angels, which is one of the most active angel investment groups in the world. I’m an associate founder of Singularity University, and founded their finance entrepreneurship and economics track. And then I wrote the book on Angel Investing, which was published last year, and a New York Times bestseller, by Wiley called “Angel Investing: The Gust Guide to Making Money & Having Fun Investing in Startups”.

Nick: It’s an excellent book, check it out if you haven’t read it already. But David, thanks for coming back on the program, and really glad that you were able to jump in with us to address what’s going on with the Jobs Act title 3 piece of legislation that was voted on last week. And so that is the topic here today. Can we start off by quickly recapping what Title 3 of the Jobs Act is and what it includes?

David: Well, so let’s actually step back for a second and recap what the whole investing world is very quickly. So after the great depression and the stock market crash, when all kinds of people did all kinds of nasty things, the US government then formed the SEC, said that any company that wanted to sell shares of stock, raise money by selling equity to individual people could with no problem, provided they went through a whole lot of hoops and filed their offering with the government , a —-2:40 offering, and had a whole lot of public disclosure and agreed to a whole lot of transparency. And so that’s what the public stock markets are. And so ever since then, anybody who wants to sell stock, anybody can just go and register a public offering and do it. The only problem is it’s very expensive, very complicated, and only makes sense for really large companies. It is very expensive. That’s what IPO is. So the problem is there are a lot of other companies, a lot of private companies who would like to raise money by selling stock, that aren’t public companies. And so the SEC said, well, you have to register with the government except unless there’s, we’ll give you an exemption. And the exemption effectively says if the only people you sell your shares to are accredited investors, basically rich people, then it’s okay, you can sell to anybody, you don’t have to register. And the current definition of an accredited investor is somebody who has over a million dollars in assets, not including the value of their home, or over $200,000 a year in income for the last several years, $300,000 if you file jointly. So that’s the way the world was until about 3 years ago. The only people you could sell to were effectively rich people, if you were a private company. But the catch was you couldn’t tell anybody you were selling stock. So you had to serve a NOA, and you couldn’t advertise that you were selling. So that was the catch 22. In 2012, the Congress passed and the President signed something called the Jobs Act of 2012, standing for Jumpstart Our Business Startups, cause the company, government likes —-4:09 formations.

Nick: Yeah

David: And the Jobs Act had 3 parts. The first part, Title 1, didn’t really affect private companies like the kind we invest in as angels. It basically said that it made it easier for a company to stay private longer, and it made it easier for a company when it wanted to go public, to go public. And so those were generally regarded as good things all the way around. And they went into effect as soon as the law got passed. No problem. The second piece, Title 2, said okay you know that crazy piece about how you can only sell to accredited investors but you can’t tell anybody, well Title 2 said, for the first time, you can tell everybody that you were gonna raise money by selling equity. It’s called generally soliciting everybody, provided that you only actually take money from people who are accredited investors. That’s a lot more rational. So that took about a year, about 6 months, to go into effect, after it was passed. And so when that went in a year ago, just over a year ago, that opened up the door to have all kinds of online platforms that could effectively crowd fund to rich people. So you had to to be an accredited investor, but now, if you were on a site like AngelList or CircleUp or SeedInvestor or ProFounder, or any of the platforms, you could let people know you were raising funds, provided people that actually bought stock were accredited.

Nick: Yep

David: The third piece of the Jobs Act was Title 3, and that was the crowd funding thing. And that was the one that everybody was focussed on. And that said hey, you know what, we’ve come up with a way to let anybody, not just rich people or accredited investors, anybody invest in private company stocks in these startup companies. We have to put on some very complicated rules to make sure it’s safe, but we’ll let anybody do it. And that was the piece which was really pushed by the Congress, and by the President. And that was in the law that was signed in 2012. The only problem was there are a lot of challenges with doing this, as we’ll talk about, and the SEC really really really didn’t want to pass this. And so they dragged their feet for a really really really long time. In fact, it took over 3 years, with periodically Congress calling the SEC, administrator backing and saying what’s going on, we told you to —-6:14 . And the SEC said, well, it’s complicated. And everybody kept pushing and pushing and pushing. And it looked like just one of those things like any day now it will come out. But the amazing thing is that last Friday, amazingly, the SEC finally published the real rules that said you could do it. So as of last Thursday, Title 3 of the Jobs Act has rules published by the SEC providing a way for regular people who are not accredited investors to be able to invest in startups.

Nick: Unbelievable that it took them 3 years to move forward with this.

David: It’s tricky. It really isn’t easy. So we’ll see what happens now.

Nick: Yeah. So let’s start out with some of the facts on the non accredited investors side. Can you touch on and highlight some of the specific rules by which an individual, who is not accredited, may invest in private equities according to what was voted on and approved last week?

David: Okay. So there are two really really important things. Number one, the only way you will able able to do this is through a special type of online platform. Either a broker-dealer, a registered securities broker, or by a new type of funding portal designed exactly for this purpose that the SEC defined as to what they have to do and how they can exist. And so, since that hasn’t happened before, there are no portals like that already. So they are now spinning up, as we speak. So they will soon be coming online. You can’t just walk down the street and give money to somebody. It has to go through an online portal, number one.

Nick: Right

David: Number two, the SEC was trying to figure and Congress was trying to figure out how do you protect people. The original rules said that anybody can, you can buy, anybody can buy shares of stock. However, if your company is going to sell shares to anybody, it has to do all of this transparency and all of this registration, and that was the protection. The idea was if a company publishes everything as totally transparent then people can figure out whether it’s, you know, safe, or whether it meets their qualifications. That stuff was not available with private offerings and so that’s what the concern was. So now, if they’re saying anybody at all can invest, how would they protect people? And they ended up taking people in their estimation by saying okay you could only invest a little bit of money, you can’t blow all your cash, the way you could in Las Vegas. You can’t blow all your cash investing in startups. And so therefore, any one person is limited to investing in a total year, across all the companies which they might invest in through this Title 3, the greater of either 2000 bucks across the combination of all companies you invest in, or 5% of the lesser of the investor’s annual income or net worth, if either income or net worth is less than $100,000. So what that basically says is, if your total assets are less than $100,000 and not including the value of primary residence, you have a $100,000 in assets, then you are limited to investing no more than 5% of the lower of however much you have in assets or your income. If you have over $100,000 in assets, then you’re limited to 10% of the lower of your either income or assets. And so that’s the primary thing. So we’re not talking about tons and tons of money. People aren’t going to be writing enormous cheques over here, right, because the accredited investor definition is a million bucks. So if you have a million bucks in assets or $200,000 bucks in income, or you’re an accredited investor. So let say if a $190,000 in income, then 10% of that, so then you have over $190,000 in assets, will be $19,000.

Nick: Got it. So is it going to be on the portals themselves by which you’re making these investments to verify?

David: It’s going to be, the regulations affect everybody. So basically it says you as a person who is investing, can’t blindly go ahead and make a billion investments. You’re required, you are not allowed to invest more than that, those limits, number one. And number two, a portal has to be able to look and both on you and not let you invest more than that amount on the portal, right. So in theory, you can try and fudge it by investing more than one portal, but if they ever got together and exchanged data, which my guess is there may be something coming down the pike in that area, you’d get caught. So, and then the issuer can rely on the portal to make that determination. So there really is, you don’t want to cheat this. Because if you try and fudge it, then you risk falling into a lot of problems for you and the issuer and the portals. Accept it as a pretty hard limitation.

Nick: Yeah, you’re probably cheating yourself moreso than anyone else, but let’s transition over to the startup-side. If a founder decides to make a securities offering to a group of non-accredited investors, what rules or restrictions and/or processes will they have to follow?

David: The first thing is they have to do it through one of these portals. I mean, there’s no option here. It’s not like, you know, oh I’m going to go to an Angel Group or some guy at a bar or ——-11:05 whatever is. There’s no choice. You either go through a broker-dealer or you go through one of the specific platforms that will be coming online to set up for this. Then, number two, there’s a whole lot of disclosure, right. So you have to do, file what’s called a Form C, before you, you know, start taking money in. That’s like a mini offering memorandum. It’s not and nowhere near what you’d require if you’re going public, which is hundreds and hundreds of pages of all red herring. You have to register what you’re going to use the money for, roughly how much you’re trying to get, what the price of the offering is, what the description of your business is, all of the names and acquisitions and history of the directors and officers, anybody who owns 20% or more of the company, you have to reveal that, what debt the company has, any kind of related party transactions that are more than 5% of the amount in the past year, any other offerings that you’ve raised, or the risk factors and that’s, you know, startups are insanely risky, you have to detail and list all the risk factors, any restrictions you’re going to place on the stock could be transferred. You have to discuss how risky this is, what you’re doing, why. You then have to have financial status. Now the good news is you don’t have to be audited. It would have effectively killed everybody because no startups have audited status. However, even if you’re filing to raise less than $100,000, you have to have statements that are in accordance with GAAP, Generally Accepted Accounting Principles. In reality, most startups actually don’t have those. So it’s going to require some accounting work. If you’re raising more than a100 but less than 500, you have to have financial statements required by GAAP and then reviewed by a public accountant, an independent public accountant, who says yeah these are basically okay. And if you’re raising more than $500,000 then you have to have audited statements over here. Although, for first timers you can them reviewed as well. So that’s a lot of stuff you’re going to do. It’s not, this is not going to be some cheap thing where you just come online and do ten bucks the way you go. There are going to be significant costs. Not as much as doing a Reg A offering, or you know, say, so let’s say the new Reg A offering became authorized last year, unless you do a larger sort of mini IPO. For an IPO figures cost at least a million bucks to file. For a Reg A it’s going to cost you probably a $100,000 bucks to file. For one of these Title 3 things, I’m guessing it’s going to be in the $10,000 or more range, by the time you get through all the various players involved.

Nick: Yeah, I imagine the portals will include that as part of what comes out of the total amount raised

David: Yeah, well, but remember the company have to have accounts done. The portal can’t do your accounts for you. The portal can try and, and is allowed to provide, you know, form documents for fund raising and so on and so forth, but they’re not going to handle your audits and your accounts and preparing your books and stuff.

Nick: Right. I also read that there’s various annual reporting requirements as well as

David: Yeah, absolutely. So once you have the crowd involved here, you don’t just get to walk away. You got to report every year. You got to file the, I think it’s Form C and let people know what’s been going on. You got to issue amendments to your Form C for any updates or changes, after you’ve raised half the deal, after you’ve raised the full deal, if you’ve raised any more, you got to provide proper updates to the SEC. That’s a Form C. And then you have to provide annual reports to the SEC and post it on your website and give it to your various investors, reports of whats going on. So that’s public information now. So it’s not like you can hide a billion under a bushel. Private companies, as you know, do not have to report anything to anybody, so all of your stuff could be secret. But if you’re filing with the SEC, and posting on your website information about your stock, it’s a lot more transparent there. And there are a bunch of other things as well.

Nick: And then, correct me if I’m wrong, but there’s a maximum on the aggregate raised amount now of one million dollars?

David: That’s correct. So a company itself can raise no more than a million bucks in total in a 12 month period. So this is not going to replace your Series A rounds or, you know, the large angel rounds. That’s the total across the whole year. So you have limits from a company on what they can raise, limits on the investors on what they can invest. Oh and can only you can’t do it on multiple platforms. So you can’t do the same campaign in two places. You can only invest on one platform.

Nick: And then on the timing side, you know, I’ve been reading articles all over the internet. And some are claiming that this goes into effect in 90 days. The official press release from the SEC states that the new crowdfunding rules and forms will be effective 180 days after it’s published in the federal register?

David: It’s not as crazy as it sounds. There’s a reason for that. You said that the, the platform can be either an existing broker dealer or it can be one of these new portals

Nick: Right

David: But these new portals don’t exist yet, right. So people have to, actually accredited companies follow all the regs and the rules that just got published to figure out how they can comply and stuff. And so the goal for the SEC here, what the SEC was trying to do was to say okay, this whole process can’t start for 180 days but portals can start working in 90 days. So the bottomline is, the goal there, was to hold off the broker-dealer so that it would get a head start on the portals. They’re trying to get it very neat and plain for you. So portals can go online after 90 days and begin to start operating and putting up deals and so on and so forth. But you actually can’t close a deal when everybody can close a deal until a 180 days from now. So you’re looking at 6 months.

Nick: Got it. Switching over to sort of the perspective side of this discussion. In your estimation, you know, how is this really going to impact the greater startup investing and fundraising environment?

David: The answer is nobody knows yet. So, well,

Nick: Right

David: the proponents, the opponents, nobody has a clue. The goal of people who were pushing this early on was that anybody should be able to invest. The theory was, hey you can go to Las Vegas, Atlantic City and blow all your cash, why shouldn’t you be able to do it and possibly make a big return on a startup. Those of us, as you all know, who’ve been in this business for a long time know it ain’t quite so easy to make money investing in startups. And nobody wants a totally unfettered world where anybody could just, you know, —- 17:13 an offering, and you know, the poor naive people who could think they’re going to hit the next Uber or Twitter and blow all their cash on home run, right. So that doesn’t happen. So the regulations are complex enough. So it’s not going to be trivial. They have to be done through these platforms and a lot of filing. So this is not going to be. Oh also, by the way, there are rules for the advertising. So unlike general solicitation for accredited investors where you can do whatever you want, you can publish you know things, take out bus stop ads that you want to sell to, to accreditors. You’re not allowed to actually publicize except on the platform that you’re raising money. And so all you could do is put up one little, you know, what’s called a —17:47 notice saying my company is X, we’re raising Y and Z and that’s it. And then people have to go on the platform to look for the information there. So this is not going to open some, I think, mega floodgate to trillions of dollars coming in. The number, remember the numbers you’re talking about are relatively small, where the most that you’ll be able to invest is, you know, 20k a year, right, you know, 10% of your, of the lesser of your income or assets. That’s total across an entire year, across all companies. So it’s going to be raises in little small pieces without tons and tons of advertising. It’s going to cost tens of thousands of bucks to file one of these offering. It’s going to restrict the company a bit in what they do. I have a feeling that the biggest effect this is going to have is to legalize friends and family rounds. I mean, if you actually look at the numbers, it turns out that something like, you know, 90% of all of the startup funding in America today comes from friends and family rounds. They’re, and by the way, there is no friends and family exclusion in the law. This is if you take money from your mother or your aunt Edna, you somehow get to stir SEC regulations. So what means is, although nobody knows for absolutely sure and, you know, with names and numbers, the feeling is a lot of people who are currently raising friends and family rounds in violation of the regs. Which could lead to all sorts of problems down the road. And if you’ve done this, then you try and do a real round with real investors, it could get very sticky and could actually kill that seller. I have a feeling that one of the really uses for this, aside from some of the kickstarter type of campaigns, which would get some high profile and high visibility, is going to be cleaning up the friends and family round and giving and providing a vehicle for raising the cash. Because as we know, aside from the super duper mega high profile kickstarter indigogo campaigns, the ones that take off and raises a zillion dollars, for the vast majority of the work space crowd funding campaigns, you had better have a majority of your round raised before you even start from people you know. And that’s going to go double in spades I believe, for this equity funding. So if you have friends and family who want to invest, this will give them the opportunity to do it legally and cleanly within an existing system. So I think it’s going to, sort of, ungump the machinery a little bit. I think it’s going to, you know, make honest people out of most startups. But because the numbers are not so enormous, I don’t think it’s going to have a killer effect. Because you’re not going to see institutions coming in here. You’re not going to see big angels coming in here, you’re not going to see VCs coming in here. It’s going to be a different funding class. And I think it will be fascinating to see how it turns out.

Nick: Yeah with the disclosures required and some of the rules around this, do you think the platforms are going to handle a lot of that red tape and help facilitate the overall process?

David: Well, no. I mean, the platforms will do whatever they can. Anything that can be automated will. You’ll have form documents, and I think this will go quite a ways to normalize and standardize in various forms. That being said, you know, a platform can’t disclose your personal business stuff. Companies are going to have to write reports. And I’m sure you as an angel investor are aware that if I had to guess and cite on seeing Nick in your portfolio, my guess is that the compliance rate of companies providing you quarterly or annual reports is not exactly a 100%, right. And now that’s you as investor and me as a very active high profile investors, I will tell you, I was talking to the CFOs of one of the largest of the mega super angel funds. And as for their compliance rate was on companies that they were the lead investor in providing annual reports, he said, well you know, I’m prompted maybe 40% to go around to yell at them and then demand we have it. Maybe it gets up to 75%. So if that’s what happens with the biggest of, you know, funds in the world, then you and I can’t get the compliance here. It’s going to be interesting to say the least. The platform can’t, you know, they can’t write it for you. So they can send you reminders and bug you. It will, you know, either you’re going to have companies that raise a little bit of cash and then sink without a trace. So if you’re a startup and you’ve raised say $20,000 or $50,000, right, there’s not going to be tons and tons of cash, I think. And then, you know, that doesn’t take you too far. Either you are optimistic, you ran out of cash and then what? You shut it down. So how much, you going to go online and do all the nice little cleanup stuff and all the filings. Unfortunately, human nature doesn’t work that way.

Nick: Right

David: So, again, we’ll have to see how this is all going to turn out. But I am yeah skeptical

Nick: Yeah, so we can’t predict the future here. But can you talk about who may stand to benefit most from this vote going through and who potentially will benefit least from it?

David: You know, I think benefit the least are I think, are many of the people who were pushing it in the first place, who were non accredited investors who were looking to get in on the next big thing, who think this is their way to get in to Uber or something. And I think for a host of reasons, from negative screening to the limitations on investments, to the red tape, to the fact that companies are raising a little bit through this platform because they couldn’t get it elsewhere. It may not be the best, you know, highest growth companies. I would be very surprised if any investors in these companies are going to ultimately actually make any money. So my gut is the investors are the ones who are going to benefit the least from this, although they think that they’re going to benefit the most. The biggest benefit is going to be to the company that is a, you know, a small legitimate startup that would have historically been financed by friends and family, that isn’t trying to be Uber, but is just trying to figure out a rational way to point to so that they can tell Aunt Edna hey come onto the site and you can, you know, give me 5000 bucks or whatever, right. And so I think that will make it a lot easier and open up money because the choice until now has been to either do it illegally, say Aunt Edna give me a loan of 5000 bucks or I’ll write something up that is, you know, is probably not the right thing to do to take it in. Now you’ll actually have a legitimate legal structure and a platform to facilitate it. So I think it will grease those wheels of friends and family rounds and that it will be good for issuers.

Nick: You know that a lot of unintended consequences applies to a lot of things in the startup investing world, convertible notes and a number of other things. Can you talk about some of the potential unintended consequences that may come out of this?

David: Well if it was a clear consequence we don’t know it upfront. So the fact that we don’t it upfront is unintended and unknown.

Nick: Get out your crystal ball David

David: The guess is here right. So, you know, I think first of all there has been virtually no fraud in angel investing until now. You’re not going to see big fraud in Title 3 crowdfunding just because the numbers are so small. If you’re a crook, there are a lot easier ways to go get money out of people than fronting a campaign where people can invest, you know, a few thousands dollars here and there, right. That being said, you know, it’s going to be a lot more than is currently existing. So I think there is going to be a little bit of fraud, and the question is how high profile do they get, right. There have been, you know, a whole reward ——————-4:23 to survive a couple of fraudulent cases and they did pretty good and that’s our police. And so I think we’re seeing a little bit of that for, you know, sort of for the first time. I think that you’re going to see a lot of people doing these deals and thinking that it’s just like an Indiegogo or Kickstarter campaign, which is remember those are the words based crowdfunding, so there you run a campaign, you take the cash in and that’s it and done, finished. But here, the minute you take the investors money in, you’ve got partners for life. You’re filing with the SEC for life. You just can’t walk away, you just can’t shut it down tomorrow morning, right. So I think there’s going to be some really interesting comeuppances and the cleanup business around these Title 3 things. It’s going to be very interesting to see what happens there. So I’m not sure what’s going to happen, but I think it’s going to be a mess that’s going to have to be cleaned up. And then I think ultimately it may settle down. I don’t think it’s going to become like the reward crowdfunding thing where you have some of these things take off to be 10 -12 million dollar operations because the limits are there, right. You can’t raise more than a million bucks. So no matter how good you are, it’s not going to be viral campaigns, and you’re limited to the amount of money people are investing. So my hope would be that it’s going to end up simmering down. You get a lot of hype initially, and there’ll be tons and tons of platforms, and ultimately it will end up as being the accepted way to do a pre-seed, pre-angel friends and family round legitimately and ending up with a clean enough cap table. The other question is are you, if you have that kind of company that does this round, will you then be able to get follow on angel or VC funding.

Nick: Yeah

David: That’s an interesting question. Because remember, you’re publicly filing reports if you’re one of these companies and you’re bound to do that and you’ve got all these people now somehow on your cap table, who were other investors who might have cause to, who may or may not be smart, or may not have cause to yell at you or sue you whatever it is. And, you know, I’m not so sure how ready and eager angels and maybe accredited investors will be to walk you in and put more money into a deal. Because the pricing, remember, is going to be set by the company. And that’s a key thing to think about. The company is going to say I think my price is X. They’re going to go out and do this, you know, round on the platform, and they’re going to raise some kind of money in there from whoever, from unaccredited investors. And then if they want to turn around and go to angel investors, what do we think? Do we think that the valuation from these angels is going to be more or less than the company picked out of a hat. Well, they think, I mean, so what’s your guess, right. Logically, less. So now think about the —6:57 consequences, you’ve just raised $200,000 from friends and family or these poor unaccredited investors, and now you’ve got just enough practice and you’re interested in angels, and a serious angel like Nick or David comes in and says okay well you know, jeez , you raised that 3 million, 5 million, 8 million, valuation, but you know, I think you’re really maybe like 2 million. So what happens? You either end up taking the angel money at the real valuation, which means you’ve somehow screwed all the people who came in as your crowd. The angels are in a position where they now got a better deal and they’re going to be portrayed as screwing the crowd, right. And who wants to do that? I’m not sure I want to go in and, even if a company is worth 2 million, and they raised a 4, I want to go in and say okay I got to get twice a good a deal as these guys who raised all these dollars and cents from. So I think that may, and there may be an interesting dampening effect on, once a company raises from here how well it will be able to do from angels. Now if a company happens to be a mega hot deal, and it just had to happen to a start up the way like some of these Kickstarter campaigns that do one quick thing and then go to 5 million and then get, you know, a big mega raise from a VC, I think paradoxically it’s not like it will upset VCs too much. But remember, only 1 out of 400 companies gets a VC investment. They invest in a few few companies. So if it’s big enough to attract a real VC they’ll somehow manage to clean up the operation. But for the vast majority of these guys who will be expecting to do maybe an angel round if they’re slightly successful, I think it’s going to be problematic.

Nick: You know the majority of entrepreneurs I interact with are honest, smart, great people. But I’ve seen some entrepreneurs that parade around a term sheet and their friends and family round was done at like a $20M valuation or something, you know, crazy

David: So the question what do you want, what do you as an angel want to do. And I say that all the time, right. So they’ve got friends and family who knew absolutely nothing. And that’s why in my book on angel investing, I suggested the only time you do an uncapped convertible note is with the friends and family round. Because neither the friends and family nor the entrepreneur are capable of pricing it correctly, right?

Nick: Right

David: So there —- you just do and then —8:58 to the first professional. Angels themselves will never do it because it doesn’t make sense and, you know, because we are professionals right. But the question here is if you do a round on a platform and the platform somehow either doesn’t enforce it or doesn’t point them in the right direction and saying hey, you know, you’re really worth a million, a million and a quarter, 800,000. And I think that there’s going to be a lot less focus on the part of the investors on this. They just want to know, on Kickstarter you don’t ask, you know, how much is the company worth, the question is how much am I putting in. Here, since you’re buying a piece of equity, the valuation is critically important, and I don’t think anybody has any clues to how that works. So I think they’re just going to focus on oh I’ll put 2,000 bucks into this company, without regard to the fact that it’s 20 million in valuation. And then when you, with that on the cap table, I don’t think you or I or any angel group or any rational person invests easily.

Nick: Yeah, any transaction where one side of the table has full control over price, I don’t see how that can be a transaction that’s actually going to be fair and provide value to both parties.

David: It’s a challenge.

Nick: So, David, what will Gust change or adapt in terms of it’s approach in light of this, if anything?

David: Well, Gust is and has always been an infrastructure, the infrastructure platform for the, sort of, next generation of the global financial world, for these, the, you know, precursor to the big markets. So we only deal with accredited investors. We are not going to be a Title 3 platform. So we are not going to offer ourselves any of these Title 3 crowdfunding. However, because we are an infrastructure platform that supports a wide range of people, since I was last in the program, we have now such an extraordinary penetration on startups and investors around the world. We are now powering the official ecosystems, startup ecosystems, for many of the worlds largest cities. These are the official governmental online platforms that have every entrepreneur, every startup company, every investor, angel, VC, event job blog, you know, works best accelerator incubator for the entire city, and they’re all powered by Gust, right. So we have this extraordinary platform, which I think we may end up, we’re now considering working with these platforms and just providing a vehicle for them to reach out to the larger market of, you know, the 85,000 accredited investors who might want to come play in the Title 3 space in a broader variety as well. So we wouldn’t take any cash out of that, we’d just provide sort of the connectivity, because we have such a large platform out there.

Nick: So, out of the four SEC commissioner on the committee, there was one dissenting vote from Commissioner # Michael S. Piwowar .
Piwowar’s position is as follows:
“The complexity of the new fundraising tool will ultimately render it inefficient and useless. The rules will spin a complex web of provisions and requirements for compliance. I fear that many traps for the unwary are hidden in the regulations, creating potential nightmares for small business owners that fail to place regulatory compliance at the top of their business plans. Such burdens will spook many small businesses from pursuing crowdfunding as a viable path to raising capital.”

David, what’s your take on Piwowar’s statement and his vote against the provision?

David: Well, realistically, you know, I think he’s right in a sense. I mean, he’s being a grown up. The problem is this whole Title 3 thing was so fraught with emotion on all sides. From companies that wanted to raise funds from family and couldn’t get it from angels, from non-accredited investors who want to invest from all of the players who wanted to create platforms and so on. It’s a tough situation. Even doing it as a legitimate credited investor, it’s tough , as your entire podcast is all about everybody coming in every week, week after week, explaining how challenging it is, how we all lose money, how, you know, why we do all this. So you can’t just wave a magic wand and make it totally simple. And so the SEC in the process of putting in protections which had, some kind of protections had to be there somewhere, made it pretty ungainly. So the first part of the statement I think is right on target in terms of traps for the unwary are hidden in the regulations, right, creating potential nightmares

Nick: Yeah

David: What I don’t think is going to happen however is his last line there, where he said that he thought it’s going to spook, you know, many small businesses so they won’t pursue crowdfunding. I don’t think that’s where it’s going to end up. I think unfortunately, people are going to ignore that, not be spooked by it, so go do these things and get in trouble as we’ve discussed before, after they’ve issued it, and then they stop filing or whatever. So I think there’s going to be a lot of problems here. I respect him, I think it was a smart move there. But the only problem is this is one of those there’s no good answer. There was nothing easily given to all the cooks in this particular broth that it could have come out smelling really really great. So this is better than, the rules that are put into place now are better than the draft rules they put out last year, which were completely unworkable. Not as good as the very very simple original McHenry Amendment that got passed in the first place

Nick: Yeah

David: with the original rules. But you’re always trading off protection versus ease versus getting capital versus all the various players. So it’s not perfect.

Nick: Any final thoughts on what you’d like to see happen moving forward that could help yield more positive outcomes for everyone involved?

David: Well, you know, new businesses as we all know, could —14:03 routinely and they’re, they run lean and they see what happens when it meets the market. I’m not sure that defines the Federal government or the US Security Systems or Commission. But I hope it would. Because now that you have this for the very very first time in history, since 1932, the ability for individuals, non accreditors to invest, we’ll see pretty rapidly, right. I’d say give it a year or 18 months, we’ll see how many businesses actually file, whether they were spooked as Piwowar said, or whether they’re going to go and do it anyway. We’ll see how many of these rounds actually get themselves closed. Remember a majority of the rewards campaigns on Indiegogo or Kickstarter don’t get to the end of their game, right. They don’t close.

Nick: Yeah

David: So we’ll see if, you know, if you end up having an 80 or 90 % failure rate for companies that are trying to raise funds here, you got to rethink it. Specially if unlike with Indiegogo or Kickstarter, they’re paying fees upfront. They’re paying ten, twenty thousand or more upfront to handle the accounting and the platform fees and all the lawyers and everything else, right. And if you start paying thousands of bucks and not getting anything, that would be a burn to the —15:03 of the tunnel , it’s going to be challenging. And then for those that do, we’ll have to see what the metrics are, who are the people. Are people routinely, you know, flouting the issues and trying to invest more than they’re allowed to? Are they or is it mostly friends and family who are being legitimatized? Or is it a new class of professional investing, you know, a new class of unaccredited professionals coming out? Although, given the limits, I don’t see how can you have a class if you’re talking about putting in 20,000 bucks in the entire year, right?

Nick: Right

David: So I would hope that the SEC will be smart enough to look very closely at what’s happening, figure out where the bottlenecks are, figure out what the unintended consequences were that came out at the end of the day, and then tweak the legislation and fix it, get rid of the things that are roadblocks for that being helpful, and improve safeguards and make the whole thing work better based on experience, which we’ll see within a year.

Nick: So David, I want a prediction. How many years until a company crowdfunded under Title 3 files for an IPO ?

David: Well, that’s an interesting question. Want me to give a prediction? There will be at least one. And frankly, there’s going to be at least one company that’s going to go IPO or become Uber or something. And forever and a day, that will be the point to company, right.

Nick: How long though? How long is the question, how many years?

David: Given the timing it typically takes to go IPO, you know, 10, IPO, 8 years maybe? I’ll say, I’ll say 8.

Nick: Alright, you’re on the record. We’ll have you back on the program in

David: 8 years

Nick: it should be 2023 right

David: Looking forward to it, book me now

Nick: David, we touched on this before, but more generally can you provide us an update on what’s going on at Gust and also some of your investment efforts?

David: Sure. So Gust is going gangbusters. And Gust is the by far the largest platform connecting entrepreneurs and investors around the world. We have well over three or four hundred thousand companies who have put all their information into Gust and use it to collaborate with investors. Over 85,000 accredited investors use it to manage their portfolios and communicate with their entrepreneurs. Because we have such scale and such great back end tools, we power today about 80-85% of all of the organized angel investment networks in the world. We’re localizing to half a dozen languages and have three, four, five digit monthly deal flow of companies coming on to the platform. When you have that kind of scale, that means we can really support the ecosystem. So we released just over a year ago our entrepreneurship ecosystem hub platform which is built on top of Gust, which powers the official regional ecosystems for the major entrepreneurial centers around the world, including New York, London, Boston, The US Department of State. These are all platforms that have every single startup and investor and a —17:44 vented job blog, video and workspace and accelerator, and course and everything, all pulled in from a dozen different APIs, all integrated together, and make the whole ecosystem visible and help connect and help people collaborate. And so as the whole platform continues to expand, we’ll be coming out with some really interesting stuff in the year ahead, both for investors and for entrepreneurs, aiming to use the sort of economies of scale and the webworks that we’ve got, to make the whole process much easier for both companies and investors and even platforms.

Nick: Wow, great. You know, David, last time I had you on the program, you had suggested # Bill Payne and # John Huston and I’ve been very fortunate to have both of those fellows on the program and they’re some of my favorite interviews. But I’d like to get your take again. So now that we’re over a year passed our last interview, any other suggestions or any other topics that you’d like to hear us address going forward?

David: Sure, as you may know, I have a tendency to answer questions, whatever anybody asked me, whether on podcast like this or in writing, and there’s a platform called # Quora, quora.com for those of you who aren’t familiar with it, which is a question answer site where anybody can ask questions about anything and anybody can answer questions. And so I tend to answer questions about startup investing and angels and entrepreneurs and so on. To date I’ve answered over 4000 questions on the site. A lot of that is where the book came from. And one of the other people on the site who is very active answering questions is a guy named # Jason M Lemkin, who is an amazing serial entrepreneur turned VC. And he writes the most amazing answers, not only about the VC but particularly about SaaS platforms and SaaS businesses, Software as a Service and Platform as a Service. He was the CEO of # EchoSign sold to Adobe, and he’s had an amazing career. And I have learnt an enormous amount just about the whole mechanics of the SaaS business from somebody who was there. So looking, listening to an investor who knows the business absolutely cold, who’s been an entrepreneur, who’s been in VC, been an angel, and who understands how all this relates together. I think that would be really cool for your listeners.

Nick: So is Quora about that me and David@Gust , are those still sort of the best ways to reach out to you?

David: Ah, I actually redid my own website, which is now DavidSRose.com , which is sort of single jumping off point to everything. About Me has got lots of the book and podcasts that I’ve done and the videos, you know, my YouTube videos and stuff. And if you’re interested in following me in terms of my answers, then Quora, follow me on quora.com is great as well. And then if people are looking to submit a pitch to me, that’s what we have Gust for. So go to and create your profile on Gust and share it with david@Gust.com

Nick: Well, thanks for plugging in for this special segment on Title 3 here David. And it’s been a huge pleasure having you back on the program. I can’t wait to connect with you again.

David: My pleasure, Nick. We’re your avid listeners and have listened to every episode so far. I’m looking forward to more in the future.

Nick: Is that right? Okay

David: Absolutely

Nick: I’ll keep publishing if you keep listening

David: Will do