Seed Rounds and Crowdfunding

A: This is when the issuer and other founders if any are getting the company’s operations off the ground. This is time for a friends-and-family round.

No debt. Almost all the investors in early stage companies demand and receive part ownership. It is too early for promissory notes, except for some well-secured real estate deals, unless the investor insists on preferred convertible notes.

Valuation is the rub. Valuation is seldom transparent. It is subjective, based on management, track record, market size, competition, and risk.

A: Sometimes called the early-stage round, this is capital that allows issuers to hire a founding team to do market research, ancillary product development, and sometimes, even market testing. This is also when the issuer decides what the final product or service is going to be and what the ideal demographic is going to be.

A: Seed round capital sources include angel investors, private equity investors, and alternative class investors. Some issuers return to friends, family, and associates at this stage.

A: Regulation D, using either or both Rule 506(c) and Rule 506(b), is the most popular exemption. There is no maximum raise.

Regulation S, for offerings to non-U.S. citizens, is becoming more popular as issuers discover some advantages over Regulation D. These advantages include little regulatory oversight (especially in Malta and other favored offshore jurisdictions), no maximum raise, and no PPM (private placement memorandum) required.

Regulation A+ has two iterations, one with a $20 million maximum and the other with a $50 million maximum. Regulation A+ is the exemption most similar to full registration with the SEC and compared to the other exemptions, particularly Regulation S, it is often prohibitively expensive and time-consuming.

Practical Tip: Well-advised issuers are increasingly using separate Regulation D and Regulation S websites, one for domestic marketing and one for foreign marketing, offering the same assets.

A: Rule 506(c) allows an issuer to market to the public; Rule 506(b) does not. Rule 506(b) allows up to 35 non-accredited investors; Rule 506(c) does not. The usual drill is to use 506(b) to raise money from friends, family, and associates. After all capital requirements have not been met, the issuer converts the 506(b) offering into a 506(c) offering.

History Factoid: To market securities to strangers, as now allowed under Rule 506(c), was illegal for more than 8 decades. Today, issuers using Rule 506(c) can do practically anything to go after both accredited and non-accredited investors. For instance, last year a REIT used 506(c) to raise capital from early-stage investors on Craigslist.

A: Issuers continue to use Rule 506(b) because it allows up to 35 non-accredited investors. If you need family money and some members of the family are not accredited, you use 506(b).

Practical Tip: An issuer can go from 506(b) to 506(c but not from 506(c) to 506(b).

A: These rounds are for issuers with track records who have established a user base, have consistent revenue figures, or enjoy other proofs of concept and process. Most Series A Rounds raise between $15 million and $50 million.

Series B, C, and D Rounds usually raise more capital than that, sometimes much more. This is when Series 7 and other securities licensees take interest and this is where VCs and PE (private equity) funds do much of their investing. Sometimes, a single large investor will serve as the “anchor” (think COSTCO as the first tenant in a shopping center), drawing in other, less aggressive investors, in exchange for better terms.

Most small issuers never need Series A funding, let alone Series B, C, or D funding. Their pre-seed and seed rounds raise enough capital so that they do not need to give away more equity.