2017 was a fantastic year for WealthForge and capital markets as a whole. But in order to make 2018 even better, here are a few things we are hoping will happen:
Expansion of the Accredited Investor Definition
Under current securities laws, only a small percentage of Americans qualify for accredited investor status—those who have a net worth of at least $1,000,000, excluding the value of one's primary residence, or have income at least $200,000 each year for the last two years (or $300,000 combined income if married) and have the expectation to make the same amount in the current year—and, therefore, can invest in private placements. While congress continues to hint that it may expand the definition of accredited investor, they have yet to take any concrete action. Congress should consider expanding the accredited investor definition by instituting a sophistication test, allowing financial professionals and others who may not have a high income or net worth but do understand the risks involved, to participate in Regulation D private placements.
In light of recent news coverage, many people know about the meteoric rise of Bitcoin and the proliferation of blockchain and distributed ledger technology. The uses for blockchain seem endless, but what will be the killer application? Investors poured more than $1 billion in venture capital into blockchain technology in 2015 and 2016 chasing that answer. Additionally, Bitcoin, Ethereum, Ripple and many other cryptocurrencies skyrocketed in price, while hundreds of other technology companies created Tokens or Coins to sell for services or in exchange for capital to build out their own version of a blockchain. In 2017, more than $4 billion was raised via these token sales or initial coin offerings. Among the tulip mania and dotcom-era like rush of exuberance, as well as allegations of fraudulent offerings and rampant money laundering, the SEC has deemed these coin sales as highly speculative securities issuances. Hopefully the increased scrutiny will make 2018 the age of the regulated ICO. Will the blockchain fever and ICO boom continue, or has the rapid rise in this cryptic asset class ballooned into a bubble that will ultimately burst? Only time will tell.
Better Utilization of Regulation A
When Congress enacted the JOBS Act of 2012, many commentators and issuers pointed to the expansion of Regulation A, a mini-public offering at a fraction of the cost, as a change with significant potential. However, even armed with the ability to be able to raise up to $50M from the American public and eventually list on a national exchange, few companies have jumped at the chance. According to SEC data, in 2017, 100 offerings raised approximately $250M via Regulation A and 8 of those companies ended up listed on the NYSE, NASDAQ or the OTC Market.
Of the companies that listed on the national stock exchanges, many of them are still trading at a significant discount to their IPO price. Were these offerings mispriced? Are public investors not being patient on the promise these growth stage companies offer? Why were there not more issuers that conducted an A-1? Did the best growth stage companies not take advantage of the new exemption? Our hunch is that it is still early and a lot of the mini-IPO process and pricing kinks are still being worked out through trial and error in the market. Perhaps 2018 will bring more Reg A utilization and successes. To learn more about Regulation A, read our complete guide.
Increasing the $1M Regulation CrowdFunding Cap
Regulation Crowdfunding, an exemption allowing companies to raise capital from non-accredited investors, has raised about $76.8 million in capital since May 2016. $49.2 million of that was raised by companies in 2017. The small cap and cost of capital associated with lots of small dollar investors have hampered Reg CF’s effectiveness and appeal thus far. Additionally, the reporting requirements and audit expenses serve as a barrier for many issuers. Importantly, however, there has been no reported fraud that we know of to date on any completed Regulation CF offering. Fraud is different than the failure that is inherent in early stage investing, but the investor protections in place and job creating promise of Reg CF’s seems to be working and perhaps this exemption should be taken to the next level. Congress could raise the cap on Reg CF from $1.07 million to potentially $20 million. If such an increase were enacted, Reg CF would be a more attractive means of early stage capital formation, allowing more of the American public to invest in early stage companies. Lastly, if this happened, how much would it cut into the amount currently being raised through Regulation D?
Positive Impact on Capital Markets from Tax Changes
2017 ended with Congress successfully passing a significant tax overhaul. This tax reform law includes changes to personal income tax brackets, corporate tax brackets, and partnership taxes. We believe that the lowering of the corporate tax rate to 21 percent and the changes to taxing pass-through entities will encourage continued investment into private investments, many of which are either LLCs or Limited Partnerships. These changes will also likely lead to more retained earnings for most business entities. These earnings are likely to increase the distributions and dividends received by investors in both the public and private markets.
Congress also chose not to end Section 1031 transactions in real estate in the final law. Section 1031 allows investors to sell property and purchase a “like-kind” property without recognizing any gain on the sale of the first property. Investors in real estate often use this provision to defer their gains on the sale of investment property, which serves as the backbone to the $1.5 billion Delaware Statutory Trust market. As a result of Congress’s decision, this market will continue to exist and potentially provide benefit to investors.
All in all, the newly passed tax reform’s effect on the private security markets remains to be seen, but we anticipate the private securities market will benefit from these changes.