Crowdfunding Alternatives–Part 3(C): Broker-Dealer Model

by Chambliss, Bahner & Stophel, P.C.
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We’re wrapping up the series discussion on crowdfunding because I’d like to move on to other business issues that I’ve been encountering lately (stay tuned later this week for how to limit liability in a contract), but before we move on, there’s another accredited crowdfunding platform that we should discuss briefly because it is a counterpart to the investment fund model that we discussed last week:

The Broker-Dealer Model: The broker-dealer model is another type of accredited crowdfunding platform in which a company partners with a registered broker-dealer who can accept transaction-based compensation (*i.e. the broker-dealer partner can receive a percentage of funds raised in each offering).

The typical transaction involves the sale of securities in the startup company itself, rather than an investment fund which serves as a middleman (as in the investment fund model).  The securities in the startup company are sold directly to accredited investors under Rule 506 of Regulation D.

One of the obvious downsides of the broker-dealer model is the need to find the right broker-dealer who can serve as a partner because the profitability of the platform depends to a large degree on making sure the broker-dealer’s transaction costs and experience level are enough to originate and close on the right amount of offerings to be profitable.

Another downside of accredited crowdfunding platforms, whether using the investment fund model that we discussed last time or the broker-dealer model, is that the offerings are limited to accredited investors which significantly reduces the number of eligible investors.  This is one reason why the startup world is anxiously awaiting the final rules concerning the exemption in Title III of the JOBS Act.

As we wrap up our crowdfunding discussion, please note that there are many other methods for startup companies to raise funds, and they all have advantages and disadvantages. 

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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