Booster Shot For Startups?

Doron Reuveni, CEO of uTest in South-borough: JOBS Act makes things easier for first-time entrepreneurs.

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Raising capital is the most pressing concern for nearly any startup company. Just ask John Rainey, regional director of the Massachusetts Small Business Development Center at Clark University.

"The biggest frustration for most entrepreneurs is, they're chasing money instead of developing their companies," Rainey said.

Raising money is no easy feat. Without collateral, most banks won't lend capital to a company that has little or no revenue, a description that fits many startups.

And though they're willing to take more risks than banks, venture capitalists and angel investors also tend to be choosy, preferring to target companies chasing big markets, which could translate into big returns on their investments.

Barbara Finer, founder of Marlborough-based tech industry marketing and consulting firm QuiVivity, and a board member of the Worcester Polytechnic Institute Venture Forum, said companies with smaller potential — but potential nonetheless — tend to fall through the cracks when it comes to funding.

"It could still be a very viable business," Finer said. "Why not allow another way for companies who maybe wouldn't have that kind of growth potential to be able to get funded?"

A new federal law aims to do just that. The so-called JOBS Act, which stands for "Jumpstarting Our Business Startups," would allow small private companies to sell shares through "crowdfunding" websites, with some income-based limits.

It's an idea that excites Finer. She has donated money to friends' startups on such websites, but thinks opening up online investing in private companies to anyone will be a boon for entrepreneurial ventures.

Previously, entrepreneurs could raise money through websites like Kickstarter, but the money was more of a donation or gift, not an actual stake in a company that could earn a profit. The law would also allow companies to broadly advertise the securities they have for sale, a practice that was formerly banned.

"That has the potential to have the greatest impact on raising capital at the private level," said Jeffrey Donaldson, an attorney at Mirick O'Connell in Worcester who specializes in venture capital investments and securities regulations. "Issuers can go out and use the media, use the internet, use social media, as long as they have a gating aspect," Donaldson said.

The gating aspect? Companies will be required to take "reasonable steps" to verify that those who buy the advertised securities are "accredited investors."

Until now, investments in private companies were restricted to company executives and people of high net worth. Banks, retirement funds and other organizations now become accredited investors.

The U.S. Securities and Exchange Commission (SEC) is expected to issue rules that define "reasonable steps."

Though crowdfunding may be the most talked-about piece of the JOBS Act, it contains several changes aimed at companies whose annual revenues are less than $1 billion, but that are farther along than the smallest startups.

For one, private companies will be able to sell securities to 2,000 accredited investors instead of the current limit of 500, after which expensive public disclosure requirements are triggered.

And the law contains a provision for companies that have financial backing but wish to pursue the next big step: an initial public offering.

The "IPO onramp" provision is billed as a quicker, less expensive way to file an IPO. Firms with less than $1 billion in annual revenue that file for IPOs could provide two years of audited financials instead of three, and they would be able to begin the process with the SEC confidentially until 21 days before they officially start courting investors. Under the current rule, the initial filing is available to the public immediately.

Doron Reuveni, CEO and founder of Southborough-based software and application testing firm uTest, said the JOBS Act could have big implications for his venture-backed company.

"When you make it a little bit easier and small companies don't have to meet every regulation big companies need to meet, you make it much more cost-effective for them in order to do it and you also cut the amount of time it will take," Reuveni said. "For us, that's absolutely critical."

Reuveni plans to pursue an IPO in 2014 through the onramp provision. He doesn't plan to have $1 billion in revenue by then, so he sees no reason not to register the offering through the onramp provision. The company has secured $37 million through four venture funding rounds, and is bringing in revenues from major clients, so Reuveni isn't after small investments from unaccredited investors.

But he sees the value for others. "Both angels and VCs like to fund people that they know and that have prior success with them," he said. "This opens a road to first-time entrepreneurs."

'Bad Bets?'

On the other side of the issue, Andrew Goloboy, a Sharon-based CPA and, like Finer, a member of the WPI Venture Forum, is blunt in his criticism of crowdfunding, comparing it to the state lottery. "The law is just empowering people to make bad bets," Goloboy said.
He said a large percentage of startups fail, which is something crowdfunding investors will need to think about before putting money in.

Even those who are excited about the JOBS Act acknowledge the potential risks.
Will inexperienced investors be able to comprehend the risks they're taking? What happens when a startup someone has invested in doesn't make much progress?

"As an investor, how do I get my money out?" asked Finer, of QuiVivity. "Does it get stuck in the company?"

Unless secondary markets for the sale of private securities grow stronger, the unfortunate answer, she said, is likely yes.

And crowdfunding could be a potential minefield for companies as well, said Donaldson, the Mirick attorney. He said less-savvy investors who invest through a crowdfunding website may present more of a burden to a company than the capital is worth. Many private companies aren't used to dealing with more than a few investors.

Rainey, of the Small Business Center, said the yet-unwritten SEC rules will be crucial. "The devil is always in the details," he said. "They will have to have controls in place."