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Why is a Broker-Dealer Important for Private Company Offerings?

Posted on by Oscar Jofre Tags: , , , , , , , , ,

If you’re looking to raise money for your private company, chances are that you’ve at least heard the term “broker-dealer.” However, if you’re new to the process, you might not be too familiar with what they do and why they are a key component of the fundraising process. 

 

Simply put, a broker-dealer is an agent that assists you in raising capital for your private company.  Broker-dealers can be small, independently working firms or ones that operate as part of large banks and investment firms. Both are subject to registration with the SEC and must join a “self-regulatory organization” such as FINRA. If a broker-dealer is not registered they can face penalties enforced by the SEC.  You can check a broker-dealer’s registration here: https://brokercheck.finra.org/. 

 

For private companies looking to raise money, working with a broker-dealer will be a key part of their capital raising activities. Certain states require issuers to work with a broker-dealer to offer securities, so working with a broker-dealer allows issuers to maintain compliance with the SEC and other regulatory entities. Ensuring that issuers are compliant with all regulations is essential to a successful round of capital raising and good business practices. If issuers are not compliant, they can face penalties from the SEC including returning the money raised.

 

Broker-dealers are intermediaries in a fundraise transaction between the private company and the investors.  As such, they are mandated to perform a variety of compliance activities.  If you retain a broker-dealer, they will first be responsible for performing due diligence on your private company. This is important so that there are no false representations to investors.  Investor protection is one of the main responsibilities of the SEC, so the broker-dealers must ensure they are performing appropriate steps to ensure the information presented to investors is accurate, appropriate, and not misleading.

 

Once the broker-dealer has completed the due diligence, they work with private companies to prepare appropriate information to share with investors and set timelines.  This can involve liaising with your legal counsel to ensure the offering documents are complete and to ensure what type of investors they can approach with your offering.  Each country has its own regulations around how you can approach investors, which is why it is important to have a good broker-dealer and legal counsel in each region you intend to offer your securities. 

 

There are different types of investors that can be approached depending on jurisdiction and securities regulations. They include Venture Capital, Private Equity firms, Institutional investors, or individuals. While most of these are professional investors, the individual investor group is further broken down into accredited/sophisticated investors and the general public.  Accredited investors have to meet income or wealth criteria to invest in accredited investor offerings (Regulation D type of offerings in the USA).  The popular mechanisms in the USA to present your offering to the non-accredited or general population (over 18 years) are Regulation CF and Regulation A+.

 

As the broker-dealers reach out to investors and find interested participants, there are steps that they have to perform to ensure that the investor is appropriate for the company.  Typical checks that broker-dealers have to conduct on investors can include performing identification verification, anti-money laundering checks, assessing the suitability of the investment to the investor, and doing accreditation checks. 

 

With the help of a broker-dealer, companies can raise the funding their company needs while being confident that they are maintaining compliance with the regulations that are in place. With over 3,700 registered broker-dealers in the United States alone, every issuer looking to raise capital can be confident of finding at least one well-suited broker-dealer that meets their needs.

SEC Proposes Relief for “Finders”

Posted on by Sara Hanks Tags: , , , , , ,

I have long (oh so long) been one of those urging the SEC to give some clarity with respect to the status of “finders.” See here for the latest piece.

Early-stage companies raising funds very often reach out to a guy who knows some guys who have money and have invested in startups in the past. If the first guy wants to be compensated by reference to the amount of money his contacts are able to invest, he may well have violated the broker registration requirements of the Securities Exchange Act of 1934. And it’s not only him who needs to be worried; if a startup raises funds through someone who should have been registered as a broker and wasn’t, their sales of securities may be subject to rescission – buying the securities back, with interest.

Nonetheless, startups are so strapped for money (and often don’t understand the requirements of the law) that they do this all the time.

Industry participants have been asking the SEC for guidance in this area for decades, and now the SEC has come up with some simple proposals that should be of use to the startup community.

The SEC is proposing to exempt two classes of finders, Tier I Finders and Tier II Finders, based on the types of activities in which they are permitted to engage, and with conditions tailored to the scope of their activities. The proposed exemption for Tier I and Tier II Finders would be available only where:

  • The issuer is not a reporting company under the Exchange Act;
  • The issuer is seeking to conduct the securities offering in reliance on an applicable exemption from registration under the Securities Act;
  • The finder does not engage in general solicitation;
  • The potential investor is an “accredited investor” as defined in Rule 501 of Regulation D or the finder has a reasonable belief that the potential investor is an “accredited investor”;
  • The finder provides services pursuant to a written agreement with the issuer that includes a description of the services provided and associated compensation;
  • The finder is not an associated person of a broker-dealer; and
  • The finder is not subject to statutory disqualification at the time of his or her participation.

Tier I Finders. A “Tier I Finder” is defined as a finder who meets the above conditions and whose activity is limited to providing contact information of potential investors in connection with only one capital raising transaction by a single issuer within a 12-month period, provided the Tier I Finder does not have any contact with the potential investors about the issuer. A Tier I Finder that complies with all of the conditions of the exemption may receive transaction-based compensation (in other words, compensation based on the amount raised) for the limited services described above without being required to register as a broker under the Exchange Act.

Tier II Finders. The SEC is also proposing an exemption that would permit a finder, where certain conditions are met, to engage in additional solicitation-related activities beyond those permitted for Tier I Finders. A “Tier II Finder” is defined as a finder who meets the above conditions, and who engages in solicitation-related activities on behalf of an issuer, that are limited to:

  • Identifying, screening, and contacting potential investors;
  • Distributing issuer offering materials to investors;
  • Discussing issuer information included in any offering materials, provided that the Tier II Finder does not provide advice as to the valuation or advisability of the investment; and
  • Arranging or participating in meetings with the issuer and investor.

A Tier II Finder wishing to rely on the proposed exemption would need to satisfy certain disclosure requirements and other conditions: First, the Tier II Finder would need to provide a potential investor, prior to or at the time of the solicitation, disclosures that include: (1) the name of the Tier II Finder; (2) the name of the issuer; (3) the description of the relationship between the Tier II Finder and the issuer, including any affiliation; (4) a statement that the Tier II Finder will be compensated for his or her solicitation activities by the issuer and a description of the terms of such compensation arrangement; (5) any material conflicts of interest resulting from the arrangement or relationship between the Tier II Finder and the issuer; and (6) an affirmative statement that the Tier II Finder is acting as an agent of the issuer, is not acting as an associated person of a broker-dealer, and is not undertaking a role to act in the investor’s best interest. The Commission is proposing to allow a Tier II Finder to provide such disclosure orally, provided that the oral disclosure is supplemented by written disclosure and satisfies all of the disclosure requirements listed above no later than the time of any related investment in the issuer’s securities.

The Tier II Finder must obtain from the investor, prior to or at the time of any investment in the issuer’s securities, a dated written acknowledgment of receipt of the Tier II Finder’s required disclosure.

A Tier II Finder that complies with all of the conditions of the proposed exemption may receive transaction-based compensation for services provided in connection with the activities described above without being required to register as a broker under the Exchange Act.

A finder could not be involved in structuring the transaction or negotiating the terms of the offering. A finder also could not handle customer funds or securities or bind the issuer or investor; participate in the preparation of any sales materials; perform any independent analysis of the sale; engage in any “due diligence” activities; assist or provide financing for such purchases; or provide advice as to the valuation or financial advisability of the investment.

This exemption would not affect a finder’s obligation to continue to comply with all other applicable laws, including the antifraud provisions of federal and state law. Additionally, regardless of whether or not a finder complies with this exemption, it may need to consider whether it is acting as another regulated entity, such as an investment adviser.

The exemption is really aimed at the guy at the golf club who has accredited buddies he can introduce the startup to. It would be available to natural persons only (not companies) and the finder couldn’t undertake general solicitation (he should know the people he is introducing to the startup; if he has to go searching for them, he’s essentially acting as a broker. The “no general solicitation” and “natural person” conditions means that the proposed exemption doesn’t help clarify the regulatory status of non-broker online platforms.

We are a little disappointed that so many of the comment letters on the proposal have been negative. We do understand that there is a great deal of clarification needed with respect to what it means to be in the business of a broker. And the SEC needs to work closely with the states in this area. But we at CrowdCheck are pleased that the SEC has provided some clarity in this area.

How to Manage Investments in Private Companies

Posted on by Oscar Jofre Tags: , , , ,

For investors, investing in private companies can be a beneficial way to diversify their investment portfolios. Whether the investment was made through private equity or RegA+, proper management can contribute to long-term success. However, once the investment is made, investors need to ensure that they are correctly managing their shares. With this in mind, how should investors manage their investments once they have been made?

 

Investments made in private companies can often come with voting rights. Being a part of company decisions is an important aspect of being an investor and helps to elect company directors and resolve issues. Investors exercising their voting rights can be a major aspect of managing their portfolio. 

 

Whether information is provided directly to the investors by the company or through a transfer agent, as companies release reports and other key information, shareholders should maintain current knowledge of the information. Understanding the company’s direction and changes that are occurring can give investors a picture of the future so they can determine how their shares will affect their portfolio. The investor should also know where the data can be found so that they are easily able to access and assess it. 

 

Additionally, investors should monitor the liquidity of the shares. Since some private company shares can be traded in a secondary market, understanding the value and the option to trade is important for investors. If they know how much their shares are worth, and they have the ability to sell them, investors can freely trade their shares. This is key if they decide that they no longer want to be a shareholder in a particular private company. 

 

However, for investors who own shares in multiple different companies, managing this information can become a burdensome task. With an all-in-one platform that incorporates portfolio management for investors, KoreConX streamlines and simplifies the process. KoreConX Portfolio Management allows investors to manage their investments from a centralized dashboard. Investors are easily able to see the shares that they own in each private company they’ve invested in. Through the platform, investors can access critical company information and performance data in one place, eliminating the need to remember where each piece of information is kept. Investors are also notified of upcoming shareholder meetings and can exercise their voting rights through the KoreConX platform. When companies and investors utilize the KoreConX platform, they can achieve higher success rates by maintaining compliance with necessary regulations. Utilizing KoreConX Portfolio Management is a powerful tool for investors to make informed decisions regarding their investments. 

 

When dealing with private company investments, it is incredibly important that investors properly manage their portfolios. Remaining up-to-date on company decisions and performance can help them plan for the future of their shares while allowing them to make decisions to increase the success of their investments. When investors understand their voting rights, company developments, and the liquidity of their shares, they can be an active participant in their financial success. 

What is Investor Relations?

Posted on by Oscar Jofre Tags: , , , ,

No matter the size of the company, investor relations (IR) should be a key component of conducting business. It’s never too early to implement a solid investor relations approach, but if your company has never tackled this issue, the term may seem confusing. Understanding what investor relations entail will allow your company to begin implementing strategies that will help your company succeed. 

 

Simply put, investor relations provide all investors with accurate information about the company. IR plays a key role in communication between investors and company executives. Rather than shareholders contacting the company’s CEO or other executives directly, the IR department acts as an intermediary, determining when it is important to involve the CEO.  If company executives were continually contacted by investors with requests, they would have to devote their already limited time to manage these requests. However, it is also up to IR teams to still ensure that company executives are still available for shareholders, so they must find a balance that works best. 

 

IR departments also have a responsibility to ensure that the company is compliant when reporting to investors. For public companies, the Public Company Accounting Reform and Investor Protection Act, passed by the US government in 2002, increased reporting requirements and set standards for companies to follow. With the bill in place, IR departments are required to distribute financial information to investors accurately. For private companies, ensuring they are meeting compliance early will save them time if they were to go public. The transparency increases confidence in the company for investors and ensures that the business is being run the right way. 

 

As a key line of communication between the company and investors, investor relations departments are typically responsible for communicating any changes or initiatives that the company will be undergoing. Being included in discussions with the executive team will help the IR team understand why decisions are being made so that they can communicate the reasoning effectively with investors. 

 

For private companies, software such as KoreConX’s all-in-one platform can help easily manage relationships with their shareholders. The KoreConX IR feature allows companies to work seamlessly with investors by providing them online opportunities to vote and access company financial information and news releases. By giving investors a secure platform on which they can both nominate and vote on company matters, they can feel confident in the way voting is held. Additionally, the investor relations feature allows the company to easily organize meetings with its investors. 

 

By maintaining transparent investor relations, private companies can prepare themselves for success. Keeping investors up to date on important company information allows them to have confidence in the company’s leadership and their investment. Having a track record of good relationships and transparency with current investors may also be beneficial when it comes to raising future capital, as it could help to attract potential ones. 

How does Investor Acquisition Help Find the Right Investors?

Posted on by Oscar Jofre Tags: , , , , ,

If you’re a company that is in the process of raising funds for your business, you’re likely looking to do so with the help of investors. By trading a piece of your company in exchange for some much-needed capital, you can fund your ideas and the growth of your business. With Regulation A+ opening up the investor pool to include those who would not be regularly included in a traditional IPO, it is essential to choose the right investors with whom you are going to grow your business. As investors become shareholders that often have some kind of say in the company, it will be important to choose investors that will aid you on your journey to grow your company. But how exactly do you find the right investor for you and your company’s vision?

 

Investor acquisition is targeting the best investors for the offering based on their demographics. Are you trying to raise money from your customers or people with similar behaviors? Are you targeting investors based on location, age, or other demographics? With investor acquisition, it allows companies to find and target the investors that will be best suited for the offering. If companies are targeting the investors that are most likely to invest, less time is wasted and more money is raised by eliminating the need to interact with those who aren’t going to invest. 

 

Additionally, through investor acquisition, you can turn current customers into investors and investors into customers. With the addition of RegA+ to issuers’ toolbox, the ability to raise money from customers is now easier than ever. The customers who already know and support you can turn into important advocates for your company, which in turn can entice either more investors or customers to support your company.  Through RegA+, investors are not required to be accredited, so everyday people now have the opportunity to invest in companies that they believe in and support. 

 

Once you’ve found investors to invest in your offering, keeping proper records of them will be essential to long-term success. Issuers need to manage their cap table, maintain investor relations, perform securities transfers in a compliant way, transfer agent, and more. With the KoreConX all-in-one platform, companies can securely manage who their investors are, issue shareholder certificates, and maintain their cap table in real-time, as changes occur. For investors, they can securely manage their portfolio of investments, receive important company information, and vote on company matters. With the platform, companies can maintain compliance and manage their information seamlessly. 

 

Once you’ve decided to raise capital for your company, the next most important should be who you are going to raise the money from. With the help of investor acquisition, you can analyze information about your target so that you can best understand their behavior and what will get them to invest. Making smarter decisions about who you want investment from will help your company grow in the direction that you see best. 

 

What is Needed for a Successful RegA+ Offering

Posted on by Oscar Jofre Tags: , , , ,

If your company is looking to raise funding, you’ve probably considered many options for doing so. Since the SEC introduced the outlines for Regulation A+ in the JOBS Act, companies have been able to raise amounts up to $50 million (which increases to $75 million in January 2021) during rounds of funding from both accredited and non-accredited investors alike. If you’ve chosen to proceed with a RegA+ offering, you’ve probably become familiar with the process, but what do you need for your offering to be a success?

 

When beginning your offering, your company’s valuation will play a key role in the offering’s success. While it may be tempting to complete your valuation in-house, as it can save your company money in its early stages, seeking a valuation from a third-party firm will ensure its accuracy. Having a proper valuation will allow you to commence your offering without overvaluing what your company is worth. 

 

Since the SEC allows RegA+ offerings to be freely advertised, your company will need a realistic marketing budget to spread the word about your fundraising efforts. If no one knows that you’re raising money, how can you actually raise money? Once you’ve established a budget, knowing your target will be the next important step. If your company’s brand already has loyal customers, they are likely the easiest target for your fundraising campaign. Customers that already love your brand will be excited to invest in something that they care about. 

 

After addressing marketing strategies for gaining investments in your company, creating the proper terms for the offering will also be essential. Since one of the main advantages of RegA+ is that it allows companies to raise money from everyday people, having terms that are easy for people to understand without complex knowledge of investments and finance will have a wider appeal. Potential investors can invest in a company with confidence when they can easily understand what they are buying. 

 

For a successful offering, companies should also keep in mind that they need to properly manage their offering. KoreConX makes it simple for companies to keep track of all aspects of their fundraising with its all-in-one platform. Companies can easily manage their capitalization table as securities are sold and equity is awarded to shareholders, and direct integration with a transfer agent allows certificates to be issued electronically. Even after the round, the platform provides both issuers and investors with support and offers a secondary market for securities purchased from private companies. 

 

Knowing your audience, establishing a marketing budget, creating simple terms, and having an accurate valuation will give your RegA+ offering the power to succeed and can help you raise the desired funding for your company. Through the JOBS Act, the SEC gave private companies the incredible power to raise funds from both everyday people and accredited investors, but proper strategies can ensure that the offering meets its potential.

Regulation A Offering Limits Increased to $75 Million

Posted on by Oscar Jofre Tags: , , , 1 Comment on Regulation A Offering Limits Increased to $75 Million

On Monday, November 2, exciting news was announced by the SEC regarding Regulation A offerings. The Securities and Exchange Commission approved long-awaited amendments to offering limits to “promote capital formation and expand investment opportunities.” These amendments, going into effect on January 2, 2021, drastically increase the amount of capital that issuers can raise through RegA+ offerings.

 

Before the Jumpstart Our Business Startups Act (JOBS Act) of 2012, Regulation A was a relatively obscure and underutilized regulation since adherence to Blue Sky Laws in all 50 states made it time-consuming and costly. The JOBS Act transformed RegA into a company-friendly law allowing businesses to raise millions of dollars. Broken down into two tiers, Tier 1 allows companies to raise a maximum of $20 million after meeting compliance with Blue Sky Laws in each state, while Tier 2 previously allowed up to $50 million to be raised after the offering statement has been reviewed and accepted by the SEC. While neither tiers place limits on the amount an accredited investor can invest, Tier 2 limits individual investors to either 10% of their net worth or annual income.

 

With this latest amendment to Regulation A, companies will now be able to raise a maximum of $75 million under Tier 2 offerings. This comes as great news for companies looking to raise capital through RegA offerings since Tier 2 offerings comprise the majority of those conducted, with 73% of qualified offerings falling under this tier. This substantial increase allows issuers to raise larger sums of capital to fund their business and its development. In addition, the updated Regulation A raises the offering limit of secondary sales from $15 million to $22.5 million. With Tier 2 offerings preempting Blue Sky Laws in each state, it offers companies an efficient tool for efficiently raising capital on a nationwide scale. 

 

With an increase of $25 million, this drastic improvement to Regulation A offerings will empower more companies to raise the capital they need for success.

SEC Approves Increases to RegCF Maximum Offering and Investor Limits

Posted on by Oscar Jofre Tags: , , ,

On Monday, November 2, 2020 the SEC approved updates to Regulation Crowdfunding significantly increasing the limits of offering under this regulation. These changes will go into effect at the beginning of the coming year, January 2, 2021. This move will introduce new business opportunities to companies looking to raise capital. In their Monday press release, the SEC stated that “today’s amendments are the next step in the Commission’s efforts to improve the exempt offering framework for the benefit of investors, emerging companies, and more seasoned issuers.”

At the introduction of RegCF in Spring 2016, companies could raise a maximum of $1.07 million within 12 months.  Sherwood Ness, the principal of Crowdfund Capital Advisors, said: “When we began lobbying for Reg CF, we artificially set a low maximum target of $1 million so that we could test the model and make sure there was no fraud. Under those limits, more than 2,800 companies in 430 industries, across 50 states have raised over 500 million dollars in just 4 years, with no fraud.  The model is working incredibly well.” Now, this limit has increased to $5 million, which will allow more business access to the capital they need to grow, create jobs, and launch innovative products and services.

In RegCF’s initial form, the total amount of securities sold to an individual investor could not exceed $107,000 within 12 months. For accredited investors, this limit has been removed. For investors with either a net worth or annual income less than $107,000, investments in RegCF offerings were limited to $2,200 or 5% of the lesser of their annual income or net worth. With the November amendments to the regulation, for non-accredited investors, the limit was changed to the greater of their annual income or net worth.

In addition, companies raising capital through RegCF offerings are now permitted to “test-the-waters” before filing their offering with the SEC. “Demo day” communications are also now permitted and are not deemed to be a general solicitation or general advertising. Lastly, through this update to the regulation, Special Purpose Vehicles are permitted to facilitate investments in RegCF issuers. 

This update comes at a critical time in the US economy. For companies around the country, turning to their customers to invest the funds necessary to keep their doors open, the increase to RegCF will enable them to raise larger sums of capital in the new year.

KoreSummit RegA+ 2020

Posted on by Oscar Jofre Tags: , , , , , , , , , , , , , ,

KoreSummit is all about education,  We are pleased to be able to offer you the opportunity to receive first-hand knowledge from leading thought leaders to help you in your journey to capital raising.

The KoreSummit RegA+ 2020 online event was a huge success because of you who attended and shared it with your friends.  As promised here are the video segments.

Complete Live Stream

 

RegA+ Verticals

 

Legal RegA+ Global Companies

 

Investor Acquisition/Distribution

 

PR/IR/Social Media/Press

 

Research, Ratings

 

Role of FINRA Broker-Dealer

 

RegA+ Success, the CEO’s

 

The Main Event

 

Digital Securities for RegA+

 

Compliance for RegA+

 

Shareholder Management & Communications

Forbes interview with KoreConX founders

Posted on by Oscar Jofre Tags: , , , , , , , ,

Start-Up KoreConX Launches A New Blockchain Network To Connect The Private Capital Market

Robert AnzaloneContributor 

Crypto & Blockchain

Do you know how to invest in the private capital market?  Not many people do.  It is complicated, requires a lot of paperwork, has low transaction volume, comes with risk and volatility, and not very liquid.

Could distributed ledger technology (DLT) be used to reduce back-office fees and expand the market for this asset class?

I interviewed Oscar Jofre, CEO and co-founder of KoreConX, who believes his platform and infrastructure can help.

KoreConX is a company working to change how businesses raise capital.  Mr. Jofre is an advocate for using DLT to bring transparency to a fractured process.  Mr. Jofre mentioned, “There are over 90,000 companies in our platform from around the globe who have raised more than $6.6 billion. Companies who use the KoreConX platform raised capital working with broker-dealers or direct offerings on their own. We are purely providing the technology to make sure they are fully compliant and to manage the entire process.”

What is the private capital market?  What are the problems?

The private capital market represents companies not publicly traded on stock exchanges. Private funds, venture capital investors, and some mutual funds are typically the main buyers.  Investments can be in new start-up enterprises, mature business, or sometimes struggling firms. This type of asset is considered to be highly risky.

One critical problem, the team at KoreConX explained, was the lack of market access for small firms. Dr. Kiran Garimella, KoreConX’s CSO and CTO, said, “The majority of participants in private capital markets are smaller entities who are closely connected with local companies and investors. They cannot afford huge expenses for integrated systems.”  KoreConX specializes in connecting all sizes of firms rather than limiting their scope to more mature enterprises.  Interestingly CEO Oscar Jofre’s background is crowdfunding, which is a driving influence in his business.

Jason Futko, CFO and co-founder, said, “It is often difficult for companies in the private capital markets to identify investors to present their opportunity. The fragmentation in this market can make it difficult to find investors or other professionals to help you grow your business.”

On June 26th, 2019, Broadridge bought from Northern Trust a similar blockchain platform.  There is competition in this space from many players. Mr. Jofre said, “There are companies like Carta, Capshares, ComputerShare, AST, and Link Group that offer some of the features KoreConX provides in our all-in-one platform. We have a much different view of the market. To truly transform it, we need to make sure all participants have all the tools they need. If they don’t, then we will never see any great change in the private capital markets.”

KoreConX launched on October 11th, 2019, their new blockchain ecosystem for fully compliant digital securities worldwide.  Their mission is to ensure compliance with securities regulation and corporate law.  The KoreConX platform includes securitized token issuance, trading, clearing, settlement, management, reporting, and corporate actions.

As explained to me by the management team, the lack of data integrity and regional knowledge of jurisdictional compliance can restrict investment opportunities offered to the public.  Mr. Futko continued, “Obviously part of the solution under KoreConX has to be around connecting document fragmentation, providing access to professionals and creating trust through our blockchain, which ensures both business and regulatory logic.”

Why can blockchain technology help now?

The KoreConX team stated that the private capital markets serve over 450 million private companies worldwide today.  They have a lack of document transparency and high fees. Compare this to public capital markets, which have established listing standards and rules.  Furthermore, open markets are used every day and can handle many transactions.  Dr. Garimella said, “Blockchain offers technology that provides solid mechanisms for trust through immutability and consensus among parties.”

I asked Mr. Jofre to explain why his work was different from larger companies, like Broadridge? He responded, “KoreConX is entering a market with many providers who have a single feature or application. For private capital markets to be as efficient, as public listed markets, it needs an infrastructure layer and an application layer.  KoreConX brings both.  We do not exclude anyone because of size or geography.”

The SEC proposes expanding the “accredited investor” definition

Posted on by Sara Hanks Tags: , , , , , , , , , , ,

The SEC has proposed amending the definition of “accredited investors.” Accredited investors are currently defined as (huge generalization here) people who have net worth of $1 million (excluding principal residence) or income of $200,000 ($300,000 with spouse) or entities that have assets of $5 million. Here’s the full definition.

The whole point of the accreditation definition was that it was it was supposed to be a way to determine whether someone was able to “fend for themself” in making investment decisions, such that they didn’t need the protection that SEC registration provides. Those people may invest in private placements. The thinking at the time the definition was adopted was that a financial standard served as a proxy for determining whether an investor could hire a professional adviser. Financial standards have never been a particularly good proxy for investment sophistication, though, and some people who are clearly sophisticated but not rich yet have been excluded from being able to invest in the private markets.

The proposal would:

  • Extend the definition of accredited investor to natural persons (humans) who hold certain certifications or licenses, such as the FINRA Series 7 or 65 or who are “knowledgeable employees” of hedge funds;
  • Extend the definition of accredited investors to entities that are registered investment advisers, rural business investment companies, LLCs (who honestly we all assumed were already included), family offices, and other entities meeting an investments-owned test;
  • Do some “housekeeping” to allow “spousal equivalents” to be treated as spouses and tweak some other definitions; and
  • Create a process whereby other people or entities could be added to the definition by means of a clear process without additional rulemaking.

We are generally in favor of these proposals. However, we worry that the more attractive the SEC makes the private markets, the more that people of modest means will be excluded from the wealth engine that is the American economy. We also believe that the concerns raised about the integrity of the private markets by the two dissenting Commissioners, here and here, should be taken seriously. The real solution to all of this is to make the SEC registration process more attractive, and better-scaled to early-stage companies.

In the meantime, read the proposals and the comments, and make up your own minds. The comment period ends 60 days after publication in the Federal Register, which hasn’t happened yet.

Equity Crowdfunding Platforms (RegCF)

Posted on by Oscar Jofre Tags: , , , , , , , , , , ,

As of 02 JUNE 2020, there are 51 active RegCF Equity Crowdfunding Platforms helping companies raise up to $1.0M USD.

We are all anticipating that RegCF is going to be potentially increased to a $5 million funding cap.   The SEC has proposed this increase, along with some other changes, and many observers expect the Commission to move forward with a higher funding cap.    

We recently did a Q&A with  Wefunder on what RegCF companies require.

We have compiled the list of 51 Active Equity Crowdfunding Platforms along with the sectors they serve.

Company Name URL City State Sector
Bioverge Portal, LLC https://www.bioverge.com/ San Francisco CA Healthcare
Buy the Block https://buytheblock.com/ Denver CO Community
CollectiveSun, LLC http://collectivesun.market/ San Diego CA Social Ventures
Crowd Ignition https://crowdignition.com/ New York NY General
CrowdsourcedFunded https://crowdsourcefunded.com/ Chicago IL General
EnergyFunders Marketplace http://www.energyfunders.com/ Houston TX Energy
EnrichHER Funding, LLC https://ienrichher.com/ Atlanta GA Loans
Equifund Crowd Funding Portal Inc. www.equifundcfp.com Kanata ON General
EquityDoor, LLC https://equitydoor.com/ Austin TX Real Estate
Flair Portal ( Flair Exchange) https://www.flairexchange.com/ Vancouver BC Gaming
Flashfunders Funding Portal www.flashfunders.co Sherman Oaks CA General
Funders USA https://www.fundersusa.com/ Newport Beach CA Technology
Fundit http://fundit.com/ Fairfield NJ General
Fundme.com, Inc. www.fundme.com Murray UT Technology
Fundopolis Portal LLC https://www.fundopolis.com Boston MA General
GrowthFountain Capital www.growthfountain.com New York NY General
Honeycomb Portal www.honeycombcredit.com Pittsburgh PA General
Hycrowd https://www.hycrowd.com/ Jersey City NJ General
Indie Crowd Funder www.indiecrowdfunder.com Los Angeles CA Film
Infrashares Inc. https://infrashares.com San Francisco CA Infrastructure
IPO Wallet LLC https://ipowallet.com/ https://invest.ipowallet.com/ Sachese TX General
Jumpstart Micro www.jumpstartmicro.com Bedford MA General
Ksdaq https://www.mrcrowd.com Monterey Park CA General
MainVest, Inc. https://mainvest.com/ Newburyport MA General
Merging Traffic Portal llc www.mergingtrafficportal.com Orlando FL General
MinnowCFunding www.minnowcfunding.com Pasadena CA Real Estate
MiTec, PBC (Crowdfund Main Street) https://www.crowdfundmainstreet.com/ Fremont CA Impact
NetCapital Funding Portal www.netcapital.com Lewes DE General
NSSC Funding Portal (SmallChange) www.smallchange.com Pittsburgh PA Real Estate
OpenDeal (Republic) www.republic.co New York NY General
Pitch Venture Group LLC https://letslaunch.com/ Houston TX General
         
Raise Green, Inc. http://www.raisegreen.com Somerville MA Impact
Razitall www.razitall.com Basking Ridge NJ General
SeriesOne https://seriesone.com/ Miami FL General
SI Portal (SeedInvest) www.seedinvest.com New York NY General
Silicon Prairie Holdings, Inc. https://sppx.io/ St. Paul MN General
         
SMBX https://www.thesmbx.com/ San Francisco CA Bonds
Sprowtt Crowdfunding, Inc. https://www.sprowttcf.com/ Tampa FL General
         
StartEngine Capital www.startengine.com Los Angeles LA General
STL Critical Technologies JV I, LLC (nvested) www.nvstedwithus.com St. Louis MO General
         
Title3Funds www.title3funds.com Laguna Beach CA General
Trucrowd www.us.trucrowd.com https://fundanna.com
https://cryptolaunch.us
https://musicfy.us		 Chicago IL General
VedasLabs Inc. https://vedaslabs.io/ New York City NY General
Vid Angel Studios (VAS Portal LLC) https://studios.vidangel.com/ Provo UT Film
Wefunder Portal https://www.wefunder.com San Francisco CA General
Wunderfund www.wunderfund.co Cincinnati OH General
WWF Funding Portal LLC https://www.waterworksfund.com/ Detroit MI Water

If you have any questions about how we can help you with your RegCF contact us

lily@koreconx.io

FINRA BD Requirements for RegA+ & Digital Securities

Posted on by Oscar Jofre Tags: , , , ,

FINRA BD Requirements for RegA+ & Digital Securities

The private markets are receiving a much updated revamp by the SEC which is having a major impact on registered FINRA Broker-dealer firms.  Here are two (2) of the most common activities for which FINRA Broker-dealers (BD) are approached by companies.  Most BD’s are not aware that in order to help companies raise capital utilizing these regulations, there is a registration they must first do with FINRA.

We went to the source that has been helping many FINRA Broker-dealers and put the responses in a simple way.  Ken Norensberg, Managing Director, Luxor Financial provides the answers to which all BDs need to pay extra attention to make sure you are fully compliant.

RegA+ (Regulation A)

Broker-dealers today have the ability to help companies that are using either Regulation D (RegD) or regulation A(RegA+).  Now what they are not aware of is that in order to allow them to help companies with RegA+ they do need to be registered with FINRA. If that registration isn’t done, they are not allowed to proceed in offering those services. This process can take anywhere from 60 to 90 days or it could happen sooner.  Most firms are not aware that when they take on a RegA+ client, they must apply to FINRA to represent them in the offering. This is done at the same time the company is filing their Form 1A with the SEC for their RegA+ offering.

Digital Securities

Digital Securities are now becoming main street language and most Broker-dealers want to offer this to investors. Unfortunately, if they do not have FINRA approval for digital securities, it’s not a product they can represent or offer to investors.  Digital Securities require registration. The process is like putting a full new member application, and it will take anywhere up to four (4) months.  Your firm must file with FINRA for each of the exemptions you want to use for Digital Securities (RegD and or RegA+.  Here is what your firm will be required to answer to FINRA in its application.

  • You will need a detail business plan
  • What entities are the holders of the “private keys” in the DLT network that would be required to gain access to the digital securities, cash-backed digital securities holdings or digital currency? 
  • Are multiple keys needed to gain access or is a single key sufficient?
  • Who controls or has access to the DLT network where the assets are held?
  • What happens in the event of a loss or destruction of assets (either due to fraud or technological malfunction) on the network?
  • If the broker-dealer was to fail and is liquidated in a proceeding under the Securities Investor Protection Act of 1970, as amended, how would customers’ securities and funds be treated, and how would customers access their assets?
  • In instances where firms have established partnerships with other firms to serve as their back-ups and to carry out critical functions in the event of emergencies, what type of access would those back-up firms have to the private keys?
  • How will customers or the Securities Investor Protection Corporation (SIPC) trustee access the customers’ assets in the event of a defaulted broker-dealer? What parties will be involved, and what are their roles and responsibilities?
  • How does the use or application of the DLT network affect the market risk, liquidity or other characteristics of the asset?
  • What information is maintained using the DLT network?
  • What will be deemed as the physical location of the firm’s records maintained on a node of a DLT network that may extend over multiple countries?
  • What parties have control or access to the firm’s records? What are their rights, obligations and responsibilities related to those records, and how are they governed?
  • What is the firm’s (and other participants’) level of access to the data, and in what format would it be able to view the data?
  • How does the DLT network interact with the firm’s own systems for recordkeeping purposes?
  • How would the records be made available to regulators?
  • How will the firm’s traditional exception reporting, used to supervise transactions, be generated from a DLT network?
  • How will the firm protect any required records from tampering, loss or damage?
  • Clearance & Settlement?
  • Anti-Money Laundering (AML) Procedures & Know Your Customer (KYC) Rules?
  • Customer Data and Privacy?
  • Trade & Order Reporting Requirements?
  • Supervision & Surveillance of Transactions?
  • Fees & Commissions?
  • Customer Confirmations & Account Statements?
  • Anticipated Customer Base?
  • Facilities, Hosting?
  • Licensed & Qualified Staff

As the market is evolving to provide more alternatives to companies and investors, FINRA Broker-dealers need to also make sure their licenses are up to date to be able to offer these updated alternatives.  It’s not enough that you are registered with FINRA.

Thank you to Ken Norensberg, Managing Director of Luxor Financial, who provided this valuable information to assist Broker-dealers to stay compliant.  Ken has been helping FINRA Broker-dealers manage these new registration requirements. 

About Ken Norensberg & Luxor

Luxor Financial Group, Inc. a NY based Broker-Dealer Consulting Firm that specializes in setting up Independent Broker-Dealers. We are experts in New Member Applications, Continuing Membership Applications, Expansion Filings, FINRA and SEC Audits, Anti Money Laundering Reviews, Business Development and general compliance and business development services. www.luxorbd.com

Ken is a former Member of the FINRA Board of Governors. FINRA oversees the regulatory activities and business practices of over 4,500 Broker-Dealers, 163,000 Branch offices, 630,000 registered representatives and 3,500 employees and consultants with annualized revenues and a budget of approximately $800,000,000 (Eight hundred million dollars.)

The Board contends with many complex issues that affect large organizations from generating revenues, managing expenses, personnel, legal, regulatory, political and operational issues.

Additionally, Ken was a Member of the following committees and subcommittees:

  • Regulatory Policy Committee
  • Emerging Regulatory Issues (Subcommittee)
  • Financial, Operations & Technology Committee
  • Pricing (Subcommittee)
  • Ex-Officio of the Small Firms Advisory Board (SFAB)

Wefunder Interviews Oscar Jofre co-founder KoreConX

Posted on by Oscar Jofre Tags: , , , , , , , ,

WeFunder the #1 Equity Crowdfunding platform in the USA interviews Oscar Jofre co-founder of KoreConX.

(1) What is a Transfer Agent? 

This a great question. As each entrepreneur enters the world of raising capital, new responsibilities are brought on.  In many instances, the company will need to engage with a registered transfer agent to manage the corporate records of the company.   This can seem like a disconnect since as entrepreneurs know their business best. However, in order to bring confidence to investors, you appoint a third party Transfer Agent, to ensure your book of records are up to date and accurate. 

So what is a Transfer Agent?  

A stock transfer agent or share registry is a third party company, which records all entries and manages all transactions of the company’s equities.  We are holding the book of records for the company and to make sure all trades, transfers and corporate actions are undertaken properly.

(2) What are the requirements for companies that run Regulation Crowdfunding campaigns, with respect to Transfer Agents. 

Once you decide to do a Regulation Crowdfunding (RegCF) or RegA+ you will need to undertake a number of regulatory activities before you can get started first, you will need to apply and receive regulatory approval from the SEC.  Wefunder provides you all the guidance you need to make sure it’s done correctly and timely.

As you prepare for your offering, you need to start planning for how you will manage and report to all your new shareholders post your capital raise.  This can seem overwhelming but we are here to provide you the platform that will help you with all that.

Since you need to appoint a transfer agent, here is what really sets us apart from a traditional transfer agent. We not only provide you the services as mandated, but we also provide a whole platform where you can manage your shareholders, communicate with them, report to them, send them updates, hold your annual shareholders meeting including an included evoting feature and has a free portfolio management feature for your equity and debt holders to always see their investment information and updates. So you can pick a traditional transfer agent that will operate in a silo with none of the above features, or you can select KoreConX that not only meets your regulatory obligations, but also provides you access to an all-in-one platform to help you manage your business. 

(3) What are the other services provided by KoreConX? 

When we launched KoreConX to serve the JobsAct. It was designed by founders to help founders of a business and to bring everyone together, thus giving companies more control while spending less time doing redundant paperwork.

KoreConX provides the world’s first all-in-one platform providing companies: cap table management, document management, boardroom tools, investor relations, AGM planner, eVoting for shareholders, dealroom, reporting, valuations, and for their shareholders’ a free portfolio management to manage the investments in the company.  

The KoreConX all-in-one platform is for by entrepreneurs, CEO, President, CFO, COO, CCO, board of directors, corporate secretary, investor relations, legal counsel, auditors, and shareholders. 

One platform to serve the entire company.

(4) What are some of the biggest mistakes you have seen companies make with respect to Transfer Agents?

Having spent over 20 years in the public listed company world, it was not a surprise for us to see some of the issues private companies are facing.  For private companies today adding the role of Transfer Agent can be very difficult. 

The biggest mistake we see is not disclosing the full captable of the company.  This is often because of the way securities have been issued to other shareholders, founders, etc.   As the Transfer Agents, the only way to provide proper records is to have all the securities that the company has issued: shares, options, warrants, debentures, SAFE, Digital Assets, Loans, Promissory Notes, etc.

The second biggest mistake we see is that there is no documentation for the securities that have been issued prior to the RegCF offering.  

(5) What advice would you have for founders using Transfer Agents?

Like any relationship your company needs to have in the growth of your company, a Transfer Agent is very important.

Find a Transfer Agent firm that not only serves your needs but the needs of your shareholders, and provides you a way to be connected to them in a very effective and efficient manner so you don’t have to keep duplicating your efforts.

A Transfer Agent of the 21st Century needs to grow with you and understand the private company, and how you are going to use regulations to raise your capital.

(6) Why is KoreConx better than Carta? 

The major difference with KoreConX and companies like Carta, we design and built KoreConX from the ground up from the founders and the company’s perspective. Most people in the finance industry build products from a transactional and/or a dealermaker perspective.   

KoreConX emerged from the creation of the JobsAct and we knew the demands for Transfer Agents would be very difficult to undertake, given the size of the new shareholder bases and that capital raises would be too small to support the added cost of compliance. 

We created a platform to help a company who is just getting started through to full maturity.

The KoreConX all-in-one platform is there to help companies of all sizes and providing a journey for an entrepreneur to grow on the platform.

(7) How much does KoreConX cost?

Understanding the Regulation Crowdfunding (RegCF) and RegA+ we knew that pricing for this service would need to be aligned with the company. The service of transfer agent should not be based on the metrics of the past but rather what the companies of today need to operate and meet their regulatory obligations

Our pricing model is there to help companies not punish them.

For RegCF we have a 3 tier pricing model, and this is not based on how many shareholders they will have but rather how much capital they raised:

  • $0-$250k $25.00/month
  • $250-$500k $50.00/month
  • $500k- $1M $75.00/month

All our programs include all the same features:

  • Dedicated Agent
  • No onboarding fees
  • Unlimited transactions
  • Investor Relations
    • Ability to send reports to shareholders
    • Ability to send news releases to shareholders
    • Manage your Annual Shareholders Meeting
    • Give your shareholders the opportunity to vote online for company Annual Shareholders Meeting
  • Free Training for you and your shareholders

What is Reg A plus versus Reg A?

Posted on by Kendall Almerico Tags: , , 2 Comments on What is Reg A plus versus Reg A?

The simple answer is that today, Regulation A (Reg A) and Regulation A+ (Reg A+) are the exact same law. There is no difference, and the two terms may be used interchangeably.

Some confusion stems from the two similar terms, and there is much misleading information about this online. I’ve even spoken at events where I’ve heard other lawyers claim the two laws are different. They are not.

Historically, there was no Reg A+, there was only Reg A. Regulation A was an infrequently used law that allowed a company to raise up to $5,000,000 from the general public, but with the company still having to go state-by-state to get Blue Sky law approval for their offering.  This expensive and time-consuming process of dealing with review of an offering by 50+ state regulators made Regulation A far too expensive and time-consuming for most issuers to only be allowed to raise $5,000.000. 

 In 2012, the Jumpstart Our Business Startups Act (JOBS Act) became law, and Title IV of that act amended Regulation A in many ways, most notably (a) doing away with the state by state blue sky law requirement and (b) raising the limit from $5,000,000 to $20,000,000 or $50,000,000, depending on which “tier” of the law is used. Congress took a virtually worthless law, and turned it into an excellent and company friendly law that has allowed many companies since to raise millions.

Interestingly, since in 2012 when the law went into effect, and even since 2015 when the SEC passed its rules allowing the law to actually be used, the law is still officially called Regulation A. But, both the SEC, and commentators also started simultaneously calling the law “Regulation A+” or “Reg A+” to note that it was a supercharged version of the old Regulation A law.

Finally, to get super-lawyer-nerdy here, the official name of the law is Regulation A – Conditional Small Issues Exemption, and is part of the Securities Act of 1933, found at 17 CFR §§ 230.251 – 230.300-230.346.

What are investor limits on investment size of both?

As noted in my other blog article, these is no difference between Regulation A (Reg A) and Regulation A+ (Reg A+). They are the exact same law.  The two terms may be used interchangeably. Therefore, investor limits on investment size are the same for either term.

However, there are investor limits on how much an investor may invest in Regulation A. These limits depend on which “tier” of the law is being used.

Tier 1 of Regulation A allows a company to raise up to $20,000,000, but the company must go through Blue Sky law compliance in every state in which it plans to offer its securities. There are no limitations on whether someone can invest, or how much someone can invest, in a Tier 1 offering. 

As a side note, Tier 1 offerings tend to be limited to one state, or a small number of states, because of the added cost of Blue Sky compliance. The SEC does not limit the amount of investment, but states may have limitations in their securities laws, so an analysis of each state’s securities laws is necessary if doing a Tier 1 offering.

Tier 2 of Regulation A allows a company to raise up to $50,000,000, and the company does not have to go through Blue Sky law compliance in any state in which it plans to offer its securities. However, there are limitations on how much someone can invest, in a Tier 2 offering if the offering is not going to be listed on a national securities exchange when it is qualified by the SEC.  If the Tier 2 offering is going to be listed on such an exchange, there are no investor limitations.

For a Tier 2 offering that is not going to be listed on a national exchange, individual investors are limited in how much they can invest to no more than 10% of the greater of the person’s (alone or together with a spouse) annual income or net worth (excluding the value of the person’s primary residence and any loans secured by the residence (up to the value of the residence).

There are no limitations on how much an accredited investor can invest in either a Tier 1 or a Tier 2 Regulation A offering.

Why is my cap table so important for my company?

Posted on by Oscar Jofre Tags: , , , , , , , ,

It’s never too early in the process of building a company to start managing your capitalization table (otherwise known as a cap table). As a detailed document recording all information regarding shareholders and the equity owned in the company, a well-managed cap table will become essential to long term success. Even if you’re thinking that your company does not need to keep such detailed records early on, understanding its importance may change your mind. 

At first, keeping track of equity might be a simple task. In the early stages, perhaps equity had only been distributed amongst cofounders. However, as the company grows, equity might be given out to key team members and employees, which all needs to be recorded accurately.  Without numbers correctly recorded, it will likely be hard to know exactly how much equity is remaining for the future. Also, with proper recording, it will allow founders to easily determine how certain deals may affect the equity distribution of the company. 

For potential investors, the cap table will be a key resource. Before investing in a company, investors will want to become familiar with current shareholders and the equity that each one possesses. The transparency a well-managed cap table allows will help avoid delays and increase investor confidence. During rounds of funding, the founder should also be concerned with how awarding investors with equity will affect their ownership in their company. For both parties during investor negotiations, the cap table will be essential. 

Once the company has received investments from investors, managing shareholders will also become an important task, which can be done in the cap table. The cap table will typically include investor information, such as who they are, their voting rights, and the number of shares that they own. With this information in one centralized place, if voting was to take place, the cap table ensures that all investors would be included as necessary.

One major benefit of starting to manage a cap table as soon as possible is that it will save time and resources in the long run. As the company begins to seek funding, the cap table would be already prepared and up to date. If the company did not already begin to keep records in their cap table, they would need to go back and create one, which could increase the chances for errors since it could be possible for them to have lost documents or records that they would need.

So what is the best way to manage your company’s cap table? Even though you can make a simple spreadsheet in Excel, using software such as KoreConX’s all-in-one platform might be more beneficial for long-term success. As deals occur, the cap table is automatically updated, eliminating errors that could result from manual changes. The platform also provides investors with the transparency they need to feel confident in their investments. Companies will benefit immensely from the increased transaction speeds and expedited due diligence that results from a properly managed cap table.

SEC changes to RegA+ and RegCF

Posted on by Oscar Jofre Tags: , , , , , ,

On 04 March 2020, the US Securities Exchange Commission (SEC) has laid out the proposed changes that are going to have a major impact on the private capital markets.  This is very positive for the market. These changes have been in the works for a number of years and many in the industry have advocated for these changes that are now materializing.

The Commission proposed revisions to the current offering and investment limits for certain exemptions. 

Regulation Crowdfunding (RegCF): 

  • raise the offering limit in Regulation Crowdfunding from $1.07 million to $5 million;

This is going to benefit the 44+ online RegCF platforms such as;  Republic, Wefunder, StartEngine, Flashfunders, EquityFund, NextSeed.   These online platforms have paved the way and now more US-based companies will be able to capitalize on this expanded RegCF limit.  

Regulation A (RegA+) 

  • raise the maximum offering amount under Tier 2 of Regulation A from $50 million to $75 million; and
  • raise the maximum offering amount for secondary sales under Tier 2 of Regulation A from $15 million to $22.5 million.

As you saw in our recent announcement of our RegA+ all-in-one investment platform, we expect more companies to now start using RegA+ for their offerings and they need a partner that can deliver an end-to-end solution.   www.koreconx.io/RegA

These two changes are momentous and will have far-reaching consequences in democratizing capital and make it very efficient for companies to raise capital. This also increases the shareholder base, which makes it even more important for companies to have a cost-effective end-to-end solution that can manage the complete lifecycle of their securities.

If you want to learn more please visit:

www.KoreConX.io/RegA

Here is the complete news release by the SEC

https://www.sec.gov/news/press-release/2020-55?utm_source=CCA+Master+List&utm_campaign=40105b558a-EMAIL_CAMPAIGN_2020_01_02_09_01_COPY_01&utm_medium=email&utm_term=0_b3d336fbcf-40105b558a-357209445

Wake up call, do you have the right chain for securities?

Posted on by Oscar Jofre Tags: , , , , , , ,

Polymath is the latest of the Ethereum fan club that has woken up to the fact that Ethereum isn’t the right blockchain platform for financial securities. The reasons include the permissionless and unverified participants, gas fees, unpredictable settlement, poor performance, and lack of scalability.

Vitalik himself was the first to point this out way back on May 9, 2016 (3.5 years ago—a lifetime in crypto-space) in a blog post on Settlement Finality: “This concept of finality is particularly important in the financial industry, where institutions need to maximally quickly have certainty over whether or not the certain assets are, in a legal sense, “theirs”, and if their assets are deemed to be theirs, then it should not be possible for a random blockchain glitch to suddenly decide that the operation that made those assets theirs is now reverted and so their ownership claim over those assets is lost.”

Independently, we (KoreConX) too came to the same conclusion when we first started looking for a good platform for our digital securities and our all-in-one applications that serve the market. This does not detract from the engineering prowess of the Ethereum team, who have taken on a monumental task in trying to create an open blockchain platform that is everything to everyone.

The real problem in the financial markets is that of investor safety. No amount of cryptography can guarantee the validity of participants and of transactions precisely because verification and validity is not in the technical domain. Rather, it’s in the social, economic, and regulatory domain. Blockchain will immutably commit all data regardless of its business validity, as long as it’s cryptographically valid. It is up to the blockchain applications and smart contracts to ensure business validity. This too is not a technical issue but a legal issue. Securities contracts should be authored by securities attorneys, not programmers. Indeed, smart contracts as conceived in Bitcoin and Ethereum are neither smart nor contracts. The word ‘contract’ is an obfuscation of ‘interface specification’ that is commonly referred to as a ‘contract’ between two applications in the software world. Unfortunately, 

To their credit, the thought-leaders of Ethereum were under no illusions about the supposed prowess of smart contracts, as defined within Ethereum. Vitalik Buterin, for example, tweeted back on October 13, 2018, “To be clear, at this point I quite regret adopting the term ‘smart contracts’. I should have called them something more boring and technical, perhaps something like ‘persistent scripts’.” Another Ethereum, Vlad Zamfir, preferred the term ‘stored procedures’.

The most important thing that the open blockchain community missed is that except for currency, financial securities are not bearer instruments. Creating fraudulent securities through shell companies is ridiculously easy with bearer instruments, which is why they are banned in responsible economies.

Besides the fact that securities are not bearer instruments, the public blockchain advocates seem to be coming to the realization that when securities are exchanged between two parties, independent and unverified miners have no business validating the transaction. Parties who have no fiduciary responsibilities, no regulatory mandate, or any skin in the game cannot perform business validation. Would you ask a stranger in New Zealand to approve the transfer of your shares in a private company to your friend when you, your friend, and the private company are all in the USA? As Polymath’s Dossa observers, “How ethereum settles transactions through mining also came into consideration for Polymath, Dossa said. Since miners, who process and sign-off on transactions for a fee, can operate anywhere in the world, institutions could face government scrutiny if fees are traced back to a sanctioned country.” More to the point, securities law does not recognize approvals from parties who are not associated with securities transactions.

Even as the public blockchain community tried to disintermediate regulators, when their assets were stolen from their wallets and exchanges, or the companies vanished outright, investors turned to those same regulators for recourse and recovery.

The other problematic aspect of Ethereum was the nature of finality, which in Ethereum, is statistical. This will not do in legal agreements. As we pointed out early last year in one of our KoreBriefings when evaluating Ethereum, “Finality [in Ethereum] if probabilistic and not guaranteed.” Would you sign an employment agreement where the fine print says there’s a one-in-ten chance that you would not be paid every two weeks. As Adam Dossa, Polymath’s head of blockchain, rightly observed, “At the center of contention is ethereum’s consensus mechanism, proof-of-work (PoW), which only offers a statistical guarantee of transaction finality.”

Incentives often have unintended consequences. We see this happen often with children and pets. Public blockchains are all about decentralization, but in fact miners’ incentives have all but centralized the blockchains. In contrast, consider that within KoreChain we have not left the question of decentralization to the vagaries of unknown miners. Instead, the KoreChain is engineered for decentralization. It is an implementation of the Infrastructure of Trust that currently runs in production in twenty-three countries; in barebones minimal cruising mode, it is capable of handling approximately 10 billion transactions per year (~318 tps) with consensus on business validity. KoreChain’s architecture also makes it massively scalable with very little effect on performance. However, as Vitalik rightly points out, finality can never be 100% even if the technology can achieve absolute finality, since the ultimate arbiter of finality is the legal system. For this reason, KoreChain includes KoreNodes independently are owned and operated independently by regulated entities and regulators worldwide..

If you hold fast to the idea that your powerful car is the only way to cross the ocean, you will be in for a continual hack of trying to make your car float on water. It is much better to recognize that a good ship is the right vehicle for the ocean. Many of the challenges of building a compliant securities application on Ethereum are actually unnecessary. Securities regulation in any one country is complicated enough. Multi-jurisdictional capital markets transactions compound that complexity by several orders of magnitude. Application designers should not be distracted by trying to create their own chains; instead, the real achievement lies in making securities transactions fully compliant in all jurisdictions, promoting innovation in financial markets, enabling flexibility, minimizing process costs, and providing an Infrastructure of Trust to which all regulated entities are welcome. 

The world’s capital markets are too dispersed, complex, and huge for any one participant to dominate. Revolutionizing the capital markets is only possible through collaboration. 

www.InfrastructureofTrust.com

Finality, Settlement, and Validation: The Place to Start

Posted on by Thiago Tags: , , , , , , , ,

One of the most important concepts in capital market transactions is settlement and finality. Even though the payment infrastructure gets the majority of airtime, settlement finality is just as, if not even more, important in the securities markets. In the public markets, the structure of securities and the clearance and settlement process is quite standardized. In the private markets, a segment that is three orders of magnitude larger than the public markets, standardization does not exist. Rather than an issue, this is the strength of the private markets, since both private companies and their investors need flexibility in securities contracts. Regardless of all this, settlement finality is equally important in both markets.

The issue of settlement finality actually applies to all legal contracts in the sense that terms and conditions cannot be stated in probabilistic terms. Would you sign an employment agreement where the fine print says there is a one-in-ten chance that you would not be paid every two weeks?

In justifying Polymath’s latest move to abandon Ethereum as their platform of choice for security tokens, Adam Dossa, Polymath’s head of blockchain, rightly observed, “At the center of contention is ethereum’s consensus mechanism, proof-of-work (PoW), which only offers a statistical guarantee of transaction finality.” As we pointed out early last year in one of our KoreBriefings where we evaluated Ethereum, “Finality [in Ethereum] is probabilistic and not guaranteed.” Probabilistic or even statistical finality in legal agreements just will not do.

In “Principles of Market Infrastructure,” a publication of the Bank of International Settlements, Principle 8 (Settlement Finality) requires that “An FMI [Financial Markets Infrastructure] should provide clear and certain final settlement, at a minimum by the end of the value date. Where necessary or preferable, an FMI should provide  final settlement intraday or in real-time.”

Note the definitive language of “clear and certain final settlement.” This excludes probabilistic or statistical finality. Melvin Eisenberg, Professor of Law at the University of California, Berkeley, says, “The classical law approach to the certainty principle reflects the binary nature of classical contract law. Indeed, this approach is often referred to as the all-or-nothing rule.”1  Prof. Eisenberg goes on to provide examples of the “rejection of a probabilistic analysis.” While much of that treatment is related to damages due to non-performance of contracts, the concept of certain finality is quite relevant for securities transactions. This is a serious issue that has lately garnered a lot of attention.

Settlement finality is a statutory, regulatory, and contractual construct.2  Settlement is actually a two-step process: first is the operational settlement, which consists of all the steps using technology or otherwise to complete the process of trade, transfer, or corporate action. The second step is the legal settlement that happens when the regulatory framework provides the final approval, at which point a transaction is deemed to be fully settled. The problems due to the uncertain nature of operational settlement in Ethereum are well-known, even if generally ignored. The concept of legal settlement, on the other hand, simply does not even exist in the security token protocols based on Ethereum.

Blockchain technology must first achieve operational finality before the regulatory framework can certify legal finality. Public blockchains can only specify probabilistic and statistical finality. Smart contracts have to also provide for legal settlement. A permissioned blockchain such as Hyperledger Fabric is designed for guaranteed finality. The KoreProtocol of KoreChain, a blockchain application built on Fabric for managing the entire lifecycle of private securities, is designed to ensure legal finality also. One example of legal finality is that directors’ approval of private securities trades under certain conditions, as set forth in the shareholder agreement, is necessary before such trades are deemed to be final. The KoreProtocol is designed to capture this requirement and the KoreChain is designed to implement it.

While Polymath is the latest of the Ethereum advocates that has woken up to the fact that Ethereum isn’t the right blockchain platform for financial securities, they have not been the first. Several private companies, their securities attorneys, broker-dealers, and many other participants have noticed this deficiency and chosen to go with permissioned chains such as the KoreChain.

More significantly, Vitalik himself was the first to point this out way back in May of 2016 (over three years ago—a lifetime in crypto-space) in a blog post on Settlement Finality: “This concept of finality is particularly important in the financial industry, where institutions need to maximally quickly have certainty over whether or not the certain assets are, in a legal sense, “theirs”, and if their assets are deemed to be theirs, then it should not be possible for a random blockchain glitch to suddenly decide that the operation that made those assets theirs is now reverted and so their ownership claim over those assets is lost.”

Advocates of public blockchain also seem to be coming to the realization that when financial securities are exchanged between two parties, independent and unverified miners have no legal authority for validating the transaction. Parties who have no fiduciary responsibilities, no regulatory mandate, or any skin in the game cannot perform business validations. Would you ask a stranger in New Zealand to approve the transfer of your shares in a private company to your friend when you, your friend, and the private company are all domiciled in the USA? As Polymath’s Dossa observers, “How ethereum settles transactions through mining also came into consideration for Polymath. Since miners, who process and sign-off on transactions for a fee, can operate anywhere in the world, institutions could face government scrutiny if fees are traced back to a sanctioned country.” More to the point, securities law does not recognize approvals of securities transactions from parties who are not associated with or have any fiduciary responsibility for securities transactions.

Principles of settlement finality and authoritative validation of transactions remain some of the most important cornerstones of establishing trust in the financial markets infrastructure. It is up to the blockchain application designers to understand the spirit and intent of these principles and select technologies that facilitate the implementation of such principles rather than hinder them. It is up to the business participants (company management, securities attorneys, and broker-dealers) to recognize the importance of these principles and the limitations of some blockchain platforms.

Incentives often have unintended consequences. We see this happen often with children and pets. Public blockchains are all about decentralization, but in fact miners’ incentives have all but centralized the blockchains. In contrast, consider that within KoreChain we have not left the question of decentralization to the vagaries of unknown miners. Instead, the KoreChain is engineered for decentralization. It is an implementation of the Infrastructure of Trust that currently runs in production in twenty-three countries; in barebones minimal cruising mode, it is capable of handling approximately 10 billion transactions per year (~318 tps) with consensus on business validity. KoreChain’s architecture also makes it massively scalable with very little effect on performance. However, as Vitalik rightly points out, finality can never be 100% even if the technology can achieve absolute finality since the ultimate arbiter of finality is the legal system. For this reason, KoreChain includes KoreNodes that are owned and operated independently by regulated entities and regulators worldwide.

If you hold fast to the idea that your powerful car is the only way to cross the ocean, you will be in for a continual hack of trying to make your car float on water. It is much better to recognize that a good ship is the right vehicle for the ocean. Many of the challenges of building a compliant securities application on Ethereum are actually unnecessary. Securities regulation in any one country is complicated enough. Multi-jurisdictional capital markets transactions compound that complexity by several orders of magnitude. Application designers should not be distracted by trying to create their own chains; instead, the real achievement lies in making securities transactions fully compliant in all jurisdictions, promoting innovation in financial markets, enabling flexibility, minimizing process costs, and providing an Infrastructure of Trust to which all regulated entities are welcome. 

1 Foundational Principles of Contract Law, Melvin A. Eisenberg
2 http://yalejreg.com/nc/on-settlement-finality-and-distributed-ledger-technology-by-nancy-liao/

The world’s capital markets are too dispersed, complex, and huge for any one participant to dominate. Revolutionizing the capital markets is only possible through collaboration. 

www.InfrastructureofTrust.com

Global Crypto Twins one on one with Oscar Jofre co-founder of KoreConX

Posted on by Oscar Jofre Tags: , ,

The Crypto Twins are well-recognized faces in the blockchain space and have been advocates and the voice for those who are supporting the global ecosystem of digital securities formation.

This was a great interview by the Crypto Twins to gain insight from a global leading authority on where the market is moving towards.  What is the private capital markets, this is one interview if you are looking for insight you want to make sure you watch.

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