Among the topic were:

• A brilliant keynote address by David Giuliani, founder and CEO at Clarisonic (www.clarisonic.com), who talked about how his team made Clarisonic success, the sale to L’Oreal, and his new gig, the WA Business Alliance (http://www.wabusinessalliance.org/). He was both entertaining and informative.
• A panel on Negotiating Terms & Valuation, led by Rob Wiltbank (http://www.montlakecapital.com/teambios.php?TID=10&PoID=14).
• A presentation on Convertible Notes by Mike Crill (http://www.atlasaccelerator.com/team/index.html). Mike also did an interactive group exercise.
• A panel by Gary Kocher (http://www.klgates.com/gary-j-kocher/) with several of his K&L Gates colleagues on “Traps for the Unwary: Issues that Cost Money to Fix”
• A panel let by Yi-Jian Ngo on Due Diligence with several experience angels. The angels in the audience asked those questions you always wanted to ask but didn’t know who to ask.
• A panel led by me (http://drosenassoc.com/team.htm) on Public Policy that effects angels and the JOBS Act (http://blog.drosenassoc.com/?p=97). Tom Alberg (http://www.madrona.com/venture-capital-team/team-members.asp?name=Tom%2DAlberg&member=1) also talked about work being done by the Obama administration and others to make permanent the zero capital gains for Qualified Small Businesses and an Angel Tax Credit.
• Mike Volker (http://mikevolker.com) led a panel of experienced investors who discussed “Effective Board Stewardship.” Many insights on about how to be a good board director and guide a company.
• Since no angel deal is complete until the company exits, the final panel, ably led by Nat Burgess (http://www.corumgroup.com/Nathaniel-D-Burgess.aspx) that discussed “Managing Exits.”

Looking at this list, we covered a lot of territory. I was impressed by the engagement of the entire group and the vast knowledge that the angels in the room represented. Anecdotal conversations lead me to believe that the event was overwhelmingly successful.

First, what is the JOBS Act? It stands for Jumpstart Our Business Startups Act; it has nothing to do with earlier jobs stimulus efforts other than sharing an acronym. It is a regulatory reform act and does not have any tax elements. The full text can be found at: http://www.govtrack.us/congress/bills/112/hr3606/text (There are other pending legislations that address how to stimulate early-stage company investment through tax incentives.)

Broadly speaking, the JOBS Act is intended to provide more capital to startups that fuel the growth of our economy. It does the following:

1. Removes some of the most onerous provisions of Sarbanes-Oxley Bill from emerging growth companies. The argument is that, while large, publicly traded companies needed the extra oversight and transparency, it was never intended to cripple the ability of high-growth startups from tapping the public markets.
2. Brings the Securities Act of 1933 into the 21^st century by recognizing that markets and communications have changed.
3. Potentially allows for the revitalization of Reg A filings as a way for smaller companies to raise money from public markets.
4. Enables “Crowdfunding” – a way that very early stage startups can get many small investors to stake their company early in the lifecycle of the company.

Much of the attention to the JOBS Act has been focused on the Crowdfunding part, so I’ll address this in this posting. However, the largest impact is likely to be from the other provisions, which will modernize and simplify the operations of Angel financings, small IPOs, etc. I’ll address those in future postings.

Crowdfunding (Title III of the JOBS Act)

In the past, startups were typically initially financed by “friends and family.” There are legendary stories of entrepreneurs mortgaging their homes to start their businesses, and then reaching out to their family, friends, and associates to get the company off the ground. As the original Senate bill said, the decline in home values has caused much of this source of early-stage capital to dry up.

Crowdfunding has precedence. People have contributed small amount of money (via the net) to charities, arts, etc. The music and theatre industries have tapped their fan base to ask for money for new works.

The difference with these precedents and Crowdfunding is the purchase of equity, which has been highly regulated. In the US, only accredited investors (a person with over $200k of annual income or over $1M in net worth; see http://www.sec.gov/answers/accred.htm for the full definition) could invest in highly-speculative private shares. The accredited investors were thought to be sophisticated investors, who could do appropriate diligence on the company and assess the risks. In general, Angels and VCs are the primary investors in this category.

There is still a raging debate on the advisability of allowing less sophisticated investors to enter this asset class. On one hand, the optimists say “why should only the very wealthy be allowed to buy early shares in a company like Facebook?” On the other hand, the pessimists would say, “this is a recipe for fraud; charismatic fraudsters will prey on the unsophisticated investors getting them to invest an amount of money that they can’t afford to lose in companies that don’t really exist.”

The devil will be (to some degree) in the details. The Act calls for a 270 day period for the SEC to write the rules. It also includes some safeguards:

• A company may only raise $1M in a year from Crowdfunding;
• No investor may invest more than $10,000 (or $2,000 if the investor has an income of less than $100k);
• The investment can only be through a registered broker or funding portal;
• A degree of public transparency by publishing the terms of the deal, the basis of the price, cap table, etc. that Angels would typically study;
• Take steps to prohibit “bad actors” from issuing securities using Crowdfunding to help prevent fraud.

This is an experiment that marries the internet, social networking, and modern communications with selling private securities. It could work, it could fizzle, or it could be a great vehicle that tests the innovative spirit of fraudsters. If it works, it could cause thousands of flowers to bloom – startups in all parts of the US will have access to capital. If not, we can hope that the SEC regulations will limit the amount of fraud.

Impact on Angels

The simple answer is none of us know exactly. But there are certain things I believe to be absolutely true.

First and foremost, Crowdfunding will only INCREASE the need for angel financing. Very few of our high growth companies will get by on just Crowdfunding. If this is a successful experiment, then more companies will need follow-on financing from Angels.

But, the question is “will angels be willing to invest in a company with potentially hundreds of new, unsophisticated shareholders?” Will the cap table be screwed up? Any good, sophisticated angel knows that valuation is a key to success. My biggest fear is the following scenario:

• Company X at the concept stage has a charismatic CEO with a great vision. He posts a plan and video on a funding portal asking for $1M with a $20M post for common stock at $1 per share. (We all know that it is possible to write a business plan the justifies this!)
• The company then spends the money and makes progress toward a product. It now seeks angel financing for $2M.
• We assess the company, like its prospects, and agree that it is a worthy investment, but assess the appropriate pre-money valuation to be $2M (not $20M) for preferred stock.
• The previous Crowdfunding investor now see their shares valued at less than 10 cents on the dollar. They are very angry.
• This is widely reported in the press and the entire asset class takes a hit.

We have a lot of work to do on Crowdfunding.

For details on the JOBS Act, see my previous post: http://blog.drosenassoc.com/?p=87. This is not a perfect solution. The centerpiece of the legislation is Crowdfunding, which will take some time to implement and many (including me) worry might allow weakening of the security statutes and targeting of those investors who can least afford to lose the money they invest in these very risky startups.

But, the bill also makes many long-needed changes to security regulations that reflect the current market conditions, including changes to advertising and general solicitation and ability for smaller companies to access the IPO market without many of the unnecessary burden imposed by Sarbanes-Oxley and the Dodd financial reform legislation.

All of these changes raise the need for angel investors. Crowdfunding (once implemented) can help get companies going; it augments and replaces friends and family funding. It only gets companies so far. The ones that achieve their milestones will then require the next round of growth capital and this is where either Angels or VCs fit the bill.

I intend to post my observations on the White House event after I attend. And of course will continue to add my insights as appropriate.

ACA Public Policy Flash
March 27, 2012

Dear ACA Member -

Unless you’ve been on a vacation on a remote island, you have heard that the US House and Senate have each passed their own versions of the JOBS Act
(Jumpstart Our Business Startups Act,
HR 3606), aimed at making it easier for small businesses to raise capital and have positive exits and thereby creating jobs. We understand that the House just voted on the Senate bill today, and the bill is being sent to President Obama for signature immediately.

The JOBS Act is complicated, but we wanted to provide you with information about the bill. The main thing to understand about this bill is that it does not deal with any tax issues, which are very difficult to pass in this partisan environment in Congress. Instead, the leaders of the House and Senate have focused on those structural and regulatory issues that inhibit startup growth, but don’t directly impact government revenue.

Many angels are asking questions about it and we know opinions about part of the bill vary quite widely (crowdfunding, anyone?). Below is a quick summary, with an eye toward how angels are or might be affected, and also links to some more detailed resources. The bill covers multiple issues:

• Allows equity-based crowdfunding - New businesses will be able raise up to $1 million in equity capital from unaccredited investors. The Senate version of the JOBS Act creates a number of restrictions, aimed at protecting investors. Among those restrictions are limiting individual investments to $10,000 or 10 percent of the investor’s annual income (whichever is less) and registration by intermediary platforms and issuers with the SEC. Federal law would preempt state regulations, meaning that issuers could raise funds from across the United States. The SEC has 180 days after the bill’s enactment to publish rules for crowdfunding.
  
• Removes prohibitions on general solicitation of Regulation D offerings - Allows for advertising of Reg D 506 offerings, as long as advertisements are focused on accredited investors. Angels should especially note the “McHenry Amendment,” which clarifies that angel and incubator platforms that do not charge a fee connected to the purchase or sale of securities are exempt from broker-dealer registration. This is helpful for Web platforms such as AngelList or Gust and venture forums aimed at accredited investors, and also for some of your angel groups.
  
• Creates an IPO “on ramp” - Reduces the cost of going public for “emerging growth companies” - those with annual revenues of less than $1 billion and after the IPO, less than $700 million in publicly traded shares. These companies receive a 5 year exemption from costly Sarbanes-Oxley 404(b) requirements such as hiring outside auditors, while still requiring some quarterly and annual SEC disclosures. A number of other related technical issues are included, many recommended by a study committee of the National Venture Capital Association.
  
• Increases threshold for Regulation A “mini public offerings” - Regulation A currently allows companies to go public and be exempted from SEC registration for offerings up to $5 million. The JOBS Act increases the offering threshold for this little used exemption to $50 million, perhaps making it a more useful option for more angel-backed companies.
  
• Raises cap on private shareholders from 500 to 2,000 - Many private companies are forced by regulations to file as a public company once they exceed 500 shareholders and $10 million in assets. The bill increases the shareholder limit to 2,000 accredited investors or 500 unaccredited investors. The updated cap allows for flexibility to Facebook in staying private or going public, and could also benefit secondary market platforms that can offer a more robust market for the shares of private companies.
  

ACA has been working with our Public Policy Advisory Council to better understand many of these issues and to keep you all accurately informed. Thanks go particularly to Joe Bartlett, Bill Carleton, Dan Hansen, and Lori Smith.

The SEC will have 90 days to publish rules on most of these items, with 180 days to set the crowdfunding rules. ACA will be in contact with the SEC to provide feedback on the rules for many of these issues to ensure the best possible environment for healthy angel investment. In addition, we are currently working with VC Experts to hold a Webinar on the JOBS Act in April - before the rules are set - to catch you up on the details and to get ACA member feedback.

ACA is supportive of the JOBS Act, acknowledging its complexity and differences of opinions on the impact of crowdfunding on sophisticated angel investing and startups. We continue to generally support the concept, as we wrote you in December, while also noting some concerns about fraud and other issues. We will also point Congress to the need to catalyze angel investment - through tax credits and extension of the 100% exemption of gains on Qualified Small Business Stock - so that the companies that raise capital through crowdfunding have access to the excellent angel investment they will need to survive and grow.

We will stay in touch with you as the rules and details for the JOBS Act concepts are set. If you have questions or suggestions, please do not hesitate to contact us.

Regards,

Dan Rosen,Chair, ACA Policy Committee
Marianne Hudson, ACA Executive Director

For more information about JOBS Act:

• PDF version of ACA JOBS Act brief
  (in case it is easier to forward to your members)
  
• Jumpstart our Business Startup Act
  
• ACA public statement on crowdfunding
  and additional details for members (December, 2011)
  
• www.wac6.com
  - William Carleton, Counselor @ Law (several detailed blogs)
  
• www.forbes.com/sites/jjcolao/2012/03/21/jobs-act/
  
• http://jimhamiltonblog.blogspot.com/2012/03/house-passes-capital-formation.html
  
• www.nvca.org/ - National Venture Capital Association (see “recent news”)
  

Shugie was a remarkable creature. Tiny in size, but huge in spirit. Her absolute favorite thing in the entire world was to go to business meetings, which she did from the time she was a tiny puppy. This picture was taken at a meeting. She understood (sometimes better than I did) how to behave at a meeting. She would greet each person, ask me to pick her up, and then sit in her seat looking at each person as they spoke.

It has been oft stated that dogs make us human. In fact, I think they often represent the best of us – showing us how important it is to be joyful even in adverse circumstances. I know that her unconditional love was showered on me. She lived a wonderful life, but will be sorely missed. To quote a friend of mine: “Remarkable that so gigantic a vacuum can be left by the absence of such a tiny creature.”

Founded by the inventor of the digEplayer (if you fly Alaska as much as I do, it needs no introduction), Bill Boyer, who is joined by my friend, Peter Parsons, and Greg Latimer (former VP Marketing at Alaska Air), this is a team that understands the industry. It is no secret that airlines have troubles with profitability. As fuel prices soar and the sluggish economy depress business travel, the problem gets worse. Airlines have learned that ancillary sources for revenue (like baggage fees) are an attractive way to make up any gaps. The problem with fees: customers hate paying for something that brings them no enjoyment that they think should be free.

Enter SkyCast Solutions. They make a VERY cool in-flight entertainment solution, called TrayVu™ (http://www.skycastsolutions.com/NEW/products.html). It is an android tablet that goes into the tray table, can be viewed through the table, and automatically flips up when you put the tray down. This offers many advantages, including being light weight (a short IRR for the airlines on fuel savings alone), ability to show ads or other things below 10,000 feet, having use of your tray table with the screen in a perfect viewing position, a credit card reader to buy food or pay per views, and (maybe most importantly to anyone who has had the person behind them play angry birds in a seat back system) when you play a touch game you don’t disturb the person in the seat in front. It is an exceeding economical system for the airlines to install and use, brought to you by an industry veteran who knows how to make these things work.

OK.. in-flight entertainment won’t change the world. But it will make long flights much more fun. This is why I (and other Alliance of Angels members) chose to invest in SkyCast Solutions.

It’s widely known that software preinstallation has become key to profitability for consumer electronic device manufacturers, but whether it’s major OEM bundling an antivirus application with a PC or a small Chinese handset manufacturer pre-installing Internet Search on a new mobile device, there’s no efficient way for buyers and sellers to quickly see what placement opportunities are available and easily conduct business. Most software vendors can only do such deals with the very largest PC manufacturers, because there is no efficient process for consummating, implementing and tracking such deals. Today’s market is crowded with new tablet entrants, who (other than the iPad) have limited market share. Likewise, the PC marketplace has a lot of custom-built PCs (like the one on which I’m authoring this blog).

AppAttach has created a marketplace and set of value-added tools and services that greatly reduce the cost of finding, negotiating, and monetizing pre-installed software and online service transactions. Simpler and less expensive transactions allow small/mid-size OEMs and ISVs to strike pre-installed distribution deals, while at the same time allowing large manufacturers to strike smaller, more targeted deals that maximize per device revenue and enhance the end user’s out-of-box-experience.

The appAttach Marketplace facilitates transactions in all major categories of software and online services, including security, productivity, browser, search, multimedia, entertainment and gaming, on devices ranging from desktop computers to mobile phones. The appAttach Marketplace is a neutral, secure interactive trading exchange where members can bid via auction-based or fixed-price listings for pre-installed software and online service placements, allowing its customers with the ability to negotiate and agree on pricing, quantity, delivery, quality and other terms online.

James DePoy, the appAttach founder, worked at the OEM group at Microsoft prior to founding appAttach, so he understands the industry dynamics and the needs of both hardware OEMs and software ISVs. His vision and drive should allow him to build an great company.

I like smaller companies that can customize a computer (or tablet) to your needs. I believe that appAttach is a missing piece of the business infrastructure that will enable smaller companies the freedom and flexibility to grow their revenues.

Virticus is an integrated set of products and services that reduce energy and maintenance costs by 30-50% through a communication and control system that allows the management of lights individually and collectively. It is a cost-effective solution that scales from 10 lights in a church parking lot to 10,000,000 lights managed by a city. Virticus is a great example of how modern network and software technologies can be a green way to lower energy consumption, while maintaining (or improving) functionality. Its customers were delighted with what it could do.

The decision to sell a company early in its life cycle is always a difficult one. While Virticus had enormous promise, it also participated in an industry with many mega-players. Customers, like municipal governments, are generally not very quick to adopt new technologies, even when they have the potential to safe budget dollars. Selling to large governmental customers (or large industrial ones, too) is particularly difficult for a small startup.

Virticus was completely financed by angels.

Congratulations to the Virticus team and board for building a great product, company and team. And then having the wisdom to sell at the right time.

And when Clarisonic raised its second round, most reinvested and even more AoA members invested too. That round returned over10x.

This is a great success story for the community. David and the Clarisonic team kept the production in Western WA, creating over 500 jobs.

Partially as a result of this exit, we have also seen many of the angels begin to reinvest the proceeds in new deals. This is what angels do!