Torching State Crowdfunding for Startups

Without Even Trying

For those of you who’ve been following the investment-based crowdfunding space for some

time now, it should come as no surprise that by their collective actions our Congress, the SEC

and FINRA, have dulled the general public’s initial enthusiasm over the proposed nationwide

“non-accredited” investment crowdfunding regime, as it was originally envisioned by

Representative Patrick McHenry back in 2011.

This is because, in addition to all of the problems caused by

1. the initial wrangling over what the final legislation should look like;

2. the statute’s emergence into the light of day looking a little like the mythical Greek

sphinx of yore (hind quarters of a lion, wings of a great bird, etc., a bastardized creature

at best); and

3. the 590+ pages of proposed regulations issued by the SEC back in October of 2013

it is now January 2015 and we are told that there’s still no definitive date set for when we might

actually see this beast emerge from the cave it’s been hiding in.

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In the absence of anything (or should I say, in the vacuum created by the lack of anything)

useful emerging from Washington, D.C., several of our states have begun taking matters into

their own hands by adopting what purports to be “real crowdfunding”, more often than not

under the exemption provided by Section 3(a)(11) of the federal Securities Act of 1933. The

problem with most, if not all, of these attempts is that in each case the proposed solution fails

to take in account the actual reality of non-accredited investing. Thus, these state “solutions”

are plagued by failing to address the very same issues that the original federal legislation failed

to address, i.e., risk of loss and lack of liquidity. It is the lack of a satisfactory resolution of these

two key issues that ultimately caused the federal attempt , in its final form, to be neither a

boon to capital formation for small business nor a workable piece of governance, more

appropriately used for touting a perceived achievement rather than actually accomplishing

something.

In light of the above, I thought I’d put together a simple guide of how to completely screw-up a

state investment-based crowdfunding regime (particularly as it relates to non-accredited or

unaccredited investors investing in startups or early stage companies). The six basic principles

are:

1. Ignore, and completely fail to address, the two fundamental issues confronting a non-

accredited investor in making an investment decision: risk of loss and lack of liquidity

2. Make the state crowdfunding exemption available pursuant to a regulation,

administrative order or decree, rather than having it safely embedded in a state statute.

3. Give the state securities administrator exclusive power to decide which offerings are

allowed to go to market, and which are not, based on that administrator’s “merit

review” of the proposed offering.

4. Fail to create a “secondary” market to support aftermarket trading in the securities of

those companies that rely upon a state crowdfunding “registration” or exemption to

issue their shares initially

5. Fail to put in place a system of financially-committed designated market makers or

“specialists” who are capable of supporting this secondary market by ensuring active

trading in the crowdfunded securities.

6. Refuse to beef up your state securities administrator’s budget for enforcement

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Discussion

Ignore, and completely fail to address, the two fundamental issues confronting a

non-accredited investor in making an investment decision: risk of loss and lack

of liquidity:

More so than their accredited brethren, non-accredited (or “unaccredited”, if you prefer)

investors are scared to death of investing their money in startups when there’s such a high

probability than the investment will not only fail but even if it doesn’t, they’ll never be able to

get their money back (let alone any return on it!).

To contrast the non-accredited investor’s situation against that of his or her wealthier

accredited neighbors, first and foremost, accredited investors generally have far greater access

to “higher quality” deals, partly because in their case there is ordinarily a vetting process that

precedes any investment and the vetting process is conducted by people who are perceived by

the investor as “knowing what they’re doing” (whether or not that’s true remains to be seen;

over the past 20 or so years, history has taught us that more often than not, they do not). In

addition, for the most part, accredited investors will only look at deals that hold at least a

reasonable possibility of a “home run” in terms of the expected return. Thus, when they invest

they are more comfortable with the risk because in the end they know that if they “get it right”

that there’ll be an exit in a reasonably short period of time, either in the form of the IPO,

creating a public market for the stock, or because the company they’ve invested in will be sold

to a larger company for a substantial amount of money. Thus, in their minds they feel that they

will be adequately compensated for the risk they’ve undertaken.

Investments by non-accredited look and feel very different. First of all, in most cases they will

not have a chance to have a “first look” at a quality deal. Those deals will be shown to

professional money managers, managers of private equity funds or the point person in an angel

group before the non-accredited crowd ever gets to see them. Second, once the investment

professionals have passed on the deal, it will be rare that the deal will be further vetted by the

non-accredited crowd, at least not in the same way that investment professionals do, i.e.,

extensive due diligence before making an investment decision. Thus, as the non-accredited

investor begins to assess the deal, in his or her eyes the perceived risk is much higher. One way

to mitigate the perceived risk would be to allow non-accrediteds to invest alongside accredited

investors. This model has worked very well in the U.K. and it certainly is something that could

give life to a national investment-based crowdfunding regime, if such a configuration should

emerge.

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Absent co-investing by non-accrediteds alongside accrediteds, there is really only two ways in

which to reduce the level of perceived risk for a non-accredited investor: lower the amount the

investor will be allowed to invest and allow him to assess the deal using, in addition to any

other resource that might be available to him, his own “five senses”.

First, lowering the amounts that the investor will be allowed to invest is an absolute surefire

way to reduce risk, i.e., less money invested, less risk. It’s also a great way to accomplish two

other important objectives:

It creates an opportunity for more stakeholders to “get into the game” thus providing

for potentially greater traction for this new market early on, and

Provides the time needed for the model to prove itself ….

For example, we know, from rewards-based crowdfunding (e.g., Kickstarter or Indiegogo

campaigns) that the “sweet spot” for donations is not at the top of the perks-range, but at the

lower end of the perks-range, e.g., $25.00 … whether investment-based, non-accredited

crowdfunding will succeed at high individual investment levels remains to be seen … so why not

start small and see how it goes.

Second, when it comes to using one’s own five senses to scope out a deal, such an approach

provides the opportunity to build greater “trust” by permitting more “familiarity” (familiarity,

we are told, can breed contempt as well, but that’s alright; deals that shouldn’t be funded,

won’t be). The below infographic simply demonstrates how the “five senses” approach works:

Of course, in order to be in a position to utilize the “five senses” approach, the non-accredited

investor must have access to the investment and the person or persons responsible for the

investment offering. Thus, this approach bodes well for non-accredited investing on a state-by-

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state basis since under a state investment-based crowdfunding regime a non-accredited

investor will have, simply because of the geographic limitation of the offering, the opportunity

for greater physical access to the entrepreneur and his or her business. Making non-accredited

crowdfunding even more “local” (e.g., having people in specific communities only look to

investment opportunities in their own communities) would enhance the reliability of this

approach even further.

So, in providing some relief to the non-accredited investor concerning the issue of risk of loss,

there are three ways that it can be addressed:

Provide for co-investing by accrediteds alongside non-accrediteds;

Reduce the amount a non-accredited is allowed to invest in a particular deal and in all

deals during a particular period; and

Create an opportunity for greater “trust” by allowing the creation of greater

“familiarity” with a prospective deal and the person offering it. This can be

accomplished by making the process a “local” one, thereby allowing the investor to

utilize his or her own “five senses” to evaluate the deal.

Of course, you will hear, as we’ve heard when it comes to criticism of the Title III of the JOBS

Act, “but if you make the amounts at risk very low and affordable for the individual investor (to

lose), then you saddle the entrepreneur with hundreds, or even thousands, of small equity

holders, all clamoring for the entrepreneur’s time and attention …”

Not necessarily so. For those owners who are concerned about that prospect (and many are),

allow them to set up a simple holding company where all of those stakeholder interests are

contained and one of the larger stakeholders, or even some disinterested third party, is given

the power to communicate with the entrepreneur on behalf of his stakeholders. There would,

of course, be an additional cost associated with such arrangement, which would be borne by

the business and, indirectly, ultimately by the stakeholders, but if the entrepreneur didn’t want

to incur that cost, he or she could simply permit his stakeholders to hold their stakes in the

company directly.

Any state non-accredited crowdfunding regime that fails to address the “risk of loss” issue by

implementing at least one or more of these approaches will ultimately fail.

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Make the state crowdfunding exemption available pursuant to a regulation,

administrative order or decree, rather than having it safely embedded in a state

statute.

Leaving a state crowdfunding regime exclusively in the hands of a state securities regulator by

allowing that person to determine the basic outlines of the exemption, and whether or not it

will continue to be allowed to exist, is a recipe for disaster.

In my prior life as an attorney, I practiced law for many years in many, many different situations

and over a broad area of the law, including everything from food and drug law, to antitrust and

trade regulation law to securities practice, mergers and acquisitions, finance and general

corporate law. What most astounds me about the process of dealing with regulators is how

often regulators, for reasons completely unrelated to the mission which they have been tasked

to accomplish, get in the way of an efficient and pragmatic solution to a particular issue or

problem that crops up. For example, I have seen the FDA try to shut-down an entire product

line, with more than a hundred years of satisfactory consumer use, because of out of the

millions upon millions of people using it, all of a sudden there were two unexplained fatalities

having absolutely nothing to do with the product they ingested being in any way adulterated

(they seem to be incapable of understanding that, like it or not, s**t does, on occasion,

happen).

Thus, in the mind of the regulator, and for a variety of reasons (including the fact that the

regulator will be blamed by the general public if bad things happen on the regulator’s watch,

with all the accompanying political ramifications that will result for that regulator and his or her

budget), it is always better to be “safe than sorry”. Thus, when a problem does emerge,

especially one that gets highly publicized, the knee-jerk reaction by the regulator will be to shut

the entire process down.

Several of the states that have already adopted state crowdfunding regimes have chosen to

create their crowdfunding regime under the authority of an administrative ruling or regulation

issued by the state securities administrator. I can only hope that a disaster, such as a major

embezzlement or a substantial fraud (think here, a smaller version of Bernie Madoff) doesn’t

befall their very vulnerable investment-based crowdfunding regime.

Thus, a significant amount of predictability (something which businesses, especially fledgling

ones, depend on) is removed when the fate of entire crowdfunding regime is left exclusively in

the hands of the regulator. Ultimately, this will cause lack of confidence in the system and will

create uncertainty and excessive caution as well.

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Give the state securities administrator exclusive power to decide which offerings

are allowed to go to market, and which are not, based on that administrator’s

“merit review” of the proposed offering.

While on the surface, having a state regulator “pass” on a deal may seem a lesser evil than

giving the administrator carte blanche authority to shut-down an entire crowdfunding process

down, I can assure you that consequences of doing so can be, on an individual case-by-case

basis, just as devastating.

For example, in such a situation what you’ve essentially done is substitute the wisdom of the

regulator for the wisdom of the marketplace. How would Microsoft, Facebook, Google and

other disruptors of established industries have fared if a state regulator, instead of the private

equity “crowd,” been the one to determine whether their offerings “merited” seeing the light

of day.

More importantly, with such a system, you have the opportunity for abuse where the state

regulator, comfortable with certain intermediaries but not others (for whatever reason) favors

the familiar over the unfamiliar. This can create opportunities for cronyism and placing undue

reliance on pre-existing relationships, including personal friendships. It is, in fact, the exact

opposite of true crowdfunding, where the crowd, and not the state official, is the “gatekeeper”

and the marketplace is the ultimate determiner of the viability and wisdom of the offering by

voting with their dollars.

During the process of reviewing these various state exemptions, I have heard at least one

knowledgeable player in the space indicate that, on more than one occasion he heard from a

state regulator’s own lips that “no one who ever wanted to commit fraud came to see me first.”

That’s great if the state securities administrator’s door is wide open to all comers. However,

given the large number of entrepreneurs looking for money for their business at any one time,

even in a place as small as, say, my home state of Colorado, the reality is that very few people

would ever be given the opportunity to come and have a sit down with the administrator.

Thus, far fewer deals will ever see the light of day.

Fail to create a “secondary” market to support aftermarket trading in the

securities of those companies that rely upon state crowdfunding to issue their

shares initially

At this point there’s really no need to even present an argument here. It is an article of faith

among those in the know that, without a secondary market for the securities issued to non-

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accredited investors under a crowdfunding exemption, a robust primary market for the initial

sale of such securities will simply never come into existence. And, this will be the case even if

the business owner is lucky enough to convince a few reckless investors in the beginning to give

him their money. Rather, it will be the greedy service providers, driven by excessive avarice for

immediate gain and without any consideration that they will, in the long-term, be killing the

“golden goose”, who will be pushing inexperienced business owners into non-accredited deals

which, even when they succeed initially, will ultimately cause the enterprise to fail. You can’t

expect unsophisticated investors to appreciate, at the outset, the upset they will feel as, over

time, they come to the realization that there is simply “no exit” for them when it comes to their

investment. It certainly will kill any enthusiasm that they otherwise might have felt when the

business owner comes back to them in the future, as he inevitably must, to offer additional

servings of the same securities.

To try to address this clearly apparent “lack of liquidity” issue, an issue which is central to the

concerns of small investors and their investment decisions, some cynical service providers have

touted the idea of using revenue-sharing constructs to provide liquidity to non-accredited

investors. While on the surface it seems to solve the liquidity problem, in actuality this is a

terrible idea. That’s because underpinning it is the terrible reality that the young startup or

emerging business will be compelled to shell out valuable cash at a time during which it can

least afford to do so, i.e., as it tries to scale up it business to grow.

Other service providers try to overcome this basic objection by pushing out payments until, say,

years 4 or 5. The problem with such a solution, in fact any revenue-sharing solution for that

matter, is that as everyone who actually runs a business knows, running a business is, at best, a

highly unpredictable undertaking. As I’ve already stated, stuff happens and, generally, it

happens at the worst and most unanticipated time that it could happen. Thus, allowing a

startup or emerging business to hold on to its cash and allow it to reinvest that cash, where

necessary, is essential to the growth and prosperity of that business and, ultimately, is essential

to buttressing the very crowdfunding regime that you seek to create. When the businesses that

have secured funding using crowdfunding ultimately succeed, crowdfunding succeeds and so

do the countless other entrepreneurs out there who are still waiting for their turn at the wheel.

To put it simply “nothing succeeds like success”.

A revenue-sharing construct is more suited to a utility, or a real estate holding, than it would be

to a startup or emerging company’s business. “Cash cows” are good targets for revenue-

sharing schemes. Not startups or emerging companies.

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Fail to put in place a system of financially-committed designated market makers

or “specialists” who are capable of supporting this secondary market by

ensuring active trading in the crowdfunded securities.

While building a secondary market into your state crowdfunding ecosystem is a good first step

in creating a system that will around for the long haul, merely creating an exchange does not, in

and of itself, ensure the kind of market support necessary to shore up and support the value of

the shares issued in the initial offering round. Moreover, it does nothing to support a basis for

subsequent capital raises by the same issuer, i.e., securing additional capital by issuing more

securities as the issuer seeks to grow and expand.

Thus any such new exchange or secondary market would need market support, i.e., firms or

individuals who would be providing financial support for the securities traded on that market.

Historically, this type of necessary support has been provided by “market makers”.

A “market maker” or “liquidity provider” is a company, or an individual, that

quotes both a buy and a sell price in a financial instrument or commodity held

in inventory, hoping to make a profit on the bid-offer spread, or turn … The

U.S. Securities and Exchange Commission defines a ‘“market maker’” as a

firm that stands ready to buy and sell stock on a regular and continuous basis

at a publicly-quoted price.

A Designated Market Maker (DMM) is a specialized market maker approved

by an exchange to guarantee that he or she will take the position in a

particular assigned security ….” Source: Wikipedia, Market Makers.

The problem is that merely relying on simple “market makers” (otherwise known as

“endogenous liquidity providers” (“ELPs”) or “limit order takers”) is not enough; rather,

“designated market makers” (“DMMs”) are needed in secondary markets, particularly where

such secondary markets are dedicated to “small-issue”, thinly-traded securities. There have

been a panoply of studies confirming this fact.

For example, in their seminal study on markets and the affect of market makers on those

markets, Amber Anand, of Syracuse University, and Kumar Venkataraman, of Southern

Methodist University, found that in comparing “designated market makers” (DMMs) to

“endogenous liquidity providers” (“ELPs”):

“ELPs maintain a market presence and supply liquidity in large stocks. For

other stocks, a DMM is the only reliable counterparty available for

investors. When profit opportunities are small or inventory risk is

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substantial, ELPs exercise the option to withdraw from the market. Under

these conditions, [while] DMMs earn smaller trading profits, assume more

inventory risk, and commit more capital (suggesting that liquidity contracts

oblige the DMMs to participate in undesirable trades, especially in less

active stocks)…

Source: “Should Exchanges impose Market Maker obligations?”, a Whitepaper, Amber Anand (Syracuse

University) and Kumar Venkataraman (Southern Methodist University), June 2013

The consequent result is that active trading in these smaller issues can be sustained. This

sustained trading activity shores up the exchange, the securities that are listed for trading on

it and generally adds to market stability while at the same time reducing volatility. And, as we

all know, volatility, an ever present aspect of the current day’s public trading markets, is

something that smaller investors in particular (many of whom are investing for retirement)

detest.

Here are some other experts who have chimed in on the importance of having designated

market makers or “specialists” supporting trading systems:

“Market makers provide intermediary services that are critical to the

development and orderly functioning of secondary markets. At its heart,

market making is liquidity provision through the ability to promptly absorb

investors’ demand or supply of a financial instrument. This is also known as

“immediacy” – the ability to expedite the trading interests of independent

counterparties in a timely and cost-effective way. Market makers do this by

quoting buy and sell prices, as well as providing on-request quotes, to ensure

a two-way market.

The market making mechanism has developed over years in response to the

reality that few markets have sufficient numbers of buyers and sellers with

exactly matching buying and selling interests at all times. Intermediation is

needed to align differing trading demands and ensure liquidity provision.”

Source: “The Role of Secondary Markets and Market Making in the Long-Term Financing of the European

Economy”, a AFME Briefing Note, Association for Financial Markets in Europe 25th June 2013.

“Recent market turmoil, including the financial crisis of 2008-2009 and the

“flash crash” of May 6, 2010, highlight the importance of liquidity in

financial markets. Modern stock markets mainly rely on limit order

submissions to provide liquidity. In contrast to the designated “specialists”

who in past decades coordinated trading on the flagship New York Stock

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Exchange (NYSE), limit order traders are typically not obligated to supply

liquidity or otherwise facilitate trading.

The desirability of such endogenous liquidity provision has recently been

questioned, particularly in the wake of the sharp, albeit brief, decline in

U.S. equity prices during the flash crash …. our analysis shows that

economic efficiency and firm value can be enhanced by contracts that

require liquidity providers to provide more liquidity than they would

otherwise choose …

… [However,] side payments will be required to induce one or more

designated market makers (DMMs) to take on such affirmative obligations,

and … affirmative obligations to provide liquidity should not be imposed in

the absence of compensation to the DMMs. Contracts of the type studied

here, calling for a contract between the listed firm and the DMM, are

observed on some international markets, but are currently prohibited in U.S.

markets by FINRA Rule 5250 …. [However], competitive bid-ask spread fails

to maximize trader welfare or firm value, due to externalities associated

with information asymmetries. [Therefore] DMM contracts of the type

considered here [would] comprise a potential market solution to a market

imperfection.”

Source: “Market Making Obligations and Firm Value”, a Whitepaper, Hendrik Bessembinder (University of Utah),

Jia Hao (Wayne State University) and Kuncheng Zheng (University of Michigan), November 2013

A joint SEC-CFTC advisory committee comprised of prominent academic and industry

representatives recently issued a report in response to the flash crash of 2010 that includes the

observation that ‘incentives to display liquidity may be deficient in normal market, and are

seriously deficient in turbulent markets.’ The committee recommended that U.S. regulators

consider affirmative liquidity provision obligations. Source: “Recommendations Regarding

Regulatory Responses to the Market Events of May 6, 2010, Summary Report of the joint CFTC-

SEC Advisory Committee on Emerging Regulatory Issues.”

Even the head of our own regulatory authority, former SEC Chairperson Mary Shapiro,

acknowledged the critical role that DMMs (or “specialists” as they used to be called on the

NYSE) play in market stability and in reducing market voltatility. She indicated in a candid

moment during the Flash Crash of May of 2010 that:

“May 6 was clearly a market failure, and it brought to the fore concerns

about our equity market structure…. Where were the high frequency

trading firms that typically dominate liquidity provision in those stocks? ….

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The issue is whether the firms that effectively act as market makers during

normal times should have any obligation to support the market in

reasonable ways in tough times.”

Source: From a speech by Mary Shapiro, Former Chairperson, U. S. Securities and Exchange Commission (SEC)to the

Economic Club of New York, September 7, 2010.

What has history taught us about the absence of “specialists” or DMMs in secondary markets?

In my own home state of Colorado, for example, it has produced a veritable “boneyard” of

startups and emerging companies that were left behind in the wake of the collapse of the

Denver Penny Stock Market in the early 1980’s. It’s also resulted in the slow and painful death

of so many of our most promising startups after doing a DPO (“direct public offering”), a SCOR

filing, an RL filing or, even, in many cases, a Rule 504 filing that was not well-supported by

investors after the fact or that runs into problems after the raise because the company burns

through its cash too quickly and then finds itself in a box, unable to raise additional funds

because of offering “integration” rules under the SEC’s Regulation D or a state equivalent.

But how does one create such a system of designated market makers? After all, providing

sufficient financial incentives to induce the creation of designated market makers, or even

market makers at all, is a complex and difficult process. For example,

“Free-market” advocates often oppose the idea of DMMs. Their objections, however,

are most often based on ideological grounds, rather than pragmatic, “real world”

grounds

There’s the issue of who pays (and how do you pay) to compensate the DMMs in down

markets when everyone wants to bail on a particular stock or all stocks?

Logistically, how do you get from zero to the all the “balls-in-year” being adequately

juggled stage so that a quality established and well-supported secondary market

actually becomes a reality? How do you initiate such a process?

Are there alternatives to doing it yourself? Are there other solutions that might be less costly,

more efficient and yet still provide the benefits to local businesses that a local exchange, with

built-in strong after-market support, would provide? Fortunately, the answer is, YES!

There are already existing companies that provide a “secondary market” for privately-issued

securities, e.g., “Second Market” which made a market in employee-owned shares of Facebook

before Facebook went public … A company like Second Market (or one of its competitors) can

be approached and asked to bid on an RFP which seeks to secure the services of such a

company, on a prime-(i.e., privately-sponsored) or sub-contract (government-sponsored) basis,

to provide precisely the kind of organized strong secondary market support that exchanges like

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the NYSE and NASDAQ provide for their members, with one additional feature built-in:

Designated Market Makers.

Refuse to beef up your state securities administrator’s budgets for enforcement

Finally, even if you do everything right, and are diligent in ensuring that none of the failures

outlined above apply in your particular state’s crowdfunding exemption, you can still screw it

up in the end by refusing to beef up your state securities administrator’s budget.

Let’s face it. Crowdfunding, especially when it comes to non-accredited investors, is a very high

risk business. While the problem of fraud has been overstated ad nauseum by those who fail

to understand both the transparency advantages of crowdfunding (versus traditional forms of

investment, both in the private equity world as well as in our public markets) and the

diversification of risk that non-accredited crowdfunding can potentially offer (giving non-

accredited investors alternatives to traditional investments such bank account savings, money

market funds and the stock market), there is still a substantial opportunity for determined

fraudsters to take advantage of gullible and unsuspecting investors.

Therefore, it stands to reason that it’s imperative that if you’re going to put in place a state

crowdfunding regime or ecosystem, that you also pay attention to giving the only real “cop on

the beat,” your state securities administrator, the tools and manpower he or she will need to

do the job. After all, while the SEC may tolerate state crowdfunding, it’s certainly not going to

devote any resources whatsoever in policing it. More money for state enforcement then

becomes the last and, arguably, the most important aspect of not “screwing up” state

crowdfunding and, instead, actually doing it right!

Some Final Thoughts

While failing to do any of the things you should do to significantly increase the chances of your

state’s experiment in non-accredited being successful, such as failing to do the items outlined

above, there are additional considerations to which you might want to pay attention as you go

about the task of creating your own state crowdfunding system. Here are some that I’ve

pondered:

This is not a “get-rich-quick” market; rather the object is to provide a “reasonable

return” (TBD) for a reasonable risk taken and thereby encourage capital formation for

those types of companies currently shut out of the capital markets

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Start small – by starting small you’ll increase the chances for success over the long-term

Keep capital structures simple (apply the “KISS” principal to how you structure the

securities you propose to offer, e.g., common stock only or common stock, standard

preferred stock and simple convertible debentures only …)

Minimize opportunities in this market for purely speculative behavior, doing so by either

financial means (e.g., penalties) or by regulation …. and, as a corollary, beef up state

securities administrator budgets, both for enforcement and for rulemaking purposes

Prohibit the creation or use of “harmful” derivative securities at all levels of the

marketplace

Where a company wishes to secure listing on a national securities exchange, require

delisting from the local exchange

Undertake a study to establish whether puts, calls, options and shorting help or hurt

“small-issue” markets and how they impact market volatility

Reduce or eliminate leverage in the marketplace; think about prohibiting “buying on the

margin” for stocks traded on this new secondary market

In general, think about how to reduce, to the extent practicable, the “casino” aspects of

this securities market and how to emphasize the capital formation and reasonable

return aspects; additionally, think about how to implement any solutions efficiently and

inexpensively

Think about taxing the “newly-emerging markets” (in my state this would be the

marijuana marketplace) to partially fund the new securities marketplace

Finally, it’s a really good idea that, as you craft this new state-authorized crowdfunding process,

you keep your focus on the basic business issues that need resolution. Remember, this is a

business problem, i.e., lack of capital for cash starved businesses. It needs to be solved by

business people and not just left to the lawyers. I like to sum up this last point this way:

OBSERVE THE PRINCIPLES, BUT RESTRAIN THE LAWYERS!!!

Good luck in fashioning your state system by doing everything right instead of everything

wrong.