Big News From The DFI re Washington Crowdfunding

For a while there has been a concern about Washington’s equity crowdfunding law because of limitations inherent in the law.

Washington’s equity crowdfunding bill was built on Section 3(a)(11) of the Securities Act of 1933 and its accompanying Rule 147.

The problems with basing the law on Rule 147 were as follows:

  • Rule 147 doesn’t allow advertising across state lines. So, no use of Twitter to advertise your equity crowdfunding offering.
  • Rule 147 has a variety of limitations and tests that are designed to ensure that the business raising the money is truly a local business. These rules limit the number of businesses that can use the law.

Almost all states that have put in place state equity crowdfunding rules have built their laws on Rule 147. Maine is the exception. Maine built its law on Rule 504 and a registration process. Under Rule 504 issuers can advertise, and are not bound by the limitations in Rule 147.

This year a bill was proposed in the Washington State legislature to address this, to allow Washington companies to rely on either Rule 147 or Rule 504 when crowdfunding. But no law was necessary. Instead the DFI has adopted an administrative position allowing this approach. I have quoted the FAQ in pertinent part below. The FAQ is also very helpful for a lot of issues relating to the new crowdfunding law.

The DFI’s Guidance

Can my company use the Washington Crowdfunding Form without having to comply with all the intrastate restrictions of federal Rule 147?

An issuer may not want to conduct a crowdfunding offering under federal Rule 147 for a number of reasons, including the restrictions that Rule 147 places on internet advertising and the use of proceeds. To accommodate issuers that would like to conduct a crowdfunding offering that is not subject to the restrictions of Rule 147, the Division will allow an issuer to use the Washington Crowdfunding Form as the disclosure document for an offering of up to $1 million that is registered under RCW 21.20.210. As such an offering would be registered at the state level, the offering could qualify for an exemption under federal Rule 504 instead of Rule 147. In an offering that is registered in one or more states, federal Rule 504 does not impose the restrictions on internet advertising that apply in intrastate offerings conducted under Rule 147. In addition, none of the other intrastate restrictions of federal Rule 147 apply in a Rule 504 offering.

An issuer that wishes to use the Washington Crowdfunding Form in order to conduct an offering registered under RCW 21.20.210 will need to submit the completed form, an Application for Registration by Qualification, and the required fee. Please note that with respect to the majority of the required exhibits to the Application for Registration by Qualification, the issuer may simply include a cross reference to the location in the Washington Crowdfunding Form where this information is available. Further, the financial statements specified in the Washington Crowdfunding Form will satisfy the financial statement requirements under RCW 21.20.210 (thus an issuer may disregard the financial statement instructions in the application form). The fee is calculated as $100 for the first $100,000 of securities to be offered in this state plus 0.0005 times the amount of securities to be offered in excess of $100,000. For example, an offering of $1 million would require the submission of a fee in the amount of $550.

It should be noted that if the issuer wishes to make the offering in additional states, the issuer will likely need to register the offering in the other states where the offering will be made. If an issuer is planning to make a multi-state offering using the internet and other forms of general solicitation, the issuer should consider conducting a SCOR offering instead as most states will accept the SCOR Form to conduct a registered offering and multi-state coordinated review is available. For more information, please see our Small Company Offering Registration (SCOR) page.

The staff in the Small Business Assistance Section of the Securities Division would be happy to answer your questions regarding the use of the Washington Crowdfunding Form and/or SCOR registration. Please call us at 360-902-8760 and ask to speak to a staff member regarding your offering options.



How Do I Value My Company To Grant Stock Options?

Company ValuationGuest Post By Marek Omilian, CFA

Startup companies frequently have to confront this issue.  After the founder stock issuances, the company will want to be able to grant stock options to new hires.  Internal Revenue Code Section 409A requires that stock options be granted at fair market value (FMV) to avoid adverse tax consequences.

How to Determine Fair Market Value

The law does not require that companies hire an independent third party appraiser to value their stock, but it may be very helpful to you if you do.  What the law does require is that the valuation be determined by the “reasonable application of a reasonable valuation method.” The regulations state:

Factors to be considered under a reasonable valuation method include, as applicable,

  • the value of tangible and intangible assets of the corporation,
  • the present value of anticipated future cash-flows of the corporation, (i.e. DCF method)
  • the market value of stock or equity interests in similar corporations and other entities engaged in trades or businesses substantially similar to those engaged in by the corporation the stock of which is to be valued, (i.e. Comparable publicly traded companies method)
  • the value of which can be readily determined through nondiscretionary, objective means (such as through trading prices on an established securities market or an amount paid in an arm’s length private transaction),
  • recent arm’s length transactions involving the sale or transfer of such stock or equity interests, and
  • other relevant factors such as control premiums or discounts for lack of marketability and whether the valuation method is used for other purposes that have a material economic effect on the service recipient, its stockholders, or its creditors.

One should attempt use all of the above recommendations before making final conclusion. One should also reconcile different indications of value. FMV of common stock does not equal value of preferred stock in the latest round of financing or post-money valuation from the latest round. In fact, FMV of the common stock will always be lower than preferred stock because of liquidation preference given to preferred.

AICPA Practice Aid

“Valuation of Privately-Held Company Equity Securities Issued as Compensation – Accounting and Valuation Guide” commonly referred to as the “Practice Aid,” provides guidance on determining the fair market value of common stock for financial reporting requirements outlined in ASC 718 (old SFAS 123R). The same valuation satisfies the IRC 409a requirement. The Practice Aid is used by all qualified valuation professionals (hint: ask potential service provider if they follow the AICPA Practice Aid to avoid problems down the road when IRS or the auditor reviews the valuation).

In order to come up with fair market value of common equity to establish option strike price the valuation expert has to follow a two-step process:

  1. Determine Business Enterprise Value (BEV) – this is done by using discounted cash flow methodology and/or comparable transaction and/or comparable publicly traded companies approaches. Most of us are somewhat familiar with these approaches as they are the same used for any other business valuation.
  2. Allocate BEV to all of its invested capital: debt, preferred and common equity. This has to be done very carefully, as it needs to reflect all of the preference and priorities given to various classes of preferred stock. This part could be highly technical as, the leading value allocation method between preferred and common is the Option Pricing Method and involves series of option valuations.

One of the new techniques introduced in the revised Practice Aid is the concept of using the latest round of funding to “back-solve” for values of the company and its preferred and common securities. See this post for more info on using the “back-solve” approach.

marek-omilian-150x150Marek Omilian, CFA, Managing Director, Value Prism Consulting – Marek manages the delivery of valuation and decision support analysis.  He has 20+ years of consulting and line management experience working with companies in such areas as: valuations; business case and ROI analysis; decision support analysis; shareholder value enhancement analysis; mergers, acquisitions and divestitures; synergy identification and capture in a post-merger business integration. Office: 206.262.5695 or cell: 404.307.8194.,

European Data Protection Issues No Business Can Ignore

European Data ProtectionGuest Post By Felicity Fisher – Associate – Osborne Clarke

Doing business in Europe invariably means collecting data relating to EU citizens. This means your business will need to comply with the European data protection regime, even if you don’t have any kind of formal EU establishment.

Here are some of the key European data protection issues you should be thinking about:

  1. Transfers of data outside of the EU (including to the US) are prohibited unless you have a European compliant international transfer solution in place. For most US companies, this means getting Safe Harbor certified but there are other options to consider.
  1. The rules across the 28 member states of the EU vary, so a “one-size-fits” all approach to European data compliance will not generally work. A strategic approach to formal establishment within the EU can help to reduce the compliance burden.
  1. US privacy policies and practices do not normally go far enough and will not generally work in Europe. You should localise your US centric policies and procedures for compliance with European data protection laws.
  1. You may need to register with the local data protection authorities. Failure to notify is a criminal offence. Luckily in most EU member states, the notification process is relatively straightforward so this should be one of the easier issues to tackle.

Why should you care?

The European data protection regime is technically one of the strictest and most comprehensive in the world. Failure to comply means you risk not only regulatory scrutiny and fines (which are set to increase to up to 2 % of a company’s worldwide turnover for severe breaches), but also a potential PR disaster as European consumers are particularly privacy conscious.

Of course, we recognise that technical and resource constraints mean that a putting in place a fully compliant approach may not (at least initially) be possible, particularly if this is your first voyage into the European market!

However, if you’re ultimately looking to win the hearts and minds of European customers, data protection compliance should be right up there on your to-do list. The earlier you can start factoring in privacy to the design of your business processes and terms, the better.

Getting advice from a European data protection professional is a good starting point. If they’re worth their salt – they will be able to help you pragmatically navigate the compliance challenges and reduce some of the compliance burden.

Felicity FisherFelicity Fisher specializes in technology transactions and regulatory matters. She works predominantly with digital business sector, advising on commercial agreements, technology licensing and procurement, cloud services, outsourcing, e-commerce issues as well as privacy and consumer regulatory matters.

Stock Bonuses Ought Not Be Taxable

You would think that stock bonuses to employees would be encouraged as good for societal and worker welfare.

However, this is sadly not the case.

The Tax Problem with Stock Bonuses to Employees

Here is the problem with employers paying stock bonuses to employees:

  • Stock bonuses are taxable just like cash compensation, despite the fact that the stock may be stock in a private company and not salable.
  • Both income and employment taxes apply to employee stock bonuses.
  • To receive a stock bonus, unless the employer is going to pay the employee’s taxes (an unusual event) employees actually have to write checks to their employers so that their employers can satisfy the employee’s share of and employment tax withholding.
  • The amount of income and employment taxes applicable to stock bonuses can be so significant that most employees would rather forego the award rather than pay the tax.
  • This adverse tax treatment of employee stock bonuses results in employers resorting to stock options rather than stock bonuses.
  • Stock options are less favorable than stock bonuses for a number of reasons, including, among other things: (i) stock options have to exercised in order for the stock to be issued to the employee; (ii) taxes may be due on exercise; (iii) the taxes due on exercise may be so significant as to dissuade the employee from exercising in full; and (iv) stock options ultimately expire.

Public Policy Recommendations

Here is what Congress should do:

  • Repeal the taxation of transfers of private company stock to company workers.
  • This will allow companies to more readily share equity with workers, which will increase worker and ultimately societal welfare.