Fraud A Concern As Lawmakers Weigh 'Crowdfunding'

Congress is considering loosening restrictions on who can invest in companies before they go public. The change would allow people who don't have $1 million in the bank to invest in startups. Sounds great — shareholder democracy. But the rules could also create 21st-century boiler-rooms where dodgy deals are peddled in social media to unsophisticated investors.

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Now in this country, Congress may soon make it easier for you to invest your money in a new business. Say there's a hot new startup and you think you might want to invest some money in it before it goes public, selling shares on the stock market. The law may not let you invest early unless you're very wealthy. Congress is now considering loosening those investment rules, allowing more Americans to invest in companies before they go public. But the bill is bogged down in the Senate over concerns that the changes might lead to fraud. NPR's Steve Henn reports.

STEVE HENN, BYLINE: Not just anybody is allowed to invest in the next hot Silicon Valley startup. For now, these deals are restricted to, quote, "accredited investors. Tim Harris is a partner at Morrison and Foerster in Silicon Valley.

TIM HARRIS: In very general terms, an accredited investor is a very wealthy person. And in this country the way the rules are written, it's a person with a million dollar net worth.

HENN: And that's excluding your house. Harris says for years government rules designed to protect the little guys have prevented most people from taking part in kinds of private investments that have made so many people here in Silicon Valley rich. Harris helps Silicon Valley startups close deals and raise cash.

HARRIS: So, how that plays out is folks will come to us and say, hey, we're the three founders of this company. We also want to put in our own money but we also have friends.

HENN: Of course, entrepreneurs can invest in their own businesses. But if friends or family members they want to bring along aren't wealthy enough to be accredited, they are cut out of the deal. So some here have been pushing Congress to change the rules and allow what they call crowdfunding.

BILL CLARK: Yeah, you know, it's something that anyone can do.

HENN: Bill Clark is CEO of MicroVentures. He says crowdfunding would allow companies to raise capital through social networks, like Facebook and Twitter, and collect hundreds - even thousands of small investments from pretty much anybody.

CLARK: They're allowing a startup to raise money by themselves that way. And then they are also allowing anyone to open up a website to post deals.

HENN: Advocates of this idea say it could unleash a torrent of money for thousands of creative new companies. They call it a digital kick-starter for entrepreneurs.

Bill Clark, at MicroVentures, has been trying to do this kind of thing for a couple years - working within the existing laws. He's a registered broker-dealer. His books are audited.

CLARK: You know, we have to do due diligence and fraud checks.

HENN: He can't offer their deals to everyone and MicroVentures also can't advertise its deals in any way. But at the Jobs Act being debated in the Senate could change all of that. It could open up this business of lining up investors to almost anyone with a website.

DANA SEVERSON: Yeah, I mean we're definitely exploring it. And it's been a subject that we've talked about for a while.

HENN: Dana Severson is cofounder of Wahooly. His site is named after the wahoo.

SEVERSON: And it's the fastest fish in the world and it swims in schools. We're really based on collaboration and crowds. And, you know, we're accelerating the growth of startups.

HENN: To become a member of Wahooly you have to have a big online following. And Wahooly's members can earn stock in startups by promoting those companies online. Ethics professors might call this a conflict of interest. Severson sees it as an opportunity. And soon, he says, members or wahoos may be able to invest their own money in the startups they're promoting.

Investor advocates are worried that unless there oversight of these kinds new online stock markets for startups, there could be some enormous disasters. Surprisingly, Severson agrees.

SEVERSON: With all this unregulated, unprotected, you know, investment opportunities out there it is ripe for fraud.

HENN: And that made me wonder what exactly eats a wahoo?

(SOUNDBITE OF LAUGHTER)

SEVERSON: That's a great question. I don't know. A shark?

HENN: Well, it turns out that the wahoo doesn't swim in schools and is, in fact, not the fastest fish in the sea. There is one fact Severson did get right: wahoos are eaten by sharks.

Steve Henn, NPR News, Silicon Valley.

(SOUNDBITE OF THEME FROM THE MOVIE, "JAWS")

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