The JOBS Act – Changing the Way Franchisors and Franchisees Raise Investment Capital?
Franchisors and franchisees alike are cautiously optimistic about what the JOBS Act means for the funding of franchise businesses.
On April 5, 2012, President Obama signed the “Jumpstart Our Business Startups” Act, or the JOBS Act, into law. The JOBS Act is essentially a legislative bundle intended to revitalize the economy of the United States, while increasing funding opportunities for the country’s principal job creators: small businesses, entrepreneurs and startups. The JOBS Act also includes proposals from the President’s Council on Jobs and Competitiveness, designed to increase access to financing for small businesses, and address some of the regulatory hurdles that impede the growth of smaller companies.
Franchisors and franchisees alike are cautiously optimistic about what the JOBS Act means for the funding of franchise businesses. Last year, Stephen J. Caldeira, CFE, International Franchise Association President and CEO, applauded the U.S. House of Representatives for “coming to bipartisan agreement on legislation that will boost access to capital for franchise businesses, particularly given its direct correlation to job creation.” While the JOBS Act itself was passed in April 2012, it will not become effective until the U.S. Securities and Exchange Commission finalizes rules on how the Act will be enforced.
To the dismay of many, nearly a year after the passing of the JOBS Act, the SEC continues to struggle with the law’s practical implementation – a difficult task, made even more so by the Dec. 14, 2012 departure of SEC Chairman Mary Schapiro.
As we await the SEC’s development of protocols for enforcing the JOBS Act, now is a good time for franchisors and franchisees to consider what the law may eventually mean to their capital raising efforts.
As far as franchisors and franchisees are concerned, the most important provisions of the JOBS Act may be The Entrepreneur Access To Capital Act (H.R. 2930). H.R. 2930 removes SEC restrictions that prevent businesses from raising equity capital from a large pool of unrelated and unaccredited small investors, known as “crowdfunding.” Also, The Access to Capital for Job Creators Act (H.R. 2940), does away with a SEC regulation prohibiting small businesses from using advertisements or solicitation to reach investors.
Crowdfunding is the process by which a large group of individuals pool their money through websites or social media, to support causes or projects that are launched by others. In the pre-JOBS Act era, permitting those financial supporters to own an interest in the funded project was illegal – it constituted the unregulated sale of a security. Accordingly, crowdfunding donors have typically been given keepsakes or small gifts in exchange for their financial support, rather than receiving a percentage of project equity. Once the SEC has finalized the JOBS Act’s enforcement rules, H.R. 2930 will allow smaller franchisors and larger franchisees to lawfully solicit equity investments from a multitude of individuals, via websites, mobile apps and social media.
With regard to H.R. 2940, let’s consider a hypothetical franchisor. Prior to the JOBS Act, our growing franchisor investigates the possibility of issuing securities to fund its continuing expansion. Our franchisor learns that to offer securities, it will be required to register with the SEC or meet certain registration exemptions under Regulation D of the Securities Act of 1933. The possibility of exemption seems attractive to our franchisor because registration with the SEC is time consuming, very expensive and requires arduous reporting and disclosures.
The General Solicitation Process
Unfortunately, among the requirements for exemption is that the franchisor not engage in “general solicitation” to sell its securities. “General solicitation” is the process of generating interest from the public at large for a securities offering, by utilizing broad-based print, Internet, television, radio or other mass media. For our franchisor’s private placement to qualify for the exemption from registration under Regulation D, no general solicitation may take place. The ban on general solicitation is interpreted as meaning that investors, or their intermediaries, must have substantial pre-existing connection with the company seeking financing before the potential investor can be informed that unregistered securities are being offered for sale. Thus, our growing franchisor is severely restricted in its ability to promote the sale of its securities to potential investors.
H.R. 2940 removes the solicitation ban, effectively allowing the growing franchisor to solicit investor interest throughout the country, without the need of a pre-existing relationship. Note that our hypothetical business could just as easily be a large, multi-brand franchisee seeking to raise capital.
Other JOBS Act Components
Briefly, the other component legislations that make up the JOBS Act are:
(H.R. 3606) The Reopening American Capital Markets to Emerging Growth Companies Act. H.R. 3606 reduces the costs of going public by providing companies with a temporary relief from securities and SEC regulations by phasing in certain regulations over a five-year period. This lets smaller companies go public more quickly, theoretically leading to faster job creation.
(H.R. 1070) The Small Company Capital Formation Act, eliminates some of the impediments for small businesses seeking to go public, by raising the offering ceiling for companies exempted from SEC registration, from $5 million to $50 million in a 12-month period, before SEC registration becomes necessary.
(H.R. 2167) The Private Company Flexibility and Growth Act, removes obstacles to capital formation for smaller businesses by, among other things, raising the shareholder registration requirement threshold from 500 to 1,000 shareholders.
(H.R. 4088) The Capital Expansion Act, although not as directly significant to franchisors and franchisees as other provisions of the JOBS Act, H.R. 4088 is expected to kindle economic growth by allowing a bank or bank holding company to register with the SEC after it has reached total assets of at least $10 billion and has at least 2,000 investors. The previous limit was 500 investors. In theory, this bill will allow banks to apportion more capital to making loans, and less to the high cost of SEC registration compliance.
While questions about the SEC’s implementation of enforcement rules linger, there remains reason for cautious optimism. Certainly, implementation of any material change to securities law must be executed with prudence, lest the unscrupulous seek to raise capital through fraud and deception. There can be no doubt, however, that the JOBS Act contains important provisions that may provide business startups and ambitious entrepreneurs with the access to capital they need to create jobs. With more than 825,000 franchise businesses across 300 sectors, franchising continues to play an enormous role in job creation. Properly implemented, the JOBS Act will be good for small business. And what’s good for small business, is good for franchising. ⎯
Roger Quinland is a partner in the Franchise & Distribution Law practice group of Gordon & Rees, LLP. Gordon & Rees is a national, multi-practice law firm with 28 offices across
the country. He can be reached at