Years ago, illiquidity was a concern with Crowdfunded securities investments because there was no organized secondary market for crowdfunded shares. Today, secondary markets have emerged, not only for private securities, but for crowdfunded shares specifically, because of the fast-growing and evolving market for it. For instance, CFX Markets, a secure online trading platform that facilitates secondary market transactions of non-listed alternative investments, continues to bring liquidity to alternative assets investors nationwide.
A few years ago, Congress and the Securities and Exchange Commission (SEC) explored the idea of allowing “venture exchanges” to facilitate trading of securities issued by small companies, and on July 10, 2018, Congress passed the Main Street Growth Act, a bill that promotes the formation of venture exchanges as a measure to render U.S. public markets more attractive to emerging firms. It permits these venture exchanges to connect buyers and sellers of small-company securities, but not to process transactions between those parties.
The act defines small companies as those—both public and private—with assets under $1 billion. In short, the bill makes it easier for these smaller businesses to access funding, as long as these “early stage growth” companies meet the same regulations and standards as those larger businesses already listed on Nasdaq or other exchanges.
Some CF deals provide for redemption of preferred shares, where investors may have a right or obligation to sell shares back to the issuer. However, redemption is not always a good avenue to liquidity for angel investors.
“As the sole entity in charge of buying back shares, the company potentially could keep the valuation lower than what others might pay in the open market,” explains Muhammed Saeed, a serial entrepreneur and developer of electronic trading systems for the securities industry. “There is little or no incentive at that time for the company to offer a higher price unless they are working with professional investors to ‘take out’ crowdfunding investors to clean up the cap table for an upcoming VC or institutional round.”
Some investors will not look at private securities offerings, even if redemption is an option, until a secondary market is established that provides some prospect of liquidity.
CFX Markets was the first in the secondary markets market. CFX “provides an open and secure network to facilitate secondary market transfers of private securities in alternative asset classes,” strictly for accredited investors. It is owned by PeerRealty, a real estate securities CF platform based in Chicago, but lists crowdfunded shares originating on other platforms, including PropertyStake (real estate), and CrowdFranchise (franchises).
Significantly, the issuer of securities does not have control over the terms of any transaction (such as minimum share price, maximum number of shares, or restrictions on who may buy, aside from basic SEC rules) on the CFX Markets platform, as issuers do on existing secondary markets like SecondMarket and Nasdaq Private Market (a joint venture of SharesPost and Nasdaq OMX).
Bloomberg reported that transactions involving sales of private securities by employees and angel investors reached a record $12 billion in 2013. Today, the trend is still climbing.
Venture exchanges and secondary markets have given crowdfunding their boost over the past few years. Five years ago, many investors who were hesitant to take the plunge into crowdfunding because of illiquidity, feel more enthusiastic about it today thanks to the emergence and subsequent popularity of secondary markets.
[Editor’s Note: Check out these related webinars, which can be taken for Continuing Legal Education (CLE) credit, or simply for practical and entertaining education for business owners, Accredited Investors, and their legal and financial advisors: “Raising Money for a Startup Through Equity Crowdfunding,” and “Investing in Real Estate Through Equity Crowdfunding.” This an updated version of an article first published July 8 of 2015.]
David M. Freedman retired in 2016 after 40 years as a financial and legal journalist. He is a coauthor (with Matthew R. Nutting) of Equity Crowdfunding for Investors: A Guide to Risks, Returns, Regulations, Funding Portals, Due Diligence, and Deal Terms (Wiley & Sons, NY, 2015). He also wrote Box-Making Basics, a woodworking book (Taunton…
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