On July 10, 2013, the SEC issued its final rules allowing general solicitation and advertising in unregistered private placements, provided all of the investors were accredited, effective September 23, 2013. However, on the same day the SEC took many observers by surprise when in a divided 3-2 vote it also issued proposed rules, primarily intended to monitor the use of general solicitation and to assist regulators in ferreting out fraudsters using the media to separate unwitting investors from their hard earned money. As is customary in the federal rulemaking process, the SEC invited comments from the public on the proposed rules, establishing a cutoff date for comments of September 23, 2013.
The comments received reflected sharp differences of opinion, as might be expected in view of the sometimes conflicting goals of promoting capital formation versus protecting investors. Most in the startup community argued that certain proposed conditions on the use of the new exemption allowing general solicitation would render the new rule impractical, conditions such as:
- Filing of a notice with the SEC (Form D) 15 days before the use of any solicitation materials.
- A one year disqualification from using the exemption, SEC Rule 506, as a penalty for failing to make a timely filing of the Form D notice.
- A requirement that all solicitation materials be legended, and that they be furnished to the SEC electronically no later than the day they were first used.
Many argued that these requirements did not reflect the reality of fundraising practices in today’s world of startups and small businesses – often punctuated by “demo days” and “pitch events” – and the fluid manner in which financings were often cobbled together.
State regulators and consumer advocacy groups struck a different tone, vehemently arguing that these proposed measures were necessary to fulfill the SEC’s mission of protecting investors from unscrupulous actors engaging in phony investment schemes – and that relaxing traditional rules on fundraising would promote a culture of regulatory complacency in the entrepreneurial community.
Seems that in a letter to the SEC dated September 20, 2013, the SEC Advisory Committee on Small Business and Emerging Companies asked for an additional 45 days to comment on the proposed rules
Then came the heavy artillery – a missive from none other than Congressman Patrick McHenry, the author and champion of the original JOBS Act legislation, in a letter to the SEC dated September 20, 2013 (PDF)
“The Advisory Committee [on Small Business and Emerging Companies] states that the Commission’s current deadline of September 23, 2013 for public comment does not provide adequate time for interested parties to submit comments on this complex proposal”.
“The concerns described by the Advisory Committee are similar to the concerns that Chairman Garrett and I previously stated in our July 22, 2013 letter to you and consistent with the concerns displayed by many businesses and individuals that stand to suffer significant harm from the proposed rules. “
“Consistent with the Advisory Committee’s recommendation, the Small Business Administration’s Office of Advocacy believes that the [Initial Regulatory Flexibility Analysis ("IRFA")] contained in the proposed rule is deficient, and for this reason, the SEC should republish a supplemental IRFA for additional public comment before proceeding with this rulemaking.”
“I expect that the Commission will accept the unanimous recommendation of an Advisory Committee that it organized, particularly given that an extended comment period is a small request when compared to the potential economic harm of the proposed rules. I also expect the Commission to adopt the recommendations of the Small Business Administration’s Office of Advocacy, given its expertise in small business capital formation”.
“Accordingly, I request that you extend the comment period by forty-five (45) days and republish a supplemental IRFA as soon as possible. Your prompt consideration of this request is appreciated.” [Emphasis added]
Congressman McHenry’s September 20 letter cited to a comment letter submitted to the SEC on September 12, 2013, by the Office of Advocacy, an independent regulatory watchdog under the umbrella of the Small Business Administration (PDF), charged with special powers and duties under the Regulatory Flexibility Act (RFA), which stated that the SEC’s proposed rules failed to properly evaluate their impact on small business – nor did the SEC properly consider less burdensome alternatives, such as exempting small businesses from these proposed regulations.
Seems that almost none of the hundreds of comments submitted to the SEC regarding the proposed rule noticed that the SEC, in its July 10, 2013 proposal, failed to fully and properly address the impact of the proposed regulations on small business and to consider alternatives to these proposals – in the manner required by a federal law overlooked by most commentators, the Regulatory Flexibility Act of 1980 – a point I repeatedly made in my 10 page comment letter to the SEC submitted on August 28 (PDF – Posted Below).
What is the Regulatory Flexibility Act and Why Does it Matter?
The RFA requires federal rulemaking agencies to consider the impact on small business when they write new rules. The RFA was enacted by Congress in 1980 to ensure a more level playing field for small business. Congress particularly wanted to avoid “one-size-fits-all” regulations whose costs fell disproportionately on small entities. The RFA requires agencies to assess the impact of their regulations on small entities and to consider less burdensome alternatives. The RFA also allows the SBA’s Office of Advocacy to weigh in on any deficiencies in the rulemaking procedure which impact small business and to advance the interests of small business in the rulemaking process.
Seems that the SEC did not bother to adequately assess the impact of the proposed rules on small business, as required by the RFA. This is not a minor omission.
- Wasn’t the primary purpose of the JOBS Act to increase job creation by facilitating capital formation? And
- Aren’t small businesses the engine of job creation in the U.S.? And
- Aren’t the new rules allowing general solicitation in unregistered private placements most beneficial to startups and small businesses? And
- Aren’t the proposed rules most burdensome on smaller businesses and startups, with limited resources generally?
Yes, it’s the JOBS Act, stupid! And it’s the startups and small businesses which are the principal drivers of economic growth in the U.S.
I furnished a copy of my August 28 comment letter to the Office of Advocacy at the Small Business Administration via email on August 28. My concerns apparently did not fall on deaf ears. Seems that the Office of Advocacy agreed with some of my concerns, as did Congressman McHenry. Hopefully, so too,will the Commission.
Though I do not have a crystal ball, by all measures it appears that the SEC will heed the call of Congressman McHenry and the Committee on Small Business and Emerging Companies and extend the comment period for the proposed regulation, in part to allow commentators to address in greater detail the issues that the SEC apparently overlooked.
Perhaps a harbinger of the SEC’s intention to formally extend the comment period is a comment letter dated September 25, 2013, belatedly submitted to the SEC on September 25, 2013, by the National Venture Capital Association (posted on the SEC’s website on September 26) (PDF)– two days after the September 23 deadline to submit comments had passed .
Perhaps they know something the rest of the crowd has yet to hear.
Samuel S. Guzik is a corporate and securities attorney and business advisor with the law firm of Guzik & Associates, with more than 30 years of experience. He is admitted to practice before the SEC and in New York and California. During this time he has represented a number of public and privately held businesses, from startup to exit, concentrating in financing startups and emerging growth companies. He also frequent blogger on securities and corporate law issues at The Corporate Securities Lawyer Blog.