SEC Vote Coming: Proposed General Solicitation Rules May Bring Big Changes

securities and exchange commission secYesterday general solicitation became legal for issuers opting to make use of the newly-minted Rule 506(c) of Regulation D. The option was added to Form D yesterday, which is available on the SEC’s web site.

Some news outlets reported that Form D had to be filed 15 days before general solicitation could occur. That isn’t exactly true. However, that rule has been proposed, and the public comment period for that rule ended yesterday on the same day that Rule 506(c) became available to issuers.

The SEC generally provides at least 60 days for members of the public to submit comments on proposed rules before bringing those rules to a vote. On more contentious issues, that 60 day time period can be extended at the SEC’s discretion.

In a release issued on July 10th, the SEC outlined the basics of these proposed rules…

These proposed amendments are intended to enhance the Commission’s ability to evaluate the development of market practices in Rule 506 offerings and to address concerns that may arise in connection with permitting issuers to engage in general solicitation and general advertising under new paragraph (c) of Rule 506. Specifically, the proposed amendments to Regulation D would require the filing of a Form D in Rule 506(c) offerings before the issuer engages in general solicitation; require the filing of a closing amendment to Form D after the termination of any Rule 506 offering; require written general solicitation materials used in Rule 506(c) offerings to include certain legends and other disclosures; require the submission, on a temporary basis, of written general solicitation materials used in Rule 506(c) offerings to the Commission; and disqualify an issuer from relying on Rule 506 for one year for 2 future offerings if the issuer, or any predecessor or affiliate of the issuer, did not comply, within the last five years, with Form D filing requirements in a Rule 506 offering. The proposed amendments to Form D would require an issuer to include additional information about offerings conducted in reliance on Regulation D.

The coming vote on proposed rules is a big one, and entrepreneurs are going to want to watch closely as the SEC makes a final decision.

There are three aspects of these proposed rules that stand to affect capital raising for issuers making use of Rule 506(c)…

  • 15 Days: In the absence of a rule requiring 15 day advance filing of Form D, general solicitation took place starting on day one of implementation. If this rule were to be adopted, issuers would be forced to wait 15 days after filing before soliciting their investment opportunities.
  • Mandated Legends: If the SEC decides to mandate the inclusion of legends in solicitation materials, it will be particularly interesting to see how they expect those legends to be included. In a 140 character world, space is limited.
  • Risk of Noncompliance: This is perhaps the most important. On the surface, this seems to suggest that any issuer who does not conform to the standards of this more complicated system risks being shut out of the private marketplace for years.

Angel Capital AssociationThese proposed rules are what have sparked strong rebuttals from the likes of the Angel Capital Association, Naval Ravikant and others. Some thoughts submitted to the SEC via comment letters include…

The Commission should promote more effective disclosure strategies that prioritize investor – and issuer – education over standard boilerplate language requirements.Daniel Gorfine and Staci Warden, Milken Institute

If Mr. Levchin (PayPal) had been operating under the currently proposed rules while commencing a new offering under Regulation D, he would have been penalized for changing course so frequently by being prohibited from fundraising for one year. Even if he pre-filed Form D in compliance with the proposed rules, his materials – let alone his entire business model – would have been out-of-date within 15 days and he would have had to re-fileAlejandro Cremedes, RockThePost

The requirement to include disclosures with every mention of your offering is not feasible. Not only are certain advertising mediums not conducive to including wordy text, they restrict any content that is unrelated to the content of the company. Daryl H. Bryant, StartupValley

A one-year disqualification from future reliance on Rule 506 offerings is a disproportionate penalty for startups that fail to comply with what are mostly technical legal requirements. The severity of the penalty does not take into account the probability that many instances of noncompliance will result from ignorance rather than willful delinquencySang Lee, Return on Change

…there is no way for the Commission to determine whether all materials have been submitted, and thus an incentive to undersubmit. Even if a proposed Advance Form D were to be filed, indicating that an issuer intended to use GSGA, and even if the Commission had the resources to cross check Advance Form D against submissions, there is no way to establish compliance. Conversely, there is every incentive for issuers to submit whatever materials they find easiest to submit and deliberately withhold materials they least want the SEC to see or which present challenges with respect to uploading.Sara Hanks, CrowdCheck

US_Congress_02As you can see, many in the industry are critical of the proposed rules. However, there are also strong comments in favor of the proposed rules. Perhaps the best example comes from a joint letter filed on behalf of Senators Martin Heinrich, Carl Levin, Tom Harkin, Mark Pryor, Jeff Merkley and Angus King in reference to the advance filing requirement…

This one correction to the Form D filing requirements will address the practical realities that will now be faced by state enforcement personnel. Simply requiring a Form D filing prior to any public solicitation or advertising will ensure that state securities regulators, and the SEC, will be able to determine an issuer’s intent to rely on general solicitation and advertising, it will enable state regulators to respond to questions from investors in their states about publicly advertised offerings, and it will further enable local investors, who can also access Form D filings, to get basic background information about “legitimate” offerings before they invest.

The fight over general solicitation is over, at least for now. The question we are left with: who, if anyone, has swayed the Commission.

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