A bit over a month ago, I had the privilege of attending a roundtable discussion at NYU on Title II of the JOBS Act. As you may recall, Bob Thompson and I earlier helped the Glom conduct a forum on the JOBS Act, and I asked Usha (who organized the forum) for permission to add this post as an epilogue of sorts (especially since we did not cover Title II in the earlier posts). Thanks, Usha et al., for this opportunity to extend the discussion. Thanks also to Steve Bainbridge for urging me to post on this after I posted on the roundtable on LinkedIn. (This post repeats much of what I said there and adds a bit to it.)
Title II of the JOBS Act includes only one section--Section 201. Among other things, this section takes aim at the general solicitation/advertising prohibitions applicable to offeirngs under Rule 506 of Regulation D under the Securities Act of 1933, as amended (1933 Act). Specifically, the section requires the Securities and Exchange Commission (SEC) to modify the general solicitation/advertising provisions in Rule 502(c) so they will not apply to Rule 506 offerings if all purchasers in the offering are accredited investors. Section 201 also provides for a similar amendment to Rule 144A to allow securities to be offered "to persons other than qualified institutional buyers, including by means of general solicitation or general advertising, provided that securities are sold only to persons that the seller and any person acting on behalf of the seller reasonably believe is a qualified institutional buyer." This post only addresses the Regulation D part of Section 201 and only raises a few of the many issues to be faced in the rule-making process.
At the June roundtable, many of the most active participants were representatives of investment fund firms (vc, hedge, etc.) and their counsel. The relaxation of the general solicitation rules is of great importance to them because this deregulation has the potential to help their business operations (as investors in portfolio companies) and their ability to solicit investors in their own firms using Rule 506 offerings. The composition of the group enabled a very interesting discussion.
Perhaps the most interesting part of the conversation related to the portion of Section 201(a)(1) of the JOBS Act that directs the SEC to, in its rule-making, "require the issuer to take reasonable steps to verify that purchasers of the securities are accredited investors, using such methods as determined by the Commission." What might those reasonable steps be? Should the SEC script them out in detail, and if so, how? Should the same rules apply to, e.g., portfolio company offerings and offerings made by repeat financial industry issuers, like hedge funds?
There was a lot of sentiment around the table for having the SEC fashion rules that allow different types of industry players to determine what requirements are reasonable in their circumstances. The means of doing that could range from merely writing a rule that incorporates the reasonableness requirement in some general way, to working with safe harbor provisions that would set a core group of procedures, to using interpretive guidance to fill in details for different types of offerings. This turned out to be a rich conversation that bridged the gap between policy and practice.
We noted in the discussion that the reasonableness requirement in Section 201(a)(1) builds on the "reasonable belief" concept in the accredited investor definition in Rule 501 of Regulation D: "Accredited investor shall mean any person who comes within any of the following categories, or who the issuer reasonably believes comes within any of the following categories, at the time of the sale of the securities to that person . . . ." I noted in the discussion that a similar framework exists in the due diligence defense provisions in Section 11(b) of the 1933 Act: "after reasonable investigation, reasonable ground to believe and did believe, at the time such part of the registration statement became effective, that the statements therein were true and that there was no omission to state a material fact required to be stated therein or necessary to make the statements therein not misleading . . . ." The processes underlying the successful navigation of this due diligence defense were determined privately, outside the scope of SEC rule-making, and were vetted in enforcement proceedings. So, there is some precedent for leaving these kinds of reasonableness requirements to the actors in the regulatory scheme, subject to an enforcement check, albeit in a different context. It's worth thinking through that analogy more rigorously given the different context, but it is a noteworthy analogy nevertheless (imho). Among the issues to be thought through more carefully are the nature of the regulatory costs (including the costs of legal change) associated with the various proposed regulatory solutions and the bearer of those regulatory costs.
The SEC expects to take up rule-making on this at the end of the month. This means that the rule making on Title II of the JOBS Act will be way behind Congress's schedule. In the mean time, folks still are posting formal and informal pre-comments in the designated area of the SEC's Web site. Although I haven't taken the time to wend my way through all of the commentary and carefully think it through, there are a few recent letters that address some of the issues raised in this post and, in my view, merit attention. These include the letters filed by the National Small Business Association and the North American Securities Administrators Association (to which there have been some replies here and here).
There is much work to be done here. I throw out these ideas as a way of starting a potential conversation. So, if you're interested, have at it.
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