Wednesday, November 02, 2011

House Set to Consider Crowdfunding Legislation with Added Investor Protections, Including Notice to SEC

With the House slated to begin consideration of bi-partisan crowdfunding legislation on Friday, Chairman Patrick McHenry (R-NC), the sponsor of the legislation, held hearings before the House TARP, Financial Services, and Bailouts Subcommittee. While extolling the capital formation and job creating benefits of the Entrepreneurial Access to Capital Act, HR 2930, Chairman McHenry also called on the SEC to complete a review of its capital formation regulations. Ranking Member Quiqley (D-IL) commended both President Obama and Chairman McHenry for their support of crowdfunding legislation. Rep. Quiqley cautioned that, while HR 2930 will aid in job creation, it is not a panacea. The Ranking Member also commended the Financial Services Committee and Chairman McHenry for reworking the legislation during mark up to increase investor protection and preserve the authority of state securities administrators.

With strong bi-partisan support building for crowdfunding legislation and the President calling for this form or capital raising, the full House Financial Services Committee approved legislation sanctioning crowdfunding to finance new businesses by allowing companies to accept and pool donations of up to $1 million, or $2 million in some cases, without registering with the SEC. Crowdfunding describes a form of capital raising whereby groups of people pool money, typically comprised of very small individual contributions, to support an effort by others to accomplish a specific goal.

The Entrepreneurial Access to Capital Act, HR 2930, was approved by a bipartisan voice vote as an amendment in the nature of a substitute by the sponsor of the legislation. Rep.McHenry, who added a number of investor protections to the original bill. These are extensive investor protections demanded of both the intermediary and, if no intermediary, the issuer.

Under HR 2930 as reported to the House floor, the issuer of the securities must warn investors, including on the issuer's website, of the speculative nature of investments in startups, emerging businesses, and small issuers, including risks in the secondary market related to illiquidity. Also, the issuer must require each potential investor to answer questions demonstrating competency in the recognition of the level of risk applicable to investments in startups, emerging businesses, and small issuers; the risk of illiquidity; and such other areas as the SEC may determine appropriate. The issuer must also maintain such books and records as the Commission determines appropriate.

The issuer must take reasonable measures to reduce the risk of fraud with respect to the transactions.

The issuer must provide the SEC with its physical address, website address, and the names of its principals and employees and keep such information up-to-date; as well as provide the Commission with continuous investor-level access to the issuer's website. The issuer must also provide the Commission with basic notice of the offering, not later than the first day funds are solicited from potential investors, including the stated purpose and intended use of the capital formation funds sought by the issuer; and the target offering amount. In turn, the SEC must make this information available to state authorities

The issuer must state a target offering amount and withhold capital formation proceeds until the aggregate capital raised from investors other than the issuer is no less than 60 percent of the target offering amount. Moreover, the issuer must outsource cash-management functions to a qualified third party custodian, such as a traditional broker or dealer or insured depository institution;

The issuer's website must offer a method of communication that permits the issuer and investors to communicate with one another. And, the issuer must disclose to potential investors, on the website, that the issuer has an interest in the issuance.

Originally, HR 2930 would have provided a crowdfunding exemption to SEC registration requirements for firms raising up to $5 million, with individual investments limited to $10,000 or 10 percent of an investor’s income. An amendment by Rep. Steve Stivers (R-OH), approved by voice vote, lowered the $5 million threshold to $1 million, or $2 million if you have audited financial statements.

The legislation is designed to provide smaller investors an opportunity to support startup companies that is currently not an option under SEC regulation. Rep. McHenry noted that new ideas are needed to help provide small businesses and entrepreneurs with the ability to create jobs. HR 2930 creates an exemption from SEC registration for crowdfunding. The legislation is similar to proposals advanced by the Obama Administration. Rep. Carolyn Maloney (D-NY) noted that the legislation, as amended, is consistent with the President’s proposal.

1 comment:

David Fisher said...

Passed earlier today with a bipartisan vote 407 to 17. There were some other amendments introduced today that may not be included in your excellent summary.