Monday, October 29, 2012

In Letter to SEC, US Senators Say Proposed Regulations Implementing Sec. 201 of JOBS Act Are Fatally Flawed and Should be Re-Proposed

In a letter to the SEC, seven US Senators, including Securities Subcommittee Chair Jack Reed (D-RI), said that the proposed regulations implementing JOBS Act provisions eliminating the ban on general solicitation in Regulation D are fatally flawed because they fail to establish methods sufficient to ensure that only accredited investors participate in the offerings. The SEC proposal fails to implement the directive of Section 201 of the Act that requires issuers to take ''reasonable steps" to ensure that only accredited investors participate in the private offerings and further directs the Commission to establish the methods issuers must use in order to qualify as taking such "reasonable steps." The Senators also urged the SEC to distinguish between issuers that engage in operational businesses and those that are merely investment vehicles.

Because of the significance of the changes the Senators are requesting to the proposed regulations, and because effectively implementing Section 201 is essential to protecting investors and ensuring market integrity, the Senators ask the SEC to re-propose a new regulatory framework for implementation of Section 201 of the JOBS Act. The letter was also signed by Senators Carl Levin (D-MI), Richard Durbin (D-IL), Tom Harkin (D-Iowa), Frank Lautenberg (D-NJ), Al Franken (D-MN) and Daniel Akaka (D-Hawaii).

The proposal emphasizes the need to provide sufficient flexibility to accommodate the different types of issuers that would conduct offerings under the new Rule 506(c).  The proposal further states that requiring issuers to use specified methods of verification would be impractical and potentially ineffective in light of the numerous ways in which a purchaser can qualify as an accredited investor, and the potentially wide range of verification issues that could arise. But in its effort to accommodate all types of issuers, noted the Senators, the SEC proposal provides no certainty to issuers and fails to ensure that only accredited investors participate in the offerings.

According to the Senators, the "reasonable steps" language used in the JOBS Act was specifically intended to ensure that only accredited investors participated in private offerings, and the provision’s author, Rep. Maxine Waters (D-CA), made it clear that self-certification was inadequate. The Senators said that the proposed regulations must require common-sense documentation and/or verification practices and procedures, thus allowing the SEC to fulfill its mission to protect investors, while providing needed, bright-line certainty for issuers and investors. In addition, the proposal appears to misconstrue Section 201 as a mandate to remove any and all regulation of general solicitation.  However, the statute and legislative history reflect the intent to only remove the prohibition on general solicitation.

Congress could have removed from the SEC any authority to condition, limit, or otherwise regulate the manner or substance of general solicitation, reasoned the Senators, but instead Congress elected to allow the Commission to retain its authority to regulate this new allowance for general solicitation in offerings exempt from registration pursuant to Rule 506 or Rule 144A.  As such, the Senators urged that the proposal be significantly revised to provide clear, objective, and meaningful regulation of the manner and substance of general solicitations that may be allowed in private offerings.

Also, the Commission should take into account the nature of the securities being offered.  In providing a solid regulatory framework within which to permit general solicitation regarding certain private offerings, they noted, the Commission should distinguish between issuers that engage in operational businesses and those that are merely investment vehicles.

Congress did not contemplate removing the general solicitation ban-without retaining any limitations on forms of solicitation for private investment vehicles.  Indeed, continued the Senators, no argument was made during the debate of the bill that the objective was to ease the capital aggregation process for private investment vehicles.  The words "hedge fund," ''private fund," or "investment vehicle" were not used either during the committee or floor debate in the House of Representatives, they emphasized, nor did the Senate engage in any debate relating to removing these advertising and marketing restrictions completely from private investment vehicles.