The NLCFA's SEC Committee had a representative in this week’s JOBS Act hearings on Capitol Hill when crowdfunding was mentioned. These are his notes:
Notes from 6/26/12 House subcommittee hearing on The JOBS Act in Action: Overseeing Effective Implementation That Can Grow Jobs
Brian Cartwright (testimony)
Scholar-in-Residence, Marshall School of Business, University of Southern California
Former General Counsel, U.S. Securities & Exchange Commissioner
C. Steven Bradford (testimony)
Earl Dunlap Distinguished Professor of Law
University of Nebraska College of Law
Alon Hillel-Tuch (testimony)
Co-Founder and CFO of RocketHub
Professor John Coffee Jr. (testimony)
Adolf A. Berle Professor of Law
Columbia University Law School
- Much talk about high costs for small businesses to enter the crowdfunding industry if the regulations are too strict. Hard for small business and startup to have to pay for legal and financial advice and regulatory fees when they are attempting to crowdfund in order to get the capital they already are short of. Professor Bradford believed there cannot be an expensive mandatory disclosure option because of the extra costs to entrepreneurs.
- Alon Hillel-Tuch felt that these fees and the need for entrepreneurs to pay extra costs before they crowdfund has potential to kill crowdfunding. Also some adamant talk about the endline profits these companies could raise in order to make crowdfunding more attractive and more worthwhile for business to equity crowdfund. His suggestion is raise the crowdfund exemption from $1 million to $5 million. Another note from Alon Hillel-Tuch is that if the SEC regulations are too strict Rockethub may not look to become an equity portal and this could be a similar theme with other donation-based portals not wanting to expand to equity crowdfunding.
- On the issue of crowdfunding leading to fraud, Alon Hillel-Tuch and Professor Bradford both felt that the transparency that is inherent in crowdfunding will allow most of the crowd to root out fraudsters and that portals will be able to regulate and perform their own due diligence, meaning there should be less overall regulation through the SEC and more through the portals. Professor Bradford felt similarly but at the same time emphasized the need for investor education in order for the crowd to effectively help in preventing fraud. Investor education, he believes, is something the portals could provide but overall “lack of clarity and inability of entrepreneurs to understand what they can/cannot do could kill crowdfunding”. Mr. Cartwright was the staunchest believer in the growth of fraud following the start of equity-based crowdfunding noting the amount of low level “street level” securities fraud that takes place and the portals, SEC or whomever the regulations to protect investors against fraud falls upon are going to need to have extensive anti-fraud measures. Mr. Cartwright proposed an expanded SEC force to deal with this type of fraud.
- Another main theme of the hearing was the stress put on the fact that these regulations are going to need to be written to be easily understood by the entrepreneurs, many of whom will be uneducated in the field of securities law. Not only will many errors be made by small businesses who do not understand the act but additional fees needed to pay for legal and financial advice could compound the inability of these companies to enter the crowdfunding market and grow. John Coffee noted that Rule 508 in Regulation D -- “innocent and immaterial exemption” could be applied in equity based crowdfunding in order to preserve the offering. As he noted the rules are ambiguous so far as to what happens if a business is raising funds within a portal and then found they had made a mistake under the guidelines; this exemption could help protect business.
Notes from 6/28/12 House subcommittee hearing on The JOBS Act in Action: Overseeing Effective Implementation That Can Grow Jobs
The Honorable Mary Schapiro (testimony)
Chairman U.S. Securities and Exchange Commission
- After initial comments Chairman McHenry asked about the ways in which the SEC has been reaching out to the public community for comments. Chairman Schapiro mentioned the comment board on the SEC website along with FAQ pages and the availability to send remarks through email.
- The July 4th deadline for rules relating to general solicitation cannot be met as it does not allow enough time for drafting a new rule and the SEC is working towards the drafting but the deadline will not be met. From the testimony: “time limits imposed by the JOBS Act are not achievable”.
- McHenry noted that the Senate changes to the jobs act causes concerns because of the added regulations could limit the growth of crowd funding and the ability for startup companies to benefit. Schapiro notes the SEC is very sensitive to the issues of cost and that the use of intermediaries will be major factor so that small business’s due not have to deal with extra fees through legal and financial council that could “stillbirth” equity crowdfunding and startups entrance into the market. There still needs to be oversight and regulation outside of the intermediaries to ensure there is a standard level of protection for investors. Schapiro quote on the need for regulation, “if the exemption is fraught with fraud it won’t be useful for anyone”
- Schapiro quote on meeting the December 31st deadline for crowdfunding rules: “I don’t foresee not meeting the deadline”.
- The need for deeper “economic analysis guidance” throughout the regulations creating process has added extra time to the process. Schapiro notes the commission is working hard to implement strong economic analysis to coincide with rule creation. McHenry is skeptical about the fact that the large majority of recent hires for the drafting of regulations are lawyers by trade and not economists downplaying that the greater stress on stringent economic analysis isn’t supported by this fact. Schapiro backs the commissions continued effort to implement the economic analysis guidance throughout the job act regulations.
- Rep. McHenry asks about regulation for SROs. Chairman Schapiro agrees for some regulation but believes it would be a mistake to have blanket requirements across all SROs. Rep. McHenry notes that since SROs can react faster than government bodies and regulate themselves there should be more regulation of SROs. Schapiro replies Commission will strive to do more but burdened by timeline.