Guest Commentary: Breathtaking, front-page news in the Wall Street Journal this morning. Securities and Exchange Commission chief Mary Schapiro has sent Representative Darrell Issa a letter stating that the SEC is looking for “ways to reduce the regulatory burdens on small business capital formation.”
The Journal article suggests that rule changes could include raising the number of shareholders private companies may have before becoming public by default, and “relaxing a strict ban on private companies publicizing share issues, known as the ‘general solicitation’ ban.”
I think the Journal piece misstates the function played by the Reg D prohibition on general solicitation. Or to be fairer, the article simply references, uncritically, an antiquated justification for the ban: “The intent of the rule is to keep companies that need cash from targeting potentially vulnerable investors.”
Now, here’s the open secret about the “general solicitation” prohibition: many startups — arguably all of the most publicized — break it every single time they raise capital.
That’s because news of private offerings is now published everywhere. You might hear of a startup seeking capital on AngelList, or via Angelsoft, a tweet, a pitch forum sponsored by an angel group or tech startup association, or any other number of social media outlets or public events.
But “vulnerable investors” are not hurt, because only accredited investors (those able to “fend for themselves”) are allowed to participate in most startup financings.
The ban on “general solicitation” was built for a time when to broadcast (via radio, TV or newspaper) could fairly be said to equate with an effort to entice (“target”) public interest in shares. But communication today is not so much “broadcast” as “open-cast,” about finding the right audience for the message, or, in the case of startup financings, finding the right (well-heeled) investors for the particular deal.
Many startupers will use the occasion of the SEC’s review to renew calls to lower the net worth and income thresholds for the accredited investor standard, or to eliminate it altogether. That would be a mistake. As paternalistic as the accredited investor definition is, and as hard as it is to justify on philosophical and democratic grounds, it’s the bedrock for angel investing.
It’ll be fascinating to see what comes of Chairman Shapiro’s letter and the Commission staff’s review. My take is we can pretty much safely whittle away most of the rules as long as the accredited investor definition stays in place.
Attorney William Carleton is a member of McNaul Ebel Nawrot & Helgren PLLC, a Seattle law firm. He works with startups and emerging tech companies, their founders and investors. He posts regularly about tech-related legal issues on his blog, where this post first appeared. Follow him on Twitter @wac6.
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