U.S. regulators are stepping up their scrutiny of the private securities market in anticipation of the lifting on Monday of an 80-year-old ban on advertising by hedge funds to investors. Starting on Monday, hedge funds, private equity funds and other firms will be allowed to reach new investors through television, radio and the Internet. The new advertising rule by the Securities and Exchange Commission is required under the 2012 Jumpstart Our Business Startups Act, which was passed by Congress with bipartisan support and is designed to ease regulatory burdens to spur capital-raising and job growth.
Hedge funds will still be restricted from actually striking private deals with mom-and-pop investors who do not meet certain income or net worth thresholds. "The staff will be closely monitoring and collecting data on this new market to see how it in fact operates ... and accessing whether and to what extent changes in the private offerings market may lead to additional fraud or not," SEC Chair Mary Jo White told an advisory panel of experts convened at SEC headquarters on Tuesday. Critics of the rule have repeatedly raised red flags about the lifting of the ban, saying they fear fly-by-night fraudsters will take advantage of the advertising as a way to lure unsuspecting investors.
Investor advocacy groups had urged the SEC to incorporate a variety of investor protections into the rule before lifting the ban. White opted to lift the ban without immediately addressing those concerns. However, in a compromise move, the SEC simultaneously issued a separate proposal for public comment that is designed to collect more data on private stock offerings to help police for possible wrongdoing and study how advertising is impacting the marketplace.
A key centerpiece of the proposal would require firms to file disclosures about an offering prior to advertising it. Currently, such filings, known as Form D, are only required by the SEC to be filed 15 days after the securities are sold. Critics have argued the process is flawed because it fails to give regulators a critical tool that can be used to catch fraudsters before they start soliciting money, or at the very least, let regulators do a little research on what kinds of offerings are out there. The plan would also require firms to disclose many more details about the private deals, including how they are advertising and how they plan to use the proceeds from a sale.
CRITICISM MOUNTS The public comment period for the proposed reforms in the private securities market also closes on Monday. But the future of the plan remains uncertain, especially amid growing criticism about numerous provisions from all corners of the marketplace, including the U.S. Chamber of Commerce, attorneys, and even other government agencies. In a Sept. 12 comment letter to the SEC from the Small Business Administration's Office of Advocacy, for instance, the SBA complained the SEC's plan had major technical flaws because it fails to estimate exactly how many small firms will be impacted by the new regulations. "Advocacy is concerned that the SEC's proposed rule... lack(s) essential information needed to properly inform the agency's decision making," the SBA's Office of Advocacy wrote.
The debate over exactly when firms seeking to advertise private deals should have to file their Form D disclosures with the SEC also played out on Tuesday at a meeting of the SEC's Advisory Committee on Small and Emerging Companies, a panel of experts that is helping advise the SEC on the JOBS Act and other small business measures. "If it turns out that the offering is not successful, then you've now told the world, 'Hey, we tried to raise money and we couldn't,'" said Gregory Yadley, a partner at Shumaker, Loop & Kendrick who serves on the panel. "Please don't rush into adopting some of these proposals out of pressure from third parties." But Heath Abshure, the Arkansas Securities commissioner and president of the North America Securities Administrators Association, argued that state regulators need those forms in advance so they can at the very least answer questions from investors beforehand. "Part of the reason the states read the advance filings is just so we can answer the questions we are asked by investors," he argued. "If the Form D doesn't have to be filed until 15 days after the first sale...we are not going to be able to answer any of those questions."