The Small Business Capital Formation Advisory Committee (SBCFAC) of the Securities and Exchange Commission (SEC) rejected the dose. As the SEC’s website explains, SBCFAC was created by the SEC’s Small Business Advocate Act of 2016 and is designed to provide a formal mechanism for the Commission to receive advice and recommendations on rules, regulations, and policy issues that relate to small businesses, including the smaller public. companies. Its latest meeting delivered a clear message: It’s time to start providing liquidity to the private markets.
The onus now falls to the full commission, with two new members, Mark T. Uyeda and Jaime Lizárraga, to listen to their advice. Ten years after President Obama signed the bipartisan Jumpstart Our Business Startups Act (JOBS Act of 2012), which invited ordinary Americans into the lucrative private equity markets, the job remains half done at best. The two JOBS Act Title III – which became Regulation Crowdfunding (Reg CF) – and Title IV – which drastically improved Regulation A (Reg A+) – have demonstrated the success of deregulation. These two titles enabled a paradigm shift in private equity investing by allowing startups and small businesses to accept investment from retail investors. Reg CF caters to smaller and newer companies with a 12-month offering limit of $5 million. More mature companies use Reg A+, which combines higher SEC scrutiny with a 12-month offering limit of $75 million.
In March 2021, the Commission expanded provisions of the JOBS Act that freed up more capital. But challenges remain. First among them is the lack of liquidity in the secondary market, where the initial buyers resell the shares. SBCFAC addressed this issue this month by revising the lack of state secondary trading advance for both Reg CF and Reg A+.
The meeting opened with the words of the commissioner. Commissioner Hester Peirce spoke about how secondary market liquidity and investor protection complement, rather than contradict each other:
Secondary market liquidity is related to capital formation and investor protection considerations. The issuer’s ability to raise capital depends in part on whether buyers of their securities will enjoy strong secondary market liquidity.
As the presentations began, Ryan Feit, CEO and co-founder of crowdfunding portal SeedInvest, shared the frustration investors feel with their illiquid investments, even as values increase due to continued higher per/share prices:
[W]it has happened that many startups and small business investors burn out quickly. They make an investment or several, and they’re excited about it, and then they realize I might have to wait five to ten years to get any return on it.
This ultimately leads to less capital for newer projects and ultimately good ideas don’t get funded.
Sara Hanks, a noted securities practitioner and SBCFAC member, spoke about the tedious nature of complying with state-by-state regimes that vary in fee structure, timing, notice requirements and other areas. She cited potential solutions in the JOBS 4.0 Act that Congress is currently considering.
Indeed, CEI submitted comments in June on JOBS Act 4.0 focusing on the importance of preventing state securities processes for secondary trading, among a host of other proposals to improve private equity.
Against any measure to provide liquidity to the private market was a representative from the North American Securities Administrators Association (NASAA), a trade organization representing state-level securities agencies. NASSA typically denies all access to private equity markets for retail investors and promotes additional burdens for accredited investors. She staunchly opposed the JOBS Act, issuing numerous statements, commentaries and press releases, at one point describing it as “an investor protection disaster waiting to happen.” Two NASSA members, Montana and Massachusetts, sued the SEC to stop the implementation of Reg A+ with NASSA in support of friend of the court. They lose.
But that didn’t deter the committee, at least for Reg A+. They voted 9-1 in favor of a pilot program for Reg A+ to circumvent state securities laws on secondary trading. The ball is now in the commissioners court. According to JD Alois Crowdfunding Insider, the committee is to “submit a formal recommendation to the Commission in the coming weeks outlining the need for preemption for Reg A+ securities.” The time has come for the SEC to act for small businesses. And Congress should complement this movement by passing the JOBS 4.0 Act.