The Trojan Horse in the SEC’s General Solicitation Changes

The approval of General Solicitation will be the topic of choice for most of 2013. With the Securities and Exchange Commission (SEC) apparently lifting the ban general solicitation, or advertising in lay man’s terms, there is a sense that the investment market may have gotten a windfall. Creating an environment where serial entrepreneurs can go back and capture many different types of investors to raise their companies up, create jobs, and generally have all around success. At least that is how the JOBS act passed by Congress appeared to be positioned. However, many are now calling the move by the SEC, and indeed Congress itself, nothing more than a Trojan horse.

One of the best ways the SEC has achieved this is by failing to, anywhere, define what exactly a general solicitation is. Another, implemented by the specific demand of Congress in passing the JOBS act, is that all investors need to be accredited. These two requirements when combined together create a one way ticket to a very sticky place, one that most investors want to avoid and certainly all start-ups would like to stay as far away from as possible. The place where investors have to turn over sensitive documents to verify their investment status, and where startups are unable to seek investment without taking “due precautions” to verify that the investors they are soliciting are indeed accredited. When viewed as part of the general solicitation rule, this includes things like social media where a simple tweet about the company’s offerings could result in hopping on the train to a verification nightmare.

There can be, and is, little doubt that investor are not about to turn over bank account statements, W2’s, credit reports, or brokerage statements to the companies they want to invest in. The more the hassle, the less likely it is that an investor will, in fact, invest. And with the doing away of a simple “agree by signature” the complications continue to grow. Companies are now required to conduct a level of due diligence to ensure that their investors are, in fact, accredited, taking away from the time and effort needed to grow a small company that is seeking investment in the first place. Or companies can simply avoid general solicitation and go on with business as usual.

The irony in this structuring is that the old methods of raising investment are also now under intense scrutiny by companies as well as by investors. The forums where investors could come, see presentations, and potentially invest in the next Facebook are now asking the question, and having to answer it, does the forum constitute a general solicitation. If the answer is yes then all the rules, and full force of Rule 506 (C) comes into effect. As a result, event sponsors and angel groups are being forced to change their operations to include having investors and attendees sign affirmations attesting to their status as accredited investors. In essence, the whole idea of a large solicitation due to an increased audience potential has effectively, and very neatly one might add, been removed.

It would be remiss to say that there are not some success stories out there. Angel list, a popular online platform, announces on its home page that it has helped thousands of investors to take advantage of Rule 506 (c), and successfully raise funds. While their verification process or that of their entrepreneurs could fall under scrutiny, it is for now a working model. Long term, the old models of public pitch events and angel groups success is going to depend on their ability to modify the environments in which they operate.

Only if companies are able to ease the issues of privacy, something not easily done in today’s climate following the revelations of the NSA spying on American citizens, will investors find a level of comfort in sharing documents attesting to their accredited status. The easing for regulations on general solicitation will continue to raise the heart burn of companies raising money, and the investors who want to make the JOBS act work as planned, until investor privacy can be secured.

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