By: Vanessa Schoenthaler and Jonathan Friedland
One in a series of articles explaining why and how Accredited Investors will likely change their investment strategies because of the JOBS Act of 2012
Installment #3-The Lifting of the Ban If you are not a lawyer, fund manager, CEO, or entrepreneur, you may have never heard of the JOBS Act. However, if you are an accredited investor, you will increasingly be exposed to the JOBS Act over the coming months, even though you may not realize it at first.
Let us explain.
In essence, the JOBS Act was designed to do two things:
Even more notable, weighing in at a mere 22 pages, the JOBS Act embodies some of the most significant changes to private capital formation since the federal securities laws themselves were first enacted in 1933.
Its adoption was not without controversy, however, having been characterized as everything from a welcome attempt at uncuffing capitalism to the equivalent of a “Bring Fraud Back to Wall Street Act”.
But, again, you probably haven’t heard all that much about the JOBS Act, other than perhaps that it has something to do withcrowdfunding (more on this shortly). That’s because the JOBS Act isn’t self-executing. In other words, even though it was signed into law in April 2012, the Securities and Exchange Commission (“SEC”), the agency primarily responsible for enforcing the federal securities laws, still has to adopt rules and regulations that put into play many of the provisions related to the private markets for alternative investment opportunities; the provisions that will most directly affect you as an accredited investor.
A word about the federal securities laws and private capital formationBefore it’s possible to really appreciate the changes that the JOBS Act will bring to the private markets for alternative investment opportunities, it’s important to consider how private capital formation works in the context of existing securities laws.
By way of background, the U.S. stock market’s infamous 1929 crash marked the end of an eight-year bull run that was fueled by excessive leverage, insider manipulation and widespread speculation. Three years later, when the market finally bottomed, the Dow Jones Industrial Average had lost a staggering 89% of its value. In that same year, at the height of the Great Depression, the U.S. Senate Banking Committee launched an investigation into the causes of the 1929 crash and how to prevent similar crashes from occurring in the future. The Committee’s findings ultimately led Congress to enact the first U.S. federal securities law: the Securities Act of 1933 (the “Securities Act”).
In essence, the Securities Act requires that all offers and sales of securities be registered with the SEC or that they be exempt from registration pursuant to one of the enumerated exemptions available under the Securities Act.
By far the most commonly utilized exemption from Securities Act registration is the private offering exemption afforded by the safe harbor of Rule 506 of Regulation D, promulgated under Section 4(2) of the Securities Act.
In its current form, Rule 506 allows issuers to raise an unlimited amount of capital from an unlimited number of accredited investors and up to 35 sophisticated non-accredited investors (provided that, when sophisticated non-accredited investors participate in an offering, certain information disclosure requirements are met).
However, as Rule 506 is a private offering exemption, issuers are prohibited from engaging in any type of general solicitation orgeneral advertising. As a result, an issuer raising capital in a private offering under Rule 506 may only solicit investments from potential investors with which the issuer (or an intermediary acting on the issuer’s behalf, such as, a placement agent or investment bank) has a pre-existing, substantive relationship. This effectively limits the pool of potential investors to those already within an issuer’s existing network and, likewise, limits your opportunity to participate in alternative investments to those private offerings being conducted by issuers, or through institutions, with which you already have a pre-existing, substantive relationship. However, this is about to change.
JOBS Act changes on the horizonUnder the JOBS Act, the SEC is required to eliminate the prohibition on general solicitation and general advertising for private offerings made in reliance on a new subsection of Rule 506 where all of the purchasers of an issuer’s securities are accredited investors. The SEC has proposed rules and amendments to implement this change, but those rules and amendments have not yet been finalized.
You may not realize it just yet, but you’re standing at the threshold of a whole new world of alternative investments. Once amended Rule 506 does take effect, and as other provisions of the JOBS Act are implemented over time, you will be increasingly exposed to an array alternative investment opportunities which you might not have otherwise had access to and in forms that may not have ever existed before.
In our first installment, we introduced you to Bob, Michele, David, and Isabella in hopes that, if you are taking the time to read these words, you might notice pieces of yourself in one or all of them, and recognize that, while accredited investors are in fact just ordinary people, benefiting from your status as an accredited investor requires that you possess a certain level of understanding about the world of alternative investment opportunities.
NEXT INSTALLMENT: All About Crowdfunding for the Accredited Investor
About the Authors:
Friedland is founder and chairman, and Schoenthaler is general counsel, of DailyDAC, LLC, which owns and operates AIMkts. Friedland practices corporate law in Chicago at the Levenfeld Pearlstein law firm; Schoenthaler maintains a private practice in New York City, where she focuses on securities law.
This article is copyright©2013 by DailyDAC, LLC.