CONGRESSIONAL HEARING REPORT
DATE OF HEARING: September 13, 2012
SUBJECT: “The JOBS Act: Importance of Prompt Implementation for Entrepreneurs, Capital Formation, and Job Creation”
COMMITTEES: House Financial Services and House Oversight and Government Reform
SUBCOMMITTEES: Joint Hearing of the Capital Markets and Government Sponsored Enterprises and TARP, Financial Services and Bailouts of Public and Private Programs
REPORT BY : Paul J. Tortora Jr., Esq.
Members Present
Republicans: Oversight Subcommittee Chairman Patrick McHenry (NC); Capital Markets Subcommittee Chairman Scott Garrett (NJ); Oversight Full Committee Chairman Darrell Issa (CA); Financial Services Full Committee Chairman Spencer Bachus (AL); Rep. Nan Hayworth (NY); Rep. Francisco Canseco (TX); Rep. Steve Pearce (NM); Rep. Robert Hurt (VA); Rep. Stephen Fincher (TN); Rep. David Schweikert (AZ)
Democrats: Oversight Subcommittee Ranking Member Mike Quigley (IL); Capital Markets Subcommittee Ranking Member Maxine Waters (CA); Rep. Jim Himes (CT); Rep. Carolyn Maloney (NY); Rep. Stephen Lynch (MA)
Witnesses
Rory Eakin, Chief Operating Officer and Co-Founder, CircleUp
Naval Ravikant, Founder and Chief Executive Officer, AngelList
Robert B. Thompson, Professor, Georgetown University Law Center
Jeffrey J. Van Winkle, Partner, Clark Hill PLC, on behalf of the National Small Business Association
Alison Bailey Vercruysse, Founder and Chief Executive Officer, 18 Rabbits Granola & Bars
Overview
On September 13, 2012, the House Financial Services Subcommittee on Capital Markets and Government Sponsored Enterprises and the House Oversight and Government Affairs Subcommittee on TARP, Financial Services and Bailouts of Public and Private Programs held a joint hearing entitled “The JOBS Act: Importance of Prompt Implementation for Entrepreneurs, Capital Formation, and Job Creation.”
The impetus for this hearing was primarily the failure by the SEC to adopt an interim rule on Rule 506 general solicitation, with many Republican members expressing displeasure with the pace that rulemaking is moving at and calling for a quicker process. Oversight Subcommittee Chairman Patrick McHenry (R-NC) had previously sent a letter to SEC Chairman Mary Shapiro on August 16 expressing his displeasure with the SEC’s handling of JOBS Act rulemaking and demanding that certain documents be furnished to the Committee. The letter also asked Chairman Schapiro to testify at this hearing but she declined to do so.
Topics discussed at this hearing included, but were not limited to: (1) General Solicitation; (2) Crowdfunding; and (3) Regulatory Burdens.
Member Statements
Oversight Subcommittee Chairman Patrick McHenry (R-NC) stated that the US labor market is facing unprecedented challenges. He argued that outdated securities regulations have limited job growth. He expressed frustration over the delay of SEC rulemaking regarding the general solicitation provision of the JOBS Act. He argued that this delay is dramatically different from the delays in Dodd-Frank rulemaking. He stated that many Dodd-Frank issues that required rulemaking are foreign to the SEC. However, he stated, that the JOBS Act deals with issues with which the SEC is already familiar and should be a “walk in the park.” He stated that American entrepreneurs and investors could lose their competitive advantage due to outdated securities laws.
Oversight Full Committee Chairman Darrell Issa (R-CA) stated that Dodd-Frank rulemaking has been prioritized and put in front of the JOBS Act. He stated that the creation of private sector jobs should come before the creation of new bureaucratic agencies.
Oversight Subcommittee Ranking Member Mike Quigley (D-IL) stated that crowdfunding is a big step for innovation in this country. He stated that while he is eager for the full implementation of both the JOBS Act and Dodd-Frank, he sees no reason why JOBS Act rulemaking should be prioritized over Dodd-Frank rulemaking. He stated that rushed implementation of the JOBS Act could result in fraud and harm to investors. He stated that if investors don’t have confidence in our markets the JOBS Act provisions will be meaningless.
Capital Markets Subcommittee Chairman Scott Garrett (R-NJ) stated that the SEC’s delay of JOBS Act rulemaking is unacceptable and “extremely disturbing.” He stated that these are issues that the SEC is very familiar with and that implementation of the JOBS Act would open up capital formation options for startup companies
Financial Services Full Committee Chairman Spencer Bachus (R-AL) stated that the JOBS Act was a victory for job creators. He stated that regulatory red-tape and a slow moving government bureaucracy has stifled innovation. He stated that the JOBS Act was meant to repeal outdated securities laws and expressed concern that the SEC had already missed JOBS Act deadlines.
Capital Markets Subcommittee Ranking Member Maxine Waters (D-CA) stated that this hearing is unnecessary and gets in the way of bipartisan efforts. She stated that this kind of attack on the SEC and these accusations are not helpful. She noted that that those now criticizing the SEC for not just rushing through rulemaking are the same people who have attempted for two years to delay rulemaking on issues such as the Volker Rule and derivatives regulation and are proposing cost-benefit analysis that would further slow down the rulemaking process. She stated that in its rulemaking, the SEC must place equal emphasis on raising capital and protecting investors and maintain market integrity.
Representative Jim Himes (D-CT) stated that at the core of what we are talking about is protecting investors and protecting the integrity of our critical capital markets. He noted that the same members that have attempted to delay implementation of Dodd-Frank have criticized the SEC for delaying implementation of the JOBS Act. He stated that we must not “worship at the altar of deregulation.”
Witness Testimony
Rory Eakin, Chief Operating Officer and Co-Founder, CircleUp
Eakin stated that lifting the ban on general solicitation will provide more access to capital for growing businesses, more information and choice for investors and more jobs for Americans. He stated that lifting the ban on general solicitation is the most important part of the JOBS Act for small businesses because the ban created an inefficient market for start-ups to raise capital. He stated that by limiting the information available to market participants, the ban imposed a cost on both the companies and investors involved in each transaction. He stated that this market is inefficient and that investors lack choice and access.
Naval Ravikant, Founder and Chief Executive Officer, AngelList
Ravikant stated that if the SEC creates crowdfunding rules that are too tight, it may repel the good companies, the ones who drive all of the economic returns for investors. He stated that the SEC should avoid a “perverse outcome” in which crowdfunding becomes associated with desperate companies and are guaranteed to be bad investments. He stated that it should not create a system by which a company must choose either crowdfunding or sophisticated, accredited funding. He argued that one of the best mechanisms to protect the crowd is to ensure that a self-interested, sophisticated investor has purchased the same security on similar terms.
Robert B. Thompson, Professor, Georgetown University Law Center
Thompson stated that crowdfunding reflects the “innovative premise of seeking to harness the wisdom of crowds to separate the good business plans from the deficient.” He stated that the bill as passed by Congress caps the amount an issuer can raise at $ 1 million over a twelve month period and has limits on what individual investors can invest. He stated that the challenge in this area is that when you are raising $ 1 million or less, any regulatory cost will quickly capture a large share of the amount to be raised. He argued that if regulatory bars are lowered to what seems like a cost-effective number, entrepreneurs will be able to seek out small investors “who share their entrepreneurial dream”, however, in this early-stage setting where firms don’t have an operating history, the chances of fraud also increase. He stated that the JOBS Act takes both of these concerns into account, “but the economic reality of the overlap between the two seems to leave little room for robust use of this exemption.” He stated that as the SEC looks for the path that would satisfy these concerns, perhaps the best focus would be encouraging a small number of registered portals who will be able to satisfy the SEC they have a sufficient plan for dealing with the “inevitable temptations for abuse including possible fraud, exploitation of investor ignorance, and violation of issuer and investor caps.” He stated that such portals may be able to achieve some “economics of scale in processes” to deal with those concerns. He stated that to the extent these portals have a social welfare function and an interest in this area they may have additional incentives or resources to develop solutions to this challenge.
Jeffrey J. Van Winkle, Partner, Clark Hill PLC, on behalf of the National Small Business Association
Van Winkle stated that the JOBS Act has the potential to dramatically and positively transform the ability of small firms to access the capital they need to grow, innovate, and create jobs. He stated that the passage of the JOBS Act demonstrates a broad bi-partisan understanding that existing securities laws pose an unreasonable burden on the ability of small firms to access the capital markets, harming economic growth and job creation. He stated that he is deeply concerned that either the SEC or FINRA or both will impose such a high regulatory burden on issuers and crowdfunding portals that important aspects of the JOBS Act may become a “dead letter.” He stated that this would frustrate the intent of Congress and the President and would have a severely adverse impact on the ability of small firms to raise the capital necessary to create jobs and to play a major role in improving the U.S. economy. Moreover, he stated, there are important indications that the SEC and FINRA are moving too slowly to implement the JOBS Act.
Alison Bailey Vercruysse, Founder and Chief Executive Officer, 18 Rabbits Granola & Bars
Vercruysse stated that the lifting of the general solicitation ban will allow her customers to participate in the growth and success of her business and pave the way for more entrepreneurs to start businesses. She stated that now entrepreneurs can focus on running and building their businesses instead of using that valuable time raising money. She stated that this will allow for more innovation, drive healthy competition, and allow businesses to employ more people.
Questions and Answers
Oversight Subcommittee Chairman Patrick McHenry (R-NC) stated that investor protection is not forgotten in the JOBS Act. He stated that capital formation is inhibited when there is fraud in the market. He stressed that robust investor protection is highly important and stated that he cares deeply about it. However, he stated that regulatory restrictions on the ability to raise capital hurts the ability of companies to grow their business and create jobs. Vercruysse stated that she agreed and that the existing laws made raising money difficult and time consuming for her business. Chairman McHenry stated that by not putting forth rules in a timely manner, the SEC is inhibiting growth. He stated that he has shared a proposal with the SEC to begin with a crowdfunding limit of $100,000 and gradually raise the amount to $1 million. Thompson stated that could be a good idea to see what works and what doesn’t. Van Winkle stated that if crowdfunding issuers have too many disclosure requirements, businesses will look elsewhere to raise capital. He stated that we don’t want crowdfunding to become the option of last resort used only by desperate companies.
Oversight Subcommittee Ranking Member Mike Quigley (D-IL) stated that the problem with crowdfunding for small amounts is that any regulatory burden will eat into profits, yet we’re dealing with unsophisticated investors. Thompson stated that third parties may be the answer to this dilemma. He stated that if funding portals can bear the costs of verification and regulation it could resolve the problem. He stated that it will be up to the portals to create a platform that reduces fraud. Ravikant agreed and stated that portals could build in tools that increase transparency and provide consumers with additional information. Ranking Member Quigley stated that crowdfunding represents an extraordinary opportunity for investors but that we must get it right. He stated that it cannot become a haven for fraud. Van Winkle stated that investors are selective and that existing fraud protections will continue to protect people. Vercruysse stated that small companies are willing to be transparent to their investors and that their financial statements are easy to understand so investors have a good idea what they are investing in.
Capital Markets Subcommittee Chairman Scott Garrett (R-NJ) stated that the JOBS Act was a work of true bipartisanship. However, he stated that the SEC has put impediments in the way of the will of Congress. He stated that the actions of the SEC run directly counter to the intent of the JOBS Act. He argued that Dodd-Frank wrongly focused on areas that were not causes of the 2008 financial crisis and added more layers of unneeded regulation. He argued that SEC Commissioner Luis Aguilar's statements indicate that he wants to create an entire new set of regulations under the JOBS Act which would impede capital formation. Van Winkle stated that it is very difficult for small businesses to raise capital under current law because their options are limited. He stressed the potential benefits of crowdfunding and suggested that eliminating the ban on general solicitations will help to connect investors
Capital Markets Subcommittee Ranking Member Maxine Waters (D-CA) asked if it was reasonable for the SEC to issue a proposed rule for comment instead of a final rulemaking on limiting the ban on general solicitation. Thompson stated that the SEC must worry about its rulemaking holding up in the court challenges that will certainly follow. He stated that the process that the SEC has followed by issuing a proposed rule for comment increases the likelihood that the rulemaking will be upheld.
Representative Nan Hayworth (R-NY) stated that the goal of this committee is to balance consumer protections with the cost of regulation. However, she stated that too much regulation stifles growth. She asked about the cost of liability imposed on companies today. Ravikant stated that under the crowdfunding provision, all officers and directors are directly liable for any material errors or omissions. He stated that the SEC should provide some sort of checklist or guidance to these companies so they can make sure they are disclosing all that they need to be to avoid liability. Thompson stated that Rule 506 doesn’t have liability but crowdfunding does. He stated that because of this, more issuers will continue to use Rule 506 than crowdfunding.