Connecticut residents shouldn’t be surprised if they start seeing TV commercials or billboards promoting investment opportunities.
A recent change in federal law — implemented last week by the U.S. Securities and Exchange Commission — is loosening restrictions on how companies can seek out fresh capital.
For decades, firms trying to raise money without disclosing detailed information to the public have tapped a broker or other personal connections to find wealthy accredited investors (individuals with a minimum net worth of $1 million or who earned $200,000 a year for the past two years).
Until now, advertising to find those investors has been strictly forbidden — no newspaper ads, billboards, TV commercials, emails or Facebook posts. Executives couldn’t even tell a reporter that their company intended to raise capital.
Now, as part of the Obama Administration’s 2010 JOBS Act, which aims to boost investment and job growth, all of those things are fair game.
“Given the rule’s breadth and fundamental change, it’s very difficult to see that it isn’t at some point going to be widely used,” said securities lawyer James Saya, a partner with Hartford’s Rogin Nassau. “The bigger audience you can go to, the better.”
But what’s tougher to discern, is how quickly companies will start advertising, and how. Some industry observers also wonder if the thaw on advertising restrictions will create a robust secondary market for unregistered securities — which would provide greater liquidity to shareholders of private companies. There are also concerns about the potential for fraud and abuse.
With so much uncertainty, many financial and legal experts agree firms are likely going to take a wait-and-see approach to the new regulations, which the SEC is expected to monitor closely.
Information sharing required
Despite loosening the rules on how firms can seek out investors, there are new oversight requirements that could restrict deal flow, said John Seiffer, president of the Connecticut Angel Investors Forum.
Companies that elect to advertise, for example, are required to take extra steps to verify that their financiers are accredited investors. For investors, that means they will have to disclose income statements and other information they’ve never had to share in the past.
“Most of the investors I know won’t do it,” Seiffer said.
Under the longstanding version of the SEC rule, known as Rule 506, investors like Seiffer could self-certify, meaning the SEC would take them at their word that they met the wealth requirement.
Despite the allure advertising brings, Seiffer said companies may find it too burdensome to verify their investors’ credentials.
“I think companies will want to get money wherever they can, that isn’t too onerous,” he said.
Another uncertainty is a proposal the SEC is considering that would require more advance notice of securities offerings.
Under current rules, companies selling securities under Rule 506 must file a so-called “Form D” with the SEC no later than 15 days after the first shares are sold.
The forms — which contain information about the issuer, the number of investors, and the amount and type of securities offered and sold — are what little public information exists on unregistered stock sales.
The SEC may soon require a Form D 15 days in advance of an offering.
Ted Whittemore, a partner at Murtha Cullina in Hartford, said the Form D changes could put companies and investors in a precarious position.
“What if we abandon the offering?” he asked. “I don’t want to damage a good reputation. I don’t want to tell others in my industry that we couldn’t get a deal done and it’s aborted.”
Some issuers already file Form D’s in advance, Saya said, but he thinks an expanded Form D will mean issuers will have to do more homework than they’ve done in the past to avoid any incorrect assumptions about the demand for their securities. “They won’t just willy-nilly file a Form D and slap $20 million on it,” he said.
State regulators not thrilled
Eric J. Wilder, director of the securities and business investments division within the state Department of Banking said lifting the advertising ban was “not well thought out.” “After you’ve had 40 years of a federal law everybody has abided by, it’s just kind of gone out the window,” Wilder said.
Wilder said advertising opens up the window for more fraud, and he thinks verification of whether an investor has the wealth to be accredited has been lacking in the past.
“You’d be amazed what I’ve seen out there with what they do for verification, which is little to none,” he said.
But because of the SEC’s stricter demands on investor accreditation, Whittemore, the Murtha Cullina attorney, predicts that a financial sub-industry will spring up to offer verification services.
Wilder and his team of examiners stand ready to scrutinize advertised offerings and also to check on deals that Connecticut brokers are promoting.
But Wilder admits that the advertising allowance isn’t his biggest JOBS Act concern. A set of regulations the SEC is still working on will legalize equity crowdfunding — allowing unaccredited investors to buy shares through online exchanges, though the investment amounts will likely be capped.
Wilder said he sees a much higher potential for fraud with that part of the law, because it will involve more unsophisticated buyers.
