We previously discussed the SEC’s decision to allow businesses to solicit accredited investors and what this could mean for the growth of companies inFlorida. Now, the SEC is weighing whether the definition of ‘accredited investor’ needs to be amended in the context of continuing to guarantee the health of start-up and other companies and their impact on our economy.
On March 4, 2015, the Securities and Exchange Commission Advisory Committee on Small and Emerging Companies approved its written recommendations regarding changes to the SEC’s definition of “accredited investor.” Every four years starting in 2014, the Dodd-Frank Act requires the SEC to review the definition of “accredited investor,” as it applies to natural persons, to determine whether it should be modified for the protection of investors, in the public interest and in light of the economy. Since the SEC amended its private placement rules in 2013 to allow companies to engage in general solicitation of investors and advertise their private placement offerings, there has been increased focus on whether the SEC should change the definition of “accredited investor.”
Any changes to the definition could have dramatic effects on the private securities markets and the general economy by significantly increasing or decreasing the number of persons who qualify to invest in the private securities markets. To put this in context, more than $1 trillion was raised in private placements in 2013, as compared to $1.3 trillion raised in public offerings in the same year. As noted in the Advisory Committee’s recommendations, since a majority of net new jobs in the United States is generated by companies less than five years old, their ability to raise capital in the private securities markets is critical to the well-being of the United States.
Many proponents for increasing the dollar thresholds for an individual to qualify as an accredited investor argue that such increases are necessary to prevent fraud against investors who may be unable to fend for themselves. However, the Advisory Committee notes that the connection between fraud and the accredited investor thresholds is tenuous at best. In fact, the Advisory Committee found that there is no substantial evidence that the current definition of accredited investor contributes to fraud or that it has resulted in greater exposure to victims of fraud. Furthermore, the Advisory Committee found that there is substantial evidence that the current system works and is critical to supporting privately held businesses and smaller public companies (i.e., those with less than $250 million in public market capitalization). Consistent with these findings, the Advisory Committee’s first recommendation to the SEC is that the SEC’s primary goal in reviewing the definition of accredited investor should be to “do no harm” to the private offering ecosystem and, accordingly, any changes to the definition should expand (and not contract) the pool of accredited investors. As an example, the Advisory Committee recommends including within the definition investors who meet a sophistication test, regardless of income or net worth.
Second, the Advisory Committee recommends that the SEC should, on a going forward basis, periodically adjust the dollar thresholds in the definition for inflation according to the consumer price index. As its final substantive recommendation, the Advisory Committee suggests that the SEC should focus on enhancing its enforcement efforts and increasing investor education, rather than attempting to protect investors by raising the accredited investor thresholds or excluding certain types of assets from the net worth calculation.
The Advisory Committee was established in 2011 to advise the SEC on its rules, regulations and policies with regard to its mission of protecting investors, maintaining fair, orderly and efficient markets and facilitating capital formation, as they relate to (1) capital raising by privately held businesses and smaller public companies, (2) trading in the securities of privately held businesses and smaller public companies and (3) public reporting and corporate governance requirements of privately held businesses and smaller public companies.
While the SEC is not bound to follow any of the Advisory Committee’s recommendations, the SEC gives significant weight to the views and recommendations made by the Advisory Committee when considering new rulemaking initiatives. The Advisory Committee’s recommendations are a positive sign for companies in South Florida as they continue to grow their operations and break ground on new projects.