There is finally some good news from Washington for the private equity industry and in particular its portfolio companies. It hardly offsets the impact of Dodd-Frank, but at least there is some relief from the SEC registration requirements in sight for “emerging growth” companies looking to go public, a relaxation of the trigger for when a private company is required to become effectively public as a result of the number of its shareholders, as well as some easier ways to raise capital. The goal of the bill, which represents a fairly significant overhaul of some very long-standing rules, is to increase access to the capital markets and spur the growth of smaller businesses.
The legislation is colloquially known as the JOBS Act (which is short for the “Jumpstart Our Business Startups Act) and was passed by the House on March 8, 2012 and by the Senate as we sent to press on March 22nd. The Act, as passed by both houses of Congress, would:
Relax the trigger for public company reporting requirements. The JOBS Act would revise Section 12(g) of the Securities Act such that a private issuer would become a public company subject to the registration and disclosure requirements under the Federal securities laws and the requirements of the Sarbanes-Oxley Act of 2002 if it has $10 million in assets and a class of equity security (other than an exempted security) held of record by either (1) 2,000 persons or (2) 500 persons who are not accredited investors (currently, the 12(g) shareholder threshold is simply 500 persons). Most importantly, employees holding only exempt equity compensation would be excluded from the shareholder calculation. The combination of the increase in the shareholder trigger and the exclusion for employees would provide substantial breathing room for companies that have granted equity deep into their employee ranks (as was the case with Facebook) and would be a significant development in the Federal securities laws, as accredited investors and employees may be the only shareholders in many private companies, or at least may predominate over unaccredited, non-employee investors.
Ease access to the public capital markets for a newly, created category of “emerging growth companies.” Emerging growth companies, those companies with less than $1 billion in annual gross revenues during their most recently completed fiscal year, would be permitted to utilize scaled and more flexible regulatory requirements (1) during the IPO process (e.g., the IPO registration statement would be required to include only two years of audited financial statements (instead of three) and scaled executive compensation disclosure, including CD&A) and (2) through the end of a transition period, post-IPO (e.g., the disclosure exemptions applicable to the IPO registration statement and exemptions from the auditor attestation requirements of Sarbanes-Oxley 404(b), certain accounting and audit standards and the say-on-pay and say-on-golden-parachute requirements).
Make it easier for private and public issuers of securities to raise capital through certain private offerings. The JOBS Act would amend existing SEC rules to permit the use of general solicitations and general advertising in: (1) Rule 144A offerings so long as the securities are sold only to persons reasonably believed to be Qualified Institutional Buyers or QIBs and (2) Regulation D offers and sales of securities that exceed $5 million to the extent that all purchasers are accredited investors. With the elimination of the existing ban, participants in these types of private offerings would presumably be free to solicit investor interest widely and publicly (e.g., through full-page advertisements in The New York Times, blast e-mails or even via Twitter).
Augment the capital raising tools available to issuers. The current Regulation A exemption for small issuances of securities under the Securities Act is of somewhat limited utility given the current $5 million cap on offering size. The JOBS Act would increase to $50 million the aggregate amount of all securities offered and sold in reliance on the exemption within the prior 12-month period. A revamped Regulation A could appeal to companies in need of capital at various stages of their development due to:
(1) the ability to test the market prior to filing any offering document with the SEC;
(2) more limited disclosure requirements applicable to the offering document (compared to a traditional Securities Act registration statement); and (3) potentially more limited “periodic” disclosure requirements.
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Once the differences between the House version and the Senate version of the Act are resolved, we expect the Act to be signed into law by the President. SEC rulemaking then would follow enactment as many provisions of the Act require or permit the SEC to engage in rulemaking to carry out the changes in law. We expect to report on any further developments, including a summary of any signed bill, in the spring issue of the Private Equity Report.