On March 8, 2012 the U.S. House of Representatives passed the Jumpstart Our Business Startups (JOBS) Act. The stated purpose of the JOBS Act is to increase U.S. job creation and economic growth by improving access to the public capital markets for emerging growth companies. The JOBS Act seeks to reduce securities law burdens on start-ups and small businesses to make capital more accessible.
The House bill passed with a 390 to 23 vote and is supported by President Obama and his administration. While the bill needs to pass the Senate before it can become law, the strong showing of bipartisan support and momentum seem to indicate that a law resembling the House bill will be passed in the coming months.
If approved by the Senate and signed into law in its current form, the JOBS Act would:
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Delay the initial cost of going public for newly public companies that have annual revenues of less than $1 billion through the creation of the “emerging growth company” designation, providing a phase-in period of up to five years before requiring compliance with certain Securities and Exchange Commission (SEC) Regulations, including regulations related to “say on pay,” audited financial statement disclosures in an initial public offering, and compliance with the Sarbanes Oxley Act of 2002
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Require the SEC to remove the current prohibition under Rule 506 of Regulation D, which has banned the use of general solicitation or advertisements, including social media, in the private placement of a company’s securities (provided that all purchasers in the private placement are “accredited investors”), thereby allowing for greater exposure to a wider range of potential investors
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Remove SEC restrictions that prevent “crowdfunding,” so entrepreneurs who raise up to $1 million (or up to $2 million if the company provides audited financial statements) can raise equity capital from a large pool of small investors who may or may not be considered accredited, provided that no investor purchases more than 1) $10,000 or 2) 10% of such investor’s annual income, whichever amount is lower
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Raise the limit for Regulation A offerings from $5 million to $50 million and exempt Regulation A offerings from state securities laws, provided that the securities sold in the Regulation A offering are either 1) offered or sold through a broker-dealer, 2) offered or sold on a national securities exchange, or 3) sold to a qualified purchaser (as defined by the SEC)
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Increase the maximum number of shareholders of record that a private company may have before being required to register as a public company pursuant to the Securities Exchange Act of 1934 (the 1934 Act), from 500 to 2,000 shareholders (provided that fewer than 500 of such shareholders are non-accredited investors), which allows start-ups to raise private capital from a larger pool of investors before having to register as a public company
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Increase the maximum number of shareholders of record that a private bank or bank holding company may have before being required to register as a public company pursuant to the 1934 Act, from 500 to 2,000, and would permit public bank or bank holding companies to terminate their 1934 Act reporting requirements if they have fewer than 1,200 shareholders of record
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Exclude 1) those shareholders who received their securities pursuant to an employee compensation plan and 2) “crowdfunding” investors from the above shareholder of record calculations.
Considerations for Start-Ups
Generally, it appears that the JOBS Act should be a positive development for small businesses and start-ups trying to raise capital, as it would make the process less cumbersome, increase access to investors, and, for some companies, reduce regulatory burdens. However, antifraud provisions would still apply to offerings and sales of securities, even if exempt from registration requirements, so companies must still be mindful of appropriate disclosures.
In addition, there can be drawbacks to targeting a large pool of smaller investors. For example, small shareholders have rights to inspect the company’s books and records, rights to bring a derivative claim on behalf of the company, and, often, some protections against oppression by the controlling stakeholders, all of which may add additional layers of complexity for the management team. Further, the costs incurred in connection with a large shareholder base can be significant, including execution of subscription documents, shareholder agreements and similar documentation, and implementation of transfer restrictions. Finally, venture capital investors and other sophisticated investors may be discouraged from investing in companies with larger shareholder bases in an effort to avoid the administrative headaches, costs, and potentially greater litigation risk that some believe are caused by large shareholder bases.
