By Neil Hare
When most of us think of the Securities and Exchange Commission (SEC), we think of a government agency designed to ensure that public companies provide accurate information to investors, that employees with access to “inside information” do not trade on it, and that investment professionals exploit or exploit the average investor on Main Street America. , will not mislead or deceive. We certainly don’t think of the SEC as a means to broadly regulate private companies trying to raise capital, especially during an economic downturn that many think is heading into a recession.
President Ronald Reagan famously answered his rhetorical question about what were the nine most terrifying words in the English language: “I’m from the government, and I’m here to help.” While we can take that notion with a pinch of salt, the fact of the matter is that the SEC is one of the most powerful government agencies, and under current leadership, it is seeking a dramatic increase in its oversight. , regulatory requirements and enforcement among all U.S. corporations, including and even privately held ones.
The Great Depression spawned the SEC
The SEC was created by Congress in the wake of the Great Depression through the Securities Act of 1933 and the Securities Exchange Act of 1934. In short, one of the causes of the stock market crash of 1929 was misrepresentation by public companies. and misinformation to investors. To restore public confidence in the securities markets, Congress created the SEC with a mandate to ensure that companies make truthful statements and that brokers, dealers, and exchanges treat investors honestly and fairly.
The SEC is considered an independent agency, meaning that while it is part of the executive branch, it has regulatory and rulemaking powers outside of the president’s control. This is largely because the president’s ability to fire an agency head or commissioner is limited. The SEC can bring civil enforcement actions seeking future violations and civil monetary penalties and injunctions to organize illegal profits. The SEC cannot bring criminal proceedings, but works closely with the Department of Justice to support criminal enforcement or security breaches.
The SEC must be bipartisan, with three of its five commissioners from one party and two from the other party. Commissioners are appointed by the President and confirmed by the Senate. SEC rules or regulations have the same authority as federal law. Other similar independent agencies include the Federal Bureau of Investigation, the Consumer Financial Protection Bureau, and the Commodity Futures Trading Commission.
Private companies thrive on debt
For small or large private enterprises, access to credit is one of the key drivers of growth and critical to running a business effectively. For decades, studies have identified access to capital as a top concern of American business owners.
Many private companies prefer to secure capital through debt rather than equity investments for two reasons. First, most business owners do not want to dilute their ownership in the business they founded or relinquish managerial control of the company unless absolutely necessary. Second, and related, investors are unwilling to make equity investments in small or large companies that cannot scale sufficiently or quickly to obtain a significant return on investment, or in companies over which they do not control.
Therefore, private companies often seek debt securities by issuing lines of credit or loans from their bank, SBA loans, crowdfunding loans, or bonds. It is this last type of loan that the SEC has decided to regulate without much reason or soliciting comments from the public as it usually does in the rulemaking process.
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The SEC seeks to regulate private corporate bonds How did the SEC accomplish this feat? They did so by taking a rule intended to protect investors in the over-the-counter securities market, also known as “pink papers” or penny stocks, and determining that it applied to these loans issued by private companies. The rule they used was 15c2-11, which went into effect in 1971 to protect investors from buying worthless penny stocks from unscrupulous and nasty cold callers pretending to be stock brokers. You can watch movies Boiler room Or The The Wolf of Wall Street Get a picture of this event.
In 2020 the SEC decided it was required Renewal Rule 15c2-11 People need to keep up with the advances in technology that have changed the way they invest. Many investors don’t even have landlines to accept cold calls, but instead participate in chat rooms on Reddit and other social media platforms to make investment decisions — often bad ones. This signaled the need for change.
However, in a surprise move a year later, the SEC staff announced that the requirements of Rule 15c2-11 also apply to privately issued debt instruments, and in December 2021 the SEC affirmed this view. In addition, the SEC did not follow its usual rulemaking process, where it provides time for public comments on the proposed change. On November 30, 2022The SEC announced that implementation of the new rule will take effect in January 2025.
One of the main reasons companies are private is that they don’t have to disclose their financial information to the public and don’t have to incur accounting and legal costs under SEC regulations. Rule 15c2-11 is an exception to SEC Rule 144A, which exempts private entities from filing public financial filings like publicly traded corporations. Debentures issued by private companies under Rule 144A can only be purchased by Qualified Institutional Buyers (QIBs), which are companies with more than $100 million in assets under management.
The average investor on the street cannot buy these bonds. QIBs may request financial information from these lending institutions, but they are not required to disclose much to the public. Additionally, there is currently no proposed rule change for retail investors to purchase this debt. Therefore, by changing this rule, rather than following its mandate to protect investors, the SEC could have a chilling effect on private companies accessing capital at a volatile time in our economy.
Is the SEC overstepping its authority?
Whether you run a private business, work for a public company, or invest in the securities markets, you should be aware of the role the SEC plays in regulating these fundamental aspects of our world’s strongest economy.
The SEC is critical to transparent and fair markets, but that doesn’t mean it should overstep its authority. Of course, placing the same disclosure requirements and regulatory burdens on private companies as public companies is an area that should be closely monitored.
About the author
Neil Hare is a lawyer and leader GVC strategies, she specializes in small business policy, advocacy and communications campaigns; Follow him on Twitter @Nehare And on LinkedIn. See more of Neil’s articles and full biography AllBusiness.com.