November 13, 2013
Elizabeth M. Murphy, Secretary
Securities and Exchange Comission
100 F Stree NE.
Washington, DC 20549-1090
Re: Comment related to Crowdfunding Regulation File No. S7-09-13
This comment addresses the questions posed in Request for Comments Question Number 9 in Section II.A.2.
Institutional and accredited investors should not be subject to the same investment limits as other investors. Assuming that institutional and accredited investors are investing on the same terms as other investors, these investors will lessen the collective action problems raised by having dispersed shareholders.
I. Collective Action Problem
Because individual shareholders are unlikely to be the deciding vote in any given election, they will not be actively engaged in monitoring of corporate management. Institutional shareholders own large stakes of companies and have the means and incentive to try and influence corporate governance. These entities are sometimes seen as activist shareholders. As long as institutional shareholders are pursuing outcomes that would help all shareholders, and not just themselves, they will be a more effective check on management than dispersed individual shareholders.
II. Institutional and Accredited Investors
If Corporation Alpha uses crowdfunding as a source of investment it means that Alpha was unable to find the funds from a single investor, or a small group of investors. Alpha will likely receive investment from many different investors in small amounts through crowdfunding. For example, if everyone invested $1,000, this would give Alpha 1,000 investors if they raised the maximum $1 million. Thus, the shareholder holds only 0.1% of the equity in the company and the probability of their input actually being the deciding vote in an election is smaller. Those investors would not have a great incentive to oversee the company.
However, if an institutional or an accredited investor were to join in the investment they would be able to capture a large portion of the class. For example, if one investor were to invest $250,000, she would own 25 percent of the corporation and be considered a controlling shareholder if other shareholders are dispersed. This would give that investor a large incentive to actively oversee management. Institutional and accredited investors will also have greater knowledge and skills than the average investor and will be able to provide needed expertise.
Since institutional and accredited investors are not limited by the crowdfunding rules, they have many other investments available to them. Rather than invest a limited amount, institutional investors could convince companies to forego crowdfunding, or just choose not to invest. This would limit the total investment available to the companies, and also harm the investors who will lose the benefits of having a highly incentive capable investor.
If institutional and accredited investors are allowed to invest on different terms, then their incentive structure will differ from the crowdfunding investor. Only if they have the same terms will any of the benefits of more active shareholders accrue to the crowdfunded investors. Requiring the same terms for all investors will also help to make sure that non-institutional or accredited investors get the best terms because a large shareholder will have better incentives to negotiate in advance.