0001
 1        U.S. SECURITIES AND EXCHANGE COMMISSION 
 2                        
 3                        
 4                        
 5                        
 6             ADVISORY COMMITTEE ON SMALL AND
 7               EMERGING COMPANIES MEETING
 8                        
 9                        
10                        
11                        
12                        
13                        
14               Wednesday, May 18, 2016 
15                     9:30 a.m. 
16                 AMENDED: 6/15/2016
17                        
18                        
19                        
20                        
21                        
22                        
23        U.S. Securities and Exchange Commission 
24          100 F Street, N.E., Washington, D.C. 
25              LL-006 Multipurpose Room 
0002
 1   PARTICIPANTS: 
 2   Mary Jo White, Chairman 
 3   Michael S. Piwowar, Commissioner 
 4   Kara M. Stein, Commissioner 
 5   Stephen Graham, Co-Chair 
 6   Sara Hanks, Co-Chair 
 7   Robert Aguilar 
 8   Margaret Cain 
 9   David Fredrickson 
10   Sebastian Gomez 
11   Xavier Gutierrez 
12   Brian Hahn 
13   Kyle Hauptman 
14   Keith Higgins 
15   Jenny Kassan 
16   Catherine Mott 
17   Betsy Murphy 
18   Patrick Reardon 
19   Michael Seaman 
20   Lisa Shimkat 
21   Annemarie Tierney 
22   Gregory Yadley 
23   Laura Yamanaka 
24   Michael Pieciak 
25   Mark Walsh 
0003
 1                        C O N T E N T S 
 2                                                        PAGE 
 3   Call to Order and Opening Remarks                      4  
 4    
 5   Presentation from SEC Division of Corporation  
 6        Finance on the December 2015 "Report on 
 7        The Review of the Definition of 'Accredited 
 8        Investor'" with Committee Discussion             19 
 9    
10   Presentation by the SEC Division of Corporation 
11        Finance on Regulation D and General 
12        Solicitation with Committee Discussion           90 
13    
14   Presentation from SEC Division of Enforcement          
15        Regarding Work as Part of the JOBS Act          125 
16        Task Force 
17    
18   Concluding Remarks                                   146 
19    
20    
21    
22    
23    
24    
25    
0004
 1                     P R O C E E D I N G S 
 2             MR. GRAHAM:  Okay.  Welcome, everyone.   
 3             Sebastian, I assume we have a quorum. 
 4             MR. GOMEZ:  We do. 
 5             MR. GRAHAM:  All right.  Well, again, good 
 6   morning, and welcome to the meeting of the SEC Advisory 
 7   Committee on Small and Emerging Companies. 
 8             Our agenda today includes two timely topics 
 9   that were suggested by many of you during our last 
10   meeting.  The first item is the accredited investor 
11   definition under the Securities Act rules.  And as you 
12   all know, this is the subject of a recent report from the 
13   staff that -- they pretty much cover the issue 
14   extensively.  We will hear from the SEC staff about that 
15   review, and then I hope that we can discuss and move to 
16   recommendation.   
17             The definition is a topic that the committee  
18   has been interested in for quite a while.  We provided 
19   recommendations to the Commission in 2015, and we are 
20   pleased the staff report is finalized and looking forward 
21   to hearing more about it. 
22             This afternoon we will turn to Regulation D 
23   with an update from the SEC staff and guidance they are 
24   providing in connection with 506(c) and general 
25   solicitation.  But for now I'm going to turn it over to 
0005
 1   Sara. 
 2             MS. HANKS:  Before we move into the agenda for 
 3   the day, we're going to hear from -- opening remarks from 
 4   Chair Mary Jo White and Commissioners Kara Stein and 
 5   Michael Piwowar.   
 6             Chair White. 
 7             CHAIR WHITE:  Thank you very much, Sara.  Thank 
 8   you very much, Steve.  And good morning to everybody.  
 9   I've seen most of you directly this morning but not 
10   everybody.  Thank you for being here.  I appreciate it, 
11   and I want to respect what I know is the full agenda that 
12   Steve just described, and so I'll try to keep my remarks 
13   brief. 
14             Let me just sort of start with -- since we're 
15   relatively new to each other, just my overall perspective 
16   on our mission at the SEC and the important spaces that 
17   small and emerging companies that you occupy are -- what 
18   is my sort of overall perspective. 
19             Obviously they're critical drivers of 
20   innovation on our economy and our rules, should provide 
21   them with a range of options for raising capital, 
22   understanding the diversity of business models and 
23   capital needs that these companies have while ensuring, 
24   obviously, at the same time that investors can have the 
25   confidence in those markets that come with strong 
0006
 1   protections.  
 2             As it happens, I was actually in Lima, Peru 
 3   last week for IOSCO's annual conference and was on a 
 4   panel where I was asked to discuss and did discuss the 
 5   Commission's approach to some of these issues and some of 
 6   the recent work that we've done on behalf of smaller and 
 7   emerging businesses.  And one subject that was 
 8   highlighted there was equity crowdfunding.   
 9             And on Monday, as you know, our federal 
10   crowdfunding rules came into effect, providing another 
11   option for small issuers.  There's considerable 
12   excitement among entrepreneurs and investors for 
13   securities-based crowdfunding, and I certainly hope it 
14   will provide a new useful tool for small businesses 
15   seeking to raise capital.   
16             As required by the JOBS Act and our rule, a 
17   registered broker or funding portal really does serve as 
18   an important gatekeeper between those seeking capital and 
19   investors.  We were pleased to see that a number of 
20   companies have already filed their Form C offerings.  
21   Seventeen companies on the first day and I think we're 
22   now up to 27 at least as of the close of business 
23   yesterday.   
24             Nine funding portals have completed the 
25   registration process with the Commission and FINRA and 
0007
 1   more are in process.  So we're watching developments very 
 2   closely.   
 3             The staff of Corporation Finance and Trading 
 4   and Markets published compliance guidance in the last few 
 5   days, and they're obviously available to answer 
 6   questions, and I think it's very important that we 
 7   obviously have those interchanges with all interested 
 8   parties in this.  And I think it's also just important 
 9   that we all keep striving to make crowdfunding work for 
10   both issuers and obviously investors.  
11             I'm also pleased to note that the Commission 
12   published a concept release on April 13 that 
13   comprehensively reviews the business and financial 
14   disclosure requirements of Regulation S-K among a wide 
15   range of other issues.  The release discusses scale 
16   disclosure for smaller publicly-traded companies, a topic 
17   that has been of keen interest to this committee, and I 
18   encourage you to review the concept release and provide 
19   your input.  Our goal is to make sure our disclosure 
20   system is efficient and effective for investors and 
21   companies, and we need input, obviously, from all 
22   stakeholders. 
23             Your agenda today, as Steve has outlined, 
24   brings to the forefront several other important issues 
25   for small and emerging companies.  The first topic you'll 
0008
 1   be taking up the definition of an accredited investor is 
 2   a familiar and very important one for all of us.  Last 
 3   year this committee did provide recommendations 
 4   cautioning that the primary goal of the Commission's 
 5   review of this definition should be to do no harm in the 
 6   private offering ecosystem.  The recommendation -- that 
 7   recommendation also suggested including within the 
 8   definition those investors who meet a test of 
 9   sophistication.   
10             As you know, again, in December the Commission 
11   published a staff report that analyzes various approaches 
12   for modifying the definition and provides recommendations 
13   for potential updates and modifications.  I look forward 
14   to hearing your discussion on those approaches and 
15   reviewing any further comments that are submitted.  I've 
16   asked the staff to prepare recommendations on how the 
17   Commission should modify the definition, and the comments 
18   we're receiving obviously will help the Commission in its 
19   -- in considering its next steps.   
20             I also very much welcome your discussion this 
21   afternoon of Regulation D, one of the primary engines of 
22   capital formation in this country.  Approximately 1.3 to 
23   $1.4 trillion was reported to be raised through 
24   unregistered securities offerings in actually both 2014 
25   and 2015 in reliance on Regulation D, an amount that 
0009
 1   comparable to the amount of capital that's raised by 
 2   public equity and debt offerings combined in those same 
 3   periods.   
 4             The vast majority of those offerings -- and I 
 5   know you discussed this at your last meeting -- occurred 
 6   under Rule 506(b), the traditional pre-JOBS Act exemption 
 7   which does not allow general solicitation.  The activity 
 8   in exempt offerings is of particular interest now as 
 9   issuers, investors and their advisors seek to take 
10   advantage of relatively new options for capital raising, 
11   like Rule 506(c) and its allowance for general 
12   solicitation.   
13             In 2015 of the approximately $1.35 trillion 
14   reported to have been raised in Rule 506 offerings, 
15   approximately 38 billion used Rule 506(c).  During 2014 
16   and 2015 about 1,600 new offerings were initiated each 
17   year in reliance on Rule 506(c).  So this is an area, 
18   again, that we are monitoring closely, and I look forward 
19   to hearing your insights now and later as we go along. 
20             The three new methods created by our rules for 
21   capital raising under the JOBS Act, Rule 506(c), 
22   Regulation A+ and Regulation Crowdfunding, are designed 
23   to foster new ways for smaller companies to access the 
24   capital markets, and we must ensure that the exemptions 
25   are both workable for issuers and providing appropriate 
0010
 1   investor protection.   
 2             We all benefit from capital formation that is 
 3   done in a transparent, safe and efficient way.  As you'll 
 4   hear in your -- I think you'll hear in the update from 
 5   Enforcement staff this afternoon, we've drawn on the 
 6   expertise of the staff really across the agency and 
 7   engaged them in a program that is keeping a watchful eye 
 8   on how these markets develop.  My view, such 
 9   interdivisional working groups help to make us smarter 
10   and quicker in assessing the extent of these new markets, 
11   their workability under our rules and the extent of any 
12   fraud or other rule violations that are occurring.  And 
13   this real-time approach should enable us to make any 
14   necessary regulatory adjustments and take action against 
15   abuses more quickly. 
16             So let me stop there by, again, saying thank 
17   you for your commitment of time and expertise to the work 
18   of this committee.  Facilitating small business capital 
19   formation is a priority that we all share, and your work 
20   and input are really quite, quite important 
21   contributions.  So thank you, Sara and Steve. 
22             MS. HANKS:  We'll hear from Commissioner Kara 
23   Stein now. 
24             COMMISSIONER STEIN:  Thank you.  Good morning, 
25   everyone.  I want to welcome you to today's meeting.  I 
0011
 1   really look forward to these meetings because there's 
 2   such a nice, free flow of ideas, and it benefits the 
 3   Commission immensely to hear from people on the ground 
 4   who are actually trying to improve capital formation 
 5   while protecting investors.  
 6             Today's discussions are going to focus on, as 
 7   Chair White pointed out and I know you know from your 
 8   agenda on the definition of accredited investor and 
 9   observations regarding unregistered offerings, but in 
10   particular, offerings made pursuant to Regulation D.  
11   Both topics are part of the ongoing dialogue that we've 
12   all been having about small businesses' access to 
13   capital, and I think both topics provide us with an 
14   opportunity think about and consider how to strike the 
15   right balance between supporting small businesses' access 
16   to capital while protecting investors. 
17             Last December our staff in the Division of 
18   Corporation Finance issue their first review as required 
19   by the Dodd-Frank Wall Street Reform and Consumer 
20   Protection Act of the definition of accredited investor. 
21    The definition until the Dodd-Frank Act had not been 
22   significantly revised since 1982.  Yet an understanding 
23   of who fits within the current definition I think is of 
24   increasing importance in today's financing markets.   
25             Today capital raising opportunities for small 
0012
 1   businesses in the states are increasingly conducted 
 2   through unregistered offerings as Chair White pointed 
 3   out.  In fact, more than $2 trillion was raised privately 
 4   in 2014.  And Regulation D offerings accounted for about 
 5   1.3 trillion of this amount.  In comparison, registered 
 6   offerings or public offerings amounted to approximately 
 7   1.35 trillion in 2014.  So more money was raised in the 
 8   private markets than was raised in the public markets, 
 9   which I think is another thing for all of us to be 
10   considering about where we are right now and how 
11   important some of these definitions are. 
12             The individuals and the issuers that use Reg D 
13   vary, but all Reg D offerings depend on properly 
14   identifying accredited investors.  Does the current 
15   definition of accredited investor accurately capture who 
16   should be allowed to participate in a Reg D offering?  Is 
17   the definition too broad?  Is it too narrow?  The -- 
18   historically it's been rooted in a bright-line, 
19   quantitative test, which for individuals was focused on 
20   income or net worth.  Question:  Does this test place too 
21   much emphasis on wealth as a proxy for investor 
22   sophistication and risk tolerance?  
23             As you discuss the pros and cons of bright-line 
24   test, I encourage you to keep in mind the lessons we 
25   learned from the recent financial crisis.  In 2008 hyper-
0013
 1   inflated housing valuations created artificial paper 
 2   wealth for many Americans.  And at that time, the 
 3   accredited investor definition permitted an individual's 
 4   primary residence to be included in the calculation of 
 5   net worth.   
 6             As a result, many investors qualified as 
 7   accredited investors.  But in reality, many of these 
 8   individuals were not able to fend for themselves or to 
 9   bear the risk of loss.  I think this became painfully 
10   evident upon the crash of the housing market and the 
11   obliteration of trillions of dollars of paper wealth 
12   during the financial crisis. 
13             In light of history, what is the best way to 
14   supplement the definition of accredited investor.  The 
15   staff of the Division of Corporation Finance and many 
16   commenters, including this committee, have provided 
17   thoughtful alternative factors that we should consider.  
18   Perhaps it's time for the definition to become more 
19   nuanced and to move away from a one-size-fits-all 
20   approach.   
21             For example, should we layer onto the 
22   quantitative thresholds qualitative indicia of 
23   sophistication such as professional credentials or 
24   perhaps experience in engaging in exempt offerings.  
25   Similar to Reg Crowdfunding and Reg A+, should we 
0014
 1   consider investment limitations?  How can we gather and 
 2   analyze data to test the definition to make sure it 
 3   continues to be appropriate.   
 4             So to some degree I'm talking about back-
 5   testing, right?  We make the changes.  How do we know if 
 6   they're working or not?  What were we hoping to 
 7   accomplish when we made the changes?  To answer these 
 8   questions we will need to think through how to craft a 
 9   definition of accredited investor that's flexible enough 
10   to differentiate between investors.  It would need to 
11   take into account the wide range of investors that exist 
12   from the soon-to-be retiree who is reaching for yield in 
13   a low interest environment to the angel investor who is 
14   seeking to identify the next big disruptor. 
15             Finally, I look forward to the second 
16   discussion agenda item today, the market for unregistered 
17   offerings.  We began the discussion about unregistered 
18   offerings and Reg D in the last advisory committee 
19   meeting, and I'm -- you know, I'm interested in hearing 
20   about the developments in this market and recent 
21   observations.  I'm particularly interested in your 
22   discussion of the usage or perhaps the lack of usage of 
23   Reg 501(c) which removed the ban on general solicitation. 
24             So I look forward to the meeting today.  Thank 
25   you for everyone's pro bono participation.  We really 
0015
 1   appreciate it.   
 2             MS. HANKS:  Thank you. 
 3             Commissioner Piwowar. 
 4             COMMISSIONER PIWOWAR:  Thank you, Sara and 
 5   Steve.   
 6             First, since I was not able to make the 
 7   February meeting, I want to take this opportunity to 
 8   welcome everyone, our new members, our returning members 
 9   and our observers.  Today's agenda is quite ambitious and 
10   I look forward to hearing the discussion and seeing any 
11   resulting recommendations.  As Steve mentioned, the 
12   committee will be discussing, among other things, the 
13   accredited investor definition and Regulation D.  In 
14   fact, the Commission adopted the notion of a so-called 
15   accredited investor in 1982 when it had adopted 
16   Regulation D.   
17             In a few minutes, staff in our Division of 
18   Corporation Finance will make a presentation of their 
19   December 2015 report on the review of the accredited 
20   investor definition.  Section 4-13 of Dodd-Frank directs 
21   the Commission to review the definition as it applies to 
22   natural persons to determine whether it should be 
23   adjusted or modified.  The staff report fulfills the 
24   statutory mandate by providing valuable information on 
25   the history of the accredited investor definition and 
0016
 1   important insights on alternative regulatory approaches. 
 2             After the staff presentation the committee will 
 3   discuss the accredited investor definition.  I'm sure 
 4   there will be a lively discussion about alternative 
 5   accredited investor definitions.  But I want to ask the 
 6   committee to consider going beyond that discussion, 
 7   perhaps after today's meeting, but before making any 
 8   recommendations to take a step back and ask the question: 
 9    Should the Commission consider doing away with the 
10   notion of a so-called accredited investor altogether?  
11             As I've said before it essentially divided the 
12   world of private offerings into two arbitrary categories 
13   of individuals:  those persons who were accorded the 
14   privileged status of being an accredited investor and 
15   those are who are not.  In short, if you made more than 
16   200,000 in annual income or had a million dollars or more 
17   in net worth, then you were in the privileged class.  You 
18   could chose to invest in the full panoply of investments 
19   whether public or private.   
20             If not, the government decided that for your 
21   own protection you were restricted access to these 
22   private investments.  The committee has the opportunity 
23   to move beyond the artificial distinction between so-
24   called accredited and so-called non-accredited investors 
25   and challenge the notion that non-accredited investors 
0017
 1   are, in fact, being protected when the government 
 2   prohibits them from investing in high-risk securities.   
 3             For example, the committee could do as I do and 
 4   appeal to two well-known concepts from the field of 
 5   financial economics.  The first is the risk-return 
 6   tradeoff.  Because most investors are risk-averse, 
 7   riskier securities must offer investors higher returns.  
 8   This means that prohibiting non-accredited investors from 
 9   investing in high-risk securities is the same thing as 
10   prohibiting them from investing in high-return 
11   securities.   
12             The second economic concept is modern portfolio 
13   theory.  By holding a diversified portfolio of assets, 
14   investors reap the benefits of diversification.  That is 
15   the risk of the portfolio as a whole is lower than the 
16   risk of any individual asset.  I do not have time today 
17   to give a full lecture on the mathematics and statistics 
18   of portfolio diversification, although I'd like to.   
19             So I'll just assure you that the correlation of 
20   returns is key.  When adding higher-risk, higher-return 
21   securities to an existing portfolio, as long as the 
22   returns from the new securities are not perfectly, 
23   positively correlated with, which means they move in 
24   exactly the same direction as the existing portfolio, 
25   investors can reap higher portfolio returns with little 
0018
 1   or no change in overall portfolio risk.  In fact, if the 
 2   correlations are low enough, the overall portfolio risk 
 3   can actually decrease. 
 4             These two concepts show how even a well-
 5   intentioned investor protection policy can ultimately 
 6   harm the very investors the policy is intended to 
 7   protect.  Moreover, restricting the number of accredited 
 8   investors in the privileged class can have additional, or 
 9   what economists call second order effects.  The 
10   accredited investors may enjoy even higher returns 
11   because non-accredited investors are prohibited from 
12   buying and bidding up the price of high-risk, high-return 
13   securities. 
14             As a result, small businesses may face higher 
15   costs of capital.  Remarkably, if you think about it, by 
16   allowing high-income and high-net worth individuals to 
17   reap the risk-return benefits from investing in certain 
18   securities, the government may actually exacerbate wealth 
19   inequality and hinder job creation and economic growth.   
20             Again, this is just a suggestion for the 
21   committee to consider perhaps after the meeting, but 
22   hopefully before making any recommendations.  In any 
23   event, I look forward to an informative presentation by 
24   the staff and a lively discussion by the members of the 
25   committee.  Thank you. 
0019
 1             MS. HANKS:  Thank you.  And we look forward to 
 2   considering that interesting suggestion.  
 3             We're now turning to the SEC staff who are 
 4   headed today by Keith Higgins, director of the SEC's 
 5   Division of Corporation Finance, and Betsy Murphy, 
 6   associate director of the Division of Corporate Finance.  
 7             Betsy. 
 8             MS. MURPHY:  Good morning.  I'd like to 
 9   introduce the other CorpFin staff members joining me at 
10   the table.  In addition to Keith, we have Sebastian Gomez 
11   and Julie Davis from the Office of Small Business Policy. 
12    I'll also give the standard disclaimer for any of the 
13   SEC staff members speaking today, any views that they 
14   express are their own and do not necessarily reflect the 
15   views of any member of the Commission or any other member 
16   of the Commission staff.   
17             Thanks.  Back to you. 
18             MR. GRAHAM:  Okay.  Now everyone here 
19   understands the importance of access to capital for small 
20   business.  The overwhelming majority of capital raising 
21   by small and emerging companies is done using Regulation 
22   D of the Securities Act, that the accredited investor 
23   definition is a central component of Reg D, in particular 
24   Rules 506(b) and (c).  While it is just one definition of 
25   the securities laws, it is one that plays a key role in 
0020
 1   the unregistered markets.   
 2             The definition of accredited investor is 
 3   intended to encompass those individuals and entities with 
 4   the appropriate level of financial sophistication and the 
 5   abilities to sustain risk of investment or the ability to 
 6   fend for themselves.  I think we're all familiar with the 
 7   current definition of accredited investors.  I'm not 
 8   going to review that.  But for investors qualifying as 
 9   accredited, it has significant consequences because it 
10   allows them to participate in investment opportunities 
11   that are generally not available to non-accredited 
12   investors such as offerings by private funds or seed 
13   investment and early stage companies. 
14             The flip side is that investors who participate 
15   in unregistered offerings can be subject to increased 
16   investment risk.  They generally do not receive 
17   information comparable to that in a registration 
18   statement, and the SEC staff does not reveal whatever 
19   information may be provided to them.   
20             For companies and other market participants, 
21   the size of the accredited investor pool is of 
22   significant interest.  And given the critical importance 
23   of the exempt offering market to the economy, that 
24   interest is not confined to the small business community.  
25             The current definition as we all know by now 
0021
 1   was adopted by the SEC in 1982.  The Dodd-Frank Act 
 2   directed the Commission to review the definition as it 
 3   relates to natural persons every four years to determine 
 4   whether the definition should be modified or adjusted for 
 5   the protection of investors, in the public interest and 
 6   in light of the economy.  
 7             As the SEC was conducting that first review, 
 8   this committee adopted the following recommendation in 
 9   March of 2015.  One, as the Commission reviews the 
10   definition of accredited investor in Rule 501 under the 
11   Securities Act of 1933, the primary goal should be do no 
12   harm to the private offering ecosystem.  Accordingly, any 
13   modifications to the definition should have the effect of 
14   expanding, not contracting the pool of accredited 
15   investors.   
16             For example, we would recommend including 
17   within the definition of accredited investor those 
18   investors who meet a sophistication test regardless of 
19   income or net worth.  As a further example, the tax 
20   treatment of assets included in the calculation of net 
21   worth should be disregarded. 
22             Two, to take into account the effective future 
23   inflation on a going-forward basis, the Commission should 
24   adjust the accredited investor thresholds according to 
25   the consumer price index.   
0022
 1             Three, rather than attempting to protect 
 2   investors by raising the accredited investor thresholds 
 3   or excluding certain asset classes from the calculation 
 4   to determine accredited investor, which we believe are 
 5   measures of dubious utility, the Commission should focus 
 6   on enhanced enforcement efforts and increased investor 
 7   education.   
 8             And, four, the Commission should continue to 
 9   gather data on this subject for an ongoing analysis.   
10             I am pleased that the staff's report discusses 
11   all of these issues and the recommendations include 
12   allowing individuals to qualify as accredited investors 
13   on other measures of sophistication.  And we have with us 
14   again today Michal Seaman, special counsel from the 
15   Office of Small Business Policy.   
16             Now Michael was the primary staffer working in 
17   the study.  He will give us an overview of the review 
18   they conducted, including a summary of the staff 
19   recommendations for potential updates and modifications 
20   to the definition.  Hopefully he will help us to 
21   understand the various scenarios that are -- that are 
22   envisioned and their possible effect in the pool of 
23   capital available for offerings in the 506. 
24             So, Michael, I'll turn it over to you. 
25             MR. SEAMAN:  Thank you very much, and good 
0023
 1   morning.  It's been a very great opportunity for me to 
 2   work on the report and I've found that I've said the 
 3   words "accredited investor" so many times over the last 
 4   year or so that they kind of turned into one word, and I 
 5   kind of mumble them sometimes.  So apologies in advance 
 6   if I do that today, and I'll try to take things slowly 
 7   and not do that. 
 8             As you all know and as the chair mentioned and 
 9   as Commissioner Stein mentioned, the size of the 
10   Regulation D market is very large in the United States 
11   with over $1.3 trillion being raised using Regulation D 
12   over the last couple of years.  So it's a very, very 
13   robust, very active market.  And being an accredited 
14   investor is very important in order to participate in 
15   that market.  So that's why the definition is very 
16   important and why we've been looking at it recently.   
17             As Steve mentioned, the definition is intended 
18   to encompass those persons whose financial sophistication 
19   and ability sustain the risk of loss of an investment or 
20   ability to fend for themselves render the protections of 
21   the Securities Act registration process unnecessary.  As 
22   the Commission's rules currently define accredited 
23   investor, they use financial thresholds in terms of 
24   income and net worth to determine what natural persons 
25   qualify.  The definition was originally adopted in 1982 
0024
 1   and used income threshold of $200,000 individually and 
 2   net worth threshold of $1 million.   
 3             Those thresholds remain in place today.  And 
 4   just to give you an idea of what those numbers look like 
 5   in today's dollars, $200,000 in 1982 is approximately 
 6   $500,000 today and a million dollars in 1982 is 
 7   approximately $2 and a half million today.  To give some 
 8   perspective in terms of the number of U.S. households 
 9   that qualified today and back in the '80s, in 1982, 
10   approximately 1.8 percent of U.S. households qualified as 
11   accredited investors.  Today over 10 percent of U.S. 
12   households qualify.   
13             So that kind of highlights one of the 
14   criticisms that we've heard about the definition, simply 
15   that using financial thresholds that have not been 
16   adjusted over time to reflect inflation potentially 
17   renders the definition over-inclusive in that it possibly 
18   includes individuals who do not have the financial 
19   sophistication that the Commission originally had in mind 
20   when it set the thresholds back in 1982. 
21             Another -- on the other side of the coin, 
22   another criticism that we often hear about the definition 
23   is that by using financial thresholds, it's under-
24   inclusive in that it doesn't take into consideration 
25   other indicators of financial sophistication that people 
0025
 1   have.   
 2             So there could be somebody who's very smart, 
 3   very well-educated, has a great knowledge and 
 4   understanding of the unregistered markets and investments 
 5   and many different degrees from different -- you know, 
 6   years of study and different certifications, but because 
 7   that person just doesn't have a job that pays over 
 8   $200,000 or hasn't accumulated $1 million of net worth 
 9   because they have a lot of education loans they need to 
10   pay back, they don't qualify even though they may be very 
11   financially sophisticated.   
12             So those are kind of two of the criticisms that 
13   we often hear about the definition. 
14             That being said, not everybody is critical of 
15   the definition, and many people think that the definition 
16   shouldn't be changed, and oftentimes those people point 
17   to factors like the definition by using financial 
18   thresholds is very easy to use, it's worked very well 
19   over time and that if the Commission were to revise the 
20   definition in a way that would contract the size of the 
21   accredited investor pool, it could potentially have an 
22   adverse effect on capital formation.   
23             So why did we do the report?  The Dodd-Frank 
24   Act requires the Commission every four years to take a 
25   look at the definition of accredited investor as applied 
0026
 1   to natural persons.  Chair White instructed the staff to 
 2   conduct a review and prepare the report as part of the 
 3   Commission's first review of the definition.  On December 
 4   18th last year, the Commission authorized publication of 
 5   the report and the report contains a number of 
 6   recommendations from the staff. 
 7             The recommendations are structured in terms of 
 8   alternatives that the Commission could consider if it 
 9   were to go ahead and revise the accredited investor 
10   definition.  And the benefit of structuring the 
11   definitions in this way is that it allows you to look at 
12   the definitions in a couple of different ways.  You could 
13   look at them as a package, 11 things that the Commission 
14   could do all at the same time to change the definition, 
15   or you could also look at the definitions as more of a 
16   menu, things that the Commission could pick and choose if 
17   it were to change the definition. 
18             Now that being said, I think that there are a 
19   couple of recommendations that work well together instead 
20   of being applied just on a one-off basis.   
21             So I wanted to just briefly go through the 
22   recommendations that were in the report.  The first three 
23   recommendations deal with the income and net worth 
24   thresholds, and the first recommendation is that the 
25   Commission could consider leaving the thresholds where 
0027
 1   they are today, so $200,000 of income, $1 million of net 
 2   worth, $300,000 of joint income with the spouse, but 
 3   applying investment limitations to people who qualify 
 4   based on those thresholds.  And the idea that the report 
 5   tosses out in this area is potential 10 percent limits in 
 6   terms of income or net worth.  So somebody who qualified 
 7   having a $200,000 income would be able to participate in 
 8   offerings as an accredited investor, but would not be 
 9   able to invest more than $20,000 in any given offering by 
10   any given issuer in a 12-month period. 
11             The second recommendation that the report 
12   contains is that the Commission consider creating new 
13   alternative and higher income and net worth thresholds 
14   that take into consideration the impact of inflation that 
15   has occurred over time.  And the report suggests that the 
16   Commission could possibly use $500,000 of individual 
17   income, $750,000 of joint income and a million dollars or 
18   $2.5 million of net worth. 
19             So these two recommendations are potentially 
20   recommendations that might work well together.   
21             The third recommendation that involves the 
22   income and net worth thresholds is it's a recommendation 
23   that this committee suggested in last of last year, and 
24   that -- it's that the thresholds be adjusted on a regular 
25   going forward basis to reflect the impact of inflation. 
0028
 1             The next set of recommendations in the report 
 2   are suggestions of alternative ways that investors could 
 3   qualify as accredited investors, not -- regardless of 
 4   their income or their net worth.  So the report suggested 
 5   five of these.  The first one is that the Commission 
 6   consider whether it could establish an investments test 
 7   whereby people with certain level of investments would be 
 8   able to qualify as accredited investors.  And the number 
 9   that the report suggested as a possible number was 
10   $750,000.  
11             Now the idea here is that potentially 
12   investments are a better indicator of financial 
13   sophistication than net worth is, because net worth could 
14   include things such as vehicles and other assets that 
15   don't have any relation to experience or knowledge about 
16   investing.  
17             The second alternative criteria that the report 
18   suggests is allowing people who have achieved certain 
19   professional credentials to qualify as accredited 
20   investors.  And the three that the report suggests as 
21   potential ideas are individuals who have a Series 7 
22   certification, which is the general securities 
23   representative certification; Series 65 certification 
24   which is the NASAA uniform investment advisor exam 
25   certification and the Series 82, which is the limited 
0029
 1   representative for private securities offerings.  
 2             The reason why these three certifications were 
 3   suggested as potential alternatives is because each one 
 4   takes into consideration to some degree an individual's 
 5   experience and knowledge of investing in the private 
 6   securities markets. 
 7             The next alternative in this section of the 
 8   report has to do with investment experience, and it would 
 9   allow individuals who have acquired over the course of 
10   their lives a good amount of experience investing in the 
11   private securities markets to be accredited based on that 
12   experience.  And the report suggests that possibly anyone 
13   who has participated in 10 private securities offerings 
14   by 10 different issuers would be an accredited investor.  
15             And the report kind of goes into a little more 
16   detail and talks about what types of offerings might be 
17   the ones that would qualify for this.  So we probably 
18   wouldn't have something like a crowdfunding offering in 
19   mind, but it would be people who have participated in one 
20   way or another on Reg D offerings in the past.   
21             The next recommendation is that the Commission 
22   consider whether knowledgeable employees of private funds 
23   -- so these are individuals who are involved in 
24   investment decision making processes every day, but are 
25   not necessarily officers or directors of the fund, 
0030
 1   whether they should be allowed to participate in 
 2   offerings by their own funds as accredited investors.   
 3             And the last recommendation in this area is 
 4   that the Commission may want to consider whether it would 
 5   be possible or feasible to create an examination that 
 6   somebody could take and become an accredited investor 
 7   based on sitting down and taking an exam that tests their 
 8   knowledge on private securities offerings and all of the 
 9   risks and things associated with those markets. 
10             The report acknowledges that there would be a 
11   lot of logistical things to consider if the Commission 
12   were to think about this as a potential, including who 
13   would write the exam, who would administer the exam, when 
14   would the exam be updated, how long would passing the 
15   exam be good for.   
16             So that's kind of an interesting idea that is 
17   kind of written in more of a loose way than some of the 
18   other recommendations because the staff recognized that 
19   there would be a lot of logistical things to think about. 
20    But nonetheless, it's an interesting idea that we came 
21   across in the course of preparing the report. 
22             So those are all of the main recommendations in 
23   the report with respect to how natural persons could 
24   qualify as accredited investors.  There are a couple of 
25   other recommendations that are in the report, and I'll 
0031
 1   mention those just briefly because a large percentage of 
 2   accredited investors are not individuals, but they're 
 3   entities.   
 4             The report does have a section on the 
 5   definition of entities and briefly the idea that we 
 6   suggested for the Commission to consider is rather than 
 7   focus on the type of entity -- because right now the way 
 8   that an entity could qualify is that there's a list of 
 9   different types of entities and if you're on the list -- 
10   for example, if you're a bank or if you're a corporation 
11   or if you're an insurance company, you're on the list and 
12   you could potentially qualify as an accredited investor 
13   based on being on the list.   
14             But if you're not on the list -- and there's 
15   many different types of entities that are not on the 
16   list, for example, limited liability companies are not on 
17   the list because the list was created at a time when 
18   limited liability companies didn't really exist.   
19             So there's a number of different types of 
20   business entities that aren't on the list that are kind 
21   of excluded from being an accredited investor definition 
22   right now.  So the report suggests that perhaps the 
23   Commission treat all entities equally and any entity that 
24   has an excess of $5 million of investments be treated as 
25   an accredited investor. 
0032
 1             The next recommendation has to do with spousal 
 2   equivalence and it suggested the Commission consider 
 3   spousal equivalents to be treated similarly to the way 
 4   spouses are in the definition in terms of pooling their 
 5   financial resources to qualify based on the net worth and 
 6   the income tests. 
 7             And then the final recommendation in the report 
 8   -- this is one that the Commission would not adopt on its 
 9   own because it depends on other changes to the definition 
10   in order for this one to make any sense -- is that if the 
11   Commission does change the definition in any way, the 
12   report suggested the Commission consider grandfathering 
13   current investors who qualify based on the accredited 
14   investor definition as written today and who continue to 
15   qualify in the future based on the definition as written 
16   today for future offerings by any issuer in which they 
17   are currently an investor.   
18             So this -- the idea here is that it's kind of 
19   an anti-dilution protection for people who have already 
20   participated in offerings by certain issuers.  
21             So that is the summary of the recommendations 
22   that are contained in the report.  The Commission opened 
23   up a comment box when we published the report, and we've 
24   gotten about 30 comment letters today.  Some of them are 
25   very good, very long and address all of the 
0033
 1   recommendations.  We're hoping to get many more.  We're 
 2   excited to see what recommendations this committee comes 
 3   up with.  And just a couple of quick themes that we've 
 4   seen is that we're not surprised to see that there are 
 5   people on all sides of the debate when it comes to the 
 6   comments.   
 7             So there are some people who think that the 
 8   Commission should do nothing with the definition because 
 9   it's worked very well in their opinion.  There are people 
10   who think that the thresholds -- the financial thresholds 
11   should be increased.  There are dome people who think 
12   that they should be decreased.  So we're not surprised to 
13   see lively debate on all sides of the topic.   
14             One thing that almost everybody does agree on, 
15   though, is that the Commission should consider having 
16   alternative ways for investors to qualify that are not 
17   simply based on income and net worth thresholds.  Not 
18   everybody agrees on what exactly those alternative ways 
19   should be, but it seems like there's almost universal 
20   agreement that possibly having some different methods for 
21   qualification is something for the Commission to 
22   consider.   
23             So that is the end of the summary that I had 
24   about the report and I'm happy to take any questions that 
25   the committee has either now or during the course of 
0034
 1   their discussions about the definition.  Thank you. 
 2             MR. GRAHAM:  Well, thank you, Michael.  Thank 
 3   you for your time this morning and thank you for the time 
 4   you've spent putting this report together.   
 5             I would like to hear from everyone on the 
 6   committee and just to kind of kick things off I'll say a 
 7   couple things that come to mind so that everyone else can 
 8   kind of collect their thoughts.  But while you're here, 
 9   it's good to have you as a resource. 
10             I've heard a lot of good ideas, but I'm not 
11   sure if I understand the problem we're trying to solve.  
12   Yes, the thresholds were essentially set in 1982, but 
13   does that make them wrong?  We're dealing with an 
14   important ecosystem that is supporting capital formation 
15   quite well and have not -- I've not heard words actually 
16   failing from an investor protection point of view.  And 
17   if we start tinkering too much, we could very end up 
18   unintentionally damaging a system that is clearly very 
19   important to the small business community and quite 
20   frankly important to the country at large.   
21             So absent better articulation of the problem 
22   that we're actually trying to solve as opposed to just 
23   simply going and reviewing to see if we think there's an 
24   issue, I would be reluctant to do too much.   
25             Again, there are a lot of good-sounding ideas 
0035
 1   that I think are attractive at least on their face.  I 
 2   think just the whole notion of putting -- taking 
 3   thresholds and coming up with the 500,000, 750,000, 2.5 
 4   million changes, I think that if -- I can understand the 
 5   logic that underlies that suggestion.  Certainly things 
 6   like including spousal equivalents is just kind of 
 7   bringing things in line with the times I think.  And 
 8   Commissioner Piwowar's suggestion about portfolio theory, 
 9   taking that into consideration, that just makes my head 
10   explode.  But I think -- but it sounds definitely worth 
11   of consideration.   
12             But has anyone shown that investments in this 
13   sector are any more problematic than the public markets, 
14   markets by the way that are made available to 
15   unaccredited investors spectacular failures?  And are we 
16   seeing increased fraud in this segment?  I'm not sure 
17   that we are.  And while 1982 was not yesterday, at least 
18   two things come to mind.  One, who's to say that the 
19   numbers in 1982 weren't too high?  They're just numbers.  
20             And, two, I think the context has changed 
21   dramatically.  We talk about information and the ability 
22   to educate oneself and certainly with the advent of the 
23   internet and other technology, it's -- 2016 is quite a 
24   different place than 1982.   
25             So -- and also to develop a framework where we 
0036
 1   tell certain investors that there's a limit to how much 
 2   they can invest strikes me as paternalistic and 
 3   potentially off base.  The goal has to be to prevent 
 4   fraud and not to prevent losses resulting from legitimate 
 5   business failures.  And I think the idea is to protect us 
 6   from fraudsters and not to protect ourselves -- not to 
 7   protect us from ourselves.   
 8             So from -- I think the -- in terms of coming up 
 9   with a more nuanced definition as well, what's it -- what 
10   is attractive about Regulation D for all of us that have 
11   been around long enough to know about 146 and all the 
12   rest was the fact that suddenly there was certainty and 
13   there was reduced complexity, which is something that we 
14   should be striving for with our rules.   
15             So I continue to be in favor of preserving the 
16   core of what we have largely because it works.  And 
17   certainly I continue to be in favor of expanding the 
18   definition as well.  It's -- I think more is better, but 
19   you start getting into some of the suggestions with 
20   respect to defining certain levels of -- certain classes 
21   of sophistication, and I think that is going to get 
22   complex and it may end up getting to be a little more 
23   complicated than we would like.  But as long as that's 
24   not the only way and as long as we preserve the core, I 
25   think that it continues to work. 
0037
 1             Those are just a few of my initial thoughts.  
 2   So -- yes, Catherine? 
 3             MS. MOTT:  Michael, thank you for that report 
 4   and the summary.  I read it, but it was good to go back 
 5   through and pull out the highlights.  So I'm going to 
 6   echo some of Stephen's thoughts.  When I look at 1982, 
 7   that was an arbitrary number, and what was the basis for 
 8   which that was selected.   
 9             And I also am going to waive the American flag 
10   here.  So when I say this it's that I look at 1982, 1.8 
11   percent qualified; 2014, 10 percent qualified.  And I 
12   think about my own market as a -- running and angel group 
13   and running a venture fund is that we are the economic 
14   engine for net job creation in the United States.  And 
15   actually when you look at the corporate numbers, they're 
16   net job -- what do you call it -- net job losers.   
17             They're always doing -- they're about becoming 
18   bigger with less people.  We're about becoming bigger 
19   with more people.  And so when I think about these 
20   things, I think it's really critical for us to think 
21   about do no harm, especially when the world economy is -- 
22   right now is a tech economy.  And for us to be 
23   competitive in the marketplace, I believe that this has 
24   to be a very robust market.  So one of the things we 
25   shouldn't do is limit it to the point that we become less 
0038
 1   competitive globally. 
 2             I also think around the numbers, around 2.5 
 3   million as a threshold with 500 annually, that might 
 4   really work well in Los Angeles or New York City, but for 
 5   me in Pittsburgh or somebody in Louisville, Kentucky or 
 6   elsewhere, there's some disparity there because doctors 
 7   in my angel group are making 300,000, but if they were in 
 8   New York City, they'd be making 550,000.   
 9             So putting those numbers around -- I think it 
10   unfairly limits the middle of America where the middle of 
11   America needs it more than Silicon Valley and Boston and 
12   New York. 
13             The other thing I would like to comment on is 
14   if we pick something like $750,000 investments as a 
15   threshold, we're doing the same thing we did in 1982.  
16   We're picking a number.  And what basis are we picking 
17   that number?   
18             And then finally one of the things I think 
19   about when -- you know, I'm thrilled when we see the 
20   increase in private offerings.  The market drivers for 
21   that, though, is what we have to give thought to.  One of 
22   the things I'd like to understand about those numbers is 
23   when I think about the public companies delisting and 
24   taking private capital because it's no longer an 
25   opportunity for them to grow, there are limits because 
0039
 1   they have to report quarterly, which is fine, but if they 
 2   don't get the numbers properly -- don't hit the market 
 3   expectations, they can't invest long-term.  And so they 
 4   delist.  So how much of that 1.-some trillion that I'm 
 5   trying to remember what it was now is actually coming 
 6   from private capital because public companies have to 
 7   delist.   
 8             The other is:  How much of this is driving -- 
 9   is because of the tech economy?  I mean it's something 
10   that we didn't have in 1982 but we have now.  And so 
11   private capital is needed for that, and it has been 
12   growing because we've been educated by the internet and 
13   other things. 
14             And finally, how much if it is driven by the 
15   JOBS Act itself?  So I'd just like to -- I think we need 
16   to understand those numbers.  I think those are -- I look 
17   at is as an exciting thing, not a dangerous thing, and I 
18   think it's really healthy for our economy.  Thank you. 
19             MR. GRAHAM:  Thank you.   
20             Kyle. 
21             MR. HAUPTMAN:  Yeah.  I like what you said, 
22   Stephen, about we're supposed to protect from fraud, not 
23   from ourselves and the investments we pick.  But at the 
24   beginning you said you're not sure what the problem we're 
25   here to solve is.  Isn't that the problem, that the 
0040
 1   current definition is protecting us from ourselves? 
 2             MR. GRAHAM:  When I said I didn't know what the 
 3   problem was, I was being facetious.   
 4             MR. HAUPTMAN:  All right.  Fair enough.  Yeah, 
 5   I just -- it is odd to me that in SEC the rulemaking, not 
 6   only does it require -- as a place for advisors to advise 
 7   on these things, CPAs, lawyers to certify private 
 8   offerings, it has a committee of this room to suggest on 
 9   the appropriate accredited investor rule and it has lots 
10   of SEC staff.  There are folks in this room on this 
11   committee who don't meet the standard.   
12             I'll tell you right now I don't.  So it's odd 
13   to me that I'm being asked to opine on it when this same 
14   committee won't allow me to invest $5,000 on it.  But I 
15   do have a seat at the table to advise on trillions of 
16   dollars of offerings.  It just -- I don't know.   
17             If it was Excel, it would be one of those 
18   circular errors and to have staff who -- I don't know 
19   anybody's finances, but to have a place in the regulation 
20   for all of these professionals, including the members of 
21   this group who are not eligible to invest even a small 
22   amount of money outside of the new crowdfunding, it just 
23   strikes me as an opportunity to review it and ask which 
24   part of it that -- what I consider a circular error is 
25   the issue. 
0041
 1             MR. GRAHAM:  Yeah, and I would tend to agree 
 2   with that.  It's, again, I -- we have a system that 
 3   clearly works.  We have a system where I haven't seen a 
 4   lot of evidence of fraud and -- or otherwise the need for 
 5   the kind of investor protection we're used to thinking 
 6   about in terms of enforcing our laws and that sort of 
 7   thing.  So that works.  So let's not bother -- let's not 
 8   adversely affect the core. 
 9             But there are a lot of good ideas that come 
10   into the subject of expansion, and I mean you've 
11   mentioned something which I think pretty much hits it.  
12   And that's we've got so many people that are -- they're 
13   very sophisticated and can advise others in these kinds 
14   of investments, but are not in a position to make the 
15   investments themselves, which makes absolutely no sense, 
16   at least in my view. 
17             Mark. 
18             MR. WALSH:  Good morning.  Sorry I was late.  
19   I'm with the SBA, and I will echo Betsy's original 
20   statement.  This is my personal opinion.  I have seen 
21   very little dramatic evidence that there is a direct 
22   correlation between wealth and sophistication.  So to 
23   suggest that wealth as a yardstick implies sophistication 
24   I think is specious to begin with. 
25             The second is that I've also seen correlations 
0042
 1   that show that wealth and sophistication, in fact, are 
 2   disconnected.  There are Harvard MBAs driving taxicabs 
 3   who would fail virtually every single test that has been 
 4   suggested or currently exists who are more sophisticated 
 5   in the types of deals we're talking about.   
 6             And as a personal -- as an angel investor in 30 
 7   to 40 deals where I constantly self-certify that I am 
 8   accredited, I always kind of giggle at that because it 
 9   just strikes me that, in fact, people with an unusual 
10   appetite for risk will always find a way to bet their 
11   money.  Now it could be the pink sheets or -- I mean 
12   there's just a significant number of ways that people 
13   with an undue appetite for risk and low incomes will find 
14   ways to waste income.  Darwin was right.   
15             So I wonder if we might be looking at the wrong 
16   end of the telescope.  I heard the assertion that this 
17   has worked.  I would heretically challenge that.  I'm not 
18   sure -- what has it worked?  What's an example recently -
19   - recently of an example where the accredited investor 
20   rule has saved people money that they would have lost if 
21   they had been able to invest it.   
22             And I would suggest the final point I'll make, 
23   which actually you made, which I think is incredibly 
24   important is that today I can go on the internet today 
25   and I can find out virtually every single thing about 
0043
 1   everybody in this room -- their social security number, 
 2   their income, their neighbors, everything about them 
 3   today is available.   
 4             So the fact or the assertion that unaccredited 
 5   investors have as much blindness about the prospects of a 
 6   company as they did in 1982 when it was written is also 
 7   specious.  So I think if information is readily available 
 8   in a wide variety of pathways for people that have 
 9   appetites for risk that may or may not be appropriate for 
10   their income, have we fixed anything or solved anything 
11   or corrected anything with this since '82?  I'm not sure 
12   I see the evidence.  I believe as was stated a while ago 
13   that it should be removed. 
14             MR. GRAHAM:  Greg. 
15             MR. YADLEY:  Thank.  I want to talk early so I 
16   don't have to echo too many other people's views here 
17   because I think Commissioner Piwowar set it up and Mike 
18   just said the same thing.  I think more effort, talking 
19   about how to open it up to people who are not accredited 
20   would be important.   
21             And it's the logical extension of our 
22   discussion previously at this committee where we talked 
23   about some of the fallacies in trying to protect people 
24   and for example protecting seniors.  Obviously everyone 
25   wants to protect seniors, but what is a senior now?  And 
0044
 1   I deal with this representing corporations that are 
 2   looking at director age limits and things like that.  
 3   That's not a proxy at all for sophistication either.   
 4             What has been earlier mentioned in terms of the 
 5   ability of investors to invest in the public market where 
 6   there is a high failure rate and unfortunately instances 
 7   of mismanagement and fraud, there's not necessarily more 
 8   in the private market.  
 9             The securities laws and the mission of the 
10   Commission has always been based on disclosure, and 
11   disclosure is one of the answers here along with more 
12   education.   
13             Education is one of the factors that people 
14   have mentioned as a potential other criterion for 
15   accredited investor statute.  That's also a slippery 
16   slope, because how much education do you need to invest 
17   and do you need different kinds of education to invest in 
18   different deals?   
19             I think I used the analogy the last time that 
20   I'm a sophisticated securities lawyer, but I do have 
21   trouble when I'm reading the footnotes to Bank of 
22   America's 10-K.   
23             I have invested in deals involving science.  I 
24   didn't take very much science since high school, but 
25   overall I think that I can make risk allocations.  
0045
 1   Excluding retirement assets was another idea that had 
 2   been mentioned.   
 3             Again, all these I think fall within the idea 
 4   that we need to protect people from themselves.  And, in 
 5   fact, as we age up, almost everything that we invest in 
 6   becomes our retirement assets.  So I guess I second or 
 7   third the viewpoint that we really should be talking 
 8   about expanding the sphere of Americans who can invest in 
 9   transactions in the private market and not restricting 
10   them. 
11             MR. GRAHAM:  Thanks, Greg.  
12             Sara, you --  
13             MS. HANKS:  Yeah, I had a question for Michael, 
14   in fact, on data.  One of the things that is a constant 
15   theme both in the SEC's report and on our sister 
16   committee, the investor advisory committee, 
17   recommendations and in our recommendations, we keep 
18   saying you should continue studying the data.  The 
19   trouble is I'm not sure that we actually have the right 
20   data.   
21             Steve mentioned earlier measures of dubious 
22   utility. And I think here we're looking at metrics of 
23   dubious utility.  One of the most interesting things that 
24   I think is in the staff's report is the Swedish study 
25   where contrary to what Mark said -- and maybe it's 
0046
 1   because they're Swedes -- but there's a study there that 
 2   shows that financial sophistication does, in fact, 
 3   increase with wealth.  And that's a very, very 
 4   interesting data point, but it was one of the very few 
 5   relative data points that we've actually got.   
 6             Because the metrics we've got are how many fall 
 7   into this bucket, how many fall into this bucket.  If you 
 8   took this measure out, how many would be in this other 
 9   bucket.  But we're not answering the basic question, as 
10   Steve said, which is:  What problem are we trying to 
11   solve here?  What could we be looking for?  What data can 
12   we access that would actually help us answer this 
13   question.   
14             And I know that's a very difficult thing to 
15   answer at the moment, but until we know what we should be 
16   looking for, I'm not sure that we have a decision to 
17   make.  What data sets are out there, Michael, and what 
18   would we like to be looking for here? 
19             MR. GOMEZ:  Can I chime in and -- Sara, I think 
20   one of the challenges as looking at data is understanding 
21   who is actually investing versus who is just not 
22   interested in investing.  And I think part of the 
23   challenges is understanding that.  Now the difficulty is 
24   once you come up with a definition that encompasses a 
25   group just because they're not investing now, it doesn't 
0047
 1   mean that they're not going to invest in the future.  
 2             A lot of the data that we have looks at 
 3   percentage of the populations that either qualify under 
 4   the current thresholds or would potentially qualify on 
 5   the revised thresholds.  I think it would be very 
 6   interesting through the comment process for people who 
 7   are active investors to provide some more information 
 8   that would help the Commission understand who is actually 
 9   investing out of that pool of 10 percent of the 
10   population.  Do we really have 10 percent of the American 
11   population investing in Reg D offerings, or is it a much 
12   smaller pool of those investors?  
13             I know the Angel Capital Association has done 
14   some surveys of their members who are active investors in 
15   that area.  It would be interesting to see what the 
16   profile of those members are.  Also challenging is the 
17   fact when you add other measures of sophistication, it's 
18   sometimes difficult to understand whether those measures 
19   of sophistication will encompass new people that would 
20   come into the pool, or are they just the same people who 
21   currently qualify under the definition. 
22             So, for example, if you are a -- if you pass 
23   the Series 83 examination, are most of those individuals 
24   who already qualify under the current definition?  If you 
25   already have $750,000 in investments, are you likely to 
0048
 1   already exceed the $1 million net worth test anyway?   
 2             Part of the getting additional data I think 
 3   would come through commenters that chime in in response 
 4   to the report, and I think all of those comments and 
 5   views would be helpful as the Commission continues to 
 6   consider the topic. 
 7             MR. GRAHAM:  Well, Sebastian, at a minimum we 
 8   get Kyle.  When you -- we talk about the data, we talk 
 9   about the fact that, for example, we know what the 
10   definition of accredited -- what today's definition of 
11   accredited investor is.  But we don't know precisely who 
12   is doing the actual investing.  And so -- but, again, it 
13   just kind of gets me to my point:  Why are we trying to 
14   find the answer to that question?  I'm still trying to 
15   appreciate that.   
16             I think we started out someplace which, as 
17   Catherine suggested and I think I may have suggested it 
18   as well, that was arbitrary.  1982 I think was probably 
19   arbitrary.  But that's kind of where we are.   
20             And, Mark, when I say that something works, 
21   what I mean is that we have a system in place where small 
22   businesses are able to raise $1.3 trillion a year.  Don't 
23   ask me why, but that does happen and with the current 
24   system.   
25             So that's -- anyway, Lisa, you had --  
0049
 1             MS. SHIMKAT:  Yes.  And I'm kind of going to 
 2   echo what you were saying, too, to hurry and jump in 
 3   before it's all -- before it just is echoing.  
 4             The -- I disagree a little bit because the no 
 5   complaints could come back to we're not measuring the 
 6   right stuff.  And maybe instead it's doing a really good 
 7   job to have the qualified investor, is it for prevention 
 8   of fraud or protect losses.  And then it's the chicken 
 9   and the egg.  It feels like we have a very circular 
10   conversation there.   
11             And especially being in the Midwest I 
12   thoroughly agree the cost of living there, you know, a 
13   4,000 square-foot home, 115,000.  And so it kind of puts 
14   some things in perspective.   
15             (Off-mic comment.) 
16             Well, after I get rid of a few kids, I'll let 
17   you know.   
18             But -- so that needs to be taken into 
19   consideration, too.  And you spoke about 1.8 to 10 
20   percent, but the 10 percent I don't think is a bad 
21   number.  Maybe we should look at it as, wow, that should 
22   actually be closer to 20 percent.  The 1.3 trillion, why 
23   isn't it 2 trillion?  Do we -- where are our 
24   opportunities?  And, yes, what the commissioner said made 
25   my head explode, too, but at the same time it was like 
0050
 1   the Wizard of Oz.  You pull that curtain back and think, 
 2   oh, hey, there's other opportunities here.  And I think 
 3   maybe that's another way to look at it.   
 4             But it's about also, Stephen, what you said, 
 5   too, the why side, asking those why questions.  Why the 
 6   number?  Is the number for protecting those losses or 
 7   preventing fraud?  Why the sophistication if there are 
 8   other avenues?  Are we regulating the wrong side of it?  
 9   Is there the other end of it that maybe the enforcement 
10   side can focus on that versus the investor side?   
11             And it's a totally changing landscape.  And, 
12   yes, we don't have the demographics.  There could be 
13   those investors that are being counted twice because 
14   they're here, they're investing in this as well.  So we 
15   need to maybe look at positioning ourselves for what our 
16   overall intent is.  And that's where asking why the three 
17   to five times -- why are we doing this, why do we need to 
18   know this and what is our overall goal and how is it 
19   going to make it better. 
20             So I think those are things that maybe this 
21   regulation is giving us or the qualified side is giving 
22   us more of an acceptable loss of capital investment is 
23   because there could be a portion that we're not 
24   capturing, but it's not the portion that is speaking up, 
25   it's not the portion that's writing in.  And it's just a 
0051
 1   different thought on it, and I just wanted to share that. 
 2             MR. GRAHAM:  Thank you.   
 3             Laura. 
 4             MS. YAMANAKA:  Well, actually, yeah, you've got 
 5   to weigh in early because everybody says great things 
 6   here.  But as to why, I have a different perspective why 
 7   we're here.  We're here, in my opinion, to protect and 
 8   encourage and increase the greatest capital system in the 
 9   world right now, right, with all our faults, with all our 
10   issues, with all our complaints.    
11             And when I look at that, although I respect 
12   stability -- hey, I'm an accountant, right?  You know, 
13   our goal is stability.  On the other hand, to some other 
14   people's points, are we missing out on an opportunity for 
15   capital formation that has grown tremendously?   
16             So if I look at the infrastructure that we've 
17   put into place for public corporations with the SEC 
18   reporting, that's huge.  We've got another segment of the 
19   population or our business that has grown to be a 
20   comparable size and kind of -- it appears to me that the 
21   regulation process is not supported, frankly, on the same 
22   level as far as infrastructure support.  We don't know, I 
23   think, about the fraud because we don't look at it, we 
24   don't have the mechanisms in place to identify it. 
25             I'm going to throw a qualitative statement in 
0052
 1   there.  I work with some of these clients.  When I was -- 
 2   when I worked for large corporations that were SEC 
 3   reported, things went like a top.  You didn't have to 
 4   address many of the issues that you do when you're first 
 5   starting and taking clients through that process of 
 6   beginning to become more formal, having to register, 
 7   having to do things differently.   
 8             So I would suspect -- and this is just 
 9   qualitative -- that once we start to have an equal level 
10   of examination that perhaps there is a little bit -- I'd 
11   be surprised if there weren't more, frankly, let's say 
12   educational opportunities that could borderline onto 
13   aggressive types of reporting.  I think in the past it's 
14   been okay because we've had a limited pool of investors.  
15             But that brings back to the point of 
16   Commissioner Piwowar that was saying are we in a way 
17   limiting then the general population to participate in 
18   the growth of the economy?  So as we push our people more 
19   into retirement to rely less on governmental assistance, 
20   defined contribution or defined retirement plans from 
21   large corporations, they are being forced to go to other 
22   avenues of investments, which I'm not disagreeing with.   
23             But by conceptually if we're limiting that 
24   population not to have access to this, are we in essence 
25   limiting their future and their retirement also?  So 
0053
 1   these are just a couple of questions that I have, one on 
 2   throwing it out there to think -- for people to think 
 3   about as far as what our greater purpose it, and then, 
 4   two, I really wish we could get some additional data on 
 5   the fraud.   
 6             I also suspect we don't hear about it as much 
 7   because when those businesses go under, it's less 
 8   spectacular.  It might be regionally of interest, but 
 9   it's much more notable when you have an Enron or 
10   executive life or something else in that case. 
11             MR. GRAHAM:  And to your point, what's to 
12   prevent the unsophisticated investor from buying Enron 
13   stock? 
14             MS. YAMANAKA:  Yeah, you're absolutely -- well, 
15   absolutely. 
16             MR. GRAHAM:  I think like Mark was saying I 
17   think, a fool and his money will soon be separated.  We 
18   don't need to --  
19             MS. YAMANAKA:  And I think we have to accept a 
20   certain -- I mean we all have to accept a certain amount 
21   of risk, right?  And in reality unless we close it down 
22   absolutely, we are going to have those situations in my 
23   mind.  But that's my opinion. 
24             MR. GRAHAM:  Annemarie. 
25             MS. TIERNEY:  I actually echo Laura's comments 
0054
 1   also.  One of my thoughts was that we see the data that 
 2   public market returns are just not where they were in 
 3   1982.  Probably in 1982 if you invested in a public 
 4   company, you could expect a pretty substantial return 
 5   over the life of your investment.  Those dynamic is 
 6   changing now.  The real returns in investment seem to be 
 7   in the private company space as opposed to the public 
 8   company space.   
 9             And I also had the exact same point in my 
10   brain, Laura, which is that significant numbers of U.S. 
11   investors are not going to be getting a pension when they 
12   retire.  We're going to be relying on our 401(k)s, we're 
13   going to be relying on our portfolios.  And if the most 
14   significant access to return is in the private company 
15   space, why would we limit that opportunity.   
16             I really react very badly to the idea of a 
17   dollar investment limit.  We've already imposed that in 
18   Reg A and Crowdfunding.  You're protecting people against 
19   loss as opposed to protecting people against fraud, which 
20   I don't think is the best way for the market to be 
21   developing.  I don't need somebody to say to me you can 
22   only invest this much in an opportunity that I really 
23   believe is right for me in my own specific circumstances 
24   with my own specific risk tolerance.   
25             I don't that at the SEC you should be imposing 
0055
 1   suitability on investors as a general rulemaking 
 2   endeavor.  I think it should be up to investors to make 
 3   those decisions for themselves.  And over the last 10 
 4   years we've been limiting those opportunities and those 
 5   choices for U.S. investors, which I just don't think 
 6   there's a basis for.   
 7             And I would like to understand:  Is there data 
 8   that shows that it's more risky to invest in a Reg D 
 9   offering than in the public markets?   
10             Commissioner Stein, you referred to the 
11   implosion of the markets for housing prices and the 
12   public markets, but that was hosing prices in the public 
13   markets.  People lost trillions of dollars of wealth in 
14   the public markets.  I don't know what the data looks 
15   like in the private space, but that would be something 
16   I'd be really interested in learning. 
17             COMMISSIONER STEIN:  I think they lost it every 
18   during the --  
19             MS. TIERNEY:  I think you're right. 
20             COMMISSIONER STEIN: -- financial crisis just 
21   for the record.  Anecdotal at this point.  But can I just 
22   say one thing?  I think one of the things -- maybe this 
23   is being securities geek -- is I go back before 1982 to 
24   the '33 Act and the '34 Act, right, which are sort of 
25   foundational here for how we thought about how to protect 
0056
 1   investors and improve capital formation after the Great 
 2   Depression.   
 3             So there was a huge amount of fraud.  It was 
 4   all done in private offerings.  So the idea was to 
 5   improve disclosure, to allow investors to have certain 
 6   basic information they could rely on, whether it was 
 7   audited financials or other required disclosures, and 
 8   they would be able to compare investments.  So they'd be 
 9   apples to apples. 
10             So if you go back to those acts, both of them 
11   severely restricted the ability to do a private offering. 
12    You could do an offering with 15 of your closest wealthy 
13   friends, and that was sort of the only way to get out of 
14   the disclosure requirements of the '33 Act in particular. 
15             Going forward, go to 1982 -- but the subsequent 
16   years you have the '40 Act, which is mutual fund 
17   protections and thinking through things, again, in a 
18   different way because of problems in the marketplace, 
19   still very firmly based on disclosure.  We get to '82, 
20   and we're basically saying, again, it's a new world, 
21   we're going to open up the ability to have more of these 
22   unregistered offerings, so you don't have to submit 
23   paperwork to the Securities and Exchange Commission.  It 
24   doesn't have to be in the same form, so investors compare 
25   apples to apples, and you're going to be providing it 
0057
 1   people who can rely on -- who are sophisticated enough to 
 2   decide whether to part with their money based on the 
 3   information that is being provided.   
 4             We go on down the line, we have private equity, 
 5   we have venture capital, we have all these wonderful 
 6   things happening in the marketplace.  But I think one of 
 7   the underlying issues is -- and I hear it over and over 
 8   even from the very sophisticated players is sometimes 
 9   it's hard to demand and get the information you need to 
10   make the investment.  It depends on your leverage so to 
11   speak as an investor about whether or not you can get the 
12   information you need.   
13             So I guess I would reframe this.  In my mind we 
14   have a growing private market.  It is now bigger than the 
15   public market.  I think there are issues about how is 
16   that affecting price discovery and the public marketplace 
17   if we're having more and more happen in the private 
18   space.  And if more and more is happening in the private 
19   space, maybe that's okay.  But what type of disclosures 
20   or information should be required to sophisticated, 
21   accredited players or the less accredited players?  We're 
22   talking retail investors.   
23             So I think we have this -- we've been using 
24   this accredited investor standard as a gateway for 
25   whether you get to invest in the private market or the 
0058
 1   public market.  Maybe that's not the right gate.   
 2             But I think the bigger issue from a conceptual 
 3   standpoint is this divide between private and public and 
 4   what does it mean for the private marketplace if it's -- 
 5   you know, it's easier to get money through the private 
 6   than the public.  What does it mean for the public?  And 
 7   do we need a different conception now eighty years more 
 8   than that after the Great Depression.   
 9             So I think that, again, securities geek, but 
10   sort of framing it differently is these are all part of 
11   the same continuum of capital raising and the world is 
12   changing and we're being disrupted as everybody knows in 
13   this room, but I think we have to think through both 
14   sides of the equation, the private and the public and how 
15   we help investors make the best decisions they can to 
16   take on as much risk as they might be willing to take on.  
17             But we have these different tools in our 
18   toolbox for investor protection and how should we use 
19   them in 2016 and beyond?  So that's -- again, I think it 
20   goes back pre-1982, severely limiting access to private 
21   offerings, starting to open that up, using this 
22   definition as the gateway whether it's the right one or 
23   not.  And where are we now in 2016? 
24             MR. GRAHAM:  So, Commissioner, are you asking a 
25   different question of -- are you asking whether we should 
0059
 1   be focused on disclosure as opposed to a definition --  
 2             COMMISSIONER STEIN:  No, I guess I'm saying as 
 3   we talk about the definition in the private space, it 
 4   very much implicates the public as well, and I think we 
 5   need to actually be thinking about both, you as a 
 6   committee, us as a Commission. 
 7             (Off-mic comment.) 
 8             MR. GRAHAM:  Okay.  And I think some -- okay.  
 9   Let's -- one, two, three. 
10             MS. KASSAN:  Thank you.  I just wanted to 
11   mention we haven't talked about rule 504.  I have -- I'm 
12   an attorney and I have clients that are fairly small 
13   raising a few hundred thousand.  And they use Rule 504 
14   and then they do state-level compliance.  So, for 
15   example, in California, you can have up to 35 
16   unaccredited investors.   
17             So I think that's another interesting question: 
18    Why is it that if the issuer's only raising a million 
19   you actually don't have to be accredited to invest.  So 
20   it would be interesting to see, you know, look at some of 
21   the 504 offerings and see if there's -- what the data is 
22   on the unaccredited investors that are investing in 
23   those.   
24             And then I also have a question, which is:  Has 
25   there been any consideration of the issuer or the 
0060
 1   offering side when talking about accreditation?  You 
 2   know, maybe there's a different standard for different 
 3   types of issuers or different types of offerings.  I feel 
 4   like there may be certain areas -- certain types of 
 5   issuers or offerings where fraud may be more likely, 
 6   where maybe you have a higher standard.  So there's a lot 
 7   of discussion about the investor, but I'm just wondering 
 8   if there's been any consideration of the other side in 
 9   terms of throwing that into the mix of the definition. 
10             MR. SEAMAN:  So in the report we do talk a 
11   little bit about that idea in terms of whether the 
12   definition should be tailored in different ways and based 
13   on the type of issuer is one of the things that the 
14   report does address and talks about.  But at the end of 
15   the day, none of the recommendations that were set out in 
16   the report actually recommended the Commission consider 
17   doing that.   
18             And I think that speaking personally like 
19   possibly one of the reasons was that would just 
20   complicate the definition in potentially a way that would 
21   make it a little bit more unwieldy than it is currently. 
22             MR. GOMEZ:  And, Jenny, anecdotally -- here, 
23   Sebastian.  The echo in this room, sometimes it's hard to 
24   figure out where it's coming from.  Anecdotally I think 
25   we've also heard from people mentioning how they would 
0061
 1   view it differently.  Some people have said, well, if 
 2   you're invested in a hedge fund, your risk is going to be 
 3   a lot less.  Therefore maybe the standard should be 
 4   different if your investment is in a hedge fund.   
 5             Some people have taken the opposite view and 
 6   says, well, why trust your money to the hedge fund, 
 7   instead the risk would be less if you actually can meet 
 8   with the people at the company and understand their 
 9   business.  And so I think while the idea had been 
10   mentioned, at the same time I think a lot of people 
11   differ onto how they would apply it and they would come 
12   up at different answers based on the way they look at it. 
13             And it's not necessarily pointing to one type 
14   of issuer and saying these issuers can deal with a light 
15   accredited investor versus a heavier accredited investor. 
16             MR. GRAHAM:  Yes. 
17             MR. GUTIERREZ:  So, first of all, appreciate 
18   this conversation.  I really wanted to make three 
19   comments.  The first is that I do think it is important 
20   for us to review these types of things besides the fact 
21   that it's mandated by Dodd-Frank, I think it's important 
22   for us to take a look at this periodically to see if we 
23   are actually answering the right question. 
24             The second comment is as I was reading the 
25   report, the recommendations, it felt as if there was this 
0062
 1   connection and this correlation of you have more 
 2   investors, and thus you have a bigger problem, which I 
 3   had an issue with.  I don't believe that that correlation 
 4   should be there, and I think it should be closer to a 
 5   reexamination of the issue of are we getting the proper 
 6   disclosures within Reg D and dealing more with the 
 7   issuers rather than with the investors on this problem.   
 8             The final comment I wanted to make is I wanted 
 9   to bring sort of our or my perspective of dealing with 
10   small business owners, right, that quite frankly would 
11   not qualify under these new qualifications.  However, 
12   they are incredibly sophisticated.  They may be 
13   incredibly sophisticated in those industries in which 
14   they'd like to put money out.  And so from the 
15   perspective of these millions of small business owners 
16   changing the rules on them would actually be incredibly 
17   limiting.   
18             And I really would like for us to keep that in 
19   mind as to who exactly we're talking about when we're 
20   talking about investors.  You have this incredibly robust 
21   small business community led by business owners and 
22   changes that would limit their opportunity I think would 
23   be very hard-pressed for me to be supportive of.  So 
24   thank you. 
25             MR. GRAHAM:  Thank you.   
0063
 1             Was it Robert or Brian? 
 2             MR. HAHN:  So I work for a biotech company that 
 3   operated as a private company for 11 years before we went 
 4   public.  Several times a year we present our data at 
 5   different scientific meetings, and we've been approached 
 6   by people in the field, by scientists who are very 
 7   excited about our novel approach to drug development and 
 8   wanted to invest in the company.  But as a private 
 9   company, they didn't qualify, they weren't able to.  
10   Biotech companies fail because of bad science, usually 
11   not fraud.   
12             We're -- and in the biotech industry we're very 
13   open to expanding.  Even to Commissioner Piwowar's 
14   recommendation or comments about getting rid of limits, 
15   if we keep the limits, either reduce them or come up with 
16   some other way to expand this pool. 
17             One of the reasons we went public was because 
18   of lack of options for funding as a private company.  And 
19   a lot of times we were permanently -- we were actually 
20   all VC-backed and a lot of times with our three rounds of 
21   VC funding, you're beholden to the VC to dictate the 
22   valuation and the term sheets.  And I think there's a 
23   bigger pool of investors, that would actually help small 
24   companies determine the true value of the company instead 
25   of just having it dictated to you. 
0064
 1             MR. GRAHAM:  Robert, did you -- okay.   
 2             Patrick.  
 3             MR. REARDON:  Thank you.  I've got a comment 
 4   letter on file on this, and so I'm not going to repeat 
 5   what's in there.  But, Commissioner Stein, I think 
 6   there's two issues here.  One is disclosure material 
 7   information and -- with which I vigorously agree that 
 8   anybody who makes a private placement investment needs to 
 9   have all material information in front of them and that 
10   that is essential.  And there's no dispute from me that 
11   they need that, that that's important.  That's just a 
12   rule you play by.  If you're going to sell securities, 
13   you have to disclose all material information, 10(b)5.   
14             So the other side is do you prevent fraud.  And 
15   if -- my experience has been that all the rules in the 
16   world are not going to prevent crooks from being crooks. 
17    So are you fixing something -- do you fall into the trap 
18   of fixing something that you can't fix?  In other words, 
19   are we trying to prevent fraud here?  I'd like to.  I'd 
20   like that there would be something we could write on this 
21   piece of paper that says -- that would prevent fraud, but 
22   I'm afraid that's ineffective.  I think what you're doing 
23   is you're burdening honest people with trying to deal 
24   with crooks. 
25             The crooks have to be dealt with by 
0065
 1   enforcement, and I'm all in favor of vigorous 
 2   enforcement.  Kick their butts.  I'm from a state that 
 3   once sent a securities violator to prison for life 
 4   because that was his third offense and he was a three-
 5   time loser.  So he went to jail for life for securities 
 6   fraud.  And there's no regret on my part about that.   
 7             So that -- and I don't mean to disagree with 
 8   you, and I hope -- I mean I think fraud is -- and you've 
 9   got a tremendous budget here for fraud, plus you've got 
10   the 50 states chasing fraud.  So -- plus private 
11   litigation.  That, to me, is an issue.   
12             Chair White, you gave a speech at the end of 
13   March in the Silicon Valley that was very interesting.  
14   And I think that one of the --  
15             CHAIR WHITE:  I barely got out alive just so 
16   you know. 
17             MR. REARDON:  Oh, you barely got out alive?  
18   Well --  
19             CHAIR WHITE:  I did, though. 
20             MR. REARDON:  Well, I'm glad you did.  We're 
21   happy to have you back.  And in that speech you were 
22   talking about that the -- all this money has flowed into 
23   the private sector and that it's not subject to the 
24   scrutiny that it gets in a public offering.  And I agree 
25   with that.   
0066
 1             And funny thing, I call around and talk to 
 2   clients and friends I have in business where I come to 
 3   these meetings because they all -- every once in a while 
 4   they give me a nugget of something.  And I was talking to 
 5   a man who had been a CFO of a private company.  And he 
 6   said, "Yeah, I remember S-16," that form which was the 
 7   simplified form for public offerings under $1 and a half 
 8   million.  Was that right?  I can't -- it was a very small 
 9   amount.   
10             Well, we have gone a long way from that.  And I 
11   look back and I'm -- maybe my perspective is different 
12   than some people, but I look back and I look at like 
13   Sarbanes-Oxley, I look at Dodd-Frank, I look at other 
14   things, and I see that the takeaway that I have is that 
15   money runs away from overregulation.  Okay?  So the risk 
16   we run in the private sector is if we overregulate, it 
17   will go somewhere else, which means offshore.  And we'll 
18   have other people investing.   
19             Now do I think this one step is going to do 
20   that?  No.  But I think somewhere in the back of your 
21   mind you've got to be saying we have to balance here what 
22   we're going to do and put it in some sort of perspective. 
23    The one thing I'd like to see is for it to be easier to 
24   do public offerings once again.  If money's running away 
25   from the public sector, have we overregulated that?   
0067
 1             And I understand there are a lot of -- Congress 
 2   has done a lot of this, and you've got to do what 
 3   Congress tells you to do, but -- and that's another 
 4   discussion.  But you're the only three people in this 
 5   room that can think about that because this is really a 
 6   policy decision.   
 7             But I'll just raise that question and say we've 
 8   -- somewhere there's a balance out there and two tree -- 
 9   that's a forest comment.  Two or three tree comments.  
10   One is that remember that net worth requirements and 
11   income requirements discriminate against geographic 
12   areas, that if you are -- have highly rural areas, you're 
13   going to have fewer accredited investors in those areas. 
14    And companies tend to invest or tend to get their 
15   investors from people in their neighborhoods.  So you're 
16   precluding that.   
17             The other thing to keep in mind is that higher 
18   standards also discriminate against socioeconomics.  And 
19   I'll tell a quick story.  I once had a -- excuse me, I 
20   once had a client come in to me, and he had a widget.  
21   And this man misused words and very limited formal 
22   education and -- but I like take these on kind of with 
23   the -- sometimes because if they're interesting, I always 
24   think that the airplane was invented by two bicycle 
25   mechanics from Dayton, Ohio.  So it wasn't a bunch of 
0068
 1   guys from MIT.   
 2             And -- but -- so I took him on, and I told him, 
 3   well, here's some names, call some people and get going 
 4   on your widget.  And he comes back and not the names I 
 5   gave him, he comes back with two fellas who told him, 
 6   well, we're going to get professional athletes to invest 
 7   in your deal.  Not a good sign.  And nor can you contact 
 8   the professional athletes, you're not allowed to talk to 
 9   them.   
10             And so he's all excited about this, and there 
11   are some other signs that this is bad.  And I said these 
12   -- this is not good.  These signs are not good.  I'm 
13   afraid they're going to take you.  And I didn't know how 
14   they were going to take him, but he was getting set up.   
15             And so the client just wouldn't -- I was saying 
16   there was no Santa Claus, and he was saying there is a 
17   Santa Claus.  And finally at the end of the conversation, 
18   "Mr. Reardon, you're fired," which was okay with me 
19   because if I couldn't convince him that he was going to 
20   get taken, then he needed to go to the cleaners without 
21   me.   
22             And -- but those are the kind of people, they 
23   don't know a lot of accredited investors.  They don't -- 
24   the people -- they are all working people that they 
25   associate with and the higher you make the standard, the 
0069
 1   harder it is for that guy, assuming he gets a good 
 2   investor, to go out and get good investors.  And the 
 3   airplane was invented by some mechanics in Dayton, Ohio.  
 4             So, anyway, I would also say that net worth 
 5   versus -- excuse me.  I feel like Marco Rubio.  Net worth 
 6   and income standards versus amount invested, those are -- 
 7   that is what in Texas we call messing in your chili.  
 8   Then you get into what everybody's net worth is or income 
 9   and that gets into a bunch of things that people don't 
10   want you looking at.  And I'd be careful about that.  And 
11   I think those are my comments. 
12             MR. GRAHAM:  Thank you, Patrick. 
13             Greg. 
14             MR. YADLEY:  If I had any sense, I'd let 
15   somebody else go after Patrick, but I'm -- I think, first 
16   of all, I'd like to thank the chair and the two 
17   commissioners for being here so long with us and 
18   listening attentively because I think what we all agree 
19   on is -- and the history review that Commissioner Stein 
20   gave us instructive -- the world has changed immensely 
21   and this private-public dichotomy that we go back and 
22   forth on helps inform us about what we should do except 
23   that there's so many things now and the Commission should 
24   be commended for experimenting sometimes with 
25   congressional prodding, which is sometimes not helpful.   
0070
 1             But crowdfunding will change some of these 
 2   things that we've taken for granted.  506(c), which is 
 3   not being used that much yet, when it does that will 
 4   change things.  But a couple of observations and back to 
 5   what I said earlier that disclosure is the key.  But 
 6   disclosure is really sunshine, in the words of the 
 7   Supreme Court justice, being the great disinfectant.  
 8   It's not that investors -- retail investors read 10-Ks 
 9   and annual reports or that analysts read all of them 
10   either.   
11             But the fact of the matter is the disclosure 
12   standard is very high and it's very general, and that has 
13   worked pretty well because it forces people to think 
14   about what you want to say about your company and your 
15   investment and the with encouragement of forward-looking 
16   statements which is a relatively new phenomenon, what 
17   will happen in the future.  And so now it's out there, 
18   and you have to stand behind it.  And that's been very 
19   important for investors whether they read it or not.  
20             But the public or the private markets have also 
21   been gatekeepers of sorts, and 506(b), while it was 
22   restrictive in that you could only approach people that 
23   you knew and not everybody quite understands what general 
24   solicitation is because it's not defined, but in essence, 
25   people did invest, particularly in smaller offerings with 
0071
 1   growing companies with somebody they knew.   
 2             Back to what many of us have said, if 
 3   somebody's a crook, there's nothing you can do about it. 
 4    But if somebody is an honest business person, their 
 5   money is invested in their business.  In fact, their 
 6   entire net worth is invested in that business.  And, 
 7   yeah, they're out soliciting money and all the 
 8   gazillionaires, from Zuckerberg to Gates to everyone 
 9   else, they dedicated themselves to their business and 
10   people trusted them, the idea and the management.  So 
11   that's one thing that has helped us conclude on this 
12   committee that we don't see that much fraud out there, 
13   people dealing with people they know. 
14             The second thing is I'm in the middle of 
15   selling a very successful private company that started 18 
16   years ago, and it was going to be a company that grew and 
17   was sold within seven years.  All the investors were 
18   individual investors, the management group had had public 
19   company experience and venture experience.   
20             And based on the fact that this had more risk 
21   than other deals they'd done, they said, "We're only 
22   going to have individuals who can make their own 
23   decisions about us, not funds where people have somebody 
24   else's money."  So it's taken us this long to get to a 
25   sale.   
0072
 1             The observation of the chairman yesterday as 
 2   we're trying to get this deal across the transom is it 
 3   was much easier to sell the two public companies we 
 4   started, and that's true because all the information was 
 5   out there.  The reason it's harder to sell a private 
 6   company, as we all know, is private equity is the name of 
 7   the game.  And private equity people do due diligence.  
 8   They hire accountants, they hire lawyers, and the 
 9   standard is very, very high.  It's their money that 
10   they're responsible for and their carried interests and 
11   everything else.   
12             And as companies go through more and more 
13   private equity stages before they finally go public, 
14   investors have that same ability to make a decision on 
15   the management team and on the prospects -- and this has 
16   been self-regulating.  The private equity groups decide 
17   what to look for, they get the information they need, and 
18   when I was a younger lawyer I had no opportunity to 
19   invest in these funds, because, A, I didn't have the 
20   money like Kyle, and, B, the minimum investment was more 
21   than I could have had and certainly more than the 
22   investment limitations that we would put on -- some of 
23   the limitations that people have suggested.   
24             But over time -- and I lost money in my very 
25   first private deal, and that was instructive, too, 
0073
 1   because it made me a little more cautious the second 
 2   time.  Diversification is clearly the key because even 
 3   these private equity investors and venture capitalists 
 4   hit on one or two out of ten.  
 5             So the system is working now and it is self-
 6   regulating and I think we should encourage it and we 
 7   should, as this committee's mandate is is to look for 
 8   other ways to promote public companies because the one 
 9   thing that the private companies do not have today is 
10   liquidity.  And no matter how bad a public company may 
11   stumble, you can make the decision to sell your stock now 
12   or hold it.  And with a private company you can't.   
13             So -- and I guess that's probably the answer to 
14   Steve's first discussion is we're studying this not 
15   because there's a problem.  I agree with you.  I don't 
16   think there's a problem.  But with all these changes, 
17   maybe we're not letting enough people in and we need to 
18   be careful about it.  So thanks. 
19             MR. GRAHAM:  Yes. 
20             CHAIR WHITE:  Just a couple of comments.  I 
21   mean obviously the SEC comes from sort of the -- one of 
22   its main, core purposes obviously to protect investors, 
23   how do you best do that.  And I certainly take the points 
24   of you're going to have fraud and it's going to be out 
25   there and how do you best sort of -- how do you prevent 
0074
 1   it and do you prevent it.   
 2             The questions about is there more or less fraud 
 3   in the private markets, in the Reg D markets than in the 
 4   public markets, press our folks this afternoon I urge you 
 5   on that, our Enforcement people who will be here.  I took 
 6   advantage of my Blackberry to email them to tell them 
 7   that question had indeed come up.  I had to send four or 
 8   five to get what I think may be -- but I think what -- 
 9   yeah, I mean a couple points on that.  I mean, one, I 
10   think you will hear I think from them a sense -- and I 
11   said there's a sense and then there's data.   
12             And the data is hard to come by, I mean in a 
13   reliable way.  There's sense that there is more fraud in 
14   the private markets than the public markets.  Press them 
15   on that.  I mean and the data isn't what you'd want it to 
16   be.  The other thing I would just comment on that is that 
17   I mean when we obviously did the lifting the ban on 
18   general solicitation obviously rightly so, lots of 
19   concerns about is this really going to be a huge uptick 
20   in fraud and lots of harm to investors.   
21             So what we've -- I figure we've done on all 
22   these new changes to some degree -- and I hope it pans 
23   out, I sort of referred to it in my remarks -- but is to 
24   try to monitor out the gates how these new spaces are 
25   working, not wait three years and say how much capital 
0075
 1   got raised, how much of it was moved from one method to 
 2   another and is there fraud out there, are there other 
 3   rule violations harming investors.  And you'll hear, 
 4   again, this afternoon -- I don't want to steal all their 
 5   thunder about 506(c), although we've talked to you about 
 6   it before.   
 7             And it's -- I think the sample's not big enough 
 8   yet and that has other issues in it.  But I think we've 
 9   not seen yet and hopefully will not a real uptick in 
10   fraud in that space yet.  So it's something -- but we're 
11   trying to watch it as it sort of comes out of the gates.  
12             To go to Patrick's point about sort of public-
13   private, I mean I do think we have a responsibility in 
14   the public markets obviously to protect investors and 
15   we've been at that for many, many years, but also to make 
16   our rules workable in the public sector as well.  I mean 
17   that's part of our responsibility, too, and we're very 
18   focused on that.  I mean so none of this is very easy, 
19   but, anyway, I appreciate the conversation tremendously. 
20    It's been terrific. 
21             MR. GRAHAM:  Kyle. 
22             MR. HAUPTMAN:  If I could ask you guys a 
23   question, to Commissioner Stein's point about things 
24   changed since 1933 and 1940, the amount of financial risk 
25   that our government's allow Americans to take has gone up 
0076
 1   considerably, but sometimes in negative return ways, by 
 2   which I mean the 48 states that have a lottery -- Hawaii 
 3   and Utah if you're interested don't.  Over 40 states have 
 4   casino gambling.  So I think I know Commissioner 
 5   Piwowar's view on this because he stated it earlier.   
 6             But to Chair White and to Commissioner Stein, 
 7   so as a non-accredited investor, a thousand dollars 
 8   Powerball tickets, a thousand dollars on a blackjack 
 9   table, a thousand dollars to an American entrepreneur, 
10   the only one of those that I should be arrested for is 
11   the last one?   
12             CHAIR WHITE:  I don't think you'd get arrested, 
13   at least not by the SEC. 
14             MR. HAUPTMAN:  The one of those I am --  
15             CHAIR WHITE:  The issuer might have a problem.  
16             MR. HAUPTMAN:  Yeah, the only one of those I am 
17   prohibited from doing is the final one.  Is that correct? 
18             CHAIR WHITE:  Yes.  One other comment, and I 
19   think this goes to maybe Lisa's comment about when you're 
20   basically thinking of what's the purpose of the 
21   accredited investor definition in terms of protecting 
22   investors and you want to sort of define the universe as 
23   to those who can fend for themselves, what does that mean 
24   and does it have an element of protecting a certain -- 
25   and, again, I understand the philosophical discussions on 
0077
 1   this -- certain investors against loss as opposed to 
 2   protecting just against fraud.   
 3             And so both of those concepts are inherent in 
 4   the discussion and analysis and further debate on 
 5   accredited investor.  If a certain amount of fraud is 
 6   inevitable, we all don't want any fraud.  Obviously you 
 7   may not have fraud if you're not, Kyle, in that 
 8   investment that happened to have fraud in it.  So I'm not 
 9   asking you to thank us or anything, but I mean -- I just 
10   mean it's got a lot of vectors I think. 
11             MR. GOMEZ:  And if I may just to add a little 
12   star to Kyle's point, I think, Kyle, it depends on what 
13   exemption the issuer's relying on, and I think it would 
14   be interesting to hear the views of the Commission as to 
15   how the requirements of different exemptions limit who 
16   can participate.  If Kyle was investing a thousand 
17   dollars in an exempt offering done pursuant to Regulation 
18   A, the issuer would have no problem.   
19             If Kyle was investing a thousand dollars in an 
20   issuer that it's using the new crowdfunding rules, again, 
21   no problem.  If you go to 506(b) or 506(c), then there 
22   could be a problem under -- well, there definitely would 
23   be a problem under (c) and under (b) it would depend 
24   whether you're sophisticated or not and fit within one of 
25   the 35.   
0078
 1             So I think one interesting thing when -- it 
 2   seems like a lot of the conversation today has focused on 
 3   accredited investors, private and that's the only way to 
 4   invest.  There's different exemptions that permit non-
 5   accredited investors to invest.  So is there a difference 
 6   between the exemptions?  And, if so, do those differences 
 7   actually highlight for us some of the factors we need to 
 8   think about in determining whether someone should invest 
 9   in a 506(c) offering or not. 
10             MR. GRAHAM:  Well, that's kind of a complicated 
11   question or a number of complicated questions are 
12   embedded in what you just said, Sebastian. 
13             MR. GOMEZ:  I trust that the committee will be 
14   able to peel the different layers of the onion. 
15             MR. GRAHAM:  We most certainly can, but I'm not 
16   sure if we have that much time.  But -- and in partial 
17   response you don't have the Facebooks of the world, for 
18   example, doing Reg A offerings.  A lot of the real 
19   opportunities are going -- are not going to be in the 
20   deals that -- where they're only trying to raise a half a 
21   million bucks.  I mean there's a lot more to that, but 
22   that's one thought that comes to mind.   
23             Catherine. 
24             MS. MOTT:  One of the things I wanted to say, I 
25   wanted to piggyback on what Greg and Patrick were saying, 
0079
 1   was that in many cases we are your enforcers.  So if I 
 2   could give some examples, one, we were on the board of a 
 3   -- this is my angel group -- on the board of a company 
 4   where the CEO was having the company pay his Jaguar 
 5   monthly payment.  Of course because there was board 
 6   oversight, the CEO was fired, and we brought in another 
 7   CEO who was -- successfully ran the company.   
 8             So to some extent, we are your enforcers.  I 
 9   mean the reason -- you know, I think Patrick was saying 
10   these are your neighbors.  We drive by and make sure the 
11   lights are on, there's cars in the parking lot.  You 
12   know, there's -- I mean we make sure that the issuer is 
13   of good standing.  We do the background checks.   
14             But not only do we do the background checks, a 
15   lot of times you know this CEO, you know them.  They're 
16   spinning out of the university and they work for the 
17   university and we know how much NIH money they got or -- 
18   I mean there's just so much you know about them.   
19             And the other piece I would say to this is it's 
20   the attorneys they work with.  Even the attorney that 
21   represents us, when they're -- when the issuer is working 
22   with an attorney that's a rather novice in the securities 
23   business, my attorney's helping that attorney to get it 
24   right.  So there's a lot of this -- just like Patrick was 
25   trying to help that potential client to get it right.  So 
0080
 1   to a lot of extent, we are your enforcers. 
 2             MR. GRAHAM:  Mark.  And I don't know what 
 3   you're about to say, but one question that I did want to 
 4   come back to you on was you seemed to toss out the idea 
 5   that maybe we should be thinking about eliminating this 
 6   concept altogether.  And if I heard you right then, I 
 7   would like to kind of hear your ideas for what you might 
 8   do in its place if anything. 
 9             MR. WALSH:  Far from being a libertarian, which 
10   I am not, I just -- I think we might step back.  It 
11   strikes me that this organization is in the business of 
12   protecting individual investors from corporate 
13   misbehavior.  That's regulation.  I think this specific 
14   thing we're talking about today is protecting individual 
15   investors from their own misbehavior.  And I'm not sure 
16   that those two actually coexist in a very convenient way.  
17             So philosophically I then say to myself if the 
18   SEC is in the business of protecting individual investors 
19   from corporate misbehavior, why is limiting individual 
20   "misbehavior" under its rubric.   
21             As an example, if the janitor at Winthrop House 
22   at Harvard University who knew Mark Zuckerberg in 2006, 
23   had been offered in a correct and paperwork -- correctly 
24   paperworked way, a chance to buy into Facebook at a 
25   valuation of a million and a half dollars and that 
0081
 1   janitor was mandated to be below some ceiling that this 
 2   room put forth, could that janitor sue us for stopping 
 3   him from making a lot of money that he should have made 
 4   because he knew Mark and it worked out?   
 5             I think that this is an incredibly crass 
 6   example, but I'll give it.  My brother's a doctor, and he 
 7   once said that states that don't have helmet laws for 
 8   motorcycles are a self-correcting problem.  And what I 
 9   mean by that is to use some of the examples before, I 
10   believe that people that rashly find ways to waste their 
11   money are always going to find ways to waste their money.  
12             So when the SEC starts to creep into moving 
13   from protecting individual investors from corporate 
14   misbehavior into limiting individuals' behavior which is 
15   what this is about, I think we should reexamine the 
16   entire prospect of what this means.  And the final point 
17   I'll make is about information again.   
18             You talked about 1930 and 1982.  I believe you 
19   might as well be talking about 1830 and 1882.  I went to 
20   business school with Jeff Skilling of Enron.  In 1930 
21   Jeff Skilling could have committed crimes and then come 
22   back and reissued new paper two years later and no one 
23   would have known.  In maybe 1982 he almost could have 
24   pulled the same thing off.   
25             But I think there is virtually no chance of a 
0082
 1   serial misbehaver in the securities industry with today's 
 2   transparency, is able to commit the same types of 
 3   misdeeds that we saw in 1930 and 1982, and I think that 
 4   this transparency level that we all now experience as 
 5   citizens and business people is an important feature of 
 6   how I would ask that we reexamine the essence of this 
 7   whole rule. 
 8             MR. GRAHAM:  Thank you for that.   
 9             Please, please. 
10             CHAIR WHITE:  I was only going to say there are 
11   a lot of recidivists out there.  We see them every week 
12   in our calendar for cases.  So it's not -- it -- and 
13   that's sort of a continuous flow of data.  So I mean I 
14   don't think it -- I mean I think in -- clearly there's 
15   more information flow, clearly there's more transparency 
16   that may stop certain things from repeating themselves, 
17   but we see no want of repeaters. 
18             MR. YADLEY;  But just to add to that, of 
19   course, the bad actor limitations are now becoming 
20   pervasive and that's very salutary.  
21             MR. GRAHAM:  Commissioner Piwowar. 
22             COMMISSIONER PIWOWAR:  Yeah, I wanted to make -
23   - on a different topic.  So Sara mentioned that Swedish 
24   study and the fact that we don't have a lot of good data 
25   here in the United States, and that study is very 
0083
 1   informative in the fact that it shows that richer, better 
 2   educated households make better investment decisions.  
 3   And let's suppose for argument's sake, that that 
 4   translates into better outcomes.  Right?  And so what 
 5   that means is that for me it means that we need to invest 
 6   a lot in investor education to educate the less 
 7   sophisticated, maybe poorer, maybe less educated 
 8   individuals. 
 9             What it does not mean -- and this is a flaw 
10   that so many -- in logic that so many people in this town 
11   make all the time is that to then move to the argument 
12   that, well, because the less sophisticated people have 
13   worse outcomes than the more sophisticated people, we 
14   need to limit their investment opportunity set.  That's a 
15   completely irrelevant discussion comparison.   
16             The comparison that needs to be made, the 
17   thought experiment needs to be:  Would these less 
18   sophisticated individuals be better off with expanded 
19   opportunities -- investment opportunities set.  And I 
20   would argue that they would be based upon the portfolio 
21   diversification effects, all those sorts of things.  So 
22   keep that in mind and please don't make the same mistake 
23   that so many people in this town make. 
24             MR. GRAHAM:  Thank you.  
25             Michael. 
0084
 1             MR. PIECIAK:  Thank you very much.  I just had 
 2   a couple of points that I wanted to make to follow on 
 3   Chair White's comments and also Annemarie's comments from 
 4   earlier about risk.  Unfortunately, the states don't have 
 5   a comparison to say that one private market or public 
 6   market is more or less risky.  However, we do conduct an 
 7   annual enforcement survey by the states collecting data 
 8   that's not anecdotal but not sort of a hundred percent 
 9   obviously complete and reliable because it's a voluntary 
10   survey.   
11             But always ranking among the top in those 
12   surveys is 506 offerings.  Anecdotally in Vermont I know 
13   we spend a lot of time examining either 506 offerings or 
14   what would otherwise be private 506 offerings when we're 
15   talking about enforcement.  But at the end of the day, 
16   again, the data is not complete and it's not absolute.  
17   So I think it sort of ties back to this data issue.   
18             And also staying on the risk topic, I mean not 
19   just the regulatory risk but also the business risk of a 
20   business failing, of a startup not making it, whatever 
21   the sort of terminology is, I mean I think that's another 
22   component to consider in the 506 space, and I think it 
23   comes back to data again.   
24             In Vermont in our state-based crowdfunding 
25   regime, we require a post-effective or post-offering, I 
0085
 1   should say, filing that says how many investors invested, 
 2   how much they invested, was the offering successful.  I 
 3   think something along those lines would be useful in 
 4   terms of a data collection aspect for 506 as well. 
 5             MR. GRAHAM:  Okay.  Anyone else?  Well --  
 6             MR. WALSH:  Can I just -- I just -- one last 
 7   thing on the Swedish experiment if you don't mind.  It 
 8   just strikes me that many know this rap about in 
 9   economics the Arizona effect, which is the state of 
10   Arizona has the highest per capita incidents of emphysema 
11   of any state in America not because there's something in 
12   Arizona that causes emphysema, but everybody with 
13   emphysema is told by their doctor to move to a dry 
14   climate called Arizona.   
15             So the impact of the data is not necessarily 
16   correct.  And I wonder if in Sweden if the outcomes of 
17   more wealthy people have better financial outcomes is not 
18   due to because the sophistication of them, but the amount 
19   of advice they're able to afford.  So I think it you wrap 
20   advisors -- wealth people off and get -- to give them the 
21   good advice, their outcome is not a function of their 
22   personal sophistication but that the advice they're able 
23   to afford.   
24             And I wonder if to your point actually about 
25   education and information, that making it more available 
0086
 1   may, in fact, level the playing field of the advisory 
 2   level of that outcome as opposed to the personal 
 3   sophistication element of the outcome. 
 4             MR. GRAHAM:  Okay.  Thank you.  Well, we were 
 5   supposed to end at 11:30.  It just happens to be 11:30.  
 6   So thanks, everyone, for a very good discussion and we're 
 7   going to break for lunch.  But, first, I guess for 
 8   archival purposes, there will be a photograph taken of 
 9   this committee outside in five minutes on the steps.  All 
10   right.  Thank you.   
11             (Whereupon, a brief recess was taken.) 
12                A F T E R N O O N  S E S S I O N 
13             MR. GRAHAM:  Okay, why don't we get started? 
14             I'm going to turn this over to Sara.  But 
15   before I do that, I want to just kind of recap a little 
16   bit what we talked about this morning. 
17             And, you know, it seems to me, you know, where 
18   our discussion led us was pretty much to a confirmation 
19   of this committee's prior recommendations.  I think, you 
20   know, that with, you know, perhaps a need to underscore 
21   of how, you know, raising thresholds would discriminate 
22   against regions where the cost of living is lower and 
23   likely discriminate against women and minority 
24   entrepreneurs as well. 
25             I think we also -- there also seemed to be some 
0087
 1   consensus on expanding the definition of accredited 
 2   investor to cover nonfinancial measures.  I think 
 3   certainly I am supportive of the concept.  And as far as 
 4   specifics are concerned, I think that requires more 
 5   thought.  But certainly it was kind of intriguing to me 
 6   to -- you know, the part of our discussion that talked 
 7   about the way our current regime might be excluding 
 8   people that really should not be excluded, they're being 
 9   excluded unfairly. 
10             And so I think with these -- with coming up 
11   with different ways to qualify as accredited in the 
12   context of any given offering, I think it would be -- I 
13   think an objective should be to find a way to include 
14   those who we are currently robbing of opportunity, quote, 
15   unquote, for their own good. 
16             Does anyone have anything to add?  Greg. 
17             MR. YADLEY:  I think it's a good idea to 
18   restate what we did -- what we said last time, beginning 
19   with the do no harm.  And while I too am open to 
20   nonfinancial measures as additional criteria, not 
21   changing the current monetary thresholds except for a go-
22   forward inflation adjustment, I think we simply need to 
23   be cautious because simplicity is a virtue and the fact 
24   is that, right now, we have a definition that has worked 
25   well and has stood in as a proxy, whether it's the 
0088
 1   perfect one or not, for sophistication.  An element to 
 2   that is that, with some amount of wealth, someone is able 
 3   to hire someone to help work through whether a particular 
 4   investment is suitable. 
 5             I think, similarly, if we're going to look at 
 6   nonfinancial criteria, they should be simply understood 
 7   so that it will be easier for issuers to comply with 
 8   them.  And as the Chair said this morning, when we were 
 9   talking about data collection and making reasoned 
10   decisions based on hard facts or, as Sara said, metrics 
11   that are applicable to the situation, along with any 
12   revision to the rules, the -- to elicit information that 
13   the Commission Staff can use to see how it's working, 
14   starting at the time of implementation. 
15             MR. GRAHAM:  Thank you, Greg.  I would agree 
16   with that. 
17             Mark? 
18             MR. WALSH:  Just one other point I want to make 
19   about the dollar figure, since '82 is staying the same.  
20   I think it's an interesting point.  We talked about 
21   geography, with cost of living and stuff like that.  But 
22   I would also flip it and talk about what it takes to 
23   start a company, so the investment opportunities -- now, 
24   I'm particularly familiar with the technology space.  But 
25   in 1982, it took about $100 million to start a big 
0089
 1   technology company.  In 1992, it took about 50.  In 2002, 
 2   it took about 10.  Today, it probably takes about a 
 3   million dollars and you can have a successful e-commerce 
 4   or other technology oriented product or service or 
 5   successful company.   
 6             So the two vectors are almost matching each 
 7   other.  Which is, you know, the layer announced in '82 
 8   and set forth, but the structural need of capital for the 
 9   companies.  And I think the May 16 debut of the million 
10   dollars or less is a recognition.  And I applaud the SEC 
11   for this, that the amount of dollars it takes to be 
12   successful also is dropping. 
13             MR. GRAHAM:  Thank you.  Anyone else? 
14             What we will do is put together a draft 
15   recommendation, we will, and get it circulated to that 
16   everyone can take a look at it and we will put ourselves 
17   in a position to hopefully make another recommendation to 
18   the SEC within the next several weeks. 
19             I would anticipate that we would get a draft 
20   circulated -- actually, I have a telephone call.  We'll 
21   let you know.  Okay. 
22             So Sara, I want to turn it over to you. 
23             MS. HANKS:  Okay, so we are going to move on to 
24   the second topic for today. 
25             If you recall from our last meeting in 
0090
 1   February, a number of us asked for a discussion of the 
 2   definition of general solicitation, which is a continuing 
 3   uncertainty in the markets, and how it's impacting the 
 4   use of Regulation D.  And we came up with a number of 
 5   questions during the course of that. 
 6             So, for example, what can an issue do at a 
 7   venture fair?  What is an issuer allowed to do at a demo 
 8   day?  What is an issuer allowed to do in an elevator when 
 9   he comes across someone who looks like he might be a 
10   little bit accredited and he would like to pitch to him 
11   at the demo day?  And we all know this happens all the 
12   time. 
13             How does a company that starts out with a 
14   506(b) offering, that is the non-generally solicited 
15   version, make sure it doesn't trip up by suddenly making 
16   a general solicitation and therefore having to convert 
17   that offering into a generally solicited 506(c) meeting? 
18             And if you are doing a 506(c) offering, what's 
19   required to meet the reasonable steps to verify standard 
20   in the statute and the rule.  And I will note that we are 
21   hearing, anecdotally at least, a lot of folks who are 
22   saying reasonable steps to verify is too hard or too 
23   uncertain, or we just can't do it or we don't want to do 
24   it, and therefore some of those offerings are being 
25   structured either as 506(b) offerings or, even more 
0091
 1   restrictively, the counsel is dropping to a 4(a)(2) 
 2   private placement; we're not even going to rely on 
 3   Regulation D, we're not going to file any Reg D forms, 
 4   therefore leading to a lack of transparency for the 
 5   Commission to know what, in fact, is going on.  And those 
 6   deals are effectively going dark.  So that would be not 
 7   such a good thing. 
 8             The Division of Corporation has put out some 
 9   guidance in this space.  So we are going to hear from 
10   them today.  David Fredrickson is chief counsel of the 
11   Division of Corporation Finance.  He assumed that role in 
12   February of 2014, having served as assistant general 
13   counsel in the SEC's Office of General Counsel since 
14   1998.  David has advised the division and the Commission 
15   in the implementation of numerous rulemakings, including 
16   rules to implement Sarbanes-Oxley, Dodd-Frank and the 
17   JOBS Act. 
18             David's Office of Chief Counsel is one of the 
19   offices responsible for no action, interpretative and 
20   exemptive positions taken by the division on the 
21   securities registration process and exemptions from it.  
22   In this role, he has been actively involved in the 
23   Staff's guidance surrounding Reg D, 506(c) and what may 
24   or may not constitute general solicitation. 
25             David, we're very happy to have you here today. 
0092
 1    Thank you. 
 2             MR. FREDRICKSON:  Thanks very much for the 
 3   opportunity and the introduction.  Good afternoon, all. 
 4             I have stuff prepared but, obviously, if 
 5   there's something else you want to talk about, you know, 
 6   raise your hand and let me know and we'll talk about 
 7   whatever you'd like. 
 8             So we've been implementing 506(c) for the last 
 9   couple of years.  The first sets of questions were about 
10   reasonable steps to verify and the nature of the safe 
11   harbors that the Commission provided in the rule.  So a 
12   little over a year ago, we put out guidance, what we call 
13   CDIs.  And the basic thrust though of those was, to the 
14   extent that someone was outside the safe harbor, the 
15   Staff wasn't going to create new safe harbors, but 
16   encourage people to think, were you within the general 
17   principles that the Commission outlined in the release.  
18   And at least anecdotally, we've heard that that's given 
19   some people a little more encouragement to trust their 
20   judgment in determining that they can rely on the general 
21   principles and aren't looking to us for further safe 
22   harbors. 
23             The second set of inquiries that we got were 
24   around the nature of general solicitation.  It's somewhat 
25   ironic to us that the Congress and then the Commission 
0093
 1   allowed general solicitation and then it became a burning 
 2   question as to what it was.  And in the end, it is still 
 3   a factual matter.  But we, last August, put out further 
 4   CDIs to try to give some scope and contour to this area 
 5   that we hope gives guidance to practitioners. 
 6             And so in the first instance we, you know, 
 7   wanted to start with some clear statements that we still 
 8   think, based upon what the Commission has said, that to 
 9   the extent you are making an offer of securities on an 
10   unprotected Internet website, you're making a general 
11   solicitation.  We have seen those who try to have website 
12   -- password protected sites and other efforts to limit 
13   the nature, and we've given guidance in the past on that. 
14    But certainly if you are broadcasting through the 
15   Internet, that's a general solicitation. 
16             We also received a fair amount of question 
17   about some old guidance we'd given about having a 
18   substantive preexisting relationship.  The Staff for a 
19   number of years has said that, to the extent that you are 
20   making an offer to someone with whom you have a 
21   substantive preexisting relationship, you are not engaged 
22   in general solicitation.  Most of the Staff guidance in 
23   the past about such a relationship has involved broker 
24   dealers.  And so the first step that people asked was, 
25   well, what about registered investment advisers?  Well, 
0094
 1   that makes sense too.  They both are subject to certain 
 2   duties, regulatory oversight.  And so to the extent that 
 3   those professionals had a substantive preexisting 
 4   relationship, that was something that we would be 
 5   comfortable would suffice. 
 6             It gets more interesting and hard once you get 
 7   out of that, but certainly we didn't want to foreclose 
 8   that possibility.  We issued a no-action letter to 
 9   Citizens VC, which I will talk about the substance of 
10   which a little bit later.  But they were not registered 
11   in any capacity but they were offering a platform on the 
12   Internet to attract and qualify accredited investors.  
13   And then once they went through that process, then sort 
14   of opened the curtain and showed them particular 
15   offerings.  And we thought, you know, that they had put 
16   in place sufficient procedures to create a relationship 
17   and then could do so. 
18             We think it's hard but not impossible for 
19   issuers to have -- create substantive preexisting 
20   relationships.  There is old Staff guidance, back from 
21   the '80s, I believe, that to the extent that an issuer 
22   goes back to those with whom it has done previous deals 
23   or suppliers, contractors, others with whom it has 
24   developed a relationship and understands their financial 
25   sophistication, that such relationships could also be 
0095
 1   substantive or preexisting. 
 2             So what do we mean by substantive, preexisting 
 3   relationship?  Substantive is about what you know about 
 4   the person.  Do you have enough information about their 
 5   financial sophistication in order to make an assessment 
 6   as to whether or not they are an accredited investor?  
 7   And you do, in fact, review that information before 
 8   making. 
 9             Preexisting is that the relationship has to 
10   exist before the offer.  We don't want the process around 
11   finding -- getting to know the potential investor to, you 
12   know, conflict or overlap with the actual offering 
13   communications.  And so, you know, we hoped that most of 
14   that was a restatement, but a clarification of where we 
15   think that line of thinking goes. 
16             Now the Staff had always said that having a 
17   substantive preexisting relationship is just one way of 
18   not having a general solicitation.  And that sort of 
19   challenged us to think, well, what's another way?  And 
20   we're certainly aware, and have been for a long time, 
21   about the practices of certain groups, often called angel 
22   investors.  And what is it about that that doesn't, in 
23   many instances, lead us to believe that that's a general 
24   solicitation? 
25             And in thinking about it, it's several things. 
0096
 1    One, it's the network and the reasonable basis that 
 2   those within that network share a level of 
 3   sophistication.  So that even if the issuer is already 
 4   engaged in an offering, so isn't preexisting, and the 
 5   person that you may ultimately try to make an offer to, 
 6   you have no previous relationship, you have a reasonable 
 7   belief that the person you initially contacted in that 
 8   angel group is sophisticated.  And that when they 
 9   introduce you to their tech specialist or pharmaceutical 
10   person, that you have a reasonable basis for believing 
11   that they are sophisticated and that that's not a general 
12   solicitation. 
13             Of course, in the end, this is always a 
14   question of fact.  And the broader the group, the less 
15   the sophistication.  The extent to which someone uses 
16   nonselective means in reaching people in that network, 
17   then it looks like a general solicitation.  So that was 
18   what we tried to offer in how we are thinking about why 
19   angel groups are not -- may not be, depending on how 
20   they're constituted, general solicitation. 
21             We also tried to give some guidance as to what 
22   is not an offer.  It wasn't revolutionary, but we tried 
23   to communicate that certainly we don't think and the 
24   Commission hasn't said that every communication by an 
25   issuer is an offer.  It has to be something about the 
0097
 1   securities.  So to the extent that the issuer is 
 2   communicating information about its business, products in 
 3   the regular course, that those communications, even on 
 4   the Internet, are not an offer. 
 5             And so that was at least the construct that we 
 6   wanted to sort of put forth.  And then particularly with 
 7   respect to demo days, then sort of kind of walk through 
 8   what that meant. 
 9             So to the extent that there's a demo day where 
10   you're talking about your products and services, and 
11   you're not offering securities, it's not a general 
12   solicitation.  To the extent that the people you've 
13   invited to this demo day, you have a substantive 
14   preexisting relationship or they're part of some network 
15   of sophisticated investors, then you probably are not 
16   engaged in a general solicitation. 
17             Even if you are engaged in a general 
18   solicitation and you widely broadcast the invitation to 
19   the event, you can still take advantage of taking 
20   reasonable steps to verify who you sell to.  And so we 
21   hoped that that would obviously not solve every question, 
22   but at least provide a framework for how to think about 
23   these issues.  And always the, you know, application may 
24   require some judgment.  But at least we were trying to 
25   provide, you know, a framework that would give some rules 
0098
 1   of the road. 
 2             And I guess with that, I'll stop and see if 
 3   there's anything --  
 4             MR. WALSH:  How do you view social networks?  
 5   Did you look at any way that a relationship generated on 
 6   a social network could be validated?  I mean, I have -- 
 7   we all have friends on Facebook we have a relationship 
 8   with, and often air quotes there to some extent.  And I 
 9   may see that this friend on Facebook just bought a house 
10   in the Bahamas, and so I may have a whole bunch of 
11   indicators that would suggest sophistication and 
12   capacity. 
13             Where do you see that going? 
14             MR. FREDRICKSON:  I don't have a solid answer. 
15    We have thought about that a bit, yes.  I think I am, 
16   you know, not to brag, over 500 LinkedIn contacts.  Yes, 
17   golden club member. 
18             (Laughter.) 
19             MR. FREDRICKSON:  And I couldn't possibly 
20   imagine saying that any, you know, fraction of that were 
21   people that I had a real notion as to whether or not they 
22   were sophisticated or not. 
23             Are there closer networks?  Are there other 
24   indicia that people might have, under particular facts 
25   where, you know, it's not simply they are, you know, a 
0099
 1   professional network like LinkedIn, whatever that means, 
 2   I think it may be possible.  But I don't think we're 
 3   anywhere close to saying that, you know, there's any 
 4   particular form of medium that is always going to be 
 5   okay. 
 6             Yes? 
 7             MR. YADLEY:  Thank you.  And that was very 
 8   clear. 
 9             And one of the issues I've had recently in 
10   trying to talk to non-securities lawyer clients about how 
11   all this works is, they see some circularity in all of 
12   this.  That we're trying to define what general 
13   solicitation is not and if somebody is accredited or 
14   otherwise meets some sort of ability to bear the risk and 
15   fend for herself, then they get confused and say, I 
16   really don't have to worry about what general 
17   solicitation is, as long as I'm -- before I actually 
18   offer the security, know that they're accredited, I'm 
19   okay.  In a way, that is 506(c). 
20             The demo day interp, though, or CDI, sort of 
21   takes it a little bit of a step further, in that the 
22   issuer could actually, under certain facts and 
23   circumstances, already be offering a security.  And as 
24   Sara pointed out in the introduction, I think people are 
25   careful, at least to the extent they get advice.  They're 
0100
 1   not making offers at the demo day.  But when they're 
 2   talking with somebody that they meet there afterwards, 
 3   they are. 
 4             So I'm wondering whether at some point the 
 5   concepts become so close that we just have one big 506(c) 
 6   and then we're okay, except to the extent some of the 
 7   things we talked about this morning, there's somebody we 
 8   want in an offering who is unaccredited? 
 9             MR. FREDRICKSON:  Obviously, hopefully, the 
10   entrepreneurs will be seeking counsel on some of these 
11   questions.  But I think part of the intent at least of 
12   the first round of guidance we gave was to try to take 
13   some of the mystery out of reasonable steps to verify.  
14   It's a real requirement.  It should be rigorous.  And yet 
15   just because the Commission outlined three things that 
16   will always work doesn't mean those are the only way that 
17   one can reasonably verify that someone's accredited. 
18             And so I don't know why, at least based on the 
19   data our economists are able to gather, that 506(c) is 
20   not near the levels, either in number of offerings or 
21   number of amount of money raised, and to what extent it's 
22   simply -- you know, no one wants to be first in the pool. 
23    And, you know, once people get comfortable that, you 
24   know, it's not that hard, it has to be done, but to the 
25   extent that one can take the reasonable steps to verify, 
0101
 1   that it's a natural part of communications with potential 
 2   investors. 
 3             MS. KASSAN:  I have two questions.  One is that 
 4   I remember in the original proposed rule, I believe, 
 5   there was a requirement that you file the Form D 15 days 
 6   before you start the general solicitation.  But whatever 
 7   happened with that? 
 8             MR. FREDRICKSON:  The Commission proposed that 
 9   as part of a separate rulemaking, that was proposed on 
10   the day that the Commission adopted the changes to 
11   506(c).  That's still a pending rulemaking.  And so the 
12   Commission could come back to that.  The Commission is 
13   very, very busy.  But that is still an outstanding 
14   proposal. 
15             MS. KASSAN:  Because that would sort of take 
16   away that option of saying, whoops, I made a public 
17   solicitation, I can just switch over to 506(c). 
18             MR. FREDRICKSON:  We received a fair amount of 
19   comment on that. 
20             MS. KASSAN:  Great.  And then my other question 
21   is, if -- I've seen a lot of people send out kind of mass 
22   e-mails, I don't know how many people were -- you know, 
23   it was b.c.c., so I have no idea how many people received 
24   it, and they would probably argue that everyone in the 
25   b.c.c. list was someone that they had a preexisting 
0102
 1   relationship with.  And I kind of -- my instinct says, 
 2   even if you have a preexisting relationship, you really 
 3   shouldn't be sending out a mass e-mail.  Is there any 
 4   thought about that? 
 5             MR. FREDRICKSON:  Again, one of the factors 
 6   that we think is relevant is the means of communication. 
 7    And obviously, e-mail has the capacity to forward on 
 8   what you receive.  And so it seems difficult to contain, 
 9   once you send that out.  So that would seem to be hard. 
10             MS. MOTT:  David, one of the things I will tell 
11   you I've observed about demo days and pitch contests is 
12   that some clarification around general solicitation has 
13   changed the behaviors.  So when I attend an event like 
14   that now, there are no financials being presented, like 
15   there used to be.  You know, and if you want to have a 
16   private discussion with an investor, then you're 
17   arranging to have it in a separate room or a separate 
18   place so you can have that private discussion.  So that 
19   has cleared up the behavior, I think, having this 
20   clarified. 
21             One of my concerns is that there are a large 
22   segment of investors who are -- angel investors who do 
23   not want to go down the 506(c) route and actually will 
24   not.  When you apply to angel groups -- I lead an angel 
25   group -- you have to be 506(b) or you're not going to be 
0103
 1   entertained, your application will not be entertained.  
 2   So they are very careful about protecting that and having 
 3   to go through all the steps to verify. 
 4             In other words, and I think Patrick alluded to 
 5   this earlier this morning, the more difficult you make 
 6   it, the more the market is going to pull away from it.  
 7   And especially when you have a huge segment of the market 
 8   currently used to self-certifying.  You know?  And 
 9   they're not interested in sharing their tax returns with 
10   anybody, especially the issuer.  Sometimes it's very 
11   challenging for them to even share it with each other.  
12   So they prefer to keep that information private and not -
13   - and not risk it getting into the hands of anybody else. 
14             So I just want to caution everybody that, just 
15   by simply saying shouldn't we all just go down the path 
16   of 506(c), I think there's a risk that it would be a 
17   shock to the marketplace and you would lose a 
18   considerable amount of individuals who are taking the 
19   risk to invest in startup companies. 
20             MR. FREDRICKSON:  And if I could follow up, do 
21   you think the reluctance is simply about not willing to 
22   share that financial information?  And are there not 
23   other ways to establish the sophistication and experience 
24   of the angel investors? 
25             MS. MOTT:  So, one is they don't --  
0104
 1             MR. GRAHAM:  Before you answer that, Catherine, 
 2   this kind of goes into it.  A question for you is, is it 
 3   intended that the way you determine whether or not 
 4   someone is an accredited investor is different, depending 
 5   on whether it's 506(b) or 506(c)? 
 6             MR. FREDRICKSON:  There is a clear statutory 
 7   and rule-based requirement in 506(c) to take reasonable 
 8   steps to verify. 
 9             MR. GRAHAM:  Understood, but at the end of the 
10   day --  
11             MR. FREDRICKSON:  There's an obligation under 
12   506(b) to have a reasonable basis to determine whether 
13   someone is. 
14             MR. GRAHAM:  Understood.  Different words, but 
15   do they mean the same thing? 
16             MR. FREDRICKSON:  We think they're a lot closer 
17   than it seems many practitioners do.  But I don't know 
18   all practices, so I'm certainly not blessing all 
19   practices by saying that.  I think, to be a credible 
20   506(b), reasonable basis means reasonable. 
21             MR. GRAHAM:  And so it has seemed that if it's 
22   reasonable in that context, it should be reasonable in 
23   the 506(c) context. 
24             MR. FREDRICKSON:  I won't say always and ever. 
25    But those words are obviously the same.  And I think 
0105
 1   they are driving at the same goal of what's your basis 
 2   for believing that someone is accredited, and that should 
 3   be a real discipline.  And whether that's always sharing 
 4   tax returns, we don't think it has to be.  That was 
 5   simply one way the Commission said, ever and always, you 
 6   can satisfy.  But are there other ways?  Absolutely. 
 7             MR. GRAHAM:  So it's the same. 
 8             MS. MOTT:  Yeah, so I didn't see it as the 
 9   same, and I don't think the marketplace sees it as the 
10   same.  So for -- yeah, I was going to say, our lawyers 
11   are going to tell us that as well. 
12             MS. HANKS:  Could we just have a couple of 
13   words on the ability to rely on a third party?  Because I 
14   think one of the issues that Catherine has raised is 
15   there's no -- no angel investor truly trusts an unknown, 
16   small company to keep sensitive information sensitive, 
17   private.   
18             And so there are third party validators.  And 
19   angel groups could be one of them.  I mean, in theory, is 
20   that not a reasonable thing to say?  If the angel group 
21   itself has established accreditation, that could be 
22   reasonable steps in certain circumstances? 
23             MR. FREDRICKSON:  In certain circumstances, I 
24   assume it could be.  Again, this is the problem, you 
25   know, that we had in the rulemaking, that the third 
0106
 1   parties that we identified, registered brokers, 
 2   registered advisers, lawyers and accountants, we felt 
 3   that the professional regulation that guided them gave us 
 4   sufficient comfort that, ever and always, that would be 
 5   okay. 
 6             Are there other methods that could be, that 
 7   would satisfy the principles that the Commission 
 8   outlined?  I assume there could be.  But without -- it 
 9   would be hard for the Staff to bless that concept, 
10   because what's an angel group and what steps they're 
11   taking, we simply wouldn't have the insight to. 
12             MR. GRAHAM:  You wouldn't necessarily have to 
13   bless it.  But as a concept, if you thought it was fine 
14   for 506(b) purposes, then you should think it's fine for 
15   506(c) purposes.  Not defining what is -- necessarily 
16   what is fine or not. 
17             MR. FREDRICKSON:  I'll think more on that.  But 
18   that's a fair question. 
19             MS. HANKS:  It's certainly something that angel 
20   groups could develop a best practices, which -- I mean, 
21   the ACA could take a lead on that. 
22             MS. MOTT:  The ACA already has.  Interesting 
23   enough, we have an -- what we call an established angel 
24   group certification.  And what that means is that you 
25   show, you know, your documents and your policy, you know, 
0107
 1   for membership and show the steps that you take.  And if 
 2   you do that, you get to verify that you've got accredited 
 3   investors in your group.  Then you get the EAG 
 4   certification. 
 5             But I don't know how that would stand up.  I 
 6   mean, we just -- we just did that on our own, not legally 
 7   saying that, you know -- I mean, it's just like, are 
 8   there best practices being deployed?  And then the answer 
 9   is, check, yes, you're deploying best practices based on 
10   what we know and understand. 
11             So back to this third party, I think the third 
12   party is an option.  Even outside -- but I'm very 
13   concerned still about the marketplace, because you have 
14   again a large segment of the population who has been able 
15   to self-certify.  And now they have to pay someone to 
16   certify.  And then, if I understand the verification, 
17   like these are people who are sophisticated and create a 
18   portfolio of early stage companies.  So they're investing 
19   probably once a quarter, sometimes twice a year.  So then 
20   every time you invest, I believe, if I understand it, you 
21   have to get -- you know, verify every three months or 
22   four months or something like that. 
23             MR. GRAHAM:  Ninety days. 
24             MS. MOTT:  Ninety days. 
25             MR. FREDRICKSON:  Under this safe harbor, the 
0108
 1   information about assets or income has to be within the 
 2   last three months.  We try to then say that, to the 
 3   extent that it's outside but still reasonable, that could 
 4   be a basis for taking reasonable steps to verify. 
 5             MS. MOTT:  So I believe the current -- the 
 6   marketplace would perceive that as problematic, now that 
 7   I have to pay someone to verify every quarter that I'm, 
 8   you know, I'm an accredited investor, when I've been 
 9   doing this for years, or --  
10             MR. GRAHAM:  But not necessarily, because it's 
11   a safe harbor. 
12             MS. MOTT:  I see.  Got it.  All right.  Sorry. 
13    So I missed that. 
14             MR. GOMEZ ABERO:  Catherine, question.  Could 
15   you -- could you describe to us what had generally been 
16   done in an offering?  Let's say we're going to pre-2013, 
17   so we only have 506.  There is no difference between 
18   506(b) and (c). 
19             Could you tell us what a deal looked like?  And 
20   then what the investors did in order to participate?  
21   What was the practice that, as an angel investor, who had 
22   the relationship with the issuer and what information was 
23   provided to the issuer as to who the investors were?  And 
24   what, if anything, did the issuer ask or check about 
25   angels as potential investors? 
0109
 1             MS. MOTT:  So typically -- so do you want to 
 2   know about what the issuer did with the angels?  Okay. 
 3             So typically, an issuer comes to an investor in 
 4   the group and says, you know, I have a deal.  I have a 
 5   company I'm starting and I would like to, you know, pitch 
 6   to your group.  And they have to go through an 
 7   application process and a screening process, with 
 8   probably a small committee of -- of members of that 
 9   group.  
10             And if they make the cut through this screening 
11   process, then they will pitch to the entire group.  But 
12   probably after they do due diligence.  Some do it after 
13   the meeting, the general meeting, some do it before. 
14             The due diligence is about a four-page 
15   checklist.  Which it's the National Venture Capital 
16   Association's checklist, so it's identical.  So it looks 
17   at everything, from corporate documents to insurance 
18   documents, to financials, market research, IP analysis, 
19   all that. 
20             And then, if there is enough interest through 
21   the group to proceed through the investment, then the 
22   attorney for the angel group and the attorney for the 
23   issuer, you know, get together with either the lead 
24   investor of that group and the entrepreneur to negotiate 
25   the terms.  And typically it turns out to be a preferred 
0110
 1   stock, sometimes a convertible note.  But typically, in 
 2   most of the cases anymore, what we're seeing is preferred 
 3   stock round.  It looks just like a Series A, a Series A. 
 4    The only difference is we're calling it Series Seed.  
 5   But it's a Series A.  But that's essentially what we're 
 6   looking at as far as documents. 
 7             Did I answer your question?  I'm not sure. 
 8             MR. GOMEZ ABERO:  I think you described a lot 
 9   of what the angels ask the issuer.  I'm not sure I got, 
10   and maybe -- I'm not sure I got what is it that the 
11   issuer wanted to know about the investors. 
12             MS. MOTT:  Okay, so when we -- okay, so we sign 
13   documents, investment documents, that come from the 
14   issuer.  And, obviously, they have to check how they -- 
15   how they're accredited.  Okay?  And that is confirmed by 
16   the attorneys as well.  Maybe that's what you were 
17   looking for.  Sorry. 
18             When you said process, I was ready to -- okay. 
19    Thanks. 
20             MR. WALSH:  So you're saying the issuer's 
21   attorneys validated that your angels are accredited 
22   investors? 
23             MS. MOTT:  It's between -- let's put it this 
24   way.  How can I say this?  When we fill out the 
25   documents, when the investors fill out the documents, 
0111
 1   they're completing those documents.  The investor 
 2   questionnaire, okay.  They're completing the investor 
 3   questionnaire.  And then a copy of that goes to that -- a 
 4   copy of all of that goes to that attorney. 
 5             MR. WALSH:  Yeah, so just if I could add some 
 6   flavor to this, just because you asked about sort of pre 
 7   whatever year it was.  So I worked at AOL and I'm still 
 8   friends with Ted Leonsis.  So Ted Leonsis calls me up and 
 9   says, I have a deal for you.  And this is the preexisting 
10   -- I mean, David, to your point, this is the examples I 
11   think of relationships like this. 
12             So your teams have systemically created a 
13   structure that maps this.  But in personal behavior, Ted 
14   Leonsis calls me up and says, I have a great deal for 
15   you.  I take the call and, of course, look at the deal.  
16   But then to your point, the exact same process, I look at 
17   the deal, I love the company, meet management with Ted or 
18   whatever, and then I sign a document that asserts that I 
19   am an accredited investor. 
20             I don't know whether the issuer, whether the 
21   company that Ted introduced me to, ever checks that my 
22   statement is true.  But that's sort of not my problem, 
23   right?  I made an assertion.  It's up to them, I guess, 
24   to validate it. 
25             Is that what you were hoping to find?  Or does 
0112
 1   that violate where we are with the structure? 
 2             MR. GOMEZ ABERO:  Just the question. 
 3             (Laughter.) 
 4             MR. GRAHAM:  It's facts and circumstances, 
 5   Mark. 
 6             MR. WALSH:  Sorry? 
 7             MR. GRAHAM:  I said, it's facts and 
 8   circumstances.  So I think --  
 9             MS. TIERNEY:  Can I?  Sorry, I was going to 
10   interject.  A few things. 
11             First of all, I'm confused by the idea that 
12   506(b) requires some active steps on behalf of the issuer 
13   to actually reasonably confirm that an investor is 
14   accredited.  Based on the line of no-action letters, IPO 
15   Net and others, and practice over the years, I think the 
16   practice has been if you get an investor to complete an 
17   investor questionnaire and they're representing to an 
18   investor that they're an accredited investor, I think the 
19   guidance out there is that the issuer has the ability to 
20   rely on that representation in the context of accepting 
21   that certification that the investor is an accredited 
22   investor. 
23             I don't think I've ever heard, in the case of 
24   506(c), that a company had more of an obligation, if they 
25   were getting a certification, representations in the 
0113
 1   subscription documents that somebody is accredited, that 
 2   there was more that they needed to do -- (b).  Yeah. 
 3             So in (c), we wrote a comment letter on the 
 4   original proposal for 506(c), we really, really supported 
 5   the idea of a safe harbor, nonexclusive safe harbor.  We 
 6   were very happy to see the Staff do that.  But I think 
 7   it's really important to remember that the Staff 
 8   repeatedly said, this is nonexclusive, there's other ways 
 9   to do this, facts and circumstances.  This is a 
10   nonexclusive safe harbor. 
11             But at Second Market, I think I talked about 
12   this at the last meeting we had, we had a business for 
13   two years where we verified accreditation in the context 
14   of primary offerings by investment funds and other 
15   companies raising capital.  And it is really challenging 
16   to get human beings to give you their tax forms.  We were 
17   a registered broker dealer, we were, you know, governed 
18   by Reg S-P and FINRA rules for confidentiality of client 
19   information.  But there is still a really low tolerance 
20   for providing private documents. 
21             What we started seeing as an increasing 
22   practice was representation letters from lawyers and from 
23   CPAs, which was surprising to us, that the investor was 
24   accredited.  So once you got that letter, we'd pass it on 
25   to the issuer and they had the ability to reasonably 
0114
 1   assume that that person was verified to be accredited.  
 2   So that's how we saw the market developing. 
 3             But I agree with you, and I think I talked 
 4   about this at the last meeting, too.  One real challenge 
 5   for a net worth individual is having to get reverified 
 6   every 90 days.  I mean that's just, I think, unnecessary. 
 7    These are high worth individuals.  And it's the law 
 8   firms representing the issuers that are being very 
 9   conservative in this space, because so few companies are 
10   actually utilizing general solicitation. 
11             I think, Patrick, you sent us around something 
12   that said that you've seen situations where the states 
13   are starting to ask, you know, issuers how verification 
14   was, you know, handled.  I'd like to know sort of what 
15   the states are looking at and what they're seeing, if 
16   Mike knows. 
17             But I really do think that there are places 
18   where there's so much friction in the nonexclusive safe 
19   harbor, that companies are less likely, and their law 
20   firms are less likely to encourage them to use 506(c) and 
21   generally solicit. 
22             MR. FREDRICKSON:  I guess just a couple 
23   reactions, if I could? 
24             What's reasonable is always a question of 
25   facts.  I would think that if a complete stranger walked 
0115
 1   up and had only a certification and a check box, even in 
 2   the old 506, pre-(b) world, that that would form a 
 3   reasonable basis to believe that someone was accredited. 
 4    I suspect, in most instances, there is something else 
 5   going on.  There's prior relationships, there's 
 6   reputation, there's introductions, there is something 
 7   that is giving flavor to when the introduction is made 
 8   and they say, I'm certified.  It's sort of like, well, I 
 9   know other things about you and that confirms for me. 
10             And translated to the Internet world, that's 
11   why it's particularly scary on a 506(c) basis, to canvass 
12   strangers.  And if all you get back is a certification, 
13   that's not, in our view, a reasonable step to verify. 
14             But I -- you know, I guess sort of I'll stop 
15   with, the Commission doesn't require recertification 
16   every 90 days.  If someone would like to be conservative 
17   and know that they are within the safe harbor, that was 
18   provided.  Whether there are other ways that one can, you 
19   know, attain a level of assurance that they are taking 
20   reasonable steps to verify, you know, the Commission laid 
21   out an analysis of how to get there. 
22             MS. TIERNEY:  I completely agree with you.  But 
23   I think again, my own -- our own experience was that 
24   issuers and their counsels were being very conservative 
25   because they didn't want to be the first one to have an 
0116
 1   enforcement action knocking on their door.  So they were 
 2   following the letter of the nonexclusive safe harbor to 
 3   the law and it is -- if you verify -- annual income, you 
 4   only get one, you know, you get one tax filing a year.  
 5   So we didn't feel like it was necessary to get more than 
 6   a confirmation that the investor felt like they were 
 7   still expecting to be accredited based on the current 
 8   year's net income.  But we certainly were going back and 
 9   relooking at tax filings that we had already looked at 
10   and verified. 
11             In net worth, though, you have to get them to 
12   refresh their bank statements.  And that really irritated 
13   the crap out of a lot of really, really wealthy people, 
14   to the point that they stopped being willing to invest in 
15   the 506(c) offerings.  Because the law firms, again, were 
16   saying, no, no, no, you're the broker dealer, you're 
17   doing the attestation, the documents have to be dated 
18   within 90 days, and then your certification is only good 
19   for 90 days.  So if you had a round that hadn't closed 
20   and we verified somebody on May 1 and that round hadn't 
21   closed within 90 days, then we had to recertify while the 
22   round was still, you know, in process.  And that doesn't 
23   feel like it's necessary. 
24             But people wanted that level -- right, exactly. 
25             MR. WALSH:  Is "irritated the crap" a technical 
0117
 1   term in the investment community? 
 2             MS. TIERNEY:  That's an official securities law 
 3   term, yes. 
 4             (Laughter.) 
 5             MR. GRAHAM:  It's right there, Mark, with 
 6   "messing in my chili." 
 7             MR. PIECIAK:  I was just going to answer 
 8   Annemarie's question.  I saw that in Patrick's edition 
 9   and I was actually going to get back to Patrick and ask 
10   what states that may be, because I was interested in 
11   knowing the specific circumstances of the request. 
12             MR. REARDON:  I don't know.  I can try and find 
13   out for you, and send that around supplementally. 
14             MR. PIECIAK:  Yeah, it would be interesting.  
15   Because I would assume, and this is an assumption, that 
16   that particular state had some facts and circumstances at 
17   their disposal that questioned the verification process. 
18             MR. REARDON:  Yeah, I was just thinking, good 
19   luck with a blue sky administrator in convincing him that 
20   these safe harbors are not requirements and that whatever 
21   you did that's not in the safe harbor is reasonable.  You 
22   know, not you, but certainly others would say, no, we 
23   want to see that.  Or your attestation is 91 days old. 
24             You know, as far as explaining this to people 
25   who have invested in this before, explaining the 
0118
 1   securities laws to any layperson is, you know, it's like 
 2   explaining a black hole, you know.  It's just -- they 
 3   don't get it.  You know, that's why we spend years and 
 4   years learning about it. 
 5             Think about when you get out of law school.  Or 
 6   maybe you'd taken securities reg.  But even if you had, 
 7   it's so weird, the way the system works. 
 8             MR. FREDRICKSON:  Its mysteries delight me 
 9   every day. 
10             (Laughter.) 
11             MR. GRAHAM:  Michael? 
12             MR. PIECIAK:  I had a question pertaining to 
13   the offering or the offeror definition.  I guess my 
14   question is, I mean, it's both sort of old format and new 
15   format with social media and maybe a local road show or 
16   demo day and, you know, when a product is being described 
17   over social media or at one of these demo days.  I mean, 
18   is it appropriate to say, you know, we're looking for 
19   partners of all kinds to come, you know, and if so, come 
20   and contact us.  Because, I mean, that's something that 
21   we see in social media and demo days. 
22             And then also in the demo day piece, or I guess 
23   in social media as well, whether there are specific 
24   questions that get posed like, well, what were your 
25   revenues this year or, you know, how -- what's your 
0119
 1   growth plan?  And they start getting into specifics and 
 2   how entrepreneurs should handle those questions. 
 3             MR. FREDRICKSON:  Yeah.  I certainly don't, 
 4   sitting here, have anything helpful.  The Commission has 
 5   traditionally seen "offer" as quite broad.  Without much 
 6   imagination, you know, how easily those conversations can 
 7   turn into an offer, even if it starts more neutral. 
 8             We tried in the CDIs to give some contours to 
 9   what was on more one side -- more likely to be on one 
10   side and what on another.  But these are tough judgment 
11   calls.  But if there's suggestions on how to approach it, 
12   if there's other things that we might be able to say, 
13   we're willing to think about it.  But those are tough 
14   calls. 
15             MR. GRAHAM:  Okay.  Any other comments? 
16             MS. HANKS:  Anything else that we need to get? 
17             MR. GOMEZ ABERO:  Can I just add one thing?  
18   This goes to a little bit of reaction to something that 
19   Annemarie mentioned.  I think a lot of the times when we 
20   think of 506(b), this reasonable belief standard comes 
21   up.  I just wanted to point it out, and I think a lot of 
22   you know this. 
23             But when you look at the definition of 
24   accredited investor in 501(a), technically, the 
25   definition has, in addition to other requirements, it 
0120
 1   starts with language that says that an accredited 
 2   investor is someone who in fact is an accredited investor 
 3   or someone who an issuer reasonably believes is an 
 4   accredited investor. 
 5             And I think, in many respects, when you then 
 6   translate that into 506(b), you get to the fact that the 
 7   issuer either reasonably believed that the person was an 
 8   accredited investor and, to the extent it had a 
 9   reasonable belief, then the issuer likely would be in 
10   good shape.  Or, in fact, the person was an accredited 
11   investor. 
12             So I think it begs the question as to, if you 
13   have an issuer in 506(b) that does nothing, but happens 
14   to get lucky that all of the investors are, in fact, 
15   accredited investors, then arguably you are still within 
16   the 501(a) definition of an accredited investor. 
17             Now, contrast that to 506(c) that, in fact, 
18   imposes the specific requirement for the issuer to take 
19   reasonable steps to verify.  That is not a requirement 
20   that exists in 506(b).  So I think we often -- in part of 
21   the conversation, we talked about 506(b) and this 
22   reasonable belief, and 506(c) reasonable steps to verify. 
23    But I think it's very important to keep in mind that the 
24   way "accredited investor" is defined, it gives a little 
25   bit more leeway to an issuer that is doing it under (b) 
0121
 1   than it does under (c), because of the language that 
 2   specifically requires the verification under (c). 
 3             MR. GRAHAM:  And so are you underscoring the 
 4   part that says that it has to actually be an accredited 
 5   investor?  In other words, the point we made is that you 
 6   don't have to verify but you could get lucky when you're 
 7   dealing with 506(b)? 
 8             MR. GOMEZ ABERO:  All I'm pointing to -- and, 
 9   by the way, the beauty of technology today is that 
10   instead of carrying all my five volumes of federal 
11   securities rules, I can carry them right here.  So if you 
12   look at 501(a), it says that an accredited investor shall 
13   mean any person who comes within any of the following 
14   categories.  So that's an accredited investor.  And then 
15   it goes on to the categories that we talked about this 
16   morning. 
17             Or who the issuer reasonably believes comes 
18   within any of the following categories. 
19             So I think it's important to keep that in mind 
20   when you look at 506(b).  Because 506(b) itself did not 
21   impose any additional requirements.  506(c) does.  But 
22   506(b) looks back at the accredited investor definition 
23   in 501(a).  And 501(a) does make this distinction between 
24   someone who is in fact an accredited investor or someone 
25   the issuer believes is an accredited investor, reasonably 
0122
 1   believes is an accredited investor. 
 2             MS. KASSAN:  And that definition also applies 
 3   to 506(c).  So even if you -- if you take reasonable 
 4   steps and you make a mistake and somebody is not 
 5   accredited, presumably that would be acceptable, no?  
 6   Right?  Yeah. 
 7             MR. FREDRICKSON:  Take reasonable steps. 
 8             MS. KASSAN:  Yeah, you have to take -- yeah.  
 9   You can be wrong, as long as you reasonably believed that 
10   the person was accredited after taking reasonable steps 
11   under 506(c), you'd be okay. 
12             MR. YADLEY:  I think what Sebastian said is 
13   really consistent with what Annemarie said the practice 
14   was.  And so with all the other information that David 
15   acknowledged you used to have in the old days before 
16   somebody signed that subscription agreement and made 
17   those representations, you really felt, well, belonged to 
18   this country club, was introduced by this guy, or was in 
19   business with this -- this woman and she vouches for him 
20   and now he has said he is, without any other knowledge 
21   that would cause you to disbelieve what has been 
22   certified to, that was acceptable. 
23             So the rule makes sense.  501(a) is a good 
24   definition.  But it does bear, and certainly we always 
25   advised people what you just said. 
0123
 1             Look, even if the person is accredited, this is 
 2   a new requirement.  So if you're going to use general 
 3   solicitation, you have to do this.  And then you get into 
 4   some of the discussions that Annemarie referenced.  And 
 5   sometimes people say, well, maybe I'll just see how much 
 6   money I can raise before I do that.  And I say, yes.  
 7   Because I believe that the most protection an issuer can 
 8   get is to deal with people they know and that they're 
 9   honest with.  And somebody that just appears over the 
10   Internet, you don't know.  And you don't have the same 
11   dialogue and they're not around the corner, so you can't 
12   visit. 
13             MR. GRAHAM:  Okay, thank you Greg. 
14             Is there any other -- yes. 
15             MR. REARDON:  Just a couple of practical 
16   things.  Your form might say that the issuer -- whatever 
17   form you're using for 506(b), and I imagine I'm preaching 
18   to the choir and this is already done, but the form ought 
19   to say in bold letters at the top that this information 
20   is important, it's used by the issuer to comply with the 
21   securities laws, and it needs to be accurate in all 
22   material respects, or something like that.  You know, if 
23   you want to hire me to do it, I'll make it a little 
24   better. 
25             In other words, it should say that, look this 
0124
 1   is securities law stuff.  Because people do execute these 
 2   things at a hundred miles an hour. 
 3             And the other thing I would suggest people do 
 4   is, if you have investors that you deal with regularly, 
 5   is these people all get their taxes done.  And put in 
 6   their hands a form, a letter, and say, the next time you 
 7   get your taxes done, get the accountant to fill out this 
 8   letter.  And if you got the letter, it's no longer 
 9   current, it's beyond 90 days, you can worry about it. 
10             But I would rather be -- have a letter that's 
11   120 days old and at least it's signed by an accountant 
12   and you don't have to ask for all this stuff.  Because 
13   they're going to go to the accountant every year anyway. 
14    And just give them a form and say, get your accountant 
15   to do this.  And, you know, see if there's any pushback 
16   from the accountant or an extra charge or anything like 
17   that.  Should be a good way to start this. 
18             MR. GRAHAM:  Okay.  Thanks, Patrick. 
19             We kind of went off on a little bit of an 
20   accredited investor tangent.  Does anyone have anything 
21   they want to run by David dealing with general 
22   solicitation? 
23             Okay.  Then is Margaret here?  Okay.  So, thank 
24   you, David. 
25             The topics that we have considered and will 
0125
 1   consider during this -- determined at this committee will 
 2   bring out a diversity of viewpoints on which reasonable 
 3   minds can differ.  The landscape for unregistered 
 4   offerings has been dynamic in recent years.  Changes to 
 5   historical cornerstones, like the accredited investor 
 6   definition and the ban on general solicitation in 
 7   unregistered offerings, have revealed some deeply held 
 8   opinions along with the hope of new opportunities for 
 9   capital formation. 
10             But steady throughout this dynamic time, one 
11   thing that we can all agree on is that robust enforcement 
12   of the securities laws is critical to protecting 
13   investors and maintaining confidence that is essential to 
14   foster a positive environment for capital formation.  We 
15   all require the assurance that there are protective laws 
16   in place that will be enforced against fraudsters and 
17   other bad actors. 
18             We are pleased to have Margaret Cain, 
19   specialist attorney from the SEC's Division of 
20   Enforcement, join us today.  She will talk about some of 
21   the enforcement activities the SEC is undertaking in 
22   connection with the JOBS Act exemptions. 
23             We note that Staff from multiple divisions 
24   across the SEC are engaged in actively monitoring each of 
25   the JOBS Act rules, 506(c), Reg A, crowdfunding.  They 
0126
 1   look at the rules from the capital formation perspective 
 2   and whether there are ways the rules can be improved.  
 3   They also keep an eye on the landscape and the 
 4   perspective of whether there is adequate investor 
 5   protection. 
 6             Margaret plays a key role in this JOBS Act task 
 7   force and will focus today on what Enforcement is seeing 
 8   in this area.  And as we understand, you've been 
 9   forewarned, we certainly are curious about the level of 
10   need, if you will, of enforcement activity in the private 
11   sector versus the public sector. 
12             MS. CAIN:  Thank you.  Thank you for that kind 
13   introduction.  Thank you so much for having me here 
14   today. 
15             I want to manage expectations.  I hope I can 
16   answer your questions.  I will do my best.  And if I 
17   can't, then we'll see if we can find out the answers that 
18   you need after this session. 
19             So as he said, I am Margaret Cain.  I am a 
20   specialist attorney here in the Division of Enforcement. 
21    Sorry, I have these glasses. 
22             I appreciate the opportunity to speak with you 
23   guys today about what the Division of Enforcement is 
24   doing in the Jumpstart Our Business Act or JOBS Act 
25   space.   
0127
 1             Just a little bit of background on me.  I have 
 2   been at the Commission for almost 17 years.  The majority 
 3   of that time was spent as a senior counsel in Division of 
 4   Enforcement, where I was tasked with investigating 
 5   potential violations of the Securities Act, so insider 
 6   trading, market manipulation, unregistered offerings, 
 7   Ponzi schemes, that sort of thing. 
 8             For the last few years, I have been a 
 9   specialist attorney in the Enforcement Division's Office 
10   of Market Intelligence, where I am working very closely 
11   with our Microcap Fraud Task Force, and I am also working 
12   with the JOBS Act Task Force and working with the 
13   Division of Enforcement in providing guidance in that 
14   area. 
15             So, as you know, the JOBS Act was passed in 
16   April of 2012 and it required the SEC to adopt rules that 
17   removed the ban on general solicitation and advertising 
18   and create an exemption called Rule 506(c).  That's where 
19   we see the majority of our cases. 
20             On September 23, the Rule 506(c) went into 
21   effect.  And then in March of last year, the SEC also 
22   adopted rules that updated its rules for smaller 
23   offerings that allow companies to raise up to 50 million 
24   in a 12-month period.  And then, as you know, this past 
25   Monday, the crowdfunding rules went into effect.  They 
0128
 1   were adopted on October 30 of 2015.  All of these 
 2   exemptions are subject to the bad actor 
 3   disqualifications, pursuant to Dodd-Frank. 
 4             In advance of the rules under Title II becoming 
 5   effective, Chair White asked the divisions to collaborate 
 6   and formalize a Commission-wide working group outlining 
 7   objectives and steps for a program to monitor the use of 
 8   506(c) following the adoption of the rule.  And 
 9   similarly, the Chair has asked the divisions to continue 
10   and build upon that expertise and the relationships 
11   developed in the 506(c) space to monitor and review the 
12   equity crowdfunding exemption as well, just in a less 
13   formalized way. 
14             So in that capacity, the Division of 
15   Enforcement routinely provides advice and guidance to 
16   Staff investigating issues related -- or that implicate 
17   the new rules created by the JOBS Act.  We oversee a 
18   crowdfunding working group which is multivisional and 
19   sometimes works with outside self-regulatory 
20   organizations.  And we work with the rulemaking divisions 
21   to plan training for Enforcement Staff and monitor the 
22   evolving landscape, because this is kind of a moving 
23   target, so to speak.  Things change constantly in this 
24   space.  And, finally, we assist the division in creating 
25   programmatic objectives in this space. 
0129
 1             So, as you may know, tips, complaints and 
 2   referrals, or TCRs, as we colloquially call them inside 
 3   the building, are submitted to the Commission on any 
 4   number of potential violations.  Some actually are 
 5   securities violations and some may, you know, actually 
 6   need to be referred out because we don't have a 
 7   regulatory scheme to address them.  But all of these TCRs 
 8   are put into one centralized database where we have Staff 
 9   in the Office of Market Intelligence that are reviewing 
10   these TCRs as they come in. 
11             And the TCRs related to this new regulatory 
12   regime, so for crowdfunding exemption or Rule 506(c) or 
13   even Regulation A receive the exact same treatment.  The 
14   same Staff are -- these TCRs are streamlined and the same 
15   Staff are reviewing them to ensure consistency in their 
16   analysis and triage and assignment, where appropriate. 
17             So in October of 2012, shortly after the JOBS 
18   Act was passed, OMI decided to start tagging any TCRs 
19   that may come in and highlight potential violations of 
20   these exemptions.  And we've -- since that time, we've 
21   handled dozens of TCRs in this area.  Of those, a number 
22   of them warranted further review.  And some went on to 
23   become active cases and some even were filed. 
24             Some of them were referred off to state 
25   regulatory agencies or to criminal agencies.  And some 
0130
 1   became the focus of an examination that was done by our 
 2   Office of Inspections and Examinations. 
 3             Current investigations in this space are 
 4   primarily focused on issues surrounding the following:  
 5   Failure by issuers to take reasonable steps to verify 
 6   accredited investor status and then, subsequently, sales 
 7   to unaccredited investors; unregistered broker dealer 
 8   activity, where we have an intermediary or third party 
 9   providing investment advice or receiving funds as part of 
10   monies raised, transaction-based compensation or what 
11   appears to be transaction-based compensation; and, fraud. 
12             The subject matter of these investigations has 
13   kind of run the gamut.  We have everything from oil and 
14   gas investments to real estate, sometimes investment 
15   funds with unrealistic rates of return or very 
16   exaggerated rates of return, and digital currency.  It's 
17   very topical. 
18             The Commission has filed eight cases to date, 
19   including three settled cases and five cases that are 
20   currently in some form of litigation.  The cases have 
21   involved some variation of offering frauds, unregistered 
22   broker dealer activity, and violations of the 
23   registration requirements. 
24             generally speaking, it probably does not come 
25   as any surprise in light of some of the other speakers 
0131
 1   you've heard today, the activity in the Rule 506(c) space 
 2   has been relatively light, especially when you look at it 
 3   in comparison to issuers using the Rule 506(b) exemption. 
 4    However, my sense is that, based on the absence of 
 5   internal controls and disclosure requirements, we have 
 6   seen more fraud in private markets and private offerings 
 7   than we have in the public space. 
 8             I have two examples of recent cases filed in 
 9   this space.  In the SEC versus Ascenergy, LLC, et al., 
10   matter, which is Release Number 2399 -- I'm sorry, 23394, 
11   the Staff filed a civil action against Ascenergy and its 
12   CEO for offering fraudulent oil and gas investments.  The 
13   Staff obtained a temporary restraining order halting the 
14   offering, as well as an order freezing the defendants' 
15   and the relief defendants' assets. 
16             In the Michael G. Thomas matter, which is SEC 
17   Release Number 9801, Michael Thomas made materially false 
18   and misleading statements in general solicitations to the 
19   public concerning a pooled investment vehicle.  Relief 
20   included a cease and desist order from committing fraud, 
21   as well as a five-year industry bar of Thomas. 
22             So those are my prepared remarks.  I'm happy to 
23   take questions and try to elaborate where I can. 
24             MR. GRAHAM:  You know, thank you for that.  
25   Again, I think one question that we have -- backing up a 
0132
 1   step.  We spent a lot of time this morning talking about 
 2   the definition of accredited investor.  And one of the 
 3   things that I think we all wrestled with was the -- the 
 4   maybe lack of understanding of how much, you know, how 
 5   much fraud, how much enforcement activity might actually 
 6   occur within that sector. 
 7             So, in other words, is there -- is there a 
 8   problem tied to -- tied to fraud, if you will, in the 
 9   context of private placements?  Where, if you -- where 
10   one way of addressing the problem is increasing the 
11   thresholds under the definition of accredited investor? 
12             Was I especially unclear in formulating that 
13   question? 
14             MS. CAIN:  No, I understand the question and I 
15   understand the desire for a firm answer there.  I'm not 
16   sure that we have that information to answer that 
17   question adequately.  I think in kind of the paradigm of 
18   looking at cases, that's maybe not the way we would 
19   necessarily look at a case, in terms of the investor -- 
20   accredited investor definition. 
21             We're looking at cases -- when we look at 
22   potential violations, we're looking to see have actions 
23   taken place that might potentially implicate any of the 
24   federal securities laws?  And there are just elements to 
25   each exemption.  We just look to see if they've been met 
0133
 1   or not met. 
 2             MR. GOMEZ ABERO:  Can I add -- can I add a -- 
 3   Sebastian, right here in the corner. 
 4             (Laughter.) 
 5             MR. GOMEZ ABERO:  Can I add something, Steve?  
 6   Because as part of the Staff report, we talk not just 
 7   internally with Enforcement, but we talk to other 
 8   regulators to try to ascertain whether there could be a 
 9   direct link between the $200,000 threshold and whether 
10   someone is more likely to be subject to fraud or not.  
11   And, as we talk to a number of regulators, part of the 
12   challenge is that in many of the -- and Margaret, I'm 
13   just speaking here and if I'm completely wrong, just let 
14   me know. 
15             But the feeling that I got was that in many of 
16   the cases, the fraudster was not actually conducting an 
17   analysis as to whether their prospective investor was at 
18   $190,000 or $210,000 in income.  In fact, they were 
19   looking to just get quick, easy money from an 
20   unsuspecting investor. 
21             In some of the cases, the investors that were 
22   defrauded, the fraudster did not take any steps to 
23   determine whether the investor was an accredited investor 
24   or not.  And in some cases, those investors would not 
25   have qualified as accredited investors.  In some other 
0134
 1   cases, the investors who were defrauded were nowhere 
 2   close to the $200,000.  In fact, they exceeded it by 
 3   multiples of that and they were still subject to the 
 4   fraud. 
 5             But throughout the questions that we asked, it 
 6   was something that the theme that at least came across to 
 7   me was that the fraudster was not trying to comply with 
 8   some type of rule and regulation and then went above and 
 9   beyond that.  The idea was the fraudster was going to get 
10   the money as easily as possible from the investor and had 
11   no regards for any of the SEC rules, whether that was 
12   accredited investor or general solicitation or 
13   preexisting substantive relationship.  They didn't focus 
14   on any of that stuff. 
15             MR. GRAHAM:  So the fraudster didn't submit a 
16   questionnaire to the potential victim in advance of --  
17             MR. GOMEZ ABERO:  Surprisingly enough, they did 
18   not. 
19             MS. CAIN:  I echo what you say, Sebastian.  And 
20   I think, to the extent -- and this is generally speaking 
21   and, of course, my opinion.  But to the extent that 
22   there's any attention paid to trying to meet, for 
23   instance, the requirements of 506(c) by a fraudster, it's 
24   just to give the appearance of legitimacy, as opposed to 
25   actually thoughtfully trying to comply with the 
0135
 1   exemption. 
 2             MR. GRAHAM:  No, our real question was, okay, 
 3   we have a definition.  We're taking a look at the 
 4   definition.  We're trying to determine whether or not 
 5   something should change with respect to that definition. 
 6    And our question is, well, is there a correlation 
 7   between today's definition and fraud?  And we don't see 
 8   one and we haven't heard anyone make that connection.  
 9   But since you're in Enforcement, we thought we'd ask you 
10   the question. 
11             MS. CAIN:  I don't have the answer to that 
12   question, unfortunately, in any kind of definitive or 
13   meaningful way.  That's just not -- we don't collect -- 
14   I'm not aware of any data that we collect in that regard. 
15             MR. GRAHAM:  That's not surprising. 
16             Mark? 
17             MR. WALSH:  So first, thank you for TCR.  
18   Because I try in my new career in the government to get a 
19   new TLA -- which stands for three-letter acronym -- to 
20   get a new TLA every single day.  And you've fulfilled my 
21   daily quota.  Thank you for that. 
22             Are there other patterns from the TCRs that you 
23   got?  Any geographical patterns, any other type of 
24   patterns from it?  That's question A.  And the other was, 
25   I think you touched on this, the ratio of TCRs in the top 
0136
 1   of the funnel and those you ended up crystalizing and 
 2   taking action on.  Is it the same ratio as the public 
 3   market TCR ratio, or how different is it in your 
 4   experience so far? 
 5             MS. CAIN:  Those are great questions.  I think 
 6   to answer your second question first, I would say because 
 7   the activity has been pretty slow in this area, that the 
 8   TCRs in this space have been less than overall just 
 9   general TCRs.  I mean, I can say that of the cases, we 
10   have seen an evolution in this space. 
11             So initially, for instance, we saw most of the 
12   TCRs that kind of implicated this area really dealt with 
13   a failure to comply with the exemption requirements.  So, 
14   you know, not taking reasonable steps or failing to take 
15   any kind of step or selling to an accredited investor.  
16   And then we saw that kind of evolve over time to 
17   increasingly implicating potentially unregistered broker 
18   dealer activity, you know, where you're having a platform 
19   that's set up and they're taking funds based on how much 
20   money is raised.  They are not putting those funds into 
21   escrow.  They might be providing investor advice. 
22             And then the final kind of evolution is fraud. 
23    And, you know, of the cases that have been filed since 
24   June of last year, there have been five.  All of them 
25   have been private offerings and all of them have involved 
0137
 1   fraud. 
 2             So in terms of geography, nothing really stands 
 3   out.  I mean, it's nationwide. 
 4             MR. GRAHAM:  What about the demographic? 
 5             MS. CAIN:  Again, it kind of runs the gamut.  I 
 6   mean, you have, you know, potential victims from all 
 7   walks of life, from all socioeconomic walks of life.  In 
 8   fact, one of the cases that was filed recently, the 
 9   victim essentially was an issuer.  You had, in the Steven 
10   J. Muehler, et al., case that was filed in September of 
11   last year, the Staff is alleging that Steven Muehler 
12   through two organizations offered assistance to 
13   companies, putting himself out there and his companies 
14   out there as we can help you structure a Regulation A 
15   Plus offering, we can get it through the review process 
16   with the Commission and then we can market it to 
17   potential investors.  And that was -- well, it's still in 
18   litigation, but our allegations are that they made false 
19   statements to the issuers.  And they were not a 
20   registered broker dealer, neither Mr. Muehler nor his 
21   organization.  So from my sense, what we're seeing is, 
22   you know, a strong need to protect not just investors but 
23   also issuers that are new to this space and just still 
24   learning, like everyone is, kind of the ins and outs of 
25   this area. 
0138
 1             MR. GRAHAM:  Greg, you had something? 
 2             MR. YADLEY:  Yeah.  I think I misunderstood 
 3   something you said.  I did hear you say that you're 
 4   seeing more fraud in the private offering space than 
 5   public.  But then you were talking about eight cases.  
 6   Those were from the TCRs relating to 506(c)? 
 7             MS. CAIN:  Right.  So since we -- I'm sorry, 
 8   let me clarify. 
 9             Since we started, since post-JOBS Act, we've 
10   had eight cases that implicate potential -- certain 
11   aspects of the JOBS Act, so either 506(c) or the 
12   crowdfunding rules.  I mean, obviously, until Monday, the 
13   crowdfunding rules, you couldn't violate them.  But we 
14   had activity that, you know, presented itself as, you 
15   know, a crowdfunding platform or what have you, or 
16   Regulation A Plus. 
17             MR. YADLEY:  Okay.  I think our question was 
18   broader, as we've looked at 506 offerings in general and 
19   private placements.  If you're seeing more fraud in the 
20   private area, that means there's only six cases in the 
21   public area in the same time period?  Or less than six?  
22   I missed something. 
23             MS. TIERNEY:  Her cases are only JOBS Act 
24   related, not overall enforcement. 
25             MR. YADLEY:  Okay.  I guess that -- okay. 
0139
 1             MS. CAIN:  Yeah, there are very general 
 2   statements.  I am talking specifically about cases that 
 3   are post-JOBS Act that are implicating certain aspects of 
 4   the JOBS Act. 
 5             MR. YADLEY:  Okay.  So that means there have 
 6   been fewer than six cases related to emerging growth 
 7   companies, right?  Since that's the only public -- real 
 8   public aspect of the JOBS Act.  Which is good.  Because 
 9   so many of the public offerings have been emerging growth 
10   companies.  We want them to be successful. 
11             We are interested then in the question that you 
12   were not addressing and maybe, you know, you don't know. 
13    But when we were -- what Steve was alluding to in our 
14   discussion this morning, which was about the accredited 
15   investor definition, we are unaware of fraud really being 
16   a huge issue that is affected by the wrong people or too 
17   many people being able to invest in private offerings.  
18   And so we were wondering if the division has seen more 
19   fraud in private placements generally that would inform 
20   us as we try and wrestle with the issues that are in our 
21   mandate? 
22             MS. CAIN:  Yeah.  And I think, as the Chair 
23   said this morning, just data like that is very difficult 
24   to come by.  It's a little, I think, a little premature 
25   to really be able to say with any kind of certainty how 
0140
 1   this is going to play out because the -- the industry has 
 2   just been very slow to utilize 506(c) and some of these 
 3   other exemptions.  I mean, obviously, crowdfunding, that 
 4   just want effective on Monday. 
 5             MR. YADLEY:  And I'm not pressing against you 
 6   individually.  But let's go back to pre-April 2012.  
 7   What's the division's experience been with fraud in 
 8   private placements under old 506? 
 9             MS. CAIN:  I can't answer that with any kind of 
10   certainty.  Maybe we can --  
11             MR. YADLEY:  Would that be something that maybe 
12   if you could get with your colleagues and then let Julie 
13   know, we are very interested in that.  Because that falls 
14   squarely within what we're supposed to try and be talking 
15   about. 
16             MS. CAIN:  We will endeavor to get that 
17   information.  I can't make any promises on that, on that 
18   issue. 
19             MR. GRAHAM:  Michael? 
20             MR. PIECIAK:  Just to assist with Margaret, not 
21   that our information is all that much more accurate or 
22   better.  But from the state perspective, as I mentioned 
23   earlier this morning, that when we conduct our state 
24   enforcement surveys and, you know, the response rate is 
25   somewhere north of, you know, somewhere around 40 states 
0141
 1   or so that provide data and we specifically ask, you 
 2   know, what are the top five types of frauds that you are 
 3   seeing?  Ponzi schemes, 506 offerings, affinity frauds.  
 4   Sometimes they fall in the multiple of those categories. 
 5    But 506 offerings generally, not differentiating between 
 6   (b) or (c), are frequently in the top five, at least for 
 7   the last, you know, five or six years. 
 8             Again, that's not -- the survey is not mandated 
 9   by the states.  We don't have a hundred percent 
10   participation.  And we can't, to Annemarie's earlier 
11   point, quantify whether it's more risky or less risky 
12   than the public markets.  But we can just say that there 
13   is --  
14             MS. TIERNEY:  Well, my question was going to 
15   be, on that, are those points issues that states are 
16   seeing that are state law?  Or that states are seeing in 
17   companies in their state?  So would that include public 
18   company issues?  Or is it just state-covered 
19   transactions, like intrastate offerings or --  
20             MR. PIECIAK:  The 506 would the states' general 
21   antifraud authority.  So the issuer would have utilized 
22   506. 
23             MS. TIERNEY:  But, I mean, is your survey 
24   looking also at public company fraud?  Or --  
25             MR. PIECIAK:  Oh, I see.  Yeah.  Yeah, we would 
0142
 1   be looking at anything in which the states had antifraud 
 2   authority over. 
 3             MS. HANKS:  Michael, any chance of -- any idea 
 4   of whether that's changed over the last five years? 
 5             MR. PIECIAK:  In terms of --  
 6             MS. HANKS:  Since the JOBS Act went into 
 7   effect? 
 8             MR. PIECIAK:  I know the last -- I don't want 
 9   to overstate it, but I want to say the last five years, 
10   the -- in terms of the top five, you know, most frequent 
11   frauds, the 506 offering has consistently been in there. 
12    Whether it's number one, two, you know, three or four, 
13   it does seem to be sort of a reoccurring element that 
14   states see. 
15             MR. GRAHAM:  What again are the numbers? 
16             MR. PIECIAK:  Yes, the numbers are where it 
17   gets tricky, because they fall into multiple sort of 
18   categories, whether it's Ponzi scheme, you know, affinity 
19   fraud and 506 offerings.  And sometimes it can fall into 
20   each of those.  And it's a bit about categorizing, how 
21   the state provides us the information.  The enforcement 
22   survey that was passed out was sort of asked on an 
23   aggregate level, in terms of, you know, what are the top 
24   10 or five -- actually, I think it's the top five that 
25   you see every year.  So we don't necessarily have that 
0143
 1   specific number data that we can provide.  And again, 
 2   it's not mandated by all of the states. 
 3             But it's more than -- you know, I think it's 
 4   safe to say it's in the hundreds, not in the tens.  You 
 5   know, it's a significant number, even though we can't 
 6   provide the specific number now. 
 7             MR. GRAHAM:  Patrick? 
 8             MR. REARDON:  This may be unfair, but I'm going 
 9   to state it anyway.  And I live in Fort Worth, where you 
10   have an office.  There's a perception that the SEC only 
11   brings the big cases, the cases that get a lot of 
12   publicity are at the top of the list.  And the small 
13   fraud cases are at the bottom.  Or the small, 
14   unregistered broker dealers.  Now, that's a perception, 
15   and it can be wrong.  And feel free to tell me I'm wrong. 
16     
17             I would just encourage you to file cases, 
18   whatever, fraud or unregistered broker dealers or 
19   whatever, to file all size cases. 
20             I'm sure you've got some young lawyers who have 
21   been hired.  And on these little cases, cut them loose if 
22   they're fraud.  Or give them to the states. 
23             But, you know, the compliance -- it helps us on 
24   compliance if people have a perception that there will be 
25   consequences for failing to comply with the securities 
0144
 1   laws.  Everybody feels that way about tax law.  Everybody 
 2   knows if you take your dog as a dependent, you're going 
 3   to get in trouble with the IRS.  But, for some reason, 
 4   there are a lot of people in the business community who 
 5   think that complying with the securities laws is 
 6   optional.  And I've heard people as investment advisers 
 7   functioning out there and saying, I'm going to get my RIA 
 8   one day, like it's something to wear on his hat or 
 9   something and it was not a condition precedent to being 
10   in the business. 
11             So -- and there are people in the -- I have not 
12   heard of unregistered broker cases in Texas until the 
13   recent kind of well noted case that was filed in Texas.  
14   So I haven't heard of those in a while.  Maybe I'm not 
15   keeping up the way I should be. 
16             But, I mean, if I'm unfair, I'm sorry and I'll 
17   apologize if you tell me I'm unfair in saying that you 
18   bring the big cases.  But get down on those little cases 
19   and bring them.  Because nothing is going to make 
20   somebody want to comply with the securities law than 
21   having a guy at his country club who's got in trouble 
22   with the SEC over something.  So that's my comment. 
23             MS. CAIN:  Thank you for your honesty and your 
24   feedback.  I think Chair White and the other 
25   commissioners have certainly spoken very publicly about a 
0145
 1   broken windows concept, if you will, and looking for what 
 2   some people may characterize as smaller infractions.  And 
 3   I think that the Commission has been much more aggressive 
 4   in bringing those types of cases. 
 5             As I mentioned before, I work very closely with 
 6   the Microcap Fraud Task Force.  And an initiative out of 
 7   that group and out of my group in OMI has been to be more 
 8   -- to recommend more frequently trading suspensions 
 9   against companies that are putting out false information 
10   or misleading information or omitting material 
11   information.  And over the last five years, we've 
12   probably brought approximately 800 trading suspensions.  
13   And we're seeing that that is having a real deterrent 
14   effect in that specific kind of space, the microcap fraud 
15   space. 
16             So, you know, those smaller companies that are 
17   quoted on the over-the-counter market, they're not listed 
18   securities on a national exchange, and historically have 
19   preyed upon our most vulnerable of victims in terms of 
20   elderly or unsophisticated investors.  And so I certainly 
21   take your point, and I think it is something that we try 
22   to be mindful of.  And so I do appreciate that feedback. 
23             MR. GRAHAM:  Okay, any other comments, 
24   questions? 
25             Thank you, Margaret. 
0146
 1             MS. CAIN:  Thank you. 
 2             MR. GRAHAM:  Well, we've been efficient.  We're 
 3   running about 30 minutes ahead of time. 
 4             So again, thank you everyone for today.  As I 
 5   said earlier, I will get a draft recommendation relating 
 6   to the accredited investor definition to folks within the 
 7   next few weeks.  And either we'll take it up again at the 
 8   -- at a telephonic meeting or at the July meeting. 
 9             And for those of you who have forgotten, the 
10   next meeting is slated for July 19.  Right?  I think it 
11   is.  Telephonic if we need it.  If we need it. 
12             If we make enough progress with the 
13   recommendation to call a meeting prior to the July 
14   meeting, we'll know one up. 
15             Yes, Mark? 
16             MR. WALSH:  I just want to compliment the team 
17   on today.  I thought it was very well organized.  Julie, 
18   thank you for many, many e-mails to make sure this 
19   happened.  It's my first rodeo here.  I think it's 
20   wonderful to have an open forum like this and to have a 
21   full exchange of views, compliments to all involved. 
22             MR. GRAHAM:  Okay, thank you. 
23             MR. GOMEZ ABERO:  And just to confirm for 
24   everyone, it is the 19th.  Thank you. 
25             MR. GRAHAM:  Okay.  So we are adjourned.  Thank 
0147
 1   you. 
 2             (Whereupon, at 2:57 p.m., the above-entitled 
 3   matter was adjourned.) 
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 1                   PROOFREADER'S CERTIFICATE 
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 3   In The Matter of:   ADVISORY COMMITTEE ON SMALL AND
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 5   File Number:        OS-0518 
 6   Date:               May 18, 2016 
 7   Location:           Washington, D.C. 
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10   (the undersigned), do hereby swear and affirm that the 
11   attached proceedings before the U.S. Securities and 
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13   that this is the original, complete, true and accurate 
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