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 1   THE UNITED STATES SECURITIES AND EXCHANGE COMMISSION 
 2                              
 3                              
 4                              
 5                     
 6            
 7                ADVISORY COMMITTEE ON 
 8            SMALL AND EMERGING COMPANIES 
 9                              
10                                        
11               Wednesday, June 3, 2015 
12                     9:32 a.m. 
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22       
23           Securities and Exchange Commission       
24                 100 F Street, N.E. 
25               Washington, D.C. 20549 
0002
 1   PARTICIPANTS: 
 2   COMMITTEE MEMBERS: 
 3   Stephen M. Graham, Co-Chair 
 4   M. Christine Jacobs, Co-Chair 
 5   Charles Baltic 
 6   David A. Bochnowski 
 7   John J. Borer, III 
 8   Dan Chace 
 9   Milton Chang 
10   Shannon L. Greene 
11   Sara Hanks 
12   John Hempill 
13   Richard L. Leza 
14   Sonia Luna 
15   Catherine V. Mott 
16   David J. Paul 
17   Timothy Walsh 
18   Gregory C. Yadley 
19   Michael S. Pieciak, Non-voting member 
20   Javier Saade, Non-voting member 
21     
22   SEC COMMISSIONERS: 
23   Mary Jo White, SEC Chair 
24   Michael S. Piwowar, SEC Commissioner 
25   Kara M. Stein, SEC Commissioner 
0003
 1   PARTICIPANTS (CONT.): 
 2    
 3   SEC STAFF: 
 4   Julie Davis 
 5   Karen Garnett 
 6   Sebastian Gomez Abero 
 7   Keith F. Higgins 
 8   David Shillman 
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0004
 1                       C O N T E N T S 
 2                                 
 3                                                        PAGE 
 4   Co-Chairs Call Meeting to Order                         5 
 5   Introductory Remarks by Chair Mary Jo White, 
 6        Commissioners, and Division of Corporation  
 7        Finance Director Keith Higgins                     7 
 8   Committee Discussion of Public Company 
 9        Disclosure Effectiveness                          12 
10   Committee Discussion of Intrastate Crowdfunding and 
11        Securities Act Rule 147                           78 
12   Consideration of Written Recommendation on the  
13        "Section 4(a)(1-1/2) Exemption"                  111 
14   Committee Discussion of Rules and Market Structure 
15        Matters Relevant to Venture Exchanges            114 
16   Committee Discussion on the Treatment of "Finders"    142 
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0005
 1                     P R O C E E D I N G S 
 2             CO-CHAIR GRAHAM:  Welcome, everyone.  
 3   Sebastian, I assume we have a quorum. 
 4             MR. GOMEZ:  We do. 
 5             CO-CHAIR GRAHAM:  Are we good?  Are we good 
 6   with that?  Okay.  Good.  Okay.  Well, welcome to today's 
 7   session of the Advisory Committee for Small and Emerging 
 8   Companies.  It is a pretty full agenda.  I think it 
 9   should be a productive day that we should all hopefully 
10   find rewarding. 
11             We will start today with a discussion that a 
12   number of us feel is critical.  That is what can be done 
13   to make public company disclosure less burdensome for 
14   issuers and also more helpful for investors, particularly 
15   in the context of small public companies. 
16             As you know, the SEC staff is engaged in a 
17   disclosure effectiveness initiative.  So we will get an 
18   update on that to kick off.  I am sure what will follow 
19   will be a lively discussion on a topic that many of us 
20   are very close to. 
21             This morning we also have Mike Pieciak to tee 
22   up the topic of intrastate crowdfunding with an update on 
23   what many states are doing on this front to promote 
24   capital formation.  In that connection, we will also 
25   discuss the SEC's safe harbor rule 147 that is often 
0006
 1   relied upon by issuers for interested offerings and 
 2   whether there might be adjustments to that rule that 
 3   better accommodate intrastate crowdfunding offerings. 
 4             Before lunch, we also plan to finalize our 
 5   consideration to formalize section 4(a)(1-1/2).  
 6   Following our discussion and resolution on that matter at 
 7   the last meeting, we put together a written 
 8   recommendation, which I believe captures the position of 
 9   the Committee.  We will take that up and hopefully get 
10   that completed. 
11             We will also continue our consideration of 
12   venture exchanges.  The presentations from David Weild 
13   and Vince Molinari at our last meeting set out some 
14   thought-provoking options.  We agreed at that time that 
15   it would be helpful to get a presentation on recurring 
16   market structure rules so we can all more fully 
17   understand what is currently possible and when 
18   impediments might stand in the way of ideas to facilitate 
19   greater secondary market liquidity.  David Shillman from 
20   the SEC's Division of Trading and Markets will be here to 
21   help us with that. 
22             As a final item of business today by popular 
23   demand on the part of a number of you, we are going to 
24   take up the so-called finders issue.  Several of you have 
25   been engaged in this issue for a long time.  And we have 
0007
 1   asked Greg Yadley to tee up that discussion and whether 
 2   it might make sense to have an exemption or other 
 3   solution that would enable those who want to help 
 4   companies locate investors for private placements to do 
 5   so without going through all of the full process of 
 6   broker-dealer registration. 
 7             So it should be a productive meeting.  We are 
 8   honored to have our chair, Mary Jo White, with us this 
 9   morning.  Is Commissioner    
10             COMMISSIONER STEIN:  She is on her way. 
11             CO-CHAIR GRAHAM:  Stuck in traffic.  Okay. 
12             Mike is here.  Commissioner Piwowar is here.  
13   Would you guys like to make some opening remarks?  Okay. 
14             CHAIR WHITE:  Yes.  Thank you very 
15   much, Stephen.  Good morning to everybody.  Thanks to 
16   everybody for being here, Steve, Chris, and all of you.  
17   I appreciate the full agenda that you have today.  So I 
18   will be very brief in my customary update and comments so 
19   that you can get down to the business of your meeting. 
20             So let me start.  I am pleased to note that 
21   since your last meeting, the Commission in March adopted 
22   regulation A+.  I know this Committee was eager for that 
23   rule to be finalized, as we were we.  I believe the rule 
24   we adopted will provide an additional and effective path 
25   to raising capital that also provides strong investor 
0008
 1   protections.  I look forward to seeing companies put the 
 2   rules to good use to raise capital. 
 3             On other fronts, we continue to advance the 
 4   completion of our other rulemaking mandates under both 
 5   the JOBS Act and the Dodd-Frank Act and, as we discussed 
 6   before, it is one of my priorities to complete the 
 7   crowdfunding rulemaking this year, which is, really, the 
 8   last significant JOBS Act rulemaking.  Crowdfunding in 
 9   its various forms obviously remains a focus of many 
10   others, including this Committee, the states, and various 
11   countries around the world.  Indeed, more than 20 states 
12   have enacted some form of intrastate crowdfunding 
13   legislation or rules.  And a number of others are 
14   considering similar initiatives. 
15             As states are seeking to expand the avenues in 
16   which issuers may conduct intrastate offerings, we have 
17   focused on the fact that some of our laws and rules were 
18   put into place years ago, prior to widespread use of the 
19   internet, and may present challenges to the states' 
20   efforts.  For example, Securities Act rule 147, which you 
21   will be discussing today, created a safe harbor that 
22   issuers often rely on for intrastate offerings.  Rule 147 
23   was adopted in 1974, the year I graduated from law 
24   school.  So it is a while ago.  And how an issuer might 
25   conduct an intrastate offering using the internet was 
0009
 1   obviously not contemplated at that time.  The staff in 
 2   the Division of Corporation Finance is currently 
 3   considering ways to improve the rule by looking at, among 
 4   other things, the conditions included in the rule for an 
 5   offering to be considered intrastate. 
 6             Securities Act rule 504, an exemption that 
 7   could be used to facilitate regional crowdfunding 
 8   offerings for up to $1 million that are registered in 1 
 9   or more states is another rule.  That may benefit from 
10   modernization.  And the staff is considering ways to do 
11   that. 
12             We look forward to having your input on these 
13   topics and to hearing your thoughts on whether there are 
14   aspects of these or, frankly, other rules that could be 
15   usefully updated or changed. 
16             It is also quite timely -- and I see it is your 
17   first item on the agenda -- for this Committee to be 
18   taking up public company disclosure effectiveness.  As 
19   Steve alluded to, the staff in the Division of 
20   Corporation Finance is hard at work on our initiative to 
21   improve the effectiveness of the public company 
22   disclosure regime for investors and companies.  The staff 
23   has sought input from a broad range of market 
24   participants and is in the process of developing 
25   recommendations for the Commission's consideration.  And 
0010
 1   so we clearly welcome your thoughts in this area.  I know 
 2   that is of particular interest to many of you. 
 3             I look forward to your input on the other 
 4   topics on your agenda, including the section 4(a)(1-1/2) 
 5   exemption and the issues surrounding broker-dealer 
 6   registration for those who identify or otherwise find 
 7   potential investors in private placements.  I am also 
 8   very glad to see a continuation of your consideration of 
 9   venture exchanges as an avenue, possible avenue, for 
10   secondary market liquidity. 
11             So I will stop here.  As always, we very much 
12   appreciate the time and the expertise that you devote to 
13   this Committee.  And I also wish you a very productive 
14   meeting.  Thank you. 
15             CO-CHAIR GRAHAM:  Commissioner Piwowar? 
16             COMMISSIONER PIWOWAR:  Yes.  Thanks.  I don't 
17   have any prepared remarks.  Thank you all again, as Chair 
18   White said, for taking the time to come here.  We 
19   appreciate, you know, you have a lot of other things to 
20   do.  And we appreciate all of your feedback. 
21             Piggybacking off a couple of things Chair White 
22   mentioned, I look forward to the discussion of rule 147, 
23   as she mentioned.  Sebastian and his group have been 
24   working very hard about trying to update that rule.  I 
25   look forward to your feedback on that. 
0011
 1             And I understand Mike Pieciak is going to be 
 2   doing a presentation on intrastate crowdfunding.  As you 
 3   know, we are trying to move forward on the federal 
 4   crowdfunding rule and seeing if we can find some common 
 5   ground here for potentially some regional crowdfunding 
 6   for the states to get together.  And is there anything we 
 7   need to do at the SEC to allow that to happen or is this 
 8   just something that can happen organically? 
 9             So I look forward to that discussion and all of 
10   the other ones.  Thanks. 
11             CO-CHAIR GRAHAM:  So we also have with us Keith 
12   Higgins, who is, as you know, the director of the SEC's 
13   Division of Corporation Finance.  Keith will introduce 
14   the rest of the SEC staff joining us today. 
15             Keith? 
16             MR. HIGGINS:  Thanks, Stephen.  Good morning. 
17             Before we get started, let me give the standard 
18   disclaimer that anything that I or anyone on the staff 
19   says today represents our own views and not the views of 
20   the Commission or any other member of the staff. 
21             With that dispensed, I would like to welcome 
22   everybody here.  Thanks again for coming.  It is great 
23   that you would take the time to bring your experience, 
24   insights, and expertise to us to help us as we sort 
25   through issues on small and emerging companies. 
0012
 1             Today you are going to address a bunch of 
 2   topics that the chair has already gone over that we are 
 3   really looking forward to.  So let me do my job of 
 4   introducing those on the staff that are here.  Sebastian 
 5   Gomez Abero, who is head of our Office of Small Business 
 6   Policy, obviously needs no introduction to you, and Julie 
 7   Davis, who is senior counsel in that office.  Also with 
 8   us today is Karen Garnett, who is an associate director 
 9   in our Disclosure Operations Division in the division.  
10   And she is the one who is heading up our disclosure 
11   effectiveness project. 
12             So, with that, I would like to turn it back to  
13   Stephen and Christine, who will introduce Karen.  And 
14   then we will begin the discussion on company disclosure. 
15             When Commissioner Stein shows up, we will take 
16   a brief respite and have her give the remarks that she is 
17   going to do.  Thanks. 
18             CO-CHAIR GRAHAM:  Okay.  Thank you, Keith. 
19             Well, as was just said, our first item of 
20   business today is public company disclosure 
21   effectiveness.  I note that this Committee submitted a 
22   set of scale disclosure recommendations, really, I guess, 
23   over two years ago now.  I think, you know, hopefully you 
24   have gone back and taken a look at that.  So this has 
25   been something that has been at the top of the mind for 
0013
 1   this Committee for some time. 
 2             We will start off with a briefing from the 
 3   SEC's staff working in the initiative to give us an 
 4   overview of these efforts.  Karen Garnett is an associate 
 5   director of disclosure operations in the Division of 
 6   Corporation Finance.  She is leading the team conducting 
 7   the review, and we are pleased to have her join us today. 
 8             So I will turn it over to you. 
 9             MS. GARNETT:  Great.  Thank you very much. 
10             This is my first meeting at this Committee.  So 
11   I am very pleased to be here today and happy to talk to 
12   you a little bit about our efforts on disclosure 
13   effectiveness. 
14             As you all are well-aware, I am sure we have 
15   been working on this project for some time now.  And it 
16   is a long process of gathering information and working 
17   towards some recommendations for the Commission.  So I 
18   wanted to just give you a little bit of an overview of 
19   that process, what we have been doing up to now, and sort 
20   of what the updates we have for you are. 
21             I think in your materials, you all got a copy 
22   of a speech that Keith Higgins gave back in October that 
23   I think is a really good summary of our efforts to date. 
24    One thing that I think is particularly helpful about 
25   that speech is it talks both about our perspective in 
0014
 1   looking at ways our disclosure could be improved to the 
 2   benefit of investors as well as balancing the compliance 
 3   and cost burden on registrants who are providing those 
 4   disclosures.  As we work through this process, I think, 
 5   believe it or not, we are hopeful that there are many 
 6   opportunities where we can do both, where we can both 
 7   improve the disclosure that is being provided to 
 8   investors while still reducing the cost to the companies 
 9   that are providing that disclosure.  So we are still 
10   working on our recommendations, and we will see how all 
11   of that turns out. 
12             As we continue to work on this project, there 
13   are some general areas of focus that we have identified 
14   and kind of three major what I will call work streams 
15   going on right now.  The first of those is the work that 
16   we are doing on regulation S-K.  We are also taking a 
17   look at the disclosure requirements in regulation S-X, 
18   which addresses financial statement or financial 
19   information that is provided in SEC filings.  And then 
20   the third area, the third broad area, deals with kind of 
21   how companies provide information in their SEC filings.  
22   Those efforts coincide with a broader Commission effort 
23   to update and modernize our EDGAR system but we hope are 
24   not limited to just improvements in the EDGAR system.  So 
25   I will talk a little bit more about each of those three 
0015
 1   areas. 
 2             In the regulation S-K efforts, we are 
 3   considering some very broad questions about how and where 
 4   we could improve our existing disclosure requirements.  
 5   Some examples of issues that we are looking at are 
 6   whether there are principles-based requirements currently 
 7   in regulation S-K, are there ways that we could improve 
 8   those disclosures, and asking first, really, are those 
 9   principles-based requirements really resulting in the 
10   disclosure that investors need to make informed 
11   investment decisions. 
12             We are also looking at some of the proscriptive 
13   requirements in regulation S-K.  These are the 
14   requirements for some of the more detailed requirements; 
15   for example, the item 101 description of the business.  
16   Many of those are very proscriptive.  Some of our 
17   disclosure rules also include dollar thresholds for 
18   disclosure, sort of aside from a more principles-based 
19   materiality consideration.  So we are looking at all of 
20   those prospective disclosure requirements and thinking 
21   about whether there are opportunities to update and 
22   modernize those requirements. 
23             I am happy to pause for Commissioner Stein at 
24   this point.  We can pick up again with the remainder of 
25   our S-K. 
0016
 1             COMMISSIONER STEIN:  I am just pleased to be 
 2   here.  I want to again thank all of you for the pro bono 
 3   time that you are putting in to help us think through 
 4   some cutting-edge issues. 
 5             There is a really interesting agenda today.  So 
 6   we will look forward to seeing your feedback, you know, 
 7   on it.  But, again, thank you for coming and spending the 
 8   day with us and helping inform our policy-making. 
 9             MS. GARNETT:  So we are looking at principles-
10   based requirements.  We are looking at the proscriptive 
11   requirements.  We are also thinking broadly about how 
12   companies present information to investors in their SEC 
13   filings and are there ways, should we think about 
14   encouraging companies to tailor their disclosure in a 
15   manner that makes it readily accessible, both to retail 
16   investors and to institutional investors; and if so, how 
17   might we go about doing that. 
18             And we are, in fact, looking at the scale 
19   disclosure requirements as well.  I know that is an area 
20   of great interest to this group.  We are thinking about 
21   how our current scale disclosure requirements are 
22   working. Whether they have been effective in reducing the 
23   compliance burden on public companies, and whether they 
24   are still providing the appropriate information to 
25   investors.  We are also looking at the types of issuers 
0017
 1   that are permitted to provide scale disclosure. 
 2             I know this group has focused on the definition 
 3   of smaller reporting company.  The thresholds there were 
 4   updated in 2007.  Is it time to look back at those 
 5   thresholds and maybe consider a different definition or 
 6   perhaps different ways of scoping companies into scale 
 7   disclosure that might be different from the definition of 
 8   smaller reporting companies?  So all of those are 
 9   questions that we are thinking about and working towards 
10   some recommendations to the Commission. 
11             In regulation S-X, we are taking a little more 
12   focused approach there and kind of starting with looking 
13   at the disclosure requirements for financial information 
14   of entities other than the registrant.  So this might 
15   include acquired companies.  It might include investees 
16   or guarantors.  Currently regulation S-X requires public 
17   companies to provide financial information of those 
18   entities under certain circumstances.  And we are looking 
19   at, we are interested in getting input on the value of 
20   that information to investors, how they use it, and 
21   whether there are ways that we could streamline or update 
22   our disclosure requirements in those areas. 
23             In both S-K and S-X, we are also looking at a 
24   more granular level at the existing disclosure 
25   requirements and whether there are things that are in our 
0018
 1   rules that are just simply outdated because the 
 2   information is readily available somewhere else, because 
 3   the information is required.  In many cases, our 
 4   disclosure rules overlap with GAAP disclosure 
 5   requirements.  So we are thinking about those areas.  SEC 
 6   staff has been actively engaged with staff at the FASB to 
 7   talk about ways that we can coordinate to streamline the 
 8   disclosure requirements so that investors continue to get 
 9   the same information but we don't have duplicative 
10   disclosures within a single filing. 
11             Also in both of these areas, it is just worth 
12   pointing out that we are initially focused on the 
13   disclosures that are required in periodic and current 
14   reports under the '34 Act.  I know that this group has 
15   had some additional recommendations on proxy disclosures 
16   and governance items.  Those are things that we hope to 
17   take up in a later phase of the disclosure effectiveness 
18   project, but we really are not trying to address those 
19   right now.  Those are also things that I think have been 
20   updated more recently than some of the basic 10-K 
21   disclosure requirements.  So we are putting those aside 
22   for the moment. 
23             And then a third work stream is how companies 
24   file information through the EDGAR system.  EDGAR 
25   modernization is a big technical project that certainly 
0019
 1   goes beyond the skills of the lawyers and accountants in 
 2   the Division of Corporation Finance, but I think the good 
 3   news is that our timing is really perfect on this because 
 4   it allows us to provide some very substantive input in 
 5   the EDGAR modernization project as the technical folks 
 6   sort of get started and ramp up there.  It is, 
 7   unfortunately, a year's-long project.  So thinking about 
 8   how companies present information in their EDGAR filings 
 9   as a technical matter may take some time to realize any 
10   changes or benefits in that area. 
11             In the meantime, we are thinking about whether 
12   there are things that we can do to make the existing 
13   EDGAR system more useful to investors and easier for 
14   users of the information to access it through our 
15   existing system.  So that may take the form of some 
16   updates to the sec.gov website, just simply making 
17   information easier to search.  The presentation of the 
18   information that is searchable could be perhaps different 
19   on sec.gov in a way that makes it just easier to use and 
20   more accessible.  So those are all things that I think we 
21   can focus on in the short term and perhaps get some 
22   benefits. 
23             We have gotten some really great input also on 
24   that area and any area on how we can just update our 
25   current systems to make information easier to find.  And 
0020
 1   so we are interested in looking at all of that. 
 2             Public input is a really critical part of our 
 3   whole process.  We have gotten a good amount of public 
 4   comment so far.  We are up to almost 40 comment letters 
 5   in the project right now from a variety of different 
 6   commenters.  We have received a lot of different 
 7   suggestions for how we might update our disclosure 
 8   requirements.  And these are incredibly useful to us.  So 
 9   I would encourage everyone, you know.  If you have input 
10   on this project, we are still accepting/welcoming comment 
11   letters.  And we hope to get more. 
12             We are in the process sort of in the what is 
13   next front.  We are in the process of developing 
14   recommendations of the Commission.  That is a long and 
15   involved process, but we are working diligently on it.  
16   We are mindful not only of the comment letters that we 
17   have received but also recommendations from this group, 
18   from similar groups that have spoken on this issue, and 
19   we are taking all of that into account as we develop 
20   recommendations for the Commission. 
21             We are considering both.  In developing our 
22   recommendations, we are considering both, as I started 
23   these remarks, the impact on investors and how we can 
24   improve the information that investors receive in the SEC 
25   filings, but we are also sensitive to the cost and 
0021
 1   burdens of compliance.  And we would particularly welcome 
 2   comments from this group on those concerns.  To the 
 3   extent there are particular areas of compliance that are 
 4   burdensome that we could address, we would welcome your 
 5   comments on that. 
 6             I think that is pretty much our update at this 
 7   point. 
 8             CO-CHAIR GRAHAM:  Thank you, Karen. 
 9             I would like to open it up for comment now, but 
10   before I open it up more broadly, I would first like to 
11   hear from Christine and form Shannon, two of our 
12   Committee members who have firsthand experience with, you 
13   know, wrestling with these issues as CEOs of smaller 
14   public companies. 
15             And then I would like to hear from you, 
16   Charles, from kind of the investor point of view.  We 
17   talk about, again, requirements that may be burdensome 
18   for small companies but also we are looking at improving 
19   things, you know, for the investors as well. 
20             So, with that, who wants to begin?  You, 
21   Shannon? 
22             CO-CHAIR JACOBS:  Oh, I will begin. 
23             CO-CHAIR GRAHAM:  Okay. 
24             CO-CHAIR JACOBS:  First, good morning.  And 
25   thank you for allotting time and consideration of 
0022
 1   disclosure effectiveness. 
 2             The SEC's mission has three components:  
 3   Protecting investors; maintaining fair, orderly, and 
 4   efficient markets; and facilitating capital formation.  
 5   All three of these missions are important to today's 
 6   discussion, but we are going to focus on number 3:  
 7   Disclosure effectiveness and its effect on capital 
 8   formation. 
 9             The issue of disclosure effectiveness is 
10   important, as is scaling that disclosure.  Both are 
11   critical to small and emerging companies.  The burden of 
12   increased regulations post-Enron and subsequent collapse 
13   of the RPO market is well-documented.  Indeed, many of 
14   these issues led to the creation of the JOBS Act. 
15             What we would like to do this morning is 
16   connect the dots and drill down into some real-world 
17   actual examples, providing information for those of us 
18   who live the regulations and the compliance issues every 
19   day.  Shannon and I are going to attempt to do just that. 
20             Please assume at the outset that Shannon and I 
21   understand the need to protect investors, both our own 
22   and those in general.  Shannon Greene has 15 years' 
23   experience as a NASDAQ CFO, and I have 20 years' 
24   experience as a New York Stock Exchange CEO.  What we 
25   suggest or talk about today in no way compromises the 
0023
 1   charge of protecting investors.  Instead, we intend to 
 2   strike a balance and give some examples of rules that, 
 3   some of which are SOX and some of which are Dodd-Frank, 
 4   harm small companies and capital formation.  Increased 
 5   regulations burden small companies with escalating costs. 
 6             These costs to comply eat up precious cash of 
 7   our small, emerging companies.  That cash usage comes at 
 8   the expense of things like R&D, M&A, investing in new 
 9   product extensions, purchasing capital equipment, 
10   building new plants, new job creation.  And all of these 
11   things stimulate the state, local, and national 
12   economies. 
13             Existing small companies with a market cap of 
14   greater than 75 million have to comply to the same rules 
15   and regulations as our companies, largest public 
16   companies, like GE, J&J, Morgan Stanley, JPMorgan, and 
17   even Disney.  The compliance costs as they exist today 
18   are a disproportionate burden on a small company. 
19             The costs to comply for the large companies 
20   that I just mentioned are more easily absorbed by those 
21   large companies, often handled with in-house staff.  It 
22   is not the case with a small public company; whereas, 
23   most of us have to go out and incur a higher expense 
24   because these are done without the compliances done by 
25   outside vendors.  So for the small public company, the 
0024
 1   costs are material and scale matters.  One size does not 
 2   fit all when we continue to absorb one new regulation 
 3   after another. 
 4             Painting all small companies with the same 
 5   broad brush harms the small companies in ways that I 
 6   believe our policy-makers surely never contemplated 
 7   because the playing field is not at all level for the 
 8   small companies.  Treating all public companies in the 
 9   same manner, with no adjustment for size, past behavior, 
10   or historic good performance, is not only harmful, but it 
11   exacerbates an already challenging environment for us, 
12   especially with weak economic growth. 
13             Lastly, small companies post-Enron were 
14   inextricably caught up in and punished with the same 
15   regulatory fervor as the large companies, including those 
16   that suffered, the large companies that suffered, 
17   catastrophic losses and imposed an enormous burden on the 
18   U.S. taxpayer and investors, like an AIG.  Net-net, the 
19   small public companies were caught up in the resulting 
20   economic and regulatory tsunami. 
21             Between the years 1998 and 2012, 7,769 -- that 
22   is almost 8,000 -- companies delisted from the ranks of 
23   our public companies.  The JOBS Act has given us hope and 
24   has begun to move the needle.  It has reopened a key 
25   fundraising avenue for our growth in emerging companies. 
0025
 1    One cited reason is the JOBS Act relaxed certain rules 
 2   for companies wishing to go public.  It specifically 
 3   postponed or eliminated the implementation of certain 
 4   rules and regulations. 
 5             Companies with revenue of less than $1 billion 
 6   are entitled to these enhancements.  But wait a minute.  
 7   What about the existing small companies that have revenue 
 8   of less than $1 billion?  Unless a company has a market 
 9   cap of less than $75 million, the answer is nothing.  
10   There is a vast array of public companies now caught in 
11   the middle who have had no relief.  Instead, the 
12   regulations continue to pile on. 
13             Existing public companies could surely use some 
14   relief.  After all, we need to remember they are already 
15   public.  They already have internal controls in place.  
16   They are already compliant.  They already have audited 
17   financials.  They are known to their regulators.  They 
18   have a history, both with their investors and with their 
19   regulators.  They, too, are engines of growth.  They are 
20   not the IPO du jour.  And their goals are the same as 
21   those of the emerging growth companies, and that is to 
22   grow and to create jobs. 
23             At this point, I am going to share some real-
24   world exact examples of compliance costs on one of these 
25   small companies.  This example is a New York Stock 
0026
 1   Exchange company with $80 million in revenue, 22 years of 
 2   being public, no restatements ever, no wrongdoing, the 
 3   cost per year of external auditors $637,000 a year.  It 
 4   doubled in the three years post-SOX.  Internal audit cost 
 5   this company $237,000 per year.  Do you know insurance 
 6   went up after Sarbanes-Oxley?  That is now $566,000 a 
 7   year.  Again, it is an $80 million in revenue company.  
 8   Internal salaries related strictly to compliance, $1.2 
 9   million a year with an average annual growth rate of 15 
10   percent per year.  External legal costs, no M&A, no 
11   contracts, strictly compliance issues, $208,000 a year.  
12   Employee health insurance, $1.1 million a year.  This is 
13   a total annual cost of $4 million.  If eliminated to this 
14   public company, the pre-tax income minus goodwill, et 
15   cetera, would have increased 55 percent to the immediate 
16   benefit of its investors.  This equates to $8,000 per 
17   employee for compliance costs.  That is 100 new jobs per 
18   year at an average pay rate of $40,000 a year. 
19             These actual expenses that I am sharing with 
20   you today were compiled in 2008.  Dodd-Frank was enacted 
21   in 2010.  Now that it is 2015, I will let you all do the 
22   math going forward. 
23             Now I am going to change course and provide a 
24   list of regulations which coincide with the JOBS Act 
25   relaxed rules and are not available to existing 
0027
 1   companies.  And I don't believe they lead to investor 
 2   fraud either.  This list also includes suggestion for 
 3   rules that currently create costly disclosure burdens or 
 4   rules that simply represent disclosures that put small 
 5   companies at a competitive disadvantage:  say on pay, say 
 6   on pay frequency.  The new pay disclosure, pay for 
 7   performance, which is out on the comment period, 
 8   mandatory auditor rotation, XBRL, proxy access if 
 9   enacted, conflict minerals disclosure, another pending 
10   regulation, the median employee pay ratio to the CEOs 
11   comp, auditor attestation, compensation policies versus 
12   risk disclosures, PCAOB rule adoption timing, and exhibit 
13   filing requirement.  Currently small companies, all 
14   companies, have to provide any material contracts as part 
15   of their disclosures.  That includes schedules and 
16   attachments. 
17             I doubt anybody has contemplated that that 
18   particular rule when you have to disclose those contracts 
19   and the exhibits and attachments were used by foreign 
20   customers and foreign competitors to demand pricing 
21   concessions from the small U.S. companies.  This is a 
22   real-world example of where disclosure actually harmed 
23   the small company. 
24             Notice the list that I have provided involves 
25   no financial/accounting shortcuts or avenues to defraud 
0028
 1   investors.  The JOBS Act and its authors were right on 
 2   track with capital formation and understanding that 
 3   regulatory compliance is a hurdle for companies in job 
 4   creation.  So what about the existing companies and 
 5   providing them a level playing field and providing them 
 6   with the runway for growth? 
 7             Small existing companies are known to the 
 8   regulators.  And they deserve some of the same 
 9   concessions provided by the JOBS Act.  They shouldn't be 
10   penalized because they went public before the act. 
11             So think about this.  This particular class of 
12   public company represents less risk to the investing 
13   public than an IPO.  JOBS Act was the right move, but we 
14   somehow forgot the little companies in the middle. 
15             As of 2011, 70 percent of the public companies 
16   have a market cap of less than $250 million.  This 
17   population only represents 5 percent of the total market 
18   cap of all public companies.  They also represent less 
19   than 5 percent of the total average trading volume and 
20   less than 1 percent of the public float of all exchanges. 
21    These companies do not represent a systemic risk to the 
22   U.S. economy.  They are, however, an engine of growth in 
23   their one class of business that deserves a level playing 
24   field.  And it would be nice if this population of 
25   companies were somehow viewed as worthy of correlation to 
0029
 1   the JOBS Act.  Perhaps size, behavior, and historic 
 2   performance could matter and we could employ a common 
 3   sense approach to disclosure effectiveness because our 
 4   existing companies struggle just as much as the IPOs 
 5   struggle with increased disclosure requirements. 
 6             Thank you.  And, with that, I am going to ask 
 7   Shannon. 
 8             MS. GREENE:  Thanks, Chris. 
 9             I wrote my comments out today as well because I 
10   tend to ramble and rant.  And I didn't want to do that.  
11   I wanted to use the time effectively.  So I apologize in 
12   advance for reading. 
13             I do appreciate the Commission's interest in 
14   this topic.  It is very relevant and timely.  And also 
15   thank you to Chris and Stephen and my fellow Committee 
16   members for emphasizing the importance of this topic such 
17   that it made it on today's agenda. 
18             To give some perspective to my comments today, 
19   I thought it was important to share a little bit about my 
20   company.  Tandy Leather Factory is public.  Our shares 
21   trade on the NASDAQ.  And we have been public since 1993. 
22    Our revenue is approximately $85 million, and our market 
23   cap is the same.  But our public float is less than $75 
24   million due to 1 large shareholder that sits on our 
25   board.  We are approximately 60 percent institutionally 
0030
 1   owned.  And our trading volume is averaging approximately 
 2   8,000 shares a day so far this year. 
 3             I think we can all agree that the JOBS Act was 
 4   a good thing.  It helped smaller companies who want to go 
 5   public.  But as the CFO of a small company that has been 
 6   public for over 20 years, what help are we actually 
 7   getting? 
 8             I recognize that there has been some disclosure 
 9   relief for us as a smaller reporting company presenting 
10   two years of audited statements, rather than three, but, 
11   frankly, after presenting three years of statements for 
12   so long, eliminating one column on our financial 
13   statements is hardly what I would call relief.  We still 
14   present three years of statements in our filings. 
15             We did drop the stock performance graph from 
16   our filings, not because it was particularly burdensome 
17   to include but why spend the money to buy the graph if 
18   you don't have to?  I would think, however, that 
19   investors might find the graph useful, although I have 
20   yet to be asked about it since we dropped it. 
21             XBRL.  I am still not convinced that anybody is 
22   using our XBRL files, but I admit that I don't have any 
23   way to prove that.  We use an outside vendor, spending 
24   more than $10,000 a year, and have yet to be asked about 
25   it by our investors or anyone else, for that matter. 
0031
 1             Conflict minerals.  I am still trying to figure 
 2   out how this disclosure helps investors.  Is this one of 
 3   the criteria used when making investment decisions?  I 
 4   don't know the answer to that question.  I have never 
 5   been asked about that either. 
 6             Executive comp.  While a former CD&A isn't 
 7   required for us, we still had to expand our disclosures. 
 8    We hired an outside comp firm to review our comp 
 9   programs in order to sufficient deal with say on pay. 
10             PCAOB and the auditors.  This may be outside of 
11   the scope of this topic, but I could spend the entire 
12   morning talking about the negative changes to the 
13   relationship between auditors and issuers, which seems to 
14   be blamed on the PCAOB more often than not.  Our auditors 
15   have been such for more than 10 years.  It is painful to 
16   live through the degradation of our relationship.  They 
17   are a good firm, but I have watched them become more of a 
18   regulator than a business partner.  I understand there is 
19   a line there, but, frankly, in order to audit efficiently 
20   and effectively, there needs to be a spirit of 
21   cooperation between auditors and their clients.  Instead, 
22   my experience is that auditors are now considered to be 
23   the guy with the big hammer while we as the client wait 
24   to be hit with it. 
25             I will conclude my comments with a short 
0032
 1   excerpt from testimony that I gave to the U.S. House 
 2   Small Business Committee in 2007, the point being made 
 3   that as small public companies, our investors know us.  
 4   They have been on site, met face to face with management. 
 5    They are investors in our company, not because of 
 6   extensive disclosures but because they believe in the 
 7   people running our company. 
 8             The issue then was SOX, but I think you can 
 9   exchange any reference to SOX or internal controls with 
10   some current disclosure topic:  XBRL, say on pay, et 
11   cetera. 
12             Here it goes.  We are considered a micro-cap in 
13   the world of public companies.  Our market cap and 
14   trading volume is quite small, relatively speaking.  
15   Approximately 35 percent of our outstanding stock is 
16   owned by institutions, some of which are so large they 
17   could buy our entire company and not even realize it.  I 
18   meet with a number of these institutions as well as 
19   individual stockholders either via telephone or in person 
20   numerous times a year.  Many of our stockholders own our 
21   stock because they believe in the potential of our 
22   company and are comfortable that the management team 
23   knows how to grow the company and, therefore, increase 
24   its value. 
25             In all of my discussions with our stockholders 
0033
 1   and potential stockholders, I have yet to be asked about 
 2   our internal control system and whether we are or expect 
 3   to be in compliance with Sarbanes-Oxley section 404.  
 4   However, I am frequently asked how much we have and will 
 5   spend trying to comply and how much of a negative impact 
 6   it will have on our earnings. 
 7             While most investors want to invest in ethical 
 8   companies, I am not getting the impression that the 
 9   internal control system is what helps those investors 
10   make that determination.  Again, it is the people of the 
11   company. 
12             With all of that said, I am not minimizing the 
13   importance of effective disclosure.  While I do not 
14   always agree in principle with the rules and regulations 
15   that public companies are forced to follow, I can assure 
16   you that my company takes this very seriously.  As I have 
17   said numerous times, our company chose to play in the 
18   public company game.  And we will play by the rules, 
19   whatever those are, until we find it impossible to do so, 
20   at which time we would have to withdraw from the public 
21   market. 
22             Thanks again for your time.  I turn it back to 
23   Chris. 
24             CO-CHAIR JACOBS:  Thank you. 
25             CO-CHAIR GRAHAM:  Okay.  Thank you, Shannon, 
0034
 1   and thank you, Chris. 
 2             Charles, could we maybe have the benefit of 
 3   your perspective? 
 4             MR. BALTIC:  Thank you, Steve.  Good morning to 
 5   Chair White, commissioners, SEC staff, fellow Committee 
 6   members, and others present today. 
 7             The topic of mandated disclosure and disclosure 
 8   effectiveness is far-reaching and of fundamental 
 9   importance to the regulatory regime for public companies. 
10    It is a big deal.  It is a big topic.  And it relates to 
11   both sides of the equation:  companies and investors. 
12             My practice is in investment banking, emerging 
13   growth companies, particularly the biotechnology space.  
14   And those are companies that fit classically into the 
15   definition of emerging growth companies.  They have been 
16   one of the biggest beneficiaries of the JOBS Act 
17   innovation in terms of numbers of companies going public 
18   and benefitting from an improved environment for IPOs.  
19   They also have an investor base that is very smart and 
20   very efficient in evaluating companies.  It is largely an 
21   institutional investor base. 
22             So I think we need to keep our mind on who the 
23   investors are for different classes of companies, but I 
24   think both companies and investors can benefit from the 
25   disclosure effectiveness efforts in really thinking hard 
0035
 1   about how to revise and update and improve the regime.  
 2   As I said, it is not just a big deal to issuers and 
 3   reporting companies but also to investors.  Things like 
 4   historical stock price graphs or the dilution tables and 
 5   IPO S-1's really have very little, if any, import to 
 6   investors in evaluating companies and investment 
 7   opportunities.  So there are clearly a lot of areas in 
 8   the line item and structuring of S-K and the regulations 
 9   to make things more efficient and more beneficial. 
10             As Chair White has emphasized, when disclosure 
11   strays from its core purpose, disclosure can lead to 
12   information overload to the detriment of both investors 
13   in their investment decisions and voting decisions as 
14   well as unnecessary costs to companies.  Therefore, 
15   mandated disclosure needs to remain relevant and material 
16   to guiding the investment and voting decisions of 
17   investors.  And so materiality as the bedrock principle 
18   of disclosure can and should guide this effort around 
19   disclosure effectiveness and reform. 
20             I think it is also important to note and keep 
21   in mind that the current disclosure effectiveness effort 
22   was spurred in great part by the JOBS Act mandate to 
23   update, modernize, and simplify the disclosure regime, 
24   particularly with regard to S-K, but that was also with 
25   the goal specifically of reducing costs and time and 
0036
 1   other burdens that are particularly onerous for emerging 
 2   growth companies, which are often capital-intensive and 
 3   at development stage than require new equity capital on a 
 4   repeat basis to become successful and profitable 
 5   businesses and create sustained job growth, some of the 
 6   things we heard from Christine and Shannon in their 
 7   remarks about the burdens that companies face in trying 
 8   to get to the next level of commercial success. 
 9             And so the principle of scale disclosure for 
10   smaller cap public companies is and should be intrinsic 
11   to this reform effort. 
12             Now, the Commission staff has been clear that 
13   the disclosure effectiveness effort is also important to 
14   all public companies at all stages of development.  Thank 
15   you, Karen, for your presentation.  I think the efforts 
16   underway are very, very encouraging.  Many of the most 
17   logical, prudent, and potentially effective reforms are 
18   generalizable.  This makes sense.  There are many 
19   potentially fruitful areas of reform in disclosure. 
20             As the staff report on review of disclosure 
21   requirements and Reg S-K have enumerated, there are many 
22   specific opportunities to modernize and update Reg S-K 
23   and also Reg S-X and industry guides as well to delete 
24   outdated requirements, rationalize duplicative 
25   disclosure, harmonize overlapping disclosure between SEC 
0037
 1   and standard setters like the FASB and eliminate 
 2   unnecessary disclosure.  Many of these relate to specific 
 3   line item reform but can also prove to be very, very 
 4   beneficial and very impactful and not harm the disclosure 
 5   that investors are getting.  Many of the comment letters 
 6   received that we heard referred to earlier by the 
 7   Commission also lend a great deal to potential areas of 
 8   line item reform or even broader principles of reform, 
 9   including increasing the scope of principles-based 
10   disclosure to provide companies more flexibility in 
11   meeting the disclosure burden or using emerging 
12   technology to modernize and enhance delivery, things like 
13   expanded cross-referencing or use of hyperlinks, things 
14   that relate to reforming and improving the EDGAR system. 
15             In this regard, significant contributions have 
16   been made through the comment letter process, 
17   particularly entities that have weighed in, including 
18   U.S. Chamber of Commerce Center for Capital Markets 
19   Effectiveness, Business Roundtable, Society of Corporate 
20   Secretaries and Governance Professionals, the ABA 
21   Business Law Section Working Group, and others. 
22             I want to return to the imperative for reducing 
23   the regulatory disclosure burden specifically on smaller 
24   cap public emerging growth companies, which are the 
25   lifeblood of the new economy and economic growth.  This 
0038
 1   Committee, as, Steve, you mentioned earlier, has already 
 2   previously made recommendations to the Commission with 
 3   sensible reform to scale certain requirements for small 
 4   and mid-sized public companies as recently as February of 
 5   2013.  These included a number of very potentially 
 6   important measures revising smaller company reporting 
 7   rules to incorporate the exemptions applicable to 
 8   emerging growth companies, exempting smaller companies 
 9   from requirements to provide the interactive data, the 
10   XBRL formatting -- those are very expensive undertakings 
11   -- revising the exhibit requirements of item 601 to 
12   permit omission of the material schedules and attachments 
13   and filings and also things relating to definitional 
14   aspects of smaller reporting companies, realizing the 
15   definition of smaller reporting company to include 
16   companies with a public float of up to $250 million or 
17   with less than $100 million in annual revenues and, as 
18   Christine also said very effectively, correlating the 
19   JOBS Act scale disclosure to existing small cap public 
20   companies.  These would all provide very significant 
21   relief to emerging growth companies without harming, I 
22   believe, relevant and material disclosure. 
23             To these, I would add potentially others, 
24   potentially revising '33 Act filing requirements, 
25   allowing emerging growth companies to use forward 
0039
 1   incorporation by reference on form S-1, which would 
 2   reduce the burden of filing updates for both IPOs and 
 3   first-year follow-on offerings on S-1, potentially 
 4   shortening the waiting period for companies to use form 
 5   S-3 from 1 years to 6 months, thereby reducing the timing 
 6   risk and uncertainty of undertaking first follow-on 
 7   offerings and facilitating their capital formation and 
 8   potentially creating useful guidance and industry guides, 
 9   specifically for key emerging growth industry sectors, 
10   like biotechnology and social media. 
11             On that point about follow-on transactions, I 
12   would note again the space that I am involved with, 
13   biotechnology, since the beginning of 2013 doesn't 
14   correlate exactly with the JOBS Act, but it roughly 
15   correlates.  Since the beginning of 2013, 56 biopharma 
16   companies have gone public and conducted a first follow-
17   on offering.  The average time to the first follow-on 
18   from the IPO for those 56 has been 9 and a half months, 
19   inside of the 1 year, that makes them shelf-eligible.  
20   The median time was eight months.  And 42 of the 56 that 
21   conducted first follow-ons did so within the first year. 
22    So these are capital-intensive companies that have to go 
23   back to the market on a repeat basis.  I would hazard a 
24   guess that very, very, very few of those companies 
25   actually received comments to their S-1 filings to raise 
0040
 1   capital in follow-ons.  It is not clear to me that the 
 2   benefits of making them wait for a year would outweigh 
 3   the benefits that they would get from having ready access 
 4   to the market on a regular basis. 
 5             So these are some thoughts I have trying to be 
 6   balanced about the goals of improving disclosure for 
 7   investors:  making it relevant, making it focused 
 8   exquisitely on materiality, but also providing benefits 
 9   to companies that face these tremendous regulatory costs 
10   and burdens. 
11             The key to all of these reforms is that they 
12   would enhance capital formation and capital efficiency 
13   for emerging growth companies without compromising but I 
14   believe enhancing the principle of providing relevant and 
15   material disclosure for investment and voting decisions. 
16             And so I would urge the Commission to continue 
17   to undertake this disclosure effectiveness reform effort 
18   with the principles and recommendations just discussed at 
19   the forefront in helping to guide the effort.  Thank you. 
20             CO-CHAIR GRAHAM:  Great.  Thank you, Charles. 
21             Okay.  I would like to open it up to the 
22   balance of the Committee for comment.  There must be some 
23   ideas about what is obsolete or redundant or -- Dan? 
24             MR. CHACE:  I will give it a go.  As a consumer 
25   of these filings on a regular basis, I spent a lot of 
0041
 1   time yesterday just thinking about what I really want to 
 2   find in the filing, when I read SEC documents or when I 
 3   look at a company, what I am trying to achieve.  The 
 4   reality right now is that the SEC documents are really 
 5   just a piece of it.  You have the SEC documents.  You 
 6   have the company reports, the press releases, which, 
 7   increasingly, include a lot of non-GAAP data that is not 
 8   in the 10-K/10-Q's and disclosure, additional 
 9   disclosures, that investors seem to find relevant.  And 
10   there is actually a growing divergence, it seems, between 
11   the GAAP numbers and the non-GAAP numbers, which is 
12   another topic worth addressing, I think. 
13             But, starting back, I think it feels, reading 
14   your document, Keith -- you know, I am always amazed at 
15   how much detail there is in terms of the legal aspect of 
16   these filings and how I just don't notice it as a 
17   consumer.  But my goal really to start with is like who 
18   does the company define as their stakeholders.  Who are 
19   they looking to add value to?  The standard answer for 
20   that is employees, shareholders, customers, right?  But 
21   there is a lot of nuance in that that I think is probably 
22   naive to expect, but the goal there is like am I looking 
23   at a company whose goal is to enrich management at the 
24   expense of shareholders or is it balanced. 
25             From that point, I would love to know, like, 
0042
 1   understand the goals of how that company intends to 
 2   pursue that.  How do they intend to create value for 
 3   shareholders?  Is it through growth?  Is it through 
 4   expanding margins?  Is it through maximizing cash flow?  
 5   Is it through investing that cash flow and growth? 
 6             There is a variety of ways that companies can 
 7   do that.  You don't necessarily get that from the 
 8   disclosures.  You have got a generic business 
 9   description, but you don't get that kind of value-
10   enhancing description, which I think would be useful.  We 
11   as institutional investors get it in other ways through 
12   conversations with management.  Some companies put their 
13   investor presentations on their websites.  Some don't.  
14   But there are additional ways to get that.  But in terms 
15   of SEC filings, it is not there. 
16             Beyond that is understanding those goals of how 
17   do they plan to add that value to the stakeholders and 
18   then understanding the metrics that management uses to 
19   judge themselves to perform to those goals.  And, again, 
20   I think the SEC filings come up short in that regard, I 
21   think mostly because it is a checkmark-type procedure for 
22   them versus a kind of explanatory procedure and a little 
23   bit of a CYA procedure as well. 
24             MR. HIGGINS:  If I can just respond to that?  
25   It is the problem that we have identified that many 
0043
 1   companies treat, particularly 10-K's and 10-Q's, as 
 2   compliance documents.  Of course, they are compliance 
 3   documents.  Look, we have a lot to change in our rules.  
 4   And we will own up to that.  But there is nothing in our 
 5   rules that prevent companies from doing exactly, Dan, 
 6   what you are looking for and what you are laying out    
 7             MR. CHACE:      Yes. 
 8             MR. HIGGINS: --  other than -- and maybe 
 9   Christine and Shannon have views on that.  Why don't 
10   companies view SEC documents as more communication 
11   documents than compliance?  And how can our rules help to 
12   achieve that objective? 
13             CO-CHAIR GRAHAM:  Dan, are you saying that, 
14   just generally speaking, then, it would be useful to have 
15   additional disclosure but the existing disclosure is fine 
16   like it is? 
17             MR. CHACE:  My take was just if I start with a 
18   clean slate, as a consumer of financial information, how 
19   would I like to see it?  What would I like to know?  What 
20   are you trying to achieve when you look at a company and 
21   try to decide whether or not to invest in it?  I am not 
22   saying necessarily that the SEC documents have to include 
23   that information, but it seems logical to me in a way 
24   that they would as a mandated filing for a company.  But 
25   I am more just starting from the point of, what would I 
0044
 1   like to know if I am looking at a company?  And, again, 
 2   there is a variety of ways that companies communicate 
 3   that via press releases, via management meetings, via 
 4   communications with their sell-side analysts, you know, 
 5   presenting at conferences, via public comments to the 
 6   media. 
 7             So, you know, there is always a mosaic.  And it 
 8   is not going to be one document that is comprehensive.  
 9   My take was just more to try to explain to you how I look 
10   at it from a public investment standpoint. 
11             CO-CHAIR GRAHAM:  Yes.  Understood.  And that 
12   is useful.  I think Keith's point is well-taken.  I think 
13   that oftentimes it is more that companies can do in this 
14   regard than -- there is more that they can do, but they 
15   don't do it.  But do you have any thoughts on what is it 
16   that is currently disclosed that you could care less 
17   about? 
18             MR. CHACE:  Well, I can certainly pull my own 
19   stock chart, you know.  It is interesting as a reader of 
20   a 10-K, you know, you tend to gravitate towards specific 
21   sections because you know that you are going to -- it 
22   depends on where you are in your level of understanding 
23   of that company.  If you are trying to -- well, to begin 
24   with, to look at a new company, you tend to read the 
25   business descriptions, which can vary widely in terms of 
0045
 1   its usefulness.  You know, some companies are much more 
 2   precise than others.  And others, okay, you know, they 
 3   make pipes.  You know, that is the kind of conclusion you 
 4   get out of it, and there is not much color. 
 5             The risk factors are interesting simply because 
 6   companies I think feel an obligation from a box-checking 
 7   point of view to be precise on that because they know 
 8   they will probably get sued if they miss one of them.  It 
 9   is interesting to see the changes in those risk factors 
10   over time as well because my sense is the companies are 
11   in tune with that and they need to be complete. 
12             The MD&A, my take is typically too vague to be 
13   of great usefulness, you know.  Just generalities, gross 
14   margin is decreased because of product mix, you know.  So 
15   the management comp is lengthy.  And, really, the key to 
16   that, what you want to know, is how they are paid.  Is 
17   their base salary reasonable?  And their incentive comp, 
18   what is that based on?  And, really, are your incentives 
19   of shareholders aligned with the way they are paid? 
20             The disclosure there, my take is -- I haven't 
21   studied this systematically, but it feels inconsistent 
22   there as well that not all of that disclosure is precise, 
23   you know.  It is nothing like precise to the dollar, but, 
24   you know, the take-aways that are useful to you is when a 
25   management is compensated on, say, growth in adjusted 
0046
 1   EBITDA.  You know as a shareholder that that means a lot 
 2   to them to just grow for the sake of growth, you know, 
 3   profitably, of course, but not necessarily on a first 
 4   share basis, not necessarily organically.  So there is 
 5   disclosure there that is, you know, helpful, but 
 6   inconsistent is my take as well. 
 7             Conflict minerals.  You know, most companies 
 8   just say, "Not applicable," you know, if it is not in a 
 9   manufacturing company.  But there is a growing trend 
10   towards environmental, social governance issues that 
11   companies do find relevant.  But I do find that that 
12   regulation just seems incredibly complex to implement 
13   given the lack of visibility in the supply chain.  It 
14   just doesn't show up in a lot of companies that we look 
15   at. 
16             What else is in there?  The contracts at the 
17   end that you mentioned typically, you know, are way more 
18   precise and necessary than -- unless it is a super large 
19   contract, but, you know, we will kind of glance over 
20   them, but it doesn't seem material in a lot of cases.  
21   You do find as well that there is a lot of overlap, you 
22   know, there is repetition from a business description to 
23   the industry description later.  I don't know if those 
24   are big cost savings items, but    
25             CO-CHAIR JACOBS:  Dan, do you use XBRL to mine 
0047
 1   data? 
 2             MR. CHACE:  We use FactSet and Bloomberg as 
 3   services that I presume link to XBRL.  I don't understand 
 4   the business process behind it, but I assume they do.  
 5   But we are very heavy users of financial data downloaded 
 6   through external data providers, which I assume is XBRL-
 7   based. 
 8             CO-CHAIR JACOBS:  I don't know.  Shannon?  Our 
 9   investor base, I mean, we had about 60 percent 
10   institutional and not one question ever ever about XBRL 
11   because most small companies are in index funds or we 
12   have mom and pops.  Like to Shannon's point, they have 
13   known us forever.  Their issue is "We want to talk to 
14   management." 
15             And, you know, I have got one comment in 
16   response to your wanting -- let's say we have shareholder 
17   presentations, we go to the investor conferences, et 
18   cetera.  I don't know about Shannon or any of the rest of 
19   you that are associated in the public world.  My lawyers 
20   would have shot me to put that presentation into my 
21   filings with the SEC because my understanding is those 
22   are absolutes.  They didn't want comment letters. 
23             I once said I would like to write an end-of-
24   year letter like Warren Buffett does, where you tell them 
25   what you did right and you tell them what you did wrong. 
0048
 1    And the comment came back, "When you are Warren Buffett, 
 2   we will let you do that.  But until then"    
 3             (Laughter.) 
 4             CO-CHAIR JACOBS:  Until then, you have to 
 5   follow the rules and the regs.  And it was like I had to 
 6   be modeled into place by attorneys and auditors on every 
 7   single communication that was going out there that had to 
 8   do with compliance.  Dan, I was never given the freedom. 
 9    And I am not sure I would have taken it because it is 
10   one thing to talk about your regulators on a global 
11   scale, but you have local regulators.  And not all things 
12   are equal in Atlanta, as they might be in Dallas.  The 
13   last thing you need is comment letters coming back 
14   because then, depending on the comment letters, you have 
15   to disclose that.  It is a never-ending world of what you 
16   must do. 
17             Keep in mind if you are at a board meeting and 
18   you have any kind of discussion and there is a lawyer 
19   there or they hear about it later, they come back and 
20   say, "Wait a minute.  That is a material disclosure" and 
21   you find yourself filing S-K's and 8-K's and all the rest 
22   of this stuff when, geez, you are wanting to disclose 
23   things before they are even concrete or they have even 
24   happened in some cases. 
25             CO-CHAIR GRAHAM:  Thanks. 
0049
 1             Other thoughts? 
 2             MS. LUNA:  I had a quick comment.  This is 
 3   Sonia Luna.  Thank you, Karen, for your work on the 
 4   disclosure effectiveness project.  I was recently at a 
 5   conference, LD Micro in Los Angeles.  And I got to meet 
 6   and greet a lot of CEOs of smaller publicly traded 
 7   companies.  I did ask the question about disclosure 
 8   effectiveness just to get some feedback.  The general 
 9   consensus is that there is over disclosure with little 
10   value. 
11             One example would be something that may not be 
12   obviously in the authority of the SEC:  footnote 
13   disclosures.  So a lot of these smaller reporting 
14   companies back -- I went to some of my client base -- 
15   back in 2007 had maybe 10 pages worth of what is called F 
16   pages; right, your financials and your footnotes related. 
17    We fast forward to present day, and there is somewhere 
18   between 24 pages or 26 pages.  You know, so there are 10 
19   additional footnote disclosure pages that the auditors 
20   have to get their minds around, which ties into a 
21   potential solution that I am hoping the Securities and 
22   Exchange Commission will look into:  In other areas in 
23   the filings, if it is already sufficiently present in the 
24   footnotes, maybe the company doesn't need necessarily to 
25   describe something else in the MD&A section if 
0050
 1   comparative financial data is there already in the 
 2   footnotes.  So things like that would be I think hopeful 
 3   to a smaller public company. 
 4             And then also, Charles, to your point about 
 5   scalability, about disclosures, we probably want to 
 6   revisit the thresholds that are currently being applied. 
 7             My last comment, dealing with PCAOB, which I 
 8   call it the smaller public company additional tax.  I had 
 9   a client, a biotech.  They had less than $100,000 in 
10   revenue.  Their stock shot up, and they became an 
11   accelerated filer.  So I had to explain to the audit 
12   committee what that meant in terms of internal control 
13   evaluation by the external auditors.  I gave them only 
14   one work paper that I had to go through.  And I said, 
15   "Here is the before and after."  So I have a testing lead 
16   sheet.  And I had eight fields of data I had to put in 
17   for a summary testing lead sheet for what I had to audit 
18   for controls.  Now that they were an accelerated filer, I 
19   said, "I have 17 fields to enter in data.  So this is 
20   just one summary document.  So I have to get an auditor 
21   to evaluate this new lead sheet to be sufficient enough 
22   for the external auditors to be happy because the PCAOB 
23   regulators have, you know, swung the pendulum on internal 
24   controls in a very stricter scale." 
25             And then I had very great colleagues at the 
0051
 1   larger firms, CPA firms, that are telling me that, you 
 2   know, there is a newer terminology in auditing called 
 3   level of precision.  You know, you have got to audit 
 4   management's judgment.  You know, the degree of work ties 
 5   into that lead sheet that I was just telling you about, 
 6   you know, eight fields of data.  And now you are an 
 7   accelerated filer.  Congratulations.  Now I have got to 
 8   really evaluate a lot of points of focus for that smaller 
 9   company. 
10             And I question, you know, what is the real 
11   value add when this client had the exact same number of 
12   financial reporting people on their staff.  Nothing has 
13   changed in their business model.  I am auditing expenses. 
14    And now I have got to ramp up my audit efforts. 
15             CO-CHAIR GRAHAM:  Thank you. 
16             John? 
17             MR. BORER:  Thank you very much.  John Borer.  
18   I appreciate all of the comments this morning.  I have a 
19   couple of anecdotes I want to just speak to really 
20   quickly, which touch on some of the comments that have 
21   just been made here by Sonia as well as a couple of the 
22   others. 
23             I was with a company for a number of years that 
24   had gone public in 1988.  And through a number of 
25   changes, it had become private again and went public 
0052
 1   again in 2007.  When the company went public, we had a 
 2   prospectus.  The non-F pages I think were 118.  Out of 
 3   interest, I pulled out of the drawer a copy of the 
 4   prospectus from 1988.  It was less than 30 pages, the 
 5   non-F pages, which was interesting. 
 6             To Dan's point here a few minutes ago, working 
 7   on an IPO right now in the med tech space, the first 
 8   draft of the S-1 was from the lawyer.  So it had a lot of 
 9   work to do to be sent to issuers.  Well, as everybody 
10   else involved was an S-1, another company this year that 
11   had gone public in the med tech space with a number of 
12   things redacted, you know, the name, the history of the 
13   incorporation, the shareholder table and all of these 
14   other things.  But 80 percent of the risk factors, all of 
15   the forms, the columns, the description of the business, 
16   the industry, the regulatory environment, and all of 
17   these things were the same, to be changed but to the 
18   point of checking boxes.  There was very, very little 
19   originality going into the comprehensive thought process 
20   behind the disclosure.  To me, if all we are doing is 
21   making this a compliance document and a compliance 
22   regimen, whether it be the '33 or the '34 Act filings, I 
23   think we are creating so much overload of information, 
24   118 pages versus 30, that it is difficult, even for 
25   sophisticated investors, to figure out where to go or 
0053
 1   they just go to where they have interest in what is going 
 2   on, but a retail investor, a brokerage customer of 
 3   E*TRADE or Charles Schwab, I think it is probably not an 
 4   effective disclosure. 
 5             To the work that is being done right now -- 
 6   and, Karen, I appreciate your comments earlier -- I just 
 7   had a couple of questions, whether these were even in the 
 8   analysis that Corp Fin is doing.  And I have spoken to 
 9   this in prior Committee meetings in the prior session or 
10   prior term we had here, a couple of very specific things 
11   if there are any comments.  One is, has this analysis 
12   looked at the benefit of not allowing smaller companies 
13   to use S-3?  Is there any analysis of whether the baby 
14   shelf rules are really enhancing disclosure and investor 
15   protection in the real world?  And has the issue of 
16   issuer registration versus security registration been 
17   visited at all in this context, as it has obviously 
18   proven to be successful in many other securities 
19   regulatory regimes in many other countries?  So, instead 
20   of having to have an S-1 filed and ready to go effective 
21   or an S-3, you sell the securities.  The issuer is 
22   already registered.  And the exchange could admit those 
23   securities for trading.  And you are done.  Is any of 
24   that in the context of what is being evaluated? 
25             MS. GARNETT:  So I think on the S-3 point, as I 
0054
 1   said earlier, we are at this phase of our project focused 
 2   on the disclosure requirements for periodic reporting.  
 3   So we really are not focusing any attention on the 
 4   registration requirements, the '33 Act requirements.  You 
 5   know, certainly there are a lot of areas that are right 
 6   for consideration there, but just in the interest of 
 7   trying to -- you know, as it is, it is a pretty big 
 8   project.  In trying to bite off what we can chew at this 
 9   point, we have decided to focus on the periodic 
10   disclosures.  So no, we are not looking at the S-3 
11   eligibility standards right now. 
12             The second question was company registration.  
13   Again, we are not in the '33 Act space so much on this 
14   project other than the extent to which S-K requirements 
15   apply to both '33 and '34 Act filings.  I will say in the 
16   EDGAR space, though, one thing that we are thinking about 
17   -- and I think that Keith had some remarks in the speech 
18   that was in your materials -- this idea of not company 
19   registration but having some sort of company file or 
20   company disclosure that is more of a static document, 
21   updated periodically as there are developments in the 
22   business, but that could be one way to reduce the filing 
23   burden on companies to the extent that you have the same 
24   information year after year in terms of your description 
25   of the business.  Perhaps that is a different way to 
0055
 1   provide that information to investors without having to 
 2   repeat it in filings every year.  So that is more of the 
 3   long-term project because it would be part of the EDGAR 
 4   modernization effort, but it is an idea that we are 
 5   thinking about. 
 6             MR. HIGGINS:  If I can add, in hopefully not 
 7   making an unpopular statement, in large part, we have 
 8   company registration for companies of $700 million or 
 9   market cap and over.  The WKSZ system is in effect, 
10   company registration, because companies that qualify as 
11   well-known season issuers can file it and go.  And there 
12   is an essentially skinny aspect of the '33 Act 
13   registration offering.  Everything is based on your 
14   public filings.  That is true to some extent but not 
15   entirely the same to companies above the smaller 
16   reporting company level, from $75 million to $700 
17   million.  The S-3 system, the shelf system, they are 
18   allowed to use for primary offerings in effect gives them 
19   that with the exception that they can't offer novel 
20   securities without coming back in to do new filings.  It 
21   is really at the $75 million and below.  That is not 
22   something that is in the wheelhouse of our disclosure 
23   project, but generally it is something that the staff and 
24   the Commission are interested in looking at. 
25             CO-CHAIR GRAHAM:  Okay.  Other thoughts?  
0056
 1   Catherine? 
 2             MS. MOTT:  This is just a question.  As I think 
 3   about what I am listening to here, someone commented that 
 4   there were almost 8,000 companies delisted.  People 
 5   behave in the way that they are rewarded.  So companies 
 6   behave in the way that they are rewarded.  So there is 
 7   obviously something driving that process.  And me as a 
 8   public investor, I would have concerns about that because 
 9   now I don't have public information that I would normally 
10   have.  So I just want to say that. 
11             The other thing is I am all for this capital 
12   formation because it means something to the companies I 
13   invest in.  So facilitating it and making it easier for 
14   our companies to become public companies is valuable to 
15   me and my industry.  On the other hand, I am always 
16   thinking about balance.  One of the things that has been 
17   very valuable to me as someone who invests in public 
18   stocks as well is that the say on pay has been pretty 
19   important to me.  As an investor because, you know, I am 
20   concerned about the abuses of say on pay, even with the 
21   little companies that were on the boards. 
22             So, you know, that is a big issue.  And I would 
23   take it to the next level.  I would like to see say on 
24   where money is going in lobbyists and things like that.  
25   When I am evaluating investing in a company, how much 
0057
 1   money is being spent and to what degree is it going to 
 2   certain things that that company wants to advocate? 
 3             I think, to Dan's point, what I am trying to 
 4   determine is, is management enriching it for themselves 
 5   and their own personal agenda?  So those are the kinds of 
 6   things that are important to me as a private investor. 
 7             So, in listening to all of this, I am not as -- 
 8   I tried to read as much as I could to get up to speed on 
 9   this.  I am not, but I just tried to put myself in the 
10   shoes of me as the investor and how I am evaluating this 
11   and me as a private investor that wants companies to more 
12   easily be encouraged to become public companies because I 
13   think it is good for our economy.  It is very simple but 
14      
15             CO-CHAIR GRAHAM:  Okay.  Thank you. 
16             Greg? 
17             MR. YADLEY:  Thanks to the SEC staff for all 
18   you are doing here and for the three members of the 
19   Commission being here. 
20             This is really hard.  I am a lawyer.  And so 
21   this is what I do all of the time.  And it is really 
22   different working with small public companies compared to 
23   the large companies that we represent.  A lot of it 
24   really has to do with the fact that, as Chris and Shannon 
25   have said, you are running your businesses.  And this 
0058
 1   compliance aspect is something you have to deal with.  
 2   And, as Dan said, it is not necessarily what the 
 3   investors are interested in. 
 4             From the Commission's standpoint and I think 
 5   from outside counsels' standpoint, where you know you 
 6   don't have the opportunity to be consulted all the time, 
 7   with a big client, you get to see press releases.  You 
 8   attend board meetings.  You have lots of contact with 
 9   management.  So in a way, I think the disclosure system 
10   has become -- and this is right to a great extent.  It 
11   has to be the baseline of information that is out there. 
12    And certainly when I review a 10-K for a client that 
13   doesn't use me to review their 10-Q's and rarely for 8-
14   K's, I know that I am trying to make sure that I give 
15   them enough disclosure so that when they have conferences 
16   with investors and make presentations at conferences, 
17   there is enough out there that there is a safety net.  
18   And my experience is that very few people are out there 
19   just trying to enrich themselves and screw the public.  
20   Unfortunately, there are enough of those that we have a 
21   lot of rules simply to prevent against people that abuse 
22   the system.  It is very hard. 
23             One of the things that on conference calls that 
24   I audit for clients that the investors want to know is 
25   what is going to happen next.  Most of the disclosure 
0059
 1   really is historic.  So in the compensation area for 
 2   sure, the link between what the company says they are 
 3   going to do to expand revenues and increase 
 4   profitability, you want to know how that is tied to 
 5   compensation. 
 6             On the other hand, when I read what I consider 
 7   really great public companies' proxy statements to get 
 8   ideas for my smaller clients, they end up not being that 
 9   useful because there is such a degree of detail.  And 
10   executives get paid under eight different plans with 
11   performance metrics that are very hard to understand.  
12   And in a smaller company, it is a lot more simple.  You 
13   know, are you doing your job?  Are you working across 
14   departments because departments don't really matter?  
15   What are you doing to help our company grow and be more 
16   profitable?  And you lose the flavor of that in SEC 
17   filings I think. 
18             So maybe one idea would be more support that 
19   forward-looking statements really are okay.  I think it 
20   is certainly a lot different than it was 10 years ago and 
21   before FD, but that is an area.  The redundancy is also a 
22   problem because, as Shannon was saying with the 
23   accountants, if there is disclosure in the narrative that 
24   is also included in the footnote or something that the 
25   accountants have reviewed, if you get a comment letter 
0060
 1   and you are asked to explain or expand on your narrative 
 2   disclosure, if it is going to affect your footnote 
 3   disclosure, the accountants are not really that helpful. 
 4    And they don't really want you to change something, even 
 5   though there may be a different standard for the 
 6   financial reports. 
 7             So I applaud your effort.  There are lots of 
 8   things in the items mentioned today that can be improved 
 9   upon, certainly can, but I think it is going to be an 
10   unwieldy system because in a way, this really is your 
11   contract with the public, who may be investors today or 
12   may be investors tomorrow.  And you sort of have to have 
13   a lot of that there.  And I think it has to be balanced. 
14             Dan, when you mentioned risk factors, that is 
15   always something really important.  Of course, over time, 
16   risk factors went from something that was part of the 
17   document to a separate section to a section that is now 
18   incorporated by reference.  There has been an ebb and 
19   flow about, do you put everything in?  Do you only put 
20   the important things?  Certainly there is a conservatism 
21   among lawyers and people who have been through litigation 
22   not to leave anything out.  But you do have to hunt quite 
23   a bit and see, you know, beyond all the standard stuff.  
24   Well, this company, what do they perceive as their real 
25   risks? 
0061
 1             So it is a challenge, and I look forward to 
 2   this Committee and through other organizations helping 
 3   you all as much as we can. 
 4             CO-CHAIR GRAHAM:  Thanks, Greg.  You know, you 
 5   touched on a number of points, I think, that relate to I 
 6   think the simple fact that a lot of information that we 
 7   are talking about is useful. 
 8             I am kind of reminded of that quote that "I 
 9   would have written you a shorter letter, but I didn't 
10   have time."  I think there is a fair amount of that going 
11   on, a fair amount of redundancy, a fair amount of things 
12   that are just obsolete.  And so it strikes me that there 
13   is probably some low-hanging fruit before we actually get 
14   into, you know, thinking about kind of, you know, 
15   absolute information that is seen as valuable by a number 
16   of investors. 
17             Milton, were you    
18             MR. CHANG:  Yes.  I thought the three 
19   presentations were extremely thoughtful.  Thank you very 
20   much.  I would like to make more of a trivial viewpoint 
21   that I am not really hopeful that much change can occur 
22   but just nibble around the edges to make things a little 
23   bit simpler because it is a philosophical and expectation 
24   issue of the SEC basically from where I sit in a common 
25   sense viewpoint.  To use an analogy, it is like .01 
0062
 1   percent of the population will catch cancer.  And you can 
 2   make everybody every morning take cancer-preventing drugs 
 3   versus when you have cancer, you do through an intensive 
 4   treatment, which means like severe punishment if somebody 
 5   violates the law. 
 6             The other point is that it is against the big 
 7   government versus common sense versus free economy 
 8   because we want to regulate versus the free economy would 
 9   take care of itself.  If a company does not provide 
10   useful information to shareholders and commit fraud, they 
11   eventually get punished.  But then if the expectation is 
12   for SEC to prevent everything, bad things, from 
13   occurring, then how can it change? 
14             So I think it is really a bigger question than 
15   what this room can address.  Anyway, just simple, minor 
16   comment. 
17             CO-CHAIR GRAHAM:  Okay.  I appreciate that.  
18   And in some ways, I share that perspective.  I think it 
19   is important that -- because this is a big job.  There 
20   are no two ways about that.  It is complex.  There are a 
21   lot of issues.  There is a lot of tension.  But there are 
22   some things that really can be done, like this afternoon, 
23   and no one in their right mind would say that that is a 
24   bad idea.  So yes.  I think I wouldn't consider your 
25   points trivial. 
0063
 1             Anyone else?  Sara? 
 2             MS. HANKS:  Yes.  It is more of a question for 
 3   the staff, actually.  I am a huge fan of the idea of 
 4   company files.  I think it would really help investors 
 5   because they would be able to find stuff on EDGAR, which 
 6   is really difficult right now.  And it would help the 
 7   companies themselves.  But, of course, company files is 
 8   going to be dependent on revising EDGAR, which is older 
 9   than my legal career, which is pretty long at this point. 
10             How many years out are we?  I know that there 
11   have been RFPs go out for like the initial concept phase. 
12    So before I retire, are we going to have EDGAR changed? 
13             CO-CHAIR JACOBS:  When are you going to retire?  
14             MR. HIGGINS:  You look very youthful. 
15             (Laughter.) 
16             CO-CHAIR GRAHAM:  Yes.  How much time do we 
17   have? 
18             MR. HIGGINS:  You know, I think the full EDGAR 
19   modernization project is probably a 10-year undertaking, 
20   but to your point, I think there are some things that we 
21   can do and that we are actually looking at right now.  
22   And we have spoken with groups, even before EDGAR is 
23   totally modernized, to make it easier to find company 
24   information on sec.gov. 
25             We don't necessarily have to display all of the 
0064
 1   information in reverse chronological order based on what 
 2   was filed.  You know, it probably does need EDGAR 
 3   modernization to break apart a filing and have the 
 4   company description in one place and have the MD&A in 
 5   another place and the financial statements in another 
 6   place, but within the context of, you know, can you find 
 7   annual reports, can you find prospectuses, can you find 
 8   proxy statements, it is like you do on a company website. 
 9    We could do that.  And we can probably do that without 
10   any rule changes. 
11             And so we have it on our plate.  Stay tuned.  
12   It may come sooner than you think and clearly before you 
13   retire, Sara. 
14             CO-CHAIR GRAHAM:  Charles? 
15             MR. BALTIC:  Yes.  Steve, I just wanted to 
16   circle back to a thread in this conversation going back 
17   to something that Keith said very early on about 
18   companies can, you know, proactively disclose and tell 
19   their story.  You know, I work with companies in the 
20   biotech sector who are headed by scientists, Ph.D.'s and 
21   M.D.'s who developed some kind of new innovation at a 
22   research institute, gotten it through the venture capital 
23   process, and now need to raise money for clinical trials. 
24    And it is tens, if not hundreds, of millions of dollars. 
25    So they have to do that in the public market.  They want 
0065
 1   to tell their story, and they are very enthusiastic about 
 2   it, but they very quickly come to learn -- and part of 
 3   what I do is help these companies form their stories up 
 4   for the filings as well as the investor audience.  They 
 5   quickly come to fear disclosure.  And I think they look 
 6   at it as a burden very quickly.  And that relates to a 
 7   few things:  The technical compliance burden, which is 
 8   great.  And so I think anything that can be done to 
 9   reduce the burden of technical compliance, where those 
10   things are not relevant or helpful to the investor 
11   audience would be helpful. 
12             The litigation risk associated with disclosure. 
13    And that is another topic for another day perhaps. 
14             I think also on the investor side, they are 
15   concerned about creating expectations for future 
16   disclosure.  And that is an investor issue.  Investors 
17   will come to expect some level of disclosure going 
18   forward.  And so that is perhaps why companies aren't 
19   maybe as proactive as they could be and then simply just, 
20   you know, driving staff comments or triggering a comment 
21   letter where there might not otherwise be a comment 
22   letter, which is a real fear because it can slow down 
23   either a process in an S-1 or a process of filing a 
24   follow-on S-1.  And so I think all of those things go 
25   into it. 
0066
 1             So I think companies are incentivized to try 
 2   and do things that will tell the story to investors in an 
 3   effective way.  In fact, oftentimes when we are forming 
 4   up the road show, something that will be important to the 
 5   investor thesis we will realize doesn't have a link in 
 6   the S-1 and needs to have that link in the S-1.  So you 
 7   will go back and put something in the S-1 that is clearly 
 8   going to be important to the investor audience.  So I 
 9   think it is just a mindset that disclosure is a technical 
10   obligation, as opposed to an opportunity to really give 
11   investors useful information. 
12             There is no easy answer.  It is complex, 
13   probably taking opportunities where their realistic 
14   opportunities for reform are important.  But I think just 
15   reducing the overall burden of disclosure is a really 
16   important goal. 
17             Thank you. 
18             CO-CHAIR GRAHAM:  Okay.  Sure. 
19             MS. MOTT:  Charles, define what you mean by 
20   technical disclosures. 
21             MR. BALTIC:  Well, perhaps adding something 
22   about the company's business that may not be necessarily 
23   required but would trigger, then, some kind of risk 
24   factor disclosure and a whole host of analysis that would 
25   go along with that. 
0067
 1             I mentioned earlier, for instance, the dilution 
 2   tables or filing of exhibits that oftentimes are far 
 3   afield from anything that is really relevant to 
 4   investors' investment decisions.  So I think all of those 
 5   things go into making it a process that is very 
 6   burdensome, very time-consuming, very expensive. 
 7             MS. MOTT:  Okay.  I was trying to I guess 
 8   discern that from scientific technical things.  And so 
 9   you are saying more financial technical things.   
10             MR. BALTIC:  Yes, just the disclosure regime 
11   itself. 
12             MS. MOTT:  Okay.  All right.  That helps me 
13   understand.  Thank you. 
14             CO-CHAIR GRAHAM:  Sonia? 
15             MS. LUNA:  Just one quick question.  Karen, in 
16   your analysis, I wrote down a note about looking at Reg 
17   S-K using a principles-based approach.  Part of that 
18   process, when I think about certain principles, I think 
19   about materiality.  Have you guys in your study thought 
20   about comparing and contrasting, let's say, annual 
21   filings and looking at a particular disclosure section 
22   and say, "If there is no material change," you know, 
23   maybe there could be a principles-based approach in that 
24   disclosure where the company can say, "It is pretty much 
25   the same as last year.  We are going to incorporate it." 
0068
 1    You follow?  "We are going to reference to our prior 
 2   filing because the SEC has done a principles-based 
 3   analysis on this disclosure effectiveness issue."  And 
 4   you looked at materiality being one of the criteria 
 5   because if something hasn't materially changed and all we 
 6   are doing is copying and pasting and then just changing 
 7   the year, you know, maybe that might be a better 
 8   analysis. 
 9             MS. GARNETT:  Let me just unpack that a little 
10   bit because there is a lot of good stuff in there.  So 
11   when we think about or when we are looking at principles-
12   based -- when I say "principles-based," some of our 
13   particular disclosure requirements are written in a 
14   principles-based manner.  In other words, it is up to the 
15   companies to identify the specific information that would 
16   be responsive to the requirement like risk factors or 
17   MD&A.  So that is one aspect of principles-based. 
18             Certainly materiality is something that we are 
19   very interested in looking at.  And I think that, you 
20   know, the Commission has over time in various contexts 
21   addressed materiality, thought about materiality as a 
22   basis for our disclosure requirements, but that is not to 
23   say it is the only basis for our disclosure requirements. 
24    So that is, I will say, a concept that we are thinking 
25   about just broadly in terms of how to evaluate the basis 
0069
 1   for our disclosure rules. 
 2             To the specific point about what about the 
 3   question of disclosure, that really doesn't change much 
 4   from period to period or from year to year.  I think that 
 5   one way of thinking about that question is, how do 
 6   investors access information?  Given that technology has 
 7   changed the way investors can find company information, 
 8   you know, is it important, is it still important, to 
 9   investors to have a single document that is self-
10   contained that has all of the disclosure or can 
11   hyperlinks back to historical filing do the job?  So 
12   those are really great questions I think that we want to 
13   explore further as we are working on this project. 
14             CO-CHAIR GRAHAM:  John? 
15             MR. HEMPILL:  Yes.  I just wanted to, you know, 
16   be one of the lawyers in the room.  I just wanted to echo 
17   what Greg said and just to pick up on one thing that 
18   Christine said.  I think one of the problems you have, 
19   certainly with the periodic filings, is that smaller 
20   companies that have to outsource the review to outside 
21   law firms put cost pressures on the law firms.  You have 
22   to do it on a flat-fee basis.  And law firms, in turn, 
23   just push the work down to lower-cost providers, you 
24   know, junior associates.  They have a checklist.  So 
25   there is absolutely no incentive to try and improve the 
0070
 1   disclosure.  At that point in time, it is just really a 
 2   check the box. 
 3             I am not sure how to make that problem go away, 
 4   somehow incentivize better disclosure.  I know that some 
 5   larger companies, like I saw something on TV about GE, I 
 6   think it was GE, that, even though they had a huge 
 7   disclosure in their 10-K, they had put some charts up 
 8   front to really disclose things a lot better.  I think it 
 9   was also in the Wall Street Journal.  How do you 
10   incentivize companies to do that when they are looking at 
11   this as just a cost center and that the periodic reports 
12   with the SEC are disclosure documents but they are not 
13   sales documents?  It is not even sales documents.  It is 
14   that they are not a document that tells the story about 
15   the company and people don't rely on them for that. 
16             And so it is just basically if it ain't broke, 
17   don't fix it.  And if new regulations come in, you just 
18   lard on the stuff.  And so, consequently, your 10-K goes 
19   from 75 pages to 150 pages in the process of 10 years, 
20   even though it is the same basic company. 
21             CO-CHAIR GRAHAM:  I can't disagree.  Any other 
22   comments, questions?  Tim? 
23             MR. WALSH:  I have, actually, one question for 
24   Shannon.  Were your numbers at your firm similar to 
25   Christine's, the cost, the $4 million in Christine's 
0071
 1   example? 
 2             MS. GREENE:  No.  Our revenue, the company that 
 3   she referenced and our revenues, are about the same, but 
 4   I guess we are doing a fairly decent job of managing 
 5   those costs relative to the dollars that she said.  I 
 6   mean, our employee health insurance matches hers at a 
 7   million, million and a half, for our 500 employees.  Our 
 8   audit fees are 100 grand.  Our attorney fees are 100 
 9   grand. 
10             We don't have internal audit.  I am it.  So my 
11   effective hourly rate has got to be $2 an hour or 
12   something or less, you know, well below minimum wage. 
13             (Laughter.) 
14             MR. WALSH:  This is being taped. 
15             MS. GREENE:  So no.  Maybe we are harder on our 
16   auditors and our attorneys than on compliance.  Maybe we 
17   are doing a good job at that.  I am pretty hard on them. 
18    So yes.  No.  Four million, no, no.  I mean, that was 
19   earnings last year. 
20             CO-CHAIR JACOBS:  See, we had four factors in 
21   four states.  We had a larger infrastructure.  And we 
22   were right in Atlanta, which I think was maybe from a 
23   market point of view going to be a little tougher on 
24   these outside vendor costs.  So yes. 
25             MS. GREENE:  Maybe difference in business, too. 
0072
 1    I mean, we are a retailer.  You know, we run retail 
 2   stores, not manufacturing.  We don't have to    
 3             CO-CHAIR JACOBS:  Right.  We are strictly 
 4   manufacturing plants, equipment, all of that. 
 5             MR. WALSH:  So the other follow-up question I 
 6   guess is to the SEC.  So is there a project to try to get 
 7   these smaller companies exempt or is that stuck in 
 8   Congress?  And where is that?  In other words, why were 
 9   they never given the same opportunities as emerging 
10   companies? 
11             MS. GARNETT:  So part of our current effort is 
12   the various scale disclosure provisions that are 
13   available is something that we are looking at.  So 
14   looking at the existing provisions for scale disclosure, 
15   looking at the differences between the accommodations 
16   available to smaller reporting companies as compared to 
17   emerging growth companies, you know, where are those 
18   differences?  And why, you know, do they continue to make 
19   sense? 
20             So I think those are all questions that we want 
21   to think about as part of this project.  And they are 
22   certainly included in what we are doing now. 
23             MR. HIGGINS:  And, just to follow up, a number 
24   of the JOBS Act provisions are actually applicable to 
25   smaller reporting companies, no CD&A.  In fact, the JOBS 
0073
 1   Act says the comp disclosure is the same comp disclosure, 
 2   at least on the CD&A and the tables, as for smaller 
 3   reporting companies.  Some things, obviously, aren't the 
 4   same, but two years financial statements, same thing for 
 5   smaller reporting companies.  So there is a fair amount. 
 6             On things like exemption from say on pay, that 
 7   is not in our current project.  And, you know, obviously, 
 8   that is something that the Commission would have to 
 9   decide it wanted to do. 
10             What are the other JOBS Act features that from 
11   a disclosure realm would be helpful or    
12             MR. WALSH:  My comments are really just for 
13   Christine's individual company, which I don't think I can 
14   tell you the name of it, but it is studying the cost, you 
15   know, $4 million on an $80 million revenue company.  That 
16   just seems exceptional.  D&O for over half a million 
17   dollars is just -- I can't even comprehend why the costs 
18   are that high. 
19             MR. HIGGINS:  We probably won't have a 
20   rulemaking project on D&O insurance.  I mean, I don't 
21   think it is anything we    
22             MR. WALSH:  That was just one part of it.  That 
23   was 15 percent of the cost.  But still $4 million for a 
24   company just seems incredibly onerous. 
25             CO-CHAIR JACOBS:  I have got a question for 
0074
 1   Keith because on a more global thing, rather than it was 
 2   just this company's cost, you are correct about the small 
 3   reporting companies, but that is market capital less than 
 4   $75 million.  That is a really small population.  And, 
 5   yet, the JOBS Act, which we all love, is a billion 
 6   dollars in revenue. 
 7             So pick a market cap.  Seven hundred million 
 8   might be a fair one, but the gap of relief is just 
 9   enormous.  And, yet, the JOBS Act is on the right track. 
10    They have got it correct in identifying that one of the 
11   impediments to capital formation is disclosure.  I mean, 
12   forget the recommendations.  Forget the list that I 
13   provided.  Forget any of the rest of it.  Just from a 
14   global point of view, it is like, wow, we are getting 
15   this right.  We have identified a very real opportunity 
16   in the area of capital formation.  But there is a group 
17   stuck in the middle that might be able to benefit us 
18   overall.  I mean, that is my point. 
19             CO-CHAIR GRAHAM:  Okay.  I think everyone has 
20   pretty much weighed in.  Richard, have you?  D. J., 
21   anything?  David? 
22             MR. BOCHNOWSKI:  Just to address the forward-
23   looking statements, we are a small company in the 
24   community banking space.  Our market cap is at $78 
25   million.  So we are caught.  And, yet, the public float 
0075
 1   is a lot less than that because 25 percent of the company 
 2   is on the inside-owned, have 18 percent investor that 
 3   comes to us.  And they are very stable in their action on 
 4   the buy side and not on the sell side.  So the kinds of 
 5   questions we get -- and, to add a little levity, you 
 6   know, at our annual meeting this last time, we dropped 
 7   the non-insiders.  We dropped by a third because, instead 
 8   of having three people show up, we had two.  The kinds of 
 9   questions we get, we are in the mom and pop category.  
10   Our shareholders can all find us.  They all can call us 
11   and do. 
12             I am walking into a grocery store two or three 
13   weeks ago.  And a fellow introduces himself, says he is 
14   not only a customer of the bank but an investor.  And the 
15   kinds of questions he asked had nothing to do with what 
16   was in our public disclosures.  He wanted to know what we 
17   were going to do, how we were reacting to certain 
18   conditions in the local economy, and what was our long-
19   term plan. 
20             Now, if I tried to put that into our annual 
21   report or even to my letter in the annual report, we are 
22   back to the lawyer saying, "You don't want to do that 
23   because of the litigation risk and because they are 
24   checking boxes on the security side and don't want to do 
25   it." 
0076
 1             In our case, our costs are about $300,000 a 
 2   year to comply.  In the community banking space, that may 
 3   not seem like much, but we tend to leverage.  So in 10 
 4   times leverage, that is $3 million worth of loans we 
 5   can't make.  Community banks make roughly 50 percent of 
 6   all small business loans in the United States of America. 
 7    Over 10 years, that is $3 million times 10, $30 million 
 8   worth of loans in jobs that we cannot help create.  So 
 9   that just keeps going. 
10             So I almost applauded when you were done, the 
11   same thing with Karen and her comments, and certainly 
12   support Charles in his.  So we would be all for 
13   continuing the process of trying to make the disclosures 
14   scalable, which is critical to the whole process. 
15             Thank you. 
16             CO-CHAIR GRAHAM:  Okay.  Well, thanks, 
17   everyone, for their comments. 
18             I want to put together a recommendation, but 
19   there is a lot here.  I think it will be difficult to try 
20   to get too specific this morning, but what I would like 
21   to do is following this meeting, I would like to put 
22   together a recommendation related to this topic that 
23   would then be circulated to the Committee.  And then I 
24   think we will try to deal with it with a telephone 
25   conference, as opposed to waiting until our next meeting. 
0077
 1             What I would like would be your thoughts on 
 2   what that recommendation might look like.  I mean, it 
 3   seems to me that we certainly are supportive of the SEC's 
 4   efforts.  It seems to me that there are a number of 
 5   things that might be considered controversial.  There is 
 6   also a number of things that are not.  I think there are 
 7   things, a number of things, that could be done 
 8   immediately.  I think, instead of waiting until we can 
 9   kind of solve every problem, it seems to me that it would 
10   make sense to prioritize and start taking care of the 
11   things that can be taken care of immediately immediately; 
12   you know, for example, requiring disclosure with so many 
13   things that people don't even look at because of today's 
14   technology.  I think it is also important to go back and 
15   reconsider the recommendations that we made regarding the 
16   scale disclosure two years ago, see what might be 
17   considered still relevant and perhaps, you know, 
18   reiterate some of those points. 
19             Those are my initial thoughts.  Would anyone 
20   like to add to them or subtract from them?  Does that 
21   seem like a reasonable path forward?  It was kind of a 
22   broad outline. 
23             MR. YADLEY:  Yes.  I think it will be easier 
24   for us to add things to some of those generalities 
25   because there were a lot of different views expressed.  
0078
 1   Even, for example, within the comp period, there were I 
 2   think three different comments that may be hard to mold, 
 3   but I think we ought to do it.  And I think we ought to 
 4   do it over the summer if we can. 
 5             CO-CHAIR GRAHAM:  Yes.  Okay?  Thank you. 
 6             Let's move on to our next topic, which is 
 7   intrastate crowdfunding and rule 147.  We all know that 
 8   the Commission is working toward finalizing rules to 
 9   implement securities-based crowdfunding.  At the same 
10   time, a number of states are enacting legislation or 
11   regulation to provide for intrastate crowdfunding. 
12             Mike has raised this issue to us.  And we 
13   understand it is a timely one for the Commission as well. 
14    So we are pleased to turn it over to Mike to tee up the 
15   issue for the Committee. 
16             MR. PIECIAK:  Well, thank you, Stephen.  And 
17   thank you to the commissioners and to the Committee and 
18   to the Corporate Finance staff for allowing the 
19   opportunity for me and on behalf of the states to talk 
20   about something that we think is really exciting in the 
21   field of crowdfunding, a recent development, in the last 
22   three or four or five years, which is state-based 
23   crowdfunding.  And, again, I just want to emphasize that 
24   state-based crowdfunding is really part of a larger 
25   overhaul that the states and NASAA as an organization are 
0079
 1   contemplating by focusing on our dual charge of 
 2   protecting investors but then also promoting efficient 
 3   capital formation.  This I would say is probably the 
 4   crown jewel of our capital formation initiatives.  It is 
 5   something that we are very excited about, have started to 
 6   see some success, and have some ideas as to how it can be 
 7   improved. 
 8             So first a little historical context.  And, as 
 9   is often the case in blue sky laws, it starts with 
10   Kansas, which in 2011 created something called the Invest 
11   Kansas Exemption, the acronym meaning IKE, which was for 
12   Dwight Eisenhower, their native son.  So Vermont, of 
13   course, was thinking about calling the exemption BERNIE 
14   or something similar to that. 
15             (Laughter.) 
16             MR. PIECIAK:  But we decided to go with a 
17   different acronym. 
18             In 2011, it was really the start of state-based 
19   crowdfunding.  But to go back a little bit to the history 
20   of Vermont because I think it is informative, in the 
21   early '80s, there was an intrastate movement with a 
22   number of well-known companies, the most well-known being 
23   Ben and Jerry's.  They did an intrastate offering, took 
24   advantage of rule 147, offered their initial shares to 
25   only Vermont residents.  There is a funny story about how 
0080
 1   their offering was originally on the underneath part of 
 2   their cap of their ice cream and that the ice cream had 
 3   to be brought into the Department of Financial 
 4   Regulation.  I am not sure what happened to it then. 
 5             (Laughter.) 
 6             MR. PIECIAK:  So, anyway, there is a number of 
 7   other companies:  Earth's Best Baby Food, which was 
 8   purchased by Heinz corporation in 2005; a company called 
 9   the Catamount Brewery, which, unfortunately, went out of 
10   business around 2000 but really sparked the craft brewery 
11   movement in Vermont, which is a very strong economic 
12   basis for our state, has created a number of small 
13   businesses that do craft breweries.  And they are very 
14   good. 
15             So it is really about local investing, about 
16   putting money back into the local economy, supporting 
17   your neighbors, your colleagues, your friends, and 
18   helping those small businesses grow and expand. 
19             So I will turn to the slide here just to give 
20   you an example of how many states currently have state-
21   based crowdfunding or some form of state-based 
22   crowdfunding.  You will see that the green represents 
23   states that have state-based crowdfunding fully enacted. 
24    And I believe there are 16 plus the District of 
25   Columbia.  There are another nine states, which are 
0081
 1   represented in blue, which have legislation passed and 
 2   are engaged in rulemaking to finalize state-based 
 3   crowdfunding.  There are I think 12 additional states 
 4   that have legislation pending, which is in that yellow 
 5   color.  And then there are three states that are 
 6   currently investigating state-based crowdfunding as an 
 7   option going forward. 
 8             So in the very near future, we will have a 
 9   majority of states that will have some form of state-
10   based crowdfunding up and running.  Traditionally, the 
11   limits of the state-based crowdfunding that we have seen, 
12   there is a variety of limits and particular rules, but, 
13   on average, it is a million dollars per offering, $2 
14   million if you have audited financial statements.  The 
15   cap on individual investment is at a maximum of $10,000. 
16    Some states are less than that, but the highest is 
17   $10,000.  And then for non-preferred credited investors, 
18   there is usually no cap.  There is no limitation on the 
19   number of investors.  For example, in Vermont, we used to 
20   have an exemption that limited investors to only 50 
21   investors per offering.  And recently, last June, as part 
22   of our crowdfunding initiative, we eliminated that cap 
23   and raised the aggregate cap to $1 million.  So, as I 
24   like to say, you could raise $1 from a million Vermonters 
25   if you wanted to, but we don't have a million Vermonters. 
0082
 1    So you are going to have to raise $2 from half a million 
 2   to get to that number. 
 3             So the states are very active.  There is a New 
 4   York Times article that will come out tomorrow that 
 5   highlights the states' initiatives in the state-based 
 6   crowdfunding arena.  Out of the 16 states plus the 
 7   District of Columbia that have active state-based 
 8   crowdfunding, there have been 91 offerings.  And, mind 
 9   you, a number of these states, Vermont included, have 
10   only had this new regulation on their books for less than 
11   a year.  So 91 offerings we think is pretty good for a 
12   start or a first step toward, you know, a really robust 
13   offering process. 
14             So we give you a little flavor of some of the 
15   companies that have taken advantage or the types of 
16   companies that have taken advantage of the state-based 
17   crowdfunding to date.  You will see there is a great 
18   variety:  breweries, grocery store.  There is even a dog 
19   groomer -- I thought that one was particularly funny, but 
20   I am sure they are a good business -- and hair salon and 
21   really a lot of diversity.  There are really two types of 
22   businesses I see.  There are businesses that have the 
23   potential for high growth.  Their investors are probably 
24   looking to maximize their profits.  But then there are 
25   also businesses that have a social or community component 
0083
 1   to them that it is a local grocery store that they want 
 2   to keep in the community and, therefore, the grocery 
 3   store conducts a crowdfunding offering to raise money to 
 4   buy a new building or to buy the building that they are 
 5   in or there is a local food store that is looking to 
 6   expand or craft brewery or anything of that nature.  So 
 7   there are really those two categories, I think, of 
 8   companies out there and two types of investors as well. 
 9             So, again, just to highlight, NASAA has a 
10   crowdfunding resource page on its website that lists all 
11   of the various states that have state-based crowdfunding, 
12   all of the exemptions, all the language for the 
13   exemptions, and provides very fulsome details there. 
14             So when we passed our state-based crowdfunding 
15   in Vermont, we thought, you know, all was sort of well 
16   and good and people were going to be really excited about 
17   it, which they were, but almost immediately I heard from 
18   practitioners in Vermont that there were certain 
19   impediments to using our rules and to using particularly 
20   rule 147.  So I continued to ask, you know, "Articulate 
21   those for me.  Let me know what those are."  It really 
22   came down to three issues.  When I looked outside of 
23   Vermont to other counsel, they repeated these same three 
24   issues.  And then when Mr. Keller submitted a paper to us 
25   sometime last week, I saw that his three issues were 
0084
 1   pretty much the same.  And those were in 1991.  So I 
 2   think we have been dealing with some of these for quite a 
 3   bit of time. 
 4             What I hear repeatedly is, first of all, under 
 5   rule 147, which is a safe harbor right to 3(a)(11), that 
 6   the focus on residency at both the time of the offer and 
 7   the sale is an impediment in our internet age and our 
 8   social media age for an offering to be put publicly on a 
 9   website for it to be promoted actively on social media.  
10   Obviously both of those mechanisms go across state lines. 
11    And whether something constitutes an offer could put an 
12   issuer in a very difficult position and potentially blow 
13   the exemption that they are using, which creates a number 
14   of issues for them. 
15             Another constant impediment is the 80 percent 
16   rule, which requires under rule 147 that 80 percent of 
17   revenues derived from your business, 80 percent of your 
18   business assets, and 80 percent of the net proceeds of 
19   the offering all be within or derived from the state of 
20   operation.  It is a difficult rule to comply with, and it 
21   is a difficult rule to even calculate for some 
22   businesses.  For example, an internet business that sells 
23   online, where are those revenues derived from?  Sometimes 
24   they don't even know where their customers are located.  
25   For a use of proceeds, for states like New England, where 
0085
 1   there is often intrastate companies, what does that mean 
 2   to spend your proceeds within the state and so on and so 
 3   forth? 
 4             One last issue that we continually hear, which 
 5   is not so much an impediment as it probably is just an 
 6   inconvenience, is the inability for a company to 
 7   incorporate in another state but still conduct an 
 8   intrastate offering in the state where the primary place 
 9   of business is.  The clearest example of this would be a 
10   business in Vermont that wants to incorporate in Delaware 
11   to take advantage of the Delaware corporate laws but 
12   can't do that and also do an intrastate offering. 
13             So those are really the three issues that 
14   continually get brought up.  And we have been engaging 
15   with the SEC very proactively and very cooperatively to 
16   look at ways in which those can be changed, those can be 
17   modernized, and that issuers and their legal counsel can 
18   have much more clarity and assurance that when they are 
19   doing an offering, they are not running afoul of state or 
20   federal regulations. 
21             Just to touch also, which is not up here, 
22   sorry, but on rule 504 as well.  There are two states 
23   that have done state-based crowdfunding with both rule 
24   147 and rule 504, one of them being Mississippi, the 
25   other one being Vermont, which we are working through our 
0086
 1   legislative rule process at the moment.  So, basically, 
 2   we allow an issuer to decide, do you want to do a rule 
 3   147 offering or do you want to do a rule 504 offering, 
 4   which would require a lighter registration process but 
 5   pretty similar to the type of disclosure that we already 
 6   require under our rule 147 mechanism. 
 7             So we are sort of excited about offering both 
 8   of those.  However, under rule 504, there are a couple of 
 9   constant similar complaints, impediments that we hear 
10   from counsel, those being that the limit is too low, the 
11   $1 million.  I think that was implemented in 1992 and 
12   hasn't been increased since then.  Particularly when you 
13   are using 504 on a regional basis, the million dollars is 
14   pretty low.  And then the other complaint is that the 
15   securities have to be registered at a state in order to 
16   utilize general solicitation. 
17             So, just for an example, under most of these 
18   intrastate offerings, there are exemptions and they allow 
19   you to do general solicitation, but if you are going to 
20   do the same thing under 504, you would have to be 
21   registered in a state in order to do general 
22   solicitation.  So those are the complaints that we hear 
23   about. 
24             And then one last point that I will make about 
25   an initiative that we are doing in New England, all the 
0087
 1   New England states are attempting to meet up -- we have 
 2   had some issues over the winter due to weather -- 
 3   attempting to meet up to discuss a regional approach to 
 4   crowdfunding and a reasonable approach to capital 
 5   formation within our area, which just makes sense based 
 6   on the geographic size of our region and also considering 
 7   the modern economy and how many people live in New 
 8   Hampshire but work in Boston or live in New Hampshire and 
 9   work in Vermont and vice versa.  So that is also an 
10   exciting new initiative that the states in New England 
11   are working on and a number of other regions are also 
12   contemplating as well. 
13             So that is sort of the brief overview.  And I 
14   will sort of leave it at that.  And we are more than open 
15   and willing to answer any questions that you have. 
16             The one thing I think from our perspective that 
17   we would be really interested in hearing from the 
18   Committee about is, in lieu of an 80 percent test, what 
19   would be something that is appropriate which would 
20   connect a business, the nexus that would connect a 
21   business, to a particular state to allow that state to be 
22   the primary regulator of the business while they are 
23   conducting their offering?  We are open, very much so, to 
24   hearing people's thoughts.  And we ourselves are trying 
25   to brainstorm, but that would be a really I think 
0088
 1   interesting discussion. 
 2             CO-CHAIR GRAHAM:  Okay.  You know, I have a 
 3   couple of questions.  I mean, we are talking about, I 
 4   mean, obviously, you know, the focus of this Committee is 
 5   the capital formation of smaller companies.  And 
 6   certainly crowdfunding has been seen as, if not a 
 7   panacea, seen as certainly something that could represent 
 8   a tremendous opportunity for companies, for smaller 
 9   companies, especially those that are not located in or 
10   near money centers. 
11             So this, what you say, resonates, with me at 
12   least, but it seems to me that there are three different 
13   levels that you talked about.  You know, one is dealing 
14   with rule 147 and 3(a)(11).  Two is kind of going beyond 
15   that and tinkering with 504, which I think raises the 
16   stakes a little bit and kind of complicates the 
17   situation. 
18             And then, to further complicate, there is this 
19   whole notion of somehow doing regional deals that would 
20   somehow be treated, you know, as intrastate offerings.  
21   You know, maybe that is not what you meant, but    
22             MR. PIECIAK:  On the regional approach, it 
23   really would be utilizing a modernized 504 to allow 
24   states to get together. 
25             CO-CHAIR GRAHAM:  Okay. 
0089
 1             MR. PIECIAK:  So it wouldn't be an additional 
 2   exemption, no. 
 3             CO-CHAIR GRAHAM:  No, I didn't think it would 
 4   be an additional exemption.  So you are not trying to 
 5   roll into 147?  You are  trying to roll it into 504? 
 6             MR. PIECIAK:  Correct. 
 7             CO-CHAIR GRAHAM:  Okay.  Okay. 
 8             MR. PIECIAK:  But I think that the heart of 
 9   what we see as impediments are to rule 147. 
10             CO-CHAIR GRAHAM:  Right.  Right.  You know, my 
11   reaction, my initial reaction, would be that that is 
12   where the focus should be. 
13             MR. PIECIAK:  Yes. 
14             CO-CHAIR GRAHAM:  Okay.  Greg? 
15             MR. YADLEY:  Thank you, Michael.  That was a 
16   good summary.  Florida was one of those states that just 
17   passed legislation, even though we have a very 
18   dysfunctional legislature, that sort of walked out one of 
19   the chambers.  But that bill got through. 
20             Could you comment on maybe a similar breakdown 
21   in terms of whether there is a portal concept and that 
22   aspect of it? 
23             MR. PIECIAK:  Yes.  Yes, sure.  So there are a 
24   number of states that require the use of online portals 
25   to conduct an offering, but then there are a number of 
0090
 1   states that have that as an optional thing for issuers to 
 2   decide whether they want to use an online portal or not. 
 3             So, for example, in Vermont, we have an elderly 
 4   population.  And we thought it would not make sense to 
 5   mandate the use of this type of offering to online since 
 6   maybe some folks aren't as familiar with portals and 
 7   getting online to do or maybe not even as comfortable 
 8   with getting online and doing investing.  So we made it 
 9   an option for an issuer to decide to use a portal or not. 
10    Some states, as I said, mandate it, but I think it is 
11   probably a pretty healthy split. 
12             MR. YADLEY:  If you know, the ones that use 
13   portals, do they have some of the similar restrictions 
14   and limitations on what the portal can do in terms of 
15   compensation and maybe education, expectations, and 
16   duration, things like that? 
17             MR. PIECIAK:  As to the federal proposed rules, 
18   yes.  So I can speak in Vermont.  If you go the avenue of 
19   a portal, then we require either registration as a 
20   broker-dealer or registration with our office.  And if 
21   you only register with our office, then you are limited 
22   to more of a subscription fee activity than a success-
23   based compensation.  And I think that is probably pretty 
24   uniform among the states that either mandate portals or 
25   have that as an option. 
0091
 1             CO-CHAIR GRAHAM:  Richard? 
 2             MR. LEZA:  Yes.  I understand on intrastate for 
 3   being a resident that that makes sense as an investor.  
 4   What difference does it make where the revenue comes 
 5   from? 
 6             MR. PIECIAK:  Yes.  You know, that is one of 
 7   the impediments that we see or we hear about, at least, 
 8   from issuers in Vermont and elsewhere, that they ask that 
 9   same question.  So that is why I bring it up as an issue 
10   that should probably be addressed and looked at to decide 
11   a better mechanism for connecting a state with an issuer 
12   than this 80 percent rule. 
13             CO-CHAIR GRAHAM:  Sonia? 
14             MS. LUNA:  I wanted to also hone in on -- you 
15   had asked about us offering more of a solution.  If to 80 
16   percent, then what else?  Has NASAA looked into what -- I 
17   am not familiar with the space -- other countries and 
18   what countries, let's say, based on their rules and 
19   regulations -- do they have different, let's say, best of 
20   breed percentages?  Have you looked at, you know, parts 
21   of the U.K.?  Are they doing crowdfunding?  And have they 
22   come up with some local crowdfunding set of rules that 
23   would be better than the 80 percent? 
24             MR. PIECIAK:  I mean, we haven't looked beyond 
25   North America.  I mean, obviously the Canadian provinces 
0092
 1   are part of the North American Securities Administrators 
 2   Association.  So the acronym isn't lost.  But the 13 
 3   provinces in Canada, those that have crowdfunding, go 
 4   provincially.  Their provinces are bigger than our state. 
 5    So I think it is less of an issue for them, but that is 
 6   a good research exercise I think. 
 7             CO-CHAIR GRAHAM:  It seems to me like that is 
 8   one of those questions where it is like so many aspects 
 9   of securities regulation.  Somehow somewhere, we come up 
10   with a number, whether it is in defining an accredited 
11   investor or demanding a certain disclosure.  You know, I 
12   don't think there is a right number.  At least that is my 
13   reaction.  And I think we can spend the next few years 
14   kind of debating what the right percentage might be.  It 
15   strikes me as narrowing it where the rule of reason 
16   should be applied and understand that this is an 
17   impediment to the state efforts and, you know, coming up 
18   with something that makes sense. 
19             I am not sure.  I am not sure that it is 50 
20   percent or 40 percent.  You know, with revenues, maybe it 
21   is not even a requirement any more.  You know, certainly 
22   when determining whether or not someone has a significant 
23   presence in a particular state, you know, why should it 
24   be 80 percent of something or 70 percent?  I think we can 
25   look at businesses.  And we kind of understand, 
0093
 1   regardless of what else they have going on elsewhere, 
 2   whether or not they have a significant presence in a 
 3   particular location. 
 4             So let's hear everybody else's thoughts.  D. 
 5   J.? 
 6             MR. PAUL:  Yes.  I mean, I think to some 
 7   extent, these problems have been solved.  They just 
 8   haven't been enacted yet.  And it is title III, which is 
 9   to say if we had national crowdfunding, we would not be 
10   discussing how to make it easier for the states to do 
11   financial calisthenics around them, around these various 
12   things, whether it is 147 or we are trying to co-opt 504. 
13             I realize that, I am very cognizant of, the 
14   chair reiterating her desire to have title III lit up 
15   sometime before the end of the year.  I am awfully happy 
16   to continue to hear that.  There is something about the 
17   zero if of October, but what have you. 
18             And I understand that our topic today is to try 
19   to make some of the federal rules more applicable and 
20   less onerous for the intrastate crowdfunding efforts that 
21   exist in order to support more than, say, 91 offerings.  
22   But I wouldn't mind at some point if this Committee would 
23   take up the discussion of title III because I think that 
24   that would fiat all of this discussion with respect to, 
25   you know, what we can do at the state level. 
0094
 1             I also believe that should we actually have 
 2   title III and national crowdfunding or federal 
 3   crowdfunding before the end of the year, that I don't 
 4   know that there is going to be a great deal of appetite 
 5   at the state level to continue with the intrastate 
 6   efforts.  I am not sure that they are going to -- I think 
 7   the federal will supersede it.  I think that the internet 
 8   doesn't know state boundaries, let alone regional 
 9   boundaries.  And I think that that is simply -- that it 
10   will become where crowdfunding for equity and debt goes 
11   to.  I don't think that the portals are going to be 
12   limited to individual states or individual regions. 
13             CO-CHAIR GRAHAM:  You know, I think that those 
14   are good points.  And I am unsure if I could discern the 
15   answer at this point because I think, you know, a lot is 
16   going to depend on the regulations and compliance 
17   features that are going to come into play under title III 
18   versus what the states are requiring. 
19             CO-CHAIR GRAHAM:  Well, it is just a matter of 
20   because, clearly, the efficiency of having a patchwork of 
21   50 jurisdictions or even if the regions are broken up 
22   into 7 is not going to be as efficient as having, you 
23   know, one.  So that would be the suggestion there. 
24             MR. PAUL:  This is all about crowds. 
25             MR. PIECIAK:  If I may just respond to that?  I 
0095
 1   have put a great deal of thought into that as well 
 2   because, you know, if the federal crowdfunding comes 
 3   online, what do the states have to offer?  And it is 
 4   really something that, as I mentioned, we have thought 
 5   considerably about.  I think if you look first at IKE, I 
 6   mean, that predated the JOBS Act in 2011 and was utilized 
 7   prior to the JOBS Act final rules or, you know, proposed 
 8   rules being published.  However, the thing that is going 
 9   to differentiate, I think, local/state-based crowdfunding 
10   and federal crowdfunding, exactly as Stephen mentioned, 
11   is going to be the regulatory compliance. 
12             So, for example, in Vermont and many other 
13   states, we allow up to $1 million without any audited 
14   financial statements.  We allow $2 million if you have 
15   audited financial statements.  We allow a higher 
16   individual investment amount.  And the reason that the 
17   states are comfortable having those higher numbers is 
18   because we are often involved in a much more hands-on way 
19   with the offerings that come through our door. 
20             So I know in Vermont, we have had maybe 25 
21   meetings with businesses that were substantive meetings, 
22   hour-plus long, where we walked through their offering, 
23   talked about their business, talked about what they 
24   wanted to use the money for.  And out of that, we have 
25   had a handful of issuers.  And because of that process, 
0096
 1   we are much more comfortable having higher thresholds for 
 2   businesses to raise money. 
 3             MR. PAUL:  What you are saying is you are more 
 4   comfortable in Vermont with the limits being even higher 
 5   than the federal because at the state level, you weren't 
 6   preempted; whereas, the federal did, in fact, preempt the 
 7   states?  Because of the states' involvement, you are more 
 8   comfortable allowing a higher limit in the instance that 
 9   you said of up to $2 million; whereas, the federal is 
10   limited to a million; correct? 
11             MR. PIECIAK:  Yes.  I don't think it is because 
12   we are preempted. 
13             MR. PAUL:  Okay. 
14             MR. PIECIAK:  But it is because the offer is of 
15   a local nature.  And it is a different rule that we would 
16   be operating from than the federal crowdfunding exemption 
17   that was put in place.  So it has continued to exist as a 
18   separate exemption after the final rules are implemented. 
19    And it really has nothing to do with preemption.  It has 
20   to do with whether we are comfortable regulating our 
21   local region. 
22             MR. PAUL:  I don't actually know.  Maybe you 
23   know the answer to this because you referenced Kansas, 
24   which is oftentimes brought up as a model.  Since it has 
25   been around since 2011, how many offerings has Kansas 
0097
 1   actually had since 2011, the last 4-plus years and in 
 2   what aggregate amount?  I am not trying to put you on the 
 3   spot. 
 4             MR. PIECIAK:  Yes. 
 5             MR. PAUL:  I don't know the answer.  I probably 
 6   should know the answer.  I was wondering if anyone did. 
 7             MR. PIECIAK:  Well, I can tell you as more of a 
 8   general statement, it looks like they have had nine 
 9   offerings and nine offerings that were successful, a 
10   variety of businesses.  But that type of information for 
11   all states that have state-based crowdfunding is 
12   something that we are doing a better job of tracking, not 
13   just how many offerings there have been but how many were 
14   successful, how many are still in business as an ongoing 
15   basis because I think that data is going to be what is 
16   going to help drive the conversation in the future. 
17             CO-CHAIR GRAHAM:  Commissioner Piwowar? 
18             COMMISSIONER PIWOWAR:  Yes.  Thanks. 
19             I just wanted to say, so, just like Mike 
20   Pieciak, I view sort of the federal crowdfunding 
21   regulations that hopefully we will get done very soon and 
22   the state efforts as being complementary of that.  The 
23   federal statute is very prescriptive in terms of the 
24   regulations on the portals, in terms of the information 
25   that has to be provided by the issuers.  Some have 
0098
 1   suggested that it is going to be very successful.  Some 
 2   have suggested that there are some impediments there and 
 3   maybe the federal statute isn't going to be as great as 
 4   some people think.  And that is where the states come in. 
 5             There is a lot of diversity, which I think is 
 6   great because that allows us to experiment. 
 7             And this idea of regional crowdfunding I think 
 8   is even better because then you can get the New England 
 9   states together, maybe D.C., Maryland, Virginia, you 
10   know, those sorts of things.  Kansas City, right, you get 
11   Kansas and Missouri.  You get people, you know, close to 
12   that sort of thing. 
13             My question to Mike and I guess also Sebastian 
14   as well, too, in addition to working on modernization of 
15   rule 147, which you guys have been working on and I think 
16   it is great that there is a potential win-win here for 
17   investors and issuer in this.  And the collaboration you 
18   guys have is fantastic. 
19             In addition to rule 147 and rule 504, is there 
20   anything else the Commission needs to do to help 
21   facilitate this regional crowdfunding or is it simply 
22   those two things and then we are done? 
23             MR. PIECIAK:  I certainly think that if we are 
24   to focus our efforts, rule 147 would be the main focus.  
25   And it is not to say that we shouldn't continue to 
0099
 1   examine what are the impediments going forward, but I 
 2   can't think of any greater impediment than the three 
 3   items that I listed that re contained within rule 147. 
 4             MR. GOMEZ:  And then, Mike, I think one point 
 5   that you had raised that I thought would be helpful to 
 6   better understand, when you were talking about 504 as a 
 7   vehicle for a more regional type of crowdfunding, you 
 8   mentioned the $1 million cap as a potential impediment. 
 9             You also discussed the fact that those had to 
10   be registered with the state.  So is the idea that if the 
11   cap went up, the cost of registration would be offset by 
12   the fact that you can go up.  And, therefore, is what you 
13   were thinking something in which by just raising the 
14   threshold, all of a sudden, the fact that you have to 
15   register becomes less of a factor because you are able to 
16   spread that cost over a higher offering amount or were 
17   you even thinking that there was a concern with the 
18   registration concept itself? 
19             MR. PIECIAK:  Yes.  That is a good question, a 
20   good thing to flesh out.  I do think, to your first 
21   point, if only the dollar amount was addressed, that 
22   would certainly make it more reasonable for an issuer to 
23   register in one of the states to take advantage of 
24   general solicitation. 
25             However, you know, as Mr. Keller points out in 
0100
 1   his paper, the alternative solution is to look at the 
 2   states' level of disclosure.  And if a substantive 
 3   disclosure document is required, what is required in that 
 4   document?  If it is similar to something that would be 
 5   required in a registration context, maybe that is 
 6   sufficient for the usage of general solicitation in the 
 7   504 context.  So I think both of those are things that 
 8   are useful to explore. 
 9             CO-CHAIR GRAHAM:  Charles? 
10             MR. BALTIC:  Michael, thank you for the 
11   presentation.  I just had a question on the three 
12   impediments that you mentioned, so 147. 
13             MR. PIECIAK:  Yes. 
14             MR. BALTIC:  They are very different in 
15   character. 
16             MR. PIECIAK:  Yes. 
17             MR. BALTIC:  The last one, incorporation in 
18   another state, is a choice for the company to make. 
19             MR. PIECIAK:  Yes. 
20             MR. BALTIC:  And they can weigh the benefits 
21   versus risks and make that choice.  The 80 percent rule, 
22   as we have talked about, is something that could be 
23   solved by different numbers and metrics.  The first one, 
24   focused on residency, seems to have a different level of 
25   risk involved, which is just a legal risk.  And I am just 
0101
 1   wondering, of the first two, are they equally 
 2   impediments?  Is one more predominant?  You know, if one 
 3   problem were solved of those, would a lot of the problem 
 4   go away? 
 5             MR. PIECIAK:  Yes. 
 6             MR. BALTIC:  Can you give some sense of the 
 7   relative importance of those three? 
 8             MR. PIECIAK:  Sure.  I would say, again, that 
 9   the third one that I mentioned is more of an annoyance 
10   than it is an impediment.  As you mentioned, it is a 
11   choice.  And if eventually down the road a company 
12   becomes of a sufficient stature, they could always 
13   reincorporate in the state that they wish to have the 
14   corporate laws dictate them. 
15             However, out of the first two that I mentioned, 
16   I would say they are pretty evenly split.  One affects 
17   the way in which you conduct your offering.  And then the 
18   second really affects who can do the offering in the 
19   first place.  And both of them are difficult to comply 
20   with.  And I think issuers are getting probably wise 
21   counsel from their attorneys to really look hard at those 
22   two pieces of rule 147 before deciding to go down that 
23   route to conduct an offering. 
24             CO-CHAIR GRAHAM:  John? 
25             MR. HEMPILL:  Again, thank you very much, 
0102
 1   Michael.  Just to kind of go back to the state of 
 2   incorporation, not to be parochial here, but I never 
 3   advise my clients to incorporate in the State of New 
 4   York.  I had a former partner who actually said it was 
 5   tantamount to malpractice to have someone incorporate in 
 6   the State of New York.  It is largely because of a quick 
 7   in the New York law that makes the ten largest 
 8   shareholders personally liable for wage claims. 
 9             MR. PIECIAK:  Yes.  Yes. 
10             MR. HEMPILL:  And so, you know, one of the 
11   things -- and it was mentioned there as kind of a minor 
12   annoyance.   
13   If it is a minor thing, as far as I know, in my 
14   experience, incorporating in the state means absolutely 
15   nothing to the state.  And it doesn't seem to have any 
16   sort of like tie to the state or anything along those 
17   lines because you always have to qualify to do business 
18   in a case. 
19             MR. PIECIAK:  Exactly, yes. 
20             MR. HEMPILL:  So that one can clearly be 
21   eliminated.  I don't think that has any sort of bearing 
22   on -- so if you are looking to modernize rule 147, I 
23   would say that was one thing you should just 
24   automatically just go. 
25             MR. PAUL:  I was just going to point out the 
0103
 1   pesky issue of the interstate commerce clause, which is, 
 2   you know, probably where that derives from.  So unless we 
 3   are going to get rid of that, then it is going to be an 
 4   issue.  You know, it would then be under -- all of the 
 5   state offerings would then, at least theoretically, be 
 6   subject to federal jurisdiction or federal supervision, 
 7   which is, of course, the point.  We are trying to avoid 
 8   that. 
 9             MR. HIGGINS:  D. J., if I can on the point, it 
10   actually comes from the statute itself, the statute 
11   3(a)(11).  As a condition of that exemption, the statute 
12   requires that you be incorporated in that state.  
13   Congress was presumably trying to get at the question of 
14   what offerings are sufficiently local that they don't 
15   have the jurisdictional connection of interstate commerce 
16   to trigger federal regulation and registration.  So we 
17   would be outside of the safe harbor, but that is okay 
18   because the Commission has exemptive authority. 
19             MR. PAUL:  Right. 
20             MR. HIGGINS:  On the other point, I think the 
21   other points are all trying to get at that same point.  
22   You know, what makes something sufficiently local that 
23   the federal interest shouldn't be involved?  And, you 
24   know, the 80 percents do seem to be a little over the 
25   top.  And I think that is why. 
0104
 1             MR. PAUL:  Yes. 
 2             MR. HIGGINS:  Michael was sort of seeking input 
 3   from this group on what does make the offering a local 
 4   offering or, quite frankly, is that even -- if the 
 5   Commission is using its exemptive authority, is that even 
 6   a relevant factor? 
 7             MR. PIECIAK:  Yes.  That is exactly right, 
 8   Keith.  That is the type of issue that we are trying to 
 9   address.  Which state is in the best position to regulate 
10   the offering?  Which local state is in the best position 
11   and trying to find that right nexus? 
12             One thing, for example, would be to even get 
13   rid of an 80 percent test altogether and focus more on 
14   where the principal place of business is for the issuer 
15   and have that state be the primary regulator.  And that I 
16   think would be a much more simple test for issuers to 
17   comply with and to understand. 
18             MR. LEZA:  That is the point that I was making 
19   at the beginning.  You would end up with two rules.  The 
20   first one would be investors are in your state.  And the 
21   second one is the headquarters are in your state.  And 
22   that should be all. 
23             MR. PIECIAK:  Yes. 
24             CO-CHAIR GRAHAM:  Sara? 
25             MS. HANKS:  I just wanted to make a point on 
0105
 1   technology that I have seen raised not today but in 
 2   previous discussions on this, such as how do you 
 3   establish that somebody is resident in a state when you 
 4   are looking to buy.  And I have seen some "Oh, yeah.  You 
 5   can always tell where a computer is."  Let's not try 
 6   going down that path because it is so easy to use a VPN 
 7   or a proxy so that you can't tell.  So one of the things 
 8   that I think the regulations are going to have to address 
 9   is letting people say where they are, just self-certify 
10   as to their status, and not require any portals or 
11   intermediaries to jump through any hoops in establishing 
12   where somebody is located. 
13             CO-CHAIR GRAHAM:  Yes.  I think that is fair.  
14   You know, certainly it seems to me that we should move in 
15   the direction of being guided by the principles that 
16   guide recent changes over the last several years with how 
17   we look at other private placements when we stop focusing 
18   on who we made the offers to and focus on who actually 
19   bought the securities.  It seems to me that there does 
20   have to be that verification, but it can be some 
21   burdensome.  It just makes compliance impossible. 
22             Sonia? 
23             MS. LUNA:  Yes.  I just want to echo Sara's 
24   comment.  I agree that I think a self-certification 
25   process, the individual makes that statement, instead of 
0106
 1   putting it on the business.  And then I don't think there 
 2   is a good percentage in terms of 80 percent assets or I 
 3   think it should just go away.  I think we are living in 
 4   an economic situation now that we are interdependent.  
 5   And I think just the principal business office of that 
 6   organization should be it.  And that way we can say that 
 7   that is more local. 
 8             Also, just a general comment, I think that the 
 9   dollar thresholds that you were pointing out, a million 
10   and $2 million, seem pretty insignificant.  I mean, I 
11   just think that at the federal level, if anything, I 
12   think that these numbers should be higher to allow, you 
13   know, reduced regulation. 
14             MR. PIECIAK:  They are lower.  At the federal 
15   level, the cap is a million dollars for title III; right? 
16    So at least for the time being. 
17             CO-CHAIR GRAHAM:  Any additional thoughts?  
18   Questions? 
19             MR. SAADE:  Just a quick comment just to remind 
20   everybody I have an observer seat on behalf of the SBA, 
21   but I can tell you that the 28 million businesses across 
22   America, many of which don't have the ability to raise 
23   capital in many of the ways that we have been talking 
24   about here, tell us that they are so excited about this. 
25    So this is what I am going to put to everyone here on 
0107
 1   the Commission, is that something is better than nothing. 
 2    There is a need at the very bottom end of the market for 
 3   capital formation.  Banks got bigger.  Private equity 
 4   funds got bigger. 
 5             So my sense in trying to compare what Ken says 
 6   has done in 15 years with 9 offering or 91 and the 20 you 
 7   showed may not be the best corollary.  And the only 
 8   reason I am saying that is because if you look at the 
 9   other forms of crowdfunding, take out the crowdfunding 
10   parent site, crowd rewards, crowd donations, it is in 
11   billions of dollars.  In fact, the best source of 
12   capital, no offense to anyone here, is not equity and it 
13   is not debt.  It is actually selling things.  That is not 
14   dilutive. 
15             So I think a good way to kind of think about 
16   the size of this potential thing -- and I don't know what 
17   it is going to be -- and it is never going to be the $4 
18   trillion of market cap in the United States and so on and 
19   so forth -- is that this, according to the 28 million 
20   small businesses in America, many of them are very 
21   excited about in some way.  So I don't want us to lose 
22   sight of the fact that there is a very big tug-of-war 
23   that you guys deal with all of the time, which is 
24   protection of the ambassador in capital formation, which 
25   was evident in the public disclosure issue.  It is the 
0108
 1   same thing happening in a very micro level. 
 2             So I know that the chair of the SEC has started 
 3   talking about when and not if, which is a great change, 
 4   but I just don't want us to lose sight that this, even 
 5   though it seems small, is actually going to be quite 
 6   important to the small business community in America. 
 7             And I didn't mean that to sound like a 
 8   political speech, but it is important.  So I am very 
 9   happy about this discussion. 
10             CO-CHAIR GRAHAM:  Well, thank you for that.  I 
11   think it is important to have kind of that real-life 
12   insight. 
13             Charles? 
14             MR. BALTIC:  Steve, just one thought on the 80 
15   percent question.  And we have talked about different 
16   alternatives, principal place of business, but it could 
17   be that there could be thresholds of different measures 
18   and you meet one in the alternative and that is enough of 
19   a nexus to the state to qualify.  I am just thinking 
20   perhaps something that is relatively easily determinable 
21   and maybe much more stable than revenues would be wages, 
22   where the company pays people to work for the company.  
23   And then it is tied directly to job creation, which 
24   presumably is one of the purposes of fostering 
25   local/state development.  So there may be measures in the 
0109
 1   alternative, one of which could include wages at some 
 2   level that could be deemed to be of sufficient nexus with 
 3   the state to meet the test, revised test. 
 4   And that's much easier to calculate based on records that 
 5   are with the labor department of various states.  So 
 6   yeah. 
 7             CHAIRMAN GRAHAM:  Okay.  And if there are no 
 8   other comments, questions, then I call for a 
 9   recommendation.  I can respond to that call.  It seems to 
10   me that it makes perfect sense to modernize Rule 147 to 
11   support these state efforts.  As Bob here just said so 
12   well, this is -- even if we might not think it's a big 
13   deal, this is very, very important to a lot of people 
14   that maybe are not necessarily on our radar screen.  And 
15   in that regard, the focus is on those three things.   
16             I think that to the extent that we can take 
17   state of incorporation out of the picture, I think that 
18   that's useful.  The notion -- these 80 percent numbers 
19   with respect to where the money is spent and where the 
20   business is located, I think those are things that we can 
21   deal with.  I think the wage idea is a good one.  I think 
22   we can leave it to the SEC to kind of come up with 
23   specifics and something that is doable, but the -- you 
24   know, modernizing Rule 147 strikes me as something that 
25   would be, again, very important to facilitate capital 
0110
 1   formation at these levels.  And it strikes me as 
 2   something that really should be noncontroversial and 
 3   that's essentially the way I see it and is that view 
 4   shared or --  
 5             MR. PAUL:  I share the view.  I just would like 
 6   more -- would your recommendation then in terms of 
 7   modernizing it or whatever to make it so that it is not a 
 8   violation to offer but rather only a violation to sell? 
 9             CHAIRMAN GRAHAM:  Correct. 
10             MR. PAUL:  So the contemplation --  
11             CHAIRMAN GRAHAM:  Yes. 
12             MR. PAUL: -- of the sin is not the sin, only 
13   committing the sin is the sin? 
14             CHAIRMAN GRAHAM:  Right.  
15             MR. PAUL:  Okay. 
16             CHAIRMAN GRAHAM:  It seems to work with the Reg 
17   D, and so I think it should work in this context as well. 
18             MR. YADLEY:  I think if you wanted -- as part 
19   of the recommendation for elimination of a strict 
20   percentage in some of these alternatives, I think wages, 
21   employees, main office, headquarters offices are all 
22   good.  Maybe use those as examples so --  
23             CHAIRMAN GRAHAM:  Right. 
24             MR. YADLEY: -- we're not being prescriptive to 
25   the --  
0111
 1             CHAIRMAN GRAHAM:  Exactly. 
 2             MR. YADLEY: -- as they review this, but tell 
 3   them what we think. 
 4             CHAIRMAN GRAHAM:  Yeah.  That's exactly the way 
 5   I see it.  So that's the recommendation.  We'll put 
 6   something -- we'll put pen to paper, but before we do 
 7   that, does someone want to move that we adopt it? 
 8             MR. BALTIC:  I would so move that we adopt that 
 9   kind of a formulation as a recommendation. 
10             CHAIRMAN GRAHAM:  Okay.  Second? 
11             PARTICIPANT:  Second. 
12             CHAIRMAN GRAHAM:  Anymore questions, comments? 
13             All those in favor? 
14             (Chorus of ayes.) 
15             CHAIRMAN GRAHAM:  Anyone opposed?  
16             (No response.)  
17             CHAIRMAN GRAHAM:  Okay.  The last thing that I 
18   want to do before we break for lunch is picking up on the 
19   section -- the so-called Section 4(a)(1 and a half) 
20   exemption.  And I guess everyone got this already, right? 
21             PARTICIPANT:  I got it. 
22             PARTICIPANT:  I think so --  
23             CHAIRMAN GRAHAM:  Okay.  So Sebastian is in the 
24   process of passing out another copy of the recommendation 
25   that I think you've already reviewed.  As you recall, we 
0112
 1   talked about this at the last meeting.  At the last 
 2   meeting we put it to a vote and we all decided to move 
 3   them forward with recommending that the Commission work 
 4   to formalize this legal construct with something that we 
 5   all supported.  I think that the written recommendation 
 6   reflects that position, and again, I think you've all had 
 7   an opportunity to read it before today.  And here's 
 8   another copy.  If I could get a motion. 
 9             MS. JACOBS:  So moved. 
10             CHAIRMAN GRAHAM:  Second?  Okay.  So any 
11   discussion? 
12             Yes, David. 
13             MR. BOCHNOWSKI:  Steve, the only probably 
14   afterthought that I had is that at the 250 million, which 
15   I think we all agree with.  We have to pick a number and 
16   that's a good number.  But as we heard Chair White speak 
17   earlier today about things that were in place the year 
18   that you she graduated from law school, when we as a 
19   committee dealt with the number of registrations -- 
20   registrants of shareholders, it was 300 and that was in 
21   1964 when I was a sophomore at Georgetown University.  
22   I'm just wondering whether or not there should be an 
23   index number here so that 20 or 30 years from now 
24   someone's not sitting here still wondering why we picked 
25   250 million. 
0113
 1             CHAIRMAN GRAHAM:  That's just -- the 250 is 
 2   really just preamble, and I think that probably goes back 
 3   to our charter.  The only thing that we serve up to 
 4   posterity is are the last two lines on the last page.   
 5             MR. BOCHNOWSKI:  Thank you. 
 6             CHAIRMAN GRAHAM:  Okay.  John. 
 7             MR. HEMPILL:  One question when I was reading 
 8   this.  The recommendation mentions existing opinion 
 9   practice, and you know you and I know what existing -- 
10   the existing opinion practices.  But it's not described 
11   in the part leading up to it.  Maybe the -- adding a 
12   sense as to what the existing opinion practice is might 
13   be helpful. 
14             CHAIRMAN GRAHAM:  Okay.  Good point.   
15             Okay, any other comments?  Okay.  Take a vote 
16   on the proposal as amended.  All those in favor? 
17             (Chorus of ayes.) 
18             All those opposed? 
19             (No response.) 
20             Motion carries.  We will adjourn for lunch and 
21   reconvene at 2:00.  Thank you. 
22             (Whereupon, at 12:04 p.m., a luncheon recess 
23   was taken.) 
24                A F T E R N O O N  S E S S I O N 
25             CHAIRMAN GRAHAM:  Okay.  Why don't we get 
0114
 1   started?  So if I could get everyone to take their seats. 
 2   For our first session we're going to have a briefing on 
 3   rules and market structure matters relevant to the topic 
 4   of venture exchanges.  And as we discussed at our March 
 5   meeting, venture exchanges and ATSs are alternatives for 
 6   facilitating secondary trading for private and smaller 
 7   companies.  And this is certainly a topic of interest for 
 8   us that has come up at least two meetings, probably more. 
 9    And it's certainly a topic of interest currently for the 
10   Commission. 
11             At our last meeting we heard from two 
12   distinguished speakers who have been looking at these 
13   issues for a long time -- David Weild and Vince Molinari. 
14    David focused on the decline of small IPOs and the 
15   collapse of the investment banking ecosystem that 
16   provided incentives for exchanges that trade smaller 
17   company stocks.  He advocated for moving away from a one-
18   size-fits-all market model that favors for-profit 
19   exchanges toward a solution that involves venture 
20   exchanges or small cap exchanges.  He proposed exempting 
21   these changes from a number of rules.  
22             And promoting a somewhat different approach, 
23   Vince Molinari encouraged many existing regulation ATS to 
24   facilitate the secondary trading of unregistered 
25   securities.  He suggested streamlining the process for a 
0115
 1   broker-dealer to become an ATS, and he argued that a 
 2   structured ATS mechanism for unregistered securities 
 3   could facilitate Regulation A-plus offerings.   
 4             This is a very complex set of issues, and a 
 5   number of us asked questions last time to try to clarify 
 6   the current state of regulations and market conditions at 
 7   play.  We heard questions such as:  What is the current 
 8   process with the SEC and FINRA for a broker-dealer to 
 9   become an ATS?  What exemptions from Reg NMS might be 
10   needed to be profitable with smaller volumes?  At the end 
11   of that session, the committee decided that as a next 
12   step in our discussion and education it makes sense for 
13   us to get a presentation from SEC staff regarding all the 
14   three-letter acronyms and terminology used in this debate 
15   so we can better understand the current market structure 
16   rules, what is already possible, and what might stand in 
17   the way of some ideas presented as they -- as ways to 
18   facilitate more secondary market liquidity. 
19             To help us with this we'll hear from David 
20   Shillman, associate director for the Office of Market 
21   Supervision within the SEC's Division of Trading and 
22   Markets.  David was here for our last meeting, and David, 
23   I'm sure you can decipher for us all the complexity that 
24   resides in this area.  And you've got 30 minutes to do 
25   so.  So -- (laughter) --  
0116
 1             MR. SHILLMAN:  Okay.  Thanks very much.  I 
 2   think what I -- and you're absolutely right.  It's a very 
 3   complex area from both a regulatory structure standpoint 
 4   and from a market standpoint.  And what I think I'd like 
 5   to do is relatively briefly tee up for you what we have 
 6   observed as the dialogue about venture exchanges has 
 7   become increasingly prominent over the last few years, 
 8   where maybe some common misperceptions and try to 
 9   identify what at least we as the staff all think the real 
10   issues are and what we're looking at.  And in the context 
11   of that, I'll mention some of the relevant regulations.  
12   And it may be -- once I do that, I'd be happy to answer 
13   any specific questions about those regulations and how 
14   they may impact the analysis that you're doing. 
15             So just to start off with a couple of common 
16   misconceptions that we hear quite regularly and in the 
17   dialogue around venture exchanges is, one, the Commission 
18   should permit venture exchanges.  Why are you prohibiting 
19   venture exchanges?  And the first question there is:  
20   What do you mean by a venture exchange?  And to some 
21   people it's a relatively broad definition that would 
22   include any venue for secondary trading of small cap 
23   stocks, including ATSs.  To others I think they mean 
24   trading on a national securities exchange, but one that 
25   has substantially lower quantitative listing standards 
0117
 1   than the traditional markets. 
 2             With respect to the broader definition of 
 3   venture exchange that includes ATSs, those exist today.  
 4   There is a relatively active over-the-counter market for 
 5   small cap securities and some alternative trading 
 6   systems' ATSs like OTC markets are quite active in that 
 7   area.  When it comes to venture exchanges, national 
 8   securities exchanges with lower listing standards, I 
 9   think we've mentioned it at some of the prior meetings.  
10   The Commission has approved exchanges with lower listing 
11   standards, the most prominent example of that being the 
12   BX venture market.   
13             They are -- the quantitative standards around 
14   market cap, a public float, share price were 
15   substantially lower in the traditional markets.  We 
16   approved those rules and from our standpoint, we can 
17   approve exchange rules as long as they meet basic -- the 
18   statutory standards around -- designed to prevent fraud 
19   and manipulation, protect investors and the public 
20   interest, don't unfairly discriminate, not unduly 
21   competitive and the like.  And we can do that with lower 
22   listing standards.   
23             I think the -- given the heightened potential 
24   risks of investing in small cap securities and given 
25   their lower share price, lower public float and the like 
0118
 1   that the greater potential manipulation, we asked for 
 2   some protections in exchange for that such as greater 
 3   vetting of issuers, enhanced surveillance, better 
 4   disclosure to potential investors.  But we have approved 
 5   venture exchanges.   
 6             The real issue is that the BX venture mark and 
 7   other venture exchanges have had difficulty becoming 
 8   viable and the BX venture mark has not actually become 
 9   active to our understanding in part because it's so 
10   difficult to attract liquidity providers.  So we think 
11   the real issue -- the real issue is not should we permit 
12   venture exchanges but are there things that we can do to 
13   make venture exchanges more viable as a business matter. 
14             The second area where I think there's been a 
15   lot of misconception is the impact that regulation has 
16   had on either the viability of venture exchanges or on 
17   secondary trading in small cap stocks more broadly.  And 
18   often you'll hear that your Reg NMS has impaired -- is 
19   impairing the ability of venture exchange to function so 
20   we should exempt venture exchanges from Reg NMS.  And Reg 
21   NMS as you may know is a -- well, it was coined Reg NMS 
22   in the late 2000s but incorporated earlier rules.   
23             You may know that today the markets for equity 
24   securities are widely disbursed among a great variety of 
25   trading venues, a dozen exchanges, 50 alternative trading 
0119
 1   systems, a couple of hundred broker-dealers.  And that's 
 2   -- and that has been done in part through regulatory 
 3   initiatives to facilitate competition.   
 4             Many of the Reg NMS provisions are designed to 
 5   bring together the information generated in these 
 6   disbursed market centers, facilitate access among them, 
 7   create duties that will support best execution so that 
 8   you can get both the advantages of competition among all 
 9   these disbursed trading venues but bring the information 
10   together so that the best price can be really determined 
11   and accessed efficiently and therefore achieve best 
12   execution for customers.   
13             And there are a number of rules that do that, 
14   but the rules around requiring market data, both quotes 
15   and trades, to be centrally consolidated, there's a 
16   trade-through rule that prevents trading from occurring 
17   at a better -- at a worse readily accessible price.  
18   There are rules against locked and crossed markets and 
19   the like.  Admittedly a complex set of rules.   
20             But the fact of the matter is venture exchanges 
21   don't have to comply with Reg NMS.  Reg NMS applies to 
22   NMS securities.  Those are defined as exchange-listed 
23   securities that report pursuant to the established 
24   transaction reporting plans, the CTA and NMS and QTP 
25   plans and securities like those that would have been 
0120
 1   listed on the NASDAQ venture market -- the BX venture 
 2   market would not have been subject to those requirements.  
 3             But I think the real issue with the impact of 
 4   changes of regulation, market structure regulation over 
 5   the last 15 or 20 years to both venture exchanges in 
 6   trading and small cap securities more broadly.  You know 
 7   there are some legitimate issues there.   
 8             As I mentioned, many of these regulations were 
 9   designed to promote competition both among trading venues 
10   and among dealers in securities, and the focus really was 
11   on the larger cap securities and I think there was a 
12   concerted effort originating in legislation to break up 
13   the monopolies of trading in -- primarily in the New York 
14   Stock Exchange, AMX, NASDAQ and create competition among 
15   venues and price competition among dealers and allowing 
16   customers to participate in the price discovery process.  
17             So the thrust of the market structure 
18   regulatory initiative have been to increase competition 
19   over the last 15 or 20 years, and that has been done 
20   through Reg ATS, which created a new type of trading 
21   venue that is subject to a lighter regulatory regime, has 
22   a slightly different mix of benefits and burdens.   
23             But as I said, there are about 50 ATSs a day, 
24   so that certainly increased competition among trading 
25   venues.  It was done through decimalization which 
0121
 1   fostered price competition among dealers by essentially 
 2   decreasing the minimum spread.  It was done through the 
 3   order handling rules that made sure best prices were 
 4   available publicly and that obligated brokers to display 
 5   their customers' orders if they were better than their 
 6   own orders or substantially increased the size.  It was 
 7   done through Reg NMS that essentially required a better 
 8   price to be sought out in other markets.  So the thrust 
 9   of the regulatory initiative has been to increase 
10   competition.   
11             There are arguments either way, but I think the 
12   thrust of the evidence is that those initiatives have 
13   worked well to demonstrably reduce transaction cost in 
14   the larger cap stocks, both for retail investors and 
15   institutional investors.  However, legitimate questions 
16   have been raised as to have they done the same thing for 
17   small cap stocks.  As this pushed toward greater 
18   competition, the squeeze essentially that they put on 
19   dealer profits is that on balance had a negative impact 
20   in this market segment by reducing liquidity rather than 
21   putting us in a position to achieve the benefits of 
22   competition.   
23             So I think -- so as we step back and look at 
24   what we think are the real issues around trading in small 
25   cap securities and how to create a better small cap 
0122
 1   market structure, it really has been initiative designed 
 2   to reduce competition both among trading venues and 
 3   reduce price competition.  And one example of that was 
 4   proved by the Commission last month.  It was the tick -- 
 5   is to basically move back from decimalization tentatively 
 6   to nickel increments for smaller cap stocks to see if 
 7   essentially allowing greater profitability from market 
 8   makers could promote liquidity.  And that will -- tests 
 9   will begin next year and we'll be analyzing the data.   
10             Another area would be -- and this is an area 
11   that I think is of most acute Commission staff focus at 
12   the moment is to see if there is a way to reduce venue 
13   competition, essentially to move away from the efforts to 
14   disburse trading, to encourage competition among trading 
15   venues to take the position that, well, for relatively 
16   illiquid stocks are we better off deemphasizing trading 
17   venue competition allowing liquidity to concentrate and 
18   seeing if that concentration will put us in a position to 
19   extract alternative models that might promote liquidity 
20   and market quality in small cap stocks.   
21             So ideas there would be to see if trading can 
22   be restricted to the listing market.  And if that were 
23   the case, then the listing market for illiquid securities 
24   could, one, be able to offer a better value proposition 
25   to market makers, perhaps an exclusive market maker in 
0123
 1   that exchange.  You will -- like the old New York Stock 
 2   Exchange specialists, you will be the exclusive market 
 3   maker with better information, but in exchange for that 
 4   you have to maintain a continuous quote within reasonable 
 5   parameters and have other obligations to maintain market 
 6   quality.   
 7             Another idea would be if trading was 
 8   exclusively at the listing market they could experiment 
 9   with other models on the continuous trading market.  
10   There's some who say continuous trading for illiquid 
11   securities really isn't the most efficient way to do it. 
12    There should be periodic batch auctions a few times a 
13   day and the like.  And if trading -- and that type of 
14   idea would of course be more effective if the only place 
15   you could trade were -- if batch auctions were competing 
16   with the continuous market.   
17             So this -- there certainly is room for 
18   potentially greater experimentation if trading venue 
19   competition were restricted, and that's something we're 
20   actually looking at.  We do have -- because I say the 
21   legislative mandate was to foster competition 15 or 20 
22   years ago, we have limited room to effectively grand 
23   monopoly trading rights, both -- there are rules that 
24   grant unlisted -- the right to trade through unlisted 
25   trading privileges -- any exchange if the security is 
0124
 1   listed on one exchange.  The Commission has limited 
 2   authority to define the post-IPO interview where -- post-
 3   IPO interval where unlisted trading privileges can't be 
 4   exercised, but that legislative intent indicates that a 
 5   relatively short time period. 
 6             The other thing that we have to think about is 
 7   restricting over-the-counter trading because you could 
 8   restrict trading on other exchanges, but the over-the-
 9   counter market exists for small cap stocks, and there is 
10   the authority for the Commission to do it, but it's a 
11   fairly high hurdle in that we have to effectively show 
12   that fair and orderly markets have been impaired.  And 
13   the only way to reestablish a fair and orderly market is 
14   to restrict off exchange trading of small cap securities. 
15             So in a nutshell that's where we -- those are a 
16   couple of common misconceptions, and I've tried to give 
17   you an idea of where we think the real issues are and 
18   what we're looking at.  But hopefully that sets the 
19   stage, and I'd be happy to go into more detail on any 
20   issue you'd like to discuss. 
21             CHAIRMAN GRAHAM:  Comments? 
22             (No response.) 
23             So David, this -- and thank you for that.  I 
24   mean clearly you understand it more fully than I could 
25   ever understand it.   
0125
 1             MR. SHILLMAN:  That could be a good or bad 
 2   thing. 
 3             CHAIRMAN GRAHAM:  But what do you see as the -- 
 4   as the -- I know that you touched on this, but what do 
 5   you see as kind of the real impediments to moving in this 
 6   direction? 
 7             MR. SHILLMAN:  To moving in the direction of --  
 8             CHAIRMAN GRAHAM:  Of establishing venture 
 9   exchanges. 
10             MR. SHILLMAN:  Of establishing --  
11             CHAIRMAN GRAHAM:  Viable.  Viable. 
12             MR. SHILLMAN: -- viable venture exchanges. 
13             CHAIRMAN GRAHAM:  Yes. 
14             MR. SHILLMAN:  Well, I think that the real 
15   challenge is attracting liquidity providers, because 
16   small cap securities tend to be illiquid, and there 
17   aren't many trades from a -- there's limited opportunity 
18   for profits by market makers.  They also would have to 
19   devote the resources to following the security and making 
20   sure their quotes are -- remain reasonable.  So there's a 
21   lot of effort required and -- for limited potential 
22   profit.  So I think the trick is really designing an 
23   attractive value proposition for them where they would be 
24   willing to make a continuous market with quotes of 
25   reasonable width in securities that don't trade much.   
0126
 1             And so I think that gets to the ideas that I 
 2   was just mentioning.  Is there a way to effectively 
 3   either give them minimum profits through larger minimum 
 4   quoting increments or to give them monopoly trading 
 5   rights effectively by a unique position at the unique 
 6   trading market.  Now all of this has trade-offs of 
 7   course, and by increasing -- and it's a trade-off between 
 8   the interests of capital formation and small companies 
 9   and execution quality for investors or risks to 
10   investors.   
11             So as we look at these issues, we have to keep 
12   in mind that -- we have to be in a position to conclude 
13   that on balance this is better for investors in the 
14   markets, because you increase minimum trading profits, 
15   then that means potentially lower execution quality for 
16   investors.  Similarly, if you grant monopoly trading 
17   rights you get the potential abuses that could occur with 
18   a monopoly trading venue that we would have to be attuned 
19   to. 
20             CHAIRMAN GRAHAM:  To what extent do you think -
21   - well, to what extent is the proliferation of trading 
22   venues a factor?  And is there something that you could 
23   do as a regulator to correct that? 
24             MR. SHILLMAN:  Well, I think the proliferation 
25   of venues is a factor particularly for small cap stocks 
0127
 1   because it limits the ability of a venture exchange, an 
 2   exchange who it decides to list small cap companies to 
 3   experiment with the most -- potentially most viable ways 
 4   to attract liquidity providers.   
 5             If other exchanges can trade the securities 
 6   that are on the venture exchange that can be traded in 
 7   the over-the-counter market, that limits the ability of 
 8   the venture exchange to experiment, for example, with 
 9   periodic batch auctions because it will not be the -- 
10   there will be a continuous market going on alongside and 
11   it would have a much more difficult time attracting 
12   trading interest if the other options was to trade as 
13   occurs normally today continuously.   
14             So if the only place to trade was in a 
15   marketplace where liquidity was aggregated at certain 
16   points during the day, that potentially is a much more 
17   effective way to aggregate liquidity than doing that and 
18   trying to compete with a continuous market.  Similarly 
19   trying to impose meaningful obligations on market makers 
20   and creating an attractive value proposition for them is 
21   going to be much easier if you're the only play, if you 
22   can offer essentially exclusive market making or 
23   designated market making rights as opposed to them 
24   competing with the full range of other exchanges and 
25   over-the-counter venues. 
0128
 1             CHAIRMAN GRAHAM:  Sonia. 
 2             MS. LUNA:  Thank you for that overview, David, 
 3   on misconceptions and I want to make sure I'm not 
 4   misconceiving anything about the definition.  So is 
 5   liquidity providers -- what's the definition of liquidity 
 6   providers.  And then more importantly I heard two 
 7   potential solutions that I just want to be clear.  Are 
 8   they in play or they're about to be in play?  One 
 9   solution I thought I heard was this batch kind of 
10   processing of trades, and the other one was moving the 
11   tick size to minimum of a nickel.  Did I hear that right? 
12             MR. SHILLMAN:  Yes, so first of all, the 
13   definition of liquidity provider, I think that's commonly 
14   market makers.  So someone who makes continuous two-sided 
15   quotes and is willing to either buy or sell essentially 
16   on demand, liquidity provider.   
17             As far as the solutions that are in place, the 
18   tick -- it increased the minimum tick size to a nickel.  
19   That was approved by -- that's a pilot program that was 
20   approved by the Commission last month.  It will be 
21   implemented next May.  So it's been approved, there's 
22   going to be an implementation period.  It will be 
23   implemented next May, last for two years, and we'll study 
24   it.   
25             The other ideas which really are -- there's 
0129
 1   batch auctions and creating monopoly trading rights for 
 2   designated -- a designated market maker.  That would 
 3   require Commission rulemaking and/or legislation to 
 4   essentially override the current right of other exchanges 
 5   to trade unlisted trading privilege or the current right 
 6   of dealers to trade in the over-the-counter market.  And 
 7   that, many would say, would be the most effective way to 
 8   implement those measures.  But there is nothing that 
 9   prevents exchange today from experimenting with periodic 
10   batch auctions.   
11             Actually you may have read last week the New 
12   York Stock Exchange -- for less liquid securities is 
13   planning to implement a midday auction, but they would be 
14   doing so in an environment where there's also 
15   simultaneous, continuous market running.  So I think 
16   there are questions to how viable that can be in 
17   competition with a continuous market. 
18             MS. LUNA:  So these solutions that -- the two 
19   that were just mentioned, have they been implemented 
20   already in other countries where there is an exchange and 
21   therefore that's where we got these potential solutions 
22   to work with? 
23             MR. SHILLMAN:  Well, I can't speak broadly to 
24   what's been done in the other markets.  I have to say it 
25   is really quite similar to the way the U.S. markets used 
0130
 1   to look where the New York Stock Exchange dominated 
 2   trading in its listed securities, 90 percent or so of 
 3   trading volume, and they were able to offer their 
 4   specialists -- the value of proposition of having this 
 5   monopoly position and they were able to effectively 
 6   impose affirmative negative trading obligations on their 
 7   -- on the specialists.   
 8             CHAIRMAN GRAHAM:  John. 
 9             MR. BORER:  Thanks, again.  A couple points, so 
10   maybe I'll do them one at a time if you can indulge me.  
11   But one of the points here in listening and having been 
12   watching this stuff for a couple decades on Wall Street 
13   it seems like the way things used to be worked reasonably 
14   well, and then through -- instead of un-regulating, re-
15   regulating we tried to create competition which now has 
16   made the markets far less efficient I think especially 
17   for these small companies.   
18             To my questions:  In your discussion of venture 
19   exchanges where you gave us the background, does that 
20   include in your mind the venues where non-34 Act 
21   companies would trade as well, or are you staying 
22   strictly with the 34 Act companies that are just illiquid 
23   and deemed in many cases penny stocks today. 
24             MR. SHILLMAN:  Well, by 34 Act, in order to 
25   trade on an exchange you need to be registered, so for 
0131
 1   there to be exchange -- if you take the I guess narrower 
 2   definition of interexchange, which is really a national 
 3   securities exchange, they'd have to be registered -- 34 
 4   Act registered securities.  ATSs, however, don't have 
 5   that restriction.  So non-34 Act registered company can 
 6   and do trade on ATSs.   
 7             With respect to your first question, I think 
 8   what we're coming to realize is I don't think there is 
 9   serious questioning that the move towards greater 
10   competition was of overall net benefit to investors and 
11   market quality for the larger cap stocks just looking at 
12   the data on execution quality both for institutions and 
13   individuals.  I think what we've come -- what we're 
14   coming to realize is that that model might not work for 
15   small cap stocks.   
16             So maybe we need to develop a different model 
17   for small cap stocks and move away from the drive towards 
18   competition, which created complexity, but overall when 
19   you look at the bottom line has seemed to serve investors 
20   well in large cap stocks.  So it's really a recognition 
21   that perhaps there should be differentiation between the 
22   two types of securities rather than saying this idea of 
23   increased competition was bad. 
24             MR. BORER:  Okay.  It used to be a pretty good 
25   life being a specialist on the American Stock Exchange.  
0132
 1             MR. SHILLMAN:  It was good for -- maybe not for 
 2   the investors. 
 3             MR. BORER:  Right.  Right.  So where in your 
 4   mind is the demand for the improvements in the trading of 
 5   these thinly-priced stocks coming from?  Is it coming 
 6   from investors?  Is it coming from the street, or is it 
 7   coming from the issuers themselves? 
 8             MR. SHILLMAN:  Well, I think -- I can't tell 
 9   you definitively where it's coming from.  I mean some if 
10   it is probably originating from the markets.  I think 
11   some of it is probably originating from issuers, and I 
12   would think some of it is originating maybe primarily 
13   from the street because those -- it essentially would 
14   provide greater opportunities for market makers to 
15   profitably make markets in less liquid securities.   
16             Overall the -- interest stocks, because we want 
17   -- our mission is to make sure that we establish a system 
18   where markets are fair and orderly and execution quality 
19   is high for all investors, and we, too, want to make sure 
20   we've designed the right system to benefit the widest 
21   swathe investors in all securities. 
22             MR. BORER:  And just my last point is I think 
23   there's a pretty strong bias on the street these days 
24   against companies to find as penny stocks, so not 
25   exchange listed companies below $5, and many of these are 
0133
 1   below $1.  And even to the point where you have all the 
 2   skull-and-crossbones disclosures that have to go out to 
 3   the customers before they might be solicited or they 
 4   might buy a stock that fits into those categories, you 
 5   have this tremendous bias against non-DTC eligible stocks 
 6   with respect to even being able to put them in an 
 7   account, try to put one into a Charles Schwab account, 
 8   and it takes a really strong effort in order to be able 
 9   to do that.   
10             And the clearing firms for a lot of the broker-
11   dealers that aren't the top ones have a real tough time 
12   even taking those, accepting those securities for 
13   trading.  Given that bias, which I don't think has 
14   happened recently -- I think it's happened over the 
15   course of the last 10 or maybe 15 years, and I think 
16   influenced substantially by the lack of liquidity, the 
17   issues around clearing those stocks in some cases, in 
18   some cases due to quality of those companies and issues 
19   of those types of things.   
20             Getting the dealers back into that business 
21   would seem to be me to a pretty tough hurdle if it's 
22   going to be mainstream as opposed to just some specialist 
23   companies that develop like the ECNs did at one time and 
24   some of the securities to be able to just more 
25   efficiently trade companies that you don't know what they 
0134
 1   do, you don't care what they do, but here's an exchange 
 2   where people who own those stocks or want to buy them 
 3   could come to.  Any comment to that about how to turn the 
 4   E*Trades, the Schwabs, the Morgan Stanleys, the JP 
 5   Morgans, and those people around in that -- in their 
 6   headset as to those small companies? 
 7             MR. SHILLMAN:  Yeah, I don't know that I'm in a 
 8   position to speak in detail about the issues of clearance 
 9   and settlement and the like, although I think I would say 
10   that certainly we want to make sure that the market 
11   structure is designed in a way that is appropriate for 
12   small cap stocks.  That said, we also -- it's very 
13   important for the Commission to make sure investors are 
14   protected.   
15             And the reality is with small cap stocks with 
16   lower market cap -- lower public float, they are riskier, 
17   they're more prone to fraud and manipulation.  So I think 
18   we -- as we look at ways to make the market structure 
19   more efficient, we don't want to lose sight of necessary 
20   investor protections and making sure that they are -- 
21   investors are aware of the risks and the securities are 
22   suitable for them. 
23             CHAIRMAN GRAHAM:  D.J. 
24             MR. PAUL:  Yeah, just -- I have one comment 
25   about batch trading.  I think in the UK it's pretty 
0135
 1   commonplace, and I know that New Zealand is looking at 
 2   it.  I don't know if they've implemented it yet just in 
 3   response to that.  I wanted to just ask about the 144(a) 
 4   ATSs and Reg D securities, which now -- and just if you 
 5   could kind of give me a little bit of color on this.  
 6   Institutions can trade using 144(a) Reg D securities on 
 7   ATSs that have that designation.  Is that correct?  With 
 8   some limitations, like half a million dollars and --  
 9             MR. SHILLMAN:  Yeah, this is a little out of my 
10   area, but if you're talking about the NASDAQ private 
11   market securities --  
12             MR. PAUL:  Right. 
13             MR. SHILLMAN:  Second market shares, but yes, 
14   those do exist with limitations on them. 
15             MR. PAUL:  Right, and that's -- okay.  And what 
16   would it take for -- to open that up since right now it's 
17   limited to QIBs to let's say credit investors, to allow 
18   them -- they who can buy Reg D securities and the primary 
19   market to enable them to then resell in a secondary 
20   context? 
21             MR. SHILLMAN:  I think that would probably 
22   depend on my colleagues in Corp Fin.   
23             MR. PAUL:  Yeah.  So what would we need to do 
24   in order to facilitate that?  What I'm trying to achieve 
25   here is a concrete example of something that we could 
0136
 1   actually do here that's often discussed in certain 
 2   circles, particularly oftentimes on the West Coast where 
 3   you have people who have taken on shares as a result of 
 4   their compensation that are Reg D securities private 
 5   placements, they may not -- the sellers in this instance 
 6   may not yet be accredited investors.   
 7             Of course, upon selling these shares that 
 8   they've accumulated they might actually become accredited 
 9   investors, and they'd like an opportunity to sell their 
10   shares into a secondary market, albeit to either 
11   institutions or to expand it to accredited investors.  
12   And then going further, the ability of accredited 
13   investors and QIBs to freely trade amongst themselves in 
14   Reg D securities. 
15             MR. HIGGINS:  Right, I mean the first point is 
16   that protection is not for the seller; it's for the 
17   buyers.  So you don't need to be an accredited investor 
18   to sell into the market.  The other thing, by the way, is 
19   if they're -- if they would be an accredited investor 
20   after the sale, they're probably an accredited investor 
21   before the sale as well. 
22             MR. PAUL:  It's hard to know what the value of 
23   the --  
24             MR. HIGGINS:  Unless they're selling their 
25   house, their principal residence, but anyway, setting 
0137
 1   that aside.  I mean it goes to sort of the 4-1 -- once 
 2   the -- once they've held the securities for a year and 
 3   our affiliates, I mean, they can freely sell them.  
 4   Anybody can freely buy them from the company.  Now that's 
 5   often -- as we've heard, it's not good enough, these are 
 6   oftentimes people who are exercising options, need to 
 7   raise the money to pay the exercise price, so they need 
 8   to sell immediately.   
 9             I guess apropos of the 4-1 and a half 
10   exemption, that would make -- if you put accredited 
11   investors on a par with QIBs, that would solve that 
12   problem.  The question is whether that's the right 
13   result.  I mean QIBs are QIBs because they manage $100 
14   million of securities.  We've heard a lot about the 
15   accredited investor test.   
16             The other thing is information.  What 
17   information is available to the buyer of those 
18   securities.  That's something that we worry about a lot 
19   and creating an exchange to facilitate the trading of 
20   securities where there isn't adequate public information, 
21   don't we have to solve that? 
22             MR. PAUL:  I guess so.  Although I would say 
23   that you're still -- yes, of course.  But I would also 
24   say that these are the -- if they're in fact accredited 
25   investors, they have access to the same information, 
0138
 1   perhaps even more information since they're allowed to 
 2   purchase in the primary market.  Then why make it more 
 3   restrictive in the secondary when at least at that point 
 4   you have a seasoned piece of paper. 
 5             MR. HIGGINS:  Right, and I guess the short 
 6   answer is:  In the primary market, they're presumably 
 7   dealing directly with the issuer and if they're 
 8   accredited investors they either have the ability or the 
 9   knowledge to fend for themselves and decide what they 
10   need to get from the issuer to satisfy themselves on the 
11   purchase or they walk away from it.  When you're dealing 
12   with --  
13             MR. PAUL:  The secondary. 
14             MR. HIGGINS:  In a secondary market, it's not 
15   quite the same access directly -- I mean they could try 
16   to get access.  Although when you do it on exchange, it's 
17   hard.  Try to get access to your seller, but on a --  
18             MR. PAUL:  The seller might not have access to 
19   the kind of information that was available to the seller 
20   when the seller was the buyer --  
21             MR. HIGGINS:  Correct. 
22             MR. PAUL: -- in the primary.  Could you address 
23   that maybe by hearkening back not to 144(a), but 144 
24   itself so that the -- you have to get the permission of 
25   the issuer in order to trade there and therefore upon 
0139
 1   getting permission you could therefore get information 
 2   from the issuer?  What's the state of the business now? 
 3             MR. HIGGINS:  Right.  I mean -- and one of the 
 4   things about 144(a) is that in order to be eligible for 
 5   the 144(a) exemption, the issuer has to have agreed to 
 6   provide 144(a) for (a) information to anybody who -- to 
 7   any purchaser who requests that information.  So a 
 8   similar --  
 9             MR. PAUL:  Wouldn't that achieve -- so that 
10   would achieve the end.  
11             MR. HIGGINS:  A similar system could achieve 
12   that same end, yeah. 
13             MR. PAUL:  So --  
14             MR. HIGGINS:  So when are we going to do it? 
15             MR. PAUL:  Yeah -- (laughter) -- when are we 
16   going, Keith.  Yes, sir.  Okay.  Thank you.   
17             CHAIRMAN GRAHAM:  Dan. 
18             MR. CHACE:  Just back to the basic venture 
19   exchange concept, I mean if I heard you right, you're 
20   saying that the reducing competition way to promote 
21   venture exchanges is just tougher given it probably 
22   requires legislative change as well. 
23             MR. SHILLMAN:  It may.  We're looking at the 
24   extent to which we have flexibility under -- we have the 
25   ability to define the interval after the IPO during which 
0140
 1   unlisted trading privileges cannot be exercised.  
 2   Legislative history is -- indicates that with short -- 
 3   the initial time period was two days.  So I think our 
 4   ability to, on a long-term basis, restrict unlisted 
 5   trading privileges, it would be very difficult without 
 6   legislation. 
 7             MR. CHACE:  And on the increasing the 
 8   profitability through the tick size angle, have you -- is 
 9   it possible to kind of quantify the current market size 
10   in terms of commissions or revenue opportunity for 
11   broker-dealers that participate -- would or could 
12   participate in a venture market? 
13             MR. SHILLMAN:  Well, I mean some of the data 
14   that we're collecting in the tick size market -- 
15   profitability data, so it will be collected as part of 
16   the tick -- and that will be one of the factors that we 
17   will assess as we're -- we determine whether on balance 
18   wider tick sizes is good for the markets. 
19             MR. CHACE:  Because I'm just curious, like, if 
20   you assume the penny and the total volume trade in these 
21   securities and the average profitability per share or 
22   whatever, I mean is that a market at its current size 
23   that's interesting to anybody?   
24             MR. SHILLMAN:  Well, I think that's the 
25   problem.  Is -- with minimum penny spreads -- and the 
0141
 1   reality is many of these small caps -- the securities 
 2   trade at much wider spreads, but the concern is others -- 
 3   stepping in front of you at the right time, being picked 
 4   off if you're not paying attention, but if the minimum 
 5   trading profit when you do trade is greater, the thought 
 6   is that may be -- it would seem logical it would attract 
 7   more liquidity providers.   
 8             MR. CHACE:  It makes sense.  I'm just trying to 
 9   get a sense of like is that like a $100 million market in 
10   terms of -- or is it a billion?  I have no idea --  
11             MR. SHILLMAN:  Yeah, I don't know off the top 
12   of my head, but it's certainly something we'll be 
13   collecting as part of the pilot. 
14             MR. SHILLMAN:  Tim. 
15             MR. WALSH:  David, earlier this morning, Keith 
16   made a little comment that any of the views -- or any 
17   comments are just the individuals' comments, not the 
18   views of the SEC. 
19             MR. SHILLMAN:  Me, too.  (Laughter.) 
20             MR. WALSH:  Yeah, I wasn't sure you heard that. 
21    So I'm personally pretty skeptical that this venture 
22   exchange is really going to pan out.  So on a scale of 
23   one to ten, ten being the NYSE and ICE for volume and one 
24   being defunct, where would your personal opinion be where 
25   this is going to be two to three years from now? 
0142
 1             MR. SHILLMAN:  Well, I don't know that I have 
 2   any -- even if I gave a -- it wouldn't have any value 
 3   given that I'm not really in the business. 
 4             MR. WALSH:  My guess, it's more value to the 
 5   Commission than you might think. 
 6             MR. SHILLMAN:  Yeah.  Well, but certainly I 
 7   think we can reasonably expect something similar to ICE 
 8   New York Stock Exchange type volumes.  I think we'd be 
 9   looking for some -- but essentially -- we would hope to 
10   see tighter price -- tighter spreads, more liquidity 
11   provided on a regular basis in some of these securities. 
12    I don't know whether one can reasonably expect volumes 
13   to increase substantially.  I think it would be more 
14   optimistic to see better market quality in the form of 
15   better liquidity provision and perhaps some greater 
16   trading in this segment. 
17             PARTICIPANT:  Was that a two?  (Laughter.) 
18             MR. SHILLMAN:  But I could pick a number, it 
19   would have no value. 
20             MR. SHILLMAN:  Anything else? 
21             (No response.) 
22             Here's your chance.  There will be a test.  
23   (Laughter.)  Okay.  Thank you, David.   
24             Let's go to the finder's issue.  We've probably 
25   all worked with the stereotypical founder in a startup 
0143
 1   situation where they're spending day and night just 
 2   trying to get the business moving in need of lots of 
 3   capital and no idea where to get it, how to get it.  They 
 4   want to hire a friend or another contact to try to help 
 5   them secure investors, but that contact is not a 
 6   registered broker-dealer, and does -- can engage -- or at 
 7   a minimum is unsure of whether or not they're allowed to 
 8   engage to help the company find investors.  Greg has been 
 9   looking at this finder's issue for a number of years now, 
10   and we have asked him to lead off our discussion of this 
11   issue.  So Greg, I put it to you. 
12             MR. YADLEY:  Thank you.  Well, I think Stephen 
13   teed it up right, and people in this room have had 
14   experience as either entrepreneurs or small business 
15   owners or certainly advisors where getting money is a 
16   constant challenge and all of the regular suspects are 
17   really not available at the beginning of the life cycle 
18   of a company.   
19             So the money that's being raised is private, 
20   and as we know from our own experience as well as 
21   speakers from the SEC at several of our meetings, 
22   including in December, most of these are happening under 
23   Regulation D.  And we were told in December from folks at 
24   DERA that the size of the Reg D market is very comparable 
25   to that of the public offering market and that from 
0144
 1   September of 2013 to this past September there were 
 2   15,000 new Reg D offerings.  So that's quite a bit.   
 3             In data looking at Reg D offerings for the 
 4   period '29 to 2012 right before that, only 13 percent of 
 5   those offering had a financial intermediary, a broker-
 6   dealer or a finder.  So why is that the case?  And 
 7   there's -- a lot of us believe that certainly for smaller 
 8   issuers the lack is there isn't any interest from 
 9   registered broker-dealers and there are enough risks 
10   using unregistered broker-dealers that it just isn't 
11   available, there's not anybody there to help put together 
12   sources of capital for the companies.   
13             The issue, of course, is that federal law and 
14   the law of all the states prohibits someone from engaging 
15   in the business of affecting transactions and securities 
16   without a license.  So you have to be licensed, and we 
17   now have one regulator -- one self-regulator, FINRA.  So 
18   you have to be a member of FINRA.  And there is an 
19   exception for a finder, somebody who takes a fee for 
20   providing an introduction and steps away.  Although we're 
21   not even really sure if that's the case.   
22             The most famous no action letter was Paul Anka 
23   since it's hockey season and the Tampa Bay Lightning are 
24   going to beat the Hawks by the way in case you're 
25   interested.  Paul Anka was trying to help raise money for 
0145
 1   the Ottawa Senators Hockey Club, and he was going to open 
 2   his list of contacts and rolodex for them back in those 
 3   days and be paid a fee.  Actually it was proposed that he 
 4   be paid a fee only for those people who invested.  So 
 5   that probably went further than maybe the Commission 
 6   staff intended.   
 7             In any event, they backed away from that.  So 
 8   the point is that accepting transaction-based 
 9   compensation is a very short, firm way of saying it looks 
10   like you're earning a commission and you're being a 
11   broker.  And certainly the view of the staff and the 
12   Commission and the states is that if you're doing this 
13   more than once, you've had your free bite, and you're 
14   probably in the business.   
15             Certainly John and I have talked about this.  
16   There are a lot of people who have only done it once, but 
17   -- and then they do it again, and -- but they're not 
18   going to do it after that, but then they do it again.  So 
19   there are people out there.  So the issue is that you 
20   have a lot of small companies, startups that don't really 
21   know how to find capital, and they're looking for capital 
22   in very small amounts.   
23             We talked about crowd funding this morning, and 
24   as I think everyone here has experienced, people are 
25   looking for $50,000, $100,000, $200,000, maybe a million 
0146
 1   or $2 million, but probably in that range.  Certainly not 
 2   often as high as 3 or $5 million.  So we have Angels and 
 3   again we have people in the room and on this committee 
 4   who are much more expert than I about Angels, but one of 
 5   the things that I think we've been made aware of if we 
 6   weren't already is that Angels tend to congregate or 
 7   historically have in groups and in areas of the country 
 8   where there have been successful companies and successful 
 9   entrepreneurs and now people with means and interest in 
10   helping other companies.   
11             So when we talked about the accredited investor 
12   definition and changes that might be made as a result of 
13   cost-of-living increases since 1982 when Reg D was 
14   adopted, there would be a third or more fewer available 
15   Angels and then the percentage was even higher when you 
16   moved away from the coasts and the other money centers.  
17   So there's really a lack of capital, and why can't 
18   companies enlist the aid of broker-dealers?   
19             Well, again, we talked to -- we heard this 
20   morning about compliance costs for smaller public 
21   companies and the numbers that Chris, for example, gave 
22   and Shannon, those were pretty big numbers.  And the 
23   numbers if they were spread over 200 or $500 million of 
24   revenues and market caps much larger than 80 million, 
25   maybe those percentages wouldn't be so great.  But for 
0147
 1   the broker-dealers, same problem.   
 2             There's costs involved in helping a company 
 3   find money, and if the deals are small, then the risks 
 4   are there, but the upside is not.  The legal costs of a 
 5   transaction like that are pretty much the same, and in 
 6   fact they can be worse because this little, honest 
 7   entrepreneur hasn't kept records, doesn't really know how 
 8   to keep records, filed incorporation documents and that's 
 9   the last thing she did legally on behalf of the corporate 
10   side of the house.  Financial information is rarely in 
11   great shape.  It's almost never audited, so it's very 
12   difficult for real broker-dealers to be able to assist 
13   there.   
14             Thinking about creating a class of broker-
15   dealers -- we were just talking about how do you make 
16   money in trading.  Well, how do you make money dealing 
17   with these small companies and just the ability to be 
18   registered is a process that takes six months or more.  
19   The costs can exceed $150,000 to get going.  The 
20   compliance costs for being a broker-dealer or member of 
21   FINRA are estimated to be between 75 and $100,000.   
22             So there's an awful lot of costs, compliance 
23   costs that is probably disproportionate for someone who 
24   is a broker-dealer but is not doing the things that we 
25   think of as broker-dealers.  They're not alternative 
0148
 1   trading, they're not making markets, they're not even 
 2   holding customer funds or securities.  They're doing 
 3   much, much less, and they're really acting as a finder or 
 4   at least an intermediary assisting the small company. 
 5             A lot of the companies, some of the 
 6   intermediaries and some of the lawyers who help them are 
 7   not really aware that they're violating the securities 
 8   laws.  They just don't know about it, they're under the 
 9   radar, and that's a problem.   
10             The other part of the problem is there are 
11   people who are involved in this space who absolutely know 
12   exactly what they're doing, and that's sort of the seamy 
13   side of the securities business and a lot of con-artists 
14   who promise the world, and oh yeah, you've got a great 
15   company, and I can help you get the money, and they'll 
16   take a fee and maybe the funds aren't there, maybe they 
17   are, and maybe these are also the same kind of people who 
18   have offshore investors and get companies listed, and we 
19   know all about the problems that happen.  And somebody 
20   already said penny stocks, so in that space.   
21             This is not new, as Steve said.  In 1999 the 
22   ABA created a taskforce in this area to look at private 
23   placement broker-dealers and there's an article that is 
24   in the materials that was published in the May 2005 
25   business lawyer.   
0149
 1             I was part of the committee and later co-chair 
 2   of the taskforce where we said, look, there's got to be a 
 3   way to fix the disconnect between what the regulations 
 4   say and what's happening in the real world, because it's 
 5   a problem for the companies trying to raise money, it's a 
 6   problem for these intermediaries who may have a contract 
 7   with the company to be compensated, that is void or at 
 8   least voidable, and you have people flaunting the 
 9   regulatory system, which is not good for the Commission 
10   and the states and the problem is almost too big or too 
11   pervasive.   
12             The taskforce report called it a vast and 
13   pervasive gray market.  So what the thrust of the 
14   taskforce report was and the recommendations was to 
15   establish a simplified system for registering private 
16   placement brokers who engage in these very limited 
17   activities and try and facilitate capital formation 
18   without sacrificing investor protection.  So as part of 
19   this proposal there were certain parameters that the 
20   taskforce considered would be workable.   
21             First of all, sales could only be made to 
22   accredited investors and only in limited amounts.  They 
23   could only be made by private companies.  So if you have 
24   a class of equity securities registered under the 
25   Exchange Act, you wouldn't qualify here.  If people were 
0150
 1   bad boys, had done bad things and had been sanctioned 
 2   then they wouldn't be able to qualify as a finder.   
 3             There would have to be written disclosure of 
 4   certain basic things including the background of the 
 5   person and the compensation arrangements with the issuer. 
 6    But they would be exempt from the definition of broker-
 7   dealer and permitted to share fees with broker-dealers, 
 8   because that's another thing that a FINRA member is not 
 9   allowed to share fees with unregistered persons.  So by 
10   coordinating federal and state regulation along this line 
11   we would have a system that might work.   
12             It was a pretty good idea, and although we're 
13   the best advisory committee in the small business area 
14   that the SEC has ever had, we're not the first, and there 
15   was a very august committee back in 2006 that issued an 
16   excellent report, and that report included as one of its 
17   recommendation a very succinct sentence that recommended 
18   that the SEC spearhead a multiagency effort to create a 
19   streamlined registration process for finders, M&A 
20   advisors and institutional private placement 
21   practitioners.  So that was really good news for those of 
22   us who had worked on the taskforce.   
23             Many of you know that every year -- and it's 
24   been happening recently in November -- the SEC hosts a 
25   forum, the SEC Government-Business Forum on Small 
0151
 1   Business Capital Formation.  This is a really neat 
 2   gathering of people, usually about 100 in person and 
 3   others over the internet who can share ideas about issues 
 4   that maybe the Commission and the SBA and from time to 
 5   time the Treasury has participated to help small business 
 6   capital formation.   
 7             The SEC is mandated to do this, and they've 
 8   done a really great job.  Sebastian has been in charge of 
 9   this under Keith's supervision, and lots and lots of good 
10   ideas have come out.  Both before the taskforce report 
11   and the last SEC small issuers advisory committee and 
12   since, the forum has had as one of its recommendations 
13   that this area be addressed.   
14             So in 2009 for example the forum recommendation 
15   was that the SEC should allow private placement brokers 
16   to raise capital through private placements of issuer 
17   securities offered solely to accredited investors in 
18   amounts per issuer of up to 10 percent of the investor's 
19   net worth, excluding his or her primary residence with 
20   full written disclosure of the broker's compensation in 
21   any relationship that would require disclosure under Item 
22   404 of Regulation SK, which are related party 
23   transactions in aggregate amounts up to $20 million per 
24   issuer.   
25             So one really long sentence that said we should 
0152
 1   do this in limited fashion.  This past year the forum was 
 2   on November 20, 2014 and the forum final recommendation 
 3   which was published last week had the same recommendation 
 4   as it did in 2013, that the SEC should join with NASAA 
 5   and FINRA in the effort to implement the basic principles 
 6   of the American Bar Association taskforce on private 
 7   placement brokers.   
 8             To achieve this goal, the Commission should 
 9   join NASAA and FINRA in developing a timeframe for 
10   quarterly or other regular meetings with specified 
11   benchmarks until a mutually agreeable regime of finder 
12   registration and regulation is achieved.  So pretty clear 
13   directive.  FINRA actually has developed a concept of a 
14   limited corporate finance broker, and public comment has 
15   been solicited twice on this.  It would allow firms to 
16   engage in a limited range of activities, including 
17   advising companies and private equity funds on capital 
18   raising, corporate restructuring.   
19             As has been a thread through all this, this is 
20   not a full-service broker.  They wouldn't be able to 
21   maintain accounts of securities or hold funds.  Couldn't 
22   engage in proprietary trading or market making, and I 
23   think many of us who read this were really, really 
24   excited until the very last page when it said it applies 
25   to institutional investors, those are the ones that are 
0153
 1   going to be helped here.  So that's $50 million in assets 
 2   in professional institutions.  So it certainly doesn't go 
 3   far enough, and in fact the proposing release for FINRA 
 4   said that they didn't feel that opening this up to 
 5   accredited investors would prepare the public. 
 6             So less it sound like I am being unsympathetic 
 7   to my former agency, let me commend the SEC on I think a 
 8   very meaningful step that it took a little over a year 
 9   ago in this area, which is the staff issued a new action 
10   letter.  It's called the M&A broker, no action letter.  I 
11   prepared a little piece that I think Julie sent to 
12   everybody.  I found eight typos so far, and I apologize 
13   for those, because I did it on Saturday.   
14             But this no action letter really was a very 
15   well done compilation of thought that had been expressed 
16   by the Commission in some other no action letters on very 
17   specific sets of facts, and this made a very general, 
18   very salutary statement of what somebody could do in 
19   helping private business be bought and sold.   
20             Now this is an issue that has been around for a 
21   while because the Supreme Court in a case called Landreth 
22   Timber said that if a sale of a business is being sold 
23   and it involves the transfer of stock -- well, a stock's 
24   a security, it's right there in the definition.  So that 
25   causes a problem because there are lots of business 
0154
 1   brokers out in the country, many of whom are regulated by 
 2   states as real estate brokers or business brokers, so 
 3   there is some regulation and most of these little, small 
 4   businesses get conveyed by sales of assets, in which case 
 5   the securities laws are not implicated.   
 6             But if it's going to be a sale of stock, which 
 7   is often what you need to do if the business has customer 
 8   contracts which you want to preserve or licenses or 
 9   things like that, starts as a stock sale, even worse if 
10   it converts to a stock sale from an initial asset 
11   transaction.   
12             Now the intermediary is a broker.  So the SEC 
13   issued the no action letter that said it would not 
14   recommend enforcement action or -- for violations of the 
15   broker-dealer registration provision for sale -- 
16   transfers of privately held companies to a buyer who will 
17   actively operate the company.  And so this has really 
18   been very good.   
19             Congress is considering creating a limited 
20   exemption along these same lines from federal broker-
21   dealer registration that would probably have more effect. 
22    A number of states have sort of gone in the tailwinds of 
23   the SEC, no action letter, and agreed that at least for 
24   now they're not going to object either.  But all the 
25   states are not onboard, and this may be another area that 
0155
 1   NASAA can provide us some help, Michael, and there is a 
 2   group looking at that and just last month or April now, 
 3   so two months ago.  And NASAA requested additional 
 4   comments on its proposed uniform state law in the area.   
 5             All of that's good.  But back to capital 
 6   formation, which is what we're here now.  There's more 
 7   than one solution possible, everything from exemption to 
 8   limited regulation, but I think we really need to do it. 
 9    It's an area where although we'll never eliminate bad 
10   guys, there are plenty of advisors out there who are 
11   simply trying to help companies and willing to do it and 
12   get paid if it's successful, and if it's not successful 
13   then they're not getting anything.  And that's pretty 
14   basic to capitalism in my view.   
15             So at the end of the little piece I provided 
16   for our meeting, I just laid out some markers that I 
17   think can be considered by the staff and FINRA and NASAA 
18   as they look at this.  So the first thing would be to 
19   sort of segment the area and see who is actually doing 
20   this, because you actually out there from time to time do 
21   have finders, somebody that just says here's my list, and 
22   if they invest, pay me X.  And that's the end of it.   
23             Other people are more involved in structuring 
24   an offering, helping the issuer, perhaps being involved 
25   in some negotiation and so on and admittedly that's 
0156
 1   getting pretty close to what broker-dealers do.  So we'd 
 2   have to be careful at that end of the scale.  But still 
 3   it's something that in a limited way I think we could 
 4   provide assistance to smaller companies and not really 
 5   hurt investors.   
 6             There are some things -- and I've mentioned 
 7   these throughout the presentation that just makes no 
 8   sense to allow these people to do.  They shouldn't hold 
 9   customer funds or securities.  We are talking about 
10   private placements, not public deals.  Since I think 
11   506(c) is -- I guess you can argue whether that's public 
12   or private, but most all of the conclusions of people 
13   that seriously would like to get something done are 
14   willing to restrict the purchasers to accredited 
15   investors, although I think that's something we could 
16   look at as well.   
17             There would need to be as there have been in 
18   just about all the new efforts at capital raising, bad 
19   actor qualifications, so I think that would be fine.  But 
20   one of the things that would be important here is there 
21   really can't be a question on the form that these finders 
22   are going to have to file that asks when did you first 
23   start conducting activities in securities, because nobody 
24   will register if they have to say they've been doing it 
25   for the last year or two.  So there has to be some 
0157
 1   grandfathering. 
 2             In terms of regulation, I think no action 
 3   letters are a really good starting place, and the M&A 
 4   letter is a pretty good model I think for some of these 
 5   things.  There's, under the Investment Advisors Act, a 
 6   solicitor's rule, Rule 206.43 that allows payment of fees 
 7   by registered investment advisors to people who provide 
 8   leads to them essentially.   
 9             Membership in FINRA or some other self-
10   regulatory organization I think would have to be the 
11   case.  The SEC back in my day actually had an office for 
12   SECO brokers, SEC-only broker-dealers that were not 
13   members of the NASD, but that -- it doesn't anymore, and 
14   this may not be an area where it makes any sense for the 
15   SEC to have to gear up and create a new budget item for 
16   its own direct regulation. 
17             Written disclosure is really important, and of 
18   course who is this person that is helping in the offering 
19   and make it clear that he or she or the firm is 
20   representing the issuer, have to describe any 
21   relationships between them, what the compensation deal is 
22   and any other thing like that.  And of course this is not 
23   an opportunity for people to commit fraud, so the anti-
24   fraud rules and the other applicable federal and state 
25   regulation ought to continue to apply. 
0158
 1             So there's lots of issues about what the 
 2   regulation could be.  Even a small step forward would be 
 3   of benefit, and I really hope that we will be able to, in 
 4   my lifetime to coin a phrase, be able to have a finder 
 5   exemption or regulation, and that will be helpful.  But 
 6   it really won't be all that helpful.  It's a good start 
 7   to allow regulated intermediaries to be able to 
 8   participate in the structuring of the deal and helping 
 9   the issuer would be good.   
10             The SEC can't do it alone.  It requires the 
11   states and FINRA, but the Commission is the big dog, and 
12   I hope that it will be able with its very full rule-
13   making agenda still be able to take a serious look at 
14   this.  Thank you. 
15             CHAIRMAN GRAHAM:  Thank you, Greg.  And you 
16   mentioned some -- a few statistics at the beginning, and 
17   I'll just ask you again.  Is there -- to what extent can 
18   you quantify kind of capital left on the table because of 
19   the absence of this sort of exemption or regulation? 
20             MR. YADLEY:  I don't really --  
21             CHAIRMAN GRAHAM:  How big is the problem in 
22   other words? 
23             MR. YADLEY:  I think it's a big problem and I 
24   don't have data on that, but there's another aspect of 
25   this that I didn't mention that I can't quantify either 
0159
 1   but I have experienced it.  And that is if you're using 
 2   an unregistered person and you shouldn't have and lo and 
 3   behold you actually raise money as a small company and 
 4   you get successful and then you're able to afford lawyers 
 5   and real broker-dealers and they start looking at your 
 6   capitalization and what you've done to raise that money 
 7   and you find out, well, we did this in an exempt Reg D 
 8   offering and there's no Reg D, there's no documentation.  
 9             Who helped you do this?  So Charlie.  Who's 
10   Charlie?  Oh, Charlie was CEO of this company.  Oh, how 
11   did he help you?  Well, he helped us structure it and he 
12   got us a bunch of leads and what a great guy and we 
13   didn't have to pay him anything except he sold us stuff. 
14    So now you have an issue.   
15             And the SEC, of course, looks at this and when 
16   it's reviewing registration statements and contingent 
17   liabilities and if you've had these issues in your past, 
18   these are disclosures, they be rescission offers that are 
19   a huge liability, and so there are documented deals and 
20   people have written about situations like this where 
21   things just can't go forward.  But I don't have hard 
22   numbers. 
23             CHAIRMAN GRAHAM:  Thoughts?  Charles. 
24             MR. BALTIC:  Greg, thank you. 
25             CHAIRMAN GRAHAM:  Are you the Charlie that Greg 
0160
 1   was --  
 2             MR. BALTIC:  No -- (laughter) -- hope not. 
 3             MR. YADLEY:  He's registered now.  (Laughter.) 
 4             MR. BALTIC:  Thanks for the presentation, very 
 5   comprehensive.  I just had a question about the FINRA 
 6   limited corporate finance broker initiative limited 
 7   concept that was floated I think that was relatively 
 8   recently.  A couple questions around that.  Was that a 
 9   real reform to solve some problem even though it didn't 
10   solve, in your view, this problem?   
11             And secondly, wouldn't that have been a golden 
12   opportunity to extend and solve this problem?  So I'm 
13   just wondering without the principal SRO onboard 
14   conceptually with this how far it could realistically go. 
15    And maybe I'm over-interpreting that, but I just wanted 
16   a little context around that process and what maybe 
17   really happened there. 
18             MR. YADLEY:  Yeah, well, first of all, your 
19   conclusion is apt.  I think that's right.  FINRA needs to 
20   be onboard because they're the most logical person to do 
21   it.  And I understand that in a way you're asking them as 
22   a self-regulator to do something that may not be any more 
23   profitable for them than it is for a regular broker-
24   dealer or a big firm lawyer to help a little company.  So 
25   -- but if they're the regulator -- self-regulator of an 
0161
 1   industry and this is part of the comprehensive services 
 2   to be provided by participants in that industry, I think 
 3   there ought to be a way to do that.   
 4             I don't really know what the main thrust of the 
 5   first initiative was.  Maybe John does, but I know that 
 6   there -- FINRA has been assessing its rules and making 
 7   other recommendations in areas of other limited activity. 
 8    They're not treating everybody like Merrill Lynch 
 9   anymore, but I don't really know. 
10             CHAIRMAN GRAHAM:  D.J. 
11             MR. PAUL:  I'll ask a dumb question.  Why 
12   FINRA?  Which is to say why not do it more -- if you're 
13   creating kind of a sub-regime that is limited in its 
14   activity, we're talking about a finder, so I'm basically 
15   going to put buyers and sellers together in a very 
16   limited context as defined in this way, maybe limit the 
17   amounts, limited to -- essentially why not do it more in 
18   RIA model where it doesn't involve FINRA at all?  Why not 
19   just have a registration with the SEC?  Why add that 
20   layer?  It doesn't sound like FINRA's going to be jumping 
21   -- or enthusiastic as you know to do this in the first 
22   place.   
23             MR. YADLEY:  I think that would be okay, and 
24   the SEC staff may wish to express some views here, too.  
25   It is an apparatus that somebody's going to have to sort 
0162
 1   of take ownership of, and I'll answer the question, but I 
 2   think another answer to why FINRA is -- and it doesn't 
 3   have to be FINRA, it could be somebody else.   
 4             In the same respect that groups are coalescing 
 5   to be a crowd funding industry and trade association and 
 6   best practices governance group or verification of an 
 7   accredited investor status, even some legitimate company 
 8   that has a business model says, okay, here's a regulatory 
 9   scheme, we'll take on membership and we'll talk to the 
10   SEC and we'll figure out what they think we should be 
11   doing and we'll talk to people in the industry and find 
12   out what they think we should be doing, and we'll do it. 
13    We'll be whatever -- and whatever the SEC wants to allow 
14   them to do they could do.   
15             I think the -- an issue with the SEC doing it 
16   directly, as I alluded to, is if they take on a 
17   regulatory scheme, they have to do something, and I think 
18   that's why along the spectrum I think the Commission 
19   could -- as we were talking about I think a little bit 
20   earlier with Mike, I mean there could be a collaboration 
21   with the states and the SEC sort of making it easy and 
22   getting out of the way of somebody's doing something.   
23             I don't think the SEC can just say, okay, well, 
24   we'll take it on and we'll let the enforcement division 
25   handle it.  I mean I think there would have to be 
0163
 1   regulation and one of the things that happens with 
 2   licensed people is they get examined.  So that in itself 
 3   would be an issue here.  Would there be annual 
 4   examinations, or would there just be examinations for a 
 5   cause?  Things like that. 
 6             MR. PAUL:  There are certain professions that 
 7   seem to be more represented in finders.  It's certainly 
 8   not exhaustive, but attorneys, for example, are 
 9   oftentimes the ones that are doing the finding.  You 
10   don't think being a member of a bar is sufficient 
11   regulation? 
12             MR. YADLEY:  Well, there are, you know, action 
13   letters where lawyers have asked the SEC, so look, I'm 
14   going to be the lawyer and I'm licensed and I can lose my 
15   license if I do bad things and I want to help my client, 
16   can I get a fee?  It's ancillary activity.  And the SEC 
17   said, no, you look like a broker-dealer to me. 
18             MR. GOMEZ:  One thing we neglected to 
19   introduce, our colleagues from the trading and markets.  
20   Heather is the chief counsel in the Division of Trading 
21   and Markets, and many of you know Joe and Joann who are 
22   also in Office of Chief Counsel in Division of Trading 
23   and Markets. 
24             CHAIRMAN GRAHAM:  Okay.  Thank you for that, 
25   Sebastian.  But I think Greg was really looking for more 
0164
 1   from you guys.  (Laughter.) 
 2             MR. GOMEZ:  I was just hoping that by 
 3   introducing them, I would deflect from Greg looking at 
 4   me.  (Laughter.)  And he would start looking down the 
 5   line. 
 6             MS. SEIDEL:  It seems to have worked.  So these 
 7   are, as you have noted, issues -- thorny issues, 
 8   difficult issues that a lot of really smart, good folks 
 9   have thought about for years in terms of how do we try to 
10   balance the competing interests of capital formation, 
11   access to capital for small issuers with protection of 
12   investors, and you, Greg, alluded to this in terms of a 
13   lot of people are in this business trying to do the right 
14   thing, but there are folks who are not in the business 
15   trying to do the right thing.   
16             And so when we think about these issues and we 
17   continue to think about these issues, that balance, how 
18   do you strike that right balance I think is key.  And so 
19   it goes to a lot of things in terms of whether you're 
20   talking about exemptions or some type of limited 
21   regulation and then how to -- clearly the states need to 
22   be involved in that conversation as well.  It goes 
23   through all the issues of if you have some type of 
24   limited regulation who's going to be responsible for 
25   carrying out that regulation, and that goes to FINRA -- 
0165
 1   is FINRA involved or not. 
 2             So a lot of really good issues.  I don't have 
 3   any answers here.  I think it's -- again, we continue to 
 4   think through the issues.  I think that the bullets that 
 5   you laid out at the end of your presentation I think are 
 6   good places to start and -- or continue, not start, in 
 7   terms of thinking about a regulatory regime.  But again, 
 8   we have sort of the balancing and just as Dave Shillman 
 9   was talking about with the venture exchanges, right, 
10   there's always this balancing of access to capital, 
11   capital formation, but wanting to make sure investors are 
12   protected.  And whatever you do, whatever we allow, make 
13   sure that they're protected.   
14             And as you know, over the years, the definition 
15   of broker in the Exchange Act is very broad, and the 
16   Commission and its staff has provided guidance over the 
17   years, many, many years in terms of when you trigger that 
18   registration requirement and when you don't.  And so 
19   again it's very fact-specific, and we have made some -- 
20   you know, as you know to the M&A letter that we did last 
21   year.  So we have made some progress in terms of trying 
22   to address some of the more discreet types of behavior 
23   that we think don't trigger in the registration 
24   requirements.  So I don't know if Joe of Joann want to 
25   add anything. 
0166
 1             CHAIRMAN GRAHAM:  Just introduce yourselves and 
 2   -- Mike. 
 3             MR. PIECIAK:  Thanks, Greg.  That was a great 
 4   presentation.  I just had a couple of questions.  I 
 5   wonder if you can elaborate as to -- in relation to the 
 6   M&A no action letter, how closely the model rule that 
 7   NASAA's proposed models that and whether there's any sort 
 8   of major hiccups with what's being proposed that you care 
 9   to share now.   
10             And then I also wonder are the finders that 
11   you're talking about -- is this their profession or are 
12   these one-off transactions where they get caught up in a 
13   transaction every so often? 
14             MR. YADLEY:  I think these are people who are 
15   doing it as a business and it may be a sidelight.  But 
16   again, it depends on who we want to help and we'd like to 
17   help everybody, but who can we reasonably help soon.  And 
18   so I think finder has a connotation.  It's extremely 
19   limited, but that would be a step forward.  It's 
20   interesting, and it just, I think as an aside, is we've 
21   talked about general solicitation in the 506 concept.   
22             We're gathering data and I'm eager to hear by 
23   the end of this fiscal year for the Commission what the 
24   statistics will show, but a lot of us out there in the 
25   field are still doing 506(b) offerings all the time and 
0167
 1   not many 506(c), and part of that is that there's a 
 2   reluctance or a caution at least of many issuers to go 
 3   out and deal with people they don't know, and we talked 
 4   about disclosure and access to disclosure.   
 5             Keith mentioned, well, you're dealing directly 
 6   with the issuer, and yeah, you can fend for yourself when 
 7   you know the issuer and the issuer knows you and there's 
 8   some expectation of honesty.  People responding to an 
 9   email inquiry or somebody like that that you don't know 
10   is just difficult.   
11             And so I think to that extent even a finder who 
12   -- local communities we were talking about 311 earlier, 
13   people who belong to the same organizations or work 
14   together in business, I mean those are known quantities 
15   and from counsel to the issuers' standpoint, those are 
16   the investors I'd like to see them have because they'll 
17   be more reliable, and you want your client to be honest 
18   with these people.  So if you're getting honorable 
19   investors, now you're halfway there.   
20             I don't have any just specific thoughts on the 
21   NASAA M&A proposal.  I mean I think those -- it looks 
22   like there's good cooperation and more cooperation on the 
23   way, and so I'm sure we'll get to the right result there. 
24             CHAIRMAN GRAHAM:  Catherine. 
25             MS. MOTT:  I bump into some of these folks from 
0168
 1   time to time, and actually one is a broker-dealer who 
 2   does an excellent job, I see from time to time raising 
 3   money for high-tech, high-growth companies.  Where I have 
 4   -- I would like to see more professionalism around this 
 5   aspect of it for the entrepreneurs.  I'll give you a good 
 6   example.  We are looking at a company in the middle of 
 7   Pennsylvania.  So I'm in Pittsburgh on the other side of 
 8   the state of Philadelphia.  Everything in between is 
 9   called Pennsyltucky because it's really kind of -- you 
10   know, but this is a great little company.   
11             This founder has created some interesting 
12   technology around the HDAC industry.  And we're very 
13   intrigued by it.  And however it's a really messy 
14   structure because of someone who did this, raised money 
15   in advance for them, and they were working with a country 
16   attorney who was not a securities person and obviously 
17   went out and cut and paste and put them some things 
18   together.  And so we're looking at it going, well, we 
19   really can't invest in this because this is really a 
20   mess.   
21             Had there been some structure around these kind 
22   of individuals who do this for these entrepreneurs -- and 
23   entrepreneurs that are in these kinds of areas are more 
24   desperate for money than they are maybe so in a larger 
25   metropolitan area.  So -- and not as knowledgeable 
0169
 1   because they don't have -- in our city we have 18 
 2   incubators, so you can imagine the kind of support they 
 3   get.  Out in the middle of Lancaster or Carlisle, Pa, I 
 4   mean it's -- they're not get that.   
 5             And this is a great company with a great 
 6   opportunity to create a lot of jobs and make a difference 
 7   with a brand new technology.  But I see the need for this 
 8   as much as sometimes we in the industry kind of frown on 
 9   people raising money for -- or getting paid for raising 
10   money.  I just think that it makes a lot of sense.  I can 
11   see that in a lot of pockets in the United States where 
12   this might be important to the economic engines of those 
13   small, little towns of Pennsylvania or I mean the United 
14   States.  I don't know.  That's just my thoughts on that. 
15             MR. YADLEY:  And if I could just --  
16             CHAIRMAN GRAHAM:  Go ahead, Greg. 
17             MR. YADLEY:  You hit on a couple points.  One 
18   is I think the Angel Capital Association has tried to do 
19   is say, okay, you've got money to invest, that's not 
20   enough.  If you want to be a good investor and really 
21   help the company, here's some things to do.   
22             And D.J.'s provocative question as he asked, 
23   why does it have to be FINRA, it wouldn't have to be.  It 
24   could be just somebody that says, look, we're going to do 
25   this right and make it happen.  And then at the end of 
0170
 1   the day as this committee has talked about with crowd 
 2   funding and other issues, the whole goal is to help the 
 3   company not screw it up at the beginning so that it can 
 4   go through the system and be successful all the way 
 5   along.  So that's promising. 
 6             CHAIRMAN GRAHAM:  John and then Sara. 
 7             MR. BORER:  Being in the broker-dealer 
 8   business, obviously I've got a bias towards people using 
 9   broker-dealers to help them raise money.  But many, many 
10   times I've seen -- and this was mentioned -- broker-
11   dealer doesn't want to get involved.  But oftentimes the 
12   legacy problem -- and Catherine just -- is we come to a 
13   company that we really like but they did a lot of this 
14   haphazard stuff and maybe they did it perfectly, but 
15   there's a lot of ambiguity in what takes place.   
16             And more than once I've run into one of these 
17   finders in those contexts that say, yes, I only did it 
18   once and I've done it five times now that way.  And 
19   they'll do it once more.  And clarifying the issue so 
20   that we who may have to pick up the pieces on the cap 
21   table and figure out how to go forward without having to 
22   worry about, okay, they're not going to go do this 
23   offering but all these people have rescission rights 
24   maybe.  Can you get an opinion letter on that?  And it's 
25   almost impossible to clean up that mess. 
0171
 1             CHAIRMAN GRAHAM:  Sara. 
 2             MS. HANKS:  Well, actually, what I was going 
 3   say actually builds on the last three comments, which is 
 4   this isn't just a matter of investor protection which of 
 5   course is really important but entrepreneur protection.  
 6   And to the extent I live in the online investment 
 7   platform world, we are seeing a lot, and I know that the 
 8   guys at Trading and Markets, I am always bending their 
 9   ear about some damn thing or other and really appreciate 
10   their responsiveness.   
11             But to the extents you have a gray area and you 
12   have no hundreds, hundreds of small companies going 
13   through online platforms, some of whom, just a few, have 
14   uncertain regulatory status, now you're just churning our 
15   more and more rescission offer potential every day.  So 
16   it is an area where there's some clarity needed.  Thanks. 
17             CHAIRMAN GRAHAM:  John. 
18             MR. HEMPILL:  Yeah.  And I appreciate having 
19   all you folks down here, and it's great to have this body 
20   that really knows this stuff.  My question for you is the 
21   M&A letter was great.  But for me it was kind of like 
22   saying that wineries during Prohibition could make 
23   sacramental wine.  It's kind of a limited thing.  And 
24   that really -- that -- and it doesn't really come up that 
25   often in what I do, and I see finders all the time.   
0172
 1             And the first question my clients ask me is:  
 2   Okay, so what's the problem?  How do you structure around 
 3   it?  So it's like you come up with -- and you say there's 
 4   really no way to do it.  So I would like -- I would love 
 5   to have regulatory structure in place for these guys, 
 6   because I think -- I don't know, Sara, I mean maybe 
 7   you've seen this more than me, but I think a lot of them 
 8   really would want to comply with it but it's just too 
 9   much of a pain to be a broker-dealer.  And especially 
10   given the compensation that they're getting.   
11             So I'm just wondering are there any -- I mean 
12   are you guys actively pursuing any particular activities 
13   in this area right now?  I mean is there like a -- is 
14   there something like the M&A letter like that's coming 
15   down the pike?  Are you thinking about this?  Or is this 
16   not really on your radar screen right now? 
17             MS. SEIDEL:  So obviously we can't answer 
18   specific -- these --  
19             MR. HEMPILL:  Yes.  Yes, I know. 
20             MS. SEIDEL:  Yeah.  So these issues are issues 
21   that we're clearly aware of and we continue to think 
22   about as I noted before in terms of this has been very 
23   helpful to hear the comments, to hear the thoughts, but 
24   again, it's a difficult area when you think about what we 
25   might do in terms of if you have people engaging in 
0173
 1   activity that falls within what a broker is under the 
 2   statute and then you start thinking about some type of 
 3   different regulatory category for them other than full-
 4   blown broker-dealer registration and regulation, you 
 5   start getting into lots of questions about there would be 
 6   a cost to whatever that regulation, whatever that 
 7   category is and whether it's a lesser cost there's still 
 8   a cost, and then what should apply, what should not 
 9   apply.   
10             Again, it's this balancing of investor 
11   protections with wanting to ensure that there's access to 
12   capital.  So these are very difficult issues in term of 
13   practicality.  Right?  And then if there -- if people are 
14   engaging in something that doesn't trigger broker 
15   registration, we have spoken in some areas, given no 
16   action relief in terms of that, but it's very fact-
17   specific.   
18             And so in terms of thinking about how might you 
19   take something that's very fact-specific and make it 
20   broader -- of a broader applicability, that also is 
21   difficult.  You don't want to go too broadly 
22   inadvertently and end up in a situation where you have 
23   concern about investor protections.  So --  
24             CHAIRMAN GRAHAM:  Okay.  Sonia. 
25             MS. LUNA:  My comments are really more coming 
0174
 1   from an observation of a conference at -- it's called LD 
 2   Micro.  It's the invitational, and it started June 1st 
 3   and today is actually the last day of that conference.  
 4   And I sat through several presentations on June 1st and a 
 5   few in the morning on June 2nd.  And the observation was 
 6   that several of the companies kept stating that they had 
 7   a clean cap table.  Right?   
 8             So I think they wanted -- this forum, LD Micro 
 9   Invitational, is more for accredited investors, and I 
10   think that when I kept hearing it I didn't understand the 
11   context, like why is that such a big deal, talk about 
12   your story, tell me about the technology, how are 
13   investors going to get more money out of the company.  So 
14   again, I'm trying to kind of wrap my head about a no 
15   action letter.   
16             Isn't there something the SEC can do to kind of 
17   for these finders if it's a limited set of transactions 
18   you can kind of put a little -- some thought into helping 
19   these smaller companies find good individuals, but not 
20   overregulate.  So again, my comment is more from an 
21   observation.  I kept asking:  Well, why do they have to 
22   disclose this or why do they have to explain it?  It 
23   would just seem intuitive just to tell your story, tell 
24   me the current numbers, et cetera.  
25             CHAIRMAN GRAHAM:  Greg, do you have a 
0175
 1   recommendation? 
 2             MR. YADLEY:  I would -- I think that the forum 
 3   recommendation is as good as any.  I noted one of the 
 4   ones that the forum recommended in 2009 which didn't have 
 5   a comma for seven lines and it had a lot of bells and 
 6   whistles to it -- (laughter) -- last couple years has 
 7   been I think pretty clearly what some of the last people 
 8   have said is:  SEC, please take the lead and work with 
 9   FINRA and the states to come up with something.   
10             I mean I think the outlines of it -- and I 
11   think Heather raises a real issue.  I mean there are some 
12   legal issues, but it also becomes small political in 
13   terms of how you do this.  But it does sound as if 
14   there's a pretty wide consensus that even in a diverse 
15   group such as this it's an issue that's rising on 
16   people's radar and it hasn't gone away in 25 years.  So 
17   if we can do something about it --  
18             CHAIRMAN GRAHAM:  Well, it seems to me that it 
19   is a real issue.  We're dealing with a sector that we 
20   talked about, and you have this issue where people would 
21   like to be involved but because of the ambiguity, because 
22   of the uncertainty they don't get involved, and so you 
23   have -- you don't have legitimate broker-dealers kind of 
24   filling that space.   
25             And then you have people that are -- maybe have 
0176
 1   a little bit shortened integrity that kind of step into 
 2   that vacuum.  That doesn't help anyone.  And then we 
 3   mentioned several examples of kind of the rescission 
 4   situation that you kind of fall into because there's no 
 5   one there that is helping to guide the process at that 
 6   level.  And yes, there are issues, but that's no reason 
 7   kind of walk away from this whole area because resolution 
 8   might be difficult.   
 9             So it seems to me that essentially, at least 
10   what I would like to see is that we essentially recommend 
11   to the SEC to take the lead in working with the others 
12   involved to come up with a way to kind of legitimize this 
13   profession, if you will, through probably a combination 
14   of exemption and regulation.  It's -- I think that -- I 
15   mean my sense is that this would certainly help to 
16   facilitate in a significant way capital formation for 
17   companies at that level.   
18             So I think that that essential recommendation 
19   plus your points at the end of your piece would serve as 
20   a recommendation.   
21             MR. YADLEY:  I'd be happy to put that forward 
22   as a recommendation. 
23             CHAIRMAN GRAHAM:  Okay. 
24             MR. PAUL:  I know we're running out of time --  
25             PARTICIPANT:  Mic. 
0177
 1             MR. PAUL:  Sorry.  I know we're running out of 
 2   time, and I, too, have a train to catch, but I would like 
 3   to humbly suggest that we postpone formalizing any 
 4   recommendations and pick this up at another time when we 
 5   have a little bit more leeway to discuss it and put some 
 6   shape around some of the exemptions that you've alluded 
 7   to.  I would just point out -- and I think everybody 
 8   knows it, but I want to hit this as hard as possible -- 
 9   this is already happening.   
10             What we're trying to do is trying to find a way 
11   to either regulate or quantify or make -- it's happening 
12   all the time.  So it's not a matter of us like creating a 
13   facility for some sort of new thing.  It's existing, it's 
14   in a gray area, and in most instances not a gray are at 
15   all; it's actually just not allowed.   
16             So I would rather have more concrete 
17   recommendations to make to the SEC, to the Commission 
18   than simply like the broad thing like we recommend that 
19   you consider it even further.  Do I need to make a motion 
20   to that --  
21             CHAIRMAN GRAHAM:  No, not at all, not at all.  
22   Fair point.  And I think that we'd probably get to that 
23   place, because the idea is, as you suggested, is to draw 
24   things into sharper focus so that we are making a 
25   recommendation that is concrete.  So let's start that 
0178
 1   process, and then we can pick it up at our telephone 
 2   conference, and we'll see how much progress we can make 
 3   between now and then.  And if not, then it's back on the 
 4   agenda in September. 
 5             Okay, well, there are planes to catch and 
 6   trains to catch, and it's been a long day, but I think 
 7   it's been productive, and I thank you all for 
 8   participating.   
 9             (Whereupon, at 3:38 p.m., the meeting was 
10   adjourned.) 
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 1                   PROOFREADER'S CERTIFICATE 
 2    
 3   In The Matter of:   ADVISORY COMMITTEE MEETING ON SMALL  
 4                       AND EMERGING COMPANIES               
 5   File Number:        OS-0603 
 6   Date:               June 3, 2015 
 7   Location:           Washington, D.C. 
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 9             This is to certify that I, Nicholas Wagner, 
10   (the undersigned), do hereby swear and affirm that the 
11   attached proceedings before the U.S. Securities and 
12   Exchange Commission were held according to the record and 
13   that this is the original, complete, true and accurate 
14   transcript that has been compared to the reporting or 
15   recording accomplished at the hearing. 
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