Category: Fundraising

The Vice President and SEC’s Pay to Play Rule

Now that the Democratic and Republican conventions have ended and the presidential tickets are final, we can look at how the SEC’s new rule on political contributions will affect the November election. It won’t.

Early in the Republican contest for the nomination, Rick Perry was on the watch list under Rule 206(4)-5. Since he could directly or indirectly control several state pension funds in the State of Texas, contributions to Governor Perry would be subject to the rule. That means limiting contributions to $350.

It’s clear how the rule worked for Presidential nominees. It was not clear to me how the rule would work with the vice presidential candidates. The office itself does not control a government pension fund. But you need to look to the candidates current office as well under the Rule.

If Mr. Romney had selected a sitting governor, such as New Jersey’s Chris Christie, the SEC rule would have limited political contributions to the Republican ticket. In most states, Governors appoint board members for the state pension funds. It’s not clear whether that nomination would have tainted past contributions to the Republican campaign.

With Mitt Romney’s selection of Paul Ryan as his vice presidential running mate, we don’t have to look for the answer yet. Mr. Ryan is an incumbent U.S. Congressman and is not associated with selecting advisers or investments for a government pension fund.

Based on a quick glance of the other tickets, it looks like the pay-to-play rule does not apply to most of the other political parties looking to grab a few votes in November.

The Libertarian Party is on the ballot in most states. It’s candidates Former Governor Gary Johnson (New Mexico) and
Former Superior Court Judge Jim Gray (California) do not currently hold political office.

The Green Party weaved its way through the ballot process and managed to get on the ballot in about half of the states. Neither Dr. Jill Stein (Massachusetts) nor Cheri Honkala (Pennsylvania) currently hold political office.

I’m a bit confused by the ballot of the Party of Socialism and Liberation. Their presidential candidate, Peta Lindsay, and their vice presidential candidate, Yari Osorio, are both under the Constitution’s mandated minimum age for their respective offices. In addition Mr Osorio is foreign born, making him further ineligible to hold the office.

I have no comment on Rosanne Barr’s presidential campaign.

506(c) and General Solicitation and Advertising in Securities Offerings

Section 201(a)(1) of the Jumpstart Our Business Startups Act (the “JOBS Act”) directs the Securities and Exchange Commission to amend Rule 506 of Regulation D. Congress wants to permit general solicitation or general advertising in offerings made under Rule 506, provided that all purchasers of the securities are accredited investors. With one caveat: the issuer must take reasonable steps to verify that purchasers of the securities are accredited investors. After some delays, the SEC has finally published a proposed rule to implement the Congressional mandate.

After waiting all summer for a proposed rule, the SEC decided to finally take action during my vacation. And on the day I promised to take my kids to Story Land. My review of the rule and commentary would have to wait until my kids had their fill of Cinderella and the Bamboo Chutes.

Thanks to William Carleton’s live blog and a review of speeches, I could see that the five commissioners were not in full agreement about the rule or the procedure for adopting the rule. Commissioner Gallagher was in favor of the proposed rules, but wanted it to be an interim final rule. Commissioner Aguilar thought the proposed rules did not go far enough in protecting investors. In the end, that may not mean much.

As expected, the removal of the general solicitation and public offering prohibitions, comes with a few caveats.

Does Not Remove Ban

I found it interesting that the SEC chose to create a new regulatory scheme, rather than merely eliminate the ban. The proposed rule includes a new Rule 506(c) that permits general solicitation and advertising provided all investors are accredited and the issuer takes reasonable steps to verify that they are accredited. 506(b) stays in place allowing an issuer to have up to 35 sophisticated, but non-accredited investors, provided there is not general solicitation or advertising, but does not have to take reasonable steps to verify the investors’ status.

“Take reasonable steps to verify”

The SEC did not do what many feared would be the worst result under the JOBS Act. The proposed rule does not impose any specific requirement to verify that an investor meets the standard of an accredited investor. “Whether the steps taken are “reasonable” would be an objective determination, based on the particular facts and circumstances of each transaction.”

To some extent that seems okay. In the private equity fund model we have a particular concern that a potential investor will be able meet a capital call. It should just mean having to document the diligence process.

However, the SEC did strike one common aspect of fundraising practice.

[W]e do not believe that an issuer would have taken reasonable steps to verify accredited investor status if it required only that a person check a box in a questionnaire or sign a form, absent other information about the purchaser indicating accredited investor status.

Offering documents will need to be changed.

A Non-Accredited Investor Sneaks In

The language of the JOBS Act made some, including me, nervous that if a non-accredited investor could sneak into an offering and blow up the exemption. A person of limited means really wanted to be an investor, lied on the questionnaire, but passed through the reasonable steps taken by the issuer to verify status. Fortunately, the SEC took that position that the issuer would not lose the ability to rely on the Rule 506(c) exemption, so long as the issuer took reasonable steps to verify that the purchaser was an accredited investor and had a reasonable belief that such purchaser was an accredited investor.

Changes to Form D

In addition, to the new 506(c) the SEC is proposing to amend Form D. The notice filing with the SEC would have a check box to indicate whether an offering is being conducted pursuant to the proposed Rule 506(c) that would permit general solicitation.

Blessing for Private Funds

Private funds typically rely on the Rule 506 safe harbor to raise funds without having to register under the Securities Act. Private funds were also restricted under Section 3(c)(1) and Section 3(c)(7) of the Investment Company Act from making a public offering of securities. Historically, the SEC has considered rule 506 transactions to be non-public offerings. But would the SEC change that position given its hostility towards the JOBS Act?

Thankfully, the answer is no.

We believe the effect of Section 201(b) is to permit privately offered funds to make a general solicitation under amended Rule 506 without losing either of the exclusions under the Investment Company Act.

Comments

Now there is 30 comment period. I’m just guessing, but I’d be surprised to see changes to the proposed rule. I think the benefit of the comment period will be to add some additional commentary around the “reasonable steps to verify” standard.

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What Does FINRA Think About Crowdfunding?

The crowdfunding provisions in Title III of the JOBS Act provide an exemption from registration under the Securities Act of 1933 for securities offered by through crowdfunding, provided the numerous requirements are met. An intermediary that seeks to engage in crowdfunding must be registered as a broker-dealer or a funding portal. I expect many people are looking at what the regulatory requirements are going to be for this new type of entity. The JOBS Act also requires that a funding portal be a member of an applicable SRO, but limits the examination and enforcement authority of the SRO over registered funding portals to rules “written specifically for registered funding portals.”

FINRA issued Regulatory Notice 12-34 soliciting public comment on the appropriate scope of FINRA rules that should apply to member firms engaging in crowdfunding activities, either as funding portals or as brokers.

Commenters are encouraged to identify the types of requirements that should apply to registered funding portals, taking into account the relatively limited scope of activities by a registered funding portal permitted under the JOBS Act. Comments are particularly requested about possible rules concerning supervision, advertising, anti-money laundering, fraud and manipulation, and just and equitable principles of trade.

I think would-be crowdfunding portal developers are going to have a hard time dealing with the know-your-customer rules required in setting up an account.

Would established firms set up crowdfunding portals. FINRA is clearly anticipating that some of its member firms will do so. And why not? I’m sure a brokerage firm could view a crowdfunding portal as a minor league, allowing them to farm prospects for bigger alternative investments.

FINRA is already looking at potential conflicts.

FINRA also requests comment on whether engaging in crowdfunding might present special conflicts or concerns for a broker-dealer, such as might arise if a registered representative were to recommend that a customer visit the firm’s crowdfunding site.

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The Rebirth of Regulation A Offerings

The Jumpstart Our Business Startups Act requires the Securities and Exchange Commission to amend Regulation A, raising the threshold for use of that exemption from $5 million to $50 million. From the numbers I’ve seen, Regulation A was rarely used as a source of raising capital. It seemed strange that it was included in the JOBS Act. But there were many strange things in the JOBS Act.

Section 402 of the JOBS ACT required the GAO to study the impact of state securities laws on Regulation A offerings. The GAO released its study: Factors That May Affect Trends in Regulation A Offerings.

The report confirmed the lack of use of Regulation A in capital raising. The number of Regulation A offerings filed with the SEC decreased from 116 in 1997 to 19 in 2011. Similarly, the number of qualified offerings dropped from 57 in 1998 to 1 in 2011.

The big difference is that Regulation A offerings are still subject to state securities laws. In contrast, Rule 506 offerings under Regulation D are not subject to the state securities law.

To contrast, there were 15,500 initial Regulation D offerings for up to $5 million in 2010 and 2011, compared to the 8 qualified Regulation A offerings during the same period.

One aspect of a Regulation A offering compared to a Regulation D offering is that it is subject to review, comment, and qualification by the SEC. According to the GAO report 20% of Regulation A filings were abandoned during the SEC comment process.

Another aspect of Regulation A is that the securities’ sales are not limited to accredited investors. So there is a larger pool of potential investors.

On the state side of the process, all states conduct a similar disclosure review as the SEC. Apparently some states will also engage in a merit review to determine if potential investors are getting a good deal. According to the report, businesses are generally advised by legal counsel to avoid Regulation A offerings in states that have a merit review.

So where does this leave Regulation A offerings in the new world of capital formation after the JOBS Act? I would guess in the same place. The big advantage of Reg A offerings over Reg D offering is that they can be sold to non-accredited investors. That comes with a lot of cost and lost time to go through the review process. I would guess that the new crowdfunding offering would be a more attractive alternative to reaching non-accredited investors. Of course, the regulations on crowdfunding do not yet exist and the mandatory equity crowdfunding portals do not yet exist.

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Pay to Play and Cash Solicitations

The Securities and Exchange Commission extended the date by which registered investment advisers must comply with the ban on third-party solicitation in Rule 206(4)-5 under the Investment Advisers Act. The SEC is extending the compliance date in order to ensure an orderly transition. Since solicitors will need to registered as an investment adviser or a broker/dealer or a municipal advisor.

Part of the rule was reliant on FINRA coming up with a rule to meet the requirements under the definition of “registered person” in 206(4)-5(f)(9)(ii)(B) for broker-dealers. FINRA has not done that yet. (Isn’t FINRA supposed to be more effective than the SEC?)

It’s not just FINRA, the the Municipal Securities Rulemaking Board has not finished its rules for municipal advisers under 206(4)-5(f)(9)(iii).

My IACCP symposium also raised the limitations in Rule 206(4)-3. That rule prohibits the use of solicitors in fundraising unless certain requirements are met. The rule specifically refers to “clients” with no further elaboration. For a private fund, that raises the distinction between the fund as a client and the fund investors as limited partners in the fund.

Fortunately, there is an interpretative letter ruling on the topic

We believe that Rule 206(4)-3 generally does not apply to a registered investment adviser’s cash payment to a person solely to compensate that person for soliciting investors or prospective investors for, or referring investors or prospective investors to, an investment pool managed by the adviser.

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Skin in the Game

Limited partners prefer that a private fund manager have an equity stake in the fund.  In the past, the general partner had to put in equity to make sure the fund qualified as a partnership under tax law. The change in the tax law categorization by the check-the box regulations removed the multipart test to determine if an entity should receive partnership or corporate tax treatment. That effectively ending the tax driven decision that the general partner have a significant ownership interest in the partnership.

A secondary benefit from the general partner’s equity stake was that the fund manager’s economic interest was better aligned with the limited partners’ interests. If the fund took a loss, the general partner also experienced the loss.

A recent SEC case focused on a fund manager’s false claim of having “skin in the game.” Quantek Asset Management represented to prospective investors that its principals had invested their own money in the private funds. Quantek, Bullick Capital, Javier Guerra, and Ralph Patino each settled the charges, but without admitting or denying the findings. I’m treating the findings as true for educational purposes, hoping to find some lessons from this SEC enforcement.

The Alternative Investment Management Association’s standard Illustrative Questionnaire for Due Diligence Review of Hedge Fund Managers asked two questions about “skin in the game”:

  1. What is the total amount invested by the principals/management in the fund and other investment vehicles managed pari passu with the fund?
  2. Has the management reduced its personal investment?

In December 2006, Quantek answered question with $13 million. In later questionnaires that amount was reduced to $10 million, then in June 2007 it went down to $10 million, and in December 2007 fell to $7 million. In each instance the answer to question 2 was “no”.

The SEC says that the correct answer to question 1 was always zero. The principals had not invested any capital in the funds. In their defense, Quantek claims a misunderstanding that they thought some unrelated investments should have been credited as being made pari passu with the funds.  Quantek finally got the amount right in June 2009 when it finally answered no to question 1.  By this point, Quantek had obtained almost $1 billion in assets under management.

In addition to the due diligence questionnaires, Quantek also entered into side letters that limited the ability of the principals to reduce their fund ownership by more than 20%. Such a provision does not make any sense if the principals do not have any fund ownership.

In addition, the SEC found two other areas of failure. Quantek misled investors about certain related-party loans made by the fund to affiliates of Guerra and Bulltick. Second, Quantek  repeatedly failed to follow the robust investment approval process it had described to investors in the fund. Quantek concealed this deficiency by providing investors with backdated and misleading investment approval memoranda signed by Guerra and other Quantek principals.

Quantek and Guerra agreed jointly to pay more than $2.2 million in disgorgement and pre-judgment interest, and to pay financial penalties of $375,000 and $150,000 respectively. Bulltick agreed to pay a penalty of $300,000, and Patino agreed to a penalty of $50,000.Guerra consented to a five-year securities industry bar. Patino consented to a securities industry bar of one year.

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Image of the Petronas Towers is by Magnus Manske

Gathering Information on Your Private Fund Investors

One item that I picked up from PEI’s recent Private Fund Compliance Conference is the new way you need gather information about investors in your private fund for Form PF. I put Form PF to the side because my filing is not required until next year. However, there is a key March 31, 2012 date in the Adopting Release for Form PF (.pdf).

In Section 1b, Item B. Question 16 (.pdf)Form PF  asks the manager to “specify the approximate percentage of the reporting fund’s equity that is beneficially owned” by the listed category of investors. You need to file Form PF if you listed private funds in your Form ADV.

The catch in the instruction is:

With respect to beneficial interests outstanding prior to March 31, 2012, that have not been transferred on or after that date, you may respond to this question using good faith estimates based on data currently available to you.
(my emphasis)

If you are fundraising now, it looks like you need to make sure your subscription documents require the investor to self-select their designation. I suppose you also need to do some diligence to make sure the selection is correct.

Even if you’re not fundraising, you need to address this change for any transfers in a private fund after March 31, 2012.

The analysis for which sections of Form PF you need to fill out is a bit complicated. But every private fund needs to fill out Section 16 and answer the question about the beneficial ownership of the fund. Every private fund needs to start gathering information about their investors using this data scheme:

(a) Individuals that are United States persons (including their trusts);
(b) Individuals that are not United States persons (including their trusts);
(c) Broker-dealers;
(d) Insurance companies;
(e) Investment companies registered with the SEC;
(f) Private funds;
(g) Non-profits;
(h) Pension plans (excluding governmental pension plans);
(i) Banking or thrift institutions (proprietary);
(j) State or municipal government entities (excluding governmental pension plans);
(k) State or municipal government pension plans;
(l) Sovereign wealth funds and foreign official institutions; or
(m) Investors that are not United States persons and about which the foregoing beneficial ownership information is not known and cannot reasonably be obtained because the beneficial interest is held through a chain involving one or more third-party intermediaries.
(n) Other

 

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Hypothetical Backtested Performance

Yesterday’s post on faking returns made me think about the use of theoretical models and the ability of an investment adviser or fund manager to use hypothetical performance instead of actual performance. The real use of performance figures is in advertising, so the SEC’s rules on advertising are the key focus. (I don’t see how hypothetical performance works on reports to investors, unless you’re Bernie Madoff.)

Backtesting involves the use of theoretical performance developed by applying a particular investment strategy to historical financial data. You’re more likely to see it for a quantitative or formula-based strategy than anything else. The backtested results show investment decisions that theoretically would have been made had the given strategy been employed during the particular past period of time. However, backtesting does not involve actual market risk or client money.

The SEC rules do not explicitly address model performance. You would have to look at IA Rule 206(4)-1 (a)(5) which prohibits any advertisement that “contains any untrue statement of a material fact, or which is otherwise false or misleading.” Backtesting is going to start from a position as being highly suspect since it’s not based on actual events.

The adviser will need to disclose that there are inherent limitations on the data derived from the retroactive application of a model developed with the benefit of hindsight. The adviser needs to disclose the reasons why actual results may differ. See In re Market Timing Systems, Inc. et al., SEC Release No. IA-2047

One of the problems with backtesting is whether the securities and trades that would be used going forward were available in past. This is a particular problem when using synthetic products or derivatives. Of course, the advertised performance must reflect the deduction of advisory fees, brokerage or other commissions, and any other expenses that a client would have paid.

The most obvious need in using a theoretical model is that adviser needs to disclose that the performance was derived from the retroactive application of a model developed with the benefit of hindsight and not with real money at stake. See In re Schield Management Company et al., SEC Release No. IA-1872

The SEC has indicated that labeling backtested returns as “hypothetical”, “pro-forma”, or that “actual results were available upon request” in and of itself, is insufficient to satisfy the disclosure requirement. (see In re Schield Management Company et al., SEC Release No. IA-1872  and In re LBS Capital Management, Inc., SEC Release No. IA-1644) It  fails “to convey fully the inherent limitations of the data derived from the retroactive application of a model developed with the benefit of hindsight.” The disclosures need to be robust enough to dispel the misleading suggestion that the advertised performance represented actual trading.

There are no set rules, so you need to look toward enforcement actions to see what actions the SEC found to be egregious.

In re Patricia Owen-Michel, SEC Release No. IA-1584 (Sept. 27, 1996)

In the enforcement case against Patricia Owen-Michael, the SEC sanctioned the president of an investment adviser for allegedly circulating misleading advertisements that used a computer-based statistical model to select stocks and mutual funds and to generate trading signals. The adviser’s advertisements included charts and graphs depicting hypothetical performance of an investment model applied retroactively. The SEC alleged that the various charts and graphs depicting hypothetical performance of the model failed to disclose:

  • That the adviser only began offering the given service after the performance period depicted by the advertisement;
  • That the advertised performance results do not represent the results of actual trading but were achieved by means of the retroactive application of a model designed with the benefit of hindsight;
  • All material economic and market factors that might have had an impact on the adviser’s decision making when using the model to manage actual client accounts;

In re Schield Management Company et al., SEC Release No. IA-1872 (May 31, 2000)

In the 2000 case against Schield Management, the SEC alleged that the firm distributed materially false and misleading advertisements because it combined the pre-implementation data with performance data from periods following Schield’s implementation of the relevant trading strategies. One chart showed that the Schield’s model consistently outperformed the S&P 500 index without disclosing that Schield’s actual implementation of the strategy actually underperformed the S&P 500 index. The advertisements also failed to disclose that it applied materially different trading rules in calculating the performance of the strategy before and after the actual implementation of the strategy.

According to the SEC, Schield published advertisements that materially overstated their performance because they failed to deduct the full management fee and other fees earned by the firm from the performance results. On a cumulative basis, this had the effect of overstating the performance of the strategy by more than thirteen percent. The firm also included performance numbers that were calculated erroneously.

In re LBS Capital Management, Inc., SEC Release No. IA-1644 (July 18, 1997)

In the case against LBS Capital Management, Inc., the SEC sanctioned an investment adviser who had developed a mutual fund timing and selection service by using historical financial data, but failed to “disclose with sufficeint prominence or detail that the advertised results … did not represent the results of actual trading using client assets”.

The advertisement disclosed in a footnote that the performance results were “pro-forma,” that “model” performance was “no guarantee of future results,” that the timing service “ went live” in January 1994, and that “actual results” were “available upon request.”

The SEC found that the footnote disclosure was inadequate under the  facts and circumstances.  Citing In the Matter of Jesse Rosenbaum (IA Release No. 913, May 17, 1984), the SEC pounded on the table and stated that a misleading statement in an advertisement cannot be “cured by the disclaimers buried in the [smaller print] text [of the advertisement].”

The SEC also noted that the advertisement was distributed to the adviser’s existing and prospective retail clients “without regard for their investment sophistication or acumen.” Using the facts and circumstances test, the SEC used the standard of an unskilled and unsophisticated investor.

In re Market Timing Systems, Inc. et al., SEC Release No. IA-2047 (Aug. 28, 2002)

In the case against Market Timing Systems, the SEC alleged that Market Timing Systems, Inc. promoted returns for its model of over 70% for a 13 year time period. However, the advertisements did not disclose that the performance results were hypothetical and were generated by the retroactive application of the mode. The advertisements with 13 years of performance were distributed in 1999 and Market Timing did not begin business until 1998.

One point in this case clarifies the problem with using hypothetical models. The actual performance of client accounts during its first quarter of operations was materially less than the model’s hypothetical results for the same period.

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How Popular is Regulation D Fund Raising?

 

With the passage of the Jumpstart Our Business Startups Act, it makes sense to look at the regulations around capital formation and see how they affect the ability of companies to raise capital and how they chose to do so. Of course larger economic effects may outsize the influence of the choices.

The SEC’s Division of Risk, Strategy and Financial Innovation published a report on capital raising using Regulation D. (.pdf) The Division looked at Form D filings from January 2009 to March 2011.

The most startling aspect of the report is that the SEC has only been collecting Reg D filings in a machine-readable form since March, 2009. There are decades worth of data sitting in paper format. The other flaw is that the Reg D filings do not require a filing as to the final dollar amount of securities sold through the offering. Although the SEC has very exact information about publicly available securities, it only has estimates of private offerings.

Some key findings:

  • In 2010, Reg D offerings surpassed debt offerings as the dominant offering method in terms of aggregate amount of capital raised in the U.S.: $905 billion.
  • The average Reg D offering is $30 million, but the median Reg D offering is modest in size: approximately $1 million.
  • Public issuances fell by 11% from 2009 to 2010 while private issuances increased by 31% over the same period.

I also found it interesting to compare this report’s findings with a recent article published in the Business Lawyer: The Wreck of Regulation D: The Unintended (and Bad) Outcomes for the SEC’s Crown Jewel Exemptions by Rutheford B. Campbell, Jr. The two studies cover different time frames and the SEC excludes some types of filings, but there are some startling differences.

The SEC found that 55% of the offerings were under Rule 506. Campbell found that 94% of the offerings were under Rule 506. The biggest problem is that Rule 504 and Rule 505 offerings are subject to state blue-sky laws. Campbell’s argument is that the failure to preempt state regulation pushes more issuers into the tougher requirements of Rule 506, even though the fundraising totals are small enough to fit under Rule 504 or Rule 505. That still with the ban on general solicitation and advertising under Rule 506.

Both found that very few non-accredited investors purchased securities through the Reg D offerings. The SEC found that 90% of the offering had no non-accredited investors, with average amount of 0.1 non-accredited investors and a median of 0. Campbell merely used a sample, but similarly found that the vast majority of offering were limited to accredited investors.

The SEC study emphasizes that Reg D offerings are the opposite of crowdfunding. The median number of investors in an offering is 4, with almost 90% of the offerings involving 30 or fewer investors and 99% of offerings having fewer than 155 investors.

What’s clear is that capital raised in private offering under Regulation D rivals the capital raised in public offering.

It does leave you questioning why Congress felt the need to remove the ban on general solicitation and advertising on private offering to accredited investors under the JOBS Act. It looks like private offerings are raising lots of capital.

It seems clear to me that the private capital market is poorly understood by the Securities and Exchange Commission and poorly understood by Congress. There needs to be better data and better studies.

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Will Private Funds Be Excluded?

Title II of the Jumpstart Our Business Startups Act directs the SEC to lift the ban on general solicitation and advertising under Rule 506 of Regulation D. That rule creates a safe harbor that deems the covered transactions to not involve any public offering within the meaning of section 4(2) of the Securities Act.

However, private funds also have to deal with the restriction in the Investment Company Act that also limits public offerings. Under the exclusions in 3(c)1 and 3(c)7 the fund must be an issuer “which is not making and does not presently propose to make a public offering of its securities”. Historically, the SEC has interpreted the meaning of “public offering” to be the same between the two acts. So not being a public offering under Rule 506 meant the offering was not public under the Investment Company Act.

For real estate fund managers relying on the 3(c)5 exclusion, there is no ban on a public offering in that exclusion.

The JOBS Act requires the SEC to revise its rule, so we don’t know exactly how the changes to Rule 506 will work. It’s possible that the SEC will limit the changes to the Securities Act and not open general advertising to funds under 3(c)1 and 3(c)7 who are required to be private.

However, Section 201(b) of the JOBS Act contains this:

(b) CONSISTENCY IN INTERPRETATION.—Section 4 of the Securities Act of 1933 (15 U.S.C. 77d) is amended—

(1) by striking ‘‘The provisions of section 5’’ and inserting

‘‘(a) The provisions of section 5’’; and

(2) by adding at the end the following:

‘‘(b) Offers and sales exempt under section 230.506 of title 17, Code of Federal Regulations (as revised pursuant to section 201 of the Jumpstart Our Business Startups Act) shall not be deemed public offerings under the Federal securities laws as a result of general advertising or general solicitation.’’.

(My emphasis)

I assume the Investment Company Act is part of the “Federal securities laws.” I suppose you could argue that the Investment Advisers Act and the Investment Company Act operate separately from the Securities Act and the Exchange Act. That would be a tough argument for the SEC to make. The SEC could explicitly not include 3(c)1 and 3(c)7 under the changes to Rule 506.

That would seem unlikely. Take a look at the SEC’s own website “Researching the Federal Securities Laws Through the SEC Website” where it lists the Investment Company Act and Investment Advisers Act as part of the federal securities laws.

More likely would be the SEC issuing a rule with no mention of 3(c)1 and 3(c)7 or the Investment Company Act. That might leave practitioners a bit nervous about the gap.

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