NASAA and the SEC: Presenting a United Front to Protect Investors

Luis A. Aguilar is a Commissioner at the U.S. Securities and Exchange Commission. This post is based on Commissioner Aguilar’s remarks at the North American Securities Administrators Association’s Annual NASAA/SEC 19(d) Conference; the full text, including footnotes, is available here. The views expressed in the post are those of Commissioner Aguilar and do not necessarily reflect those of the Securities and Exchange Commission, the other Commissioners, or the Staff.

I have been NASAA’s liaison since I was asked by NASAA to take on that role early in my tenure at the SEC, and it is truly a pleasure to continue our dialogue with my fifth appearance here at the 19(d) conference. This conference, as required by Section 19(d) of the Securities Act, is held jointly by the North American Securities Administrators Association (“NASAA”) and the U.S. Securities and Exchange Commission (“SEC” or “Commission”).

The annual “19(d) conference” is a great opportunity for representatives of the Commission and NASAA to share ideas and best practices on how best to carry out our shared mission of protecting investors. Cooperation between state and federal regulators is critical to investor protection and to maintaining the integrity of our financial markets, and that has never been more true than it is today.

Let me start by acknowledging the NASAA members and their role on the “front lines” in the continuing fight against fraud. You are often the first to receive tips and complaints from harmed investors, and the first to identify fraudulent conduct occurring within your local jurisdictions. Moreover, when resource constraints prevent the Commission from pursuing a potential violation, the states may often be the only avenue to ensure that those who break the law are held accountable.

I have taken a look at NASAA’s recent Enforcement Report and have to commend you on the many accomplishments that are highlighted in the Report. For example, according to the Report:

  • State securities regulators fielded more than 10,000 complaints from aggrieved investors and conducted 5,865 investigations;
  • States reported about 2,500 administrative, civil, and criminal enforcement actions involving over 3,300 respondents and defendants;
  • States reported criminal actions that resulted in 1,361 years of incarceration;
  • States imposed more than $694 million in investor restitution orders and levied fines or penalties and collected costs of $157 million; and
  • A total of more than 3,500 licenses of brokers and investment advisers were withdrawn due to state action, and 736 licenses were denied, revoked, suspended, or conditioned.

Clearly, these actions make our capital markets safer.

Beyond the focus on enforcement, I also want to acknowledge NASAA’s continued engagement in the SEC’s rulemaking process. This input has been particularly valuable with respect to the recent initiatives mandated by the JOBS Act. NASAA and its members have been in the forefront of the comment process for each of the Commission’s proposals under the JOBS Act, including the amendments to Regulation D, the crowdfunding rules, and Regulation A-plus.

Because of the extensive experience that state securities regulators have in working closely with issuers and investors, and their expertise in reviewing smaller offerings, NASAA members bring unique and important viewpoints and observations to the SEC’s rulemaking process. I urge NASAA and its members to remain actively involved in that process and to continue providing helpful and insightful comments on our proposed rules.

There are several important topics I could discuss with you, like the many important Dodd-Frank Act rulemakings that remain to be completed. However, today I will focus my remarks on the following areas:

  • The factors that should be considered in determining the States’ role in Regulation A-plus offerings;
  • The Commission’s outstanding proposal to improve Regulation D; and
  • The importance of proactive steps to combat the potential increase in fraud resulting from the rules mandated by the JOBS Act.

The Role of the States in Regulation A-plus

Let me start with the Commission’s proposed amendments to Regulation A. That proposal—commonly known as “Regulation A-plus”—would amend Regulation A to create two tiers of offerings: Tier 1, for offerings of up to $5 million in a twelve-month period, and Tier 2, for offerings of up to $50 million in a twelve-month period. Both tiers would be subject to basic requirements for issuer eligibility, disclosure, SEC qualification, and other matters, including limitations on the types of securities that may be sold.

As proposed, Regulation A-plus would provide a measure of transparency and accountability that are not provided by the exemptions under Regulation D and Section 4(a)(2). For example, the amended rules would require an offering statement containing narrative and financial disclosures about the issuer, including two years of financial statements and an MD&A. The usefulness of the disclosure would be enhanced by the proposed electronic filing requirement, which will help inform the market and facilitate analysis of the offering. In addition, Tier 2 provides for additional investor protections, including audited financial statements, ongoing reporting obligations, and a limit on the amount of securities that may be purchased by an investor, capped at 10% of the investor’s income or net worth (whichever is greater).

As proposed, Regulation A would also allow issuers more flexibility than other exemptions. For example, Regulation A would permit general solicitation and advertising, provide broad flexibility to “test the waters” before filing, and would be available for sales to both accredited and non-accredited investors.

The proposed rules also provide that a Regulation A offering statement may only be qualified by order of the Commission—thus ensuring that all Regulation A offerings go through a staff review. The expansion of “bad actor” disqualification provisions—and the new eligibility requirements for issuers—add further investor protection.

Obviously, Regulation A-plus remains a work in progress, and no one can say what the ultimate outcome will be. The comment period closed March 24, 2014, and the staff is considering the information received. I am hopeful that the exemption will only be improved in the deliberative process leading up to a vote to adopt the amendments. As the Commission moves toward adopting Regulation A-plus, we should think critically about the Commission’s proposal and we should not hesitate to improve it.

My goal is to have a workable and effective process under Regulation A-plus. In other words, I hope that this process will attract issuers that might otherwise choose more opaque exemptions for their capital-raising needs, and in turn, that this will provide investors with stronger protections.

I know that NASAA shares that goal. I also know that NASAA has serious concerns about the provision of proposed Regulation A-plus that would effectively preempt state securities law registration and qualification requirements for all Tier 2 offerings.

In that regard, however, it is important to note that the Commission’s proposing release expressly solicited comment on whether we should take a different approach to preemption at the adopting stage—and if so, what that approach should require. In other words, this is an issue that has not yet been foreclosed.

As described in the release, one of the key considerations underlying the question of preemption is a concern about the cost—in both time and money—of having to file and qualify an offering separately under the state securities laws of each jurisdiction, and the impact that would have in discouraging market participants from using the new exemption. This concern reflected the views of many commenters, as well as observations made in a report to Congress by the U.S. Government Accountability Office (“GAO”).

Based on the experience of issuers under Regulation A as currently in effect, this was not an unreasonable concern. According to the GAO report, although states employ a limited number of methods for registering securities offerings, the specific requirements and processes vary. Thus, an issuer seeking to offer Regulation A securities in multiple states would traditionally have needed to make multiple state filings. To that end, the issuer’s counsel would have needed to research the filing requirements for each state in which the offering was conducted. Each state in which the issuer chose to file would then provide its own comments, based on its own standard of review, and each state would have to separately declare the offering effective, before the offering could be conducted in that jurisdiction. As a result, complying with the registration provisions of multiple states was seen as expensive and time-consuming.

However, that may be changing. Last month, NASAA’s membership approved a streamlined review protocol, known as the Coordinated Review Program, for multi-state offerings under Regulation A. At least 48 of the 53 U.S. jurisdictions represented by NASAA have already signed Memoranda of Understanding (MOUs) adopting this new protocol. If fully implemented as proposed, this program could significantly reduce the time and cost of state registration, by cutting redundancy at three steps:

  • First, any issuer desiring coordinated review simply emails a single application to the program coordinator. Importantly, the ability to file by email means that this program is not dependent on any new technology or infrastructure, which might otherwise delay the program’s effectiveness.
  • Second, the program coordinator selects a lead disclosure examiner and a lead merit examiner. Only the lead examiners interact with the issuer. Any comments or concerns from other participating jurisdictions are passed through to the lead examiners.
  • Third, each participating jurisdiction agrees to clear the application upon clearance by the applicable lead examiner.

As described by NASAA, the protocol would have tight time limits. The proposed timetable would allow the lead examiners either to clear the offering or to comment on any deficiencies in the application within 21 business days after filing. The process for clearing comments would also be accelerated. In addition, it is understood that participating merit-review states have agreed to modify or eliminate several of the policy statements that have in the past caused concerns for the types of start-up businesses likely to use Regulation A-plus.

Accordingly, if implemented as proposed, the Coordinated Review Program could ameliorate many of the concerns raised by commenters regarding state blue sky review of Tier 2 offerings. While some costs of state review will remain, a viable Coordinated Review Program should certainly reduce issuer legal costs significantly, while also reducing delay and uncertainty.

Accordingly, the availability of such a coordinated program should be a factor that the Commission seriously considers when determining the issue of state preemption at the adopting stage.

Moreover, when thinking about the issue of state preemption, costs are not the only factor to consider. It is also important for the Commission to take into consideration the benefits of the blue sky process to investors and other market participants. Some commenters have suggested that blue sky review and qualification of “Tier 2” offerings may provide substantial benefits to both investor protection and capital formation. For example:

  • In jurisdictions that provide for a form of “merit-based” review—about half of the U.S. jurisdictions represented by NASAA—state qualification provides a type of investor protection not provided by the Federal securities laws. Merit requirements—such as limits on the total amount of selling expenses—or requiring independent directors if a company has a history of related-party transactions—can provide retail investors with the types of protections that angel investors, venture capitalists, and institutional investors customarily are able to negotiate for themselves.
  • Under some circumstances, there may be a benefit in having a regulator with local knowledge, or with greater proximity to investors, evaluating the offering materials. This may be even more important in the case of smaller companies, who may be more impacted by local economic conditions.
  • As state regulators point out, they are often in a better position to provide assistance to smaller companies seeking to raise capital from investors in their jurisdiction.

However, let me acknowledge that other commenters have a different perspective. A number of commenters argue that the burden of state blue sky review still outweighs the benefits to investors, notwithstanding the availability of a multistate coordinated review program. For example:

  • Some commenters argue that, even with a coordinated process, the need to complete both state and federal filing requirements, and to undergo both state and federal reviews, including in many cases both a merit review and a disclosure review, is “cumbersome,” creates “uncertainty,” and would impact “time to market.” Some also express concern about relying on a new and untested program.
  • Moreover, some commenters say that, even under a coordinated review, lead state examiners will still be required to collect comments from other state examiners. As a result, an issuer undergoing such review will need to be responsive to a variety of state comments, some of which may be duplicative of, or inconsistent with, comments from SEC staff review. Accordingly, such commenters doubt that the Coordinated Review Program announced by NASAA will do enough to streamline and clarify the state review process. For some commenters, this concern is exacerbated by what they consider the potential for subjectivity in applying state merit review standards.

Obviously, the question of preemption is a complicated and important issue. Ultimately, all the factors—pro and con—should be taken into consideration to determine whether it is appropriate for state registration and qualification requirements to be preempted for all Tier 2 offerings.

In the end, both the SEC and our colleagues at NASAA have a common goal: A form of Regulation A that is utilized more frequently than its predecessor because it provides an effective way for small companies to raise capital and because, importantly, it provides appropriate investor protection. My mind remains open as to the best way to achieve this goal.

Before I move on, I do want to recognize that questions have been raised as to the Commission’s authority to, in effect, preempt state registration for all purchasers in Tier 2 offerings, and whether such preemption is consistent with Congress’s intent under the JOBS Act. I have requested advice on this issue from the SEC’s Office of General Counsel, and will expect a full analysis prior to the adoption of final rules.

Regulation D

In addition to Regulation A-plus, I would like to address another significant matter resulting from the JOBS Act.

Last year, by a vote of 4‑to‑1, the Commission adopted a JOBS Act-mandated rulemaking to allow general solicitation and advertising in securities offerings under Rule 506 of Regulation D. At the time, many expressed their concerns that mass marketing under Regulation D would make fraud easier by enabling fraudsters to cast a wider net. In light of the well-known risks, many experienced observers, including NASAA and a number of its members, urged the Commission to include provisions in the rule to protect investors and to help securities regulators oversee the evolving market for offerings under Regulation D.

As this group knows well, the majority of Commissioners at that time did not include any of the requested investor protections in the general solicitation rule adopted. In fact, the majority did not even allow a discussion of the suggested protections to be included in the proposing release. For those reasons, I dissented at both the proposing and adopting stages. However, at the time of the adoption, the Commission did approve, by a 3‑to‑2 vote, a proposal to amend Regulation D and related rules in a few very basic ways to mitigate some of the risks presented by general solicitation. Specifically, that proposal would amend Regulation D to improve the content and timeliness of the Form D notice filing and to require legends and other disclosures in written materials disseminated in offerings utilizing general solicitation. The proposal would also amend Rule 156 to extend its antifraud guidance to the sales literature of private funds, and would add a new rule to require, on a temporary basis, the submission of written general solicitation materials to the Commission.

At the time, I raised serious questions about the wisdom of adopting Rule 506(c) to allow for general solicitation while only proposing needed changes to help ameliorate its risks. It is important that this proposal be adopted, and, importantly, that it be adopted in a form that will protect investors. I know that many state securities regulators have submitted thoughtful comments in support of the proposal. I urge you to sustain your support and I urge you to continue to encourage the Commission to act in a meaningful and effective manner.

Working Proactively to Combat a Higher Risk of Fraud

One result of the JOBS Act is that, taken together, general solicitation, crowdfunding, Regulation A-plus, the so-called “IPO on-ramp,” and increases in the number of record holders a company may have before it has to register under the Exchange Act—have the effect of blurring the lines between public and private companies. In effect, rather than a simple distinction between private placement and public offering, or between reporting company and non-reporting company—there are now different degrees of “publicness.”

This situation raises a number of concerns for the investing public: First, there is the potential risk of a “race to the bottom,” in which companies are incentivized to seek out the regulatory approach that allows them to access the most investor funds with the least possible oversight. Another risk is that, with a wide range of disclosure and governance regimes that may potentially be adopted, investors may be misled, or otherwise be unaware, of the rules applicable to a particular offering and the underlying security.

Moreover, the lack of transparency relating to these offerings may also lead to an increase in fraud or manipulation in the secondary market. For example, while it is not yet known whether a reliable secondary market will develop for Regulation A-plus securities, any such market will almost certainly be less transparent than the market for listed securities—even with the proposed ongoing reporting obligations for Tier 2 offerings.

The Commission and our partners in NASAA must work proactively to get in front of these problems before investors are harmed. To that end, I was pleased to note that, shortly after enactment of the JOBS Act, NASAA formed a task force on Internet fraud investigations to monitor the development of online platforms pursuant to Section 201(c) of the JOBS Act, as well as crowdfunding websites and other Internet offerings. I should also note that at the same time as Regulation D was amended to allow general solicitation, the Commission announced a work plan to study the use of the new rule, including looking for any increased incidence of fraud and coordinating with SEC examination staff and state regulators.

I encourage the staff of the SEC and NASAA members to communicate with one another and work together to understand and address the developments in the markets impacted by the JOBS Act. Working together makes us stronger and more effective.

It is imperative that a proactive approach be taken to monitoring these areas for potential problems. As additional JOBS Act-mandated rules come into effect, cooperation and collaboration between the Commission and state regulators will become more important than ever, and strong swift actions must be taken to address any problems as soon as they are uncovered.

I am a strong supporter of capital formation. I know what it can mean for our economy, our work force, and our country’s future. Because of that, I firmly believe that it is important that the SEC and NASAA members work together to ensure the integrity and fairness of the capital formation process. Our combined vigilance will enhance the benefits of the new rules, engender investor confidence in the process, and guard against investor harm.


Before I conclude, I want to highlight one additional recent development. In my remarks last year, I expressed my disappointment that, nearly three years after Dodd-Frank became law, the Commission still had not created the Office of the Investor Advocate. Today, I am pleased to report that the SEC has a brand new Investor Advocate. In fact, one of NASAA’s very own was chosen as its first Director. I expect this new office to identify the priorities and concerns of investors and to bring this focus to the Commission’s rulemaking and other policy efforts. NASAA has been a sustained ally of, and a strong advocate for, investors. I fully expect that the new Investor Advocate will bring the same commitment to the SEC.

I will finish where I started, by highlighting the tremendous efforts of the staffs of the SEC and the NASAA securities regulators to protect investors. I am humbled and proud to be part of your world. I encourage you to keep fighting for investors, and I commend you for all of the work you do. Investors need the SEC and NASAA to work together.

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