Last of a dying breed

The internet age finally reached the world of private placements and businesses too small to raise money on the public markets. But not everybody is happy about it.

The SEC began phasing in new rules just last month that will require private entities to file the nine-page paper questionnaire known as Form D over the internet, instead of the process of sending in a paper copy through the mail. Voluntary electronic filing began on September 15, and it will become compulsory as of March 16 next year.

Form D, filed by some 17,000 private companies and partnerships last year, has been required since 1982 for start-up companies and private firms that raise capital outside public markets and are exempt from registration requirements under the Securities Act of 1933. It contains information ranging from who has invested to who sits on a company’s board.

Easier access for all

The shift to electronic filings, announced last winter, will make it much easier – and faster – for analysts and regulators and any other interested parties to peruse the filings and search for information. And it has been loudly applauded by investors, vendors and journalists, who regularly mine Form D for potential clients, stories and other information.

‘I’m drowning in paper. And the SEC is coming to the rescue,’ wrote Scott Austin, a Dow Jones assistant managing editor who oversees reporters covering new start-ups, in a commentary after the new rules were announced last winter.

But many companies, and for that matter the private individuals and firms that invest in them, are not happy with the prospect of more easily searchable records and prefer the old system, which required anyone seeking their information to request it by mail or sort through hundreds of folders lining the shelves of a cramped public reference room in Washington, DC, within 30 days. The system was notoriously difficult to maneuver in – intentionally so, many critics contend.

Not surprisingly, the announcement of the proposed electronic filing rules last year set off a behind-the-scenes lobbying battle that took aim at the provision requiring disclosure of significant investors.

Disclosure can be a deal breaker

‘It’s really a privacy question,’ says Brian Borders, outside counsel to the National Venture Capital Association. Many venture capital firms ‘don’t want their particulars as investors to be readily available – that is, electronically available. A lot of venture capital firms have been known to say, if you file a form D we are out of the deal,’ he adds. ‘It is that important a deal to them.’

John Gaine, president emeritus and special counsel to the Managed Funds Association, which represents hedge funds, funds of funds and managed futures funds, expressed his industry’s view during the comment period for the new rule. ‘We believe that investor information for pooled investment funds is not pertinent to a fund’s operations or its reliance on the Regulation D exemption,’ he wrote. ‘We also believe that requiring such information on Form D infringes upon private investors’ expectation and request for privacy.’

In the end, the SEC did take some steps to address the concerns of companies and investors, eliminating a requirement that registrants list investors owning more than 10 percent of their securities, as well as a requirement that venture capital firms list their limited partners and private equity firms list their partnerships.

Despite partially addressing these concerns, the SEC left in requirements that companies list board members and other company officials, which could expose the names of many venture capital investors to anyone examining the forms, since many investors in private companies sit on the boards of the companies they invest in. It does not take a lot of work to add one and one and get two.

And the changes will do little to assuage the concerns of so-called ‘stealth-mode’ start-ups, hoping to quietly raise money and keep their ideas under wraps. Small business start-ups also may have a harder time controlling the PR timing of their products, since their information will appear online within 15 days of their first offering.

Providing better protection

Advocates of the changes, however, contend the adjustments will make it easier for regulators nationwide to do their jobs. According to what the SEC wrote in the Federal Register, the new rules will ‘enable both federal and state securities regulators to monitor the exempt securities transaction markets more effectively.’

The SEC also maintains the system ‘will permit improved coordination among federal and state regulators, which is essential to efficient and effective capital formation through exempt transactions, especially by smaller companies and to investor protection.’

Easing the filing burden

The new rule could eventually dramatically simplify registration requirements for companies, by allowing ‘one-stop filing.’ Currently, companies must register separately with some states, depending on where they are based and the location of their investors.

And while the SEC has not yet implemented any such system, it’s that future development some chose to play up. ‘The SEC’s launch of online filing of Form D is a very positive development,’ John White, director of the SEC’s division of corporation finance, said last winter. ‘We hope that this will eventually facilitate one-stop filing of both federal and state Form D notices and substantially reduce filing burdens of smaller companies.’

Even so, don’t expect a flood of electronic filings before compulsory implementation in March 2009. A number of attorneys interviewed said none of their clients intend to take advantage of the new electronic filing opportunity until it becomes mandatory. And some complained about it. 

Martin Miller, of counsel in the corporate and financial services department at Willkie Farr & Gallagher, notes that since issuers are still presently required to file by paper with the states, there is as yet no real advantage to filing electronically.

He says he sent an alert out to his firm’s clients a few months ago and the only response he received was, ‘When do I have to worry about this?’

‘When you say that you have to be set up by March 16, 2009, most people stop paying attention. Their time horizons are a little closer than that,’ he says. ‘I think until then people are just watching to see what happens and giving the SEC time to get the kinks out.’

Not as easy as it sounds

Stephen Marcus, a corporate and securities lawyer at Schiff Hardin, considers the new requirements to be ‘problematic’. Form D, he says, ‘is quite cumbersome and has been made more cumbersome. You can’t just sit down at your keyboard and file a report. ... You have to register with the SEC, get a special number with them to be a filer and you have to establish your bona fides.’

A lot of the companies that file Form Ds are small ‘local businesses starting up,’ he adds. ‘You have to remember that many of the people who are using this filing are people with no contact with the SEC. ... Now you have to get a SEC registration number.’ As such, the new process could be difficult for these businesses, explains Marcus. ‘It’s something quite different for the one-time entrepreneur who doesn’t have any experience being involved with the SEC. And if you decide to get a lawyer involved, it’s going to cost a lot more.’

In short, don’t expect to see companies rushing to utilize the online filing option. In the meantime, some private equity and venture capital groups will continue to exert whatever influence they have in Washington to maintain the current filing system.