The SEC was right to take more time deciding how GPs can safely market their funds in the public setting. However, outlining how firms certify only ‘accredited investors’ find their way into the partnership should not be one issue holding the agency back.
Recently made available consultation responses suggest the US Securities and Exchange Commission made the right move in asking the public for feedback before finalising any rules
that would allow private funds to engage in mass marketing. Indeed we praised the decision even though it meant the agency would miss its deadline to lift an unnecessary general solicitation ban.
The responses show a mix of confusion and disappointment in how the agency plans to relax “Regulation D” rules. By far the biggest complaint on this issue has been the agency’s lack of details in how it plans to ensure a GP only accepts “accredited investors” after printing a magazine ad or making easily available a PPM to prospective LPs.
That can be a problem for many reasons, least of which is the litigation risk the SEC exposes itself to on the issue, legal sources tell PE Manager. Without clear guidance in how GPs verify accredited
investors, the SEC effectively leaves it up to state regulators – who sources describe as the frontline of defense in policing private offerings – resulting in a messy patchwork of verification standards across state lines that defies a legislative mandate to handle the issue at the federal level.
In its proposal the regulator said firms should “take reasonable steps to verify that purchasers of the securities are accredited investors”, which as any lawyer will tell you, leaves ample room for interpretation. Fortunately for regulators it shouldn’t be considered a difficult challenge to erase some of that ambiguity. Accredited investors are basically either rich individuals (who could prove their accredited status with bank statements, tax returns or appraisals) or institutional investors (who could provide balance sheets or quarterly statements).
True, some investors may not like the idea of handing over sensitive financial information to a private equity firm, but registered broker-dealers, which are trusted middle men in financial markets, could be
responsible for verifying the LP’s information.
And to avoid unnecessary paperwork, large LPs can continue making representations they are accredited – perhaps defining “large” as those investors able to make commitments above a
certain threshold without borrowing any money.
A source close to the SEC told PE Manager the agency “is working hard on implementation” but has
not yet specified a timeline on its Reg D rulemaking. Many reasons could explain why, but clarifying the accredited investor certification process should not be one of them.