The availability of risk capital for early-stage ventures has proven itself to be remarkably resilient. It has overcome the cycles and uncertainties of our economy, as well as the myopic tax policies perpetuated by our partisan politics. But I foresee a fresh challenge to the startup ecosystem on the horizon—and it is the direct result of bad brokers, disingenuous dealers, unprincipled promoters and iniquitous issuers.
The “bad actors” are the fraudsters who make confidence a career by peddling perilous product to unwitting investors. More often than not, they camouflage their chicanery under the cover of Regulation D.
“Reg D” provides for some companies to offer and sell their securities without having to register the securities with the SEC and consequently makes access to the capital markets possible for small companies that could not otherwise bear the costs of a normal SEC registration mandated under the Securities Act of 1933.
It is a success story that began when the SEC created the exemption in 1982 with the intent of simplifying capital-raising for small business owners to launch or expand their ventures. Subsequently, Reg D has enabled literally hundreds of thousands of new businesses to efficiently find financing.
But, private placements offered under Reg D have endured a checkered history beginning with the Prudential Securites Inc. offering that devoured $1.4 billion from 100,000 investors back in the late 1980s.
Private placement pilferings were conducted via the virtual absence of gatekeeper protection or regulatory oversight provided under the cover of Reg D. Regulators and lawmakers are rightly concerned, particularly with the private placements of limited partnerships that have been capitalized by offerings to “accredited” individual investors through independent broker-dealers reaping commissions as high 10%.
Though initially intended to enable entrepreneurship and small business financings, the legitimate users of Reg D have been eclipsed by the scamsters.