Nov. 13, 2014
Thank you, Jeff Rubin, for the kind introduction. Good morning to everyone (or good evening to those joining from London). It´s a pleasure to be here and to be a part of this annual event which brings together some of the Commission´s best and brightest to discuss international securities regulation and enforcement.
Before I start, I´m obliged to tell you that the views I express today are my own, and not necessarily those of the Commission or my fellow Commissioners. Indeed, our views within the agency can sometimes span a wide range, and frankly, that works to the benefit of our policy-making efforts. Within the SEC, just as within the international securities regulatory community, it is important that we hear from, and carefully listen to, a wide and diverse group of stakeholders. This is how we accomplish the best policy outcomes. This is how we promote investor trust and confidence, which in turn leads to more efficient markets and stimulates capital formation.
Throughout my career in policy-making, both on Capitol Hill and as a Commissioner at the SEC, I have always been a strong believer in encouraging all stakeholders to make their voices heard – to bring their views, along with the facts that back them up, and contribute to a thoughtful and respectful debate.
We must do this in our own internal rulemaking, and we must do this as responsible participants in the larger international regulatory community. Capital flows are not restricted by geography. Here in the United.States, we benefit greatly from foreign investment. Annual data from the U.S. Department of Commerce shows that 2013 saw a net inflow of $194 billion in "foreign direct investment," reaching a total cumulative foreign direct investment in U.S. businesses of roughly $2.6 trillion. Similarly, U.S. direct investment abroad totaled $328 billion for 2013.
We have an increasingly interconnected, global economy, and with it a duty to learn from one another and work together for the benefit of all. Over one hundred years ago, President William Howard Taft put this quite simply and succinctly when he said "I am in favor of helping the prosperity of all countries. Because, when we are all prosperous, the trade of each becomes more valuable to the other." A true statement in 1909, and in 2014, it has never been more true.
That is why I am pleased to speak at events like this one, because it provides an opportunity to engage with those on the ground who are actually using our securities laws and rules. So, with that I´d like to discuss three big picture issues – all related broadly to capital formation – crowdfunding, Regulation D and reverse mergers.
(Separately, at the end, I´m going to throw in a plug for one additional issue that I think is of great significance internationally, but I think I´ll keep you in suspense on that one until we get there!)
Capital formation is a topic that is near and dear to my heart because smart capital formation policies, ones which include strong investor protections, will lead to both jobs and investment opportunities for everyone.
These opportunities come in all shapes and sizes, starting with the spark of an idea in someone´s garage, funded on a shoe-string budget, and then hopefully growing though various stages of capital formation into a successful, and maybe even public, venture.
I like to think about these stages as stepping stones along a continuum of capital formation. We need to construct a sensible and well-integrated path in which each step provides strong footing for the next. And frankly, as I´ve said recently, I´ve been concerned that the patchwork quilt of rules and exemptions is overly complex from a business standpoint, while also exposing investors to a range of serious and unnecessary risks.
I recently had the pleasure of visiting a technology venture accelerator at University of Southern California´s Viterbi School of Engineering called the Start-Up Garage. I heard from numerous creative and talented entrepreneurs seeking capital to fund everything from advanced phone chargers to robots. It was invigorating and inspiring, and I know that these types of entrepreneurs exist, and need funding, the world over.
That is one reason why I find my job so interesting and challenging. My job, along with my colleagues at the Commission and regulators around the world, is to create sensible rules to help facilitate these endeavors. And that is where you come in. We can´t do it well without your help. You and your clients, both here and abroad, must take this same entrepreneurial spirit and apply it toward thoughtful and creative policy making.
We usually don´t think of capital formation rules as having an international component, but in an era of the Internet and global movements of capital, we absolutely have to think that way. Indeed, the role of U.S. investors in international markets is larger than ever. U.S. gross trading in foreign securities grew from $0.053 trillion in 1980 to $7.5 trillion in 2005, and has only kept growing in the decade since.
Take the Hong Kong Stock Exchange alone -- the success of those listings often depends upon their ability to access U.S. institutional markets through Regulation S/Rule 144A offerings, with deals commonly obtaining 90 percent of their liquidity through the global placement. And, while this means that the Commission needs to pay attention to the health and standards of global markets, the overall growth of foreign capital markets is healthy for investors around the world, including in the U.S.
However, we must also be prudent. From our obligations to enforce anti-money laundering, anti-terrorism finance, and sanctions rules, to the steady flow of cross-border fraud cases, we have to be realistic that in a modern world, international capital flows includes both the good guys and the bad. And with new concepts like virtual currency, these challenges are only going to become more complex. So I´d like to take some time today and think about the international components of our capital formation rules.
Let´s start with crowdfunding. Crowdfunding regulation is of particular importance to the international community because, as we all know, the Internet is not contained by international borders. Equity-based crowdfunding is still in its infancy worldwide, but we have already seen exponential growth in other types of crowdfunding, including debt-based crowdfunding through peer-to-peer lending, as well as reward and donation-based crowdfunding. As soon as we get sound rules in place for equity-based crowdfunding, I expect we will see the same phenomenal growth. Crowdfunding holds tremendous promise to harness the power of the Internet to bring investors and businesses together in a new way to help provide capital for start-ups and small businesses.
This capital, for the most part, will likely come from smaller, non-accredited investors, potentially from around the world. We want these investors to do well, both for their own economic well-being, and to nurture and support this fledgling market as a viable option for start-ups. This means we must create the right protections, through a combination of structural requirements and disclosure, to address and make transparent what we know are the risks – risks like investment dilution when the second wave of financing comes in, or worse, the proliferation of cyber-fraud through "virtual" boiler rooms. These risks are brought into sharp focus for me as I deal with a dozen or more enforcement cases each and every week.
As we consider how to strike the right balance here, we must also consider how our proposed crowdfunding regulation may impact and interact with others around the world – in England, Europe, China or elsewhere. For example, what obligations should be in place for non-U.S. platforms seeking to conduct a crowdfunding offering in the U.S.? If we don´t have adequate oversight, not only will fraudsters be potentially out of reach of U.S. authorities, but foreign platforms themselves could become vehicles for money laundering or worse. And while crowdfunding is premised on the concept that the Internet community, which is global, can identify and grow the most promising new companies, we may want to take it slowly, and allow these new ideas to develop locally, mature and become successful.
To that end, we should also watch developments across jurisdictions, and consider and analyze how various approaches are working. I am very interested in seeing how the United Kingdom´s structure permitting the use of pooled funds, or as they call them "collective investment schemes," will operate. To what extent can pooled funds be useful in solving certain problems related to crowdfunding, such as large numbers of retail investors on the company´s shareholder registry, as well as other investor rights issues? At the same time, what new risks and complexities are introduced by the use of pooled funds? In short, we need to learn from one another´s experiences in this space. So keep us informed, and give your best thoughts and ideas. Not just on these specific questions, but also on questions we haven´t even thought to ask.
Now I´d like to spend a few minutes speaking about the next step along the capital formation continuum – Regulation D. With the changes in Rule 506 of Regulation D that allow for general solicitation, just as with crowdfunding, there is both tremendous potential and significant risk. Investors rightfully won´t part with their hard-earned capital unless we strike a reasonable balance here.
Here too, issuers and investors across the globe have a strong interest in helping us get it right. During 2009-2012, foreign issuers accounted for approximately 19% of the roughly $3.3 trillion of capital raised in Regulation D offerings. So get involved, and let us hear from you.
For example, as drafted, the proposed rule requires the filing of a notice in a "Form D". If the notice is not filed, the issuer may be disqualified from using this registration exemption in future offerings. What are the pros and cons of this approach? Should the effects of non-compliance be limited to the related offering? Should there be a limited opportunity to correct the failure to file the notice?
And from an enforcement perspective, I often hear the argument that fraudsters likely won´t file a notice through a Form D anyway. I agree, and that is one reason why I think the filing requirement is so important. The failure to file this form can serve as a red flag for investors and regulators that something may be amiss. It can serve as a replacement for the early warning system that general solicitation used to provide. And if not the filing of a Form D, then what alternative might serve as a red flag for fraud, as well as help us to quickly halt a fraudulent offering in its tracks? Again, help us benefit from your experiences here, and give us your best thoughts on this issue.
And as we think about capital formation, we should also take a careful look at existing policies and systems that are presumed to serve that goal, and maybe take a little closer look under the hood. For example, I am concerned about non-operating companies, sometimes called "shell companies," that can be used for reverse mergers to allow quick access to the capital markets. How well does this practice encourage appropriate capital formation? And does this mechanism pose a serious risk of fraud as companies attempt to evade the traditional registration requirements in order to obtain immediate access to investors´ capital?
As I mentioned, I also have to look at these issues through the lens of the numerous enforcement cases I vote on each week. Those of you joining us today and your clients don´t necessarily see or think about the horrible abuses that can and do occur in some of these markets.
How much capital is really being raised in these markets toward helping entrepreneurial businesses? And how does that stack up against the abuses? Both investors and businesses seeking capital can be harmed when we cannot effectively police this market. Should we be looking more broadly at some structural protections here? Maybe targeting some of the gatekeepers like shell-brokers and transfer agents, or implementing listing standards to assist in service of process? These are all questions that deserve our attention, and I hope you´ll help us with them.
Finally, beyond capital formation, there are, of course, a number of other issues of relevance to international regulators and market participants. I would be remiss if I didn´t emphasize one, little discussed, but extremely important topic – the Global Legal Entity Identifier or "LEI" initiative. As most of you know, an LEI is an alpha-numeric reference code that uniquely identifies legal entities engaging in financial transactions globally. It enables risk managers and regulators alike to instantly and precisely identify parties to financial transactions. This tool has remarkable power to provide a new dimension to transparency.
We saw with the collapse of Lehman Brothers in 2008 that both regulators and private sector managers were astonishingly unable to quickly assess exposure to Lehman, or determine the degree of interconnectedness between global financial market participants. The LEI initiative, which is now up and running, will facilitate risk analysis, supervision, and regulation, and can greatly strengthen and improve a firm´s internal risk management. To repeat a somewhat overused buzz phrase – this truly presents a "win/win" situation.
That is why there is broad support from both regulators and industry for this project. I intend to promote incorporating this into every rule on a going forward basis, and I encourage you all to do the same, both here and abroad. And here is more good news: you need not wait for regulation. LEIs are now available to market participants around the world through a number of operating utilities worldwide that have been endorsed by the Global LEI Regulatory Oversight Committee. Here we have a rather unique confluence of thought and agreement between industry and regulators. Let´s make the most of it to the benefit of our markets.
I want to close with this request relating to the issues I have discussed – crowdfunding, Regulation D and reverse mergers, as well as others you may be interested in: gather and analyze data, please identify your issues and concerns, and help us visualize and construct solutions. Bring your best thoughts to us, and I promise we will listen. We are a much better regulator when we partner with market participants to arrive at the best solutions. Thank you for inviting me to be with you today.
 Vice President and General Counsel, Financial Accounting Foundation.
 See Data compiled by the United States Department of Commerce, Bureau of Economic Analysis, available here: http://blog.bea.gov/tag/fdius/; see also, Organization for International Investment, Foreign Direct Investment in the United States, 2013 Report, available here: http://www.sec.gov/servlet/Satellite/goodbye/Speech/1370543436711?externalLink=http%3A%2F%2Fwww.ofii.org%2Fsites%2Fdefault%2Ffiles%2FFDIUS_2013_Report.pdf ("The United States defines FDIUS as the ownership or control, directly or indirectly, by a foreign investor of 10 percent or more of a U.S. business.")
 See Data compiled by the United States Department of Commerce, Bureau of Economic Analysis, available here: http://www.bea.gov/international/di1usdbal.htm.
 Oakland Tribune, October 6, 1909, p. 4, available here: http://www.sec.gov/servlet/Satellite/goodbye/Speech/1370543436711?externalLink=http%3A%2F%2Fwww.newspapers.com%2Fnewspage%2F72437491%2F
 See Pan, Eric J., The New Internationalization of US Securities Regulation: Improving the Prospects for a Trans-Atlantic Marketplace (February 2008), Cardozo Legal Studies Research Paper No. 217; European Company Law, Vol. 5, No. 08/2, April 2008. Available at SSRN: http://www.sec.gov/servlet/Satellite/goodbye/Speech/1370543436711?externalLink=http%3A%2F%2Fssrn.com%2Fabstract%3D1089491 (citing Investment Company Institute & Securities Industry Association, Equity Ownership in America, 2005); see also U.S. Portfolio Holdings of Foreign Securities as of December 31, 2013, U.S. Department of Treasury, Federal Reserve Bank of New York, Board of Governors of the Federal Reserve System, October 2014, p. 4, Table 1.
 See, e.g., Announcement for global offering of Forgame Holdings Limited, September 19, 2013, available here: http://www.sec.gov/servlet/Satellite/goodbye/Speech/1370543436711?externalLink=http%3A%2F%2Fwww.hkexnews.hk%2Flistedco%2Flistconews%2FSEHK%2F2013%2F0919%2FLTN20130919009.pdf; announcement for global offering of Sunshine Oilsands Ltd., February 20, 2012, available here: http://www.sec.gov/servlet/Satellite/goodbye/Speech/1370543436711?externalLink=http%3A%2F%2Fwww.sunshineoilsands.com%2Fuploads%2Fprospectus%2FFormal%2520Notice%2520%2528English%2529.pdf; announcement for global offering of China Gold International Resources Corp. Ltd., November 17, 2010, available here: http://www.sec.gov/servlet/Satellite/goodbye/Speech/1370543436711?externalLink=http%3A%2F%2Fwww.chinagoldintl.com%2F_resources%2FLTN20101117003.pdf.
 See Staff Working Paper 2014, OICU-IOSCO, Crowd-funding: An Infant Industry Growing Fast (estimating that debt and equity-based crowdfunding total about $6.4 billion, and that debt-based crowdfunding, through per-to-peer lending, doubles annually).
 See, e.g. In the Matter of Eureeca Capital SPC, Release No. 33-9678, November 10, 2014 (charges against Cayman Islands crowdfunding platform selling securities to US investors).
 See CFA Institute Issue Brief: Investment-Geared Crowdfunding, Annex Overview of Investment-Geared Crowdfunding Legislation in Key Jurisdictions, March 2014.
 See, e.g., Financial Conduct Authority, Consultation Paper CP13/13**, The FCA´s Regulatory Approach to Crowdfunding (and Similar Activities) October, 2013, pg. 7.
 See Vladimir Ivanov and Scott Bauguess, Capital Raising in the U.S.: An Analysis of Unregistered Offerings Using the Regulation D Exemption, 2009-2012, July 2013 update of February 2012 Study, pp. 3-4.
 See, e.g. SIFMA Pushes for Broad Use of LEIs to Promote Financial Stability, April 11, 2014, available here: http://www.sec.gov/servlet/Satellite/goodbye/Speech/1370543436711?externalLink=http%3A%2F%2Fwww.sifma.org%2Fnewsroom%2F2014%2Fsifma_pushes_for_broad_use_of_leis_to_promote_financial_stability%2F ; Global Financial Markets Association, Initiative, available here: http://www.sec.gov/servlet/Satellite/goodbye/Speech/1370543436711?externalLink=http%3A%2F%2Fwww.gfma.org%2Finitiatives%2Flegal-entity-identifier-%28lei%29%2Flegal-entity-identifier-%28lei%29%2F,(stating that a "global standardized Legal Entity Identifier (LEI) will help enable organizations to more effectively measure and manage risk, while providing substantial operational efficiencies and customer service improvements to the industry").
 See, e.g. Press release of the Global LEI Regulatory Oversight Committee, available at http://www.sec.gov/servlet/Satellite/goodbye/PublicStmt/1370543245465?externalLink=http%3A%2F%2Fwww.leiroc.org%2Fpublications%2Fgls%2Fgleif_20140629_1.pdf, dated June 30, 2014; press release of the Global Legal Entity Identifier Foundation, available at http://www.sec.gov/servlet/Satellite/goodbye/PublicStmt/1370543245465?externalLink=http%3A%2F%2Fwww.leiroc.org%2Fpublications%2Fgls%2Fgleif_20140629_2.pdf, dated June 30, 2014.