The Wreck of Regulation D: The Unintended (and Bad) Outcomes for the SEC's Crown Jewel Exemptions

Abstract

Regulation D is — or at least should be — the crown jewel of the Securities and Exchange Commission's regulatory exemptions from the registration requirements of the Securities Act of 1933. It offers businesses — especially businesses with relatively small capital requirements — fair and efficient access to vital, external capital.

In this article, I present data derived from deep samples of recent Form Ds filed with the Commission. The data show that Regulation D is not working in the way the Commission intended or in a way that benefits society. The data reveal that companies attempting to raise relatively small amounts of capital under Regulation D overwhelmingly forego the low transaction costs of offerings under Rule 504 and Rule 505 in favor of meeting the more onerous (and more expensive) requirements of Rule 506. Additionally, these companies overwhelmingly limit their relatively small offerings to accredited investors, which dramatically reduces the pool of potential investors.

This unintended and bad outcome is the result of the burdens imposed by state blue sky laws and regulations, and this has to a large degree wrecked the sensible and balanced approach of the Commission in Regulation D.

Reclaiming Regulation D requires the elimination of state authority over all Regulation D offerings. State regulators, however, have proven to be aggressive and effective in protecting their turf. Although the Commission has the ability — and I believe the duty — to solve this problem for the benefit of the economy, it has a history of an unwillingness to take on state regulators, even in instances where state regulations essentially destroy the Commission's sensible and balanced regime for capital formation. Congress also could solve the problem by expanding federal preemption to cover all offerings made under Regulation D.

Keywords: SEC, Securities and Exchange Commission, Regulation D, Securities Act of 1933, business, small capital requirement, Rule 504, Rule 505, Rule 506