The Scandalous Truth About The JOBS Act
The JOBS Act was supposed to be about clearing away regulation to help young companies create jobs.
Just eight weeks after its passage, however, more than a dozen of the companies seeking to use its looser rules for going public aren't the type of high-tech growth companies lawmakers had in mind. "Special-purpose acquisition companies" and "blank check" companies, basically empty shells with almost no employees that are used in mergers or as a backdoor route to U.S. stock listings, have been quick to identify themselves in regulatory filings as "emerging growth companies."
The new law uses that phrase to describe which companies-once they have applied to go public-should be exempt from some financial-reporting and corporate-governance requirements.
The Securities and Exchange Commission also has been fielding questions about whether trusts that collect music and movie-royalty payments, or structures used to create tax-free corporate spinoffs, could qualify as emerging-growth companies, according to Meredith Cross, director of the SEC's Division of Corporation Finance.
"These are not companies that are job creators," Ms. Cross said. But she declined to lump blank-check companies into that group.
One way companies can get their stock listed on a U.S. exchange without doing their own initial public offerings is to merge with a publicly traded blank-check company in a deal called a reverse merger. So, a blank-check company "could become a job creator," Ms. Cross said.
The JOBS Act, whose initials stand for Jump-Start Our Business Start-Ups, went into effect immediately after it was passed on April 5, leaving the SEC to decide on the fly what companies it covered. The law's clearest eligibility requirement is that a company have annual revenue of less than $1 billion. It also sets certain caps on a company's outstanding debt and market capitalization.
"If they fall within the definition of an emerging-growth company, the SEC is going to have a hard time saying no," said Lynn Turner, former chief accountant at the agency who now works as a consultant.
Companies that qualify as emerging-growth companies under the act don't have to comply with the Sarbanes-Oxley Act's requirements that auditors review their internal controls. It also allows them to make fewer financial disclosures, use a new, confidential SEC review process for IPOs and lets their bankers communicate more freely with potential investors. The confidential reviews are designed to let companies sort out any differences with the SEC behind closed doors.
Many of the hundreds of companies that have claimed to be emerging-growth companies under the new law are small biotech, technology, retail and energy companies, but 17 explicitly described themselves as blank-check companies or trusts.
About 30 companies have submitted IPO filings to the SEC confidentially under the law, according to the agency's staff. And at least two of those submissions are for blank-check companies, an adviser to those companies said.
Last month, Accelerated Venture Partners, a Foster City, Calif., firm, designated four of its blank-check companies as emerging-growth companies in documents filed with the SEC. The firm's website says it helps companies "considering going public through a reverse merger with a clean SEC reporting public shell."
Timothy Neher, the firm's founder, said it wanted to take advantage of the looser restrictions on bankers marketing deals to investors, but it won't relax its disclosure or compliance with Sarbanes-Oxley because it is "still too early to tell" how investors would react.
Shell companies incorporated in the British Virgin Islands, including Infinity Cross Border Acquisition Corp., which focuses on China-related deals, and CIS Acquisition Ltd., which aims to do a deal in Russia or Eastern Europe, also have declared themselves to be emerging-growth companies.
Infinity did so to take advantage of the new law's "scaled-back disclosures, certain exemptions to executive-compensation disclosures and attestation requirements for the auditors," said Stuart Neuhauser, an attorney at Ellenoff Grossman & Schole LLP who represents the firm. "When we become an operating company the savings could be enormous." He said he expects most SPACs will bill themselves as emerging-growth companies.
"It's really a win-win," said Mitchell Nussbaum, an attorney at Loeb & Loeb LLP who represents CIS Acquisition. "It's good for smaller companies because there are less costs and a little bit more flexibility. To the extent that you allow this flexibility for international filers, you are still creating more opportunity."
The use of shell companies for reverse mergers has been a serious concern at the SEC over the past year, amid accounting and governance scandals at some Chinese companies that have used that route to go public in the U.S.
Former Nasdaq Vice Chairman David Weild, who lobbied for the passage of the JOBS Act and testified before a House subcommittee on IPO reform last year, said, "Congress was interested in making it easier for entrepreneurs that were going to raise capital and build companies and employ people. I don't think anybody was thinking this was going to be applied to reverse mergers and the like."
The SEC says it is trying to be consistent in judging what types of companies should qualify. Last month, its staff said asset-backed securities companies and registered investment companies, which are already exempt from some disclosure and Sarbanes-Oxley requirements, shouldn't be eligible since the SEC had special reporting requirements for them.
But the agency's staff said business-development companies-essentially publicly traded private-equity firms that invest in start-ups and small businesses-could qualify for "emerging growth company" status.
This coverage was produced by CFO Journal, the online edition of The Wall Street Journal for corporate-finance professionals. For more, please visit wsj.com/cfoj
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