Jumpstart Our Business Startups Act

Floor Speech

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Mr. REED. Mr. President, I commend Senator Merkley and Senator Bennet for their extraordinary work, indeed, in collaboration I believe with our colleague Senator Brown from Massachusetts to make significant improvements in the crowdfunding provisions of the House bill. As Senator Bennet and Senator Merkley have indicated, this represents a potentially very productive way to raise capital, and they have provided protections that will ensure investors in this process are not disadvantaged, and I commend them for that.

It addresses one of the significant issues in the House bill but, frankly, not all the significant issues. There are some extremely glaring, I think, provisions in the House bill that we attempted to address in the Reed-Landrieu-Levin substitute. That substitute amendment, although it received a majority of votes, did not receive enough to achieve cloture to be the bill we are now considering. We are now considering the House bill.

I have an amendment to that House bill that addresses one of several difficulties with the House legislation. Investors, when they buy stock in public companies, expect routine disclosures. They expect to know on a quarterly basis, and in a very real sense on an annual basis, what is the company doing? What are the prospects of the company? All that goes hand in hand with the widely dispersed ownership of a public company. The House legislation would allow many companies with a substantial number of beneficial shareholders, the actual owners, the real owners of the stock, the ones who can vote the stock, the ones who get the dividends, the ones who vote on the proxies or directly for the leadership of the corporation--it would allow them to remain dark. This might be appropriate for some companies that have a relatively small base of real owners, but the way the House has drafted this legislation it could risk allowing a significant number of larger companies to go or remain dark.

The Securities Exchange Act of 1934 set up a system of public reporting. Beginning in 1964, the SEC required that companies with at least 500 holders of record--and at least $10 million in assets, to follow the routine reporting requirements under the securities laws. The decision was made that at that point a company does have a size that is adequate and necessary so that they should be disclosing.

The issue that is motivating the House is this 500-person requirement. It was adopted, as I said, in 1964. There is a sense that the limit is probably too low. The House version is 2,000. We make no attempt to change the House limit of 2,000 now, the new limit. But what we want to be sure of is that the individuals who are being counted are not the record holders, they are the real owners, the beneficial owners. In fact, many companies are very astute and assiduous in assuring that these record holders fall beneath this 500 level.

There are many large companies, well-known companies, as I mentioned in my previously remarks, that have thousands of beneficial owners but still have, on their own records, less than 500 holders of record. The SEC defines record holders as ``each person who is identified as the owner of such securities on records of the security holders maintained by or on behalf of the issuer.''

Holder of record is very direct. It is the shareholders who are recorded as such on the books of the company. This is where the term ``beneficial owner'' comes from. In such instances, the shares are held of record by a third party, usually a broker, on behalf of the shareholder. For example--and this is one of many examples--if you buy shares from Charles Schwab, that discount brokerage firm would likely serve as the record holder and you would be the beneficial owner. It is your money; you paid for it. It is your vote because you are a beneficial owner. It is your right to sell the shares. But as far as the company is concerned, the holder of record is the broker, Charles Schwab.

I think we have all been familiar and all received in the mail a big package of proxy materials from our broker. It is not, in many cases, directly from the company. It is from the Wells Fargo Advisors, it is from Schwab Advisors, et cetera, because they are on the records of the company as the ones who are the record holders. They distribute the material to beneficial owners.

The consequence is that for companies that may have a very few or relatively few record holders, they have thousands and thousands of beneficial owners. Those are the individuals who will lose out if the company decides, under the House bill, to suddenly go or remain dark, to avoid public reporting.

As I have indicated before, most investors today do so through intermediaries--through brokers, through others. As a result, they would not necessarily be counted as a record holder. Record holders--the brokers, the large entities--are increasingly purely passthroughs. They are agents with no economic interest in the company, no voting rights. Those are held by the beneficial owners. That is why I believe that beneficial ownership should be the test for whether companies have to report under the Securities Exchange Act. It should encompass those who have the power to sell and/or the power to vote the shares. They are the actual shareholders. They are the individuals who management is committed by fiduciary duties to work for. So I think it is appropriate that when we raise this level to 2,000 we also ensure that it is not simply record holders, it is the beneficial owners--the real owners, for want of another term.

There also could be, for example, two identical companies with identical numbers of beneficial owners but they might have different numbers of record holders because of the way the shares are held--in trust or by a broker, et cetera. And one company reporting and one not reporting does not seem to be to be a fair or efficient way to do business.

Companies already have to obtain numbers of beneficial owners from brokers and banks in order to know how many copies of annual reports and proxy materials they have to print, so every company knows about how many beneficial numbers they have. They have to provide the proxy material through the brokerage or bank to the beneficial owners, so they know very well--in fact, quite precisely--their beneficial ownership, their real shareholders.

But using record level as the trigger to remain private, to avoid public reporting, to me again is the wrong approach. My amendment would clarify the definition in this new shareholder threshold section of the underlying bill, and ensure that companies are not avoiding these public reporting requirements by using a threshold of 2,000 record holders if they have 2,000 or fewer beneficial owners. If this is a truly small business that has 1,500 individual shareholders, beneficial owners, and they want to remain dark--that seems to be something that we certainly would countenance, and with my language it would be possible to do so.

I think this approach makes it fair for everyone. It also doesn't frustrate the expectations of a person who buys a share of nationally known stock that is publicly reported and gets a 10 Q and every year the 10 K, and suddenly they don't get anything. They wonder what is going on at the company. Maybe the company merges with another company, creates a new company, and now has less than 2000 holders of record. I think that is not an approach we should countenance. I think transparency and accurate information are critical to the success of our capital markets, and I think this legislation will do that. Requiring quarterly reporting of firms with a large number of shareholders--real shareholders, beneficial shareholders--protects investors while at the same time improving overall market transparency and efficiency. From this information, those individual analysts and brokers who follow companies are able to determine their recommendations, are able to advise clients that you should buy this company, it is a good company.

When the company goes dark, that information source dries up and it is harder for individuals, brokers, investment advisors to give advice. I think this would not be helpful to the market. In fact, I think it might, ironically, impede capital formation, not facilitate capital formation.

There is one important point that has to be stressed, and that is my amendment does not affect the employee exemption in the underlying bill. The House bill has a blanket exemption for counting owners of the company for employees. We have reviewed this exemption in our legislation with eminent experts, including Prof. John Coates at Harvard Law School, and he concurs that employees would not be swept up into being counted because they happen to receive compensation through stock in their company.
There are many companies--WaWa, Wegmans--that want to have active employee participation in the company through stock plans but are private companies and want to remain private. This should allow them to do so.

Again, my legislation makes no attempt to change the underlying House bill, which gives a very broad blanket exemption for employees, who are exempted from the shareholder threshold.

There is another aspect here, too, and that is ESOPs, employee stock option plans, because they do acquire stock on behalf of employees. We specifically asked Professor Coates, one of the preeminent experts in securities law, whether this would inadvertently trigger or inadvertently complicate the beneficial ownership rule. His opinion is that ESOPs typically count as one record holder and one beneficial owner because they do not pass through the votes or the right to direct sales. They do not have the characteristics which are typical of the beneficial owner: the right to vote and the right to sell the stock. They maintain those rights. They do not delegate those to the individual employees who might be part of the pool. So Professor Coates' view is that ESOPs also would be exempt from being counted, if you will, as more than one entity.

We have also reached out to the Securities and Exchange Commission and we have received some assurances, from talking to Meredith Cross of the SEC, that, given their rulemaking power, they have within the ambit of their power in implementing this legislation the ability to clarify any of these points. So that not just employees who receive stock through an employee plan, but an ESOP and other entities that hold stock--not on behalf of their investors but have the right as an entity such as a venture capital fund or a private equity fund--have the right at that fund level to vote and to direct the sale of the shares and receive the dividends--that they, too, would be counted as one entity.

Professor Coates, as I said, believes this will not affect the venture capital/private equity firm structures, which would typically count as one shareholder, whether of record or beneficially. The VC firm or PE firm does not pass through votes or the right to direct sales to its own investors, and the same might be said with mutual funds, pension funds, et cetera--the primary passthrough which would be counted as brokers and banks, who hold on behalf of beneficial owners.

What we have, I think, is legislation that recognizes the need to increase the number adopted in 1964, but also to recognize that the real owners of companies far exceed, in many cases, the holders or record, and that these real owners depend upon the routine reporting that is required under the Securities Exchange Act so they can be informed, so they can follow their stock. Indeed, the analysts who look closely at these companies, who make recommendations to buy and sell, also need this type of information.

For this reason I have proposed this amendment. I think it is something that improves the bill. It was included in our substitute which did not receive 60 votes to pass cloture but did receive the majority of votes in this body. I think it is something, again, that will improve this legislation. I would not hesitate to add that many more improvements are necessary, but certainly this would be an improvement.

I would note the absence of a quorum.

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