The Securities & Exchange Commission today will issue its definition of “venture capital” funds during an 11am ET meeting, as mandated by Dodd-Frank. Those who fall outside of its scope would be required to register – unless they restructure funds to be excluded (an endeavor that could cost more than registering). There also is the possibility that an excluded fund would be required to register, if its manager also managers funds that are included within the definition.
Expect to hear lots of talk about leverage and control and holding periods. Here is the proposed version.
To me, the big issue remains enforcement. How will the SEC know which firms are legitimately excluded and which are simply choosing to not register. Does SEC have audit power now over purported “venture capital” funds? We'll have analysis soon...
Update: Meeting is about to begin. I'm going to live-blog (keep refreshing):
* SEC chair Mary Shapiro is laying out the situation. No specifics yet, nor has SEC put these rules up on its website.
* Talking about how SEC solicited comments. For my money, the best one on defining VC funds came from Josh Kopelman of First Round Capital.
* Exempt advisers will be asked for certain pieces of information, but not the full amount required of registered advisers. But: "We do not expect to conduct routine examinations of them." Shapiro basically blames lack of resources.
* Wanted an accurate definition of VC funds without "creating loopholes that could be exploited down the road."
* VC definition "provides a 20% basket outside of strict venture capital, which is imposed on the remaining 80% of the fund. This would enable legitimate one-off investment flexibility."
* Firms will have until March 30, 2012 to get into compliance.
* Now Shapiro is just thanking a bunch of people, as if this were an Oscar speech. Not sure if she's going to get more in-depth of VC definition. Nothing yet is posted to SEC website.
* Ok, now someone on SEC staff is speaking (didn't catch his name, but he has glasses and a beard). Sounds like he and his colleagues are going to get more in-depth.
* He thanks law firm that sent comment letter "this morning." Mild chuckles from the mild crowd.
* Exempt reporting advisers will be required to file and periodically update with the SEC via electronic system, and provide a "limited subset of items" required by registered advisers. These categories are: (1) Basic identifying info, (2) information about private funds managed and other biz activities that may pose conflicts of interest and (3) any legal actions taken against the adviser.
* Here we go. Proposed 5-step test for defining venture capital fund:
- 1. VC fund must invest primarily in qualifying investments, which generally are equity securities directly acquired by the fund. There is an exempt basket of 20% of a fund's capital commitments.
- 2. VC fund may not borrow or incur leverage in excess of 15% of a fund's capital.
- 3. VC fund may not offer its investors redemption or other short-term liquidity outside of "extraordinary circumstances."
- 4. VC fund must represent itself as pursuing a venture capital strategy.
- 5. Must not be registered as a business development company.
* There also would be a grandfathering provision, for funds that sold securities before Dec. 31, 2010 and not after July 21, 2011.
* Individual SEC commissioners now saying whether or not they will support. Kathleen Casey just said she wishes VC definition was broader, but she will support. She will not, however, support implementation of reporting requirements on exempt advisers.
* Commissioner Elisse Walter sounds like she will support VC definition. "Generally achieved a balanced definition." Asks staff about change of 20% basket from capital called to capital committed. Seems fairly obvious to me. If the purpose is flexibility, most VC funds would only be able to tap the basket once the fund is relatively mature if the requirement was called capital. Smart change.
* Commissioner Luis Aguilar is now up. He supports. That's a majority, which means "venture capital" funds have an official definition.
* Commissioner Troy Paredes also supports VC definition, but wishes 20% basket was larger. Will oppose reporting requirements for exempt managers.
* They just voted, and it was unanimous support for the new VC definition.
* A few outstanding questions, which perhaps will be answered when we get the written rules (which is supposed to happen when the meeting concludes). The big one is what happens to VC affiliates of a larger organization. For example, Bain Capital Ventures. It represents itself as a VC group, but it's parent company does not. Which one wins out? Also, do qualifying VC investments still need to pass control or holding period tests? It can't just be direct equity investments that a fund claims is "venture capital."
* Mark Heesen, president of the National Venture Capital Association, has issued the following statement: "We are pleased to see that the SEC recognized the need for flexibility in defining venture capital by creating a 20 percent basket for fund activity which falls outside the rule. However, there are details of the ruling that have yet to be shared, including certain allowable activities for qualifying firms which we recommended in our comment letter. We will wait for those details before issuing a full response."