[House Hearing, 112 Congress]
[From the U.S. Government Publishing Office]





                    THE FUTURE OF CAPITAL FORMATION

=======================================================================

                                HEARING

                               before the

                         COMMITTEE ON OVERSIGHT
                         AND GOVERNMENT REFORM

                        HOUSE OF REPRESENTATIVES

                      ONE HUNDRED TWELFTH CONGRESS

                             FIRST SESSION

                               __________

                              MAY 10, 2011

                               __________

                           Serial No. 112-46

                               __________

Printed for the use of the Committee on Oversight and Government Reform











         Available via the World Wide Web: http://www.fdsys.gov
                      http://www.house.gov/reform



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              COMMITTEE ON OVERSIGHT AND GOVERNMENT REFORM

                 DARRELL E. ISSA, California, Chairman
DAN BURTON, Indiana                  ELIJAH E. CUMMINGS, Maryland, 
JOHN L. MICA, Florida                    Ranking Minority Member
TODD RUSSELL PLATTS, Pennsylvania    EDOLPHUS TOWNS, New York
MICHAEL R. TURNER, Ohio              CAROLYN B. MALONEY, New York
PATRICK T. McHENRY, North Carolina   ELEANOR HOLMES NORTON, District of 
JIM JORDAN, Ohio                         Columbia
JASON CHAFFETZ, Utah                 DENNIS J. KUCINICH, Ohio
CONNIE MACK, Florida                 JOHN F. TIERNEY, Massachusetts
TIM WALBERG, Michigan                WM. LACY CLAY, Missouri
JAMES LANKFORD, Oklahoma             STEPHEN F. LYNCH, Massachusetts
JUSTIN AMASH, Michigan               JIM COOPER, Tennessee
ANN MARIE BUERKLE, New York          GERALD E. CONNOLLY, Virginia
PAUL A. GOSAR, Arizona               MIKE QUIGLEY, Illinois
RAUL R. LABRADOR, Idaho              DANNY K. DAVIS, Illinois
PATRICK MEEHAN, Pennsylvania         BRUCE L. BRALEY, Iowa
SCOTT DesJARLAIS, Tennessee          PETER WELCH, Vermont
JOE WALSH, Illinois                  JOHN A. YARMUTH, Kentucky
TREY GOWDY, South Carolina           CHRISTOPHER S. MURPHY, Connecticut
DENNIS A. ROSS, Florida              JACKIE SPEIER, California
FRANK C. GUINTA, New Hampshire
BLAKE FARENTHOLD, Texas
MIKE KELLY, Pennsylvania

                   Lawrence J. Brady, Staff Director
                John D. Cuaderes, Deputy Staff Director
                     Robert Borden, General Counsel
                       Linda A. Good, Chief Clerk
                 David Rapallo, Minority Staff Director








                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on May 10, 2011.....................................     1
Statement of:
    Silbert, Barry E., CEO, Secondmarket; Eric Koester, co-
      founder, Zaarly, Inc.; Richard W. Rahn, senior fellow, the 
      Cato Institute; Jonathan R. Macey, Sam Harris professor of 
      corporate law, Securities and Corporate Finance, Yale Law 
      School, professor, Yale School of Management; and Roel C. 
      Campos, esq., Locke Lord Bissell & Liddell, former 
      Commissioner of the Securities Exchange Commission.........    43
        Campos, Roel C...........................................   100
        Koester, Eric............................................    61
        Macey, Jonathan R........................................    81
        Rahn, Richard W..........................................    72
        Silbert, Barry E.........................................    43
    Schapiro, Mary, chairman, U.S. Securities and Exchange 
      Commission; and Meredith Cross, Director of the Division of 
      Corporation Finance, U.S. Securities and Exchange Committee     4
        Cross, Meredith..........................................    19
        Schapiro, Mary...........................................     4
Letters, statements, etc., submitted for the record by:
    Campos, Roel C., esq., Locke Lord Bissell & Liddell, former 
      Commissioner of the Securities Exchange Commission, 
      prepared statement of......................................   102
    Koester, Eric, co-founder, Zaarly, Inc., prepared statement 
      of.........................................................    63
    Macey, Jonathan R., Sam Harris professor of corporate law, 
      Securities and Corporate Finance, Yale Law School, 
      professor, Yale School of Management, prepared statement of    83
    Rahn, Richard W., senior fellow, the Cato Institute, prepared 
      statement of...............................................    74
    Schapiro, Mary, chairman, U.S. Securities and Exchange 
      Commission, prepared statement of..........................     7
    Silbert, Barry E., CEO, Secondmarket, prepared statement of..    46

 
                    THE FUTURE OF CAPITAL FORMATION

                              ----------                              


                         TUESDAY, MAY 10, 2011

                          House of Representatives,
              Committee on Oversight and Government Reform,
                                                    Washington, DC.
    The committee met, pursuant to notice, at 12:30 p.m., in 
room 2154, Rayburn House Office Building, Hon. Darrell E. Issa 
(chairman of the committee) presiding.
    Present: Representatives Issa, McHenry, Lankford, Amash, 
Buerkle, Gosar, Meehan, Gowdy, Farenthold, Cummings, Towns, 
Maloney, Norton, Tierney, Cooper, and Connolly.
    Staff present: Robert Borden, general counsel; Will L. 
Boyington and Drew Colliatie, staff assistants; Molly Boyl, 
parliamentarian; Lawrence J. Brady, staff director; Katelyn E. 
Christ, research analyst; Benjamin Stroud Cole, policy advisor 
and investigative analyst; John Cuaderes, deputy staff 
director; Adan P. Fromm, director of Member liaison and floor 
operations; Linda Good, chief clerk; Peter Haller, senior 
counsel; Frederick Hill, director of communications and senior 
policy advisor; Christopher Hixon, deputy chief counsel, 
oversight; Hudson T. Hollister, counsel; Ryan Little, manager 
of floor operations; Justin LoFranco, press assistant; Mark D. 
Marian, senior professional staff member; Laura L. Rush, deputy 
chief clerk; Ashley Etienne, minority director of 
communications; Jennifer Hoffman, minority press secretary; 
Carla Hultberg, minority chief clerk; Lucinda Lessley, minority 
policy director; Brian Quinn, minority counsel; Steven Rangel, 
minority senior counsel; Dave Rapallo, minority staff director; 
and Susanne Grooms Sachsman, minority chief counsel.
    Chairman Issa. I want to make a couple of brief 
announcements. First of all, it will not be a breach of decorum 
with the current temperature if people remove their jackets. I 
apologize, but when they turn from air conditioning to heat, 
they do it with a vengeance in this building.
    I understand the chairman has to leave at 1:30 so we will 
be respectful of time. As Members show up, they may or may not 
get to ask questions.
    Madam Chair, I understand you are the only one that is 
going to be making an opening statement, correct? And that Ms. 
Cross, I understand we get to keep you for all of the followup 
questions.
    Very good.
    I am going to waive the normal mission statement and be 
very brief in my opening statement.
    Today's hearing is in fact about the issue of capital 
formation. As the chart behind me indicates, the historic 
public market, the market we think of as the Nasdaq, the New 
York Stock Exchange, and so on, is no longer producing the 
number of initial public offerings as it once did. Since 1991, 
we have seen that avenue for capital formation reduced. Doesn't 
mean that there aren't plenty of companies who still suit that.
    But today we are asking the question of can America 
continue to build companies of the future if there is not an 
additional access to capital for those companies of the future? 
Particularly, we will be asking the question of whether or not 
a 499 limit of investors on private companies is appropriate or 
whether there can be administrative or legislative fixes to 
that.
    As a member of a board of a small public company, I am well 
aware of the cost and difficulties of being public. We are not 
the Financial Oversight Committee, and we will not assume that 
we can micromanage what happens in Sarbanes-Oxley, Dodd-Frank, 
or any of the other legislation that is well known here on the 
Hill.
    Rather, we are thrilled to be in the presence of a 
distinguished first and second panel that are going to help us 
understand, in the broad sense of the word, where America is 
going and what the great stories of tomorrow are.
    Many people have looked at the Facebook situation and said, 
Ha, that is the impetus for this. Nothing could be further from 
the truth, although it is a high-profile company who only 
recently went past their 500 investors, it is very clear that 
is not the model for which we have a concern.
    We on the committee are concerned for the small- and 
medium-sized companies, for companies in which a family or an 
extended family wish to make sensible plans for the future, 
allowing diversification and at the same time opportunity for 
investors.
    Additionally, we would like to understand better from 
Chairman Schapiro what the real future of a qualified investor 
is versus the investment public as a whole. As all of us know, 
the SEC has a dual mandate. One of them, of course, is notably 
the protection of the public. The other is, in fact, what this 
is about here today, which is capital formation. We hope to 
come into this and go out of it with the idea that America has 
an obligation and Congress has an obligation to participate in 
capital formation that leads to greater employment. And with 9 
percent unemployment still lingering with us for over 2 years 
on and off now, we understand and realize that this is but a 
small element of it, but it is an important element.
    With that, I yield to the ranking member.
    Mr. Cummings. Thank you very much, Mr. Chairman. Today's 
hearing will examine ways to help small and emerging businesses 
gain access to additional capital, help them grow and hopefully 
succeed.
    This issue is critical to the continuing economic recovery 
and the future success of our great Nation. If U.S. firms 
cannot grow, they simply cannot create jobs. Our examination 
must begin with the simple concept that permits our markets to 
function effectively, and that is investor confidence. If 
people or institutions do not have confidence that our market 
is safe and sound, they simply will not invest. And this lack 
of confidence will impede the ability of growing companies to 
access much-needed capital.
    This was a key lesson of the 1929 market crash. As a 
result, Congress created the Securities and Exchange Commission 
to enforce security laws in a way that enabled firms to access 
capital while providing investors with sufficient information 
to have a basic level of confidence in the system.
    We learned this lesson again in 2008 as inadequate 
financial oversight led to recklessness, fraud, and 
unscrupulous behavior resulting in the greatest financial 
crisis since the Great Depression. We must never forget that.
    The SEC has now charged 66 entities and individuals with 
securities violations leading to or arising from the recent 
financial crisis. For example, Goldman Sachs paid a record 
penalty of $550 million after the SEC charged the firm with, 
``defrauding investors, defrauding investors by misstating and 
omitting key facts about a financial product tied to subprime 
mortgages.''
    Charles Schwab paid $118 million to settle charges 
regarding misleading statements the firm made to market a 
mutual fund ``invested in mortgage-backed and other risky 
securities.'' As a result, Congress passed the Dodd-Frank Act 
last year, making critical changes to the U.S. financial 
regulatory system to enhance accountability for banks and Wall 
Street firms that caused the financial crisis.
    Some people now feel we should repeal these protections in 
their entirety, as if the crisis that crippled our great Nation 
and our economy in 2008 never happened. In my opinion, that is 
exactly the wrong approach and, as a matter of fact, it is 
shocking to the conscience.
    We will not restore lost confidence by removing protections 
that safeguard investors. Instead, we must find an effective 
balance--and I thank Commissioner Schapiro for constantly 
talking about balance--one that ensures investors that they 
will be protected in the future while carefully examining ways 
to optimize growth. I fully support helping U.S. firms access 
additional capital, but I also believe that this must be done 
without sacrificing critical protections that assure our fellow 
citizens that our markets are fundamentally sound.
    It is important to remember that the investors we are 
trying to protect are everyday Americans. They are our 
constituents. In fact, according to an April survey by Gallup, 
a majority of Americans, 54 percent, reported owning some form 
of stock.
    I am encouraged by the fact that since she has begun her 
tenure, Chairman Shapiro has taken an active role in guiding 
her staff to conduct comprehensive reviews over a range of 
issues concerning capital market formations, including many of 
the issues that we will discuss here today.
    The 25-page letter she sent to the committee on April 6, 
2011, demonstrates that she is serious about exploring 
innovative and new ideas to assist market participants while 
implementing robust consumer protections that will help 
investors retain confidence in our markets.
    In that letter, she said the following: Cost effective 
access to capital for companies of all sizes plays a critical 
role in our national economy. Regardless of the form or size of 
the offering, companies seeking access to capital in U.S. 
markets should not be overburdened by unnecessary or 
superfluous regulations. At the same time, all offerings must, 
of course, provide the necessary information and protections to 
give investors the confidence they need to invest in our 
markets.
    Striking the right balance between facilitating access to 
capital by companies and protecting investors in our rules and 
orders is a critical goal of the SEC.
    And with that, I look forward to hearing from the chairlady 
and our other panelists.
    And thank you, Mr. Chairman. I yield back.
    Chairman Issa. All Members will have 7 days to submit 
opening statements and extraneous material for the record.
    We now go to our distinguished panel.
    The Honorable Mary Schapiro is chairman of the Securities 
and Exchange Commission and Ms. Meredith Cross is the director 
of the SEC's division of corporate finance.
    Pursuant to the rules of the committee, I would ask that 
you both rise to take the oath.
    Would the record indicate both witnesses answered in the 
affirmative.
    Again, Chairman Shapiro, we appreciate you making time for 
this hearing and you're recognized.

  STATEMENTS OF MARY SCHAPIRO, CHAIRMAN, U.S. SECURITIES AND 
   EXCHANGE COMMISSION; AND MEREDITH CROSS, DIRECTOR OF THE 
 DIVISION OF CORPORATION FINANCE, U.S. SECURITIES AND EXCHANGE 
                           COMMITTEE

                   STATEMENT OF MARY SCHAPIRO

    Ms. Schapiro. Thank you. Chairman Issa, Ranking Member 
Cummings, and members of the committee. Thank you for inviting 
me to testify today on the topic of capital formations. As the 
chairman has said, I am joined by Meredith Cross, director of 
the SEC's Division of Corporation Finance, and I regret that a 
change in the committee schedule for this hearing means that I 
do have to leave at 1:30 for a longstanding prior engagement. 
However, Ms. Cross will stay to address any questions the 
committee might have.
    Facilitating capital formation, protecting investors, and 
maintaining fair, orderly, and efficient markets is the mission 
of the SEC. Cost-effective access to capital for companies of 
all sizes plays a critical role in our national economy, and 
companies seeking access to capital should not be overburdened 
by unnecessary or superfluous regulations.
    At the same time, while we have an important responsibility 
to facilitate growing companies' access to America's investment 
capital, we must balance that responsibility with our 
obligation to protect investors in our markets.
    Too often, investors are the targets of fraudulent schemes 
disguised as investment opportunities. In fiscal year 2010, 
offering frauds--cases where promoters, issuers, or others 
defraud investors in the offer of securities--comprised 22 
percent of the Commission's cases. Investor confidence and the 
fairness and honesty of our markets is critical to the 
formation of capital, and the protections provided by the 
securities laws are critical to large and small company 
investors alike.
    Over the years, the SEC has taken significant steps 
consistent with investor protection to facilitate capital 
raising by companies of all sizes and to reduce burdens on 
companies in making offerings. From the introduction of shelf 
registration in the 1980's to the reduction of the eligibility 
threshold for shelf in the early 1990's to modernizing 
communications and the offering process in 2005, the SEC 
regularly considers and, when appropriate, implements changes 
to our rules to reduce regulatory burdens while maintaining the 
important investor protections provided under the Securities 
Act.
    The SEC also has undertaken errors specifically designed to 
facilitate capital formation for smaller companies by 
simplifying the regulatory environment for them. Most recently 
in 2007, the SEC adopted a variety of rules impacting small 
business capital raising and private offerings, a number of 
which were based on the recommendations of the SEC's then-
serving Advisory Committee on Smaller Public Companies.
    Among the rules adopted by the Commission were those that 
simplified the disclosure and reporting requirements for 
smaller companies and expanded the ability to use less 
burdensome scale disclosure to more companies, allowed a 
company to grant stock options to more than 500 employees 
without triggering the requirements to become a reporting 
company, and liberalized the eligibility requirements for 
certain short-form registration statements and some shelf 
registration to allow eligible smaller public companies to 
benefit from greater flexibility and efficiency in accessing 
the public securities market.
    Recently I instructed our staff to take a fresh look at our 
offering rules and to develop ideas for the Commission to 
consider that would reduce the regulatory burdens on small 
business capital formation in a manner consistent with investor 
protection. Areas of focus for the staff will include the 
restrictions on communications in initial public offerings; 
whether the general solicitation ban should be revisited in 
light of current technologies; capital raising trends and our 
mandates to protect investors and facilitate capital formation; 
the number of shareholders that trigger public reporting, 
including questions surrounding the use of special-purpose 
vehicles that hold securities of a private company for groups 
of investors; and the regulatory questions posed by new capital 
raising strategies.
    In conducting this review, we will solicit input and data 
from multiple sources including small businesses, investor 
groups, and the public at large. The review will include 
evaluating recommendations of our annual SEC Government 
Business Forum on Small Business Capital Formation and as well 
as suggestions we receive and have already received through an 
e-mail box we recently created on our Web site.
    In addition, I expect our efforts to benefit from the input 
of the new Advisory Committee on Small and Emerging Companies 
that the Commission is in the process of forming, which will 
provide a formal mechanism for the Commission to receive advice 
and recommendations about regulatory programs that affect 
privately held businesses and small publicly traded companies. 
Any rule proposals that result from this, review will, of 
course be subject to a public comment period in advance of any 
rule changes being adopted.
    We look forward to working closely with Congress, the 
investing public, and members of the business community as we 
explore the possibilities and challenges in these areas and 
work to fulfill our mandate to protect investors, maintain 
fair, orderly, and efficient markets, and facilitate capital 
formation.
    We would be happy to answer any questions the committee 
might have. Thank you.
    Mr. ISSA. Thank you.
    [The prepared statement of Ms. Schapiro follows:]



    
    Chairman Issa. I'll begin by a round of questioning.
    Madam Chair, the chart behind me, which indicates a peak in 
the note of a pretty large dropoff to where 100, 150 of IPOs is 
considered a good year, does that indicate to you that the 
market for large companies, those who are mostly over 200 
million that are doing IPOs, is in fact a market of the past; 
or is it a recognition that it simply costs more to play in 
that market and those companies are choosing other 
alternatives?
    Ms. Schapiro. Mr. Chairman, I think the numbers reflect the 
number of different factors that actually go into the decision 
the companies have to make about doing an initial public 
offering. Certainly economic conditions are very prominent in 
that decisionmaking process. There are also issues about 
whether founders want to give up their decisionmaking control 
that they exercise as a private company, whether they want to 
have dilution of their ownership interests. There is a 
potential disclosure of vital business information when you go 
public.
    Chairman Issa. I don't want to interrupt you unfairly. But 
all of those existed in this 1980's and 1990's, so the change 
can't be those factors. It could be consideration of those 
factors. But the real change in small companies going public 
since the 1980's seems to be the cost of going public.
    Ms. Schapiro. I think costs of going public are certainly a 
factor. As I started to say, and I would be happy to supplement 
the record further, there are lots of factors I think that go 
into that decision for public companies, and including some of 
our earlier IPOs up there, I suspect foreign companies going 
public in the U.S. markets.
    And one of the things we've seen, particularly in the last 
several years is a real maturation of foreign markets that give 
those foreign-based companies a viable alternative to going 
public in the United States, which I think is a perfectly 
rational decision for them to make these markets that we are in 
now. Liquid have good listing standards, have sophisticated 
shareholder bases that they may not have had 10 and 20 years 
ago, as represented by that chart.
    The other thing I think that is important when companies, 
foreign companies make a decision about whether to access the 
U.S. IPO market is that it's much less expensive in terms of 
underwriter fees in Europe than it is in the United States. 
It's about 4 percent gross spread in Europe, whereas it's 7 
percent in the United States. So I think there are lots of 
factors.
    Chairman Issa. Isn't it also true that you have U.S. 
companies choosing to go public overseas in many cases, thus 
leaving a lot of your oversight behind? It is not just 
companies that are truly based overseas but also companies who 
want to be global, whose CEO is living here, who decides that a 
foreign market in Canada or in Europe makes more sense for them 
to do.
    Ms. Cross. I think I can take this.

                  STATEMENT OF MEREDITH CROSS

    Ms. Cross. I think there are some companies in that 
situation, but I think our data, which we are happy to 
supplement for the record, doesn't suggest there is a 
significant number of U.S. companies going offshore for their 
IPOs.
    I think other factors that are relevant--certainly we 
understand that costs are important, and we are committed to 
looking at those costs. But I think that, for example, the 
alternative of a sale increased significantly in recent years 
and has more certainty. So if people are trying to get out of 
their investment, the private equity market became quite huge 
in the last decade and that also provided an alternative.
    But this isn't to suggest we don't think the costs are 
important. I just think there are--people have told us there 
are a number of reasons why companies choose not to go public 
now.
    Chairman Issa. Let me take a slightly different line, and I 
know we want to talk about small businesses and the 500 cap and 
so on. Let me just ask a question.
    When people want to float, if you will, public debt, senior 
debt, and they go through a process of registering debt, it's 
really a one-time event. You register the debt, it's floated, 
it's bought up. And then after that, the company that borrows 
150 million in senior debt, in fact it views itself as separate 
from the debt that it repays.
    To a great extent, don't we have a disconnect in that a 
company can say, Look, I'd like to take on investors. I am 
willing to tell them this, but I'd like to be able to have the 
ability to run my company with those investors understanding at 
the time they bought in will not be reported.
    So to a certain extent, haven't we lost that middle ground 
in the public market? You're either all public and you have 
several million dollars cost to go public and several million a 
year to be public, or you are private and you find yourself not 
availing yourself to, if you will, a broad range of investors.
    Ms. Schapiro. I guess I would ask Meredith if she wants to 
add to this. But I think that is basically right. If you choose 
to become a public company you need to follow the reporting and 
disclosure requirements of the Federal securities laws. You've 
taken investors' money. That is part of the bargain that you 
have struck with investors is that they'll have the opportunity 
both for board members to participate in a meaningful way, and 
that they will have access to information on an ongoing basis 
that will allow them to make decisions about whether to 
continue to hold that stock or to sell it in the market.
    Chairman Issa. And the reason I asked that question is 
since we are not getting the IPOs here in the United States, 
people are choosing not to go into that market. At least for 
institutional qualified investors, why in the world would we 
have a 499 cap on how many of them can participate in a 
company? If you are a sophisticated investor, why couldn't you 
choose to be involved in what today is available to these 
leverage organizations and angel capital and other investors 
who choose to buy a bigger piece rather than one 500?
    Ms. Schapiro. Mr. Chairman, that is exactly what our review 
is really looking at is whether a threshold of 499 or 500 is 
still appropriate, as well as a review of the threshold at 
which a company can cease being a reporting company because of 
the change in the number of its shareholders. And we will, as 
you know, do a very rigorous study and gather the kind of 
analysis and data that is necessary for us to analyze whether 
those thresholds are still appropriate given how markets are 
operating today.
    Chairman Issa. Thank you.
    I recognize the ranking member.
    Mr. Cummings. Thank you very much.
    Chairman Shapiro, I want to thank you for your 
responsiveness to this committee. It has been extensive. I want 
to thank you and your staff, and it's been forthright, and I 
really do appreciate it, and I think all of us appreciate it.
    There has been a lot of discussion about rolling back the 
protections Congress put in place to safeguard investors in the 
public. We hear that they are too burdensome, too costly and 
that they hurt corporate profits. I'd like to return to the 
fundamental reason we need these safeguards to begin with.
    On January 25th there was an article in the Atlantic and it 
described in detail how executives from Bear Stearns took 
extreme measures to defraud clients, cheating investors out of 
billions of dollars through a corrupt ``double dipping'' 
scheme. Amazingly, the article also reported that many of the 
same executives, those responsible for these abuses, are now in 
top positions at other firms.
    Here is what the article said: ``Former Bear Stearns 
mortgage executives who now run mortgage divisions of Goldman 
Sachs, Bank of America, Allied Financial, have been accused of 
cheating and defrauding investors through the mortgage 
securities they created and sold while at Bear.''
    Chairwoman Shapiro, how can this be? How can the same 
executives responsible, allegedly responsible for these abuses, 
now be making millions of dollars running different companies?
    Ms. Schapiro. Congressman, as you know, we have a very 
aggressive enforcement division at the SEC that has under 
investigation many issues arising out of the financial crisis, 
and indeed we brought about two dozen cases or so coming out of 
the financial crisis. You mentioned the Goldman Sachs case. But 
there are many others that name both firms and individuals, 
officers, chief financial officers, and others, and we'll 
continue to investigate those very aggressively.
    Wherever the facts and the laws will take us, we will go. 
And if there are appropriate actions to be brought against 
particular individuals, we won't hesitate to bring those cases.
    Mr. Cummings. The Atlantic article also said this. It said, 
``Last week, a lawsuit filed in 2008 by mortgage insurer Amback 
Insurance Co. against Bear Stearns and JP Morgan was unsealed. 
The lawsuit supporting e-mails going back as far as 2005 
highlight Bear traders telling their superiors they were 
selling investors like Amback a `sack of shit.' ''
    Chairman Shapiro, are you aware of those e-mails?
    Ms. Schapiro. I am not specifically aware of those e-mails, 
although I would imagine that our enforcement division is. And 
I should add that it is not just the SEC that is stepping up 
here. It's the other financial regulators through the mortgage 
fraud task force and through efforts in conjunction with the 
Department of Justice and others to try to bring as many of 
these cases as we can.
    Mr. Cummings. This is astonishing, and, if accurate, they 
indicate that some of the same executives knew exactly what 
they were doing and simply didn't care. As I understand it, 
Bear Stearns was acquired by JP Morgan 3 years ago. On May 7, 
2011, The Atlantic reported that the SEC has now subpoenaed JP 
Morgan in connection with these allegations.
    Chairman Shapiro, or perhaps you, Ms. Cross, without going 
into any sensitive information, what can you tell us about 
these allegations, about your investigation, or about your 
concerns about these abuses? And can you tell us what 
subpoenas--the subpoenas seek from JP Morgan?
    Ms. Schapiro. Congressman, as a matter of policy and 
fairness, we generally don't comment on specific ongoing 
enforcement matters. I can see if there is more information we 
can provide for the record that wouldn't jeopardize any ongoing 
investigation, and if that is possible, we'll provide that.
    [The information referred to follows:]
    [Note.--The information referred to was not provided to the 
committee.]
    Mr. Cummings. As an officer of the court, I understand.
    I still think that this whole--you know, the reason why I 
raise these issues is because we must never forget what we just 
went through, are still going through. We must never forget our 
constituents who have suffered and continue to suffer, many of 
them having lost everything. And I just thank you again for the 
balance that you seek to--the balance that you bring to the 
table in seeking to address these issues.
    With that, Mr. Chairman, I yield back.
    Chairman Issa. Thank the gentleman.
    I recognize the member of the Financial Services Committee 
and subcommittee chairman here, the gentleman from North 
Carolina, Mr. McHenry.
    Mr. McHenry. I thank you, Mr. Chairman. Ms. Schapiro, thank 
you for your service to our government. We appreciate you being 
back.
    I do have a question. The SEC has a 499 shareholder cap. 
Can you explain what that is?
    Ms. Schapiro. Yes, I'd be happy to. One of the ways in 
which a company becomes a reporting company under the SEC's 
reporting regime--and there are five different ways--but one is 
if the company has total assets of more than $10 million and 
500 record shareholders, you become a reporting company and you 
have to file an Exchange Act registration statement and then 
ongoing disclosure.
    Mr. McHenry. Who are those investors limited to? What types 
of investors? Accredited investors? Institutional investors and 
employees, right?
    Ms. Schapiro. It's all investors. All investors in the 
company.
    Mr. McHenry. No, no. Those that sought to, for instance, to 
invest in Facebook.
    Ms. Schapiro. Right.
    Mr. McHenry. In order to be an accredited investor, you 
have to have a million dollars net worth, right?
    Ms. Schapiro. Yes.
    Mr. McHenry. Or you have to be an institutional investor 
and an institutional investor is, what, $100 million in your 
fund; is that correct? OK. Or employees of the company, right? 
Those are the three classes of people that cap is--they can 
participate under that cap, correct?
    Ms. Schapiro. There may be other investors as well.
    Ms. Cross. The 500 number includes anyone who is an 
investor. There aren't any, under the current rules, that are 
excluded from the count. So employees count, accredited 
investors count, qualified institutional buyers count. That is 
one of the questions we would be looking at, whether we should 
count them.
    Mr. McHenry. Right. So why 500?
    Ms. Schapiro. Five hundred was originally put in the 
statute in the 1960's, I think.
    Mr. McHenry. My understanding was that this is not statute; 
that the SEC wrote this, right? Is that not the case?
    Ms. Schapiro. Correct me if I go wrong. It is in the 
statute, although we do have the authority to write rules that 
would change that. After the statute was passed, the Commission 
did write rules that went to how those 500 counted. So, for 
example, there may actually be thousands of investors under 
that 500 threshold, because we count holders of record. So if a 
broker-dealer is holding thousands and thousands, stock for 
thousands of institutional other customers, that counts as one 
because the broker dealer is the holder of record?
    Mr. McHenry. So, why? Why 500?
    Ms. Schapiro. The view I believe at the time----
    Mr. McHenry. What's the view now, because you have the 
authority to change it?
    Ms. Schapiro. It's an issue, obviously, that we are looking 
at very closely in our study. The view is that when a company 
has sufficient following--perhaps 500 is a bit of an arbitrary 
number--that those investors ought to have access to 
information on an ongoing basis about the company; that it has 
sufficient following that there ought to be public disclosure.
    Mr. McHenry. OK. Really, you are talking about protecting 
people that have a million dollars' net worth, are 
institutional investors, or employees of the company. So the 
threshold's here. So it seems to me that the SEC policy is 
restricting access, because small businesses are the ones that 
we are really talking about here trying to access private 
capital with these investors. So it seems to me that really the 
SEC policy is that you are trying to protect the very people 
that this President says should pay more in taxes, higher 
taxes, or these sophisticated investors at the expense of small 
businesses accessing credit. Do you see it that way or not?
    Ms. Schapiro. Congressman, we see it as an absolutely 
legitimate thing for us to be inquiring about is whether that 
500 number does continue to make sense; whether, as some have 
proposed, qualified institutional investors ought to be 
excluded from it; whether employees ought to be excluded from 
it. Although I will say, they are no less deserving of the 
protections of the securities laws than anybody else.
    Mr. McHenry. My point is if you are a sophisticated 
institutional investor, I don't think the SEC is going to 
protect you from Bernie Madoff, which clearly the SEC didn't 
do. And these folks are very sophisticated and know the 
decisions they're making. And for heaven's sakes, if you look 
at these substantial institutional players, to get better 
research and better information than the SEC or the Federal 
Government does.
    Ms. Schapiro. This is exactly the issue we are looking at. 
And of course they're not all sophisticated institutions. I 
take your point.
    Mr. McHenry. You are talking about someone with a million 
dollar net worth as an accredited investor. Not only do you 
have to have a million dollar net worth, but then you have to 
be accredited, saying that you are sharp enough to do this 
stuff. It seems to me--I am sort of dismayed that the SEC 
didn't protect the grandmothers that had their life's savings 
taken from Bernie Madoff, but are trying to protect these 
people with a million-dollar net worth in the name of really 
starving small businesses from capital.
    Ms. Schapiro. Congressman, I would say we are receiving a 
wide range of proposals in this area. We are absolutely 
committed to looking at whether this threshold makes any sense; 
whether the threshold numbers for firms to stop reporting once 
they've been reporting, even though they may have thousands of 
shareholders, is are appropriate, too. And we intend to do a 
very thorough and rigorous analysis.
    Mr. McHenry. Thank you. When do you think you'll have a 
decision?
    Ms. Schapiro. Well, we've got multiple work streams, as you 
can see from my testimony. This is the one work stream that is 
going to require economic data and analysis because we need to 
understand the characteristics of these companies and how they 
hold--their shareholders hold, whether in record name or in the 
name of the beneficial owner. And the staff has already begun 
to develop the work plan for this particular work stream. And 
I'd love to come back to you with a more concrete timeframe, 
but I can assure you that it is front and center on our agenda.
    Chairman Issa. The gentlelady from New York, Mrs. Maloney.
    Mrs. Maloney. I thank the chairman for yielding. Welcome, 
Chairwoman Shapiro.
    We have heard repeatedly that the IPO market in the United 
States has declined significantly in recent years and I would 
like to examine this claim.
    Experts from the SEC and the Federal Reserve analyzed a 
survey of 18,000 IPOs from 90 different countries between 1995 
and 2007. And they issued a paper entitled Going Public Abroad. 
And the paper makes the conclusion and it says, ``The U.S. 
domestic market has, by a wide margin, the largest proceeds of 
any of the markets worldwide.'' For example, the paper finds 
that the U.K. Saw a decline in the average proceeds generated 
by domestic and global IPOs during this period, but the United 
States did not. And the paper says that we did not in the 
United States see a significant change. And basically the paper 
says that we need to look beyond the number of IPOs and examine 
the question of the amount of revenue generated.
    It looked at IPOs, 57 deals in the United States that 
raised over $27 billion in the fourth quarter of 2010, and 
further says that the United States achieved the highest IPO 
revenue total in the fourth quarter of 2010 since the fourth 
quarter of 1999.
    So my question to you is basically on the fact that the 
article says, when excluding the 17 billion Visa IPO in 2008. 
Which was the largest, as you know, IPO in our country, the 
first quarter 2011 generated the highest first quarter proceeds 
since 2000.
    So Chairman Shapiro, these indicators suggest that the U.S. 
IPOs are in their strongest in years. And I'd like the 
unanimous consent to put these papers in the record. And I'd 
like to ask you, Chairman Shapiro, whether or not you agree. Is 
this correct?
    Chairman Issa. Without objection, so ordered.
    Ms. Schapiro. I think there is no question that the IPO 
market is rebounding and we can see the numbers starting to 
change. And as you point out, the fourth quarter of 2010 we saw 
60 IPOs, and this year, last year overall, we saw something 
like 153 percent increase. We are not back to historic levels, 
and there are lots of reasons for that. But we do have fewer 
small IPOs. We still have many very large IPOs, I think, that 
contribute to the number of many billions of dollars raised in 
the IPO market.
    But I don't think there is any question but that we are 
starting to see this market come back, and you need only pick 
up the newspaper virtually every day now to see at least 
anecdotally evidence of that. But again our numbers would also 
bear out that this market is rebounding.
    Mrs. Maloney. And certainly we lead the world in volume.
    Ms. Schapiro. In dollars raised.
    Mrs. Maloney. I'd like to ask about the IPOs in the global 
marketplace.
    And according to Ernst and Young that 60 percent of the 
global volume of IPOs in 2010 originated in so-called emerging 
markets. And I'd like to particularly look at activity in 
China. And China made the largest IPO ever in the financial 
sector with a 22 billion offering. But it was of a State-owned 
commercial bank, the Agricultural Bank of China, and Ernst and 
Young reported in their report that China's IPO and 
infrastructure and clean tech was boosted dramatically by 
government stimulus funding. You obviously have a huge IPO if 
the government is funding it.
    And it goes on to point out that it far outweighed U.S. 
stimulus and that China spent over $586 billion in 
infrastructure and transportation projects and $735 billion in 
renewable energy. But as we know in our $778 billion stimulus 
package, it only had $48 billion in transportation and $16 
billion in--$21 billion in renewable energy.
    So my question to you, Madam Chairman, is how has the SEC 
analyzed the extent to which the IPO growth in China relates to 
extensive State spending?
    Ms. Schapiro. Congresswoman, we have not specifically 
looked at the issue of the extent to which governmental 
spending is influencing foreign IPO markets. I will say that 
generally we are seeing much more mature markets abroad than we 
have historically, making them more hospitable and more 
credible places for companies to do IPOs that might have years 
ago come to the U.S. market.
    Mrs. Maloney. The Renaissance Capital Research wrote in an 
article entitled ``U.S. IPOs on Top of Game,'' and this article 
finds there's been a lack of U.S.-listed Chinese IPOs because 
U.S. investors have balked at the poor quality of IPOs in 
China.
    Chairman Issa. The gentlelady's time has expired.
    Mrs. Maloney. Can I just throw one little question to her?
    Chairman Issa. If you can be very brief.
    Mrs. Maloney. Does the SEC find that foreign markets may 
not impose the same high standards imposed on U.S. firms 
issuing IPOs domestically?
    Ms. Schapiro. One of the interesting phenomenons--and I 
know Mr. McHenry is very interested in this as well--is this 
phenomenon of companies that are not necessarily incorporated 
in China but have a large part of their operations in China 
actually doing reverse mergers as opposed to IPOs, and coming 
into the U.S. market to list on U.S. exchanges. And there are a 
number of issues there about which we are quite concerned and 
working through with the Chinese regulators.
    Chairman Issa. The gentleman from South Carolina, Mr. 
Gowdy.
    Mr. Gowdy. Thank you, Mr. Chairman.
    Welcome, Madam Chairwoman. Is the general solicitation ban 
constitutional, and can you cite me to specific published 
opinions that support your opinion?
    Ms. Schapiro. Congressman, I think that you raise a very 
good question with respect to the general solicitation ban, and 
the chairman has raised that as well in some of his 
correspondence. And we absolutely recognize that the general 
solicitation ban does limit speech to some extent, so it's one 
of the issues we are looking at in our study. And a First 
Amendment analysis will be part of that.
    I think the issue for us is whether the general 
solicitation ban passes First Amendment amendment muster, but 
in addition, whether it's protection of investors is 
appropriately balanced with the needs for companies to 
effectively communicate in order to raise capital. And so that 
is one of the issues that we will be looking at closely.
    Mr. Gowdy. Well, given the fact that it implicates a 
fundamental right, you have the strictest level of 
constitutional scrutiny and it has to be as narrowly drawn as 
it possibly can be. If you conclude in your own independent 
analysis that it is not constitutional, will you do what there 
is some precedent in the executive branch for doing, which is 
not enforcing laws that you don't think are constitutional? 
Will you abandon the ban if you conclude that it doesn't pass 
constitutional muster?
    Ms. Schapiro. I believe I obviously can't predict where we 
will come out on this issue, but we would--rather than not 
enforce a law that is not on the books, we would seek to change 
it.
    Mr. Gowdy. There is some precedent for not enforcing laws 
that are not on the books. I think you would agree with me.
    Ms. Schapiro. There is precedent. But I have a sworn duty 
to uphold the law and the Constitution, and so I would be a bit 
uncomfortable with just ignoring a provision of the law. But 
that said, this is an area we will be looking at very 
carefully.
    Mr. Gowdy. With respect to 2008, do you know or can you 
tell me the number of defendants who received active prison 
sentences--not fines, not promises not to do it again--but 
active prison sentences?
    Ms. Schapiro. I really can't speak--we don't have criminal 
authority and we don't prosecute cases in the criminal justice 
system. I can tell you that for the Securities and Exchange 
Commission, we brought more than 670 cases with disgorgement of 
ill-gotten gains and penalties that were ordered of over a 
billion dollars, and a billion dollars returned to investors 
who had been harmed by securities fraud.
    Mr. Gowdy. And those are very big, laudable numbers. Of 
those cases, how many did you refer for criminal prosecution to 
a respective U.S. attorney's office?
    Ms. Schapiro. I would guess a healthy number, and I'd be 
happy to provide that exact number to you.
    [The information referred to follows:]
    [Note.--The information referred to was not provided to the 
committee.]
    Mr. Gowdy. I would be interested because I am asked quite 
often in South Carolina why nobody goes to jail if you are 
rich, and all you do is steal money and you don't go to jail. I 
am very interested. And I am also interested in whether or not 
the SEC would have appeared and asked for an enhanced sentence 
or an upward departure given the erosion of public trust that 
was manifested in 2008.
    Ms. Schapiro. Congressman, I think if you look at the 
sanctions that the SEC has leveled over the past several years 
for violations, again civil violations of the Federal 
securities laws, you will see that they have ramped up rather 
significantly. I gave you the number of 2008, but in 2010 our 
disgorgement of ill-gotten gains and penalties reached $2.85 
billion and we returned $2 billion to harmed investors.
    Mr. Gowdy. I am not giving short shrift to your 
disgorgement. That is wonderful. But you can criminally 
prosecute and disgorge someone of their ill-gotten gains at the 
same time. And nothing gets people's attention quite like an 
active sentence.
    Ms. Schapiro. There is no question about that. And we make 
many referrals to the Justice Department. And we bring many 
cases jointly with local U.S. attorneys and district attorneys 
around the country and try to interest them in bringing more 
securities fraud cases whenever we can.
    Mr. Gowdy. Ma'am, would you be gracious enough to get me--
obviously, I don't want pending investigations, but cases that 
are concluded that were referred to various U.S. attorneys 
offices and what the outcome was?
    Ms. Schapiro. I'd be happy to.
    [The information referred to follows:]
    [Note.--The information referred to was not provided to the 
committee.]
    Chairman Issa. Will the gentleman yield?
    Mr. Gowdy. Yes, sir.
    Chairman Issa. Madam Chair, just one quick question. I know 
you can't always answer hypotheticals. But as you're aware, we 
allow, and have for a decade or more allowed prescription drugs 
of all classes, but we will just take, for example, sleeping 
aids that are prescription-only to be advertised with a 
basically a ``must see a doctor'' to get the appropriate 
advice.
    In a sense, as Mr. Gowdy said, if there is an inherent bias 
toward free speech, isn't it most likely that you're going to 
end up looking at that model and saying, Wait a second. If we 
limit the purchase of these companies to qualified investors, 
other, you know, institutions and so on, if we are limiting who 
can buy, if any advertising were to explain that you cannot buy 
it unless you fit in this category, what would be the harm any 
more in a general solicitation than there is in making people 
aware about a prescription drug, knowing that they must go to a 
doctor before they can have it prescribed?
    Ms. Schapiro. I think you raise exactly the right issue. I 
will say there is a concern that the general solicitation ban 
is designed to make it more difficult for those who would 
defraud others by casting a very wide net even in the private 
placement market and have an easier way to defraud people 
because of the general solicitation, the general advertisement, 
the way to bring more people into a fraudulent scheme. That 
said, as you know, we are going to look at this very carefully.
    Chairman Issa. I recognize the gentleman from New York, Mr. 
Towns, for 5 minutes.
    Mr. Towns. Thank you very much. Thank you and the ranking 
member for holding this hearing and let me thank you, Chairman 
Shapiro, for the outstanding job that you're doing.
    In your written statement, you indicated that 22 percent of 
the SEC cases in fiscal year 2010 were offering fraud. Chairman 
Shapiro, can you give us an example of an offering fraud?
    Ms. Schapiro. I would be happy to. And I will say that 
every Thursday, the Commission meets in a closed session to 
consider a dozen or more enforcement cases. And so it's very 
much on my mind as we go through this process to ensure that we 
don't lose sight of--even though I think there's flexibility, 
there are things we need to look at, there are maybe things 
that we can do quite differently--we do not lose sight of the 
fact that there are investors who need the protections provided 
by the Federal securities laws.
    But what we see are offerings by promoters or others of 
stock in a company where the disclosure has been false or 
misleading, the information has been manufactured, where there 
are unregistered offerings and they're sold to people who are 
not accredited investors or who are appropriately qualified to 
buy that particular offering.
    Ms. Cross. Another type we see significant numbers are 
affinity frauds where they target particular categories of 
people like the elderly. So you see a broad range. It is not 
the kinds of companies that we all think of as appropriately 
using our exemptions, but they drive through those exemptions 
and go after people who are not able to fend for themselves.
    One of the things that worries me a great deal as we look 
at the question of loosening the ban, which I think is a very 
important thing to consider, is how we then make sure that the 
people who buy really are the accredited investors who don't 
need the protections, because they do target those people. The 
fraudsters do target those people.
    Mr. Towns. If they go in court, what is the effect of these 
frauds on investments and the market if they go in court?
    Ms. Schapiro. The frauds can be devastating to investors, 
and that is true really of any kind of securities fraud, that 
people have been convinced in many of these schemes to invest 
their life savings and are left with nothing at the end of the 
process.
    Mr. Towns. Chairman Shapiro, what are some of the examples 
of some of the things that the SEC has done to facilitate 
communications connected with public offerings?
    Ms. Schapiro. Congressman, over the years, the SEC has 
engaged in a number of efforts to make it increasingly possible 
for companies to communicate during the quiet period, which is 
when they are generally not communicating. For example, we've 
created a research report safe harbor to encourage the 
publication of research reports during the quiet period. We 
allow free-riding prospectuses which permit offers outside the 
statutory prospective. We allow the media to publish stories 
about companies or their registered offerings, so long as the 
media is unpaid or not affiliated with the issuer. We have done 
a number of offerings related communication safe harbors, 
again, that allow issuers to communicate more details about 
transactions to potential investors during the quiet period.
    So we've taken a number of steps, primarily starting in 
2005, to try to relax some of the restrictions on issuers 
during the quiet period.
    Mr. Towns. Thank you. Do you give--do you view the general 
solicitation ban as an impediment for capital raising for small 
businesses?
    Ms. Schapiro. We have heard from some small businesses that 
the general solicitation ban makes it harder for them to reach 
investors and to raise capital. That is one of the things that 
we will be looking at as we do our study of the general 
solicitation ban. We want to understand the extent to which it 
is an impediment or an unnecessary hurdle to capital formation.
    Mr. Towns. Thank you very much.
    Mr. Cummings. Will the gentleman yield?
    Mr. Towns. I'd be delighted to yield to the ranking member.
    Mr. Cummings. Just following up on what you just said. When 
you go into trying to figure that out, whether it's harming and 
folks--I mean, what kind of factors would you likely be looking 
at? I am not trying to get into your head for you to tell us 
everything you're going to do. What kinds of things will you be 
looking at to come up with a reasonable answer to that?
    Ms. Schapiro. I think with respect to that point in 
particular, we will probably do interviews with businesses that 
are pre-IPO businesses or their advisers. We'll also ask 
investors and the general public. We might put out a concept 
release and seek information and detail that way, and hopefully 
we will use our new Advisory Committee on Small Business 
Activities.
    We have multiple areas we want to explore here. And there 
will be different approaches for each one. For example, with 
respect to the 500 shareholder threshold, there we want data 
and analysis of the characteristics of these companies--which 
will be hard to get, because they're private companies--and 
understand how their stock, how their holders hold their 
securities, whether they hold them in street name or in direct 
name or so forth.
    So for each of the work streams that we are going to be 
exploring, we've started to lay out the data and the 
information we think will be most useful for us in trying to 
strike that appropriate balance.
    Chairman Issa. The gentleman from Arizona, Mr. Gosar.
    Mr. Gosar. Thank you, Mr. Chairman.
    Let me ask you a question. How many regulations are there 
out there, that a small company that wants to go public, that 
they have to apply to? How many apply?
    Ms. Cross. I can try with that. For a company that is going 
to conduct an IPO, there is a registration form, form S-1, that 
is the main place they have to look. And then there is a series 
of regulations that govern what you're allowed to do in the way 
of communications in the offering. So there's probably, I would 
say, in the SEC's books probably 50 rules, something around 
like that. We could certainly supplement for the record.
    It's a pretty tried and true path. So for the companies 
that go through an IPO, the advisers to them--I used to do this 
before I came to work at the SEC. There is a pretty clear path. 
There is a handbook that people hand out to their companies as 
they're thinking about going public. So it's not as daunting as 
you might think.
    Mr. Gosar. So you would say it's adequate if there's not 
too many, not too few?
    Ms. Cross. I think that the balance is manageable. I think 
there are definitely a lot of rules. But the goal here is to 
make sure that as companies are accessing the public markets 
for money, that they--that investors are protected enough so 
that they feel confident going in and investing.
    Mr. Gosar. And are they nimble with the times?
    Ms. Cross. I think that we can certainly think about that. 
We revised the offering rules very significantly in 2005. It 
was called securities offering reform and it was a huge 
overhaul. It's what, for the first time, let companies have 
free writing prospectuses, let them keep talking during quiet 
periods, let them have electronic road shows on line. So it was 
a pretty big change. And I think it has really helped. That 
doesn't mean we can't do more to help. So we always are looking 
at our rules to see whether we're doing what we can to 
facilitate capital formation consistent with investor 
protection.
    Mr. Gosar. So when you are looking at fraud, going back to 
Mr. Gowdy here, being a dentist and bringing a private sector 
aspect and looking at the regulations of the State, when 
there's an IPO that's foreign-based versus a U.S. predominately 
based, do you see a problem or predilection within those groups 
of where you have to have more enforcement?
    Ms. Cross. I'm sorry, sir.
    Mr. Gosar. Taking an IPO that is foreign-based 
predominately versus an IPO that is U.S. based predominately, 
do you see much more enforcement issues from one of those 
segments?
    Ms. Schapiro. I guess I would say that I think it depends 
on what markets you're looking at. There's quite a range of 
requirements around the world with respect to the process of 
accessing the public markets. I mean there's no question but 
that the SEC in the United States has one of the best developed 
enforcement programs and polices the markets--we think there's 
always more to do--but pretty effectively. But I think other 
markets now are stepping up and doing very much the same thing 
because what they understand is that to be a credible location 
for an IPO, and for people to feel comfortable investing in new 
companies, there has to be a credible enforcement regime around 
that so that fraud is stopped and people can have confidence in 
the integrity of the financial statements and the disclosures 
that the companies are making. So I actually think there's kind 
of a rising tide around the world in this regard.
    Mr. Gosar. I'm worried more about right here in the United 
States. Do you see more a problem with IPOs that are 
predominately foreign based or U.S. based?
    Ms. Schapiro. I'm sorry, I misunderstood your question but 
clearly we've had some issues recently and you, I'm sure, read 
about them in the paper with respect to reverse mergers of 
companies whose primary operations are in China, although they 
may not be registered and generally they aren't registered in 
China and they aren't subject to the jurisdiction of the 
Chinese SEC, and our ability to deal with the disclosure 
shortcomings of some of those companies. So we have had a very 
active program at the SEC, including suspending--revoking the 
registrations of eight Chinese companies in the last month or 
so and suspending the trading in just the last couple of weeks 
of three more of those.
    I had the opportunity yesterday to meet with the chairman 
of the China Securities Regulatory Commission and talk about 
how we can establish a framework for our enforcement and 
examination staff to have better access to information about 
these companies who are not incorporated in China but whose 
primary operations are in China and whose auditors are in 
China, so we can understand the quality and the truthfulness of 
their disclosures.
    Mr. Gosar. One more real quick question. Is there one part 
of the marketplace for these particular investments? I'm 
looking at medical devices that are having some problems in 
which there are public offerings. Do you see any recourse or 
any aspect so that you're looking at one segment of the 
population of investors?
    Ms. Schapiro. It's been interesting to me over the years to 
see that we often have fraud in whatever industry is hottest at 
the moment. So a number of our actions with respect to these 
companies with operations in China have been in the energy 
space, but they can be in whatever they think investors will be 
most taken with at that particular moment.
    Mr. Gosar. Thank you.
    Chairman Issa. I thank the gentleman and if the chairwoman 
can allow a couple of minutes for the gentlelady from the 
District of Columbia, who has been waiting here patiently, 
you're recognized for up to 5 minutes based on her time.
    Ms. Norton. Thank you very much, Mr. Chairman. I thank you 
for your indulgence and welcome Chairwoman Schapiro. You have a 
very tough, you always have a tough job particularly after the 
extraordinary crash after 2008. You had to somehow encourage 
continued investment without getting us back into the terrible 
hole we were trying to get out of. Now, you can have an 
ideological notion of cause and effect that says the government 
caused, government regulation, for example, caused this or its 
opposite, that the failure of regulation caused this. But 
whatever is your notion, and I hope we're not into that kind of 
catechism of cause and effect, I'd like to have you discuss the 
effect on investors.
    I have some figures here that showed some remarkable 
actions, which I think was very rational behavior, that 
investors pulled more than $272 billion out of the stock 
market, and it looks as if when they went to invest they 
invested in the bond market which they regarded as more, as 
safer, $272 billion out, $650 billion into bond funds. And then 
if you look at the middle class, 70 percent of the money in the 
401(k)'s were taken out, the proportion failed or lost, 
proportion then fell to 49 percent. And it's back up to 57 
percent.
    So, I would like you to discuss the effect that this 
collapse had on investor confidence and how it affected the 
availability of capital. In other words, if people were not 
putting their money in the stock market, what was the effect on 
the availability of capital?
    Ms. Schapiro. Congresswoman, I think, and I believe this 
very deeply, that the foundation of our markets is absolutely 
built on investor confidence, and we can see how portable 
capital is and how quickly investors will react to what they 
perceive to be failures in the marketplace because of fraud, 
because of inadequate information, and an issue I'm most 
particularly familiar with is what happened after May 6th when 
our equity markets performed in a very aberrational way as a 
result of market structure flaws and high frequency trading, 
and we saw for months and months after that a steady outflow of 
investor funds from equity mutual funds because of concern 
about the integrity of the trading mechanism in the 
marketplace. So I think for us, instilling and restoring 
investor confidence in the integrity of our markets, whether 
it's the disclosure regime or the market structure itself is 
really paramount to the ability of companies to do IPOs and 
raise capital and create jobs and grow our economy which is, at 
the end of the day, what all of us want to see happen.
    And for us that means getting this balance right between 
protecting investors and making access to capital affordable 
and efficient, is really sort of job one right now for us to 
strike that balance appropriately.
    Ms. Norton. So the collapse then decreased the ability of 
firms to access the capital markets and to raise money on the 
stock exchanges?
    Ms. Schapiro. Yes.
    Ms. Norton. There are some who suggest that if you rolled 
back the investor protections that the impact would be some of 
the, some of what we see on this chart would be alleviated. 
What do you think would be the impact on the confidence of 
American investors if you were to roll back or we were to roll 
back the investor protections that have recently been 
instituted or established?
    Ms. Schapiro. Well, while I think it is very worthwhile or 
for us to look at whether our rules can be altered and tweaked 
in a way that facilitates capital formation and doesn't harm 
investor protection, I think a complete rollback of investor 
protections wouldn't serve anybody's interest, not investors 
nor companies.
    Ms. Norton. How much of a rollback?
    Mr. McHenry [presiding]. The gentlelady's time has expired. 
If you could finish answering the question. I also know you 
have a hard stop time of 5 minutes ago.
    Ms. Schapiro. I do. Thank you. It is not a question that 
can be answered in generalities. I think it's really a matter 
of looking at each and every one of our rules to see where 
there might be flexibility that will facilitate capital 
formation without doing harm to the investor protections, 
because at the end of the day those protections serve the 
companies well, as well as investors.
    Mr. McHenry. The gentlelady's time has expired.
    Chairman Schapiro, thank you for appearing before the 
committee and thank you for your time, and we certainly hope 
that you can make it to your next appointment in time. And with 
that, 5 minutes for Mr. Lankford from Oklahoma.
    Mr. Lankford. Thank you, Mr. Chairman. And thank you, 
Chairman Schapiro, for being able to be here. We appreciate 
your time. I completely understand.
    We're going to talk to you a little bit of the XBRL 
language shift that's happened a little bit and I want to get a 
chance to talk a little bit about that 2009 SEC sort of 
collecting the financial statements using that XBRL language 
and the plain text. Can you update us on the efforts and in 
that transition how is that going at this point? Where are we 
in that shift?
    Ms. Cross. I appreciate your question. The XBRL 
requirements are being rolled out over time based on the 
original adoption schedule. So the next phase of companies is 
the smallest companies have to start tagging and XBRL the face 
of their financials and I think they have to block tag 
footnotes, and the rest of the larger companies will be doing 
the detail tagging of their footnotes I believe starting at for 
quarters ending after June 15th. So it is in the works.
    Mr. Lankford. How is that going as far as the rollout? What 
has been the response back from companies on that?
    Ms. Cross. I think, I will admit, it's mixed. Some 
companies are very concerned about the additional time that it 
takes and so we hear that they would like there to be, for 
example, a time delay between when they have to get the XBRL on 
file compared to when the 10Q, for example, the quarterly 
report, is due, which is a question we've been thinking about. 
We've also been hearing that there are concerns in the smaller 
business community about the possible costs of taking on this 
new requirement in June, but at the same time I would say that 
the usefulness of the information is starting to become more 
apparent, so recently our staff was able to do some really good 
analysis based on using the tagged information, and I was 
really pleased with what you could do comparing, for example, 
pension fund rates of return being assumed in the financial 
statement. So that it's a new cost and it's a new burden, but 
it's also useful information.
    Mr. Lankford. How is that going as far as the fraud and 
capturing that, what we were just talking about as well from 
the SEC side? Is it fulfilling what we had hoped it would 
fulfill?
    Ms. Cross. I think it's too early to tell. The amounts are 
just now starting to show up in the financial statements and 
we're just now getting the tools to use it because the key here 
is that you have to be able to use it and we've had to spend 
the money to be able to buy the tools to use the data so we're 
not at that point yet, but it is helping us issue better 
comments on the filings of companies when we see aberrational 
amounts that show up because of the XBRL.
    Mr. Lankford. Are we picking it up faster? I know it has to 
be faster than pen, paper reading through it on plain text and 
going through it with a pencil.
    Ms. Cross. You need both.
    Mr. Lankford. So perpetually we're going to have both the 
plain text version and the XBRL version you think as far as 
submitting it?
    Ms. Cross. I think it's going to depend a lot on how the 
markets and the investing public develops because unless the 
public can use XBRL we need the plain text because the 
information at the end of the day is for them, not for us.
    Mr. Lankford. Let me ask you on a couple of things, where 
are we as far as timeline on the fiduciary rules? That has been 
a topic of obvious conversation in trying to figure out when 
are these fiduciary rules going to come down dealing with the 
brokers and CFEs and all that. How is that all going to balance 
out? Not necessarily what the decision is, that's not what I'm 
asking. When is the timeline for that decision?
    Ms. Cross. I apologize. I'll have to get back to you with 
an answer for the record. That's not in my, Corporation Finance 
Division, so with Chairman Schapiro not here I don't know the 
answer. I believe that it's not right now, but----
    Mr. Lankford. That part I knew.
    Ms. Cross. So you know more than me. I'm sorry. I will have 
to get back to you with the answer for the record.
    [The information referred to follows:]
    [Note.--The information referred to was not provided to the 
committee.]
    Mr. Lankford. We will try to followup on that on the record 
just to get a feeling on that.
    Going back to some of the other information, the prospectus 
and such, as it comes out, give me a feel. There is somewhat a 
sense that we can solve a problem dealing with fraud based on 
adding more text to someone at the beginning. If you go to a 
typical constructionsite right now, there are 28 different 
posters up on the wall in the constructionsite defining out all 
the issues that are there. If you're going to get a home 
mortgage, be prepared for reams and reams of paperwork that are 
going to be involved in that. The prospectus is rather long for 
a lot of things.
    Is that fulfilling what we hope it would fulfill by 
continuing to add additional text to different prospectuses to 
get more information out to it or has it hit a point where no 
one is going to read it because it's so protracted now?
    Ms. Cross. I think that's an excellent question, and in 
fact one of the projects that I have wanted to undertake is a 
review of all the disclosure requirements to see if there are 
some we could actually get rid of.
    Mr. Lankford. That would be very helpful.
    Ms. Cross. Because there is a pile-on effect. So I agree 
that there can be too much. Investors and analysts in 
particular tend to want more information and so to take some 
away can take some doing. But we, I think it's very important 
that we take a look, and I agree with you that we need to be 
careful to not just pile on.
    Mr. Lankford. Thank you. That would be very helpful. Thank 
you. With that, I yield back.
    Mr. McHenry. Mr. Tierney is recognized for 5 minutes.
    Mr. Tierney. I thank the chair. Thank you, Ms. Cross, for 
being here today. I don't have a lot of questioning for you. I 
just wanted to touch on Sarbanes-Oxley a little bit. In that 
Section 404 that requires that an auditor attest to the 
entity's internal financial controls. I know there's been some 
discussion the first $75 million is exempted out, companies 
over 75 million are in, some people want to raise it to $250 
million.
    I would like to have your opinion on the effectiveness of 
the--first of all, the burden on $75 million as opposed to $250 
and whether or not it's outweighed by the benefits on that and 
just what the benefits are.
    Ms. Cross. I appreciate the question. As you know, in Dodd-
Frank, in the Dodd-Frank Act the companies below $75 million 
public float were exempted from the audit requirement under 
404(b). That actually takes out of the mix 60 percent of the 
public companies, which is quite a significant number. The 
staff just posted its study, as required by the act, of the 
companies between $75 and $250 and found several important 
characteristics of those companies, one of which is that the 
companies in that category tend to change a lot. So companies 
in the $75 to $250 may not be the same year after year. So 
changing the application of 404 to that group is very 
complicated and doesn't really help them very much because they 
would be moving in and out.
    We also found that the companies in that category don't 
tend to be particularly different from the companies above 250. 
So it's not a discrete category that has characteristics that 
lend itself to saying, well, this is the group that should be 
out, and the benefit of the audit, certainly it costs money, 
the costs have come way down over the years with the addition 
of the AS 5, the auditing standard that brought down the cost 
of that audit. But I think that the staff's conclusion was that 
the benefits of having that second set of eyes at that, at this 
point outweighed the costs of the audit.
    Mr. Tierney. Ironically, I think one of the findings for 
the chief accountant was that when they attested the accuracy 
of financial statements, they're more accurate. It's pretty 
common sense, but they are finding out that is the case.
    Ms. Cross. That's correct. Where there's going to be a 
second set of eyes, I guess people are a bit more careful.
    Mr. Tierney. What do you think the consequence of 
eliminating the safeguards of Sarbanes-Oxley in that respect 
would be?
    Ms. Cross. I'm sorry, eliminating the----
    Mr. Tierney. The 404(b) provision.
    Ms. Cross. I think that there would be a significant 
concern that the care taken in establishing and testing the 
internal controls would go down over time. Not having that 
second set of eyes I think is important.
    The other thing is that if you don't have the internal 
controls audit, then the auditors have to do testing of the 
internal controls to see how much they can rely on the 
financial statements even without the audit of the internal 
controls. So the costs don't necessarily correlate one for one.
    Mr. Tierney. Well, thank you for being with us this 
morning, Ms. Cross. I yield back.
    Mr. McHenry. And with that, Mr. Meehan is recognized for 5 
minutes.
    Mr. Meehan. Thank you, Mr. Chairman.
    Thank you, Ms. Cross, for being here today.
    I want to step off on an issue that was raised by my 
partner to the left, China and the discussion of fraud that 
enters our marketplace. As we get into increasing globalization 
and more people come to raise capital in the United States but 
have significant assets and operations overseas, what kind of 
protections do we have in place to assure that if there is a 
remedy that needs to be reached that we can get at assets or 
individuals or otherwise that are operating in these foreign 
countries?
    Ms. Cross. That's a very good question, Congressman. We 
don't have the same remedies that we do here. And the way the 
securities laws are structured, we deal with that through 
disclosure. We let companies warn investors that they won't 
have the same remedies if there's a problem with the company.
    We don't--the SEC doesn't have a merit regulation screen. 
We don't have authority to tell companies you can't raise money 
here if you provide sufficient disclosure.
    What we've tried to do, though, to provide as much investor 
protection as we can in light of these concerns is, for 
example, Chairman Schapiro met yesterday with the head of the 
Chinese Securities Regulatory Commission to discuss better ways 
for us to share information to get at our concerns about are 
these companies for real? Who are their promoters? And we have 
a new initiative to get a better sense of how are the audits 
being done. You do have to have an audit. And so are we 
appropriately regulating those auditors? Are they going over 
and looking at these companies or are they doing it remotely 
with people on contract? That would be a concern. These are all 
issues that we recognize are very important that we get on and 
so we're doing the best we can.
    Mr. Meehan. That's right. It's not just, it's not just 
those auditors. It's also the ability for sort of the 
independent analysts that come. There's already a shortage of 
the kind of analysis that we like to be seeing on the market 
now. I think there's been a shrinking of the banking 
institutions and otherwise commitment to do an analysis.
    Are we getting the kind of cooperation to allow analysts to 
travel to the foreign countries and be given complete access to 
the information that companies here would be giving to 
analysts?
    Ms. Cross. That's a fair question. I don't know the answer 
to that. I think we would be happy to check and get back to you 
for the record.
    [The information referred to follows:]
    [Note.--The information referred to was not provided to the 
committee.]
    Mr. Meehan. Let me switch my questioning just on the issue 
of the cap of the 500. One of the concerns that I have is in 
this environment we're seeing a great deal of frustration on 
the part of entrepreneurs who are trying to raise capital in 
difficult times. Obviously one of the things they are looking 
for is access to the markets.
    One of the things that inspires people to continue to work 
in sort of startup companies is the idea that they can take and 
gain some equity stake by being given shares in the company. 
Are we doing anything or can you talk a little bit about what 
kind of incentives we can give to carve out the counting of 
that 500 for individuals who are sweat equity holders in these 
startup companies?
    Ms. Cross. That's an excellent point. And I appreciate that 
is a key way that they can incentivize employees to come work 
for them and work hard.
    We have done a few things. First off, the options that are 
granted to employees don't count against the 500. So we adopted 
a rule in 2007 that said you don't have to count the options. 
We have, the staff in my division has provided relief also to 
companies that they don't have to count restricted stock units 
that are provided to employees.
    So far, you still have to count stock. They're stockholders 
like anyone else. Our review that we're getting ready to 
undertake of Section 12(g)'s 500 limit will consider the 
question of should employees be counted the same way.
    There are concerns. There are certainly frauds that happen 
where employees are the ones who lose both their job and their 
investment. So you do want to watch out. You don't want 
employees to lose everything when there's a fraud at the 
company they work for. So we need to balance those.
    Mr. Meehan. My concern as well as the inability--or the 
ability that has to crowd out the ability for, it sort of 
limits the pool of people as well, the 500 that allows us to 
raise money if in fact you are including those kinds of 
shareholders in your number, then it makes a smaller pool that 
effectively you can raise your dollars from which presumably 
then sort of has--would you agree that has a chilling effect 
then on the ability? Because I would think that it would cause 
the cost of that capital to increase for a small business 
trying to attract investors.
    Ms. Cross. We have heard that the 500 cap is an impediment 
to capital raising. And the question we need to look at is 500 
the right number? And are we counting correctly? Because 
there's a lot of companies that are actually private companies 
that trade in the OTC markets that have thousands of holders. 
But they are held in street name and so they only count by 
broker. And so we need to look at how are we counting and is 
the number the right number and are the right people included 
in the count? So there's a whole lot of good hard questions we 
need to know the answers to.
    Mr. Meehan. Thank you, Ms. Cross. I yield back.
    Mr. McHenry. The gentleman's time has expired.
    Mr. Connolly for 5 minutes.
    Mr. Connolly. Thank you, Mr. Chairman.
    Welcome, Ms. Cross.
    Ms. Cross. Thank you.
    Mr. Connolly. Ms. Cross, between 1990 and 2000, or between 
the 1990's and the 2000's, did SEC issue new regulations 
affecting IPOs?
    Ms. Cross. Not--I don't believe so.
    Mr. Connolly. You did not issue new regulations affecting 
IPOs; that is what you just said?
    Ms. Cross. In that timeframe I'm not aware that we had 
significant new regulations----
    Mr. Connolly. Right. And yet we are supposed to buy into an 
argument that it was this stifling new regulations or 
regulatory environment that, in fact, choked off IPO activity?
    So if one were to conclude that, well, you can't cite new 
regulations in that time period, one wonders what it might be.
    Are you familiar with David Weild?
    Ms. Cross. That's a study?
    Mr. Connolly. Former vice chairman of NASDAQ?
    Ms. Cross. Oh, yes. Yes.
    Mr. Connolly. He wrote a paper called ``Market Structure is 
Causing the IPO Crisis'' in June of last year, co-authored with 
Edward Kim. He writes, the crisis started before Sarbanes-Oxley 
in 2002. The IPO crisis was not induced by Sarbanes-Oxley, 
regulations, fair disclosure or NSD Rule 2711, separation of 
banking and research. Each of these changes occurred well after 
the IPO crisis was underway.
    That's what he writes. Would you agree with that 
assessment.
    Ms. Cross. I think there's a whole host of reasons why IPOs 
are fewer than they were before, and I think that, I appreciate 
that different people attribute it to different reasons. I 
think that certainly the market structure has changed. There 
used to be a lot of smaller investment banks who did the small 
IPOs and those small investment banks are mostly gone.
    There used to be research written about little tiny 
companies, but the structure of the investment banking industry 
no longer supports research about little tiny companies. And so 
the little tiny companies are the ones that are not tapping the 
public market, and I'm sure cost of regulation is one factor in 
that. But I also think that the market structure changes are 
also quite important.
    Mr. Connolly. Well, he seems, the former vice chairman of 
NASDAQ, hardly a gung-ho regulator, he seems to believe that 
this IPO crisis predates whatever new regulation occurred post 
Sarbanes-Oxley, Sarbanes-Oxley and subsequently, and then as a 
matter of fact it can be attributed to a dysfunctional IPO 
market itself, that it's a failure of the market itself in 
terms of what happened with arbitrage and what happened in 
terms of where capital went, sort of switching from 
productivity-oriented investment opportunities to sort of quick 
turnaround investment opportunities and you see that reflected 
in the broad market.
    Would you think that's a fair observation on his part.
    Ms. Cross. Well, I'm not the expert he is, but I would say 
that those are certainly observations that I've heard that many 
agree with.
    Mr. Connolly. Would there be consequences in your view if 
we sort of had a broad brush elimination of regulations 
currently governing the IPO market?
    Ms. Cross. Yes, I think there would be very significant 
negative consequences if that were to occur because then you 
wouldn't have sort of a level set of minimum investor 
protections that could be expected as a company enters the 
public market seeking money. So I think that there would be 
significant adverse consequences both to the public and to the 
companies because those that are good and honest would be 
harmed by the bad actors who would cause investor confidence to 
wane, and investor confidence is key to having a robust capital 
market.
    Mr. Connolly. And have there been some bad actors?
    Ms. Cross. Yes.
    Mr. Connolly. Oh. Against whom the public needs to be 
protected?
    Ms. Cross. That's right. Yes.
    Mr. Connolly. So it's more than caveat emptor. Maybe the 
Federal Government has a role here to try to protect the 
consuming public and the investing public?
    Ms. Cross. Absolutely, yes. We have to calibrate the 
regulatory environment and the ability to raise capital and get 
it right, and that's a very challenging task that we try very 
hard to do.
    Mr. Connolly. Thank you. My time is up.
    Mr. McHenry. Ms. Buerkle for 5 minutes.
    Ms. Buerkle. Thank you, Mr. Chairman. I have no questions. 
Thank you.
    Mr. McHenry. Will the gentlelady yield?
    Ms. Buerkle. Absolutely. Thank you.
    Mr. McHenry. I certainly appreciate her yielding. And Ms. 
Cross, in terms of independent financial statements, having, 
ensuring that there is independent audits of firms, do you 
think that is proper and good procedure?
    Ms. Cross. Definitely yes, that's important.
    Mr. McHenry. I know it's an easy question but, and that 
gives the investors some assurance of the legitimacy of the 
financial statements?
    Ms. Cross. Yes. It does.
    Mr. McHenry. So in terms of that step of the process, then 
the question about accredited investors, why is there this 
class of accredited investors? Why is that important in the 
SEC's view?
    Ms. Cross. Well, the notion of a accredited investors is, 
to be clear, there's no special accreditation. If you have $1 
million net worth, then you fit in the definition. If you make 
$200,000 a year, you fit in the definition.
    Mr. McHenry. Why is that important?
    Ms. Cross. Those are the investors that--this test was put 
in in the early 80's and in the early 80's it was determined 
that those are investors who could fend for themselves and 
didn't need the protections of the securities laws and so they 
could participate in unregistered private offerings.
    Mr. McHenry. So why limit that number if those, if that 
class of people doesn't need the level of protection that you 
are seeking for me as an average investor?
    Ms. Cross. You mean in connection with the 500 holder 
limit?
    Mr. McHenry. Yes.
    Ms. Cross. I think it's a fair question. I think that the, 
I will say that since the number was set in the early 80's one 
might question whether that is still the right number to 
identify the people who can fend for themselves. But assume 
that it is, then when Congress put in its test in the early 
sixties for the 500, did they have in mind that those were 
companies that were trading and did they, for example, you 
don't--you have to register if you are trading on the New York 
Stock Exchange, it doesn't matter if your investors are 
accredited or not. So it's a different test. If securities are 
trading in our markets, do we want a certain level of 
information available? But it's a fair question for a company 
that's not trading in a market today, should we eliminate some 
number of investors from that count, whether they be accredited 
or qualified institutional investors or some other group? And 
it is absolutely something we want to consider.
    Mr. McHenry. OK. And that's part of the process that you 
are reviewing right now?
    Ms. Cross. Absolutely. Absolutely.
    Mr. McHenry. Because I think everybody has this question, 
what is the proper balance?
    Now in terms of general solicitation. I know there's been 
an enormous discussion because of what we saw with FaceBook, 
that in essence out of concern that it was a public 
solicitation because word got out of this private offering of 
FaceBook stock, that meant that they could not offer those 
securities to American investors. So they offered it to foreign 
investors.
    Now I understand there are regs on the books, but there is 
also litigation associated with that, is there not? A 
significant amount of litigation on what qualifies as general 
solicitation?
    Ms. Cross. I think there is some case law about it. Just to 
be clear, as we said in the letter that Chairman Schapiro sent 
to Chairman Issa, the staff did not tell Goldman Sachs and 
FaceBook that they couldn't conduct their offering in the 
United States and in fact there is some SEC guidance that would 
have actually suggested they could.
    They may have decided not to conduct the offering here 
because of concerns about private parties asserting that they 
had a rescission right because of potential public offering. So 
if that is what your question is about.
    Mr. McHenry. Is there a review currently about general 
solicitation and those rules?
    Ms. Cross. Yes, that is definitely. That's one of our 
workstreams is to consider whether the ban on general 
solicitation is still appropriate in this day and age.
    Mr. McHenry. OK. And what do you think your timeframe is 
there?
    Ms. Cross. On that particular workstream, that is less 
complex than the 12(g) 500 holder workstream. So we've started 
already to put together the research that needs to be done. I 
think my likely recommendation would be for the Commission to 
issue some sort of what's called a concept release where we put 
out the general question of it, does the public think this is a 
good idea? What dangers would it cause? So that's, I can't 
commit to a specific timeframe but it's certainly shorter than 
the 12(g).
    Mr. McHenry. Next year? Within the next year?
    Ms. Cross. I think certainly the process will start in this 
year, and then we'll get the feedback.
    Mr. McHenry. Thank you. And thank you for your candor. With 
that, Mr. Cooper is recognized for 5 minutes.
    Mr. Cooper. Thank you, Mr. Chairman. I have no questions, 
but I would be delighted to yield my time to my friend and 
colleague, Mr. Cummings.
    Mr. Cummings. Thank you very much. Let me just go back to 
something I had asked Chairwoman Schapiro about. And I was, I 
had asked her about when you gather all the information, what 
are the kinds of things that you will be looking at to strike 
the balance?
    She told me where the information would be coming from but 
didn't get into what kind of things you're trying to--what goes 
into that process of striking a balance? We've had a wonderful 
discussion here about the problems and what have you. But I'm 
trying to figure out when you sit down at the table, are there 
certain principles that may be guiding, guiding principles so 
that you can have a way of weighing what you're doing so that 
you come out with--and I'm not asking you for your final 
solution, I'm just trying to figure out what are the kinds of 
things that you think, that you think that you all would be 
looking at. I'm mainly concerned about again those guiding kind 
of principles.
    Ms. Cross. That's an excellent question, Congressman. I 
think that the--starting, for example, with the ban on general 
solicitation, if we eliminate the ban so that offerings, 
private offerings could be made to accredited investors through 
publicity, through advertising and the like, I would want to 
know whether we're confident that the group that's getting sold 
to is the group that doesn't need protection and that the 
people that are getting sold to are in fact accredited 
investors. So those are things that I think will be important 
in the mix. If they don't need the protections of the 
securities laws, then it may make sense to make it easier to 
reach them. If they are the group that needs the protections of 
the securities laws because either they're not really 
accredited and they're getting, they have fraudulent brokers 
who are putting them into deals they shouldn't be in. So I'm 
very concerned about that factor, so I would like to, and so in 
that area those are the, those will be going into our, the 
staff's recommendation.
    On the 500 holder limit, I would like to know what the 
investor makeup is in these companies and I would like to know 
what the characteristics are of these companies. Are these 
companies that are real companies? Are they more fraudulent 
companies that are trading in the sort of dark markets and held 
in street name and you don't really have, they have thousands 
of investors but they only count as 200 because they're held 
through brokers, or are these companies that are the engines of 
growth and they have 499 holders and they can't raise another 
dime because they can't get one more holder, and those are 499 
actual investors. I think those are important points. And if 
the answers come out--we may need different answers for 
different kinds of companies, different situated companies, 
companies who go dark because they are held through street name 
might need a different test than companies that are held by 
investors directly and are bumping up against the limit and are 
in desperate need of capital.
    Mr. Cummings. Now with regard to those who need to be 
protected, will you be looking at, you said that you would, 
you're concerned about them, but then going back to some 
questions that Mr. McHenry asked about who it is that is in 
need of protection, do you all see that changing? In other 
words, is that something that you, is that a definition that 
you might want to revisit at some point? I'm just curious.
    Ms. Cross. Well, the accredited investor definition amended 
in Dodd-Frank to change the net worth test to eliminate the 
primary residence. And Dodd-Frank otherwise says that we're not 
to revise that definition, I believe it's 4 years. And GAO is 
doing a study of the definition in the meantime. So I don't see 
that as a definition we're changing on the immediate horizon 
but it is a definition that does need to be a living, breathing 
definition as investors change. For example, should there be a 
special accreditation for people who are chartered financial 
analysts who don't happen to have a lot of money for some 
reason, things like that; it might make sense to add people to 
the list.
    Mr. Cummings. Thank you very much, Mr. Chairman. I yield 
back.
    Chairman Issa [presiding]. I thank the ranking member.
    I have only one question for you as a quick followup.
    The current statute envisions that all investors are in one 
pool. So if a company has no program for their employees to own 
stock, no, any form of stock options, they could have 500 
street name investors which could be thousands of actual 
investors through their--well, if a company has 1,000 employees 
they want to offer they have no choice but to in fact avail 
themselves of an alternative because the same 500 applies 
regardless, isn't that true?
    Ms. Cross. It's correct that the same 500 applies.
    I think that for some companies that are traded in the 
over-the-counter markets, not on exchanges, they are held in 
street name; even though they're not reporting companies, those 
companies could also have their employees hold in street name 
in theory. Those are not the kinds of companies we're really 
talking about at this hearing. I think the companies you're 
talking about are the companies that are pre-IPO companies who 
are growing----
    Chairman Issa. Correct.
    Ms. Cross. --dynamically, and for those companies the 
employees being counted certainly weighs into a meaningful cap.
    Chairman Issa. OK, and that was just the point that I 
wanted to make sure we understood, that when we talk about 
protections, that it's, in fact, not a fixed protection. It can 
be a very large number by comparison if employees are not 
offered and a very small one if there were hundreds of 
employees in that mix.
    Ms. Cross. That's right.
    Chairman Issa. Thank you. And with that I thank you for 
your participation in this panel and your patience through all 
of it.
    And we'll take a 5-minute recess to set up the second 
panel. Thank you.
    Ms. Cross. Thank you.
    [Recess.]
    Chairman Issa. Thank you all for your patience. I noticed, 
I believe, all of you in the audience. So you know our 
questions. Now the question of course will be will your answers 
be similar to the first panel?
    I knew I would get a laugh if I worked hard on it.
    We now recognize our second panel.
    Mr. Barry Silbert is the CEO of SecondMarket, an 
alternative trading system and a young entrepreneur in his own 
right.
    Mr. Eric Koester is the cofounder of Zaarly, Inc.
    Dr. Richard Rahn is Senior Fellow at the Cato Institute.
    And Mr. Jonathan Macey is a law professor at Yale 
University.
    Last but not least, the Honorable Roel Campos is the former 
Commissioner of the Securities Exchange Commission.
    As you saw in the first panel, our rules require all 
witnesses be sworn. So please rise and take the oath.
    [Witnesses sworn.]
    Chairman Issa. Let the record reflect that all witnesses 
answered in the affirmative.
    And as in the first panel, we will take 5 minutes on our 
side, and I'll try not to cut anyone off mid-question or--and I 
won't cut any of you off mid-answer.
    However, there's a lot more of you. So on your opening 
statements please limit yourself to 5 minutes, and with that, 
Mr. Silbert.

    STATEMENTS OF BARRY E. SILBERT, CEO, SECONDMARKET; ERIC 
  KOESTER, CO-FOUNDER, ZAARLY, INC.; RICHARD W. RAHN, SENIOR 
   FELLOW, THE CATO INSTITUTE; JONATHAN R. MACEY, SAM HARRIS 
 PROFESSOR OF CORPORATE LAW, SECURITIES AND CORPORATE FINANCE, 
YALE LAW SCHOOL, PROFESSOR, YALE SCHOOL OF MANAGEMENT; AND ROEL 
     C. CAMPOS, ESQ., LOCKE LORD BISSELL & LIDDELL, FORMER 
       COMMISSIONER OF THE SECURITIES EXCHANGE COMMISSION

                 STATEMENT OF BARRY E. SILBERT

    Mr. Silbert. Good afternoon, Chairman Issa, Ranking Member 
Cummings, and members of the committee. My name is Barry 
Silbert, and I'm the founder and CEO of SecondMarket. I'm 
grateful for the opportunity to testify this afternoon 
regarding the future of capital formation, an important issue 
that directly impacts job growth and U.S. global 
competitiveness.
    I founded SecondMarket in 2004 to create a transparent, 
centralized and independent market for alternative investments, 
including stock in private companies.
    We've grown rapidly and now have 135 employees in New York 
and San Francisco and have completed several billions of 
dollars in transactions. We're a registered broker-dealer with 
FINRA and an SEC-registered alternative trading system.
    SecondMarket's unique business model is premised on 
transparency and independence. We do not engage in proprietary 
trading, meaning we do not use our own balance sheet to 
purchase assets that are put up for sale in SecondMarket.
    Up until a decade ago, fast-growing startups followed a 
very similar capital formation path. They raised venture 
capital, a few rounds of venture capital, and went public in 
about 5 years. For several decades, these small cap companies 
could thrive in the public markets with research coverage, 
brokers and market makers driving investor interest in these 
companies. The public market allowed companies like Starbucks, 
Intel, Genentec, and Dell to grow from small cap companies into 
job-creating economic powerhouses.
    However, the capital formation process has evolved over the 
past decade, and the public markets are no longer receptive to 
small companies. It now takes companies twice as long--nearly 
10 years--to grow to reach the public market.
    A number of factors have contributed to the systemic 
problems that exist in the public market. These include a shift 
from stockbrokers to online trading, the inability for market 
makers to profit for supporting smaller cap stocks, the lack of 
research coverage on smaller companies, and finally, the 
implementation of Sarbanes-Oxley, which made it cost 
prohibitive to be a public small company.
    You can read more about these issues in my written 
testimony.
    One other important systemic change is the emergence of 
computer-driven, high frequency trading. Although it brings 
liquidity to the public markets, these traders ignore small cap 
companies and have contributed to the casino-like trading 
atmosphere in the markets. Disturbingly, it is estimated that 
nearly 60 percent of public trading volume is being done by 
computer algorithms, which has caused the average time that a 
public share of stock is held to decline from 5 years in 1970 
to less than 3 months today.
    The small cap market is a vital part of the capital 
formation process, and the failure of the U.S. capital markets 
to support these companies inhibits our ability to create jobs, 
innovate and grow. Consequently, a new growth market must 
emerge to support these companies, and I believe that 
SecondMarket is that market.
    Chairman Schapiro has said that the SEC is reviewing the 
regulatory landscape to lessen the burden on private companies. 
President Obama has also ordered a review of government 
regulations that place an unnecessary burden on businesses. I 
applaud the commitment of the SEC and the administration.
    I believe there are two regulatory hurdles in particular 
that must be reexamined. First is the so-called 500 shareholder 
rule. As discussed previously, pay structure at startup 
companies generally involve giving employees below market 
salaries coupled with stock options. These options enable 
employees to realize the financial upside while enabling the 
startup to hire top talent even though they don't have the cash 
to pay market salaries.
    As a result, this rule has created a disincentive for 
private companies to hire new employees or acquire other 
businesses for stock as the companies are fearful of taking on 
too many shareholders and thus triggering a public filing 
requirement.
    The second rule that must be reexamined is the prohibition 
against general solicitations. Given that only accredited 
investors are eligible to purchase unregistered securities, 
such as private company stock, we should strive to maximize the 
pool of investors that are aware of any offering. In short, let 
everyone see, but only let accredited investors invest.
    Given the foregoing, I would respectfully propose the 
following rule changes: First, a significant increase or 
elimination of the 500 shareholder threshold. Second, if a 
threshold is increased but not eliminated, an exemption for 
accredited investors from that count. The SEC has already 
determined that these investors do not require registration 
level protection, and therefore this exemption would be 
consistent with the SEC's investor protection mandate.
    Third, if the threshold is increased but not eliminated, an 
exemption for employee owners from the shareholder count. And 
finally, an elimination on the prohibition of general 
solicitation provided that the ultimate purchaser is, in fact, 
an accredited investor.
    I believe the problems facing growth stage companies must 
be addressed and failure to support a new growth market will 
significantly limit access to capital, restrict job growth, 
stifle innovation, and weaken the United States globally.
    Thank you again for the opportunity to participate in this 
important hearing. I would also like to thank the SEC for 
considering these important rule changes.
    [The prepared statement of Mr. Silbert follows:]



    
    Chairman Issa. Thank you. Mr. Koester.

                   STATEMENT OF ERIC KOESTER

    Mr. Koester. Hello. Thank you, Chairman Issa, Ranking 
Member Cummings, and members of the committee. My name is Eric 
Koester, and I'm one of the founders of Zaarly, a location-
based, realtime, community-powered marketplace launching--
crossing your fingers--nationwide this month. I greatly 
appreciate the time to come before you today.
    I am what Mr. Silbert earlier described, a hopeful fast 
growing company. And as a former startup lawyer turned 
entrepreneur myself, I have had the unique opportunity to 
advise, counsel, and educate thousands of entrepreneurs and 
early stage businesses as well as live the life of business 
owner myself. Therefore, I have seen some of the challenges 
affecting today's entrepreneurs and small businesses firsthand.
    My testimony today is aimed to highlight specific concerns 
from the mouths of entrepreneurs that affect the ability of our 
young companies to hire and increase jobs, to innovate, to 
compete globally, and to grow our broader economy.
    Today I would briefly like to tell the story of why it is 
important to act to decrease friction for entrepreneurs and 
small businesses, to increase liquidity in our private markets, 
and to regain the leadership position to support early stage 
businesses.
    Others on this panel may be better suited to provide 
information such as data, research and analysis on broader 
market trends, but my purpose as an entrepreneur here today is 
to share how some of these regulations can impact our ability 
to fund and grow these emerging small businesses.
    Today's economy is very different, and entrepreneurs and 
small businesses have unique opportunities. In speaking with 
entrepreneurs and myself, I believe there's a few key lessons 
that we can learn from the proverbial entrepreneurial field.
    First, building a small business today is actually cheaper 
and easier than it's ever been before in our Nation's history.
    Second, and a big however, building a business is not 
cheap, and it still requires substantial resources and 
investments to make these businesses thrive.
    No. 3, raising funds in itself is difficult, and it has 
become more difficult given the decreased liquidity of our 
banking system, and identifying prospective investors is 
extremely distracting to the task of building and starting a 
new growth business.
    And fourth, the most important lesson learned from 
entrepreneurs today is that removing friction, friction in 
business, friction in commerce, friction in human capital and, 
important to this economy committee today, regulatory friction 
is crucial to be able for these businesses to do more with 
less.
    I would like to tell a brief story about my current 
business, Zaarly, and why I think that removing friction is so 
important to the success of other businesses like ours.
    My business was just an idea 11 weeks ago. In the last 11 
weeks, we've been able to hire a team of nearly a dozen 
individuals, nearly 50 contractors, open two offices, deploy 
robust technology solution, raise funding and hopefully file 
several patents and trademarks to ready a marketing effort to 
take the Nation by storm--we hope--this month. Our goal is to 
be, with some luck and support of customers, the next Amazon, 
eBay or Groupon.
    The important lesson to learn about Zaarly is that we've 
launched this market in a very short and rapid time, leveraging 
the speeds and the trends in industry. But what's also 
important to know is that other businesses may not have the 
advantages that a Zaarly has by having a reformed corporate 
lawyer on their team to navigate some of the difficult legal 
issues.
    So the story of Zaarly and its rapid growth and hopeful 
success from here highlights some several lessons. It 
highlights that the regulatory schemes are very complex for 
early stage businesses and are distracting to their success.
    Sufficient funding resources are crucial to their speed and 
there are dozens of ways for these businesses to trip up on the 
existing regulatory scheme. So alternative funding schemes are 
important to find and to reduce the operational expense of 
taking a business from a startup to a successful business 
venture.
    Therefore, I'd like to propose and encourage the Commission 
and this entire committee to look at four important things: 
Continue to examine private company fundraising and financing 
regulations, including things such as general solicitations and 
the ability of private investors to be deemed accredited when 
they are sophisticated investors.
    Second, to explore more options like private market 
regulations, like my colleague Mr. Silbert's SecondMarket, 
which can increase liquidity for lower tier businesses in the 
chain such as myself.
    Third, to explore the options for community funded or 
funding organizations where small dollar amounts contributed by 
the community can be used to fund businesses like mine.
    And finally, while not within the purview of this 
committee, I think it's important that the immigration reform 
impacting startups, such as the startup visa program, H-1B visa 
extensions be explored.
    I want to express my gratitude for being here today and 
thank you very much for exploring these important issues. Thank 
you for your time.
    [The prepared statement of Mr. Koester follows:]



    
    Chairman Issa. Thank you. Dr. Rahn.

                  STATEMENT OF RICHARD W. RAHN

    Mr. Rahn. Mr. Chairman, ranking member, and other members 
of the committee, thank you very much for inviting me to be 
with you here today.
    I want to take a different tack. I want to challenge the 
conventional wisdom. We have a regulatory structure of the SEC 
which was basically designed in the 1930's, and the question 
is, is that really appropriate for today's Information Age?
    If you had to start over again, let's assume we had no SEC, 
how would you design it? Would you create one? Would it look 
anything like the SEC we have today?
    There has been a lot of evidence that the SEC is somewhat 
dysfunctional. We've been losing global market share, we've had 
the debate about the IPOs and how much that is--the reduction 
of IPOs is due to the SEC and so forth.
    One thing strikes me. A huge portion of the SEC budget goes 
into enforcement. If the other divisions of the SEC were doing 
their job, it would seem that we would have very few 
enforcement needs. And is this really the way we want to go. 
There's a theory in economics, there's a whole public choice 
school of economics that looks at the motivations of people 
within bureaucracies. In the whole area of cost-benefit 
analysis I think is an undermanaged activity within the SEC. We 
have a basic conflict. The SEC is an agency primarily driven by 
lawyers, relatively few economists. And as an economist, I have 
a certain bias here. But when I have been on a board of a 
regulatory agency, and I have seen the problem, that the 
regulators of course keep their jobs by coming up with more 
regulations and rules. I'm not saying they are of evil intent 
but it's just the nature of the way people operate, and the job 
of really the chief economist role is to say no to rules that 
aren't justified. But they have to really be independent from 
the rest of the staff in order to do an objective job.
    We don't see it at the SEC or most other government 
regulatory agencies, and I think we have to rethink the whole 
structural model of how we set these agencies up, in particular 
the SEC, to give more balance to really looking at the costs 
and benefits of every possible regulation, every piece of 
paper, everything that comes out.
    One example is the whole area of accredited investor. This 
started off with the perfectly good intent of trying to keep 
the--allowing people who should be able to take care of 
themselves to be in without having to be regulated. But we look 
at what has happened. Right now, we only have about 2 percent 
of the U.S. population that qualifies as an accredited 
investor. Does this make any sense? You can have a rock 
musician or a sports figure who meets the income and net worth 
standards, but a young tax attorney or professor of finance 
doesn't. Does that make sense?
    I don't think we ought to have a system where we say only 2 
percent of the population is so-called smart enough to be able 
to be accredited investors. We ought to have at least 50 
percent of the population, or I think a lot more. Most people 
can make judgments. People make mistakes. We find even the 
richest and most sophisticated make mistakes. We all make 
mistakes. But that doesn't mean the government ought to 
prohibit us from having the opportunities that only the 
wealthiest among us have.
    Insider trading, everybody has been against insider 
trading. It seems logical to oppose insider trading. But 
there's a lot of new academic evidence, scholars, law and 
economic scholars, who have studied it and say no, this is 
actually causing us more problems. We get into the whole area 
of what I call vague law with insider trading. The SEC brings 
many insider trading actions, but they're unsuccessful in the 
vast majority of these. And part is because we can't even 
define insider trading. And so I argue that we really need to 
go back to square one here, think of how we set up these 
organizations to truly protect investors and not get hung up 
with the things that we've done in the past which may not be 
sensible.
    Thank you very much. I do appreciate the opportunity to be 
here with you today. Thank you.
    [The prepared statement of Mr. Rahn follows:]



    
    Mr. McHenry [presiding]. Thank you, Dr. Rahn.
    And Mr. Macey.

                 STATEMENT OF JONATHAN R. MACEY

    Mr. Macey. Thank you. It's a great pleasure to be here and 
I enjoyed very much listening to the questions and the answers, 
particularly the questions in the first panel which I felt were 
extremely well informed, and I wanted to elaborate on some of 
the points that were made in light of my own views of some of 
the issues that are facing us in terms of capital formation.
    First, we have two competing sets of statistics with regard 
to initial public offerings in the United States, and I want to 
make it clear that both of these sets of statistics are 
interesting and important and accurate.
    One set of statistics, introduced by the chairman, is the 
idea that the number of U.S. public offerings over the last 20 
years has been in decline. That statistic becomes more 
interesting, I think, it's an interesting statistic, it becomes 
even more interesting in light of the article from the Atlantic 
Monthly that the ranking minority member mentioned that says 
that while the number of initial public offerings may be going 
down, the amount of money raised in public offerings, not just 
the number of deals, but the actual amount of money has been 
going up.
    What that means, of course, is that because both of these 
sets of statistics are accurate is that we've had fewer public 
offerings, but each of the public offerings that we've had has 
been raising on average more money than investors have in the 
past. What this means, I think uncontrovertibly, is that the 
capital formation process has come to be dominated by only the 
very largest issuers; that is to say, with respect to the 
statistics in the Atlantic about the amount of money raised in 
public offerings, one offering of $500 million counts exactly 
the same as 100 offerings of $5 million. And I think this 
raises an extremely important point about the disproportionate 
impact of the regulations that we have.
    Regulations have benefits and they have costs. The benefits 
are generally the same for all investors and all firms. The 
costs, however, fall disproportionately on small and medium 
sized firms because they take the form of fixed costs, so the 
relative burden on a very large company of going public hasn't 
gone up very much, but the burden on small and medium sized 
companies has gone up quite a bit. And really if you compare 
the industrial structure of the United States with respect to 
job formation, with respect to diversity, both in terms of 
product lines and in terms of technology and in terms of 
geography across the country, the real strength of the U.S. 
economy has been that we have a very large number of small and 
medium sized firms and relative to European economies and Asian 
economies, our economy is much better, the firms in our economy 
are much better distributed between small, medium and large 
firms rather than having, as we see in other countries, no 
middle sized firms, or very few, and firms disproportionately 
collected at the small and the large end of the continuum. And 
I think that it would be very useful in thinking about the 
reform of these SEC rules, particularly the 500 shareholder ban 
and the general solicitation ban, to think about the 
disproportionate impact of these rules on small and medium 
sized companies and to think about the idea that in terms of 
job creation we really do not only want to encourage the total 
amount of money raised in public offerings, but we also want to 
increase the number of companies, the number of entrepreneurs, 
the number of businesses that have access to the capital 
markets.
    So with that, I will spend my last minute talking about a 
couple of specific things, one the general solicitation ban and 
the 500 shareholder ban.
    I don't think that either of these provisions help small or 
medium sized businesses. I don't think either of these 
provisions protects investors. I also want to point out as a 
factual matter that the SEC's justification for the general 
solicitation ban has changed quite a bit over time. Now it is 
some idea that we need to protect investors. It used to be, the 
original justification for the general solicitation ban was 
that we needed to stop investors from becoming too enthusiastic 
about securities offerings, that if we allowed a general 
offering to take place then there would be a kind of a consumer 
frenzy that would occur.
    So thank you very much for this time. I appreciate it.
    [The prepared statement of Mr. Macey follows:]



    
    Mr. McHenry. Thank you for your testimony.
    Commissioner Campos.

               STATEMENT OF ROEL C. CAMPOS, ESQ.

    Mr. Campos. Thank you very much. Good afternoon. I wish to 
thank Chairman Issa, Ranking Member Cummings, and the other 
distinguished committee members for the invitation to testify 
today. My name is Roel Campos. I'm currently a partner with the 
national law firm of Locke Lord Bissell & Liddell, where I 
practice securities law. I represent businesses and 
individuals.
    I come before you today not as an expert or an advocate on 
a particular regulatory change, in particular ones that the 
committee is considering. But instead I testify today from the 
perspective of a former SEC Commissioner. Like you and the SEC 
currently, during my tenure as an SEC Commissioner, I often 
faced the difficult challenge of how best to reform and improve 
securities laws and regulations.
    I learned firsthand how difficult it can be to balance the 
goals mandated by Congress, protecting investors, but also 
facilitating capital formation and preserving the integrity of 
the markets.
    With your permission, my testimony today has two modest 
goals: Presenting a very short discussion of factors in 
consideration that must be balanced to produce sound 
regulations and offering observations and suggestions to assist 
the SEC to achieve appropriate reform of current securities 
regulation.
    First, let me briefly begin by discussing investor 
protection. In my experience, this concept, when raised, 
regularly produces cynicism and the disbelief that this is a 
serious goal in today's complex environment.
    Many seem to believe that the concept of investor 
protection is archaic and long ago ceased to be useful, that it 
is a musty relic of a bygone era, the market crash of 1929.
    I respectfully disagree. I submit that investor protection 
remains today as important as it was 80 years ago when Congress 
made it the fundamental underpinning of the securities laws.
    As a commissioner, I was often asked with respect to 
investor protection, Well, what investors exactly and do 
investors really need much protection? Certainly the term 
``investor'' is very broad. Congress and the SEC have never 
made a distinction among the categories of investors which 
include institutional investors, i.e., pension plans, which can 
represent public and private employees, and often include in 
professional investors, private asset managers, and hedge 
funds.
    And finally there is the distinction of retail investors, 
the everyday person who holds a brokerage account or who tries 
to manage his or her retirement plan. During my tenure at the 
SEC, I was privileged to represent the Agency in the 
international arena where I learned firsthand that our markets 
are unique. Securities markets in Europe and Asia are comprised 
almost exclusively of institutional and professional investors. 
In the United States, however, retail investors provide a 
significant portion of the capital that is invested. Retail 
investors, therefore, add a depth of liquidity and offer a 
diversification to the investor base, to the U.S. markets that 
cannot be found elsewhere in the world. Indeed, the liquidity 
and the diversity of the U.S. markets help convince many 
foreign investors to invest in the United States.
    As a commissioner, I worried most about retail investors, 
as the others often have strong associations and lobbyists to 
present their views and their needs to the Commission and to 
the SEC staff. So the retail investors, however, are the ones 
who most quickly can leave the markets when the problems rise. 
And as was discussed in the first panel, when there is a crash, 
when there is a problem, those particular investors flee the 
fastest.
    Let me move to some ideas that I have regarding the 
situation that we have today.
    The SEC has stated in the panel very clearly that they're 
willing to look at these particular issues, that they're 
willing to consider reform. In fact, they're--Chairman Schapiro 
and Meredith Cross were very clear about that. However, there 
has always been, and I submit continues today, a deep annoyance 
that the SEC takes too long to consider new ideas and 
recommendations for improvements. This problem arises from, I 
submit, resources, insufficient staff that have other skills 
that go beyond being lawyers. So I would submit that's an area 
of consideration for this particular committee.
    And with that, I see my time is up and I thank you for 
permitting me to make these statements.
    [The prepared statement of Mr. Campos follows:]



    
    Mr. McHenry. I certainly appreciate the panel's testimony. 
It's very informative and helpful for policymakers here in 
Congress to hear from you.
    We'll lead off with 5 minutes from Mr. Meehan of 
Pennsylvania.
    Mr. Meehan. Thank you, Mr. Chairman, and thank you for this 
distinguished panel, again, in addition to those who came 
before us. I am struck by the remarkable amount of willingness 
on this panel to be taking creative looks at where we ought to 
be going with the SEC.
    Mr. Silbert, I had the opportunity to spend a little time 
paying some attention to your business model. Very impressive 
in terms of what struck me is the idea that you really have 
created a market for sophisticated investors, people who take 
the time to understand that there's a lot of different kinds of 
securities out there that can become able to be liquid, which 
both creates liquidity; it also allows people to participate 
that may not reach this threshold for sophisticated investors.
    Can we expand the definition of ``sophisticated investor'' 
some way to include the kinds of people that put the sweat 
equity in understanding things but may not have the dollars 
behind their name to take the risk?
    Mr. Silbert. Congressman, it's an interesting idea that I 
think has been floated over the past 6 months, 12 months, as 
this private company market has grown in value or volume.
    The way we operate right now, as you're alluding to, we 
only allow accredited investors to participate. And while we 
would certainly kind of welcome the expansion of the 
addressable universal investors, we have to comply with the 
current regulations. The idea of a test I think is a viable 
one, but I think it then comes down to who administers the test 
and things like that.
    Mr. Meehan. Dr. Rahn, you had talked about this 2 percent 
factor. What criteria that would be able to be utilized in this 
to create a class that would be able to invest without having 
the----
    Mr. Rahn. Well, the main thing we want to know is, have 
people actually paid attention? All of us make all kinds of 
investments. We buy houses and automobiles. One can go to Las 
Vegas and gamble away your fortune. You don't have any net 
worth requirements on that. We have people who are totally 
unsophisticated. If we came up with a notion of accredited 
gambler, people would look at that as laughable. We have the 
State lotteries, which I look as a total financial rip-off.
    But I think the main thing, rather than trying to say you 
have to have a certain net worth or a certain education. If the 
SEC gave a piece of paper to everybody who was going to invest, 
or if we had one and it first pointed out the low probability 
of new ventures, you know, give whatever statistics we had on 
that, warned people against it, like we do lots of other types 
of warnings for everything from cigarette labels and everything 
else, and say you have to do your own due diligence. Just the 
mere existence of the SEC adds risk.
    Look at all of the investors in the Madoff Pyramid scheme 
who claimed one reason they felt confident is because the SEC 
exists, rather than doing their own due diligence. And 
obviously we really have to have a way to protect people who 
really can't do any kind of evaluation on their own.
    But the vast majority of Americans I think have the brains 
and the skills to be able to do this and to rule out all but 2 
percent of our citizens, because what that does is discriminate 
against young people and others who want to get rich. We're 
saying now, only the people who are already rich can have the 
access to the best opportunities. That seems to me totally un-
American.
    Mr. Meehan. Professor Macey, you were precluded from 
getting in the full scope of your testimony by the 5 minutes, 
but I enjoyed reading your testimony. And I was a little bit--
at some points, I was struck by your notion that tied into one 
of the questions I asked about China. The markets have changed 
dramatically in the years since World War II. And you made a 
comment. You said the SEC needs to make a clean break with the 
past relating to the fact that the capital markets aren't the 
only ones in the United States now. We're turning into a global 
marketplace. There's more than one cop on the beat. Where do we 
go?
    Mr. Macey. As I think I try to say in my testimony, I think 
the people of the SEC are extremely bright and talented and 
well meaning, honest, full of integrity. But there are--I think 
that we, and when I say ``we'' I mean those of us in academia, 
the people, frankly, who oversee, the people in Congress who 
oversee what the people at the SEC do kind of inadvertently 
give these folks very perverse incentives.
    So for example, we heard in the first panel this morning 
something that we always hear from the SEC when they're being 
questioned. They say, We're doing a really good job. Look at 
the dollar amount in fines we fined Goldman Sachs, this huge 
amount of money. We've increased every year the amount of 
fines, that we returned $2 billion to the U.S. Treasury.
    So we've set this up as the criteria by which we judge the 
SEC. That means that what they're going to do is go after the 
biggest fine they can. That does not help the small or medium-
sized investor. The smaller, medium-sized investor by 
definition loses small and medium amounts of money.
    So we're giving the SEC preferences.
    Another example is not just the SEC but our society 
generally is much more kind of, if you will pardon the 
expression, ``lawyered up'' than other societies. And a lot of 
what the SEC does--because it is much more dominated by lawyers 
than any other regulatory agency, either in the United States 
or in terms of its counterparts in other countries. If you're 
working at the SEC, you really cannot make a career for 
yourself by making the securities regulations simpler. No one 
wants to hire you to work at a big Wall Street firm to charge 
you a lot of money to interpret simple regulations.
    The more complex you make it and the fewer people who 
understand it, the higher value there is on your time in your 
post-SEC world.
    So I think we have these challenges that we need to--it is 
not just a matter of--I don't think it's at all a matter of the 
people at the SEC having a bad--you know, just being in favor 
of more regulation for kind of senseless reasons. I think 
there's these very deeply kind of impacted structural issues 
that no one had to pay any attention to in the postwar period, 
because there weren't any other capital markets in the world.
    During the Marshall Plan, as you well know, Europe was 
being rebuilt; Asia, China had not emerged as a serious 
economy; Japan was being completely rebuilt from the ground up. 
So nobody who wanted to raise capital in any serious way could 
avoid the United States. I think it's very important to 
understand that times have changed.
    Mr. McHenry. The gentleman's time has expired.
    Mr. Cummings is recognized for 5 minutes.
    Mr. Cummings. Mr. Campos, you heard Dr. Rahn talk about 
only 2 percent, and he felt like it should be more like 50 
percent of the people investing; is that right, Dr. Rahn?
    Mr. Rahn. Yes, sir.
    Mr. Cummings. What's your feeling on that? I mean, you seem 
to be very concerned about the retail investor. I think what 
Dr. Rahn is saying is there are a lot of people who are much 
more sophisticated than maybe we think. But what's your feeling 
on that? In other words, how much protection do you think is 
needed? And he claims that we're basically locking people out. 
You talked about the college kids and young people and 
whatever.
    I am just wondering, I know you're talking about striking a 
balance, but do you think we're going too far?
    Mr. Campos. I think that is the fundamental question in 
regulation. And that's where and why you have such heated 
discussions at times, because you're dealing with a broad 
concept, investor protection, within the aftermath of the 1929 
crash when all of these laws were written. And we have a very 
different world and a very different economy today.
    So when we talk about investor protection, I think you can 
achieve investor protection by finding a way to allow all 
categories of people--not necessarily through a financial 
test--to be able to participate in particular investments.
    The real protection that's necessary is the idea that 
investors of whatever category can get taken advantage of and 
can be lied to and can be cheated and be misrepresented, or 
critical facts can be hidden. So you can achieve this, I 
believe.
    It may be ironic to some people but I favored, when I was 
at the SEC, products that allowed under the Investment Company 
Act, mutual funds--that allowed small investors to have a taste 
of some of the more complex items if they were placed correctly 
in funds and regulated. I felt why should only rich people have 
essentially the opportunity to have the more sophisticated 
ideas and complexes?
    So in summary, in a stimulus summarize, investor protection 
goes toward the idea that you need a system that people are not 
expecting to be guaranteed making money or profits. That's not 
what we have here. You can pick a stock and it may not go up, 
it may go down, but the key is in so doing you're not going to 
be cheated. This particular company didn't have the cash that 
it said it had on hand or something else to lure that 
particular investor.
    So that's what's important. And I think I would have other 
things to say about the SEC if ever anybody is interested in 
that.
    Mr. Cummings. One of the things you say in your testimony, 
you state that after every scandal or malfunction of capital 
markets, investor confidence is down and retail investors leave 
the market. What can the SEC do to help boost investor 
confidence in the U.S. capital market?
    Mr. Campos. Great question, and people will disagree on 
that one as well. But essentially what we need today, in my 
humble view, is we need a market that operates in a way that 
doesn't mystify, worry, perplex investors. I submit and I think 
all of us would say it's true if the market plunges 80 percent, 
you know, stocks go from $40 to $2 in the space of 5 or 10 
minutes, something is wrong. And that is a scary event, if you 
permit me that term.
    So from the get-go, I think that the markets need, you 
know, careful study in that particular area.
    What does fast trading--what does fast trading, in 
nanoseconds, what has that done to the average person whose 
broker is somebody he knew of in high school and has his few 
hundred thousand dollars, if it's that much in today's world, 
for his savings? Can he or she just invest in IBM now, or 
whatever the popular stock, Apple or whatever? Something is 
going on in these markets. That needs study. That needs help, 
in my view.
    Mr. Cummings. Somebody asked a question. They said that the 
system is so much--things are so much different than back long 
ago. Do you think the SEC has kept up with that, the changes 
you talk about, the nanoseconds?
    Mr. Campos. I agree with what many others are saying. I 
think the SEC was established in terms of concept in the 
1930's. It's an Agency of lawyers. We need today statisticians, 
researchers, economists. The sort of things that the chairman 
and you would like to do in terms of getting the SEC to look at 
things quickly and efficiently requires those types of skill 
sets. It requires resources that the Agency doesn't have.
    What they have to do is go out, survey the system, survey 
the literature, ask for comments, and then it's essentially a 
who pushes the hardest in terms of the players, a very 
difficult situation. Imagine a judge in a courthouse having to 
take opinions from 40 different sections and reading all the 
research themselves. It is a very difficult situation in terms 
of figuring out what's best for the markets, in particular when 
you don't have the base of expertise.
    So I do believe that one great improvement would be that 
the Agency get resources to have those types of people 
involved.
    Mr. Cummings. Thank you very much.
    Chairman Issa. I thank the gentleman.
    The gentleman from North Carolina.
    Mr. McHenry. Thank you, Mr. Chairman.
    Mr. Koester, how important is access to capital to you in 
this startup.
    Mr. Koester. Thank you very much. It's actually an 
excellent question, and I'll address it personally from my 
current business as well as from advising startups over time.
    I think it's the difference between a nice side of business 
that supports your family and a business that really 
contributes in a dramatic way to the U.S. economy. The business 
that we've started, Zaarly, is a business that we hope will 
have a dramatic impact on markets, person-to-person commerce, 
and hopefully have an impact on employment. But that's only 
accessible to us because of the fact that we had forward-
thinking investors to put capital in early and efficiently. 
That allowed us to run very quickly to the point where we took 
a business from an idea to 12 weeks later to launching a very 
large-scale business.
    Mr. McHenry. Now, in terms of getting employees to come in 
for a startup, is it important for them to have some method of 
sort of long-term payoff?
    Mr. Koester. Absolutely. Absolutely. I think equity is an 
important thing for people willing to take that kind of risk. 
But I think that's the thing that is attractive about startup 
companies and early stage business is that risk/reward 
opportunity.
    Mr. McHenry. Mr. Silbert, what function do you provide? 
Let's say Mr. Koester is able to hire a hundred whizzes at a 
very low cost, but with equity in the company, in the hopes 
that this one day goes public.
    Mr. Silbert. The issue today is, as I mentioned before, is 
it's taking twice as long to go public. So if you're looking at 
a process that's going to take 8, 9, 10 years, that doesn't 
work for anybody involved in the capital formation process. It 
doesn't work for employees. It doesn't work for individual 
investors. It doesn't work for investor capitalists.
    So we identified a need to create essentially a spring 
training to enable companies to get to the point where they 
could go public but also not have to subject themselves to a 
lot of the negatives of being a public company, whether it's 
the Sarbanes-Oxley, or disclosure, that type of thing.
    So what we have seen over the past couple of years, there 
are a growing number of companies that have come to appreciate 
that if you can allow your employees at a certain point in 
time, the right time, maybe it's 4 years, 5 years into it, 
allow them to taste some of value that they have created, that 
money is typically reinvested into other companies as well, and 
they're going to stay in it for the long haul and maybe wait 
for that 10-year IPO event.
    Mr. McHenry. Mr. Koester, would that be appealing?
    Mr. Koester. Absolutely. I think that it's appealing for 
employees to have that liquidity early.
    I also think there's also a side benefit that's not often 
discussed, besides employees. It's that investors in my 
business are venture capitalists who have an obligation to get 
a return. And obviously if they can't get that return over 
time, they're slow to reinvest that money again into 
businesses.
    So the fact that they can gain liquidity earlier in the 
process, from 10 years down to 5 years potentially, allows them 
to have two cracks at the apple and potentially invest multiple 
times, reap the rewards, and double-down essentially on early 
stage investments.
    Mr. McHenry. Mr. Silbert, this 500 shareholder rule, as the 
chair of the SEC called it, arbitrary number, can you discuss 
that?
    Mr. Silbert. Well, it was established I guess in the 
sixties, and it worked for decades. But if you look at that 
chart, you know we're now at a point where it is not working 
any more. And what the numbers should become, should there be a 
number, I don't know. But what we do know is it's a major 
issue.
    As I mentioned in my remarks, we certainly support 
eliminating the employees from the account, we certainly 
support eliminating credit investors from the accounts, but we 
would also like to see that analysis that's going to be 
prepared.
    Mr. McHenry. This limits access to capital for these small 
businesses and it limits--Mr. Koester, it eliminates your 
ability to access capital and grow your company and grow your 
head count too, right?
    Mr. Koester. Yes. I think it has a slow down. I think on 
the charts not shown up there is the decrease in venture 
capital investment, and I think that's also attributable to the 
lack of liquidity in the IPO markets. That I think has a 
downstream effect that limits the early stage investment rather 
than just the late-stage IPO investment. It is a double-edged 
sword, decreasing employment levels as well.
    Mr. McHenry. It's important--this chart is interesting to 
look at in the terms of the number of IPOs.
    I think many Americans misunderstand what the IPO is about. 
It's in order to get capital injected into your company, right, 
and to free up maybe some of the capital you've got invested 
in. But long term, it's really about accessing capital for that 
company so they can grow jobs and actually grow larger. That's 
the reason why you have shareholders who want to participate.
    Mr. Macey, we discussed the 500 shareholder caps, your 
views on it, and sort of where you'd like to see this thing go.
    Mr. Macey. Well, certainly I just want to make two points 
about it.
    First, I am against the 500 share cap. I think that 
particularly with respect to employees, it provides a real curb 
on the ability of companies to provide incentives different 
than cash compensation.
    The point I want to make, though, that hasn't been made yet 
is simply to observe that there is a very close correlation 
between the 500 shareholder rule and a whole bunch of other 
rules. So, for example, we heard this morning something the SEC 
is very proud of--and I am not opposed to it--is there's a 
reform of a couple of years ago to say that employee stock 
options are exempt from this 500 count, so you can give all the 
options you want without coming under the 500 count norm.
    But what I don't think the SEC fully grasps as it relates 
to the 500 shareholder rule is, it doesn't do me very much good 
to have an option to buy a share stock if that share stock is 
not publicly traded, or if there are big impediments to that 
company making an IPO.
    Similarly, with respect to the 500 shareholder rule, let's 
say we exempt employees, we raise the number to some sensible 
level, we need to go beyond that to really help the U.S. 
economy create jobs, because we need to--we need to make that 
stock grant, just like the Oxley grant, worth something to the 
employees. And it becomes worth something the more liquidity it 
has, the more access the company has to the public offering 
market.
    So I think the 500 shareholder rule is a terrific step in 
the right direction, but it's almost a cruel joke if you say to 
an employee, Here are your options or here are your shares, but 
it's too risky for us to go to public, so these shares are 
going to be restricted forever. That's not a great deal in my 
view.
    Chairman Issa. I now recognize the gentleman from 
Tennessee, Mr. Cooper.
    Mr. Cooper. I am very open to the idea of changing the 
general solicitation rules and also the 500-person limit. I do 
think, though, that this hearing, as good as it has been, has 
only really highlighted two pieces of the puzzle, and it is a 
very large puzzle.
    Having been an investment banker, I think that the 
structure in the investment banking industry is also very 
important to this. There have been a few glancing blows dealt 
to that topic, but the fact that analysts find it difficult to 
make a living following stocks, especially smaller stocks, is a 
fundamental problem. That also implies that the retail investor 
needs the help of an analyst, and ideally the help of an honest 
analyst that won't just lose the stocks that company happens to 
be underwriting at the time.
    There are many issues in the structure of the investment 
banking field. One of them is the fact that proprietary trading 
has become so lucrative that it makes pretty much all fee-based 
services pale in comparison. And then that sets up a conflict 
of interest issue if they're in fact betting against the issue 
of their own client.
    So that's a whole segment of the problem.
    Another problem is many retail investors have the idea that 
all IPOs are automatically good. Well, many of them are 
disastrous. Many of them are a search for the dumbest dollars 
they can find in America. Overly valuing a company and leaving 
the poor retail investor holding the bag, perhaps has been 
seduced by an overly optimistic analyst report.
    So the search for the informed investor is truly a 
difficult task. We saw this in one of the least heralded 
features of our recent session, money market funds. Most 
everybody has a brokerage account, and who knew? Who knew, 
whether the investors were accredited or not, the risk of 
breaking a buck on those funds? And I think the government had 
to step in with--perhaps the chairman can remind me--wasn't it 
a $3 trillion seat-of-your-pants guarantee? Which may have one 
of the most fundamental features of the bailout. Basically 
everybody in America was bailed out and no one wants to talk 
about that.
    There are other features to that puzzle, but that should 
strike the heart of every investor out there. Even, I imagine, 
some university endowment funds didn't really know.
    So it seems to me that one of the core issues here, since 
really money, according to most investment bankers, really 
isn't the issue. It is a question of company valuation. And who 
wants to acknowledge that? And the phrase in the business is, 
``You don't bet on the horse, you bet on the jockey.'' And the 
real shortage is not money, it's management talent and 
experience. But these are some of the unacknowledged puzzle 
pieces that are out there.
    So I commend the chairman for holding this hearing. I know 
that he's founded a very successful company in his own right. 
But getting this right for the whole country is really going to 
be a challenge, because financial literacy probably has not 
increased over the years. And I am not sure that television 
advertising helps us a whole lot in understanding this.
    So I shudder at the thought of some of these general 
solicitations that could be amazingly appealing but really just 
be hiding an investment that's not necessarily going to grow to 
the sky.
    So I commend the expertise of the panel. This is indeed a 
deep issue, and you should be comforted in the fact that this 
committee has no legislative jurisdiction. It's really just a 
debating society.
    Chairman Issa. Would the gentleman yield?
    Mr. Cooper. I'd be delighted.
    Chairman Issa. We do have a little bit. We do regulate the 
post office and we've got the District of Columbia.
    I want to thank the gentleman. As you know, we didn't come 
into this hearing with pre-determination. Certainly Chairwoman 
Shapiro was very quick to say she knows some of these reforms 
have to happen, and it is mostly her mandate, and I think it's 
one of the reasons we want to have the encouragement of the SEC 
and support, while recognizing that most of it is for her to do 
and not in fact for us to do.
    With that, we recognize the gentleman from South Carolina, 
Mr. Gowdy for 5 minutes.
    Mr. Gowdy. Thank you, Mr. Chairman.
    This would be for the whole panel. If you care to comment 
on the efficacy or constitutionality of the general 
solicitation ban, I'd like to hear your perspectives.
    Not all at once.
    Mr. Rahn. Well, it's easy for me to do, because I am not a 
lawyer. But I can read the English----
    Mr. Gowdy. Sounds like you're bragging.
    Mr. Rahn. Yes, yes. I can read the English language, 
however. And the First Amendment to me is very clear, and it 
seems to me there is a definite conflict there; and given the 
conflict, I prefer to go with the Constitution.
    Mr. Gowdy. Mr. Macey, you look like you were gearing up to 
respond?
    Mr. Macey. I was winding up there a little bit. So there 
are two kinds of stylized facts around this issue on either 
side. One is, I think Congressman Issa made this point, that 
it's absolutely nonsensical that a pharmaceutical company has 
the right to advertise on television a prescription medication, 
and a company can't make a similar solicitation for securities. 
When you get off the airplane in Europe, you see that all the 
time.
    The problem that lawyers have, I think on the other hand, 
with the issue that you raise about the general solicitation, 
is that if we start putting SEC rules, Congressman, under 
scrutiny from a First Amendment constitutional lens, we open up 
a real Pandora's box. Think about the Securities Act of 1933 
and registration statement. That's a prior restraint on the 
press to say to a company, You can't send this document out to 
investors without going to jail until the Division of 
Corporation of Finance of the SEC says it's OK. That's also a 
First Amendment violation--in fact, something that's very 
commonly said around law schools--I don't think people have 
really--it's quite amusing--is that one thing one learns in law 
school is an unwritten rule of the United States is that the 
First Amendment doesn't apply to the SEC.
    I was kind of astonished, actually. The best part of this 
hearing by far was when the Chair of the SEC said, Well, you 
know, maybe this is unconstitutional, but I have to uphold the 
law, and so I am going to ignore the Constitution where it 
conflicts with the law. That's not the way I learned kind of a 
hierarchy of documents in our system. That's the world we live 
in.
    Mr. Gowdy. There certainly is precedent for executive 
branch entities not following laws that they believe are 
unconstitutional, even recent examples of it.
    Mr. Macey. I think that you have a moral obligation, if not 
a legal obligation, if you're the head of a U.S. administrative 
agency, to resign rather than enforce a law that you actually 
believe is unconstitutional.
    Mr. Gowdy. Let me move to one other area and if I have any 
time left, I will yield to the chairman, who is an expert in 
this area and I clearly am not.
    I think it may have been you, Dr. Macey, or you, Dr. Rahn, 
that commented on the perverse incentive to go after big fines 
because that's the way we judge success. And I tend to judge 
enforcement more by active prison sentences than I do the size 
of the fine. So accepting that the SEC is not the U.S. 
Attorneys Office, are you satisfied with the level of criminal 
prosecutions or fraud; and if not, what can be done about it?
    Mr. Macey. I think that if one looks at for example 
financial fraud, particularly insider trading prosecutions, I 
think that the problem that the government tends to have is, 
just as a general rule, is that they overcharge. That is to 
say, I think there are current prosecutions that I could cite 
as examples, but there are many, many examples that if somebody 
has done three things that involve really criminal fraud, I've 
never understood why the government would charge them with a 
hundred count indictment, where when you get to the number 97, 
98, 99, 100, these are pretty big stretches as to whether the 
fraud applies to that conduct. Whereas I do think where people 
are actually ripping people off, let's go after them.
    So that's one big problem that I have, that for what I 
think are structural bureaucratic reasons, there are incentives 
that the SEC has to say that everything is illegal unless we 
say it's legal. I think it would be more helpful if they said, 
Where you've actually really committed fraud here in these 
situations where we know we have, because the structure of a 
criminal trial is once the criminal defense attorneys cast 
doubt on a few of these items, then the government can't come 
in and say, Oh well, we weren't really serious about charging 
those. Here's what we really want the guy to go to jail for.
    So I think we need to be more selective and go after real 
fraud.
    Another thing is who are we really protecting? Somebody 
mentioned in the first panel, Gee, isn't this great that we 
fined Goldman Sachs so much money with respect to this CDO 
scandal and the way it was selling structured products to 
investors? I always like to remind my students that the people 
who were ripped off in that case were two financial 
institutions. One of them was IKB Deutch Industria Bank, a 
Dusseldorf, Germany, headquarterd bank. And the other was ABNM 
Amro, a giant financial institution in the Netherlands. This 
prosecution is not helping the U.S. small investors, not even 
helping U.S. investors; Certainly not helping small investors.
    Mr. Gowdy. I would disagree with you, but when you rob 
another poor person we call it common-law robbery, and when you 
rob a rich company, we call it something else. And if for no 
other reason other than to just prop up what's left of public 
trust in our criminal justice system, I would just like to see 
more suits prosecuted and fewer folks who don't have the means 
to defend themselves.
    Mr. Macey. I agree. My point is simply I'd like to see more 
suits brought where the person who is being ripped off is not 
ABNM Amro. There are plenty of small investors who are being 
ripped off as well, and I'd rather have my tax dollars going to 
protect those guys. But I agree with you in general, more is 
better.
    Mr. Gowdy. Thank you, Mr. Chairman.
    Chairman Issa. I thank the gentleman.
    For a change, I am going to go last, not first. So I yield 
myself 5 minutes.
    Mr. Silbert, the companies that are on your exchange, 
what's the number, how many of them are audited?
    Mr. Silbert. A hundred percent of the companies are 
audited.
    Chairman Issa. So they have the same audit standards as 
public companies, right? Let me rephrase that. They have audits 
as required for public companies.
    Mr. Silbert. Correct. The auditors tend to be the Big Four 
accounting firms.
    Chairman Issa. I realize if you want Goldman to take your 
public offering, the first thing you have to do is go to what 
used to be kind of the Big 10, the Big 8, the Big 6, and now 
the Big 4, which is becoming interesting since one of them has 
to give you a credit or, sorry, a debt evaluation. Another one 
can do something else. Pretty soon you run out of them able to 
do anything for you.
    So whether you use Pricewaterhouse Coopers or a regional 
audit firm, the audit standard for Gap is essentially the same, 
isn't it?
    Mr. Silbert. Correct.
    Chairman Issa. So the standard for an accounting firm 
standing behind a qualified opinion is going to be the same for 
these companies, whether they're public or private; isn't that 
right?
    Mr. Silbert. Correct.
    Chairman Issa. Let me go through that sort of analogy.
    We talked about the First Amendment. Dr. Rahn, you were 
pretty straightforward. You are a nonlawyer like myself. You 
read this very short chapter, written long ago. You know, it 
shall not be abridged, boom, move on. But let me ask you a 
series of questions just so we understand the nuances.
    I've got an audited--a public accounting firm has done my 
audit. Right now if I print it in the newspaper or I give it to 
one of my investors and they post it on the Internet, I've 
committed no violation, right?
    Mr. Rahn. As far as I know.
    Chairman Issa. But if I send it out to a group of potential 
investors, I've committed a violation, right?
    Mr. Rahn. Appears to be.
    Chairman Issa. So if I send it out to just those people who 
I know could legally invest, I've committed a violation, while 
in fact if I give it to the New York Times or somebody posts it 
on the Internet--it's fine on my Facebook, right? I just can't 
drive people to my Facebook.
    Mr. Rahn. You point out the absurdity of what we're doing.
    Chairman Issa. So when we talk about the First Amendment, 
and it sounds very lofty and when you go to the Constitution, 
you sometimes lose the C-SPAN audience because they say, Oh, 
well, that's not a recent document. The recent document of 
posting something on Facebook being OK, while not being able to 
go to investors of record who do this kind of investing 
repeatedly and sending them information soliciting them 
currently is not available.
    Let us go one step further, though.
    If JP Morgan and Goldman are being paid by my firm to go 
out and find people that's OK, right? They can go solicit the 
people who have accounts with them and they already know they 
can be qualified, right.
    Mr. Rahn. Yes.
    Chairman Issa. All the major firms have--and I am getting 
``yeses.'' Let the record indicate those are all yeses. She's 
very good but she doesn't hear pantomime.
    Let's understand that right now the current status quo 
allows large brokerage firms to make these markets. And, Mr. 
Silbert, you're larger than you once were, but you're not a 
conventional brokerage firm. You don't have a whole bunch of--
and correct me if I'm wrong--you don't have a whole bunch of 
people paid commissions to go make these transactions, right?
    Mr. Silbert. So we do not have a distribution network like 
in Goldman Sachs; that is correct.
    Chairman Issa. But right now for Goldman and JP Morgan and 
many other--we always use Goldman because of their size, but we 
could use Bank of America, Merrill Lynch, too--they can in fact 
make these markets, have hundreds of investors behind a single 
name, and it's OK; it's just not OK for me to post to my 
Facebook and drive people to go look at it and consider 
investing, even if they're qualified. Is that the status quo 
we're dealing with?
    Mr. Koester. And as a former startup lawyer, it is one of 
those rules that's oftentimes mystical to the individual who's 
doing it. But there's a lot of different ways that people wind 
up kind of finding magical ways to solicit without soliciting.
    Chairman Issa. Now, the chairman when she was here was 
unable to answer hypothetical questions for good reasons. She's 
doing a due diligence and I commend her for starting this 
process. But you all are here to answer the hypothetical. So I 
hope you knew that was the reason.
    Hypothetically, if the SEC lifts the cap on the 500/499 on 
all those who are in fact employees receiving options and those 
options maturing, because that ultimately makes them 
stockholders, that's OK with all of you; is that right?
    [All witnesses answer ``yes'' together.]
    Chairman Issa. And if they take--and hypothetically the SEC 
takes a standard that they oversee; in other words, an SEC list 
of qualified investors, and they lift the cap on that list of 
investors, those who either with the help of a JP Morgan or 
Goldman or somebody, or on their own fill out a form and show 
that they in fact should be not part of a limit protection in 
this kind of investment, and she takes the cap off, is that OK 
with all of you?
    [All witnesses answer ``yes'' together.]
    Chairman Issa. So as we close, and the ranking member may 
want another round, but as I close, we have two major items 
here--the employee who has a benefit limited unless we take the 
cap off for them, and the qualified investor who either is 
limited because there is only 499 option, or is unlimited 
because they are a conduit through. If we allow for that direct 
and the solicitation of those registered investors, that's good 
with everyone on this panel; is that right?
    [All witnesses answer ``yes'' together.]
    Chairman Issa. I'll take that as a ``yes'' from everyone. I 
hope that as the chairman considers all of this, that you're 
all listened to.
    Would the ranking member like another round?
    Mr. Cummings. No.
    Chairman Issa. With that, as we said earlier, for 7 days 
the record will remain open, that includes all of you, to 
revise and extend. I thank all of you for your testimony.
    We stand adjourned.
    [Whereupon, at 3:20 p.m., the committee was adjourned.]

                                 
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