SEC Regulations - No-Action Letter

United States
Securities and Exchange Commission
Washington, D.C. 20549

October 25, 1996

Jere W. Glover
Chief Counsel for Advocacy
U.S. Small Business Administration
409 3rd Street, S.W.
Washington, D.C. 20416

Gregory J. Dean, Jr.
Assistant Chief Counsel for Banking and Finance
U.S. Small Business Administration
409 3rd Street, S.W.
Washington,. D.C. 20416

Re: Angel Capital Electronic Network

Dear Mr. Glover and Mr. Dean
On the basis of your representation and the facts set forth in your letter of October 23, 1996, the Division of Market Regulation will not recommend enforcement action to the Commission under Section 15(a) of the Securities Exchange Act of 1934 ("Exchange Act") against the Angel Capital Electronic Network (the "Network"), or the various universities and non-profit entities (and/or their non-profit subsidies) that will participate in operating the Network ("Network Operators"), if the Network and Network Operators engage in the activities described in your letter without registering with the Commission as broker-dealers pursuant to Section 15(b) of the Exchange Act. In taking this position, the Division particularly notes that the Network and the Network Operators will not: (1) provide advice about the merits of particular opportunities or ventures; (2) receive compensation from Network users other than nominal, flat fees to cover administrative costs and that such fees will not be made contingent upon the outcome or completion of any securities transaction resulting from a listing on the Network; (3) participate in any negotiations between investors and listing companies; (4) directly assist investors or listing companies with the completion of any transaction, for example, through the provision of closing documentation or paid referrals to attorneys or other professionals; (5) handle funds or securities involved in completing a transaction; or (6) hold themselves out as providing any securities-related services other than a listing or matching service. The Division also notes that you have represented that Network officials, participants, and employees with direct or indirect operating or supervisory control over Network Operators will not participate as entrepreneurs or investors in any company listed on the Network, except in compliance with federal securities laws and unless such participation is disclosed to users of the Network, and that such persons will not discuss any matters with listing companies, investors or other persons that might require familiarity with securities or the exercise of judgment concerning securities activities. In addition, you have represented that no transactions or negotiations will occur by or through the Network.

Also, on the basis of your representations and the facts set forth in your letter, the Division will not recommend enforcement action under Section 5 or Section 6 of the Exchange Act if the Network and the Network Operators engage in the activities described in your letter without the registration of the Network as a national securities exchange under Section 6 of the Exchange Act.

The Division of Investment Management has asked us to inform you that, with respect to the listing service created and maintained by the Network and the Network Operators, the staff has taken the position that information relating to securities does not constitute an "analysis" or "report" within the meaning of Section 202(a)(11) of the Investment Advisers Act of 1940 ("Advisers Act") if: (1) the information is readily available in its raw state; (2) the categories of information presented are not highly selective; and (3) the information is not organized or presented in a manner that suggests the purchase, holding, or sale of any security. See Missouri Innovation Center, Inc. (pub. avail. Oct 17, 1995)("Missouri Innovation")(and cases cited therein).

In this regard, we note your representations that: (1) the information concerning the listed companies will be readily available in documents from the issuer or its agents and, where applicable, will be filed with the appropriate state or federal authority; (2) the listed companies will be assigned a number sequentially in the order that the information is entered into the Network's database and information about the companies will be presented on the Network in that order; (3) the search feature included in the Network will be based on objective criteria that the investor must enter into the system. You also represent that any company that meets specified objective criteria may be listed.

Further, you represent that neither the Network nor the Network Operators will: (1) be involved in any purchase or sale negotiations arising from the Network; or (2) give advice regarding the merits or shortcomings of any particular company or transaction. E.g., Missouri Innovation. Under these circumstances, the Division of Investment Management will not recommend enforcement action if the Network or Network Operators engage in the activities described in your letter without registering under the Advisers Act.

Because this response is based on the representations made to the Divisions in your letter and telephone conversations with the staff, any different facts or conditions might require a different conclusion. Further, this response expresses the Divisions' positions on enforcement action only and does not express any legal conclusions with respect to the applicability of the statutory or regulatory provisions of the federal securities laws. The position of the Division of Market Regulation with respect to registration under Section 6 of the Exchange Act is further subject to changes in current law, regulation and interpretations governing exchange registration and related matters; any change may require the Division to reevaluate and revoke or modify this no-action position.

Sincerely,
Catherine McGuire
Chief Counsel
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U.S. Small Business Administration
Office of Chief Counsel for Advocacy
Washington, D.C. 20416

Oct. 25 1996

Catherine McGuire, Associate Director
and Chief Counsel
Division of Market Regulation
U.S. Securities and Exchange Commission
450 Fifth Street, N.W.
Washington, D.C. 20549

Jack W. Murphy, Associate Director
and Chief Counsel
Division of Investment Management
U.S. Securities and Exchange Commission
450 Fifth Street, N.W.
Washington, D.C. 20549

Dear Ms. McGuire and Mr. Murphy:

On behalf of the Angel Capital Electronic Network (ACE-Net)(the "Network"), we request confirmation from the Division of Investment Management that the staff would not recommend enforcement action against the Network and the various universities and non-profit entities (and/or their non-profit subsidiaries) that will participate in operating the Network ("Network Operators") if the Network and the Network Operators do not register as "investment advisers" under Section 203(a) of the Investment Advisers Act of 1940, as amended ("Investment Advisers Act").

In addition, we also request confirmation from the staff of the Division of Market Regulation that it would not recommend enforcement action against the Network and the Network Operators if the Network and the Network Operators do not register as "brokers" or "dealers" under Section 15(b) of the Securities Exchange Act of 1934, as amended ("Exchange Act"), and if the Network and Network Operators do not register as "exchanges" under Section 6 of the same Act.

BACKGROUND
The Office of Advocacy of the U. S. Small Business Administration has the statutory responsibility to represent the interests of small businesses within the federal government. Related to this, the Office is working to implement the recommendations from the 1995 White House Conference on Small Business.

Access to capital was one of the top issues at the 1995 White House Conference on Small Business. Fifteen of the top 60 recommendations were related to capital formation. These recommendations received 24% of the total votes, more than any other issue topic. At the conference, many small business owners voiced their frustrations with seeking capital through the equity markets. Access to the equity markets appeared to be even more troublesome for owners of small innovation- and high technology-based businesses.

In the past year, the Office of Advocacy held nine focus groups across the country with small business owners, venture capitalists, angel investors, attorneys, accountants, capital formation leaders, academicians, state securities regulators and state economic development agencies to discover the problems small businesses confront when seeking to issue securities.

In addition to the focus groups, the Office of Advocacy contracted with the Center for Venture Research, University of New Hampshire, to study the contributions of accredited investors, or "angels," to the capitalization of small firms.

We found that the greatest obstacles a small corporation confronts are: 1) limited exposure to experienced, accredited investors and 2) high transaction costs of soliciting and/or obtaining equity capital.

Based upon the recommendations of the 1995 White House Conference on Small Business, the issues raised by the focus group meetings, and the findings from our completed research, we believe that the creation of an electronic listing service available over the Internet indexing small corporate stock offerings will facilitate small companies' access to accredited investors.

PROPOSAL
It is our intention to create the Network, an Internet World Wide Web site that will list small corporate offerings. The Network will be run by entities referred to herein as Network Operators, specifically universities and/or non-profit entities (and/or their non-profit subsidiaries) specializing in entrepreneurism. The Network's World Wide Web homepage will allow accredited investors to access a password-controlled listing of small corporate stock offerings and to download offering circulars.

We are currently in discussion with the following universities and non-profit entities as potential Network Operators:

Center for Venture Research
Whittemore School of Business and Economics
University of New Hampshire
Durham, New Hampshire
Accelerate Technology Small Business Development Center
Graduate School of Management
University of California, Irvine
Irvine, California

UCSD-CONNECT
Extended Studies and Public Service
University of California, San Diego
San Diego, California
Business and Technology Development
North Carolina Biotechnology Center
Research Triangle Park, North Carolina
Ben Franklin Technology Center
of Southeastern Pennsylvania
Philadelphia, Pennsylvania

Technology Capital Network at MIT
Cambridge, Massachusetts
KTEC-Kansas Technology Enterprise Corporation
Topeka, Kansas
Economic Development Institute
Advanced Technology Development Center
Georgia Institute of Technology
Atlanta, Georgia
The Capital Network, Inc.
Austin, Texas

The primary mission of these university-based and non-profit entities is to help start and sustain new enterprises through capital, technology, technical and training assistance. These entities provide assistance and offer courses on managerial training, financial planning, and federal and state tax and securities laws.

The Network will have one central computer system, initially operated by the Center for Venture Research, University of New Hampshire, which will be electronically connected to each of the Network Operators. Each of the Network Operators may operate an electronic matching service and/or listing service independent of the Network.

Listings on the Network's homepage will consist of small corporate offerings exempt from federal registration under Regulation A or Regulation D, Rule 504. Accredited investors registered with the Network Operators will be able to access through the Network's homepage a small corporation's "tombstone" advertisement, and an offering circular in the form of the Small Corporate Offering Registration Form (SCOR Form or Registration Form U-7). In addition, "solicitation of interest documents" ("testing the waters" documents) pursuant to Regulation A may be listed on the Network. These documents will be prepared by the small corporation. It will be the responsibility of the small corporation to be in full compliance with the appropriate filing and registration requirements of federal and state securities laws and regulations.

Upon subscribing to the Network, the small company will receive an entrepreneur number (sequentially generated) when the information is entered into the Network's data base. Any and all tables generated by the data base will display the Network's listings in the chronological order in which the information was entered into the data base.

Access to information regarding the small corporate securities listed on the Network will be available only to "accredited investors" through a password system. Before being given a password, each investor will be required to certify that the investor is an "accredited investor" within the meaning of Rule 501 of Regulation D under the Securities Act of 1933. Investors will be required to provide this certification on an annual basis as part of an investor's subscription renewal. It will be the responsibility of the small company to determine independently, before completion of any sale, whether the investor satisfies the criteria for an "accredited investor" within the appropriate jurisdiction.

The Network Operators will be the initial contact for small companies that want to list their stock on the Network and for accredited investors who want to subscribe to the Network. To be listed on the Network, small companies will be required to have a qualified or registered offering pursuant to federal and/or state securities laws and regulations or be qualified for an exemption from registration. Small companies must present a completed offering circular utilizing the SCOR form for listing under Regulation A or Regulation D, Rule 504. For testing the waters document listings or for listings in states with "accredited investor exemptions," small companies must submit documents as specified by the Network.

In addition, each company must certify as part of the entrepreneur subscription form that it does not fall under the "Disqualifications" provisions as adopted by the North American Securities Administrators Association (NASAA) in its "Statement of Policy Regarding Small Company Registrations," on April 28, 1996. The small company will send the completed documents, the completed entrepreneur subscription form and the subscription fee to the local Network Operator. The Network Operator will forward the documents to the Center for Venture Research which will add the documents to the Network's data base.

Accredited investors will be required to fill out a form which will require the investor to self-certify as to accredited investor status. The form and subscription fee will be mailed to the local Network Operator. After the form has been received, the local Network Operator will direct that the pass-word be sent electronically from the Center for Venture Research to the investor subscriber. In addition, the investor may send the subscription form electronically; however, a pass-word will not be released until the local Network Operator has received the paper copy. After the investor has received the pass-word, he or she may log on at either the local Network Operator's homepage or directly to the Network's main homepage.

It is anticipated that many investors will subscribe to both the Network and the local Network Operator's listing or matching service. Each Network Operator, however, will clearly inform potential subscribers that the listings available on the Network are separate from those available through any other listing or matching service, and that investors will be required to subscribe separately to the Network.

Subscribers to the listing and/or matching services operated by each of the Network Operators who have not subscribed separately to the Network and have not provided the required certification regarding their status as "accredited investors" will not be given access to Network's small corporate listings. Such persons will, however, be able to view the Network's homepage which will provide general information to the public about the Network as well as information regarding qualifications for becoming a Network subscriber.

Investors who have registered with their local Network Operator will be able to access the Network's homepage and review the lists of companies. The investor may then either review or download the publicly filed SCOR forms of the listed companies. If an investor wishes to purchase stock from a small company listed on the Network, the investor must contact the small company directly.

No trading will take place on the Network and no Network Operator will participate in any sales transaction.

To help accredited investors review the listings on the Network a search engine may be utilized at their discretion. The subscriber must choose criteria and enter it into the system or the system will default to show all listings of a particular state. The search engine will enable an accredited investor to set basic search criteria to engage a search. The search criteria will include, but not be limited to the state in which to invest, the type of business/industry of the company, the amount the company is seeking to raise, the amount the investor wishes to invest, and the identification of minority- and/or women-owned businesses. These basic search criteria will permit the accredited investor to narrow the list of companies to only those within the investor's areas of interest.

In addition, the search engine will be able to notify the accredited investor via the Internet when a company that lists on the Network has characteristics that correlate to the investor's specified basic search criteria (e.g., "all registered offerings for a particular state"). The search engine will be based upon the following: (i) the engine will operate only for the investor and not for companies listed on the Network, (ii) the notices will be sent to all investors interested in the same basic criteria, (iii) the notices will not send the name of the company or specific securities information but will require the investor to log on the Network to receive the names and securities information concerning the small companies listed on the Network, and (iv) the notices will consist only of indexed, fact-based data. The search engine and notification system are only to be used as a means to raise and continue interest in the Network and to facilitate review of the Network's listings.

The Network Operators will establish an Advisory Board for the Network. The Advisory Board will establish the Network homepage's specifications, Internet access specifications, and overall Network operating procedures. In addition, the Advisory Board will be responsible for approving the designation of additional universities and/or other non-profit entities as Network Operators.

As the Network will contain a data base of investors and small corporations, the Center for Venture Research, University of New Hampshire, will have all proprietary rights to the data base that is created from the Network system. Precautions, however, will be taken to ensure the confidentiality of the investors and small companies. The Center for Venture Research will be permitted to use aggregated statistical data generated from the data base for teaching and research purposes relating primarily to entrepreneurship.

The Network will be funded, in part, by nominal, flat fees that will be charged to the participating small companies and accredited investors. It is expected that such fees will cover part of the administrative expenses associated with operating the Network. These fees will not be made contingent upon the outcome or completion of any securities transaction resulting from a listing on the Network. (During the initial "trial period" of the Network, fees may be waived for small companies and accredited investors.) Additional Network funding may be sought from federal and state governmental agencies, foundations, corporate and individual sponsors.

Network sponsors will be allowed a box located on the screen of the Network's homepage and the Network Operators' homepage. This box will contain either advertising information furnished by the sponsor and/or will connect the viewer to the sponsor's homepage (very much like what is currently available on the World Wide Web portion of the Internet). Sponsorship of the Network will not grant a sponsor either special access to the Network's listings or decision-making authority over the Network. Small corporations that are listed on the Network will be ineligible to become Network sponsors.

DISCUSSION
The Investment Advisers Act of 1940
The Network and the Network Operators do not believe that they are required to register as "investment advisers" as set forth under Section 203(a) of the Investment Advisers Act of 1940.

The Network and Network Operators will not be engaged in the business of advising others concerning the advisability of investing in the small companies listed on the Internet World Wide Web homepage nor will they be in the regular business of issuing or promulgating analyses or reports concerning securities.

Neither the Network nor the Network Operators will make any recommendations concerning any offering of securities listed on the Network. The Network and Network Operators will not (i) advise any listing companies or investors on the merits of any investment opportunity, (ii) participate in negotiating the terms of any investment, (iii) hold themselves out as providing any securities-related services other than a listing or matching service, (iv) directly assist investors or listing companies with the completion of any transaction, for example, through the provision of closing documentation or paid referrals to attorneys or other professionals, or (v) handle funds or securities involved in completing the transaction. In addition, no fees, other than the nominal fees to cover administrative costs, will be assessed and no fee will be made contingent upon the completion of any securities transaction resulting from a listing on the Network.

Network officials, participants, and employees and participating university officers, directors and employees with direct or indirect operating or supervisory control over Network Operators will not participate as entrepreneurs or investors in any company listed on the Network, except in compliance with the federal securities laws and unless such participation is disclosed to users of the Network.

The Securities Exchange Act of 1934
The Network and the Network Operators do not believe that they are required to register as "brokers" or "dealers" under Section 15(b) of the Exchange Act of 1934. In addition, it is believed that the Network and Network Operators are not required to register as "exchanges" under Section 6 of the same Act.

While a "broker" is defined in Section 3(a)(4) of the Exchange Act as a person engaged "in the business of effecting transactions in securities for the account of others," and a "dealer" is defined in Section 3(a)(5) of the Exchange Act as a person engaged "in the business of buying and selling securities for his own account," the Network and Network Operators neither effect the transactions in securities listed on the Network nor are in the business of buying and selling securities listed on the Network.

Specifically, the Network and the Network Operators will not: (i) provide advice about the merits of particular opportunities or ventures, (ii) receive compensation from Network users other than the nominal, flat fees to cover administrative costs, (iii) participate in any negotiations between investors and listing companies, (iv) directly assist investors or listing companies with the completion of any transaction, for example, through the provision of closing documentation or paid referrals to attorneys or other professionals, (v) handle funds or securities involved in completing a transaction, or (vi) hold themselves out as providing any securities-related services other than a listing or matching service.

Network officials, participants, and employees and participating university officers, directors and employees with direct or indirect operating or supervisory control over Network Operators will not participate as entrepreneurs or investors in any company listed on the Network, except in compliance with the federal securities laws and unless such participation is disclosed to users of the Network. Also, such persons will not discuss any matters with listing companies, investors, or other persons that might require familiarity with securities or the exercise of judgment concerning securities activities.

No transactions or negotiations will occur by or through the Network. In addition, the Network and the Network Operators will not maintain possession of the funds, securities, or property of any user of the Network.

The Network and the Network Operators will not receive compensation other than the nominal, flat fees to cover administrative expenses. No other fees, commissions or compensation will be due from the investors or the listing companies. The fees will not be made contingent upon the outcome or completion of any securities transaction resulting from a listing on the Network.

With regard to the registration of the Network and the Network Operators as "exchanges" under Section 6 of the Exchange Act, the Network and the Network Operators do not believe that they are required to register. The Network will not perform the functions commonly performed by a stock exchange. The Network will only be a listing service for small corporate stock offerings and will not effect any transaction in a security nor report any such transaction for companies listed on the Network. Once an accredited investor decides to invest in a company listed on the Network, the investor must contact the small company directly.

In particular, we believe that operation of the Network, as proposed, will not entail operation of an "exchange" for the purposes of Section 3(a)(1) of the Exchange Act. See Delta Government Options Exchange, Securities Exchange Act Release No. 17611 (January 12, 1990) (the "Delta Order"). We believe that the proposed operation of the Network will not involve an "exchange" within the Commission's articulated reasoning because it merely facilitates access to information about the listed companies to accredited investors, and neither centralizes trading nor provides buy and sell quotations about particular securities.

The Commission further stated that the term "exchange" was not intended to encompass markets that "serve as bulletin boards for the episodic display, by broker-dealers and institutions, of buying and selling interest." Id. The Network, in bringing together potential investors and small companies in need of venture capital, will neither offer participants the opportunity to display orders in securities they are interested in trading nor allow them to match with countervailing interests.

CONCLUSION
1. The Network and the Network Operators should not be required to register under Section 203 of the Investment Advisers Act since the Network will not be engaged in the business of dispensing advice to investors on the worthiness of small corporate stocks listed on the Network.
2. The Network and the Network Operators should not be required to register under Section 15(b) of the Exchange Act. The Network and the Network Operators will not be engaged in the business of effecting securities transactions nor will they be engaged in the business of buying and selling securities.
3. The Network and the Network Operators should not be required to register as exchanges under Section 6 of the Exchange Act. The Network is solely a listing service and does not effect any transactions in securities or report any such transactions to third parties.

ACTION REQUESTED
We respectfully request that the staff of the Commission confirm that it will not recommend enforcement action against the Network and/or the Network Operators.

Thank you for your consideration of this matter. If you need clarification or have any questions concerning the establishment of the Network, please contact us at (202) 205-6533.

Sincerely,
Jere W. Glover
Chief Counsel for Advocacy Gregory J. Dean, Jr.
Assistant Chief Counsel
for Banking and Finance

Footnotes:

1. "Angels" have been defined as high net worth investors, particularly successful entrepreneurs who are equipped to evaluate the merits and the risks of prospective investments. John Freear, Jeffrey E. Sohl, and William E. Wetzel, Creating New Capital Markets for Emerging Ventures (University of New Hampshire, June 1996).
2. Currently, some of the potential network operators are operating matching services under the auspices of letters issued by various Divisions of Commission on matching services. This letter pertains only to the Network's listing service and the Network Operator's participation in the listing service of the individual Network Operators.
3. NASAA's "Statement of Policy Regarding Small Company Registrations" sets forth objective criteria to determine when a small company is ineligible to undertake a registered stock offering. As an example, the policy statement disqualifies an issuer who has filed a registration statement which is subject to a currently effective stop order entered pursuant to any state securities laws within five years prior to the filing of the registration statement.
4. In the event the Center for Venture Research, University of New Hampshire, ceases to operate the Network's central computer system or ceases to participate as a Network Operator, it is anticipated that proprietary rights created from the Network system will be transferred to another university-based research center as chosen by the Network's Advisory Board.
5. As part of its continuing research and studies on entrepreneurism, the Center for Venture Research may undertake periodic surveys of accredited investors and small companies that have previously used the Network. The surveys will be used to further the understanding of the nature of angel capital financing and entrepreneurism. Any response to a survey will be voluntary.

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