The Ugly Truth About the Promise of the JOBS Act

Last week I wrote about how the Jumpstart Our Business Startups Act (the JOBS Act) can be a pathway to funding brand new businesses as well as small operating companies to further American entrepreneurship and create jobs.

I even called the legislation, signed into law on April 5, 2012, a "light at the end of the tunnel" in terms of its potential to stimulate the economy.

But I also warned you there are elements of the Act that are bad, if not downright ugly.

So, let's take another look at the JOBS Act to see if that light in the tunnel is a freight train headed straight for us.

First, it's instructive to learn that the JOBS Act came into being, not as an original piece of legislation, but as an amalgamation of six House bills, four of which had strong bipartisan support.

What began as a series of bills proposed to facilitate "access to capital" and "capital formation" and incorporated those terms in their former titles, eventually were cobbled together to become the Jumpstart Our Business Startups Act, whose title highlighted this year's election mantra: it's about jobs, jobs, jobs.

Too bad there isn't anything in the JOBS Act that says anything about hiring anybody.

The Masquerade Behind the JOBS Act

Some of you might call me cynical for this, but another way to look at what the JOBS Act amounts to is to see it as a deregulatory push masquerading as a job creation scheme.

And therein lies the problem.

It's all well and good to make raising capital easier for startups and small operating businesses, but altogether disquieting to clear that path by weeding out investor protections that have been on the books for decades.

It's like déjà vu all over again.

Provisions in the Act allow for general solicitation and advertisement of securities offered by intermediaries, some registered with the SEC, most not, on behalf of business startups and operating companies, who would be the "issuers" of unregistered securities.

One can only imagine that the opportunity to enthrall wide swaths of the population with get-rich quick schemes might be a recipe for misleading advertising, if not outright fraud. There are no provisions in the Act about who monitors or substantiates claims made in general solicitation and advertising outlets.

Another problem with drawing attention to startup opportunities and distribution of their unregistered securities is, who is monitoring who the distributors are?

The SEC requires some intermediaries to register as broker-dealers; however, the Act makes it easy for just about anyone to create a "funding portal" through which potential investors can travel, via Internet express, to arrive at a station possibly named "your future millionaire status."

What's more, there are umpteen questions unanswered in the Act.

Important questions like who is responsible for doing due diligence? The issuer, the intermediary, or the investor?

The law doesn't provide exact guidelines for what has to be given to whom or when, in terms of financials; nor does it qualify what constitutes meaningful business and financial metrics.

There are other problems inherent in the ACT that subject investors in new startups to uncertainty, if not fraud. And those uncertainties only get worse when it comes time for startups to take themselves public in an IPO.

In what amounts to a frontal assault on investor protection regulations, the deregulatory push inherent in the JOBS Act creates a new category of "emerging growth companies."

Without defining exactly what an emerging growth company is, but defining it as no longer emerging once it reaches its fifth-year anniversary after going public, or if it generates over $1 billion a year in revenues (I'd call those companies long since emerged), the Act provides exemptions from certain financial disclosures.

Those include certain financial reporting requirements, governance rules, and internal controls previously required of all publically traded companies. Emerging growth companies are not burdened with these requirements until they are no longer "emerging." Mind you, these are publicly traded companies.

Buyer Beware

All I have to say about that act of stupidity is thank goodness we have the Sarbanes-Oxley laws to fall back on to ferret out some executives' propensity (think Enron and WorldCom, the reasons for the SarBox laws) to cook their books.

Unfortunately, to afford ourselves, our markets, and our economy the protections that SarBox offers, we will eventually have to get someone to enforce those laws which haven't been enforced since they were created.

Maybe the new Act is a gift to short-sellers who are supposed to unearth accounting issues, sell short the guilty company's stock and then announce to the world what they've uncovered. That's one way to get the shareholders to smarten-up -- sell their shares after the cat's out of the bag.

If the intention of the JOBS Act was really to create jobs, there should have been written provisions to mandate that users of new-fangled crowdfunding, social media groups and dancing-with-the-stars opportunities actually had to hire people to avail themselves of the Act's trap doors.

I'm not the only one skeptical of why or how the JOBS Act was written.

Barbara Roper, director of investor protection for the Consumer Federation of America has said, "My guess is the Republicans cannot believe they have suckered the Democrats into taking up their idea that deregulation is the way to promote job growth. It flies in the face of what the Democrats were arguing just a couple years ago. It completely undermines what they are trying to do to shore up our system of financial regulation."

And Arthur Levitt, former chairman of the SEC under President Bill Clinton, said of the whole affair, "The bill is a disgrace."

Is the JOBS Act a step in the right direction? Yes it is. Only it may be a slippery slope for the investors it hopes to attract to the business of creating jobs.

Here's my advice: If you're going to get involved in any of these new-age deals, never forget the ball is in your court and tape the following saying to your check book: Caveat Emptor.

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About the Author

Shah Gilani boasts a financial pedigree unlike any other. He ran his first hedge fund in 1982 from his seat on the floor of the Chicago Board of Options Exchange. When options on the Standard & Poor's 100 began trading on March 11, 1983, Shah worked in "the pit" as a market maker.

The work he did laid the foundation for what would later become the VIX - to this day one of the most widely used indicators worldwide. After leaving Chicago to run the futures and options division of the British banking giant Lloyd's TSB, Shah moved up to Roosevelt & Cross Inc., an old-line New York boutique firm. There he originated and ran a packaged fixed-income trading desk, and established that company's "listed" and OTC trading desks.

Shah founded a second hedge fund in 1999, which he ran until 2003.

Shah's vast network of contacts includes the biggest players on Wall Street and in international finance. These contacts give him the real story - when others only get what the investment banks want them to see.

Today, as editor of Hyperdrive Portfolio, Shah presents his legion of subscribers with massive profit opportunities that result from paradigm shifts in the way we work, play, and live.

Shah is a frequent guest on CNBC, Forbes, and MarketWatch, and you can catch him every week on Fox Business's Varney & Co.

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