Facebook Private Offering: Are Some Filing Exemptions Antiquated?

For the past few days Facebook’s private offering through Goldman Sachs has dominated the Wall Street Journal. A lot has been made about the 500-shareholder mark and Facebook’s filing exemption. It now appears that Facebook will have more than 500 investors and will begin disclosing its financials or go public by next spring. Regardless of the course of action taken, the company’s financials will finally be available to the public. This raises an interesting question. In an environment focused on systemic risk, why is the number of investors the trigger point for disclosing the financial information of a $1.5 billion investment?

In the wake of the financial crisis systemic risk has become a major issue. The Dodd-Frank Bill places significant emphasis on it. However, systemic risk is ignored in registration exemptions like the one Facebook had been operating under. Facebook’s exemption allowed it to refrain from registering with the SEC so long as it had fewer than 500 investors. This and other exemptions have been put in place for a number of reasons, chief among them being that registration is not necessary. It is assumed that when securities are offered to such a small pool of investors, the investors are either close enough to the company to perceive the risk or sophisticated enough to perceive the risk. As such, federal filing requirements are not needed to protect these investors. They are able to "fend for themselves." While this may be true, it does not mean that these investors will actually perceive the risks accurately and respond appropriately.

Because Goldman’s offering of the Facebook equity is private, many of the investors are likely hedge funds and other financial institutions. If the financial crisis teaches us anything, it is that the composition of the institutions’ balance sheets is extremely important. Supposing that Facebook’s investor count had not reached 500, the financial information of a $1.5 billion capital investment would have been undisclosed. Granted, $1.5 billion may only be a drop in the bucket when spread amongst a handful of financial institutions; however, it does raise the question of whether a private offering can be so large that the resulting systemic risk requires enhanced regulation.

For more on the need to regulate systemic risk, see Anita I. Anand, Is Systemic Rick Relevant to Securities Regulation?, 60 U. Toronto L.J. 941 (2010). SSRN Link.

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