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[House Report 115-889]
[From the U.S. Government Publishing Office]

115th Congress    }                                  {        Report
                        HOUSE OF REPRESENTATIVES
 2d Session       }                                  {        115-889

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       DEVELOPING AND EMPOWERING OUR ASPIRING LEADERS ACT OF 2018

                                _______
                                

 August 3, 2018.--Committed to the Committee of the Whole House on the 
              State of the Union and ordered to be printed

                                _______
                                

Mr. Hensarling, from the Committee on Financial Services, submitted the 
                               following

                              R E P O R T

                        [To accompany H.R. 6177]

      [Including cost estimate of the Congressional Budget Office]

    The Committee on Financial Services, to whom was referred 
the bill (H.R. 6177) to require the Securities and Exchange 
Commission to revise the definitions of a qualifying portfolio 
company and a qualifying investment to include an emerging 
growth company and the equity securities of an emerging growth 
company, respectively, for purposes of the exemption from 
registration for venture capital fund advisers under the 
Investment Advisers Act of 1940, having considered the same, 
report favorably thereon with amendments and recommend that the 
bill as amended do pass.
    The amendments are as follows:
  Strike all after the enacting clause and insert the 
following:

SECTION 1. SHORT TITLE.

  This Act may be cited as the ``Developing and Empowering our Aspiring 
Leaders Act of 2018''.

SEC. 2. DEFINITIONS.

  Not later than the end of the 180-day period beginning on the date of 
the enactment of this Act, the Securities and Exchange Commission 
shall--
          (1) revise the definition of a qualifying investment under 
        paragraph (c) of section 275.203(l)-1 of title 17, Code of 
        Federal Regulations, to include an equity security issued by a 
        qualifying portfolio company, whether acquired directly from 
        the company or in a secondary acquisition; and
          (2) revise paragraph (a) of such section to require, as a 
        condition of a private fund qualifying as a venture capital 
        fund under such paragraph, that the qualifying investments of 
        the private fund are predominantly qualifying investments that 
        were acquired directly from a qualifying portfolio company.

    Amend the title so as to read:
    A bill to require the Securities and Exchange Commission to 
revise the definition of a qualifying investment to include an 
equity security issued by a qualifying portfolio company, 
whether acquired directly from the company or in a secondary 
acquisition, for purposes of the exemption from registration 
for venture capital fund advisers under the Investment Advisers 
Act of 1940, and for other purposes.

                          PURPOSE AND SUMMARY

    On June 21, 2018, Representative Trey Hollingsworth 
introduced H.R. 6177, the ``Developing and Empowering Our 
Aspiring Leaders Act''. As modified by an amendment in the 
nature of a substitute, H.R. 6177 requires the U.S. Securities 
and Exchange Commission (SEC) to revise the definition of a 
``qualifying investment'' under section 275.203(l)-1(c) of 
title 17, Code of Federal Regulations, to include equity 
securities issued by a qualifying portfolio company--whether 
acquired directly from the company or via a secondary 
transaction. H.R. 6177 will enable funds to increase their 
ability to provide necessary capital through secondary 
acquisitions. In doing so, the bill also balances the need for 
such investments not to be the primary means by which venture 
capital funds spread their portfolio by requiring the SEC to 
revise paragraph (a) of section 275.2013(l)-1(c) such that a 
venture capital fund's ``qualifying investments'' must be 
predominantly those that were acquired directly from a 
qualifying portfolio company. In other words, the legislation 
will better enable venture capital funds to provide necessary 
growth capital to companies without having to register as a 
registered investment adviser (RIA), while continuing to 
operate in a manner such that the fund is predominantly 
comprised of qualifying investments that were acquired directly 
instead of in a secondary acquisition. The legislation requires 
the SEC to revise its definition within 180 days of enactment.

                  BACKGROUND AND NEED FOR LEGISLATION

    The goal of H.R. 6177 is to allow venture funds to continue 
to provide necessary growth capital to companies by revising 
the definition of ``qualifying investment'' to include equity 
securities acquired in a secondary transaction.
    Title IV of the Dodd-Frank Act--the ``Regulation of 
Advisers to Hedge Funds and Others''--mandated that advisers to 
private funds, such as private equity and hedge funds, register 
as RIAs under the Investment Advisers Act of 1940. Title IV 
also included a provision, Section 407, that amends the 
Advisers Act to exempt advisers to a venture capital fund from 
SEC registratioin. Though advisers to venture capital funds 
were exempt statutorily from registration, the Dodd-Frank Act 
required that the SEC define what qualified as a venture 
capital fund. On July 21, 2011, the SEC's rules to define 
venture capital became effective. The SEC defines a venture 
capital fund as a private fund that meets the following 
conditions:
    (1) Represents itself as pursuing a venture capital 
strategy to its investors and prospective investors;
    (2) Holds no more than 20 percent of its aggregate capital 
contributions and uncalled committed capital in non-qualifying 
investments, other than short-term holdings;
    (3) Does not borrow, provide guarantees, or otherwise incur 
leverage, other than limited short-term borrowing;
    (4) Does not offer its investors redemption or other 
similar liquidity rights except in extraordinary circumstances; 
and
    (5) Is not registered under the Investment Company Act of 
1940 and has not elected to be treated as a business 
development company.
    Since the adoption of the definition, venture capital funds 
have increasingly played an important role to improve the U.S. 
economy. They invest in companies that help to drive economic 
growth and play an important role in expanding opportunities 
for American workers. Venture capital funds provide an average 
of three million new jobs a year and have been responsible for 
almost all net new job creation in the U.S. over the last 40 
years. In 2017, venture firms invested a total of $84.2 
billion--up 16 percent from 2016 and more than 100 percent from 
ten years ago.
    Despite the best intentions, the RIA rules promulgated by 
the SEC inadvertently discourage some venture capital firms 
from continuing to invest in companies through secondary 
investments. As written, the SEC's rules state that venture 
capital funds only can have 20 percent of their capital 
commitments in non-qualifying investments. Qualifying 
investments are defined as: (1) any equity security issued by a 
qualifying portfolio company that is directly acquired by the 
private fund; (2) any equity security issued by a qualifying 
portfolio company in exchange for directly acquired equity 
issued by the same qualifying portfolio company; and (3) any 
equity security issued by a company of which a qualifying 
portfolio company is majority-owned subsidiary, or a 
predecessor, and that is acquired by the fund in exchange for 
directly acquired equity.
    This definition prohibits secondary acquisitions from being 
considered qualifying investments, which means that secondary 
acquisitions fall into the 20 percent non-qualifying bucket. 
Accordingly, small private companies that need additional 
capital to grow and that may help them eventually become public 
companies cannot turn to venture capital funds for secondary 
acquisitions because such funds are concerned they will exceed 
the 20 percent limit--and trigger the requirement to register 
as a RIA.
    A multi-industry Midwestern venture capital firm that 
invests in growing companies highlighted to the Financial 
Services Committee the concerns with the current regulatory 
structure:

        Because secondary investments are not qualifying, we 
        have to analyze each of our investments not just to 
        determine whether it's a good company with growth 
        potential, but also whether the secondaries we pick up 
        would push us towards registration. Allowing us to do 
        our company diligence without this risk would make 
        [venture capital] investment easier and better 
        targeted.

    The Committee also learned from a Pennsylvania healthcare 
venture capital firm the negative consequences that limiting a 
venture capital fund's ability to invest in secondary 
acquisitions has on growing businesses:

        Our firm focuses entirely on providing capital to help 
        entrepreneurs grow young healthcare businesses. In this 
        context, there is sometimes the need to provide these 
        hard working founders with partial liquidity as part of 
        a larger growth financing. Although these deals clearly 
        result in growth of both revenue and jobs, they 
        currently fall outside the venture capital exemption. 
        In our current fund, we are facing the very tough 
        decision of passing on a compelling investment in this 
        category (which would take us over the 20% threshold) 
        in order to avoid registering, which would be a 
        significant burden for our 9 person firm.

    This legislation, H.R. 6177, would remedy this problem--a 
problem that, in particular, limits access to capital for 
smaller companies--by requiring the SEC to revise the 
definition of a ``qualifying investment'' to include secondary 
acquisitions for purposes of RIA exemptions--thereby allowing 
venture capital funds to provide capital through secondary 
acquisitions--while still requiring a private fund's qualifying 
investments to be predominately comprised of equity securities 
acquired directly from a qualifying portfolio company.
    As a venture capital firm investing in multiple industries 
in California stated, ``We are one of the oldest venture 
capital firms in Silicon Valley yet have to constantly monitor 
our non-qualifying basket to make sure we don't accidentally 
foot fault into registration. I believe the SEC made a good 
faith effort to write an accurate definition of venture 
capital, but the on the ground reality confirms that it needs 
an update. The Hollingsworth bill would be a very positive 
change.'' H.R. 6177 is a smart legislative initiative to ensure 
that venture funds can continue to provide capital to small 
companies that need investment capital the most.

                                HEARINGS

    The subcommittee on Capital Markets, Securities, and 
Investment held a hearing examining matters relating to H.R. 
6177 on May 23, 2018.

                        COMMITTEE CONSIDERATION

    The Committee on Financial Services met in open session on 
July 11, 2018, and ordered H.R. 6177 to be reported favorably 
to the House, as amended, by voice vote.

                            COMMITTEE VOTES

    Clause 3(b) of rule XIII of the Rules of the House of 
Representatives requires the Committee to list the record votes 
on the motion to report legislation and amendments thereto. On 
a motion by Chairman Hensarling, the amendment in the nature of 
substitute was adopted by voice vote. A secondary motion 
offered by Chairman Hensarling was made to report the bill, as 
amended, favorably to the House. The motion was agreed to by a 
voice vote, a quorum being present.

                      COMMITTEE OVERSIGHT FINDINGS

    Pursuant to clause 3(c)(1) of rule XIII of the Rules of the 
House of Representatives, the findings and recommendations of 
the Committee based on oversight activities under clause 
2(b)(1) of rule X of the Rules of the House of Representatives, 
are incorporated in the descriptive portions of this report.

                    PERFORMANCE GOALS AND OBJECTIVES

    Pursuant to clause 3(c)(4) of rule XIII of the Rules of the 
House of Representatives, the Committee states that H.R. 6177 
will reduce the regulatory burden on venture funds while 
allowing them to continue providing their crucial growth 
capital to companies.

   NEW BUDGET AUTHORITY, ENTITLEMENT AUTHORITY, AND TAX EXPENDITURES

    In compliance with clause 3(c)(2) of rule XIII of the Rules 
of the House of Representatives, the Committee adopts as its 
own the estimate of new budget authority, entitlement 
authority, or tax expenditures or revenues contained in the 
cost estimate prepared by the Director of the Congressional 
Budget Office pursuant to section 402 of the Congressional 
Budget Act of 1974.

                 CONGRESSIONAL BUDGET OFFICE ESTIMATES

    Pursuant to clause 3(c)(3) of rule XIII of the Rules of the 
House of Representatives, the following is the cost estimate 
provided by the Congressional Budget Office pursuant to section 
402 of the Congressional Budget Act of 1974:

                                     U.S. Congress,
                               Congressional Budget Office,
                                     Washington, DC, July 17, 2018.
Hon. Jeb Hensarling,
Chairman, Committee on Financial Services,
House of Representatives, Washington, DC.
    Dear Mr. Chairman: The Congressional Budget Office has 
prepared the enclosed cost estimate for H.R. 3555, H.R. 6177, 
H.R. 6319, H.R. 6320, H.R. 6321, H.R. 6322, H.R. 6323, and H.R. 
6324.
    If you wish further details on these estimates, we will be 
pleased to provide them. The CBO staff contact is Stephen 
Rabent.
            Sincerely,
                                             Mark P. Hadley
                                        (For Keith Hall, Director).
    Enclosure.

Securities and Exchange Commission Legislation

    On July 11, the House Committee on Financial Services 
ordered eight bills to be reported related to the rules, 
regulations, and operations of the Securities and Exchange 
Commission (SEC). The bills are:
           H.R. 3555, the Exchange Regulatory 
        Improvement Act, would require the Securities and 
        Exchange Commission (SEC) to issue regulations 
        regarding its definition of what constitutes a facility 
        used by a national securities exchange;
           H.R. 6177, the Developing and Empowering our 
        Aspiring Leaders Act of 2018, would direct the SEC to 
        conduct a rulemaking to expand what types of asset 
        acquisitions are considered qualifying investments for 
        a venture capital fund;
           H.R. 6319, the Expanding Investment in Small 
        Business Act, would require the SEC to conduct a study 
        on the limitation on the amount of outstanding 
        securities a closed-end fund may hold from a single 
        issuer and still be classified as diversified;
           H.R. 6320, the Promoting Transparent 
        Standards for Corporate Insiders Act, would require the 
        SEC to conduct a study of various proposals to change 
        agency rules regarding the use of written trading plans 
        by certain securities traders;
           H.R. 6321, the Investment Adviser Regulatory 
        Flexibility Improvement Act, would require the SEC to 
        revise the definitions of a small business and small 
        organization applicable for assessing the effect of the 
        agency's rulemakings under the Investment Advisers Act 
        of 1940 on those entities;
           H.R. 6322, the Enhancing Multi-Class Share 
        Disclosures Act, would direct the SEC to issue a rule 
        requiring securities issuers with multi-class stock 
        structures to make disclosures regarding the voting 
        power of certain individuals;
           H.R. 6323, the National Senior Investor 
        Initiative Act of 2018, would direct the SEC to 
        establish a taskforce to identify challenges that 
        senior investors face and to report on its findings 
        every two years; and
           H.R. 6324, the Middle Market IPO 
        Underwriting Cost Act, would direct the SEC to study 
        the costs associated with small and medium-sized 
        companies undertaking an initial public offering and to 
        report on its findings.
    Using information from the SEC regarding the costs of 
similar activities, CBO estimates that implementing seven of 
those bills--H.R. 3555, H.R. 6177, H.R. 6319, H.R. 6320, H.R. 
6321, H.R. 6322, and H.R. 6324--would each have a gross cost of 
about $1 million for the agency to conduct the required studies 
and rulemakings and to issue reports. CBO estimates that 
implementing the eighth bill--H.R. 6323--would have a gross 
cost of $7 million over the 2019-2023 period for the SEC to 
establish and carry out the functions of the taskforce 
established under the bill.
    However, the SEC is authorized to collect fees sufficient 
to offset its annual appropriation; therefore, CBO estimates 
that the net effect on discretionary spending of implementing 
each of those bills would be negligible, assuming appropriation 
actions consistent with that authority. H.R. 6323 also would 
require the Government Accountability Office (GAO) to conduct a 
study on the economic costs of the financial exploitation of 
senior citizens and CBO estimates that implementing that 
section would cost GAO less than $500,000; such spending would 
be subject to the availability of appropriated funds.
    None of the bills would affect direct spending or revenues; 
therefore, pay-as-you-go procedures do not apply for any of the 
eight bills.
    None of the bills would increase net direct spending or on-
budget deficits in any of the four consecutive 10-year periods 
beginning in 2029, CBO estimates.
    None of the bills contain intergovernmental mandates as 
defined in the Unfunded Mandate Reform Act (UMRA) and would not 
affect the budgets of state, local, or tribal governments. All 
of them would require the SEC to take actions that could raise 
the agency's administrative costs and the fees it collects to 
offset those costs. If the SEC increased fees, it would 
increase the cost of an existing mandate on private entities 
required to pay those fees. CBO estimates that none of the 
bills would increase fees in an amount that would exceed the 
annual threshold for private-sector mandates established in 
UMRA ($160 million in 2018, adjusted annually for inflation).
    The CBO staff contacts for this estimate are Stephen Rabent 
(for federal costs) and Rachel Austin (for mandates). The 
estimate was reviewed by H. Samuel Papenfuss, Deputy Assistant 
Director for Budget Analysis.

                       FEDERAL MANDATES STATEMENT

    This information is provided in accordance with section 423 
of the Unfunded Mandates Reform Act of 1995.
    The Committee has determined that the bill does not contain 
Federal mandates on the private sector. The Committee has 
determined that the bill does not impose a Federal 
intergovernmental mandate on State, local, or tribal 
governments.

                      ADVISORY COMMITTEE STATEMENT

    No advisory committees within the meaning of section 5(b) 
of the Federal Advisory Committee Act were created by this 
legislation.

                  APPLICABILITY TO LEGISLATIVE BRANCH

    The Committee finds that the legislation does not relate to 
the terms and conditions of employment or access to public 
services or accommodations within the meaning of the section 
102(b)(3) of the Congressional Accountability Act.

                         EARMARK IDENTIFICATION

    With respect to clause 9 of rule XXI of the Rules of the 
House of Representatives, the Committee has carefully reviewed 
the provisions of the bill and states that the provisions of 
the bill do not contain any congressional earmarks, limited tax 
benefits, or limited tariff benefits within the meaning of the 
rule.

                    DUPLICATION OF FEDERAL PROGRAMS

    In compliance with clause 3(c)(5) of rule XIII of the Rules 
of the House of Representatives, the Committee states that no 
provision of the bill establishes or reauthorizes: (1) a 
program of the Federal Government known to be duplicative of 
another Federal program; (2) a program included in any report 
from the Government Accountability Office to Congress pursuant 
to section 21 of Public Law 111-139; or (3) a program related 
to a program identified in the most recent Catalog of Federal 
Domestic Assistance, published pursuant to the Federal Program 
Information Act (Pub. L. No. 95-220, as amended by Pub. L. No. 
98-169).

                   DISCLOSURE OF DIRECTED RULEMAKING

    Pursuant to section 3(i) of H. Res. 5, (115th Congress), 
the following statement is made concerning directed rule 
makings: The Committee estimates that the bill requires one 
directed rulemaking to require the SEC to revise the definition 
of qualifying investment to include equity securities offered 
by a qualifying portfolio company whether acquired directly or 
in a secondary transaction and to condition that to qualify as 
a venture capital fund private funds are still predominately 
comprised of qualifying investments that were acquired directly 
from a qualifying portfolio company.

             SECTION-BY-SECTION ANALYSIS OF THE LEGISLATION

Section 1. Short title

    This Section cites H.R. 6177 as the ``Developing and 
Empowering our Aspiring Leaders Act of 2018.''

Section 2. Definitions

    This section requires the SEC, within 180 days of 
enactment, to revise the definition of qualifying investments 
under paragraph (c) of section 275.203(l)-1 of title 17, Code 
of Federal Regulations to include equity securities offered by 
a qualifying portfolio company acquired in a secondary 
acquisition. Additionally, the bill would revise paragraph (a) 
to ensure that private funds are still predominately comprised 
of qualifying investments that we acquired directly from a 
qualifying portfolio company.

         CHANGES IN EXISTING LAW MADE BY THE BILL, AS REPORTED

    In compliance with clause 3(e) of rule XIII of the Rules of 
the House of Representatives, changes in existing law made by 
the bill, as reported, are shown as follows: H.R. 6177 does not 
repeal or amend any section of a statute. Therefore, the Office 
of Legislative Counsel did not prepare the report contemplated 
by clause 3(e)(1)(B) of rule XIII of the Rules of the House of 
Representatives.

                                  [all]
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