Regulating Venture Capital: Off the Hook Now But “Very Far From the Finish Line”

Earlier this year, Silicon Valley freaked out when U.S. Treasury Secretary Timothy Geithner told Congress that large venture capital firms should be declared as systemic risks and put under tight restrictions as part of the broader re-regulation of financial firms.

Such regulations would force VCs to register with the Securities and Exchange Commission, and submit regular reports on their investors and portfolios, costing firms up to $1 million. Data collected by the SEC would then be shared with a new risk regulator to ensure that VCs aren’t “a threat to financial stability.”

But techies breathed a sigh of relief earlier this month when Financial Services Chairman Barney Frank proposed draft legislation rejecting the Treasury plan, carving out an exemption for VCs from the “Private Fund Investment Advisers Registration Act of 2009.” (see draft below)

That was good news for innovation. VCs do not pose a systemic risk to the economy, as Gordon Crovitz pointed out in this astute column in the Wall Street Journal. The venture capital industry is small compared to other capital markets. VCs do not use debt, so that sharply limits their risk. And they are not tightly interconnected with other financial firms, like AIG or Lehman Brothers.

But they do represent an incredibly important part of the economy that helps generate significant wealth and job creation–a unique economic pillar the Treasury Dept. should be strengthening, not weakening.

But National Venture Capital Association President Mark Heesen says the VC industry is not out of the woods yet. “We are very far from the finish line, but in a better place than many expected at this point,” Heesen wrote me in an email. “There is still no House or Senate bill, but House Chairman Frank’s comments certainly are encouraging.”

Financial reform hinges on, you guessed it, the passage of health care reform. “Many Senators sit on both Committees of jurisdiction so can’t focus of financial reform until they see how health care proceeds,” added Heesen.

To make sure VC regulation does not reappear in future versions of financial reform legislation, Heesen says the NVCA is continuing to work with the Administration and members of the House and Senate “to make certain Venture capitalists do not have to register under the 40 Act while giving the government the assurances they need to understand we do not pose a systemic risk to the economy.”

Discussion Draft of the Private Fund Investment Advisors Registration Act

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