SEC Steps Up Probe of Pre-IPO Share Trading

Federal securities regulators are intensifying a broad investigation into trading of pre-IPO shares, zeroing in on companies that help technology-firm employees and others resell their shares.

In a Nov. 25 court filing, the Securities and Exchange Commission ordered an unregistered brokerage firm under investigation, NetCirq LLC, to comply with an SEC subpoena sent on April 7.

NetCirq, which says on its website that it "resells private securities and portfolio interests creating a secondary market for private equity," couldn't be reached for comment.

The filing, in a San Francisco federal court, says the SEC broadly is investigating whether trading of pre-IPO shares could violate securities laws under the Dodd-Frank Act because some of the transactions could be considered "swaps," or agreements whose value is tied to a future event.

The SEC filing is the first public confirmation by the agency of the investigation. In July, The Wall Street Journal reported on the initiation of the probe, which followed a Journal page-one article in March that delved into the role of middlemen in the growing market for private shares.

"The staff of the Commission is investigating whether certain entities may have violated the federal securities laws in connection with secondary-market trading of shares of growth-stage private companies that have not yet conducted an initial public offering (IPO)," according to the Nov. 25 filing.

The SEC filing added: "Certain entities may have, among other things, improperly engaged in transactions that constitute security-based swaps in violation of the federal securities laws."

Many high-profile technology firms haven't gone public—including smartphone-based car service Uber Technologies Inc., disappearing-message provider Snapchat Inc. and home-rental service Airbnb Inc. That means nearly all their stock is owned by venture-capital investors and employees, who face tight limits on selling their shares.

But some early investors are eager to cash in now, particularly amid signs of cracks in the tech boom. To help them outmaneuver company restrictions on stock sales, middlemen are designing derivatives that deliver payments to employees based on a stock's perceived value. Some financial firms let employees pledge their shares as collateral for a loan.

The SEC action comes as the value of private company shares have soared.

More than 125 privately held, venture-capital-backed firms now are worth at least $1 billion each, with a total valuation of more than $310 billion. Just 49 companies were worth $1 billion or more a year ago.

No one knows the exact size of the secondary market for shares of private companies that are held by employees and other investors. Participants in pre-IPO trading estimate that $10 billion to $30 billion in stock changed hands last year.

In the past year, a number of marketplaces have launched or grown sharply that facilitate the sale of shares by employees in private technology companies, including EquityZen Inc. and Equidate Inc.

Some markets feature direct selling and buying of the shares, but some companies, such as Uber, typically have blocked such transfers by individual employees.

A handful of firms, such as San Francisco-based advisory firm Scenic Advisement, work directly with companies to facilitate sales of big blocks of employee, executive and founder shares. One such firm, SecondMarket, which makes software to manage employee sales, was acquired by Nasdaq Inc. in October.

In the SEC court papers, the agency contends that NetCirq has failed to produce the documents it requested and that the company's chief executive, Kristen McRedmond Wade, has "ignored" recent SEC attempts to contact her. The filing is an application for a court order enforcing its subpoena to NetCirq.

NetCirq isn't currently registered as a broker-dealer, the filing says, "as would be required by law" if it was effecting securities transactions.

Ms. Wade couldn't be reached for comment. The SEC didn't return calls for comment.

In June, the SEC brought a cease-and-desist order against Silicon Valley-based Sand Hill Exchange, which operated a website designed to allow people to buy and sell contracts related to the value of private companies and their securities.

In an administrative proceeding, the SEC said the company's business allegedly violated the Dodd-Frank Act.

Sand Hill, which declined to comment, settled the charges without admitting or denying the finding and agreed to pay a $20,000 penalty.

The Dodd-Frank Act added new rules that many securities derivatives must be traded on a national exchange and that many sellers need to register as dealers of derivatives.

Write to Susan Pulliam at [e-mail] and Telis Demos at [e-mail]

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(END) Dow Jones Newswires

December 01, 2015 22:55 ET (03:55 GMT)

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