With President Obama’s signature, the Jumpstart Our Business Startups Act, also known as the JOBS Act, is now law. The law raced through Congress with bipartisan support. Practically every investor advocate and investment regulator is aghast.
In this article, we explain cost of capital, and how this might (or might not) be impacted by the JOBS Act. An understanding of these economic concepts should have been more carefully considered by those voting for, and signing, this new law.
“Private equity” and “venture capital” sound cutting-edge, and will be presented as a diversification that reduces risk. The potential investor needs to ask whether (i) the industries represented by these underlying businesses are different, or (ii) the exposure that these companies have to underlying economic forces is different. If not, the attraction to sexy-sounding labels will merely increase total risk without any additional diversification.
Under the JOBS Act, the risk of investment fraud and/or the ability to raise money on half-baked ideas is obvious. When presented with the opportunity to invest in an enterprise allowable under the JOBS Act, just walk away, throw out the advertisement, and/or hang up the phone. Similarly, don’t purchase such investments in the secondary stock market until these companies comply with the same disclosure and assurance rules that apply to other investments. The risk-adjusted rewards for these investments are just not worth it. Let someone else sustain losses that might have otherwise been avoided by having reliable and transparent information about the business.