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Regulation D and Private Placement Financing

Regulation D and Private Placement Financing

Registered Public Offerings

  • Increase in Size of Underwritten Offerings
  • “You have to raise a minimum of $100 million today.”
  • Decrease in Number of Underwritten Offerings
  • Most companies engaging in an offering to raise capital will rely upon Post-JOBS Act private offering exemptions

Post-JOBS Act Private Placement Financing Opportunities

  • General Solicitation Now Allowed for Certain Offerings
  • Section 4(a)(2) Private Placement Exemption
  • Crowdfunding
  • Regulation D – Rules 504, 506(b), and 506(c)
  • Regulation A+
  • Intrastate Offerings: Rules 147 and 147A

Prohibition Against General Solicitation

Except for registered public offerings, general solicitation and general advertising of sales of securities have generally not been allowed.

  • Prohibits advertisements, articles, notices or other published communications
  • Prohibits use of publicly available media, such as unrestricted websites, radio, or television
  • Prohibits seminars or meetings where people have been publicly invited

Section 4(a)(2) Private Placements

  • Historic statutory private placement exemption not involving a public offering
  • No dollar limit
  • No general solicitation or advertising
  • Investors must meet sophistication requirements
  • No specific disclosure requirements
  • Investors must have access to information so as not to need protection
  • Investors must be limited in number

Crowdfunding

  • Distinguished from donation-based crowdfunding
  • $1 million offering limit for 12 months
  • Investor limits based on income or net worth: Between $2,000 and $100,000
  • Registered broker-dealer or funding portal required
  • Mandated disclosure and filing obligations
  • State law compliance is problematic
  • Overall compliance is difficult and problematic
  • Very limited success due to low feasibility

Regulation D

Rule 504

  • Offering limit $5 million
  • No general solicitation and advertising (usually)
  • Non-accredited investors allowed
  • State law compliance required

Rule 506(b)

  • No offering limit
  • No general solicitation and advertising
  • Accredited investors only (usually)
  • State notice filings only

Rule 506(c)

  • No offering limit
  • General solicitation and advertising
  • Accredited investor status must be verified
  • State notice filings only
  • File Form D 15 days after first sale
  • Bad actor provisions apply

Accredited Investors

Most common categories:

  • Directors, executive officers and general partners of the issuer
  • Individuals with a net worth over $1 million excluding principal residence
  • Individuals making over $200,000 per year ($300,000 jointly with spouse) for past two years and reasonable expectation for same level in current year
  • Entities whose equity owners are all accredited
  • Entities with total assets in excess of $5 million not formed for purpose of acquiring the securities offered

Rule 504

  • $5 million offering limit
  • Sales to non-accredited investors allowed
  • No general solicitation, unless state law registration
  • No state law preemption
  • No specific disclosure requirements

Rule 504 Opportunity

Limited to Special Situations:

  • Need to raise no more than $5 million;
  • Need to offer securities to a small number of non-accredited investors, since general solicitation is not allowed; and
  • Reasons for the offering would have to be substantial enough to make the disclosure cost, state law compliance, and risk of liability worthwhile.

Rules 506(b) and 506(c)

  • 90% of all exempt offerings
  • Notice filings only with SEC and states
  • No required disclosure in accredited investor offerings
  • No ongoing disclosure or ongoing oversight
  • No suits for negligent misrepresentation
  • Bad actor provisions apply

Rule 506(b)

  • No general solicitation or public advertising
  • Sales to accredited investors only to avoid disclosure requirements
  • Self-certification of accredited investor status
  • Widespread acceptance and use: During first 15 months with new Rule 506(c), Rule 506(b) had more than 24,500 filings, generating $1.52 trillion in new capital

506(b) Opportunity

  • Most popular private placement structure
  • Opportunity limited by no general solicitation and sales to accredited investors only

Rule 506(c)

  • General solicitation allowed
  • Sale to accredited investors only to avoid disclosure requirements
  • Reasonable additional steps to verify accredited investor status within last 3 months: self-certification is insufficient;
    third party assertions of accredited status (accountants, lawyers, bankers) without explanation are insufficient; and
    current re-verification is needed.

No widespread acceptance. Only 2.1% of the reported capital raised pursuant to Rule 506 since becoming effective in September, 2014.

Rule 506(c) Opportunity

  • General solicitation affords opportunities when sales are necessary to accredited investors with whom no pre-existing relationship exists
  • Limited by sales to accredited investors only and the extra step that must be taken to verify accredited status

Regulation A (Reg. A+)

  • Public Offerings from $5 million to $50 million in a 12-month period
    Tier 1: $20 million
    Tier 2: $50 million
  • Offering circular with prescribed disclosure is subject to review and comment by SEC
  • Tier 1 requiring state registration/review and Tier 2 with only a state notice filing requirement
  • Annual reporting requirements, including annual audited financial statements and semi-annual current reporting
  • Costs as a percentage of offering amount approximate 5%

Regulation A+ Opportunity

Limited to Special Situations:

  • Need to raise over $5 million;
  • Need to offer securities to a wide range of buyers, including non-accredited investors; and
  • Reasons for the offering would have to be substantial enough to make the disclosure cost, ongoing reporting, and risk of liability worthwhile.

Intrastate Offerings and Rule 147A

  • Limited opportunity because all sales must be made to investors in a single state where the issuer has a principal place of business
  • Rule 147A allows offers to out-of-state residents (i.e., offers can be made over the Internet and through social media) and for companies to be incorporated in other states

Summary

  • Registered public offerings are typically not realistic for the vast majority of private companies.
  • Regulation A+ public offerings up to $50 million are limited to specific situations.
  • Crowdfunding is typically not economically feasible due to compliance costs.
  • Intrastate offering exemption is usually not feasible due to one-state residency requirement.
  • Section 4(a)(2) private placements are useful for small numbers of investors, e.g., friends and family.
  • Rule 504 offerings with new offering limits up to $5 million may increase, but no general solicitation (generally) and state law compliance limits feasibility.
  • Rule 506(c) with general solicitations to accredited investors have a better chance of becoming a more significant opportunity, but requirement to verify accredited investor status is currently problematic.
  • Rule 506(b) private placements to accredited investors without general solicitation most often represent the best opportunity for private capital offerings.

Paul Hanley, Partner

Spencer Fane LLP

Nothing in these materials is legal advice. No representation is made that these materials are correct or complete, that they will continue to be accurate, or that they will be completely free of errors when delivered/published. These materials reflect the viewpoint of the author and do not necessarily express the opinions of Spencer Fane LLP.

Descriptions of various securities laws are necessarily summaries and should not be relied upon as complete and accurate statements of all the conditions required to comply with applicable law. No summary of any state securities law is included herein. All securities transactions are subject to applicable anti-fraud laws.

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