SEC Amendments to Private Offering Framework
Publicly traded companies raise capital by selling their securities on national exchanges. The public offerings are registered with the Securities and Exchange Commission and are subject to extensive reporting requirements. Private companies, wanting to avoid that time-consuming and expensive process, rely on private offerings of their securities which are exempt from the SEC’s rigorous public registration requirements but are subject to other regulations (such as limits on how much money can be raised, to whom the securities can be marketed, and how frequently offerings can be made). The SEC recognized that, over time, private offering regulations have become a “patchwork system” of “multiple exemptions and safe harbors, each with different requirements.”
On November 2, the SEC issued amended rules easing numerous regulations that govern private offerings. Investment limitations have been raised on the following crowdfunding options:
- The limits for a Regulation A, Tier 2 offering—a private crowdfunding option—are raised from $50 million to $75 million per 12 months, and the limit on secondary sales (which allow the holders of these shares a chance to sell them) is raised from $15 million to $22.5 million per 12-month period.
- The limits for a Regulation Crowdfunding offering—whereby eligible companies can sell their securities through SEC-regulated crowdfunding—are increased from $1.07 million to $5 million per 12-month period.
- The limits for a Rule 504 offering—another form of crowdfunding—are raised from $5 million to $10 million per 12-month period.
Restrictions on efforts to market private offerings also have been eased by expanding opportunities to “test-the-waters” and exempting “demo day” communications.
- Companies considering a capital raise by crowdfunding can “test the waters” through general communications before deciding which registration exemption to select. This particularly benefits start-up companies who now can gauge interest in their contemplated offering before incurring the legal costs associated with the private offering. They cannot secure commitments to participate in an offering by “testing the waters” communications but can gather contact information from those interested in participating. These “testing the waters” communications are still subject to the antifraud provisions of Federal securities laws.
- Communications at “demo days”—events organized by colleges or universities (or other institutions of higher education), local governments, non-profit organizations, angel investor groups, or business incubators or accelerators which invite companies to pitch their business to potential investors with the aim of securing investment—will not be deemed general solicitation or advertising certain conditions are met. Conditions include: the sponsor cannot profit from the event (other than reasonable administration fees), make investment recommendations, or participate in negotiations with potential investors, and the information conveyed at the event regarding a securities offering must be limited to type and amount of securities being offered and the intended use of the proceeds.
The SEC’s integration framework has been overhauled. Previously, different offerings made in close proximity could be deemed integrated—considered to be one offering—thus impacting the selected exemption from registration. Imagine a company raising a small amount through Regulated Crowdfunding to finalize a prototype then raising several million dollars through a Regulation A offering to launch product sales—the prior framework could deem these offerings integrated and the company in violation of its exemption from registration. The new framework focuses on the particular facts and circumstances of the offerings and whether the company can establish that each offering complied with either the registration or exemption requirements.
The new framework provides four “safe harbors” to avoid integration:
- An offering made pursuant to a registration exemption which allows general solicitation (such as Rule 506(c) offerings) will not be integrated if it is made after another offering that has been terminated or completed.
- An offering made in compliance with Rule 701 (which exempts stock option grants from registration requirements) or with Regulation S (which governs the offer of securities outside the U.S.) or pursuant to an employee benefit plan will not be integrated with other offerings.
- Offerings made more than 30 calendar days apart will not integrated, with one caveat: if one offering is subject to an exemption prohibiting general solicitation (for example, a Rule 506(b) offering) and the other is subject to an exemption allowing it (such as a Rule 506(c) offering), the issuer must have a reasonable belief that purchasers in the former offering were not contacted by general solicitation (or the issuer established a substantive relationship with the purchasers prior to the offering).
- An offering for which a Securities Act registration statement has been filed will not be integrated if it is made: (i) after an offering for which general solicitation was not permitted has been terminated or completed; (ii) after an offering for which general solicitation was permitted, but only to qualified institutional buyers and institutional accredited investors, has been terminated or completed; or (iii) more than 30 calendar days after an offering for which general solicitation was permitted has been terminated or completed.
The new rules should decrease costs associated with private offerings and expand private companies’ access to capital.