Can you generally advertise your private company securities offering now?
Yes! This became possible on September 23, 2013.
But here are some notes of caution. Some suggestions. Some things I’d recommend you do before you generally solicit, if you decide to generally solicit at all. (Keep in mind, many, many companies will choose not to generally solicit because of the potential complications.)
The overarching suggestion here: If you choose to generally solicit, don’t do anything until you have made sure that you are completely ready and are able to generally solicit in compliance with the rules.
Another example: Can the shareholders take action by less-than-unanimous written consent without a shareholder meeting? If not, this should be fixed as well; otherwise, you may have to hold actual shareholder meetings to approve matters that could otherwise be approved in a less cumbersome way, by less-than-unanimous written consent.
- Make sure your company is legally set up to accept investments and make sure you can generally solicit
Many companies will have organizational documents that are missing key provisions or that handle fundamental governance points in the wrong way. For example, some companies will inadvertently set themselves up so that all shareholders are entitled to statutory preemptive rights. Meaning, the company can’t raise any money from anyone without first giving all existing shareholders notice and an opportunity to participate. Statutory preemptive rights can be cumbersome and they are generally not recommended for angel or venture-backed companies. Be aware that if you sold shares in the last 6 months to non-accredited investors, or if you have non-accredited investors holding convertible notes that will convert on your generally solicited offering, you may NOT be able to generally solicit your offering. The problem? Generally solicited offerings cannot include any non-accredited investors, and if you sold shares in the last six months to non-accredited investors your generally solicited offering may be “integrated” with your prior offering, causing the whole offering to fail to have an exemption. This is another reason it is critical for you to have competent securities counsel on your team.
- Are your accounting systems and processes ready?
Do you have a good accounting system and good accounting practices in place? How soon after the end of each month, quarter and year end can you close your books? Is your accounting team ready to respond to investor requests for financial statements? Under state corporate laws, shareholders are entitled to certain financial information. You will have to be ready to respond to requests for information promptly and efficiently.
- What does your board look like?
Do you have a board of directors that includes at least two independent directors who are neither employees, members of the executive management team, or related to any of them? If not, once you have outside investors how are you going to approve related party transactions? This old standard business advice resounds: Surround yourself with top notch business advisors.
- Consider the risks
- Know your Blue Sky securities law or work with a lawyer who does
Some states may require additional filings before general solicitation (e.g., New York). “Blue Sky” refers to state securities laws.
- Beware that the SEC may change the rules on you midstream
Proposed rules have been issued. No one knows what final form they might take or when they may become final.
- Know your investors
Due diligence is a two way process. It is really important that you don’t accept as an investor in your company someone who doesn’t understand the risks or whose expectations are not consistent with yours. This can literally kill your company. It is easier to get divorced than to get someone off your cap table. Don’t accept just anyone simply because they can provide all the information to show that they qualify to make an investment as an accredited investor.
- Construct a general solicitation plan
General solicitation can include simply putting something on your company’s web site. It can also include running ads on TV. What kind of general solicitation will you conduct? What will you say about your company in your generally solicited statements? You are going to want to be careful here. Any statements made here in the nature of promises about future performance that turn out to be untrue will subject you to potential personal liability.
- Has your board approved the plan?
It should do so. And you will want it to do so.
- Slow down
If you hurry through this process, you may make a mistake that will be costly financially and in numerous other ways.
I had an email exchange with a client this morning.
I started it abruptly.
“Are you going to generally solicit your offering?”
He didn’t know what I was talking about. He had been head down, building stuff, not reading and writing about securities laws every day. In other words, he had a real life. He was building stuff people all over the world would one day use every day.
Here is how I responded:
“Well, ok. In the old days, you couldn’t generally solicit or generally advertise your securities offerings. You had to work pre-existing contact to pre-existing contact. You were not supposed to stand up on a stage at an industry conference and say, ‘We are raising $500,000 in Series A at $1.00 a share. Please see me and I’d love to talk to you about it.’ In fact, this was illegal. It was also illegal to blog or Tweet or use Facebook to try to raise money. Many people broke the rules. Some got in a lot of trouble.”
Here is an example in NY Times.
“Now, under rules effective September 23, 2013, you CAN generally solicit your all-accredited investor offering under Rule 506(c) of Regulation D; but if you do, you have to do the following:
- Only take money from accredited investors. (Accredited investors are, most typically, individuals with a net worth greater than $1M excluding their primary residence (but taking into account debt on that residence in excess of its FMV) or individuals with incomes in excess of $200,000 in the last two years with the expectation of the same in the current year or $300,000 with spouse.)
- Take reasonable steps to verify the accredited investor status of your investors. This means reviewing Forms W-2, or other personal financial statements of investors. You can no longer rely on a check-the-box one-page certification.
- Check a box on your Form D that you generally solicited.
There are definitely pros and cons of generally soliciting. I’ve listed some of the pros and cons below. I am happy to discuss on the phone!”
- The ability to reach a wider audience
- The possibility of closing your round faster.
- Increased recognition of your business and your brand.
- The added burden of taking reasonable steps to verify the accredited investor status of your investors; reviewing Forms W-2 or similar financial information, and keeping records that you did so. Some investors who would have otherwise invested may refuse to invest when you request this information.
- It will take more time to undergo the document review referenced in the first bullet point above than what is required in a non-generally solicited Rule 506(b) offering. If you want to keep your securities offering as simple as possible from a legal point of view, it is easier to accept the one-page certifications from investors in a non-generally solicited offering than it is to undergo the diligence and record keeping steps of taking additional steps to verify the accredited investor status of your investors in a generally solicited offering.
- Giving up a fall back securities law exemption. If you generally solicit, you probably can’t argue in the alternative that your offering was not a public offering under Section 4(a)(2) of the Securities Act of 1933, as amended.
- Federal regulatory uncertainty. The SEC has proposed rules that will make generally soliciting much, much more difficult. It is unclear when those rules will go into effect and what they will ultimately look like, and what the transitional rules will be.
- Potential state regulatory uncertainty. See New York, for example. Is an advance filing required under New York State law?
- Arguably a greater risk of regulatory scrutiny than a non-generally solicited offering.
- Once you go 506(c), you can’t go back, at least with respect to the pending offering.
- The risk that strong investors, who bring more to the company than their cash (i.e., their reputation for picking winners, mentoring skills, industry knowledge, etc.) will be less interested in investing in a start-up that has raised money in a less discriminate fashion through general solicitation.
- The risk of raising questions about your company’s financial position to customers and other third parties.
- Potential integration of a new 506(c) round with a prior 506(b) offering, requiring you to go back to your investors in your prior 506(b) offering and collect from those investors the additional verification information.