New and Evolving Area of Securities Law: Quasi-Public Offerings
THE RISE OF “QUASI-PUBLIC OFFERINGS” REFLECTIONS FROM THE NASAA CONFERENCE
As I prepare to deliver remarks at the NASAA Corporation Finance Training Conference in St. Louis this weekend, it has provided a cause for reflection on over three years marking the rise of what I would term as “quasi-public offerings”. Trends in corporation finance laws at both the State and Federal levels have been loosening the regulatory grip on small and emerging business capital formation, and, in the process re-making over 80+ years of venerable securities laws. The rise of “quasi-public offerings” is a big part of this story.
What is a “Quasi-Public Offering”
A long accepted trope in the securities laws industry is that an offering of securities must be either “public” in that it is a transaction registered with the proper regulatory authorities (State and Federal, for a typical interstate offering), or “private” in that it is an unregistered offering that is only open to select persons, who, generally, have a prior existing relationship with the company issuing securities.
But the ever increasing costs of conducting a public-offering, coupled with the meteoric rise in the popularity of crowdfunding as an aspect of a holistic capital formation plan have led to a chorus of voices, at all levels, calling for a more sensible and affordable route to public capital raising. The responses to these calls have been variable by State, and also at the Federal level. What is emerging, however, are regulatory seems in the legal fabric that are allowing businesses (primarily small and medium sized enterprises) to raise capital from the broader public without registering the transaction, provided that certain important regulatory safeguards are abided. Collectively, these emerging exemptions are what I have termed as “quasi-public offerings”. These channels have taken on various forms, including the following discussed below.
In 2011, with little fanfare, few spectators, and essentially no press concern, the securities administrator in the State of Kansas quietly enacted a new exemption from the registration requirements for public offerings of securities within its borders. The “Invest Kansas Exemption” (IKE), as originally enacted, permitted capital raises in Kansas of up to $1,000,000 by means of general solicitation (to both accredited and non-accredited investors) without registration and with minimal regulatory compliance features. Whether the administrator knew it at the time or not, Kansas had, in effect passed the United States’ very first securities based “crowdfunding” exemption.
Today, over three years later, fully 14 State jurisdictions have adopted some form of intrastate crowdfunding (by legislative or regulatory means), meaning small public capital raises involving only business and only investors from that specific State. This trend of expansion is continuing apace. Why? Because State regulators are becoming increasingly comfortable that these types of small “quasi-public offerings” can be a safe and effective manner for capital starved businesses to build important community based organizations that can establish and thrive without the necessity for scarce outside capital. I expect this trend to accelerate.1
Accredited Investor Crowdfunding – Rule 506(c)
In late 2013, the Securities and Exchange Commission put in force the first major set of “quasi-public offering” regulations on the Federal level—those relating to the new Rule 506(c) registration exemption (See 17 CFR 230.506(c)). The new Rule 506(c) permits offers to be made on an interstate basis to everyone, provided that the ultimate purchaser base is restricted to “accredited investors” only. This new Rule essentially establishes “accredited investor” crowdfunding, and creates a “quasi-public offering”, albeit with an ultimately restrictive purchaser base.
With a year of data in the books, it is clear that this Rule is working. Use of the Rule is trending upward, and it is emerging as the quasi-public offering of first instance for companies looking for capital beyond what intrastate crowdfunding can provide, and, specifically, in fields (such as technology and e-commerce) in which accredited investors are well versed. The fact that this represents a shift from a focus on who is being offered securities, to who is being sold securities is an extremely important fact, and, in my view, the most significant philosophical addition that Rule 506(c) has made to the body of securities laws.2
Regulation A+ is an extension of and expansion on an existing securities registration exemption called, you guessed it, “Regulation A”. Reg A permits offerings up to $5M, with scaled (reduced) disclosure requirements in the registration statement. Although Reg A has been around for a long period of time, it is underused and much maligned, primarily because the disclosure requirements are still time consuming and expensive, and, more importantly, it does not preempt State law review. As proposed by the SEC, however, Reg A+ would create a new “quasi-public offering” category for raises up to $50M, which would enjoy scaled disclosure and Federal preemption. It remains to be seen how the SEC will ultimately treat the definition of “qualified purchaser” in these offerings, and whether the Federal preemption issue will be satisfactorily resolved, but, nevertheless, many commentators believe that this Section of the JOBS Act of 2012 holds the most potential for meaningful securities offering reform.3
Follow the Trends; But Remain Cautious
I applaud the forward leaning regulators who are greeting some or all of these techniques with a welcoming—if prudently cautious—point of view. I believe that each of the foregoing has the potential to unlock capital for worthy businesses, and be done in a safe manner which protects the interests of the investing public.
Quasi-public offerings are, as discussed ever too briefly above, a new and evolving area of the securities laws. They hold the promise of broader and more cost effective access to capital for small and emerging enterprises. They are, however, also fraught with uncertainty, and a deceiving level of complexity. Any company consider conducting a capital raise—including using any of the techniques described above—should consult competent securities counsel prior to taking any action.
If you are interested in more detail related to your situation it is best to speak with an attorney.
1 For a summary of laws/regulations enacted as of July, 2014, see: http://www.crowdcheck.com/sites/default/files/Summary%20of%20Intrastate%20Crowdfunding%20Exemptions_0.pdf
2 For helpful and interesting statistic on the use of new Rule 506(c) after approximately 1 year, see: http://www.mofojumpstarter.com/2014/09/29/new-data-on-rule-506-offerings/?utm_source=feedburner&utm_medium=email&utm_campaign=Feed%3A+MoFoJumpstarter+%28MoFo+Jumpstarter%29
3 For a good, concise (but now somewhat dated) explanation of Reg A+ as proposed, see
Source: Smartup Legal