Private Placement Offerings of Securities

 

For entrepreneurs seeking to raise money for a business or investment opportunity, one alternative is to make a private placement offering of securities to potential investors. A private placement offering is a limited offering of securities, such as shares of stock of a corporation or interests in a partnership or limited liability company, which is completed in such a manner that it is exempted from the public registration requirements of the federal and state securities laws.

The most common method of insuring that an offering of securities is an exempt private placement offering is to comply with the requirements of Regulation D adopted by the United States Securities and Exchange Commission. The provisions of Regulation D are discussed below.

Regulation D

Regulation D, which provides guidelines for completing a private placement offering, is a series of 6 rules. Rule 501 contains definitions, and Rules 502 and 503 include general terms and conditions which are applicable to all offerings made in reliance on Regulation D. The two most significant of these general terms and conditions are (i) the limitation that offerings made in reliance on Regulation D may not be made through any type of general solicitation, such as public advertisements or notices, or publicly advertised meetings or seminars, and (ii) the limitation that restrictions must be imposed on the ability of the purchaser to subsequently resell any securities which were acquired in an offering made in reliance on Regulation D.

Regulation D also includes three separate transactional exemptions (referred to as the Rule 504, Rule 505 and Rule 506 exemptions), each of which has its own unique requirements, restrictions and limitations. An issuer or entrepreneur seeking to make an exempt offering under Regulation D must structure the offering in such a way that it complies with all of the applicable terms and conditions of one of these transactional exemptions.

Rule 504 Exemption. The Rule 504 exemption is the most basic type of private placement offering authorized by Regulation D. In addition to compliance with the general terms and conditions described above, its primary requirements are:

  • No more than $1,000,000 of securities may be are sold in any consecutive 12-month period;
  • There is no specific limit on the number of investors who may participate; and
  • There is no requirement regarding the specific types of written disclosure information which must be given to prospective investors before accepting their investment. (Although there is no requirement regarding the specific types of disclosure information which must be provided, it is important to remember that any information which is provided must be truthful, because the securities laws include anti-fraud provisions, which make it illegal to use intentionally false information, or to make misrepresentations, in the process of selling securities).

Rule 505 Exemption. The Rule 505 exemption applies to offerings in which no more than $5,000,000 of securities are sold in any consecutive 12-month period. In addition to this dollar limitation, and compliance with the general terms and conditions described above, its primary requirements are:

  • Sales of securities may be made to no more than 35 “non-accredited” investors but may also be made to an unlimited number of “accredited investors.”
  • Specific types of financial and non-financial disclosure information must be given to any non-accredited investors a reasonable amount of time prior to acceptance of an investment from them. The requirement to provide specific types of disclosure information does not apply to accredited investors. The disclosure information which must be provided is the same type of detailed information which would be required in a public registration statement.

The term “Accredited Investor” is defined in Rule 501(a) of Regulation D and includes both individuals and organizations. The principal categories of individual accredited investors are:

  1. Directors, executive officers, and general partners of the issuer, including general partners of general partners in two-tier syndicating;
  2. Purchasers whose net worth either individually or jointly with their spouse equals or exceeds $1 million; and
  3. Natural person purchasers who have “income” in excess of $200,000 in each of the two most recent years and who reasonably expect an income in excess of $200,000 in current year (or $300,000, jointly with their spouse).

Rule 506 Exemption. The Rule 506 exemption is similar to Rule 505 except that there is no dollar limit on the amount of securities which may be sold under Rule 506. In addition to compliance with the general terms and conditions described above, its primary requirements are:

  • Restrictions on the number of investors are the same as Rule 505. Sales of securities may be made to no more than 35 “non-accredited” investors but may also be made to an unlimited number of “accredited investors.”
  • The requirement to provide specific types of disclosure information is the same as Rule 505. The required information must be given to any non-accredited investors a reasonable amount of time prior to acceptance of an investment from them, and there is no requirement to deliver specific disclosure information to accredited investors.
  • The issuer must obtain sufficient background information about each non-accredited investor in order to be able to make a subjective determination that the investor is a “sophisticated investor” who has sufficient knowledge and experience in financial and business matters that he or she is capable of evaluating the investment.

Compliance with Regulation D is not the exclusive basis for claiming an exemption from registration. In situations in which an entrepreneur is unable or unwilling to comply with all of the requirements of Regulation D (e.g. offerings which are sold to more than 35 non-accredited investors, or offerings in which it is not possible to comply with the specific information requirements of Rule 505 or 506), it is possible to rely on a general exemption from registration for transactions “�not involving any public offering.”

However, the requirements which must be met in order to qualify for this general exemption from registration are not as clearly defined as the requirements of Regulation D, and may vary from case to case depending upon the particular facts and circumstances. As a result, the most reliable method for ensuring that a planned offering will qualify for exemption from the public registration requirements of the securities laws is to structure it in such a way that it will satisfy the requirements of Regulation D.

Gary S. Joiner is a shareholder in Frascona, Joiner, Goodman and Greenstein, P.C., a Colorado law firm. His practice areas include Real Estate,Association Law, Business Law, Corporations,Securities, Partnership Agreements, Finance, Taxation, Estate Planning, Wills & Trusts, and Probate.Contact Gary Joiner.

Disclaimer — Content is general information only. Information is not provided as advice for a specific matter, nor does its publication create an attorney-client relationship. Laws vary from one state to another. For legal advice on a specific matter, consult an attorney.

GARY S. JOINER