On August 29, 2012, the SEC voted, by a 4-1 margin, to issue a proposed rule (“proposed rule”) that would eliminate the current ban on general solicitation and general advertising (collectively “General Solicitation”) under Rule 506 and Rule 144A of the 1933 Securities Act. New rule 506(c) of Reg. D is the first rule proposed for implementing the Jumpstart Our Business Startup Act (the “JOBS Act”) and would allow issuers to conduct general solicitation and general advertising in securities offerings by using virtually any means available,, including the internet, provided purchasers are accredited investors (“AIs”) or qualified institutional buyers (“QIBs”), in the case of Rule 144A sales. In order to take advantage of the proposed rule, the SEC specified at that an issuer must reasonably believe, and take “reasonable steps” to verify, that investors are IAs and QIBs. Rather than enumerating specific steps an issuer would have to satisfy, the commission explained that an objective analysis based on the facts and circumstances of each transaction would be applied to determine whether reasonable steps were taken. Among the objective factors cited were the following:
- The nature of the purchaser and the type of accredited investor they claim to be;
- The amount and type of info that the issuer has about the purchaser;
- The nature of the offering, such as the manner in which the purchaser was solicited to participate and the terms of the offering, such as the minimum investment amount.
Nature of Purchaser:
Rule 501(a) of the 1933 Act sets forth various classed of IAs including natural persons with over $1millon in net worth (excluding the value of their primary residence), registered investment companies and 501(c)(3) organizations with $5 million in total assets, among others. The Commission pointed out that the reasonable steps needed to verify the status of a registered broker dealer (which can be done readily with a internet search on Edgar) will not be the same as those needed to verify the qualification of a natural person. When ready verification is more difficult, such as in the case of a natural person, the more information an issuer has indicating a prospective purchaser is accredited the fewer steps that need to be taken, and vise versa. Publically available information, in federal or state securities filings, disclosing a prospective purchaser’s qualification, copies of W-2s or where the prospective purchaser works in the field where industry publications disclose average annual salary information for certain levels of employees would be information an issuer may reasonable rely on to determination qualification. Verification of AI status by a third party such as a registered broker dealer, attorney or accountant, where is the issuer has a reasonable basis to rely on such third party, would also be objective criteria by which to make a reasonable determination as to status.
Nature and Terms of the Offering:
The manner and terms of an offering is a further factor in evaluating whether reasonable steps were taken to verify qualification. If a solicitation was conducted on a website accessible to the general public or through a widely disseminated email, an issuer is likely to be required to take greater measures than if investors were culled from a pre-screened database of AIs compiled by a registered broker dealer, for example. In the event that solicitation was conducted on a broad scale basis having prospective investors simply check a box on the subscription document would not suffice to satisfy the reasonable verification standard, absent other information regarding such investor’s qualification. However, having a third party, upon which the issuer could reasonable rely, verify such investor’s status may be sufficient. Additionally, an investor’s ability to meet a high minimum initial investment would be relevant to making a reasonable assessment of a purchaser’s status – provided the investment is not financed by the issuer or any third party. Regardless of the factors involved in each individual determination, the Commission pointed out that it is important for issuers to retain adequate records that document the steps taken to verify that a purchaser was an accredited investor.
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