SEC Provides Additional Guidance For Rule 506(c) Offerings
On January 23, 2014, the Securities and Exchange Commission (the “SEC”) issued new guidance concerning Rule 506(c) in its Compliance and Disclosure Interpretations. In the Compliance and Disclosure interpretations, the SEC addresses Rule 506 offerings that commenced prior to Rule 506(c)’s effectiveness on September 23, 2013.
Rule 506. Rule 506 provides two different ways of conducting a securities offering that is exempt from registration: Rule 506(b) and Rule 506(c). Rule 506(b) is a long-standing rule. Rule 506(c) was added in 2013 to implement a statutory mandate under the JOBS Act.
Overview of Rule 506 Offerings
Rule 506(b). Rule 506(b) is a “safe harbor” for the non-public offering exemption in Section 4(a)(2) of the Securities Act, which means it provides specific requirements that, if followed, establish that a transaction falls within the Section 4(a)(2) exemption. Rule 506 does not limit the amount of money a company can raise or the number of accredited investors it can sell securities to, but to qualify for the safe harbor, it company must:
♦ not use general solicitation or advertising to market the securities;
♦ not sell securities to more than 35 non-accredited investors (unlike Rule 505, all non-accredited investors, either alone or with a purchaser representative, must meet the legal standard of having sufficient knowledge and experience in financial and business matters to be capable of evaluating the merits and risks of the prospective investment);
♦ give non-accredited investors specified disclosure documents that generally contain the same information as provided in registered offerings (the company is not required to provide specified disclosure documents to accredited investors, but, if it does provide information to accredited investors, it must also make this information available to the non-accredited investors as well);
♦ be available to answer questions from prospective purchasers who are non-accredited investors; and
♦ provide the same financial statement information as required under Rule 505.
Rule 506(c). To implement Section 201(a) of the JOBS Act, the SEC promulgated Rule 506(c) to eliminate the prohibition on using general solicitation under Rule 506 where all purchasers of the securities are accredited investors and the issuer takes reasonable steps to verify that the purchasers are accredited investors.
Under Rule 506(c), issuers may offer securities through means of general solicitation, provided that:
♦ all purchasers in the offering are accredited investors,
♦ the issuer takes reasonable steps to verify their accredited investor status, and
♦ certain other conditions in Regulation D are satisfied.
An “accredited investor” is:
♦ a bank, insurance company, registered investment company, business development company, or small business investment company;
♦ an employee benefit plan (within the meaning of the Employee Retirement Income Security Act) if a bank, insurance company, or registered investment adviser makes the investment decisions, or if the plan has total assets in excess of $5 million;
♦ a tax exempt charitable organization, corporation or partnership with assets in excess of $5 million;
♦ a director, executive officer, or general partner of the company selling the securities;
♦ an enterprise in which all the equity owners are accredited investors;
♦ an individual with a net worth of at least $1 million, not including the value of his or her primary residence;
♦ an individual with income exceeding $200,000 in each of the two most recent calendar years or joint income with a spouse exceeding $300,000 for those years and a reasonable expectation of the same income level in the current year; or
♦ a trust with assets of at least $5 million, not formed only to acquire the securities offered, and whose purchases are directed by a person who meets the legal standard of having sufficient knowledge and experience in financial and business matters to be capable of evaluating the merits and risks of the prospective investment.
Purchasers receive “restricted securities” in a Rule 506 offering. Therefore, they may not freely trade the securities after the offering, as explained below under the heading “Resales of restricted securities.”
Question: An issuer commenced an offering in reliance on Rule 506 before September 23, 2013, the effective date of the new Rule 506(c) exemption. The issuer decides, at some point after September 23, 2013, to continue that offering as a Rule 506(c) offering under the transition guidance in Securities Act Release No. 9415 (July 10, 2013). In such circumstances, is the issuer required to take “reasonable steps to verify” the accredited investor status of investors who purchased securities in the offering before the issuer conducted the offering in reliance on Rule 506(c)?
Answer: No. For an offering that commenced before September 23, 2013 and that, pursuant to the Commission’s transition guidance, the issuer continues in accordance with Rule 506(c) after that date, the issuer must take reasonable steps to verify the accredited investor status of only investors who purchase securities in the offering after the issuer begins to make offers and sales in reliance on Rule 506(c). The issuer must amend any previously-filed Form D to indicate its reliance on the Rule 506(c) exemption for its offering. See Securities Act Rules C&DI 260.05. [Jan. 23, 2014]
Question: An issuer commenced a Rule 506 offering before September 23, 2013 and made sales either before or after that date in reliance on the exemption that, as a result of Securities Act Release No. 9415 (July 10, 2013), became Rule 506(b). The issuer now wishes to continue the offering in reliance on Rule 506(c). Can the issuer rely on the transition guidance in Securities Act Release No. 9415 that permits switching from Rule 506(b) to Rule 506(c) if it already sold securities to non-accredited investors before relying on the Rule 506(c) exemption?
Answer: Yes, as long as all sales of securities in the offering after the issuer begins to offer and sell in reliance on Rule 506(c) are limited to accredited investors and the issuer takes reasonable steps to verify the accredited investor status of those purchasers. [Jan. 23, 2014]
For further information about this securities law blog post, please contact Brenda Hamilton, Securities Attorney at 101 Plaza Real S, Suite 202 N, Boca Raton, Florida, (561) 416-8956, by email at [email protected] or visit www.securitieslawyer101.com. This securities law blog post is provided as a general informational service to clients and friends of Hamilton & Associates Law Group and should not be construed as, and does not constitute, legal and compliance advice on any specific matter, nor does this message create an attorney-client relationship. Please note that the prior results discussed herein do not guarantee similar outcomes.
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