On August 29, 2012, the Securities and Exchange Commission (the “SEC”) released proposed amendments to Rule 506 and Rule 144A promulgated under the Securities Act of 1933, as amended (the “Act”), as mandated by Section 201(a) of the Jumpstart Our Business Startups Act. Both amendments would allow issuers to conduct general solicitation and general advertising in connection with offerings of securities exempt from registration under Rule 506 or Rule 144A, as long as certain requirements are met. The proposed rules would also revise Form D to include a box for issuers to indicate they are using general advertising and solicitation in conjunction with a Rule 506 offering.
Proposed Amendment to Rule 506. The proposed amendment only affects Rule 506 and does not affect other offerings under Regulation D. The SEC’s proposed amendment would create a new Rule 506(c) allowing for general solicitation and general advertising if the issuer:
- takes reasonable steps to ensure that the purchasers of the securities are accredited investors;
- reasonably believes that all actual purchasers are accredited investors at the time of the sale; and
- satisfies all terms and conditions of Rule 501, Rule 502(a) and Rule 502(d).
The SEC also decided to keep Rule 506(b) as it stands currently. This allows for issuers to continue to conduct offerings under the Rule 506 without complying with the new requirement to take reasonable steps to verify that purchasers are accredited investors (as further discussed below) and for sales to up to 35 non-accredited investors who are sophisticated investors under Rule 506, as long as no general solicitation or general advertising is done.
Reasonable Steps to Verify Accredited Investor Status. Due to the numerous types of accredited investors and offerings that could be conducted under Rule 506, the SEC declined to propose specific methods of how an issuer should verify that all of the purchasers in a Rule 506(c) offering are accredited investors.
Instead, the SEC listed out examples of factors the issuer should consider. These include:
- the nature of the purchaser and the type of accredited investor the purchaser claims to be;
- the amount and type of information that the issuer has about the purchaser; and
- the nature of the offering, including the manner in which the purchaser was solicited and the terms of the offering.
The SEC recommends that an issuer consider the publicly available information on the purchaser, as well as available third-party information. The SEC does not believe that simply having an investor check a box in a questionnaire or sign a form would be sufficient to constitute a reasonable attempt to verify accredited investor status. Issuers should retain records on what steps were taken to verify accredited investor status, as an issuer claiming an exemption from registration under the Act has the burden of proving it was entitled to the exemption.
Proposed Amendment to Rule 144A. Similar to the proposed amendment to Rule 506, the proposed amendment to Rule 144A would allow issuers to conduct general solicitation and general advertising when offering securities under Rule 144A. The proposed changes to Rule 144A(d)(1) eliminate restrictions as to who may be “offered” Rule 144A securities. By doing this, general solicitation and general advertising may be conducted in a Rule 144A offering, as long as the actual sales are only made to qualified institutional buyers.
Other Securities Laws Implications. The SEC acknowledged that venture capital funds, hedge funds and similar private investment vehicles rely Rule 506 and, on Section 3(c)(1) or Section 3(c)(7) for an exemption from registration under the Investment Company Act of 1940, as amended. The SEC said that offerings marketed with general solicitation or general advertising under Rule 506(c) will not constitute a “public offering” for the purpose of federal securities laws, including the exemption to registration as an investment company under Section 3(c)(1) and Section 3(c)(7). Likewise, the SEC explained that offerings marketed with general solicitation or general advertising under Rule 506(c) or Rule 144A within the United States will not be integrated with Regulation S offerings.
The SEC is seeking general comments to these amendments, including whether the SEC should adopt specific rules on how issuers should verify accredited investor status. The original release is available on the SEC’s website at http://www.sec.gov/rules/proposed/2012/33-9354.pdf.