The Jumpstart Our Business Startups Act (the “Act”) was signed into law by President Obama on April 5, 2012. The Act effectively increases the number of choices private companies have to raise capital. Certain provisions of the JOBS Act are effective immediately while others require rulemaking by the Securities and Exchange Commission (“SEC”).
The Act gives venture capital funds and private equity investors increased flexibility to invest in start-ups and use equity to compensate employees without having to comply with the registration and reporting requirements of the Securities Exchange Act of 1934. The Act also increases number of shareholders necessitating a company to register with the SEC from 499 to 1,999.
Notably, the Act (i) eliminates the prohibition on “general solicitation” and “general advertising” in private placements under Rule 506 of Regulation D to accredited investors and (ii) permits the raising of capital in certain “crowdfunding” transactions.
We have not formed a definitive view of the Act as yet, given that the provisions of the Act are new and in cases that are perhaps most relevant to you (general solicitation and crowdfunding ), still subject to SEC rulemaking. We expect to update this section as the SEC rulemaking process concludes.
- Relaxation of IPO Process for “emerging growth companies”
- The Act creates a new category of issuer – the Emerging Growth Company (“EGC”), which describes any issuer with less than $1 billion in revenues in its last fiscal year and continues to include these issuers until the earlier of 1) the end of the fiscal year in which its revenues exceed $1 billion, 2) the end of the fiscal year following the fifth anniversary of its IPO, 3) the date on which it has issued more than $1 billion in non-convertible debt in a 3-year period or 4) the date it becomes a large accelerated filer with a public float of $700 million or more. EGCs have reduced financial reporting and executive compensation disclosure requirements in connection with their IPOs and continue to enjoy these benefits for up to 5 years. SEC guidance may be necessary before some of the benefits can be fully realized, such as confidential SEC staff review of draft IPO registration statements.
- Expansion of permissible communications
- The Act will legalize currently prohibited general solicitations and general advertising in private sales exclusively to “accredited investors” under Rule 506 of Regulation D, and non-issuer resales to “qualified institutional buyers” under Rule 144A. Under the Act, issuers will be able to advertise the attractive qualities of their securities to the general public when these securities are offered pursuant to Rule 506 or Rule 144A. The Act eliminates “gun-jumping” constraints on certain pre-IPO communications by EGCs and their underwriters with qualified institutional buyers and institutional accredited investors. Also with immediate effect, but with SEC and/or Financial Industry Regulatory Authority (FINRA) guidance expected, the Act lifts significant restrictions on research analyst coverage and participation in EGC IPOs.
- Crowdfunding exemption for domestic private issuers
- The Act creates a new exemption from Securities Act registration requirements for “crowdfunding” – although the crowdfunding business is already well under way, as evidenced by the existence of many online marketplaces, the practice has been technically illegal until now. Domestic private issuer will be able to raise a limited amount of money from large groups of small investors, whether or not they are accredited, without registration under federal or state securities laws. Crowdfunding transactions must be conducted through SEC-registered broker-dealers or a new category of intermediaries, SEC-registered portals. State “blue sky” laws are preempted. Companies may raise a maximum of $1 million per year through crowdfunding.
- Further, each person from a crowd will be capped on an income-based sliding scale such that he or she will be able to invest. (1) the greater of $2,000 or 5% of the investor’s annual income or net worth within any 12-month period if either the investor’s annual net income or net worth is less than $100,000 and (2) the lesser of $10,000 or 10% of the investor’s annual income or net worth, not to exceed $100,000, if either the investor’s annual net income or net worth is equal to or greater than $100,000. Similar to 10b-5 liability registered companies face for material misstatements or omissions in their registration statements, private issuers, and their directors and executives, utilizing the crowdfunding exception, will be liable to each purchaser from a crowd for any material misstatements and/or omissions in any of their investment documents.
- Expansion of Regulation A for private issuers
- The Act increases the cap imposed by the Regulation A exemption from registration to $50 million within a 12-month period. State blue sky laws are pre-empted if these offerings are made on a national securities exchange or exclusively to “qualified purchasers” (as defined by the SEC).
- Increase to the 500 Shareholder Rule
- The Act raises the trigger for mandatory registration and reporting from 500 shareholders of any class of equity securities to 2,000 shareholders. The trigger does not take into account securities received by employees in exempt offerings under employee compensation plans, or by investors in exempt crowdfunding transactions.
When will each of the provisions of the Act become effective?
JOBS ACT PROVISION
EFFECTIVE DATE & OTHER IMPLEMENTATION CONSIDERATIONS
|Definition of an Emerging Growth Company becomes effective||April 5, 2012, the SEC should issue guidance regarding to the qualifications for EGC status|
|IPO Reforms for EGCs|
|Implementation of the relaxed IPO reforms for EGCs||April 5, 2012|
|An EGC is exempt from the requirement to hold shareholder advisory votes on executive compensation||April 5, 2012, the SEC should make clarifying changes to Form 20-F to cover foreign private issuers.|
|Reduced public company reporting requirements for EGCs who have an IPO||April 5, 2012|
|Relaxation of gun jumping rules – An EGC and its designees may “test-the-waters” or gauge investor interest in their securities prior to an offering through communications with QIBs or institutional accredited investors||April 5, 2012|
|500 Shareholder Rule Increased|
|The shareholder registration threshold in Section 12(g) of the Exchange Act is raised to 2,000 shareholders or 500 shareholders who are not accredited investors||April 5, 2012, the SEC should adopt safe harbor provisions for determining whether a holder of record is an accredited investor and can therefore be excluded from the shareholder count.|
The definition of “held of record” in Section 12(g)(5) of the Exchange Act is revised to exclude persons who received company securities pursuant to an equity compensation plan in an exempt transaction from the shareholder count for purposes of the Section 12(g) threshold. The SEC to conduct rulemaking to implement this change and to adopt safe harbor provisions that an issuer can follow when determining whether its securities are covered by the employee compensation plan exclusion.
|The definition of “held of record” in Section 12(g)(5) of the Exchange Act is revised to exclude persons who received company securities pursuant to an equity compensation plan in an exempt transaction from the shareholder count for purposes of the Section 12(g) threshold. The SEC to conduct rulemaking to implement this change and to adopt safe harbor provisions that an issuer can follow when determining whether its securities are covered by the employee compensation plan exclusion||April 5, 2012/no deadline for SEC Rulemaking|
|The SEC to conduct rulemaking to exclude, conditionally or unconditionally, a shareholder who acquired securities in an exempt crowdfunding transaction from the shareholder count for purposes of the Section 12(g) threshold||December 31, 2012 (270 days from enactment) – the SEC should clarify whether subsequent transferees are also excluded from the shareholder count for purposes of the Section 12(g) threshold.|
|Research Reports & General Solicitation|
|A broker-dealer is permitted to publish or distribute a research report related to an EGC prior to the EGC’s proposed IPO or other equity offering||April 5, 2012|
|Widespread advertising and other forms of “general solicitation” in private offerings in reliance on Rule 506 under Regulation D or Rule 144A under the Securities Act is permitted so long as all actual purchasers of the securities are accredited investors (under Rule 506 of Regulation D) or QIBs (under Rule 144A under the Securities Act)||July 4, 2012 (90 days from enactment) – SEC rulemaking is required by July 4, 2012 to implement these provisions.|
Like Rule 144A, the JOBS Act expressly requires that securities sold pursuant to Rule 144A be sold to persons the seller “reasonably believes” to be QIBs. The SEC should adopt a similar “reasonable belief” standard in its rules permitting general solicitation in sales to accredited investors pursuant to Rule 506.
|The SEC to review Regulation S-K to determine how its requirements can be updated to make EGC registration and reporting less burdensome. The SEC must then report the results of such review, along with related recommendations for improvements to Regulation S-K, to Congress||October 2, 2012 (180 days from enactment)|
|The SEC to issue rules exempting “crowdfunding” offerings by an issuer of up to an aggregate of $1 million annually, subject to certain restrictions||December 31, 2012 (270 days from enactment) – while the crowdfunding exemption is added to the federal securities as of April 5, 2012, the SEC is required to issue rules to implement the disclosure and filing obligations, disqualification criteria, funding portal registration requirements and other transfer restrictions within 270 days of enactment of the JOBS Act. Accordingly, as a practical matter, the crowdfunding exemption does not take effect until December 31, 2012 or upon such earlier date as the SEC issues rules to implement these crowdfunding provisions.|
|The SEC to issue rules to add a new securities registration exemption, modeled on current Regulation-A exemption, that would allow the issuance of up to $50 million of securities annually without registration||No deadline|
GAO to report to Congress on the impact of Blue Sky laws on offerings made under Regulation A of the Securities Act.
A special thanks goes out to Josh Buhler of Buhler Duggal & Henry, LLP for providing this section!