Nov 6, 2013 - The Securities Act of 1933 requires that all securities offerings be registered with the SEC unless .... b
AMENDMENTS TO REGULATION D AND HOW THEY MAY AFFECT PRIVATE FUNDS November 6, 2013
Presented by: Arina Shulga, Esq. Shulga Law Firm, P.C.
[email protected] (646) 481-8001
Overview of Securities Laws The
Securities Act of 1933 requires that all securities offerings be registered with the SEC unless an exemption from registration is available. Most common exemption: Rule 506 of Regulation D (90-95% of all Regulation D offerings) According to the SEC, in 2012, $899 billion was raised in Rule 506 transactions.
Old Rule 506 (now Rule 506(b)) Permits
sales of an unlimited amount of securities to unlimited number of accredited investors and up to 35 nonaccredited but sophisticated investors Issuers must provide disclosures to nonaccredited investors Issuer must be available to answer questions No general solicitation or advertising Resale limitations
New Rule 506(c) Offering
is made ONLY to accredited investors General solicitation and advertising are now permitted Issuer must take reasonable steps to verify that all purchasers are accredited investors
Reasonable Steps to Verify It
is a fact-specific determination Issuer should consider a number of factors, such as: ◦ The nature of the purchaser and the type of accredited investor it claims to be; ◦ The amount and type of information that the issuer has about the purchaser; and ◦ The nature of the offering (ex: minimum investor amount). Must
retain adequate records.
Four non-exclusive verification methods: Verification
on the basis of net income (W-2, 1040, Schedule K-1) Verification on the basis of net worth (bank statements, brokerage statements, etc. and a written statement re: liabilities) Third-party verification (a letter from a registered broker-dealer, attorney, accountant) Verification by means of existing relationship (for prior investors in Rule 506(b) offerings)
3(c)(1) and 3(c)(7) Funds The
SEC made it clear that privately offered funds that rely on Section 3(c)(1) or 3(c)(7) of the Investment Company Act of 1940 can engage in general solicitation and advertising without losing their ICA exemptions.
CFTC Exemptions Engaging
in offerings under Rule 506(c) will impact the availability of certain exemptions under the CFTC rules, including the exemption from registration as a CPO under CFTC Rule 4.13(a)(3) and the “lite touch” registration under Rule 4.7. Currently, Rules 4.13(a)(3) and 4.7 require that the fund be offered and sold “without marketing to the public”.
Practical Considerations
Additional due diligence on investors Funds need to have policies and procedures that address new compliance requirements Funds need to review their offering literature, including general solicitation materials, to ensure that they are reasonably designed to prevent the use of fraudulent or materially misleading communications. Advisers that are registered with the SEC must continue to comply with rules relating to advertising under the Advisers Act. CPOs must continue to comply with the applicable CFTC and NFA rules. Funds need to comply with any applicable non-U.S. regulatory frameworks, such as under the Alternative Investment Fund Managers Directive.
Bad Actor Disqualification Section
926 of the Dodd-Frank Wall Street Reform and Consumer Protection Act requires the SEC to adopt rules to disqualify certain offerings from reliance on Rule 506 of Regulation D. The SEC implemented these rules effective September 23, 2013 as new Rule 506(d).
Scope of the Rule Disqualification
applies only for triggering events that occur after September 23. Pre-existing matters are subject to mandatory disclosure. Rules apply to: ◦ Issuers, their affiliates, ◦ Directors, executive officers and other officers who participate in the offering, ◦ Beneficial owners of 20% or more of issuer’s outstanding voting equity securities, ◦ Promoters, compensated solicitors.
With respect to hedge funds, rules also apply to: Investment
managers of pooled investment funds; Directors, executive officers, other officers participating in the offering; GPs and managing members of such investment managers; and Directors and executive officers of such GPs and managing members and their other officers participating in the offering.
Disqualifying Events Criminal
convictions of any felony or misdemeanor in connection with: ◦ The purchase or sale of a security ◦ Making a false filing with the SEC ◦ The conduct of the business of an underwriter, broker, dealer, municipal securities dealer, investment adviser or paid solicitor of purchasers of securities.
Must
have occurred within ten years of the proposed sale of securities or five years in the case of the issuer and its affiliates.
Disqualifying Events Court
injunctions and restraining orders (issued within the last five years and currently in effect) in connection with: ◦ The purchase or sale of a security ◦ Making a false filing with the SEC ◦ The conduct of the business of an underwriter, broker, dealer, municipal securities dealer, investment adviser or paid solicitor of purchasers of securities.
Disqualifying Events Final orders of certain state and federal regulators (including the CFTC) issued within 10 years of the proposed sale of securities SEC disciplinary orders SEC cease-and-desist orders SEC stop orders Suspension or expulsion from membership in an SRO or from association with an SRO member US Postal Service false representation orders
Exception; Waivers Reasonable
Care exception applies when the issuer can show that it did not know and, in the exercise of reasonable care, could not have known that a covered person with a disqualifying event participated in the offering. Waiver for good cause shown. Waiver based on determination of issuing authority.
Proposed Rules On
July 10, 2013 the SEC issued proposed amendments to Regulation D to address concerns that may arise in connection with general solicitation and advertising in Rule 506(c) offerings.
Form D The
rules propose requiring to file initial Form D at least 15 days before conducting any sales if the issuers rely on Rule 506(c). An amended Form D would have to be filed within 30 days after the termination of any Rule 506 offering (whether or not the offering completes its sale or is terminated by the issuer). Additional disclosures in Form D.
Rule 507 Disqualification An
issuer would be disqualified automatically from using Rule 506 in any future offering for one year of the issuer did not not comply within the past five years, with the Form D filing requirements in a Rule 506 offering.
Required Legends - Rule 509 The
new proposed Rule 509 would require issuers to include certain legends in any Rule 506(c) general solicitation materials. Additional legends for private funds. If private fund offering materials include performance data, private funds will have to add additional legends and disclosures.
Amendments to Rule 156 The
SEC proposes to apply the requirements of this Rule to the sales literature of private funds whether or not such funds use general solicitation in their private offerings. The Rule provides guidance on the types of information in investment company sales literature that could be misleading for the purposes of securities laws (Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act).
Proposed Rule 510T Temporary
(2 years) Requires issuers to submit to the SEC any written general solicitation materials to be used in a Rule 506(c) offering no later than the date of first use. Exemption from registration provided in Rule 506 would not be available to an issuer that is subject to any order, judgment or decree for failure to comply with Rule 510T.
Questions for Discussion What
is the potential impact of the proposed amendments on small entities? Small private funds? Do you agree with proposed requirements to include legends on general solicitation materials and to provide additional disclosures related to performance data?
Questions for Discussion Some
have expressed concern that eliminating the prohibition against general solicitation may create more opportunities for private funds to distribute misleading and fraudulent information. ◦ Do you agree? ◦ Would you recommend content restrictions? ◦ Should performance data be allowed to be included in general solicitation materials?
Questions for Discussion How
do different types of private funds (hedge funds, private equity funds, venture capital funds, etc.) calculate and present performance? Should private funds be subject to standardized performance reporting? If so, what reporting standards should apply? What type of general solicitation is likely to be used by private funds (print ads, TV, the Internet, radio?) Are there certain types of media that present heightened investor protection concerns?
Questions for Discussion Should
the definition of “accredited investor” as it relates to natural persons be amended? Currently “accredited investor” is: ◦ a natural person who has individual net worth, or joint net worth with the person’s spouse, that exceeds $1 million at the time of the purchase, excluding the value of the primary residence; OR ◦ a natural person with income exceeding $200,000 in each of the two most recent 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.
Contact Information Arina Shulga Shulga Law Firm, P.C. 99 Madison Avenue, 5th Floor New York, NY 10016 Phone: (646) 481-8001 Email:
[email protected] Twitter: @BusinessLawPost Blog: http://www.businesslawpost.com Facebook: facebook.com/ShulgaLawFirm
