Rule 502(c) ("Rule 502(c)") of the Securities Act of 1933, as amended (the "Securities Act"), prohibits an issuer from offering or selling securities by any form of general solicitation or general advertising when conducting certain offerings exempt from registration under the safe harbors provided under Regulation D ("Reg D") of the Securities Act. Many have felt that over the years this prohibition has impaired capital formation and that it would be more appropriate to regulate actual sales rather than offers. In order to address this, Congress passed the Jumpstart Our Business Startups Act (the "JOBS Act") directing the Securities and Exchange Commission (the "SEC" or "Commission") to relax the prohibition against general solicitation and general advertising for certain offerings made in reliance on Rule 506 of the Securities Act. The amendments to Rule 506 adopted by the SEC became effective in July 2013. The amendments implemented a bifurcated approach, allowing for private placements to be conducted in reliance on Rule 506(b) without general solicitation and general advertising and for certain exempt offerings to be conducted using general solicitation or general advertising in reliance on Rule 506(c). However, as an additional investor protection measure, an issuer relying on the Rule 506(c) exemption and using general solicitation must limit sales to accredited investors and must take reasonable steps to verify that all purchasers of the securities are accredited investors.
An issuer might seek to rely on Section 4(a)(2) of the Securities Act ("Section 4(a)(2)"), which provides an exemption from the registration requirements under Section 5 of the Securities Act for a transaction undertaken by an issuer that does not involve any public offering. An issuer also might rely on the Rule 506(b) safe harbor under the Securities Act, which is a non-exclusive safe harbor, and/or Section 4(a)(2) if it does not use general solicitation. However, an issuer that relies on Rule 506(c) would not be able to rely on the Section 4(a)(2) statutory private placement exemption should the issuer fail to meet a condition of the Rule 506(c) exemption. Following the July 2013 effective date of the Rule 506 amendments creating the bifurcated approach to the exemptions, there was increased interest in the types of communications that may constitute "general solicitations" despite the fact that the SEC's amendments did not make any change to the communications rules.
Neither the JOBS Act nor SEC rules and regulations have explicitly defined the terms "general solicitation" or "general advertising." However, Rule 502(c) provides some guidance by listing examples of communications that may be viewed as general solicitation and general advertising, including (1) "any advertisement, article, notice or other communication published in any newspaper, magazine, or similar media or broadcast over television or radio" and (2) "any seminar or meetings whose attendees have been invited by any general solicitation or general advertising." Over the years, through a series of no-action letters, the SEC Staff has provided guidance regarding the types of communications that would be viewed as constituting a general solicitation. Following the July 2013 effective date of Rule 506(c), the SEC Staff also released certain Compliance and Disclosure Interpretations ("C&DIs") that essentially affirmed and restated the guidance contained in the prior 40 years of no-action letters. Consistent with prior guidance, the C&DIs make clear that the SEC Staff would consider the nature and "breadth" of a communication, based on factors such as the number of people who have received the communication, the relationship of those persons to the issuer or the issuer's agent, the financial sophistication of such persons, and the physical form of the materials containing the communication.1 Below we summarize the guidance.
General Solicitation: Establishing a Pre-Existing, Substantive Relationship
A communication by an issuer or a person acting on the issuer's behalf with a prospective investor with which the issuer or its agent has a pre-existing substantive relationship does not constitute a general solicitation.2
What is a Pre-Existing Relationship?
SEC Staff guidance explains that a relationship is "pre-existing" if it was formed prior to the commencement of the issuer's securities offering or was "established through either a registered broker-dealer or investment adviser prior to the registered broker-dealer's or investment adviser's participation in the offering." 3 The SEC Staff further clarified that whether a relationship is pre-existing depends largely on whether there is "sufficient time between establishment of the relationship and the making of an offer so that the offer is not considered made by general solicitation or advertising."4
Such relationships must exist independently from any investment discussions. In a no-action letter involving an investment bank, E.F. Hutton & Co. ("E.F. Hutton"), the SEC Staff clarified that, although E.F. Hutton had expressed its intent to send offering materials to investors with whom it had established prior business relationships in connection with specific investment procedures it had developed, it was unclear whether these relationships were formed as a result of discussions unrelated to general solicitation conducted in connection with the proposed offering.5 Similarly, in another instance, the SEC Staff determined a communication made by a selling agent on behalf of a trust to the trust's customers constituted general solicitation, because neither the selling agent nor the trust had shown that it had formed relationships with the customers prior to the trust's securities offering.6
How does one Establish a Pre-Existing Relationship?
The SEC Staff has noted there is no minimum waiting period required to demonstrate that a relationship is pre-existing but, rather, "the relationship must be established prior to the time the registered broker-dealer or investment adviser began participating in the offering."7 Many funds conduct continuous offerings, making it difficult to know exactly when an offering begins for all interested investors, so the SEC Staff has established that the timing is determined on a per-investor basis. In Lamp Technologies, Inc., the SEC Staff determined that posting private fund investment information to a password-protected website was not general solicitation, because, in that case, the fund instituted a 30-day waiting period for each investor before the investor could participate in an offering.8 Likewise, the SEC Staff has determined that requiring that investors undergo a vetting process9 or complete a time-intensive questionnaire10 (rather than imposing a specified waiting period) may evidence that a relationship was pre-existing.
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