Two views of rule 504. One is from criminal and lawbreaker Gregory D Writer Jr. I think SFLK took the Writer view.
Private Placement or Public Offering?
The two seem to be merging in the venture capital world!
Gregory D. Writer, Jr.
CEO 1st Net Technologies, Inc.
Editor
Two very common terms in the start-up world of entrepreneurship now have acquired a very different twist. Most issuances of equity securities must be registered with the Securities and Exchange Commission. Registration documents include detailed company disclosures, historical financial statements, and third party, audits each of which takes time to assemble. The process requires many hours of assistance by attorneys and accountants and the SEC review can last from 60 to 120 days. Registration alone can cost a business thousands of dollars even before the offering raises any money.
A "private placement," however, is EXEMPT from federal registration. Exemptions have always been available under the Securities Act of 1933 ("the Act"), but the original exemption provisions (contained in sections 3(b) and 4(2) of the Act) were vague and, therefore, risky for business owners to invoke.
In 1982, the SEC adopted Regulation D, which set forth objective and quantifiable rules for exemptions from federal registration. Offerings exempt under these rules - 504, 505, and 506- have become the most common cost and time saving methods for small and growing businesses to raise capital from private investors.
These exemptions vary on the federal level and also from state to state. Companies must comply with various state exemptions as well. The unfortunate thing about our securities regulation is that there is no uniformity from state to state, nor among the states with the laws of the federal government. Thus, it can be very costly and confusing to comply with each states particular securities regulations.
Private placement offerings have been synonymous with "restricted stock" for as long as I have been in the business. Maybe you have seen the wording "Insert 144 legend here". This is part of the federal exemption that in layman's terms says that because this stock was not registered with the SEC you must hold the stock and not sell it for a period of 1 to 2 years. After 1 year, if there was a market for the stock you could sell the shares with certain restrictions based on market volume and the total shares outstanding. After a 2 year holding period there is no restrictions to the sale or transfer of the stock.
On the other hand, a public offering is typically a registered offering that is offered to the "general public" in a "public distribution" or "public solicitation". Where public and private offering start to get confusing is under federal exemption Regulation "D" rule 504. In 1993 the federal government amended rule 504 so that shares issued under this exemption could be issued without a restrictive 144 legend. Also, in certain states companies can advertise for investors and make a "general solicitation" and offer services to the "general public". Accordingly, when you comply with both the federal and state securities rules utilizing rule 504 you can effect what actually constitutes a private placement while doing a public offering of securities without registering the securities. In summation, this amendment of rule 504 has created a great opportunity for "investing" in that Angels can now make investments in "small cap" companies and receive "free trading paper" for their investment dollars, thus giving Angels a better exit strategy.
Regulation D Rule 504
Small Business loves this!
James H. Watson, Jr.
Entrepreneur Investments, LLC
A private placement, under Federal Rule 504, can help avoid many of the costly and time-consuming requirements usually associated with the public sale of stock. Raising capital for a small business can be expensive and time consuming, but a private placement under Regulation D, Rule 504 can minimize costs and delays while giving a business access to equity capital. If a business's current financing needs are $1 million or less, we recommend considering the advantages of using this popular financing tool.
Rule 504: A Popular Option
In a Rule 504 offering, a business can raise a maximum of $1 million, less the total dollar amount of securities sold during the preceding 12-month period. However, a business can raise only $500,000 by the sale of securities to persons residing in the states of Montana and Alaska, which have no disclosure laws applicable to the offering. For the states that do have disclosure laws, which are 48 out of the 50 states, a business can raise up to $1,000,000. Rule 504 has no prescribed disclosure requirements, no limit on the number of purchasers, and no investor sophistication standards, although individual states have their own requirements as well.
Rule 504 is now the most commonly used Regulation D exemption. Offerings that are exempt under Rule 504 are relatively simple to prepare, which reduces cost and delay and can generally be self-underwritten by the offering company (the securities being sold by the company's own officers, directors and employees).
Although Rule 504 has no federally prescribed disclosure requirements, the issuing company should always prepare and use an offering document for its protection. The exemptions from registration provided by Regulation D do not include exemptions from the anti-fraud or civil liability provisions of any of the federal or state securities laws. These provisions are broad and include civil and criminal penalties for the misstatement or omission of facts that are relevant to making a fully informed investment decision. If your company makes a Rule 504 offering without providing investors with an offering document, your company, its board, and its principals will be at an extreme disadvantage in defending yourselves if your business is confronted with a securities fraud action.
The restrictions on use of the Rule are minimal. The issuer cannot be an SEC-reporting company, an investment company, or use the offering for a "blank check". The maximum amount which can be raised is one million dollars and this includes funds raised under certain other exemptions. The issuer must not be subject to certain "bad boy" provisions of the securities laws. Finally, a Form D must be filed with the SEC
As part of its program to simplify access to the capital markets, the SEC adopted the Small Business Initiatives ("SBI") in 1992. SBI, among other things, permitted a small business issuer to "test the waters" - that is, to determine whether there was a market for its securities before filing a registration statement so that, if the market didn't exist, the issuer would not be out the costs of the registration. More important to the company seeking its first infusion of risk capital was the amendment to Rule 504. The Rule, as amended, permits a small business issuer, subject to certain limitations, to obtain the benefits of registration, the ability to make a public offering of securities, without ever having to register.
Rule 504 was adopted as part of Regulation D, the private placement regulations, but SBI expanded Rule 504 far beyond its original boundaries. The Rule permits an issuer (corporation, partnership or other entity) to issue up to one million dollars in securities in any twelve-month period without registration. Unlike the other exemptions in Regulation D, a Rule 504 offering may use general solicitation and advertising; in short, a public offering. The thirty-five investor limitation, generally applicable to offerings under Regulation D, does not apply to a Rule 504 offering. As important, the securities issued are not restricted, they can be freely-traded and a market established.
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