JOBS ACT SEEKS TO IMPROVE ACCESS TO CAPITAL MARKETS
On April 5, 2012, President Obama signed into law the Jumpstart Our Business Startups (JOBS) Act. The JOBS Act is intended to improve access to the public and private capital markets by:
- allowing general solicitation and advertising in Rule 506 private placements if all purchasers are accredited investors;
- exempting “crowdfunding” – small individual investments that together do not exceed $1 million – from registration under the Securities Act of 1933;
- increasing the number of shareholders a company may have prior to becoming subject to public reporting obligations from 500 to 2,000 (with certain qualifications);
- increasing the total offering amount allowed in Regulation A offerings from $5 million to $50 million;
- streamlining the initial public offering (IPO) process for companies that are “emerging growth companies” within the meaning of the JOBS Act (generally companies with annual gross revenues of less than $1 billion with an IPO date after December 8, 2011); and
- phasing in certain post-IPO public reporting and compliance obligations for emerging growth companies.
We believe that the JOBS Act will make it easier for companies to raise money in many private fundraising transactions and make the IPO process more attractive to companies that might have otherwise been deterred by the cost and effort of an IPO and post-IPO regulation. It is important to note, however, that the JOBS Act does not provide similar relief from regulation for companies that went public on or before December 8, 2011.
Some of the provisions of the JOBS Act will be effective immediately, while others will require additional rulemaking, as described in more detail below. This client alert summarizes what we believe to be the most significant provisions of the JOBS Act.
Private Capital Markets Reforms
General Solicitation and Advertising Allowed in Rule 506 and Rule 144A Offerings
The JOBS Act directs the Securities and Exchange Commission (SEC) to eliminate the prohibition on general solicitation and general advertising in Rule 506 private placements—in which companies can raise an unlimited amount of capital—as long as all of the purchasers are “accredited investors.” Companies will be required to take reasonable steps, which will be defined by the SEC, to verify that each purchaser is an accredited investor. The SEC’s final rulemaking is due within 90 days of enactment.
The JOBS Act also directs the SEC, within 90 days of enactment, to amend Rule 144A to allow securities to be offered to persons other than qualified institutional buyers (QIBs), including through general solicitation or advertising, as long as all of the purchasers are QIBs. Rule 144A is a safe harbor exemption from the registration requirements of the Securities Act of 1933 for the resale of securities issued in a non-public offering.
The JOBS Act makes it clear that persons who maintain online or other platforms to conduct Rule 506 offerings that use general advertising or general solicitation will not, by engaging in that activity, be required to register as a broker or dealer, provided that certain conditions are met, including not taking possession of customer funds or securities or receiving any transaction-based compensation.
The ability to use general solicitation or advertising to seek investors in private offerings represents a major shift in the SEC’s regulatory framework. Companies will now be able to use online, TV or print advertising and other creative means to raise interest in their offerings, as long as all of the purchasers in the offering are accredited investors. However, it will be important to follow the SEC’s rulemaking regarding the steps a company must take in order to confirm that all purchasers in a Rule 506 private placement are, in fact, accredited investors. If a company uses general solicitation or advertising and even one purchaser is not an accredited investor, it appears that the Rule 506 exemption will be lost. Also, it remains to be seen how the new rules eliminating the prohibition on general solicitation and general advertising will affect Rule 506 private placements currently underway.
Crowdfunding Exempt from SEC Registration
“Crowdfunding” is a method for companies to raise money through a number of small investments by individuals, including investments solicited through social media or other online platforms. The JOBS Act provides an exemption from registration under the Securities Act of 1933 for crowdfunding if, among other things:
- the aggregate amount sold to investors does not exceed $1 million in any 12 month period;
- the aggregate amount sold to any one investor within a 12 month period does not exceed the greater of:
- $2,000 or 5% of the investor’s annual income or net worth if either the investor’s annual income or net worth is less than $100,000; or
- 10% of the investor’s annual income or net worth if the either the investor’s annual income or net worth is equal to or greater than $100,000, subject to a maximum investment of $100,000;
- the company files with the SEC and provides to the investors certain information about the offering and the company, including a description of the risks associated with the offering, the company’s business, anticipated business plan and financial condition, and for offerings with target offering amounts of:
- $100,000 or less, income tax returns for the prior fiscal year and financial statements certified by the company’s CEO;
- more than $100,000 but not more than $500,000, financial statements reviewed by an independent public accountant using review standards to be established by the SEC; or
- more than $500,000, audited financial statements of the company; and
- the offering is conducted through an SEC-registered broker or funding portal.
The JOBS Act instructs the SEC to issue final rules on the crowdfunding provisions within 270 days after enactment.
Crowdfunding may prove to be an attractive fundraising option for early-stage and other small companies seeking to raise money from individuals in their community or other network. Individual investors may also benefit from the crowdfunding provisions by being able to have an ownership stake in businesses they support, while still being afforded the investor protections such as the disclosure requirements and income and net worth limitations included in the JOBS Act.
Increased Shareholder Threshold for SEC Registration
The Securities Exchange Act of 1934 currently requires a company with more than $10 million in assets to register any class of stock that is held of record by 500 or more shareholders at the end of the company’s fiscal year. For companies other than banks and bank holding companies, the JOBS Act increases the 500 shareholder limit to 2,000 shareholders, not more than 500 of which can be non-accredited shareholders. For banks and bank holding companies, the shareholder threshold was simply increased to 2,000 shareholders, with no limit on the number of shareholders that are not accredited investors. Shareholders who acquire their shares in crowdfunding transactions or in exempt transactions under an employee compensation plan, such as a stock incentive plan, would not count toward the 2,000 shareholder threshold. The JOBS Act directs the SEC to issue final regulations on this topic within one year of enactment, including a safe harbor for determining when shares have been acquired under an employee compensation plan. Notably, the JOBS Act does not amend the 300 or more shareholder trigger for reporting obligations under Section 15(d) of the Securities Exchange Act of 1934 for companies that were previously public companies, but that have suspended their SEC reporting obligation through a going private transaction. Under the JOBS Act, banks and bank holding companies may deregister a class of securities held by fewer than 1,200 persons, an increase from the previous threshold of 300.
Increased Offering Amounts under Regulation A
Regulation A currently allows non-reporting companies to raise up to $5 million without registration if, among other things, the company files an offering statement with the SEC and delivers an offering circular to prospective investors. Regulation A offerings have certain advantages, including simplified disclosure documents, no resale restrictions on acquired shares and no required periodic reporting after completion of the offering. However, the Regulation A exemption is rarely used because of the relatively low maximum offering amount. The JOBS Act directs the SEC to increase the Regulation A offering threshold to $50 million raised within a 12 month period. In addition to existing Regulation A requirements, issuers will be required to file audited financial statements annually with the SEC and the SEC may require other periodic reporting requirements. The JOBS Act does not set a deadline for the SEC’s final rulemaking concerning Regulation A. The increased Regulation A offering threshold likely will open up another avenue to the capital markets that has historically been rarely used.
Changes to the IPO Process and Post-IPO Reporting Requirements
The JOBS Act seeks to ease the IPO process and reduce public reporting and compliance requirements for up to five years after an IPO for a new category of companies called “emerging growth companies.” Emerging growth companies are defined as companies with annual gross revenues of less than $1 billion with an IPO date after December 8, 2011. The JOBS Act does not provide any relief from reporting requirements for companies that went public on or before December 8, 2011. An emerging growth company would continue to be classified as such until the earliest of:
- the first fiscal year after its annual revenue exceeds $1 billion;
- the first fiscal year following the fifth anniversary of its IPO;
- the date when it has issued more than $1 billion in non-convertible debt within the prior three year period; or
- the first fiscal year in which it becomes a large accelerated filer (generally meaning it has over $700 million of public equity float and has been publicly reporting for at least one year).
In connection with an IPO, the JOBS Act permits emerging growth companies to:
- communicate with institutional accredited investors and QIBs to gauge their interest in the IPO, or “test the waters”, before and after filing an IPO registration statement without being subject to current “gun jumping” restrictions on pre-filing communications or certain post-filing restrictions on written communications;
- file a draft IPO registration statement on a confidential basis for review by the SEC, as long as the initial confidential submission and all amendments are later publicly filed at least 21 days before the company’s pre-IPO “road show” to potential investors; and
- provide only two years (not the currently required three years for companies that are not “smaller reporting companies”) of audited financial statements in their IPO registration statement and cover only two years of financial information in the Management Discussion and Analysis of Financial Condition and Results of Operations section of their IPO registration statements.
Analyst Communications and Research
The JOBS Act loosens certain restrictions on the interaction between research analysts and investment bankers who work for the same firm by, among other things:
- permitting research analysts to publish research reports related to an emerging growth company prior to its proposed IPO or other public offering of common stock without the report constituting an offer for sale, regardless of whether the research analyst’s firm will participate in the offering;
- eliminating timing restrictions on research reports after an emerging growth company’s IPO, including prior to the expiration of lock-up agreements entered into in connection with the IPO; and
- allowing research analysts to attend meetings with company management, even if investment bankers participating in the IPO are in attendance, and to attend investor meetings arranged by investment bankers.
Phased-in Executive Compensation Disclosure and Corporate Governance Compliance
The JOBS Act limits the executive compensation disclosures for emerging growth companies to those required of smaller reporting companies. This means that emerging growth companies may:
- omit the Compensation Discussion and Analysis from their proxy statement and annual report on Form 10-K;
- provide two years of information in their Summary Compensation Table rather than three; and
- disclose compensation information for three named executive officers rather than five.
The JOBS Act also exempts emerging growth companies from certain post-IPO corporate governance requirements, including some provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act. Specifically, emerging growth companies would not have to:
- hold non-binding shareholder “say-on-pay” and “say-on-frequency” votes on executive compensation or on golden parachutes;
- disclose “pay for performance” ratios or the ratio of the CEO’s compensation to the median compensation of all other employees;
- comply with the mandatory audit firm rotation rules of the Public Company Accounting Oversight Board;
- comply with any new or revised U.S. GAAP accounting standard until private companies also are required to comply with that standard; or
- provide an auditor’s attestation report on internal controls under Section 404(b) of the Sarbanes-Oxley Act of 2002.
The IPO-related provisions of the JOBS Act will be effective upon enactment and do not require any SEC rulemaking but the SEC will likely provide additional guidance on their implementation.
For further discussion of these developments and other SEC regulations, please contact a member of Oppenheimer’s Securities Team.
This alert is a copyrighted publication produced by Oppenheimer Wolff & Donnelly LLP. The information contained in this alert is of a general nature and is subject to change. Readers should not act without further inquiry and/or consultation with legal counsel.