SEC Proposes Rule to Amend Exempt Offering Framework

On March 4, 2020, the Securities and Exchange Commission (“SEC”) voted to propose amendments to harmonize, simplify, and improve the exempt offering framework under the Securities Act of 1933, as amended (the “Securities Act”). With this proposed rule, the SEC is aiming to balance the promotion of capital formation and expansion of investment opportunities with investor protection.

Existing Registration Exemptions

The current exempt offering framework includes a number of exemptions and safe harbors from the registration requirements of the Securities Act. In recent years, new exemptions such as Rule 506(c) under the Securities Act, Regulation A, and Regulation Crowdfunding have been created or expanded in an attempt to provide businesses with more capital raising alternatives.

However, the proposed rule noted that tradition Rule 506(b) offerings has remained the most relied upon exemption from registration. Furthermore, the oft-evolving exempt offering framework has resulted in a patchwork of exemptions with differing eligibility and procedural requirements, making it difficult for issuers to utilize efficiently.

Highlights of the Proposed Rule

The proposed rule is aimed at broadening issuers’ access to capital markets and investors’ participation in exempt offerings. To achieve these goals, the proposed rule includes, in addition to general, across-the-board harmonization of eligibility and disclosure requirements between certain exemptions:

• Simplified rules regarding the “integration” of public and private offerings, including new safe harbors from integration;
• Expanded general solicitation exemptions; and
• Increased size limitations on certain exempt offerings.

Each of these items is discussed in more detail below.

Integration. The SEC’s integration rules govern when multiple offerings should be considered one single offering. When multiple exempt offerings (or an exempt offering and a public offering) are integrated, the requirements and limitations for the relied-upon exemption are often violated, resulting in an unregistered public offering.

The proposed rule would replace the current five-factor integration test with four integration safe harbors and, if no safe harbor applies, a principles-based facts and circumstances analysis to determine whether integration would apply to multiple offerings. The proposed safe harbors are as follows:

• Offerings made more than 30 days before or after any other offering will not be integrated with such other offering provided that, for an exempt offering, the purchasers (i) were not solicited using general solicitation or (ii) had an existing, substantive relationship with the issuer.
• Rule 701 and Regulation S offerings will not be integrated with other offerings.
• Offerings for which a registration statement has been filed pursuant to the Securities Act will not be integrated with other offerings if the registered offering is made subsequent to an offering for which (i) general solicitation is not permitted, (ii) general solicitation is permitted and made only to qualified institutional buyers and institutional accredited investors, or (iii) general solicitation is permitted that terminated or completed more than 30 days prior to the commencement of the registered offering.
• Offerings made in reliance on an exemption for which general solicitation is permitted will not be integrated with any prior terminated or completed offering.

General Solicitation. The SEC broadly interprets what may constitute a general solicitation or advertising in connection with private offerings. Certain exemptions from the registration requirements of the Securities Act prohibit general solicitations. The proposed rule would expand the situations in which issuers may communicate with potential investors without such communication being deemed a general solicitation, potentially giving issuers greater leeway in how they conduct exempt offerings.

The proposed rule would exempt “demo day” communications from being considered a general solicitation. The SEC would consider communications to be “demo day” communications if they are made in connection with a seminar or meeting by a college, university, or other institution of higher education, a local government, a nonprofit organization, or an angel investor group, incubator, or accelerator that sponsors the seminar or meeting. Additionally, a “demo day” organizer would not be permitted to (i) charge fees, other than administrative fees, to attendees, (ii) receive fees for introductions to potential investors, (iii) make investment recommendations or provide investment advice to attendees, or (iv) engage in any investment negotiations between the issuer and investors attending the event.

The proposed rule would also permit issuers (i) to use generic solicitation of interest materials during “test-the-waters” communications prior to determining which offering exemption it will use for a subsequent sale of securities and (ii) who are offering securities pursuant to Regulation Crowdfunding to “test-the-waters” prior to filing an offering document with the SEC.

Increased Offering Limitation Sizes. The proposed rule would increase the current limitation on the offering size of certain exempt offerings in accordance with the following table:

What Happens Next

The SEC is seeking comments on the proposed rule through June 1, 2020. The SEC’s proposed rule is available at this link.