The Basics of Private Stock Offerings
Most people are aware of public stocks traded openly on the New York Stock Exchange (NYSE), the Pacific Stock Exchange, NASDAQ, and over the counter (OTC). Few people, however, are aware of the power of private stock offerings in raising capital for business ventures. Contrary to popular belief, it has become relatively easy to produce these private offerings and raise the money needed.
A private placement is EXEMPT from federal registration, simplifying the process considerably. In 1982, the SEC adopted Regulation D, which set forth objectives 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.
How Private Stock Offerings Work
Through private offerings, entrepreneurs can often raise significant amounts of capital by selling only 10-35% of stock in their venture to wealthy private investors and institutions. They retain complete control of the company and control the use of the funds raised.
These investors understand the high-risk/high-reward nature of putting money into cutting-edge young companies. They look for promising opportunities where they can purchase stock for a low price now ($5-10 per share is considered optimal at opening) and sell for a high price (like $50, $75 or even $100 a share) in two or three years when the company goes public or is bought out.
The "sales brochure" for prospective entrepreneur clients would offer the following process:
Private stock offerings can be completed quickly. If you have a current business plan and financial projections, the offering documents can be prepared in as little as 30 days. Once reviewed by your legal advisors, the offering can be delivered to potential investors and their response received quite quickly.
Types of Private Offerings
There are two popular and distinct types of private (nonpublic) stock offerings:
Each type of private offering has a different set of paperwork which must be prepared and unique forms which must be filed with the appropriate state and federal offices. Here is a quick overview of their features, advantages and disadvantages.
The requirements under each of the following rules include the amount of money that can be raised, total number of investors who may purchase stock, and the financial sophistication of the investors. Investors are said to be "sophisticated" (also called "accredited" or "qualified") if they have a certain net worth, income and/or experience in the purchase of stocks.)
Rule 504 - Raise up to $1 million in a 12 month period.
This exemption limits the number of non-accredited investors to 35 but has no investor sophistication standards. Rule 505 requires disclosure similar to that required for Rule 506 offerings, under $7.5 million.
Rule 506 - No dollar limit.
This exemption does not limit the number of accredited investors, but the number of non-accredited investors may not exceed 35. All non-accredited purchasers, either alone or together with a designated representative, must be sophisticated enough (i.e., have the knowledge and experience necessary) to evaluate the merits and risks of the investment. (An offering company typically determines the sophistication of its investors with a questionnaire subscription agreement.) Rule 506 requires detailed disclosure of relevant information to potential investors; the extent of disclosure depends on the dollar size of the offering.
Reg. D Offering Advantages
Reg. D Disadvantages
SCOR offerings are registered on a state-by-state basis with each state reviewing your offering to make certain that it meets their specific requirements. These offerings are now legal and available in over 40 states, and the rest are likely to be on board soon. Offerings are limited to $1 Million in a 12 month period
SCOR permits the sale of securities to an unlimited number of investors, accredited or non-accredited. For this reason SCOR is known as a REGISTRATION BY EXEMPTION because it is basically a hybrid between a public offering and a private placement. This type of offering is often referred to as a DPO, or Direct Public Offering because the stock can be sold to the public without the use of an underwriter, agent or brokerage.
While companies filing a SCOR are subject to some requirements and an application process, SCOR securities can be resold into established secondary markets. The Pacific Stock Exchange has created special rules and a review process for SCOR securities that will hopefully improve the secondary market for these offerings. In addition, various bulletin boards have been established on the Internet for SCOR securities, adding to the potential liquidity of these investments. As the Internet grows, so should the secondary market for securities in smaller companies.
Under a SCOR offering, a company can advertise for investors, and sell securities to anybody who expresses an interest. Obviously, this gives businesses a much-needed tool for raising capital. Small companies have successfully used SCOR to sell stock without a securities underwriting firm. This works particularly well with an established customer base or other supportive source of investors including employees.