Alert July 16, 2013

SEC Votes to Eliminate Ban on General Solicitation in Private Offerings, Adopt Bad Actor Disqualification Condition for Rule 506 Offerings, and Propose Additional Reporting and Disclosure Requirements for Private Offerings

At its meeting on July 10, 2013, the SEC took action on the following three matters related to private offering exemptions under the Securities Act of 1933 (the “Securities Act”).

Elimination of Prohibition on General Solicitation in Private Offerings

The SEC adopted final rule amendments that eliminate the current prohibition against general solicitation in certain private offerings and sales relying on the safe harbor exemptions from registration pursuant to the Securities Act provided by Rule 506 and Rule 144A.  The final amendments add to Rule 506 new paragraph (c), which permits the use of general solicitation in connection with the offer and sale of securities pursuant to the Rule, provided that (i) all purchasers of securities are “accredited investors,” (ii) the issuer takes “reasonable steps” to verify that purchasers are accredited investors, and (iii) the offering otherwise complies with other applicable provisions of Regulation D, including Rule 501 and Rules 502(a) and 502(d).  (Under Rule 501, the definition of accredited investor includes a person whom the issuer reasonably believes comes within any of the enumerated categories of accredited investor at the time of the sale of the securities to that person.)  The final amendments permit securities permit Rule 144A securities to be offered to persons other than “qualified institutional buyers” (“QIBs”), including by means of general solicitation, provided that the securities are sold only to persons that the seller and any person acting on behalf of the seller reasonably believe are QIBs.

The amendments leave unchanged existing paragraph (b) of Rule 506 that permits an issuer to offer and sell securities to an unlimited number of accredited investors, and to no more than 35 non-accredited investors, subject to a number of conditions, among which is a prohibition on offering or selling the securities in question through any form of general solicitation.

The final amendments are effective 60 days after their publication in the Federal Register.  For an offering that was already in progress on the effective date, any general solicitation that occurs after the effective date will not affect the exempt status of offers and sales in reliance on either exemption that occurred prior to the effective date.

Goodwin Procter has issued a client alert that addresses these rule amendments from the perspective of private fund managers.

Rule 506 Ineligibility for Offerings Involving Felons and Other “Bad Actors” 

The SEC adopted final amendments to rules and forms under the Securities Act that implement Section 926 of the Dodd-Frank Act, which directs the SEC to adopt disqualification provisions for Rule 506 offerings that are substantially similar to the disqualification provisions of Regulation A under the Securities Act and incorporate specific disqualifying events, including certain state regulatory orders and bars.  Under the final amendments, an issuer may not rely on Rule 506 if the issuer or any specified related persons is subject to a “disqualifying event” after the final amendments are effective.  The related persons of an issuer that is a pooled investment fund include the fund’s investment manager and certain of the investment manager’s personnel.  Disqualifying events include certain criminal convictions, injunctions regarding securities-related activities, and certain disciplinary action taken by financial industry regulators and SROs.  The SEC fact sheet describing the final amendments provides additional high-level detail.

The effective date of the final amendments will be 60 days after their publication in the Federal Register.  Disqualification under the final amendments will apply only for disqualifying events that occur after the effective date.  However, an issuer must disclose to investors any disqualifying events that occurred before the effective date.

Proposed Additional Reporting and Disclosure Requirements for Private Offerings

In conjunction with permitting general solicitation in a Regulation D offering via Rule 506(c), the SEC proposed amendments to Regulation D, Form D, and Rule 156 under the Securities Act.  The SEC proposal  would (1) require a Form D filing before any general solicitation, (2) require a closing Form D amendment following the conclusion of a Rule 506 offering, (3) add Rule 506 disqualification provisions for failure to file Form D, (4) require a range of additional information in Form D for Rule 506 offerings, (5) require certain legends in general solicitation materials, including specific legends for private fund performance, (6) institute a temporary 2-year requirement that general solicitation materials be submitted to the SEC on a non-public basis, (7) add Rule 506 disqualification provisions related to failure to comply with the proposed disclosure and temporary filing requirement for general solicitation materials, and (8) apply the anti-fraud guidance of Securities Act Rule 156 regarding investment company sales literature to private funds.

The proposed amendments are part of a broader effort by the SEC to analyze the market impact of, and market practices that develop as result of, permitting general solicitation in connection with private offerings under new Rule 506(c).  This initiative will be a coordinated effort on the part of various branches of the SEC, including the Office of Compliance Inspections and Examinations and the Division of Enforcement.

Comments on the proposed amendments are due no later than 60 days after the proposing release is published in the Federal Register.

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A more detailed discussion of this rulemaking activity will be forthcoming.