Reg D . . .
refers to Regulation D of the federal Securities and
Exchange Commission (SEC), which sets out certain "safe
harbor" exemptions to the 33 Actís registration requirements.
These safe harbors have clearly delineated requirements that enable
companies to safely sell their shares in private or limited placements
without conducting public offerings. Because of their specificity, Reg
D exemptions are easier to rely on than the general private placement
exemption contained in Section 4(2) of the 33 Act. Whenever possible,
one or more of the exemptions spelled out in Reg D should be followed.
The provisions of Reg D are set forth in six rules,
the last three of which contain the exemptions. Because of their
importance, each of the rules is summarized below.
Rule 501. Rule 501 provides the method of
calculating the number of purchasers who can be involved in sales
conducted under the exemptions in Rules 505 and 506 and defines the
term "accredited investor" as it is used in Reg D. Under
circumstances spelled out in Reg D, sales to these accredited
investors can be made without counting them toward the maximum number
of allowable investors under the exemption. The accredited investor
category consists of persons who fall within, or who the issuing
company reasonably believes fall within, one of the categories
A director, executive officer or general partner
of the issuing company or a director, executive officer or general
partner of a general partner of the issuing company.
A natural person whose net worth (individual or
jointly with his spouse) exceeds $1 million.
A person who has had individual income of over
$200,000 or joint income with his spouse of over $300,000 during
each of the last two years and reasonably expects to maintain
those minimum income levels in the coming year.
A qualified bank, savings and loan association, or
A corporation, partnership or business trust with
at least $5 million in assets that was not formed for the purpose
of acquiring the offered.
A private business development company that meets
the definition contained in the Investment Advisers Act of 1940.
A 501(C)(3) charitable organization with at least
$5 million in assets.
Employee benefit plans subject to ERISA that have
either a plan fiduciary that is a bank, insurance company or
registered investment adviser or total assets of at least $5
A non-business trust with at least $5 million in
assets, which is directed by a "sophisticated" person
(as defined in Rule 506).
An entity in which all of the equity owners are
Rule 502. Rule 502 describes general conditions
that must be met to secure a Reg D exemption. The rule deals with
integration, information disclosure, the manner of conducting
offerings, and resale limitations.
The SEC will not integrate (or combine) sales made
more than six months prior to or after a Reg D offering so long as
within such period the issuing company makes no offers or sales of a
same or similar class of securities (other than under certain employee
Rule 502(b) provides that no prescribed information
need be furnished for offers and sales of up to $1 million under its
Rule 504 exemption or where such sales are made only to accredited
investors under the Rule 505 and 506 exemptions. For offers above $1
million that include non-accredited investors, the type and degree of
disclosure is linked to the size and nature of the offering under
Rules 505 and 506. If the offering involves both accredited and
non-accredited investors, the issuing company must distribute the
information to all investors.
The amount and type of financial and non-financial
reporting required varies depending on the size of the offering.
Different requirements apply to offerings up to $2 million, between $2
million and $7.5 million and above $7.5 million. Offerings of up to $2
million require disclosure of the type required Item 310 of Regulation
S-B. Those between $2 million and $7.5 million require distribution of
the kind of information called for in Part I of Registration Form
SB-2. If Form SB-2 is unavailable (e.g., if the issuer is a reporting
company), the company must supply the kind of information
"required in Part I of a registration statement filed under the
33 Act on the form the issuer would be entitled to use." (For
most companies this will be Registration Form S-1.) Companies offering
more than $7.5 million worth of securities must supply information of
the type required in Part I of a registration statement.
Manner of Offering Limitations
Rule 502(c) provides that, with the exception of
offerings under Rule 504, the issuing company or anyone acting on its
behalf may not publicly solicit or generally advertise in connection
with any offer.
Rule 502(d) requires issuers to exercise reasonable
care in determining that purchasers of their securities are not
engaging in illegal private resales. The reasonable care required by
the rule includes (but is not limited to)
Making a reasonable inquiry into whether the
purchaser is acquiring the securities for himself or another.
Providing written disclosure to each purchaser
prior to sale that the securities are not registered under the 33
Act and cannot be resold unless registered or exempted.
Placing a legend on the stock certificate stating
that the securities represented by the certificate have not been
registered under the 33 Act and setting forth the restrictions
imposed on the transferability of those securities.
Rule 503. This rule requires a written notice of
sale to be filed on Form D. The issuing company must file five copies
of the form within fifteen days after the first sale in order to
receive a Reg D exemption. (Some states require filing before the
Rule 504. Rule 504 provides an exemption for
issuing companies that are not reporting companies or investment
companies. The exemption applies to sales of up to $1 million in
securities made during a twelve-month period. Rule 504 permits issuers
to make general advertisements and solicitations in connection with an
offering. The Rule requires the filing of a timely notice on Form D
but the availability of the exemption is not contingent upon filing of
Rule 505. Rule 505 allows an exemption for offers
and sales of securities up to $5 million, subject to offsets for
certain types of sales occurring within the past twelve months and
throughout the Rule 505 offering. The issuing company, which cannot be
an investment company, must meet the disclosure requirements set forth
in Rule 502, as well as the offer and resale provisions in Rules
502(c) and (d). Although there may be an unlimited number of
accredited investors, Rule 505 requires that the issuer reasonably
believe that it has sold securities to no more than thirty-five
Rule 506. This rule provides an exemption for
limited offers and sales of securities without regard to the dollar
amount of the offering. Like Rule 505, it limits the number of
non-accredited purchasers to thirty-five. Unlike Rule 505, however,
Rule 506 requires that non-accredited investors (either alone or with
their "purchaser representative") be
"sophisticated" before they can purchase company securities.
The language of the sophistication requirement reads as follows:
Each purchaser who is not an accredited investor
either alone or with his purchaser representative(s) has such
knowledge and experience in financial and business matters that he
is capable of evaluating the merits and risks of the prospective
investment, or the issuer reasonably believes immediately prior to
making any sale that such purchaser comes within this description.
Summary of Reg D. The safe harbor exemptions
contained in Reg D are nonexclusive. That is, companies that rely on
them need not rely on them exclusively. They may also rely on other
exemptions, such as the general 4(2) private placement exemption, to
avoid the 33 Actís registration requirements. Nonetheless, because
their detailed requirements make them the safest way for companies to
obtain a registration exemption, they should be used whenever
possible, even in financings to a single venture capitalist.
The Reg D exemptions do not relieve a company or its
management from the need to comply with the provisions of the
securities laws in the states in which they offer or sell securities.
Also, they do not exempt a company from the federal and state
antifraud provisions, such as the 33 Actís Rule 10b5. The antifraud
provisions make it necessary for issuing companies to disclose or make
available to offerees material information about the issuing company
and the offering even in offerings conducted under exemptions that do
not require the disclosure of any prescribed information. Failure to
comply with state blue sky laws or the antifraud provisions of the
federal and state securities laws can impose serious liabilities on a
company and its management. It can even impair a companyís ability
to raise money in the future.
Because of the complexity of the
federal and state securities laws and the severity of the penalties
for failure to comply with those laws, a company should consult
experienced counsel before offering or selling any of its securities.
Only a qualified professional can assure management that the companyís
security offering has been conducted in a manner that will not create
significant liabilities for the company and its management.
See: Blue Sky Laws,
IPOs (Initial Public Offerings),
Placements, Restricted Securities,