California companies frequently ask how they can promote private investment
offerings they would like to make without violating the securities laws.
With care, general public communications about a company and its
need for investment money can be made if no specifics regarding an offering
are given. Individual, non-public communications giving specifics to potential
investors believed to meet the suitability requirements for the offering
are also allowed.
In addition, a California offering in compliance with 25102(n) can use
a public “tombstone” advertisement that offers brief information
on the specifics of the offering. Also, a California-only offering can use
full public advertising if it is first qualified by permit by the Commissioner
Some Securities Laws Basics
By way of background, the vast majority of investments that companies want
to offer constitute securities. This includes but is not limited to stock,
LLC interests, options, promissory notes, investment contracts, etc. (See,
e.g., California Corporations Code §25019,15 U.S.C. §77b(a).) There are
certain exclusions – for example, some LLC’s where every member is actually
actively involved in management (not merely having the right to participate
in management), very carefully designed tenant-in-common arrangements, etc.
–- but these have restrictions and do not work in most situations.
To offer securities in compliance with the law, either the securities must
be registered with a government securities agency (which is more
costly and time-consuming but is sometimes the right approach) or the offering
must fit within one or more exemptions to the registration requirements.
If securities are being offered to residents of one state only, then only
that state’s securities laws apply. (Actually, the entity also must be formed
in that state, have its principal place of business there, and must have
and expect it will have 80% of its assets, expenditures and sources of revenue
in that state.) If securities are being offered to residents of more than
one state (or if the offering does not meet those other requirements), not
only will those states’ laws apply but federal law applies as well.
The general rule is that exemptions (from registration of an offering)
do not allow public advertising of a specific offer. On the other hand,
a company can provide general information about what it does and its need
for money and/or in general the type of investments it may make available.
This may be able to be done on the company’s web site, at seminars, through
flyers, etc. What a company can’t do, with some limited exceptions,
is either 1) solicit offers from potential investors or 2) mention any specifics
of an offer: Stock price, rate of return, percentage of ownership that will
be provided per dollar amount invested, performance of past offerings, etc.
Also, the communication must state something along the lines of the following:
This is not an offer to sell or a solicitation of any offer to buy
any securities. Offers are made only by prospectus or other offering materials.
To obtain further information, you must complete our investor questionnaire
and meet the suitability standards required by law.
Do not try this without consulting with an attorney, though: There
are both civil and criminal penalties for violating the securities laws
and it is relatively easy to violate them. An attorney can review the communication
and make sure it does not constitute an offer. (Merely having a disclaimer
like the one above is necessary but not sufficient.) Also, when the company
does offer the securities, it still has to comply with the requirements
of the securities exemption it is using – or register the offering.
Frequently the exemptions to registration of securities effectively require
that the company making the offering have potential investors complete an
investor questionnaire. If and only if it appears that the potential investor
meets the investor suitability requirements for that offering, then the
company can provide the offering specifics to the investor, almost always
in the form of a disclosure document, which may be called a private placement
memorandum, a prospectus, an offering circular, etc. Regardless of what
it is called, the disclosure document (sometimes containing a business plan
or having one attached as an exhibit) will describe the company and its
plans, the offering, the management, suitability requirements for investors,
risks and legal requirements, disclaimers, etc. (Obviously there needs to
be legal review of the disclosure document before it is given to potential
As long as the company’s web site does nothing that could be construed
as an offering or a solicitation to invest, then the site can say something
like “For more information regarding our company, click here.”
That link should then contain an appropriate investor questionnaire and
a statement that it must be completed and returned before more information
can be provided. Someone responsible must then review the questionnaire
and determine if the person reasonably appears to be qualified. If and only
if the person appears to be qualified, then offering materials may be sent
and/or a password given to a special section of the site with offering materials.
It is also possible to have educational seminars where the company presents
what it is doing and gathers information for an offering to qualified investors.
The seminars, of course, cannot make or solicit any offer to invest. At
some point — in response to pre-seminar inquiries about the seminar, at
the seminar and/or following up after the seminar — the company needs to
send investor questionnaires. As before, only those potential investors
who reasonably appear to be qualified can be told of the existence of the
offering and provided with offering materials. Obviously, to show that nothing
in the presentation mentioned the offer, all seminar presentations should
be put in tangible format — whether paper (e.g., lecture notes and handouts
), electronic (e.g. PowerPoint slides), or tape (audio or visual) — and
kept permanently in a safe place.
Although widely criticized for its stance, the SEC has stated that, with
offerings that must comply with federal law, if there is no pre-existing
relationship between the offeror and the potential investor, the offeror
should wait 30 to 45 days after receiving the questionnaire responses before
providing any specifics about an offer.
Targeted Communications With Specifics
In some situations it is acceptable to send specifics regarding an offering
directly to individual potential investors (by letter, email, etc.) that
the offeror reasonably believes meet the investor suitability requirements
for the securities exemption that will be used. This may occur via lists
of investors previously determined by a securities broker to be accredited
investors, or with certain potential investors –- often suppliers, customers,
colleagues, friends and family –- who have a substantive pre-existing relationship
with the company or one or more of its principals. The specific exemption
being used determines who may be contacted and how.
If there is any doubt, though, about whether a particular investor meets
the suitability standards, the investor-questionnaire approach must be used.
Publicly Advertising an Offering
If public advertising is needed, the options are basically the California
25102(n) offering (which allows a tombstone ad), a California qualification
by permit (which allows full public advertising), and a Rule 504/SCOR offering,
which also allows full public advertising.
A California 25102(n) offering may be used (with care) in states that have
adopted the Model Accredited Investor Act. In that case the offering must
be limited to $5 million or less, the company must be a California entity
or do most of its business in California, and all the investors must be
The California qualification by permit method allows full public advertising,
but the offering must be a California intrastate offering. (All investor
must be located in California, the company must be a California entity with
its principal place of business in California, and it must have and expect
it will have 80% of its assets, expenditures and sources of revenue in California.)
Most states participate in regional approval for federal Rule 504/state
SCOR offerings of up to $1 million. The states are grouped in five regions
and approval by the designated state gives permission to make the offering
to all participating states in the region. Full public advertising is allowed.
One problem, though, is that California does not participate in the regional-review
system, so the offering has to be separately submitted for review to the
California Commissioner of Corporations.
Finders In California
While in theory it is possible to find licensed securities brokers to sell
an offering, as a practical matter that can be difficult. Commissions often
run from 7% to 20%. In addition, licensed securities brokers are generally
reluctant to handle an offering unless the amount being raised is in excess
of $5 million to $10 million and they are absolutely convinced they can
sell the offering. (In addition, generally they want an attorney other than
the attorney handling the offering to issue an opinion letter stating that
the offering complies with all the securities laws.)
This raises the issue of using “finders”. Finders are people who are not
licensed as securities brokers who are paid a commission (or other performance-based
compensation) for locating investors. Federal law prohibits the use of finders.
Finders may be used in California-only intrastate offerings if all the requirements
are carefully followed.
Since roughly 2000, the SEC has effectively prohibited performance-based
compensation for those who are not federally licensed securities brokers.
On the federal level finders can only be paid a fee that is paid regardless
of the success of the offering – and of course offerors do not want to do
An intrastate offering limited to California is different because California
allows finders to be paid on a commission (or other performance-related)
basis even if they don’t have a securities brokers license. The finders
cannot be officers, directors, employees or independent contractors of the
offering company (and probably cannot become so for at least six months
after the offering ends). In addition, the finders may only introduce the
parties and can play no role in negotiating the terms of the investment,
advising either party, or touting the investment. This is discussed in more
Of course, to fall within the intrastate exemption, the offering company
must be formed in California, have its principal place of business in California,
and have and expect to have 80% of its assets, income and expenditures in
While directors and key officers (this is limited to the president, secretary
and chief financial officer and to any other officer who has been expressly
given the authority) of the offeror may sell the securities, they can only
be paid their usual salary and cannot be paid any compensation based on
the performance of the offering. Other officers and employees (and very
probably independent contractors of the offeror) not only cannot sell the
stock, they absolutely cannot be finders.
In terms of what a “finder” can say, basically a finder can say only that
the company is seeking investors for a particular offering and communicate
the price and terms, if any, already set by the offering company. The finder
cannot even give advice to either party regarding the negotiations. Given
this, the finder should have no role in giving advice on the price or terms
even before making contact with the first potential buyer. Also, the finder
cannot try to convince a potential buyer to make the investment, since this
would constitute “selling”. Finally, once the finder introduces the buyer
and seller, the finder should have the most minimal contact with the buyer
that is possible until after that sale is closed (and ideally until the
entire offering is closed). It is strongly recommended that the offeror
have any finders sign a finders agreement stating exactly what they can
and cannot do.
While many of the offering exemptions prohibit public advertising (communications
giving any specifics about an offering), between 1) general communications
that invite potential investors to submit an investor questionnaire that
can be used to qualify the investor, and 2) targeted communications to those
who are reasonably believed to meet the investor suitability requirements,
many companies are able to make investment offerings without using public
You are welcome to copy and distribute this document for non-commercial
purposes, but both of the following must be left on it:
Bruce E. Methven
2232 Sixth Street Berkeley, CA 94710
Phone: (510) 649-4019; Fax: (510) 649-4024
Web Site: www.TheCaliforniaSecuritiesAttorneys.com
Copyright 2009 Bruce E. Methven, All Rights Reserved.
The foregoing article constitutes general information only and should not be relied upon as legal advice.