The Purchaser Representative – the Shortcut to “Sophistication”
It is good to be sophisticated!
This is true in general, but can become a prerequisite in connection with securities laws[i].
Many of our clients are venture-backed technology companies. Most of the capital that they raise comes from accredited investors, if not institutional venture capital funds. Some of their money may come from unaccredited investors, and virtually all venture-backed companies issue stock options to employees that are sooner or later exercised. Most of the employees of course are not accredited investors. An annual income of at least $200 thousand or net worth of at least $1.0 million renders you an accredited investor[ii] .
As IPOs continue to be the exception, the exit route of choice for most companies is a sale to another company in an M&A transaction.
And as cash comes at a premium these days, the acquiring company often pays with its own stock – and that’s where some sophistication goes a long way.
Most often, the stock of the acquiring company is not registered with the SEC, either because the acquirer is a public company that uses newly issued shares that are pending registration, or because the acquirer itself is a private company with restricted stock. Thus, such a stock offering would need to use one of the exemptions provided under Regulation D of the 1933 Securities Act – known as “Reg D Offerings [iii].
Usually, the issuance is exempt under Rule 506 of Regulation D, which allows for unlimited amounts of capital raised (Rule 504 limits the sale of securities to $1 million within a 12-month period; Rule 505 limits the raise to $5 million, also within a 12-month period).
Rule 506 also allows the sale to a maximum of 35 non-accredited investors; however, these investors need to be “sophisticated”.
What is “sophisticated”?
In the eyes of the Security Act, “sophisticated” means someone who has “either alone or with his purchaser representative(s) such knowledge and experience in financial and business matters that he is capable of evaluating the merits and risks of the prospective investment.”
So you can get some help on the way to “sophistication” by retaining a purchaser representative.
What now is a “purchaser representative”?
The purchaser representative is defined in Rule 501 of the Securities Act.
Apart from not being an affiliate of the issuer and being acknowledged by the purchaser, the purchaser representative “has such knowledge and experience in financial and business matters that he is capable of evaluating, alone, or together with other purchaser representatives of the purchaser, or together with the purchaser, the merits and risks of the prospective investment”.
In other words, the purchaser representative is a shortcut to “sophistication” and the path around unaccredited status.
The Brenner Group regularly acts as purchaser representative, enjoying the opportunity to spread “sophistication” and help unaccredited investors to navigate and understand sometimes complex transactions with hundreds of pages of agreements in a multitude of disclosure documents that today’s mergers produce in the interest of compliance …….. and informing investors.
[i] This blog post does not constitute legal or investment advice.
[ii] California provides for some similar provisions regarding a “qualified purchaser”.
[iii] For very small transactions including only buyers (and seller) in the same states, companies may be able to take advantage of some of the state exemptions, such as California Corporations Code Section 25012.
Gunther Hofmann is a Vice President of The Brenner Group and has done extensive work in valuations, M&A, venture capital, and corporate finance with significant international experience in small firms as well as global corporations. Gunther earned a Masters Degree in Electrical Engineering and Business Administration from Darmstadt University of Technology in Germany, and was a Visiting Scholar at UC Berkeley. He is a holder of the Chartered Financial Analyst designation, and a member of the National Association of Certified Valuation Analysts. Gunther is Chairman of the Software/IT Industry Group of the German American Business Association (GABA).
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