The Securities Act of 1933 is often referred to as operating under a “philosophy of disclosure”. In a nutshell, a company raising money (equity or debt) by selling securities is required to provide enough disclosure such that an investor can make a reasonably informed decision. Securities attorney’s would tell you to make enough disclosure to cover the company’s a** in case things don’t work out as expected.
What can happen if appropriate disclosures aren’t made? Quick story…
I met Scott Andersen (my General Counsel and until recently a regulator & prosecutor) at the airport a couple of weeks ago as we were flying out to meet some platform customers. He was in an unusually good mood. The morning we met he got the news that one of the cases he was prosecuting before he left the regulators to join us had been sentenced…a “win” for him (and, of course, investors).
Who: a real estate developer;
What: lack of disclosures in raising money;
Result: huge fine, lifetime ban on ever raising money again or being associated with anyone who is.
It wasn’t that this guy did anything overtly wrong…other than not provide adequate disclosures in his securities offerings. If he had provided disclosures then even if people lost money he probably would have been okay. “sh** happens” is fine, provided the possibility of that is disclosed.
Keep in mind that securities regulators have a rather harsh and unexpected word that they use whenever someone doesn’t provide proper disclosures in their offerings, and this includes “oops, we genuinely forgot to include that” situations…”fraud”.
I saw this first hand when he and I were looking at a deal on a major funding platform. I was pointing out how it was painfully obvious that there weren’t enough disclosures, and how critical education is needed for this sector as the platform should have been all over this. My viewpoint is this was a case showing the need for industry education. He looked at it dismissively and said “it’s fraud“. Huh? No. It was obviously unintentional. This was a real company, with tons of great press in Techcrunch and other places, just trying to raise a round of capital. They had no malicious intent. It was simply a case of someone needing to sit down and show them where they missed the mark and needed to beef up their disclosures. Totally unintentional. He looked at me and said “it doesn’t matter…it’s fraud.” Wow.
So how do you know if you’re making enough disclosures for your offering?
First, take a look at guidelines such as the NASAA Form U-7; although prepared by the state regulators, this gets you pretty well covered under the federal regs (the SEC itself does not provide this kind of document). Make sure you disclose details about the offering (securities rights, how they differ from other securities the company has issued, exit strategy, etc), the company (basic financials, executive bio’s, cap table), the products & services (pricing, competitors, economic environment), and things like use of proceeds, litigation (even pending or threatened), zoning issues, licensing issues, tenant issues, etc.
Next, be sure to have your securities attorney review your offering documents & disclosures BEFORE you show them to any potential investors. Besides the general offering disclosures, your attorney will be very specific about ensuring you have a scary amount of “risk factors” discussed in the subscription agreement that your investors will be signing when they commit to your offering.
Yes, providing this much disclosure is incredibly uncomfortable. You’re opening the Kimono for all to see. You might be providing competitors with information they’ll use. You might have some embarrassing items. You really would rather not put all this information out there. But, hey, you need the money. And investors don’t know you, they have little to rely on but what you tell them. So if you want the cash then you’ve got to provide people with enough detail so; a. they can make a reasonably informed decision, and, b. you can cover your a** from regulators, angry investors, attorney general’s and tort lawyers.
So disclose, disclose, disclose. Too much is not a bad thing. Too little can be harmful in ways you don’t want to experience.
FundAmerica – Technology & Compliance for the Crowdfunding Industry