July 16, 2013
More on General Solicitation: The Death of the IPO?
Posted by Christine Hurt

When I teach Securities Regulation, after going through what is/is not a security, I begin with the topic of registration of securities, or the initial public offering.  Then, I get to the exemptions, including Rule 506 of Regulation D and rules 144 and 144A.  By this time, my students usually say, "So everything we learned about registration requirements is completely meaningless?"  After the lifting of the ban on general solicitation for Rule 506, the answer seems to be unequivocally "yes."

If you are an issuer and want to raise a large amount of capital (over $5 million), your choices are basically a private placement of securities under Rule 506 or an IPO.  Rule 506 has many fewer requirements, but historically it had to take place among the issuer, underwriter and institutional investors, funds, and high-worth individuals known to the underwriter.  Now, "private placements" can be publicly advertised, even if the shares must only be "placed" in the hands of accredited investors.  (See Usha's and Erik's posts from last week.)  So, why would any issuer conduct an IPO?

In a registered offering, issuers and underwriters can't speak of the offering during the "quiet period" leading up to registration.  Then, after registration, written communications must be through a statutory prospectus, or a "free writing prospectus" that meets certain requirements.  Oral communications are allowed, but face-to-face and telephone conversations have practical limitations.  The registration statement, with mandatory financials and disclosures, must be approved by the SEC, and prospectus delivery requirements continue once selling begins. 

None of this applies to private placements!  So, if Company A wants to raise $50 million in an IPO, it will cost more in legal and accounting fees, and Company A can't talk to the public about the offering until registration, then only with a detailed prospectus, and must wait for the SEC to declare the registration statement effective.  Meanwhile, Company B can set up a website touting the offering, with no limitations on what it says or must say.  Company B can purchase billboards, taxi signs, sandwich boards, Facebook ads, or even send an email to every person on earth.  The catch is that it can accept offers to buy only from accredited investors.

Would that alone be enough for a company to forego the private placement and launch an IPO?  So that the first-buyers of the shares can be retail (nonaccredited) investors?  Exactly how many retail investors receive IPO shares?  I'm going to say not many.

The only advantages of the IPO that I can see is first, that the secondary market starts immediately, as compared with the six-month or year waiting period with Rule 144 or the limited but immediate secondary market to qualified institutional buyers through Rule 144A.  Second, the Facebook conundrum of mandatory registration under Section 12(g) if an issuer has over 2000 shareholders or 500 unaccredited investors.  But I'm not sure that's enough to keep the struggling IPO market a strong alternative. 

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