4.               What are the three alternative exemptions available under Rule 504?

5.               If a Rule 506 offering is completed in January, can the company file a registration statement covering a large public offering in February of the same year? What is the so-called integration problem. How it is it resolved.

6.               If the company files a registration statement covering a public offering and the underwriter before it goes effective aborts the offering, can the issuer immediately (or as soon as possible) make a private offering and what are the limitations if any in this regard.

7.       After AnimatEASE completed its public offering could the company use Rule 144A to make a private placement of its stock? A new issue of notes?

Consider the following scenarios

Part I. Founders and the First Round

We go back in time to the conception of AnimatEASE and we exercise our literary license to modify the script a bit. Abbott, Baker and Charles had cashed in their Micro Corp. options, founded AnimatEASE and provided an initial round $250,000 of financing as their investment in Founder's Stock at 8Cents a share. When friends, relatives, former business associates, their doctors and dentists, and neighbors became aware that Abbott, Baker, and Charles were going to organize a start-up, they were besieged with offers to by founders stock. Abbott, Baker, and Charles at that point determined that they would expand the first round founders financing to include seven former business associates that they knew might be helpful down the road, each to invest $100,000 at 8 cents a share and to provide written assurance that each qualified as an accredited investor. They also negotiated with a young lawyer (Jesse King) in the IP legal department of Micro Corp to become their General Counsel. He was three years out of law school and had been with Micro for only two years, had a limited number of Micro options which he exercised but also made a number of prudent high tech investment so that he had a portfolio with a value of approximately $500,000. With the equity in their home and other assets he and his wife had a net worth of approximately $800,000. His salary at Micro was $100,000 a year, which was also to be his beginning salary with AnimatEASE. Jesse King was willing to leave Micro and accept a position with AnimatEASE only if he be allowed to purchase $50,000 of founders stock at 8cents a share. The company did not plan to use any disclosure document as such in connection with this initial round of financing, other than a bare bones subscription agreement. The company was willing to sell Founder shares to King, but only if they could avoid the use of a disclosure document. Assume that the relevant state blue sky laws include the NASAA accredited investor exemption and also an exemption for an offering involving not more than 15 sales in the state during any 12 month period. The company also used the lure of stock options to attract 5 software developers they had supervised at Micro to join their "team," issuing to each of them five year options to purchase 100,000 shares at $1.00 a share.

What exemption(s) will accommodate all of the above transactions and not require the use of a formal disclosure document, what are the conditions to their availability, and how does the company comply with those conditions. Consider and Rule out as necessary Section 4(2), Rule 504, Rule 505, Rule 506, the Section 3(a)(11) exemption, and Rule 701.

 

Part II. Second and Third Round Financing

It is 7 months later. Things are humming at AnimatEASE and it is well on its way toward developing its first product, having completed a prototype of Animate 4.0, and has its site on the Internet up and running. The company is ready to do its second round of exempt financing and is contemplating its alternatives. If possible, it would like to stay away from venture capitalist as Abbott, Baker, and Charles know that Micro Corp. went that route and the VC (venture capitalists) guys wound up with the largest interest in the company. Abbott, Baker, and Charles also are (or think they are) savvy business-wise and don't need a VC representative on their board of directors to tell them how to run their business. They also know that the VC types will want registration rights and the like. Discussion has been in terms of a second and third round of private financing of $25 million each to be followed by a $100 million public offering with three months between the second and third round and three months between the third round and the public offering. Working backward from the public offering, the insiders are thinking in terms of the public owning 20% of the outstanding common stock, the second round private investors owning approximately 15%, the third round private investors owning approximately 13%, and the founders owning approximately 52% o the company. The assumption is made that the public offering will consist of 5 million shares at $10 a share and that there will be 25 million shares outstanding or a “ market capitalization” at the end of a public offering of $250 million based on the public offering price. Management is thinking in terms of the second round moving the company from prototype of Animate 4.0 into production and the second round moving Animate II to the prototype stage. We can all dream. Before the first round, Abbott without talking to anyone has prepared and is about to put on the company’s website the following: AnimatEASE has completed a prototype of Animate, an advanced animation software application that will turn every kid into an animator and prior to going public is planning a first round of financing limited to accredited investors. If you are an accredited investor, send us your name and address and we will send you a confidential offering memorandum as soon as it is available.” When Jesse King learns about it, although he never took a securities regulation course, he cautions Abbott not to do it without talking to outside counsel and Abbott puts it on hold. Consider and be prepared to discuss the following as to the second and third rounds of private financing and the contemplated public financing.

1.   What exemption(s) may be available for the second and third round of financing?

2.   What disclosure document, if any, will have to be used in connection with the second and third rounds of financing? Under what circumstance could the use of a disclosure document be avoided? Would it be advisable to do so?

3.   What about Abbott’s idea of including an announcement on its Internet site? Consider Rule 135c and proposed Rule 135d as well.

4.   Can the second or third round be done on the Internet?.If so, how?

5.   What are the conditions to the exemption(s) relied upon in connection with the second and third round of financing?

6.   What integration problems exists vis a vis first and second round; second and third round; third round and public offering.

7.   Assuming the company decides that its plans are too ambitious and that it scales back its second and third rounds of financing to $5 million, what additional alternatives does it provide?

8.   To what extent are state blue sky laws a consideration in connection with the exempt financing? Assume the relevant states have the NASAA Model Accredited Investor Exemption and the NASAA Internet policy.

 

Part III. Resale of securities sold in the exempt offering.

1.   Why can the ordinary purchaser in a registered public offering resell the securities without any concern about registration?

2.   Why must the purchaser in an exempt offering be concerned as to when and how s/he can resell the securities without registration?

3.   Prior to the company going public, to whom, when, and under what circumstances and to whom can the purchasers of the Founders stock resell the shares they acquired.

4.   After the company went public, to whom, when, and under what circumstances and to whom can the purchasers of the Founders stock resell the shares they acquired.

5.   Assuming Abbott bought 10,000 shares of AnimatEASE in connection with the public offering, can he resell those shares like any other purchasers. If not, why not and when and how can he resell the shares.

6.   After the company went public, to whom, when, and under what circumstances and to whom can the holders of employee stock options resell the shares they acquire upon exercise of the options.

7.   After the company went public, to whom, when, and under what circumstances and to whom can the purchasers of the stock sold in the second and third round of exempt financing resell the shares they acquired.

 

Part IV. Post Public-Offering Exempt Offering

Our scenario and time frame changes. The company went public 15 months previously and contemplates raising $10 million in a private offering to institutional investors. The institutional investors are likely to insist that at the end of the day they will have free rather than registered stock. What exemption(s) could be available for the placement of the stock; to whom could the stock be sold; what disclosure documents have to be used; what disclosure documents would have to be used; what procedures and conditions would have to be followed in order for the securities to be resold by the private placees.

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