09/30/2013 08:38 am ET | Updated Nov 30, 2013

Private Offerings

Due to the dearth of alternative sources of financing, there recently has been a resurgence of film companies raising capital through securities offerings that are exempt from registration with the SEC, referred to as private offerings. These private offerings can range all the way from small offerings of several hundred thousand dollars to large offerings of hundreds of millions of dollars, as long as all the investors are "accredited investors" meeting certain net worth or income tests discussed below. Because investors in private offerings are willing to assume much more risk than a lender, private offerings can work for companies that are unable to obtain conventional financing. The JOBS Act of 2012 (the "JOBS Act") affects these private offerings by loosening the restrictions on what companies raising capital ("issuers") can do.

Crowd Fuding. One section of the JOBS Act permits "crowd funding," which is aimed at equity or debt offerings of not more than $1 million through "funding portals," envisioned as web sites that match investors to investments. (This crowd funding through investments is not to be confused with philanthropic fund raising through websites such as Kickstarter, since the donors under that approach do not receive any economic return, although that approach is also referred to as crowd funding.) The theory behind the crowd funding exemption in the JOBS Act is laudable, but it actually makes crowd funding a chimera because it adds so many hurdles and restrictions that it makes the crowd funding exemption worse than just relying on the current exemptions from registration. As a result, the theoretical benefit of meeting a mass of restrictions and qualifications on crowd funding, compared to relying on an existing exemption for offerings up to the same $1 million limit, is meager: Crowd funding offerings can be used to permit investment by widows, orphans, and other investors that are not "accredited investors" (discussed below), and the crowd funding exemption overrides state securities laws, except for the requirement to pay any applicable filing fees in the state of the issuer's principal place of business or where investors making more than 50 percent of the investment reside.

The alternative to the crowdfunding lunacy for small offerings is to just rely on SEC Rule 504, which exempts offerings of not more than $1 million to whomever, as long as the issuer discloses all material facts, does not commit fraud, does not advertise, and files Form D with the SEC. Nothing more is required. For Rule 504 offerings, the issuer also must comply with state securities laws, but for most of them, the issuer simply is required to limit the offering to under thirty-five investors that either have a pre-existing relationship with the promoter or that are financially sophisticated (or are represented by someone who is).

Advertising. Another section of the JOBS Act makes a significant change to offerings to "accredited investors" by requiring the SEC to issue regulations permitting general solicitation and advertising, as long as the issuer takes reasonable steps to verify that the purchasers are accredited investors (as opposed to accepting a self-serving declaration, which is permitted for offerings that do not have general solicitation or advertising). An "accredited investor" is an investor who is one of the following:
• A natural person whose net worth (together with his or her spouse, if any) exceeds $1,000,000 at the time of the purchase (excluding the investor's principal residence);
• A natural person who had an individual income in excess of $200,000 (or $300,000 if married) in each of the two most recent years, and who reasonably expects an income in excess of that amount in the current year;
• An entity that has over $5 million of gross assets that was not formed for the specific purpose of making this investment; or
• An entity owned solely by one or more of the foregoing.
While the crowd funding exemption is a bust, the new rule allowing advertising to accredited investors is significant, at least once the SEC gets around to issuing regulations permitting it. Indeed, the day may come when movie theaters run trailers for upcoming investment offerings in film deals, rather than for upcoming films.

In addition, the JOBS Act permits offerings to accredited investors through funding portals as long a couple of requirements are met. First, the funding portal must either register as a broker/dealer or not receive or pay any compensation in connection with the sale of listed investments. Second, the funding portal cannot have possession of customer funds or investments.

If these requirements are met (which are far less stringent than the requirements for funding portals under the crowd funding exemption), the funding portal may provide ancillary services, such as (a) the provision of due diligence services, so long as such services do not include, for separate compensation, investment advice or recommendations to the issuers or investors; and (b) the provision of standardized documents to the issuers and investors, so long as the funding portal does not negotiate the terms of the issuance for and on behalf of third parties, and so long as issuers are not required to use the standardized documents as a condition of using the service.