The focus of this summary is to outline in a general manner the procedure for small and medium size Companies who wish access to the US capital markets.
We are not directing our comments to major companies but rather to a company that has:
- been in business for three or more years;
- experienced and capable management;
- shown a steady increment in growth;
- Company's business history and industry sector
- curriculum vitae of management
- last three years financial statements
- how much money management seeks and how this capital will be used.
- what effect will the increased capital have upon the company's business; id est: what management expects the infusion of additional money to accomplish
- a meeting with management and a visit to the Company's factory/offices to discuss the Business Plan and the conditions of the share offering
- the signing of a Letter of Intent between the Company and the Underwriter.
The "Over the Counter" (OTC) market is not an exchange: Shares traded OTC on the Electronic Bulletin Board (EBB) and the "pink sheets", called such since the quotations are printed weekly on pink colored paper, are not considered to be exchange (or NASDAQ) listed.
Private placement: This could be a "first step" category. One where an issuer may offer its shares to investors with the expectation that there will be a subsequent or "registered offering" to the public. The issuer's shares sold privately, are not traded in the OTC or on any exchange, but are acquired by the investors for "investment purposes only and not with a view toward resale". The purchase is usually made with the expectation that the shares will at some time be registered with the SEC at a price much higher than its initial cost. There is no dollar limit to the amount a company may seek to raise. There are restrictions however on the number of investors who may participate in this form of financing and the individual's financial capability to make an investment of this type.
Rule 504 offering: This is a category of particular interest. It is an offering in part a "private placement" and exempt from the registration process but also has characteristics of a public offering since the issuer may offer its shares to any number of investors; may pay brokerage commissions to the underwriter and may publicly announce its offering terms. The issuer under a Rule 504 offering may receive up to $1,000,000 from the public during any 12 month period and need not file its offering with the SEC prior to the offer and sale. Under Rule 504 the issuer does not deliver a "prospectus" but rather an "Offering or Private Placement Memorandum". The offering memorandum should contain financial information (which need not be certified) regarding the company and all of the other information that would give the investor the full story in order to be able to make a considered determination as to the suitability of the investment.
Regulation A offering: This is a category where the company may raise up to $5,000,000 without the need to complete the entire registration process. The Company files an information memorandum with the SEC, for review purposes, ten days prior to the first offer to the public.
However, whenever a company wishes to have its shares traded on a stock exchange, or OTC (NASDAQ) it must file its financial information in accordance with US generally accepted accounting principals.
Whether the procurement of capital is through an informal "private placement" or through a registered offering the rules in the United States for total and full disclosure of all material information are applicable without exception. The responsibility for the failure to make full disclosure of all material information will fall seriously upon the company's management, perhaps its accountants and attorneys and not least of all the company's underwriter. Penalties are severe and may be in the form of fines, imprisonment and result in a permanent bar from future participation in the US capital markets.
The Rule regarding financial information under a 504 offering is simply: If an audited financial statement is not material to an investor's understanding, the issuer may elect to present alternatives to its audited balance sheet. On a practical level, we are able to take a portion of the proceeds of the offering and prepare the GAAP audit which will be necessary in order to list the company on any exchange or the OTC. The GAAP audit will be necessary in order to get the company listed on NASDAQ or any exchange.
While brokers prefer to underwrite companies that are NASDAQ qualified, there are other markets on which shares may be transacted. There is the Electronic Bulletin Board (EBB) and quotations in the "pink sheets". While there are serious and profitable companies quoted on the EBB and pink sheets many brokerage firms will not allow their traders or salespeople to deal with shares traded in those two markets for a variety of reasons that may have relatively little to do with the company itself.
In all instances, after receipt of the funds, the company then proceeds to the GAAP audit and no matter how good, bad or indifferent the result, provided the company has fully disclosed its story and under the most important section of the offering information entitled "Management Discussion and Analysis" (MD&A), the investor has been fully informed of management's own view of the company's business and prospects, the company's shares, upon SEC authorization, may then begin trading.
Other size offerings: There are as many categories of offerings as there are categories of share underwriters. Any company can choose to undergo the full registration process and offer its shares to the US investor in any amount and upon terms agreeable to the company and its underwriter. It is simply that the registration process may take months and the costs for attorneys, auditors, printing, filing fees and other necessary expenses become significant.
- An agreement regarding the number of shares to be offered to the public; the price per share and the percentage of equity those shares represent in the company are matters determined by the company, its advisers and the underwriter. If the parties are of the opinion that the underwriting conditions are fair and competitive and the market will accept those conditions then the transaction may proceed. It is important to understand that market conditions and competition dictate, to a great degree, the terms of an offering to the investing public and how much the company must give up to receive its funds. The offering price and conditions my not necessarily to be related to book value or other economic indicators.
- the role of the SEC is not one of determining the fairness of the conditions of the offering. The SEC is charged with the duty to ensure that there has been full and total disclosure and there has been compliance with the rules by the issuer, its attorneys and accountants, governing public offerings. The SEC does not pass upon the merits of an offering. Whether the offering terms are fair, unfair, over reaching or any other consideration is not the SEC's responsibility.
- the fairness of the underwriting commissions and expenses is passed upon by the National Association of Securities Dealers, Inc. (NASD) the organization charged with the supervision of the broker dealer community and to which underwriter is a member. Fee schedules and other compensation limits are adhered to and there are audits and reports submitted on a regular basis to the NASD by each member. The NASD has an efficient control and disciplinary procedure to ensure the proper comportment of its members, both as it relates to the issuer company and to the investing public.
Generally speaking, investors who are interested in this level of risk investment are not as concerned with dividends but rather look to the increase in the share price.
When considering a "private placement" the estimated costs are as follows:
| Category | Cost | When Payable |
|---|---|---|
| Attorney to prepare the Memorandum | $25,000 | upon agreement |
| Underwriter's attorney | $15,000 | upon agreement |
| State filing fees | $2,500 | upon commencement of the offering |
| Accountant | unknown | upon agreement between the Company and its accountant |
| Printing, mailing, courier and miscellaneous | $2,500 | upon commencement of the offering |
| Underwriter commissions | 10% of the offering | payable at closing |
| Underwriter expense allowance | 5% of the gross offering | payable one third upon signing the Letter of Intent; one third upon commencement of the offering to the public; the balance at closing. |
Where there is a Registered Offering:
| Attorney | $75,000+ | upon agreement |
| Underwriter's attorney | $50,000(- or +) | upon agreement |
| SEC and State filing fees | $7,500 | upon filing of the offering with the SEC |
| Accountant | unknown | upon agreement between the Company and its accountant |
| Printing, mailing, courier and miscellaneous | $10,000 | upon commencement of the offering |
| Underwriter commissions | 10% of the total amount of the offering | payable at closing |
| Underwriter expense allowance | 5% of the total amount of the offering | payable one half upon signing of the Letter of Intent and the balance at closing |
