By Mark Heil
It’s a hot summer – time to be outdoors enjoying family and friends. It’s a time for adventure. It’s time to take in a ballgame and enjoy the Boys of Summer. So I asked myself what would Satchel Paige’s advice be with regards to the SEC’s lifting the general solicitation in accordance with the JOBS Act and remembered this quote: “Work like you don’t need the money, love like you have never been hurt; and dance like no one is watching.” Good Ole Satch – he’s got the right idea.
Enjoy your new found freedom! Celebrate it. Create a buzz. Sign up to be a general solicitation fund and dance with the bellwethers. Besides, you can also take a certain amount of delight in making your attorney sweat.
Over the past year, I have had the opportunity to speak to a number of general partners who say that after the Jobs Act is passed, they are just going to capital raise and hope they don’t trip over one of the general solicitation rules. Why???
Using the traditional method of capital raising, funds are only supposed to approach people who they know are accredited investors or reasonably believe they are. Care has to be taken when approaching new investors, even institutional investors, not to trip over the general solicitation rules. A wrong word to a reporter, a mention that the fund was in the market at a conference, or an e-mail sent to multiple prospective investors could still be deemed as a general solicitation.
Now, imagine a panel at an industry conference where two emerging fund managers who are in the market are sitting side by side. There are a number of LPs in the audience looking for a dance. The first fund manager has checked the traditional capital raising box. When the question is asked if he is in the market, he declines stating that he cannot comment on that topic. The second fund manager though has checked the general solicitation box. (Under the new rules, a fund must designate by checking a box on Form D whether it intends to generally solicit.) He says “Why, yes, we are in the market – thank you. By the way, we are having a launch party for our new fund raise tonight and if any potential investor is interested in attending you should see me after the event. Let me take a minute or two to tell you why we are so bullish on our investment strategy. Using this strategy in the past, we have achieved three exits with an average multiple of 5x, not that the past performance is necessarily an indicator of future performance.” [disclaimer required] He might even go on to describe how and why the investment strategy evolved over time. For good measure, he throws in a lesson learned about how one of their companies was headed for disaster, but they recognized that shred of intellectual property that made it valuable to a strategic investor and sold it returning all the capital invested to their LPs and little more.
Unless that first fund manager is wearing a propeller hat or a big, loud bow tie, he is probably going unnoticed or maybe he’s being noticed for the wrong reasons. After the panel discussion, he is watching LPs line up to punch the second fund manager’s dance card.
Are you still justifying your reasons for not opting for generally soliciting? Maybe you have concerns about investor verification. It should be thought of as a best practice that over time LPs are likely to require even if the SEC does not. (I admit it looks self-serving being that we are considering providing Investor Verification services for our clients, much like we do AML/KYC.)
But now let’s consider the following scenario: it does not take much imagination to predict a situation in the not so distant future where a fund goes out checking the box for the traditional method of capital raising (not general solicitation) and trips over one of the general solicitation rules. One of your new investors is on the receiving end of that solicitation, and three or four years later, this investor is having cash flow problems or just wants out of the fund. To get his money back, he threatens to seek a rescission on the basis of a claim that he was improperly solicited, and by the way, he was not really an accredited investor at the time of the investment (or worse yet that another investor who was also improperly solicited and invested was not an accredited investor at the time of the solicitation). To be sure it is a small risk, but at its worst, it could be a career changer. Do you think your LPs will want you to spend time and resources on that matter?
The real pain point for fund managers who plan to file with the SEC as generally soliciting will be determining the proper time to file Form D, should the amendments be passed.* This is a particularly difficult decision for a fund looking to raise its first true institutional fund where pre-marketing and finding a bellwether lead investor is important and the lead times long. In the past, a GPs failure to raise a fund was a private matter between the fund and some prospective limited partners. Now with the requirements to file before generally soliciting and after, the information as to when a capital raise was initiated and closed may be publicly available. If you file too early, people will wonder why it is taking you so long. File too late, you could run afoul of the SEC, or worse yet, give the disgruntled investor some leverage. As a result, I suspect that timing for many fund’s filing of Form D will be very near the date of their first close.
The Jobs Act is coming. To make sure your dance card gets filled, join us for a webinar on August 22 from 12:00 Noon to 1:30 p.m. Eastern Standard Time for “Five Innovative Ways You Can Now Fill Your LP Dance Card Under the JOBs Act.” By the end of the program, you will be singing Sinatra’s “My Way.” If interested, send an e-mail to firstname.lastname@example.org and she will send you the phone number and access code. Wallflowers need not attend.