If you’ve been to accelerator or incubator demo days, you’ve likely seen a presentation that either flat out mentions the specifics of a financing round in progress or the details of a proposed financing. In the last couple years, however, some incubators and accelerators have been concerned that their demo days constitute, for their portfolio companies, a general solicitation for purposes of Rule 502(c) of Regulation D under the Securities Act.
Basically, if a startup conducts a ‘general solicitation’ of its securities, it must then comply with additional requirements in order to qualify for an exemption from registration with the SEC for such offering. These additional requirements, while not completely onerous, do present additional transaction costs and associated risks that must be incurred by a startup. Previously, general solicitation was prohibited in certain offerings under Regulation D but this “new” Rule 502(c) permits startups to use general solicitation in connection with their offerings — with the additional requirements/risks.
Yesterday the SEC released an answer whether demo day presentations are automatically considered general solicitations. This answer is ‘no’, but they gave a few rules/hints as to what could give rise to a startup’s demo day presentation being considered a ‘general solicitation’. Here’s the relevant Q&A from the SEC website in its entirety:
Question: Does a demo day or venture fair necessarily constitute a general solicitation for purposes of Rule 502(c)?
Answer: No. Whether a demo day or venture fair constitutes a general solicitation for purposes of Rule 502(c) is a facts and circumstances determination. Of course, if a presentation by the issuer does not involve an offer of a security, then the requirements of the Securities Act are not implicated. Where a presentation by the issuer involves an offer of a security, the presentation at a demo day or venture fair may not constitute a general solicitation if, for example, attendance at the demo day or venture fair is limited to persons with whom the issuer or the organizer of the event has a pre-existing, substantive relationship or have been contacted through an informal, personal network as described in Question 256.27. If potential investors are invited to the presentation by the issuer or a person acting on its behalf by means of a general solicitation and the presentation involves the offer of a security, Rule 506(c) may be available if the issuer takes reasonable steps to verify that any purchaser is an accredited investor and the purchasers in the offering are limited to accredited investors. [August 6, 2015]
I’ve never really understood why startups want to announce a pending round or give details on what their hopeful round will look like. First, just by presenting at a demo day it’s 99.7% likely that your startup is interested in a financing round (thus, no need to say it publicly). Second, if you mention valuation or an amount that you are looking for, it only gives potential investors a reason to question your thought process. It’s probably best to let the investors come to you with their ideas, if possible.
Regardless, based on the SEC’s answer above, it’s in your startup’s best interest not to mention anything about an offering of securities. It would be asking too much of an accelerator to make sure that everyone in the audience has a pre-existing relationship with each of their portfolio companies. And, I don’t think you want to automatically lose the chance to use Rule 502(b) (with reduced costs and risks relative to a 502(c) offering).