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Rule 504 Securities Exemption

27. What is a Rule 504 “small offerings exemption”?

Rule 504 is a transactional exemption from registration under Regulation D for small securities offerings. The statutory authority for the rule is pursuant to Section 3(b) of the ’33 Act. The general requirements and limitations on the exemption are as follows:

•    Issuer Protections – The exemption is available to the original issuer. The exemption is available to any company that is not a “reporting company”, “investment company”, or a “blank check company” under the Securities Exchange Act.

•    Dollar Limits – Rule 504 allows an issuer an exemption for small offerings of shares with an aggregate annual value of up to $1 million. The issuer may not split a single offering between Rule 504 and some other exemption. Any other offerings during the previous twelve-month period, even if under another exemption, will be integrated into the Rule 504 offering.

•    Number of Purchasers – The issuer can make sales to an unlimited number of persons. It does not matter whether the purchasers are sophisticated or accredited investors.

•    Restricted Securities – Securities are restricted. Affiliates and non-affiliates of an issuer who wish to resell securities must look elsewhere for a transactional exemption.

•    General Solicitation – Rule 504 prohibits the issuer or anyone on the issuer’s behalf to “offer or sell the securities by any form of general solicitation or general advertising”. Rule 504 does allow for general solicitation in the following circumstances:

⁃    the offering is registered in the state where securities are sold, or

⁃    the state permits general solicitation and sales are only made to accredited investors in that state, or

⁃    Note: In these situations, the securities issued pursuant to either of these provisions are not restricted.

⁃    the state of issuance does not require registration, but the securities are registered in another state.

⁃    Note: This is a situation where the state allows the issuer to piggyback on the registration of securities in another state. The issuer must generally file an informational notice to the issuing state regarding the registration in another state.

•    Private Placement Memorandum – To qualify for this exception, the state law must require “the public filing and delivery to investors of a substantive disclosure document before sale.” The disclosure document must disclose all material information to investors.

•    State Regulation – A Rule 504 exemption does not preempt state regulations of securities under such an issuance. States may still regulate the issuance.

•    Discussion: What do you think is the SEC’s purpose in allowing for the Rule 504 exemption? Who do you think this exemption best serves? What do you think is the greatest limitation on this exemption? Why do you think the SEC allows for exceptions to the rule against general solicitation?

•    Practice Question: ABC Corp is a relatively new company that is growing quickly. ABC needs about $1 million in investment capital reach its growth goals for the next 18 months. In a brief letter, can you summarize the benefits and drawbacks of seeking an exemption from securities registration under Rule 504?

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