State securities law amendment eases start-up financing
While attracting entrepreneurs to New Hampshire has been a key objective of the state’s government and business leaders for a number of years, local entrepreneurs have often discovered after receiving start-up capital from friends and family that they have inadvertently violated New Hampshire’s securities laws. But recent amendments to those laws have made it easier to avoid or minimize the effect of inadvertent violations. The problem has been that unless a company qualifies for an exemption when offering securities to investors, including family members and close friends, it must file a registration statement containing its offering materials with state regulators. The preparation and filing of this statement, as well as the review by securities regulators, is an expensive and time-consuming process that must be completed before an offering can be conducted. Failure to comply with securities filing requirements at the start-up stage — deliberately or unknowingly — risks enforcement actions by securities regulators and substantial regulatory penalties down the road, as well as legal fees in “cleaning up” securities law violations. The clean-up process can be a costly, time-consuming impediment to raising capital. It is a trap that can easily ensnare small business owners who are unaware that these securities laws and regulations even apply when capital is raised only from a small circle of family members and friends. New Hampshire has a number of exemptions from registration of sales of securities available to small start-ups, the two most common of which for start-up companies are the “founder’s exemption” and the “isolated sales exemption.” The founder’s exemption deals with the initial round of fund-raising for most start-ups. It allows them to make up to 10 sales of stock within 60 days after the company’s formation without having to register the sales. But start-up companies often find that 60 days is too short a period to bring in all initial investors. If a company needs more time, it may then rely on the isolated sales exemption, which prior to July 1, 2006, was limited to no more than five sales over a rolling 12-month period (including investors both within and outside New Hampshire). Effective July 1, however, the number of permitted isolated sales was increased to 10 during any rolling 12-month period, subject to a limit of 25 such sales over the life of the company. Additionally, as was the case prior to July 1, the number of permitted sales under both the founder’s and isolated sales exemptions can be increased on a case-by-case basis by the New Hampshire Bureau of Securities Regulation. Clear benefits In addition to expanding the isolated sales exemption, New Hampshire’s securities law also has been amended expressly to permit stacking of exemptions. Now, future sales that qualify for other exemptions or are pre-empted under federal securities law from registration under state law may be stacked onto previous isolated sales. This means that if future financing efforts attract angel or venture capital investors in transactions that are exempt from the registration requirements of New Hampshire’s securities laws, those sales can be made without disqualifying previously exempted sales that were made within the 12-month period preceding the venture capital/angel financing. Finally, the recent amendment to the state’s securities laws also includes a provision for a late filing fee for notices required to be filed with the Bureau of Securities Regulation respecting stock sales made pursuant to the Security and Exchange Commission’s Rule 506. Rule 506, which applies to private placements that meet certain requirements, is generally relied upon in financings with venture capital firms and angel investors because it provides a “safe harbor,” permitting companies to sell securities without having to file a registration statement with the SEC. In lieu of a registration statement, the issuer simply files a notice of sale with the SEC. The benefit of qualifying as a “506 offering” at the state regulatory level is that such offering is pre-empted by federal law from registration requirements at the state level. However, companies relying on this exemption still have to file with state securities regulators the notice of sale required to be filed with the SEC — and this is where start-ups often get tripped up. The statutory period for filing the notice of sale (along with certain accompanying notice filings) in New Hampshire is 15 days following the first sale (the same as the SEC’s filing requirement). This filing requirement is occasionally missed, which results in potentially costly and time-consuming enforcement action by New Hampshire’s Bureau of Securities Regulation. New Hampshire’s securities laws have been amended to provide for a late filing fee (the cost is $500 if paid within 90 days of the due date and $1,000 if between 90 days and a year), which permits the company to avoid enforcement proceedings and significant fines by payment of such fee within the permitted time periods. While these changes may seem to be small steps, they should provide clear benefits to local entrepreneurs. They reduce the risk to entrepreneurs of inadvertently running afoul of state securities regulations during the initial funding stage when investments are sought from friends and family members. And for those who fail to meet their filing obligations with respect to investment rounds with angel investors which qualify as private placements under the SEC’s Rule 506, the new late filing provisions help protect against costly penalties and enforcement proceedings if the filings are completed within one year of when due. nhbr Curt Little is a partner with the Manchester law firm Cook, Little, Rosenblatt & Manson.