Arizona Governor Doug Ducey has signed into law a bill to permit crowdfunding of businesses in Arizona (see previous LBN report). The bill, spearheaded by the Arizona Small Business Association, will permit small businesses and entrepreneurs to raise money through crowdfunding. Phoenix attorney and business law expert Charles Berry provides an overview of the new legislation in this report.
The new law takes effect July 3, 2015. Berry points out that the new law is intrastate only. It will permit the sale of equities up to $2.5 million for businesses that have audited financial statements (up to $1 million for others). Accredited investors can invest unlimited amounts; others can invest up to $10,000.
The Arizona law was passed in reaction to a federal law whose SEC rules are too complicated and are not final. The Arizona law provides that only Arizona residents can invest, that the money must be used in Arizona, and that the company must be an Arizona company. Berry says that the process begins when a company that wants to use crowdfunding files a notice with the Securities Division of the Corporation Commission at least ten days before the offering.
Berry says that the notice must include a prospectus or offering memorandum describing in detail the company, what will be done with the funds, and all material information an investor would require. The company must also include an offering escrow agreement that funds will be deposited in an escrow account in Arizona. The agreement must set a target amount, and the company must raise at least 80% of its target before it can close escrow.
One detail still to be worked out is a way for an investor to sell shares that have been purchased. There is currently no Arizona market that could be used for this purpose, although private sales are always possible. Berry points out that one way to solve the problem is to have the target company acquired by a public company. Another option would be for the privately-held company to do a public offering at a later time. As Berry notes, “This is the same problem that every private company has.”
Berry says that the biggest disqualifications are the “bad actor” provisions that rule out offers from people who have been in trouble with the SEC or one of the states and from people who have been convicted of felonies or some kind of securities fraud.
Issuers using crowdfunding will still have to “make all the important disclosures” to prospective investors, disclosing all material benefits, risks, and potential problems with the company. Issuers also need to understand that anyone who will receive a commission or other compensation for selling shares will have to be licensed either by Arizona or by the SEC. Also, the company will have to operate a website providing the prospectus and other required disclosures. The website will be the place where investors come to examine the documents and decide whether to invest. Investors need to realize that this material will not have been vetted by regulators. “They’ve got to do their own due diligence.”
Charles R. Berry is an attorney with Clark Hill PLC in Phoenix. He is Senior Counsel in Clark Hill’s Corporate Practice Group and represents corporations, limited liability companies, partnerships, other business entities, and individuals in a wide spectrum of transactions, focusing primarily on capital formation and business management. He is a past chair of the Business Law Section and the Securities Regulation Section of the State Bar of Arizona. The Legal Broadcast Network is a featured network of the Sequence Media Group.