Why Should Your Company Not Go Public?

I keep thinking about what happened during the Facebook IPO, - the so much anticipated, talked about IPO. For those who have not heard, - here is a great timeline of the events related to the Facebook IPO: http://www.fastcompany.com/1838630/facebook-ipo-most-important-news-stories. The Facebook shares priced at $38 per share, opened at $42, and are now trading at $27.61 (as of the morning of June 14th). The SEC, FINRA, the Commonwealth of Massachusetts, and two congressional panels all announced their intention to review and investigate the IPO and the surrounding activities. Shareholder class action lawsuits are likely to follow soon.

Looking at the Facebook example, I ask this question: is it worth for a company to become public? One obvious major advantage is the ability to raise capital from the public in a relatively short time frame. Public companies may file the so called “shelf registration statement” with the SEC that would enable them to “do take downs off the shelf” (i.e., issue securities pursuant to that registration statement) relatively quickly. There is no need to write extensive disclosures since information about the company is already available to the market through the shelf registration statement and the public periodic reporting documents filed by the company. By being public, a company can now tap into both the public and the private financial markets. Additionally, becoming a public company brings visibility and prestige to the company.

But on the other hand, the cost associated with becoming and being a public company is exorbitant. Typical IPO fees (listing fees and fees paid to advisers) can easily exceed $1 million. Once public, the company becomes subject to reporting obligations under the Securities and Exchange Act of 1934, which means that it has to prepare and file annual, quarterly and current reports with the SEC. Periodic reporting has become an expansive undertaking for many companies that are struggling with high legal and accounting costs associated with being “public”: preparation of reports, attestation requirements, internal controls over financial reporting, etc.

I identify the following two main drivers of IPOs before the JOBS Act. First, the company investors (founders, angels, VCs, private equity funds) needed an exit. Second, the company had more than 500 shareholders, the previous threshold for reporting obligations.

Now, the second reason has been relaxed. As of April 5th, 2012, the 500 shareholder threshold has been raised to 2,000 persons in total or 500 persons who do not qualify as accredited investors (and not counting employees or those shareholders who purchased securities in a crowdfunding transaction).

As to the first reason, as suggested by David Feldman in his blog post, companies should consider avoiding the whole IPO process through alternative strategies (reverse mergers, SPACs, etc.). You can find his blog post here: http://www.reversemergerblog.com/2012/05/23/facebook-ipo-no-perfect-way-to-go-public/
So, it seems that the companies can wait a little longer before becoming public or become public companies by avoiding the IPO process.

This article is not a legal advice, and was written for general informational purposes only. If you have questions or comments about the article or are interested in learning more about this topic, feel free to contact its author, Arina Shulga. Ms. Shulga is the founder of Shulga Law Firm, P.C., a New York-based boutique law firm specializing in advising individual and corporate clients on aspects of business, corporate, securities, and intellectual property law.

Raising Capital Outside of the United States

Much has been said and written about how start-up founders can raise initial capital to launch and grow their businesses by getting funds from their friends and family, angel investors or VCs.  I would like to bring to your attention an additional source of capital: foreign investors and U.S. citizens or residents located outside of the Unites States. 

Issuing equity or debt to foreign investors or U.S. citizens or residents located outside of the United States is a securities offering, just like issuing convertible notes or Series A preferred stock to domestic investors.  However, registration requirements of the Securities Act will not apply to such offering so long as it is conducted outside the United States.  Regulation S, which comprises five rules, reflects the territorial approach of the Securities and Exchange Commission: only the offers and sales of securities inside the United States are subject to the registration requirements of the Securities Act.   

Typically, the Securities and Exchange Commission decides on a case-by-case basis whether an offer and sale is made inside or outside of the United States.  Regulation S provides certain conditions, which, if met, help determine when the offer or sale is made outside of the United States.  There are two general rules.  First, the offer or sale has to occur in an “offshore transaction” (i.e., a transaction where offers or sales are made only to persons located outside of the United States at the time of purchase and either the buyer is outside the United States or the seller reasonably believes that the buyer is outside of the United States at the time the buy order is originated).  This means, generally speaking, that a U.S. citizen can purchase a security of a U.S. company in a Regulation S offering as long as that person is located outside of the United States at the time of the purchase.  Second, no “direct selling efforts” are made in the United States in connection with the distribution or resale of the securities (i.e., no activities that may condition the U.S. market, such as advertising to the U.S. investors).       

In addition to these two general requirements, there are certain other conditions (certifications, legends and reselling restrictions) found in Rule 903 that founders of a U.S.-based startup conducting a Regulation S offering should comply with.  Although securities sold pursuant to Regulation S are freely tradeable as long as sold offshore to someone who is not a citizen or permanent resident of the United States, buyers have to hold these securities for at least 40 days for debt offerings and one year for equity offerings before they can resell to U.S. persons. 

In conclusion, conducting a Regulation S offering is not onerous for a small company.  There is no prohibition on general solicitation or advertising so long as such activities are not directed into the United States.  There is no limit as to the number or nature of investors.  Regulation S does not require any specific disclosure information or financial statements (but there are requirements as to stock legends, buyer certifications, notices and other documentation).  However, start-up founders need to be careful: Regulation S will not apply to any scheme or plan to avoid registration under the Securities Act.   

This article is not a legal advice, and was written for general informational purposes only.  If you have questions or comments about the article or are interested in learning more about this topic, feel free to contact its author, Arina Shulga.  Ms. Shulga is the founder of Shulga Law Firm, P.C., a New York-based boutique law firm specializing in advising individual and corporate clients on aspects of business, corporate, securities, and intellectual property law.

Which States are Friendly to Small Businesses?

Recently, Thumbtack.com conducted a Small Business Survey in partnership with Kauffman Foundation.  You can find the survey results here: http://www.thumbtack.com/survey.  The survey involved a two-month long interview of over 6,000 small business owners nationwide.

Most of the states in the survey have been given a grade for small business friendliness.  In evaluating the states, Thumbtack.com looked at such factors as the ease of starting a business, hiring costs, regulations, including tax code and licensing requirements, availability of training programs and networking, as well as the current economic health of the state. 

I cannot say I am surprised by the results.  Idaho, Texas, Oklahoma and Utah received “A+”, followed by Louisiana, Georgia, Virginia and New Hampshire who got an “A”.  Several states received the lowest grade, an “F”.  These states are California, Hawaii, Vermont and Rhode Island.  Massachusetts, Connecticut, Michigan and New York received a “D”.  Overall, it seems that the southern states and those in the middle are more friendly to small businesses, whereas the northeastern states and California are less friendly. 

I would like to mention several key findings about New York.  According to the survey, it was ranked among the top five least friendly states for small businesses and was ranked as #1 nationwide as the least friendly in terms of the professional licensing regulations.  I am sure that high tax rates, the onerous LLC publication requirement and the high hiring costs have all contributed to the grade.  On the bright side, I don’t think any other city surpasses New York City in terms of the training and networking opportunities available for entrepreneurs and small business owners.  If you have difficult time finding them, - email me and I will point you in the right direction.     

Four states are missing from the survey, including Wyoming.  I wouldn’t be surprised if Wyoming got an “A+” if it were evaluated since it is truly easy to start a business there and Wyoming corporations do not pay income tax.  

This article is not a legal advice, and was written for general informational purposes only.  If you have questions or comments about the article or are interested in learning more about this topic, feel free to contact its author, Arina Shulga.  Ms. Shulga is the founder of Shulga Law Firm, P.C., a New York-based boutique law firm specializing in advising individual and corporate clients on aspects of business, corporate, securities, and intellectual property law.