Ten mistakes sponsors make raising capital

Rule 506(b) requires that the offering not be made by general solicitation. That limitation is broader than most sponsors expect, and it expressly reaches events:

“…neither the issuer nor any person acting on its behalf shall offer or sell the securities by any form of general solicitation or general advertising, including… any seminar or meeting whose attendees have been invited by any general solicitation or general advertising…”

A public post, an open pitch night, a blast to a purchased list. Any of these can foreclose 506(b) for that offering — and the decision gets made before anyone realises a decision was being made.

If you have gone the 506(c) route so that you can market the deal, every purchaser must be accredited and you carry an affirmative obligation:

“The issuer shall take reasonable steps to verify that purchasers of securities sold in any offering under paragraph (c) of this section are accredited investors.”

A subscription agreement in which the investor represents they are accredited is enough under 506(b). It is not enough under 506(c), and the difference is the whole reason 506(c) exists.

The notice filing is straightforward, brief, and easy to forget in the fortnight after a first close, which is exactly when it is due:

“…must file with the Commission a notice of sales containing the information required by Form D… no later than 15 calendar days after the first sale of securities in the offering…”

Federal compliance is not the whole picture. States generally require their own notice filings and fees where investors are resident. A Florida fund with investors in four states may have filings in each of them. Nobody notices the omission until a later investor’s counsel asks during diligence — and then everybody notices.

Someone well connected offers to make introductions in exchange for a slice of the raise. It feels like an ordinary commercial arrangement.

Transaction-based compensation for selling securities is the classic indicator of broker activity, and a person acting as an unregistered broker creates a problem that belongs to the issuer as much as to them — potentially including rescission rights for the investors who came in that way. There are ways to compensate people who help. A percentage of the raise is the one to stop and think about first.

A better rate for the investor who came in first. A fee waiver for a friend. A verbal promise about co-investment rights. Each is individually reasonable and collectively corrosive, because the other investors are relying on documents that do not describe the actual deal. If a term is real, it belongs in writing where everyone can see it.

A fund buys discretion and speed across future deals, at the cost of more complex terms and investors who are underwriting the sponsor rather than an asset. For a first-time sponsor with one identified deal, an SPV is usually simpler, cheaper, easier to explain, and easier to close. The fund can come after there is a track record to raise against.

A pooled vehicle that holds investments can raise questions under the Investment Company Act, and how the sponsor is compensated can raise questions under the Investment Advisers Act. These are structural, they are answerable, and they are far cheaper to address before documents are drafted than after money is in.

Confident projections, a “target” return stated without qualification, comparisons to past deals that leave out the ones that went badly. Offering materials are read closely afterwards, particularly by people who lost money, and language chosen for enthusiasm reads very differently in hindsight.

Who was solicited and how, what each investor was sent, when they signed, what verification was obtained, what was filed and when. Compliance is largely a documentation exercise, and the file is the only proof that the exemption conditions were satisfied. Sponsors who keep it well can answer a question in an hour; sponsors who did not spend weeks reconstructing it.