Offers to Investors that are excluded from the FMC

If an investor is not a relative or an employee, a company issuing shares in reliance on any of these exemptions should take the precaution of having their investors certified if they are investing less than $750,000. Failing that make sure you document the exemption you think you are relying on. The major easy ones are:

  • Large investor $5m assets or turnover.
  • Involved in investment Activity, $1m financial assets or turnover in financial assets.
  • $200k of income.
  • 5% or more of the company pre offer.

And don’t forget to include a warning statement to the effect that buying this product could harm your financial health.
The Financial Markets Conduct (FMC) Act was passed into law in 2013, and the operative provisions relating to offer documents came into force on 1 April 2014 (as do many other features of the FMC). In addition, crowd funding platforms were opened to be licenced from 1 April.
Crowd funding refers to platforms that offer securities in small parcels to the public. Offers through such platforms are not covered by the Offer document regime but rather regulated by licencing the market operators though a licencing regime.
The advantages of crowd funding are that they are cheap and fast to initiate, and offshore have been successful and given birth to significant capital rises have birthed a number of new start ups.
In NZ such platforms have to date been used to raise money for projects, events or charities, but not for business and not in exchange for securities.
There are however a number of issues when using crowd funding to establish a new business and thus I do not recommend them for a new venture, nor for a more mature one, unless prior to an IPO compliance listing you want to establish a market spread.
There are a couple of obvious issues with crowd funding.

  • You don’t know in advance who your shareholders will be, so you could end up with some undesirable shareholders.
  • You can end up with a lot of small shareholders which are very expensive to service, with annual accounts newsletters and don’t forget the AGM’s.

This article is to over view the exempt offers regime post 1 April under the FMC.
While it seems based on media reports that t the new regime is fundamentally different to the carve outs that were available the old Securities Act, the reality is not much has actually changed. Even the much promoted small offers regime still has significant restrictions around its use and is not that much different to what came before it. The Employee share scheme however is much more flexible than what existed previously.
All offers to the “public” remain caught under the regime. Section 39 catches all offers of Financial Products unless such offers are exempt and the exemptions are listed in Part 1 of the first schedule to the FMC. The new disclosure document is now called a Product Disclosure Statement.
Regardless all offers including exempt offers are covered by the fair dealing provisions of the Act and thus non-disclosure of material facts or misrepresentation remains actionable and is covered by the Act.
There is also a continuing prohibition on advertising “offers” and thus small offers and offers to “wholesale investors” cannot be made easily.
Advertising is defined in Section 6 of the Act and is in substantially similar form to that contained in the Securities Act and covers all communications to the public or any section of the public. A section of the public is any person who is not covered by the exemptions listed in this article.
In the following provisions overview I refer to the company raising capital as the “offeror”, and the friends, family and fools buying the shares as “investors.”
Wholesale Investors.

  • An investor will automatically be considered a wholesale investor if the amount invested in the offer or totals $750,000 including all pervious investments made by the same investor. The look back is a new concept (para 3).
  • Further an investor is “wholesale” if that person or entity is in the business of investing in Financial Products or in the business of underwriting. Authorised Financial Advisors (AFA) are considered to be involved in the business of investing and are thus “wholesale” investors in both their professional and personal capacity (para 37).
  • An investor involved in “investment Activity” will also be considered wholesale (para38). A portfolio of $1m or more in financial products at the time of the investment or at any time in the previous 2 years is deemed to constitute an Investment activity.
  • An investor that has in the pervious two years acquired financial products to a sum in aggregate of $1m that person will be deemed to be involved in an investment activity. Thus share traders with transactional volume of $1m over two years are also wholesale investors regardless of net worth.
  • A large investor is deemed to be wholesale. Kim Dot.Com is large in every sense of the word, but physical stature is not the test. Wealth is. The threshold is now $5m (para 39). The test is now measured at the last two previous balance dates of the investor prior to investment. In the alternative if the investors group turnover for each of the last two years was at least $5m the investor is deemed to be large (para39).

In determining whether these tests are meet a group of entities under the control of the same person can be aggregated (a new provision previously it was tested by entity). How these threshold tests are applied can be prescribed and regulated by the FMA (section 568). To date no such methodologies as to valuation have been promulgated.
Eligible Investors.
These are also deemed to be “wholesale” investors but are worthy of comment separately. This is a self certification regime. The investor certifies in writing before investment that they are eligible investors (para 41).
They must in this certificate state:

  • That they understand the consequences of electing and certifying themselves as eligible.
  • They must state the grounds upon which they have this belief that they are eligible.
  • They must state that they have previous experience in acquiring or disposing of financial products that allows them to assess the merits of the offer and the information needs relevant to that offer, and the quality of the information provided in respect of the offer.

An AFA, Chartered Accountant or a lawyer must sign a written confirmation of the following:

  • That the investor understands the consequences of self-certification as “eligible.” Translated this means that the AFA etc. should explain the consequences of this to the investor.
  • And that he has no reason to disbelieve the grounds upon which that self-certification has been given (para 43). If you feel inclined to read para 43 it is a prime example of what is neither clear nor concise.

In addition if the offeror knew that the investor was not “eligible” on the criteria stated, or otherwise, they cannot rely on the certificate provided. If the AFA CA or Lawyer was associated with the offeror, or the AFA, CA or lawyer had provided advise to the offeror in the last two years, or if the certificate is more than two years old the offeror cannot rely on the independent certificate (para42).
Save for thee carve out such a certificates will provide an offeror with a safe harbour in respect of any offers made to such investors (para 44).
Close Associates and Relatives.
Offers made to close associates continue to be excluded from Part 3 of the FMC disclosure regime. Close associates or relatives are:

  • Directors and senior manager of the offeror, or a related company of the offeror.
  • Shareholders who hold more than 5% of the offeror.
  • Shareholders of related companies holding more than 20% of the related entity.
  • Business partners (Partnership Act 1908) of a director of the offeror.
  • Spouses, parents, grandparents, aunts uncles siblings or children grandchildren nieces or nephews, first cousins of any person who is a close business associate (or spouse of said associate) of the offeror (the relative exemption only extends of directors of the offeror). This also extends to trustees for any of these relatives.

The close relationship must result in the investor being able to assess the merits of the offer, or obtain the information necessary to assess the merits of the offer. Relatives are more favourably treated in that the relationship does not have to mean that they have access to information at all.
In terms of the “three F” capital round, friends (close business associates) must be such that they have access to information to assess the offer, family can just cough up without such access or skills and the rest can be grouped as certified fools.
Employee Share Schemes.
This exemption covers offers to employees or contractor that provide personal services to a business where the offer of shares is made in connection with an employment contract. Such offers cannot exceed 10% of the company’s issued stock in any 12 month period.
Small Offers.
This is a new provision. A small offer is an offer for $2m or less of new equity in an offeror in any 12 month period, were the total number of new shareholders involved is 20 or less. This could constitute 20 separate offers or one offer where 20 participants subscribe. Also you do not have to count in this limit shares issued under any other exemption.
The offers may not be advertised nor must the intention to make an offer be advertised and must only be made personally to persons:

  • Who have an interest in receiving the offer this interest being demonstrated by personal business or professional relationships or by having in some other way expressed an interest in receiving the offer (in effect relatives or business associates) or
  • Who have at least $200k of income for each of the previous two financial years.

An issuer who may have advertised will be eligible to rely on the exemption but may be liable under part 8 of the Act. So you can keep the money but suffer enforcement action.
In respect of offers relying on the Small Offer Exemption various disclosures are required post the event.
Once each year and within one month of the offerors annual balance date the FMA must be sent a notice that confirms that the issuer has relied upon the exemption, detail the nature of the financial products issued, confirm the amount raised and the number of investors to who securities were issued. Also the key terms of the offer, the first date on which it was distributed to potential investors and the offer opening and closing dates. The FMA will build an on line tool accessible from their website for this which should make it easy.
All small offers must contain a warning. Before any shares are issued such a warning document must be sent to an investor. The guts of this is set out below.
“The usual rules do not apply to this offer because it is a small offer. As a result, you may not be given all the information usually required. You will also have fewer other legal protections for this investment.”

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