Bitcoin, blockchain and security tokens may not be concepts which are applicable to most businesses, but they are part of a new trend that may change the way most businesses raise capital. A digital subscription platform is a tool offered by blockchain companies such as Securitize and Harbor to facilitate a security token offering by an issuer to a large number of investors digitally and without physical paperwork (in place of the traditional way of offering debt or equity securities). Although most businesses have no need to issue security tokens, the electronic platform for managing investors and delivering subscription materials digitally to them may be extremely helpful for any business and its offering.
In a typical offering of securities under Regulation D, the company’s attorney drafts a form subscription or purchase agreement, a certificate (for stock) or note (for debt), and an offering disclosure statement often referred to as a private placement memorandum. Then, these documents are delivered physically and/or in pdf format to each potential investor. If and when an investor completes, signs and returns the documents, the company or its attorney will keep track of each investor and his or her documents manually. As you might imagine, this may become an extremely time-consuming and chaotic process once many investors are involved. Documents may be lost or mislabeled, or investors may invest later than they would have because the subscription process is inconvenient and time-consuming.
Benefits and Features
If you are considering switching to a digital subscription process, here are some of the benefits:
Automatically Generating Form Documents
By using the information typed in by an investor, a digital subscription platform (“DSP”) is able to pre-populate all of the subscription documents instantly and present them for signature. Not only will this increase the likelihood of an investment by reducing barriers to subscription, but it also will reduce investor errors when filling out forms. Generally, the attorney for the issuer, or another issuer representative, must check each document to make sure that the investor has completed each form correctly and completely. In this case, the entire process is automated and likely will save the issuer a good deal of human labor hours. Also, a DSP generally emails one copy of the subscription documents to the investor while simultaneously retaining a copy for the issuer, streamlining the entire subscription process.
Extending the Reaching of the Issuer’s Ability to Conduct a Raise
Another benefit of a DSP is to increase the reach of an issuer when interfacing with prospective investors. By making the offering documents and subscription process available online, issuers will be able to reach a greater audience when advertising or conducting a general solicitation of a Rule 506(c) exempt offering. If an issuer is using a Rule 506(c) exemption and not posting the offering online or otherwise reaching a large number of the general public, the issuer is potentially leaving money on the table. Although Regulation D allows advertising or general solicitation with only some kinds of offerings, even the ones that are not advertised/solicited could still reach more investors. By having the subscription documents available online at all times, an issuer would be able to deliver personalized subscription documents to people it may pitch or meet at any time. A DSP also may track a potential investor and periodically send emails to remind him or her of the offering and its status.
Digital Regulatory Compliance
With the release of the new changes to Regulation D in 2017, Rule 506(c) now requires that accredited investors verify their accredited investor status by submitting additional documents to the issuer to reasonably prove their accreditation status. In addition, restrictions on amounts raised, state of investor residence, statutory maximums on investors and other regulations otherwise will restrict a Regulation D offering as well. By using a DSP, an issuer may be able to ensure compliance with all regulations with the least amount of effort.
Investor Organization, Communication and Ledger
For an issuer that relies on Regulation A+ or Regulation CF (both of which allow for advertising and general solicitation) or an issuer that has a large number of investors in a Regulation D offering, one of the greatest benefits of a DSP is to allow the issuer to automatically organize all of the information regarding its subscribers into a digital ledger format. The digital ledger can replace stock certificates as the record of who owns securities in the issuer as long as the bylaws or operating agreement allows for it. A digital ledger makes it easy to communicate with all of an issuer’s investors at one time, or to organize the investor data to make better business decisions.
Automated Distributions and Capitalization Calculations
Lastly, some DSPs, which also can qualify to be transfer agents, may offer traditional transfer agent services as part of the offering. For an issuer that has a large number of investors, or a complex distribution structure for its company, some DSPs can calculate the proper distribution amounts and distribute those amounts to investors directly on behalf of the issuer. Other DSPs offer automated capitalization tables to track each securityholder’s interests.
Conclusion
The main considerations to make when contemplating the use of a DSP for your offering is whether there will be a large number of investors and if advertising and general solicitation is permitted under your specific exemption. If the answer to either of these questions is yes, there is a definite cost savings in using a DSP. Notable services include: stockofferingsolutions.com, flashfunders.com, startengine.com, microventures.com among others. Although DSPs significantly reduce the amount of work and time an attorney may spend to assist an issuer in conducting an offering, they are by no means a complete replacement for an attorney. It is important to select a securities attorney who has experience with DSPs and the surrounding technology in order to streamline the process of integrating your subscription documents with one of these services. Ultimately, a DSP’s role is not to ensure compliance with the many state and federal securities laws, and only a qualified attorney knowledgeable about these matters can guide an issuer in properly using a DSP, which is a tool to conduct and offering and communicate with investors; it is not ensure that your offering is compliant with applicable law.
To discuss the above topic, please contact us at ara@encorelaw.com or jj@encorelaw.com.