In a typical “equity line” financing arrangement, an investor and an Issuer enter into a written agreement whereby the Issuer has the right to “put” its securities to the investor. That is, the Issuer has the right to tell the investor when to buy securities from the Issuer over a set period of time and the investor has no right to decline to purchase the securities (or a limited right to decline). Generally the dollar value of the equity line is set in the written agreement, but the number of securities varies based on a formula tied to the market price of the securities at the time of each “put”.
Similar to PIPE Transactions
Most equity line financing arrangements are similar to a PIPE (private investment into public entity) transaction such that the Issuer relies on the private placement exemption from registration to sell the securities under the equity line and then files a registration statement for the re-sale of such securities by the investor. However, where in a PIPE transaction the investor bears the risk, in an equity line transaction, the investor often bears little risk due to the delayed nature of the puts coupled with the price of the securities being a formula tied to market price. Accordingly, the SEC views equity line financing registrations as indirect primary offerings.
Although the SEC views the equity line as an indirect primary offering, it allows the filing of re-sale type registrations if the following conditions are met:
- The Issuer must have completed the private transaction prior to filing the registration statement (i.e. both parties must be fully contractually bound with all material points agreed upon)
- The “resale” registration statement must be on the form that the Issuer is eligible to use for a primary offering; and
- In the prospectus the investors must be identified as both underwriter(s) and selling shareholder(s).
Investors Must Be Bound to Purchase All Securities
In order for the first condition to be met, the Investor must be irrevocably bound to purchase all the securities. That is, only the Issuer can have the right to exercise the put and, except for conditions outside the investor’s control, the investor must be irrevocably bound to purchase the securities once the Issuer exercises the put. In addition, the obligations of the Investor must be non-assignable to meet the “irrevocably bound” condition.
Investors May Not Possess Ability to Make Investment Related Decisions
Moreover, if the Investor has the ability to make investment related decisions under the terms of the contract, they will not be deemed to be irrevocably bound allowing for the filing of a re-sale registration statement. Examples of investment decisions that would viewed by the SEC as creating a continuing transaction (and not a completed transaction allowing for the filing of a registration statement), include:
- Agreements that give the Investor the right to acquire additional securities (including through warrants) at the same time or after the Issuer exercises a put;
- Agreement that permit the Investor to decide when or at what price to purchase the securities underlying the put;
- Agreements with termination provisions that have the effect of causing the Investor to no longer be irrevocably bound to purchase the securities; and
- Agreements that allow the Investor to exercise a “due diligence out”.
However, the Agreements may allow for customary “bring downs” as conditions to closing such as customary representations and warranties and customary clauses regarding no material adverse changes affecting the Issuer that would be within the Investors control.
Securities attorney Laura Anthony provides expert legal advice and ongoing corporate counsel to small public Companies as well as private Companies seeking to go public on the Over the Counter Bulletin Board Exchange (OTCBB). Ms. Anthony counsels private and small public Companies nationwide regarding reverse mergers, due diligence on public shells, corporate transactions and all aspects of securities law.
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