READ READ AND LISTEN LISTEN So, what are these exemptions?
There are numerous capital raising exemptions for companies, such as:
Accredited Investor Exemption; Investment Dealer Exemption; Existing Security-holder Exemption; Family, Friends and Business Associates Exemption; Offering Memorandum Exemption; Rights Offering Exemption; and the Minimum Amount Investment Exemption.
Most commonly, companies rely on the Accredited Investor Exemption, and the Family, Friends and Business Associates Exemption for investor participation. Below are the legal definitions for “accredited investor” and “Family, Friends and Business Associates Exemption”
“Family, Friends and Business Associates Exemption” means the exemption from the prospectus requirement available in all jurisdictions of Canada pursuant to section 2.5 of NI 45-106 and, without limiting the foregoing, for reference, may include a distribution of a security by an issuer to a director, executive officer, control person and founder of an issuer and certain family, close personal friends and close business associates of such persons.
“accredited investor” has the meaning ascribed to that term in NI 45-106 and, in Ontario, section 73.3(1) of the Securities Act (Ontario), and, without limiting the foregoing, for reference, includes an individual (i) who, either alone or with a spouse, beneficially owns financial assets having an aggregate realizable value that, before taxes, but net of any related liabilities, exceeds CDN$1,000,000, (ii) whose net income before taxes exceeded CDN$200,000 in each of the 2 most recent calendar years or whose net income before taxes combined with that of a spouse exceeded CDN$300,000 in each of the 2 most recent calendar years and who, in either case, reasonably expects to exceed that net income level in the current calendar year, (iii) who, either alone or with a spouse, has net assets of at least CDN$5,000,000, and (iv) any person registered under the securities legislation of a jurisdiction of Canada as an adviser or dealer.
But what if you don’t meet the accredited investor criteria? What if you’re not a family member, a friend or a business associate?
Trying to meet the criteria of owning CDN$1M in financial assets or having a salary of CDN$200,000 could take years, decades or even seem impossible to achieve. Adding to the challenge of trying to attain one of these goals can seem even more unreachable after learning that private placements provide some of the best opportunities in the market.
However, there are two exemptions that are not talked about, rarely used and relatively unexplored, which may provide retail investors access to these lucrative private placement opportunities.
So, what are these two rarely used exemptions? How do they work?
The Existing Security-holder Exemption and The Investment Dealer Exemption are two underutilized exemptions that can create an opportunity for investors who failed to qualify for the previously noted exemptions. Below are the definitions for both the “Existing Security-holder Exemption” and “Investment Dealer Exemption”:
“Existing Security Holder Exemption” means the exemption from the prospectus requirement available in all jurisdictions of Canada pursuant to the Existing Security Holder Exemption Local Instruments and, without limiting the foregoing, for reference, may include a distribution of a security by an issuer to a person who confirms in writing to the issuer that, prior to the date the offering was announced, they held the type of listed security being subscribed for and, unless the investor has obtained suitability advice from a registered investment dealer, the investor invests a maximum of CDN$15,000 per issuer under the exemption in a 12-month period.
To put it simply, when using the “Existing Security-holder Exemption” investors are allowed to participate in the private placement if they are already shareholders. But be aware, that to be deemed eligible under this exemption the investor must be a shareholder on the record date of at least one day before the news release announcing the private placement. Therefore, if you owned Company XYZ up to one day before the news release, you are eligible to participate in Company XYZ’s private placement.
“Investment Dealer Exemption” means the exemption from the prospectus requirement available in British Columbia, Alberta, Saskatchewan, Manitoba, and New Brunswick pursuant to the Investment Dealer Exemption Local Instruments and, without limiting the foregoing, for reference, may include a distribution of a security by an issuer to a person who has obtained advice from a registered investment dealer regarding the suitability of the investment.
In layman’s terms, this exemption allows for investor participation if the investor has obtained advice regarding the suitability of the investment from an investment dealer (an investment dealer is a licensed full-service broker). It should be noted, that even if the investment dealer signs off on the suitability of the proposed investment as being NOT suitable, the investor can STILL participate.
Conclusion
Generally, most investors think if they’re not accredited or aren’t friends with management they can't participate, which is not entirely true. Considering that private placements are the most commonly used tool for financing activity, it means there’s a huge number of opportunities for investors to pick and choose from.
Private placements can have quite friendly terms for new investors and in return can create some of the juiciest opportunities. By not having access as a small retail investor it could be the single largest detriment to increasing portfolio returns.
Not all private placements are a path to riches. Private placements have limited disclosure obligations and are highly risky. Therefore, an exemption must be used to purchase these types of offerings which limits the potential pool of investors a company can raise capital from. Understanding the exemptions and seeking legal advice to see if you are eligible, could be a generator of outsized returns for any micro-cap investor.