“Going public” doesn’t have to mean heading to Wall Street. Small-business owners of any size can now use direct public offerings (DPOs) to sell ownership stakes in their company to raise capital, without the tight securities rules of an initial public offering (IPO). But is it a legitimate move for your small business? We spoke to Brenda Hamilton, a lawyer specializing in securities and going public with Hamilton & Associates Law Group, to get answers.
Small Business Center: What is the difference between an IPO and a DPO?
Hamilton: Both an IPO and a DPO involve the sale of an issuing company’s securities to investors as a way to raise capital. An IPO always involves a public offering registered with the Securities and Exchange Commission (SEC), and an underwriter sells those securities and receives a commission. In addition, the issuing company typically enters into an agreement with the underwriter that significantly impairs its ability to change its offering, offer other securities, and/or engage in certain transactions.
On the other hand, a business owner can register a DPO with the SEC, or can conduct an unregistered offering in some circumstances. The issuing company will market and sell its shares on its own behalf without an underwriter. As such, the success of the DPO is dependent upon the issuing company’s own efforts. Since the enactment of the JOBS Act, many companies conduct unregistered DPOs with accredited crowdfunding. This allows the issuing company to engage in advertising and solicitation as long as it verifies the purchasers are accredited investors.
Can any size business conduct a DPO?
Yes, that’s one of the benefits of this type of offering. Because you can structure DPOs in a variety of ways, you have flexibility. A DPO can be used by a startup company or an established company with a proven track record.
What other benefits can small-business owners realize from DPOs?
There are numerous benefits to DPOs. For instance, a DPO allows business owners to raise capital at their own pace, and the SEC doesn’t limit the amount of capital a company can raise in either registered or unregistered offerings. Both private and public companies can offer a DPO, and the issuing company can offer securities to investors without an IPO’s limitations. Finally, DPOs are less expensive than IPOs because there are no underwriter fees.
Are there any disadvantages to conducting a DPO?
The principal disadvantage of a DPO is that the issuing company is responsible for raising its own capital, and that could take time away from running the company.
How much does it cost to conduct a DPO?
The price will vary depending upon how the small-business owner wants to conduct the DPO. The minimum cost of a registered DPO is $40,000, and the minimum cost for an unregistered DPO is $15,000, and that includes fees to an accountant, attorney, transfer agent, EDGAR filing agent, and for a registered DPO, an auditor. However, a DPO costs hundreds of thousands of dollars less than an IPO.
How should small-business owners decide if a DPO is right for them?
To raise capital from investors, any company must be prepared to provide transparency. This means opening up the company’s books and records and disclosing all information that would be important to a reasonable investor. If a company cannot do this, it should not conduct a DPO or any other offering.
Another factor to consider is whether management has the ability to market its own offering. And even a DPO involves costs. In a registered DPO, these costs include legal, accounting, auditing, transfer agent, costs of electronic trading, and EDGAR filing fees, which is the SEC’s system for collecting, validating and publishing submissions by companies. For an unregistered DPO, the costs will vary depending upon the particular issuer, but will generally include legal, accounting, EDGAR filing fees and other costs.
How important is it to hire a securities lawyer for the process?
It is critical to hire a securities lawyer for the DPO process. There are expansive regulations that apply to both registered and unregistered securities offerings. Although the regulations are manageable with proper guidance, deviations can disqualify an offering and subject the issuing company to civil penalties and fines as well as investor rescission obligations.
What advice would you give to small-business owners who are considering a DPO?
If I had to choose one piece of advice, it would be to avoid professionals associated with multiple reverse-merger transactions, including lawyers, accountants, auditors, and transfer agents. Small companies and investors are often inexperienced in the financial markets and are easy prey to unsavory market participants in the micro-cap markets. Over the course of my career, I have seen numerous companies and investors devastated by reverse-merger transactions, some of which were actually recommended by securities lawyers. I would also encourage small-business owners to learn as much as possible about the process before they begin.
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