Regulation D, Rule 506(b) of the federal securities law, is used extensively to conduct private placements. Companies like to use a Rule 506(b) offering for various reasons, including:
• The issuer is not obligated to provide accredited investors with specific information.
• There is no limit on the number of accredited investors or the offering size.
• The issuer is not bound by state law qualification and registration requirements.
Some of the main benefits of using accredited investors instead of non-accredited investors in your Rule 506(b) offering include:
Non-Accredited Investors Must Be Given More Info
Non-accredited investors may be used in a Rule 506(b) offering, but several expensive requirements must be fulfilled. You may use a maximum of 35 non-accredited investors under this Rule. But the information that must be provided to these investors per Rule 502(b)(2) is more extensive than what is typically provided to accredited investors in the form of a private placement memorandum.
Non-Accredited Investors Limit the Capital Raise Potential
Often the quantity of capital that can be raised through 35 non-accredited investors, because they are by definition not high net worth investors lack enough return to justify the expense involved in providing them with the required information.
Sophistication Requirements Must Be Carefully Met With Non-Accredited Investors
Under Rule 506(b)(2)(ii), non-accredited investors must either alone or with a purchase rep have sufficient financial and business knowledge and experience to capably determine the risks and benefits of a potential investment opportunity.
Many times the issuer, at his or her own expense, to ensure the sophistication requirements are met for a group of non-accredited investors, will provide accredited investors with a purchaser representative. This individual represents the non-accredited investor class. The issuer, in this case, incurs an additional cost for using or adding non-accredited investors.
No Ability to Change the Offering Exemption
After including non-accredited investors into an offering, the issuer may be restricted from changing its offering exemption. This reduces the issuer’s flexibility to raise capital at some point if, during fundraising, the circumstances change.
The Risk is Higher for Non-Accredited Investorz
Some other considerations make it advantageous only to include accredited investors in your Rule 506(b) offering. Since non-accredited investors do not possess high net worth, they are more likely to ask for their investment information. They may provide more criticism if the company is not performing up to expectations and thus be more likely to pursue legal action if the company or venture fails. On the other hand, accredited investors who are high net worth individuals are more familiar with the risks involved. That may be currently invested in opportunities of similar type and size and can absorb the risks involved if one or more of the opportunities does not succeed.
If you are moving forward with a Rule 506(b) offering soon, consider the benefits described above of staying exclusively with accredited investors as purchasers of your opportunity.