Direct Public Offering -- A Viable Financing Option For SmallBusinesses
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This article is from the Investing Articles: Public Offerings: IPO and DPO series.
Direct Public Offering -- A Viable Financing Option For SmallBusinesses
More and more small businesses, frustrated with trying to attract investment capital from traditional sources such as investment bankers, venture capitalists and wealthy individuals, are deciding to do it themselves through a Direct Public Offering (DPO). This column will address the "nuts-and-bolts" issues revolving around DPOs. Next week's column will discuss the factors that make a DPO successful and give some examples of companies that have learned from their experience with this financing option.
Most Direct Public Offerings utilize the Small Corporate Offering Registration (SCOR) form, a standardized question-and-answer disclosure document accepted in 45 states. Under a Rule 504 SCOR offering companies may raise up to $1,000,000 in any 12-month period.
Last year a total of 185 companies filed 358 direct public offerings, an increase of almost 40% over 1995, according to the SCOR Report, a Dallas-based newsletter. California companies ranked fourth in the nation for SCOR offerings, with 19 filings. This year, California companies have already filed eight registration statements, although only two have become effective.
Companies willing to file certain disclosure information with the Securities and Exchange Commission (SEC) may raise up to $5,000,000 in any 12-month period under a Regulation A SCOR offering. Regulation A allows companies to "test the waters" or solicit indications of interest in ten states in order to determine potential investor interest prior to incurring the cost of drafting a SCOR registration statement. Accounting and legal fees to draft such a statement are normally around $50,000 for most companies.
A company must "Blue Sky" in each state it intends to sell securities. The Blue Sky laws are designed to protect investors and ensure complete disclosure of material information on the company. Companies need to be aware that there are widespread differences among the states' Blue Sky laws, with some states imposing much more stringent conditions than others. For example, the California Commissioner of Corporations imposes burdensome qualification procedures. Under the present process, commonly referred to as "merit review," the California Commissioner's staff determines whether each SCOR offering is "fair, just, and equitable" to investors. A pending bill, Senate Bill 1205, sponsored by the Department of Corporations, would change the current merit review to one based on disclosure - the standard in most states. The Bill, still in committee, is not expected to be voted on until this summer, according to Blake Campbell of the Department of Corporations. A California company is not precluded from registering its SCOR offering in other states, even if it opts not to Blue Sky in California. Since the Blue Sky process can be lengthy and expensive, it is more cost-effective for a company to target the states where it has strong investor interest.
One of the major benefits of a SCOR offering is the securities are freely-tradable stock, although much of it remains illiquid for lack of a secondary marketplace. There are, however, some organized marketplaces such as the Pacific Stock Exchange which lists SCOR offerings; provided the issuer is able to meet certain listing criteria (age of business, net worth, etc.). Upon approval by NASDAQ, the Electronic Bulletin Board will list SCOR offerings; provided a market-maker agrees to file on behalf of a company certain disclosure information on a Form 211 (audited financials, issuer and security information, etc.).
Cost savings is another major DPO benefit. Generally, Direct Public Offerings are less costly then Initial Public Offerings (IPOs). Companies that decide to sell their offering without the benefit of brokers will also save on commission fees.
As attractive as DPOs may appear, not all companies are suitable candidates. In fact, only 30% of the DPOs were successful last year, which is up from a success rate of only 20% three years ago. In comparison, the major stock exchanges and NASDAQ had a total of 755 IPOs last year, with only 38 of such offerings withdrawn or postponed, according to Securities Data Company, a New York company that compiles securities data.
The best candidates for a DPO are companies seeking expansion capital. Start-up companies and those seeking capital for initial research and development will have a much harder time enticing investors.
Before jumping into the DPO marketplace, a company should ask itself the following questions:
Is management ready to take the time and effort required to prepare a SCOR offering?
Does your company have an affinity group which can be targeted for sales of your securities?
Who will conduct research to determine this affinity group and the location of these potential investors?
Who will conduct follow-up to initial leads and close the sales?
Does your company have name recognition or sizzle that will help sell the offering?
Is your company willing to develop and pay for a marketing program to sell the offering?
The Securities and Exchange Commission (SEC) has introduced provisions which drastically reduce the cost and complexity for a small business seeking public funds. These provisions are designed to allow a self reliant business owner to complete with only minor assistance from their current lawyer and accountant. GOING īPUBLIC' will give your investors a tradeable security which goes a long way toward establishing an exit strategy for them. These programs are referred to as DIRECT OFFERINGS and, in some cases, are administered by your State Security Board. Call them for information.
One of these Direct Offerings, SCOR (Small Corporate Offering Registration) has developed a lot of interest and activity around the country to offer SCOR investors liquidity for their investments. The SCOR Task Force has held a number of seminars and is part of the Austin, Texas, Chamber of Commerce.
SCOR can be used at any stage of development from start-up onwards.
Other forms of Direct Offerings include: Rule 504, 505 and 506 Offerings, Private Placements (Section 4(6)), Rule 147 Intrastate Offerings, Unregistered Public Offerings (Regulation A), and Small Business Issuers Registrations SB-1 and SB-2. Each of these approaches has different exemptions and prohibitions so review them carefully with a professional before you use them.
27. I have included a summary of the Form U-7 document that I prepared for the Greater Austin Chamber of Commerce's SCOR Task Force. The Form U-7 is the document that must be completed and submitted to your State Securities Board before you start selling securities in your company. This summary does not contain all of the information requirements of the U-7. The purpose of this summary is to give an indication of the types of questions contained in the Official Small Corporate Offering Registration (U-7 Form).
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