BILL ANALYSIS �
AB 2096
Page 1
Date of Hearing: April 21, 2014
ASSEMBLY COMMITTEE ON BANKING AND FINANCE
Roger Dickinson, Chair
AB 2096 (Muratsuchi) - As Amended: April 9, 2014
SUBJECT : Securities transactions: qualification requirements:
notification.
SUMMARY : Creates a form of crowdfunding in California by means
of qualification of notification for any offer or sale of a
security. Specifically, this bill :
1)Provides that the aggregate amount of securities sold to all
investors by the issuer within a 12- month period cannot
exceed $1,000,000.
2)Provides that the aggregate amount of securities sold to any
investor by the issuer including any amount sold during the
12-month period preceding the date of the transaction cannot
exceed $5,000.
a) Allows the commissioner of the Department of Business
Oversight (DBO) to increase that amount by rule or order;
and,
b) Provides that the limit does not apply if the investor
is an accredited investor as defined under federal law.
3)Requires the offering to meet the requirements of the federal
exemption for limited offerings and sales of securities not
exceeding $1,000,000.
4)Requires the issuer to file with the administrator, provide to
investors and make available to potential investors the
following:
a) A Small Company Offering Registration disclosure
document on Form U-7, as adopted by the North American
Securities Administrators Association (NASAA), prior to the
commencement of the offering of securities.
b) Income tax returns filed by the issuer for the most
recently completed year, if any; and,
financial statements of the issuer certified by the principal
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executive officer of the issuer to be true and complete on
all material respects, for offerings that, together with
all other offerings of the issuer within the preceding
12-month period, have, in the aggregate offering amounts of
$100,000 or less.
c) All financial statements reviewed by a public account
who is independent of the issuer, using professional
standards and procedures for the review or standards and
procedures established by the commissioner of the DBO by
rule, for offerings, that together with all other offering
of the issuer within the preceding 12-month period, have,
in the aggregate, offering amounts of more than $100,000,
but no more than $500,000.
d) Audited financial statements, for offerings that
together within the preceding 12 month period have in
aggregate, offering amounts of more than $500,000.
5)Requires the issuer to set aside in a separate bank account
all funds raised as part of the offering to be held until the
time that minimum offering amount is reached.
6)Provides that if the minimum offering amount is not reached
within one year of the effective date of the offering, the
issuer shall return all funds to investors.
7)Provides an issuer, a predecessor of the issuer, an affiliated
issuer, a director, executive officer, or other officer
participating in the offering, among others specified in the
measure would not be disqualified as a "bad actor" under
federal regulations.
8)Requires a court to award attorney's fees and costs to a
prevailing purchaser and would authorize the court to award
treble and punitive damages.
EXISTING FEDERAL LAW:
1)Establishes the Securities Act of 1933 and the Securities and
Exchange Act of 1934 administered by the Securities and
Exchange Commission (SEC).
2)Establishes the National Association of Security Dealers that
helps define the national behavior standards for member and
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minimum standards for listed securities which is regulated by
the Securities and Exchange Commission.
3)Provides a "bad actor" disqualification that states no
exemption shall be available for a sale of securities if the
issuer; any predecessor of the issuer; any affiliated issuer;
any director, executive officer, other officer participating
in the offering, general partner or managing member of the
issuer; any beneficial owner of 20% or more of the issuer's
outstanding voting equity securities, calculated on the basis
of voting power; any promoter connected with the issuer in any
capacity at the time of such sale; any investment manager of
an issuer that is a pooled investment fund; any person that
has been or will be paid (directly or indirectly) remuneration
for solicitation of purchasers in connection with such sale of
securities; any general partner or managing member of any such
investment manager or solicitor; or any director, executive
officer or other officer participating in the offering of any
such investment manager or solicitor or general partner or
managing member of such investment manager or solicitor:
a) Has been convicted, within ten years before such sale
(or five years, in the case of issuers, their predecessors
and affiliated issuers), of any felony or misdemeanor, as
specified;
b) Is subject to any order, judgment or decree of any court
of competent jurisdiction, entered within five years before
such sale that, at the time of such sale, restrains or
enjoins such person from engaging or continuing to engage
in any conduct or practice, as specified; or,
c) Is subject to a final order of a state securities
commission (or an agency or officer of a state performing
like functions); a state authority that supervises or
examines banks, savings associations, or credit unions; a
state insurance commission (or an agency or officer of a
state performing like functions); an appropriate federal
banking agency; the U.S. Commodity Futures Trading
Commission; or the National Credit Union Administration
that, as specified. [Title 17 of Code of Federal
Regulations (CFR), Section 230.506, subdivision d]
4)Provides an exemption for limited offerings and sales of
securities not exceeding $1,000,000. [Section 230.504 of
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Title 17 of CFR]
5)Defines an "accredited investor" as any person who comes
within any of the following categories, or who the issuer
reasonably believes comes within any of the following
categories, at the time of the sale of the securities to that
person:
a) Any bank or any savings and loan association or other
institution whether acting in its individual or fiduciary
capacity; any broker or dealer registered pursuant to
section 15 of the Securities Exchange Act of 1934; any
insurance company, any investment company registered under
the Investment Company Act of 1940 or a business
development company, any Small Business Investment Company
licensed by the U.S. Small Business Administration, any
plan established and maintained by a state, its political
subdivisions, or any agency or instrumentality of a state
or its political subdivisions, for the benefit of its
employees, if such plan has total assets in excess of
$5,000,000; any employee benefit plan within the meaning of
the Employee Retirement Income Security Act of 1974 if the
investment decision is made by a plan fiduciary, as defined
in section 3(21) of such act, which is either a bank,
savings and loan association, insurance company, or
registered investment adviser, or if the employee benefit
plan has total assets in excess of $5,000,000 or, if a
self-directed plan, with investment decisions made solely
by persons that are accredited investors;
b) Any private business development company;
c) Any organization described in section 501(c)(3) of the
Internal Revenue Code, corporation, Massachusetts or
similar business trust, or partnership, not formed for the
specific purpose of acquiring the securities offered, with
total assets in excess of $5,000,000;
d) Any director, executive officer, or general partner of
the issuer of the securities being offered or sold, or any
director, executive officer, or general partner of a
general partner of that issuer;
e) Any natural person whose individual net worth, or joint
net worth with that person's spouse, at the time of his
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purchase exceeds $1,000,000;
f) Any natural person who had an individual income in
excess of $200,000 in each of the two most recent years or
joint income with that person's spouse in excess of
$300,000 in each of those years and has a reasonable
expectation of reaching the same income level in the
current year;
g) Any trust, with total assets in excess of $5,000,000,
not formed for the specific purpose of acquiring the
securities offered, whose purchase is directed by a
sophisticated person, and;
h) Any entity in which all of the equity owners are
accredited investors. [17 C.F.R. 230.501] [Rule 501,
Regulation D]
EXISTING STATE LAW
1)Provides under the Corporate Securities Law of 1968 exemptions
from qualification for certain securities transactions.
[Corporations Code, commencing with Section 25000]
2)Provides that the Commissioner of DBO shall approve all
securities offered or sold in California. [Corporation Code,
Section 25100]
3)Prohibits any person from offering or selling in this state
any security in an issuer transaction whether or not by or
through underwriters, unless such sale has been qualified
under Section 25111, 25112 or 25113 or unless such security or
transaction is exempted or not subject to qualification. The
offer or sale of such a security in a manner that varies or
differs from, exceeds the scope of, or fails to conform with
either a material term or material condition of qualification
of the offering as set forth in the permit or qualification
order, or a material representation as to the manner of
offering which is set forth in the application for
qualification, shall be an unqualified offer or sale.
[Corporations Code, Section 25110]
4)Provides any security issued by a person which is the issuer
of any security registered under Section 12 of the Securities
Exchange Act of 1934 or issued, by an investment company
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registered under the Investment Company Act of 1940, and which
is not eligible for qualification under Section 25111, may be
qualified by notification under this section. An application
for qualification under this section shall contain such
information and be accompanied by such documents as shall be
required by rule of the commissioner, in addition to the
information specified in Section 25160 and the consent to
service of process required by Section 25165. For this
purpose, the commissioner may classify issuers and types of
securities. [Corporations Code, Section 25112]
5)Requires all purchasers to have either have a preexisting
personal or business relationship with the offeror or any of
its partners, officers, directors or controlling persons, or
managers (as appointed or elected by the members) if the
offeror is a limited liability company, or by reason of their
business or financial experience or the business or financial
experience of their professional advisers who are unaffiliated
with and who are not compensated by the issuer or any
affiliate or selling agent of the issuer, directly or
indirectly, could be reasonably assumed to have the capacity
to protect their own interests in connection with the
transaction.
[Corporations Code, Section 25102 (f)]
6)Defines "issuer" as any person who issues or proposes to issue
any security, except that:
a) With respect to certificates of deposit, voting trust
certificates or collateral-trust certificates, or with
respect to certificates of interest or shares in an
unincorporated investment trust not having a board of
directors or persons performing similar functions or of the
fixed, restricted management or unit type, "issuer" means
the person or persons performing the acts and assuming the
duties of depositor or manager pursuant to the provisions
of the trust or other agreement or instrument under which
the security is issued. However, with respect to
equipment-trust certificates or like securities, "issuer"
means the person by whom the equipment or property is or is
to be used.
b) With respect to certificates of interest or
participation in oil, gas or mining titles or leases or in
payments out of production under those titles or leases,
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"issuer" means the person or persons in active control of
the exploration or development of the property who sell
those interests or participations or payments or any person
or persons who subdivide and sell those interests or
participations or payments. The determination of the person
or persons in active control of the exploration or
development of the property shall be made on the basis of
the actual relationship of the parties and not on the basis
of the legal designation of a person's interest.
c) With respect to a fractional or pooled interest in a
viatical or life settlement contract, "issuer" means the
person who creates, for the purposes of sale, the
fractional or pooled interest. In the case of a viatical or
life settlement contract that is not fractionalized or
pooled, "issuer" means the person effecting the
transactions with the investors in those contracts.
d) In the case of an unincorporated association which
provides by its articles for limited liability of any or
all of its members, or in the case of a trust, committee,
or other legal entity, the trustees or members thereof
shall not be individually liable as issuers of any security
issued by the association, trust, committee, or other legal
entity. [Corporations Code, Section 25010]
FISCAL EFFECT : Unknown.
COMMENTS :
Based on the April 9, 2014 amendments to AB 2096, this measure
is closely modeled after the recent enacted equity crowdfunding
exemption established in Maine without the Governor's signature.
AB 2096 will allow small businesses to raise up to $1,000,000
in capital by selling small amounts of equity to individual
investors. Small businesses will need to register with DBO, as
well as, set a fundraising goal and deadline. AB 2096 will
allow individual investors to purchase up to $5,000 in equity
from a single business. AB 2096 provides three significant
differences from Maine which includes:
1)Instead of laying out a unique offering document, the measure
uses an existing document established by the NASAA, Form U-7;
2)The measure includes a "bad actor" provision as provided under
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subdivision (d) of Section 230.506 of Title 17 of the CFR;
and,
3)The measure provides attorney's fees and costs to a prevailing
purchaser, as well as, treble and punitive damages.
While the goal of this measure is admirable, providing increased
access to capital for small businesses, the risks associated
with the measure could be at the expense of those most
vulnerable, un-sophisticated non-accredited investors. AB 2096
does have a cap of $5,000 which weakens the ability for an
issuer to take an investors lifesavings but small business
investments have even greater risk than normal. About 50
percent of all small businesses fail within the first five years
according to a crowdfunding warning document issued by the
NASAA. This document can be found at:
http://www.nasaa.org/wp-content/uploads/2012/05/NASAA_Advisory_Cr
owdfunding.pdf
Under existing state law, all securities offered or sold must
either be qualified with the commissioner of DBO or exempted
from registration by the commissioner. AB 2096 would add an
additional way of qualification of notification rather than a
pure exemption under the Corporate Securities Act of 1968.
BACKGROUND:
On April 5, 2012, President Obama signed landmark legislation,
H.R. 3606, the Jumpstart Our Business Startups Act (the "JOBS
Act"). The JOBS Act makes it easier for startups and small
businesses to raise funds. This legislation passed Congress
through a 73-26 Senate vote and a 380-41 House vote. As far as,
AB 2096 is concerned, Title III of the JOBS Act requires the SEC
to develop new rules permitting capital raising by
"crowdfunding." SEC is still in the rule-making process and is
due to publish final regulations before non-SEC accredited
investors can start financing small businesses.
In October of 2013, the SEC issued the proposed crowdfunding
rules in a 585 page document. The JOBS Act creates an exemption
from the registration requirements of the Securities Act of 1933
that provides for a form of securities crowdfunding. The SEC
has not taken lightly the role of establishing a brand new type
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of financial intermediary and a whole new regulatory process
which is why it is estimated the final rules will not be
released until Summer, 2014 or as late as Winter, 2014. The SEC
has struggled to create a set of rules that respected the
flexible and democratic nature of crowdfunding (which makes it
so appealing to very small and early stage start-up companies)
while also implementing sufficient regulation to satisfy
consumer and investor protection critics who fear that
investment crowdfunding is far too open to abuse and fraud.
Key features of the SEC's proposed rules:
A company will only be able to raise a maximum aggregate
amount of $1 million through crowdfunding offerings per
12-month period.
Companies raising less than $500,000 through crowdfunding
within any 12-month period will need to share financial
statements and income-tax returns with their investors and
those raising more than $500,000 will be obligated to provide
audited financial statements to investors.
Investors with an annual income or net worth of less than
$100,000 will be permitted to invest a maximum of $2,000 or 5%
of their annual income or net worth (whichever is greater) per
12-month period.
Investors with an annual income or net worth equal to or
greater than $100,000 will be permitted to invest up to 10% of
their annual income or net worth (whichever is greater) per
12-month period up to a total maximum of $100,000 in
securities.
Companies conducting a crowdfunding offering will need to file
certain information with the SEC, the relevant intermediary
facilitating the crowdfunding offering and potential
investors.
Private crowdfunding offerings will be conducted exclusively
online through a registered broker or funding platform
(portal). Funding platforms will be required to register with
the SEC. Non-US crowdfunding platforms will be able to
register with the SEC, subject to an on-site examination.
Registration rules for crowdfunding platforms, which were
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developed in partnership with the Financial Industry
Regulatory Authority (FINRA). FINRA released its set of
proposed rules, the Funding Portal Rules.
CROWDFUNDING
Crowdfunding is a collective cooperation of people who network
and pool their money and resources together, usually via the
internet, to support efforts initiated by other organizations.
Crowdfunding literally attracts a "crowd" of people, each of
whom takes a small stake in a business idea by contributing
towards an online funding target. Crowdfunding has become a
popular and alternative method of raising finance for a
business, real estate investments, projects or ideas and has
become popularized online by sites such as Kickstarter,
Wefunder, Crowdfunder and RockthePost.
Crowdfunding is a means to raise money by attracting relatively
small individual contributions from a large number of people. In
recent years, crowdfunding websites have proliferated to raise
funds for charities, artistic endeavors and businesses. These
sites did not offer securities, such as an ownership interest or
share of profits in a business; rather, money was contributed in
the form of donations, or in return for the product being made.
Through AB 2096 and when the final rules are issued by the SEC,
crowdfunding will expand to securities.
NASAA
AB 2096 requires an issuer to file with the administrator
(commissioner of DBO) a small company offering registration
disclosure document on Form U-7. The form is found at the NASAA
website:
http://www.nasaa.org/industry-resources/corporation-finance/scor-
overview/scor-forms/ . The form goes into detail, among other
things, the type of investment, potential risks to the investor,
the offering amount, and the deadline to reach the offering.
OTHER STATES
A number of other states have enacted crowdfunding in a variety
of forms. These states include: Georgia, Kansas, Michigan,
Idaho, Washington, Wisconsin and Maine.
QUESTIONS & CONCERNS:
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1)Should California enact intrastate crowdfunding or should the
Legislature wait until after the SEC finalizes the federal
crowdfunding rules? The SEC proposed rules have been touted
as being too stringent which may hinder those who actually use
it. Some would say this is intentional to deter fraud and
scams under this new framework. Ultimately, the question is
whether or not California needs to establish its own
crowdfunding framework which may be more lax and/or conflict
and if so, is that good?
2)The economy is recovering, the unemployment rate is down, the
federal government acted, is there still a need to act on a
statewide level to produce more ways to raise capitol? In
addition, the U.S. Treasury just gave the California State
Treasurer $55,218,250 in federal funds from the JOBS Act to
provide access to capital to small businesses through the
California Pollution Control Financing Authority and the
California Infrastructure and Economic Development Bank. This
is the second of three disbursements. Are small businesses
capitalizing on these funds?
3)As noted above in "other states," the states that have adopted
a crowdfunding framework are states that are desperately
trying to attract and lure in new businesses. California is
known as the start-up epicenter. According to a recent study
by Radius, a San Francisco technology company that collects
small business data in the U.S. of the top 12 places to
establish a start-up in 2014, California had three cities
which included: San Diego as number 1, San Francisco as
number 6 and San Jose as number 12. Are small businesses
really struggling to establish themselves in California? The
small businesses that would need to use crowdfunding may be
the types of businesses that have exhausted all other options
and if so, are these the type of businesses we want
established in California soliciting to potentially vulnerable
unsophisticated investors?
PREVIOUS LEGISLATION:
AB 783 (Daly) (2013 Legislative Session) Provides that an issuer
can offer or sell securities using any form of general
solicitation or general advertising. Died in the Assembly
Banking and Finance Committee.
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AB 2081 (Allen) (2012 Legislative Session) Provides that an
issuer can offer or sell securities using any form of general
solicitation or general advertising. Died on the Senate Floor.
SB 875 (Price) (2010 Legislative Session) would have exempted
from qualification offerings or sales of securities using a
general solicitation or general advertising, provided the
transaction meets specified requirements, including a
requirement that the sales are made to accredited investors.
Died in Senate Banking and Financial Institutions.
AB 1644 (Campbell & Briggs) (2001 Legislative Session) would
have exempted from qualification offerings or sales of
securities using a general solicitation or general advertising,
provided the transaction meets specified requirements, including
a requirement that the sales are made to accredited investors.
Failed passage in Assembly Banking and Finance Committee.
SUGGESTED AMENDMENT :
On page 3, line 12, delete "administrator" and insert
"commissioner"
REGISTERED SUPPORT / OPPOSITION :
Support
Small Business California (SB-Cal)
California Artisanal Distiller Guild (CADG)
California Asian Pacific Chamber of Commerce
California Association of Competitive Telecommunications
Companies (CALTEL)
California Association of Micro-economic Opportunity (CAMEO)
California Chapter of American Fence Association (AFA)
California Disabled Veteran Business Alliance
California Fence Contractors' Association (CFCA)
California Metals Coalition (CMC)
Coalition of Small and Disabled Veteran Businesses (CSBDVB)
Flasher Barricade Association
Greater Geary Boulevard Merchants & Property Owners Association
Marin Builders Association
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National Federation of Independent Business (NFIB)
North East Mission Business Association (NEMBA)
San Francisco Builders Exchange
San Francisco Chamber of Commerce
San Francisco Council of District Merchants Association (SFCDMA)
Small Business Majority
SouthBay Entrepreneurial Center (SBEC)
Concern
Consumer Attorneys of California
Opposition
Public Investors Arbitration Bar Association (PIABA)
Analysis Prepared by : Kathleen O'Malley / B. & F. / (916)
319-3081