Why You Might Need to Delete Your “Ask” Slide from Your Demo Day Pitch Deck

Two of the constant fixtures of the junction between startups and private equity have been the “demo day”, and the securities registration exemption of Rule 506 under Regulation D. The demo day has frequently been a way for entrepreneurs to introduce their ventures to the world, as well as, to one extent or another, make the introduction of investors or other persons who can help their companies take off. Rule 506 is the most commonly used securities exemption for private equity, because it permits an unlimited raising of funds with perhaps the least amount of paperwork for a securities offering. For as long as both have existed, demo days and Rule 506 have had an uneasy co-existence. Many demo day pitches included an “ask” slide, where the company either disclosed an ongoing offering, or their intention to engage in an offering of a certain amount, or their projections that they would need to raise a certain amount of capital in order to achieve a certain level of growth. Under a traditional Rule 506 offering, companies could not make a general solicitation for their securities. Many attorneys questioned whether a demo day constituted a general solicitation; however, the SEC never formally declared that demo days constituted general solicitation or undertook an enforcement action against any company that participated in a demo day and later sold securities, so the traditional demo days leading into private equity offerings continued on a tenuous status quo. Questions were raised again when the SEC authorized general solicitation for Rule 506 offerings (now Rule 506[c]). While old-style Rule 506 (now Rule 506[b]) offerings remained intact, companies could now undertake general solicitation — the catch was that, unlike Rule 506(b) which permitted sales to a limited number of non-accredited, sophisticated investors, Rule 506(c) restricted sales to accredited investors only. Furthermore, Rule 506(b) effectively allowed investors to self-certify their accredited status, but Rule 506(c) required companies to take affirmative steps to reasonably verify the accredited status of their investors. Attorneys wondered whether, now that general solicitation had been explicitly authorized, the SEC would require companies who had made solicitations during their demo days to use Rule 506(c) — once a company elects Rule 506(c), which they can do unconsciously by making a general solicitation, they are locked into it and cannot revert to a Rule 506(b) offering.. The SEC refuses to give a clear answer whether demo days constitute general solicitation, and while the first test cases have just been completed in the past year or so with not so much as a peep from the SEC, the possibility remains that the SEC could decide to enforce Rule 506(c) upon demo day companies. Even if the SEC were to take no enforcement action upon itself, the failure to comply with Rule 506(c) after what could potentially be considered a general solicitation may open up a company to attacks from disgruntled investors who may claim that they were sold unregistered securities that did not comply with any exemption from registration, which may entitle them to recision (a right to the return of their purchase price). It might be advisable that companies remove “ask” slides from their demo day pitch decks. An “ask” slide doesn’t have to be as explicit as “We are looking to sell shares at $10/share” or “We are looking to raise $1 million at a $5 million pre-money valuation”. A general solicitation consists of any public offer, which is defined broadly as any state that “conditions the market” or arouses public interest in an issue and/or its securities. So even stating that “We think we would need $1 million to reach $50 million in annual revenues in 3 years” might be an offer that is a general solicitation when directed publicly. The key word in that last paragraph is “publicly”. A solicitation is not a general solicitation when it is not directed toward the public. A solicitation may be considered private when it is directed toward recipients who have a preexisting relationship with the company. Accordingly, not all demo days may constitute general solicitation. If attendance at the event is limited to individuals who have preexisting relationships with the companies, communications may be private solicitations. For example, if a company is specifically invited to participate in a demo day run by an angel group who only invites members of the group to attend, communications might be considered private solicitations. Unless your company intends to undertake a Rule 506(c) offering, your company should consult with legal counsel to determine if your demo day pitch might constitute a general solicitation that would lock you into using Rule 506(c), or avoid making offers of securities altogether in your pitch.

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