SIMMONDS STEWART GUIDANCE NOTE

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1 December 2014 SIMMONDS STEWRT GUIDNCE NOTE NEW ZELND SECURITIES LW REQUIREMENTS FOR CPITL RISING Y PRIVTE TECHNOLOGY COMPNIES Offers of securities in New Zealand are regulated by the provisions of the Financial Markets Conduct ct 2013 (FMC). The disclosure requirements of the FMC for offers of securities are substantial and come with material responsibilities and risks for both companies and their directors. This is the case not only for share offers, but also offers of options, convertible securities and debt securities. The disclosure requirements of the FMC automatically apply to all offers of securities unless one or more of the exclusions in Schedule 1 of the FMC apply. Schedule 1 contains a jumble of exemptions for (in essence) private and/or small investment offers, and is essential reading for technology companies and their advisers who wish to raise capital outside public markets. Exclusions This guidance note summarises the Schedule 1 exclusions that are potentially relevant to private technology companies raising capital in New Zealand. Unfortunately, the exclusions (and how they interact with each other) are finickity, so you and your advisors will need to become very familiar with the detailed requirements of the exclusions you are relying upon. wholesale investors (cl 3, 37-41, 49 of sch 1) n investor is a wholesale investor if: the investor self-certifies that they are an eligible investor (discussed in more detail below) the investor is an investment business (as described in detail in the FMC) the investor meets at least one the following investment criteria: C the investor owns, or at any time during the 2 year period before the offer has owned, an investment portfolio of at least NZ$1 million in aggregate the investor has, during the 2 year period before the offer, made investments of at least NZ$1 million in aggregate, or the investor has, within the last 10 year period before the offer, been employed or engaged in an investment business and has, for at least 2 years during that 10 year period, participated to a material extent in the investment decisions made by that business

2 the net assets of that investor and the entities controlled by that investor exceeded NZ$5 million on the last day of the last 2 accounting years the turnover of that investor and the entities controlled by that investor exceeded NZ$5 million in each of the last two accounting years the investor is a government agency the amount invested by the investor (plus any other investments the investor has already made in the company) is at least NZ$750,000. The FMC regulations provide that in this case, the company must: provide to the investor a warning statement in the form prescribed in the regulations. riefly, that statement warns that the full disclosure obligations do not apply to the offer, and that the investor will have fewer legal protections for their investment, and obtain from the investor a written acknowledgement in the form prescribed in the regulations, which states (among other things) that the investor understands that they have fewer legal protections for their investment. wholesale investor category - eligible investors (cl 3, of Schedule 1) To qualify as an eligible investor, an investor must certify in writing that: they have previous investment experience that allows them to assess: C the merits of an investment or class of investments their information needs in relation to an investment or class of investments, and the adequacy of any information provided, and they understand the consequences of certifying themselves as an eligible investor. The investor must also: state in the certificate the grounds for their self-certification, and obtain a written confirmation of the certificate signed by an independent financial adviser, chartered accountant or lawyer. company cannot rely on an investor s self-certification if it knows that in fact the investor did not have the experience stated in their certificate. t this stage, we think the subjective nature of the experience requirements for self-certification, coupled with the requirement to obtain confirmation of each certificate from independent advisers, will limit the use of this exclusion. s things presently stand, companies will not be able to plan a capital raising around this exclusion (although they may be able to use it to plug the gaps to the extent that other exclusions are unavailable for particular investors). 2

3 close business associates (cl 4, sch 1) This exclusion applies to: directors or senior managers of the company or of a related company (a very helpful exclusion) holders or controllers of 5% or more of the voting shares of the company related companies holders or controllers of 20% or more of the voting shares of a related company spouses, children, parents, or siblings of close business associates of the company, and other investors with a close professional or business relationship with the company or a director or senior manager of the company so that the investor is able to assess the merits of the offer or obtain information that will enable them to assess the merits of the offer. We recommend relying on the first five bright line exclusions, and the other objective exclusions in Schedule 1, before relying on the more subjective sixth exclusion. relatives (cl 5 of sch 1) This exclusion applies to: spouses, civil union partners or de facto partners of a director of the company grandparents, parents, children, grandchildren, siblings, nephews, nieces, uncles, aunts or first cousins of a director of the company (or of any person in the above category) any spouse, civil union partner or de facto partner of any person in the second category, and trustees of some trusts that relate to a director of the company or their relatives. crowd funding (cl 6 of sch 1) The crowd funding exclusion applies to offers made via crowd funding platforms. This exclusion will only apply if the crowd funding platform is licensed by the FM. company can raise up to NZ$2 million (aggregated with any fundraising under the small offers exclusion or any peer-to-peer lending) on licensed crowd funding platforms in any 12 month period. employee share schemes (cl 8 of sch 1) For an offer to qualify under the employee share schemes exclusion, the offer will need to meet the following requirements: the offer must be made to employees or directors of the company (or any subsidiary) as part of their remuneration, or in connection with their employment or engagement, and 3

4 raising funds must not be the primary purpose of the offer. The company must also provide a limited disclosure package to each applicable employee and director containing: a description of the share scheme and its terms and conditions the company s latest annual financial statements and latest annual report, with a statement that (if applicable) the financial statements are not audited. lternatively, the company may state that participating employees and directors have a right to receive those documents free of charge from the company, and a warning statement in the form prescribed in the regulations. riefly, that statement warns that the full disclosure obligations do not apply to the offer, and that the employee or director will have fewer legal protections for their investment. The number of shares and/or options that may be issued under the employee share scheme exclusion in any 12 month period is limited to 10% of the total number of shares on issue in the company at the start of that 12 month period. Our detailed comments on the employee share purchase schemes exclusion can be found on our blog. Simple share option templates that comply with the requirements of this exclusion can be found on our website (see the employee share scheme documents section of our templates page). persons under control (cl 9, 48 of sch 1) The close business associates, relatives, wholesale investors and employee share schemes exclusions are extended to apply to any investor that is controlled by a person or entity that falls within one of those exclusions. For example, if a person or entity qualifies as a close business associate of a company raising capital in a private offer, then a trust controlled by that person or entity will usually also qualify for the exclusion. small offers (cl of sch 1) This exclusion applies to personal offers that are limited to a maximum of 20 investors contributing a maximum of NZ$2 million in any 12 month period (aggregated with any fundraising under the crowd funding exclusion or any peer-to-peer lending). To qualify as a personal offer, the offer must be made only to (and must only be capable of acceptance by): investors who are likely to be interested in the offer, having regard to: previous contact between the company and the investor 1 1 We think this should include existing shareholders of a company, but to avoid uncertainty we intend to ask the FM for clarification 4

5 some professional or other connection between the company and the investor, or statements or actions by the investor that indicate that the investor is interested in offers of that kind (e.g. through that investor s membership in an angel network), or investors who have an annual gross income of at least NZ$200,000 for each of their two most recent income years. chartered accountant does not need to certify the investor s income. Importantly, in order for a company to rely on this exclusion, the company must not advertise the offer to any person or entity that does not fit into one of the personal offer categories set out above. dvertising has a wide meaning under the FMC it is essentially any communication promoting an investment offer to a section of the public 2. Therefore companies making a small offer need to be careful to limit their communications about the offer to investors falling within the personal offer categories. Due to this prohibition on advertising, in the absence of guidance to the contrary from the FM, we think companies using the small offers exclusion in combination with other exclusions are safest to make one offer to investors who fit into the personal offer categories, and a separate offer for other potential investors in reliance on other exemptions. This is obviously cumbersome, and we will be interested to see how market practice develops around this exemption. company relying on the small offers exclusion must provide each investor with a warning statement in the form prescribed in the FMC regulations. riefly, that statement warns that the full disclosure obligations do not apply to the offer, and the investor will have fewer legal protections for their investment. The company must also notify the FM within 1 month after each accounting period in which the offers are made, stating: that it is relying on the exclusion the type of securities being offered whether the company has distributed a document containing the key terms of the offer and if so, the date on which the document was first distributed, and the number of investors to whom the securities have been issued or sold by the company within that accounting period. Overall, we think companies will find this exclusion somewhat frustrating to apply due to the subjective nature of the personal offer definition coupled with the consequences of the advertising restriction. Companies may also find managing the rolling limit on the number of investors and the investment cap, and complying with the FM notice requirements, burdensome. 2 The definition of advertise in the FMC refers to communications to the public or sections of the public. This is a hangover from the Securities ct 1978 (since the FMC dispensed with the concept of offers to the public). Under the old act, the phrase sections of the public had a very wide meaning, and we think it is safest to assume this will also be the case under the FM. 5

6 Securities ct 1978 exemptions (cl 57 of sch 4) Some of the private offer exemptions in the Securities ct 1978 continue to apply for a transitional period. Under these transitional provisions, an offer is excluded if: it is made before 1 June 2015, and all of the investors to whom the offer is made fall within one or more of the following categories formerly set out in the Securities ct 1978 (1978 ct): C D E category : eligible persons as defined in section 5(2CC) of the 1978 ct (see below for details) category : close business associates of the company, or close business associates or relatives of a director of the company category C: investors whose principal business is the investment of money or who, in the course of and for the purposes of their business, habitually invest money category D: investors investing a minimum of NZ$500,000 in the offer, or category E: investors who in all of the circumstances can properly be regarded as having been selected otherwise than as a member of the public. Since the wording of the Securities ct 1978 requires all of the investors to whom the offer is made to fall within the above categories, the company cannot rely on the Securities ct 1978 exclusion in conjunction with any other exclusion in Schedule 1. If categories, C or D do not clearly apply, we recommend that companies rely on the eligible person category (category ). We recommend against reliance on category E, as that category has been narrowly interpreted by New Zealand courts. For a company to rely on the eligible persons exemption, the investor must provide the company with one of the following: a certificate from an independent financial advisor stating that the investor is experienced in the industry or the business to which the offered securities relate, or is experienced in investing money, and a written acknowledgement from the investor that they have received no prospectus or other information usually provided in accordance with the 1978 ct, or a certificate from an independent accountant certifying that the investor has net assets of at least NZ$2 million or had an annual gross income of at least NZ$200,000 in each of the last two accounting years. Templates of these certificates can be found on our website (see the fund raising section of our templates page). To ensure compliance with the exclusion, the wording of the certificates should not be changed by the financial advisor or independent accountant. 6

7 other exclusions The FMC also includes three other exclusions which might be relevant to private technology companies in some circumstances: offers of equity securities under a dividend reinvestment plan that meets the detailed criteria set out in the FMC (cl 10 of sch 1) offers of securities for no consideration (cl 11 of sch 1), and offers of securities that comprise more than 50% of the company s voting rights where there are less than five investors and those investors act jointly or in concert, subject to those investors being in a position to obtain the information necessary to assess the merits of the offer and the adequacy of the information provided (cl 15 of sch 1). 7