With so many cannabis investment opportunities open to accredited investors only, many readers have asked us what the requirements are to be considered an accredited investor. Others have asked us why some financing rounds are only open to accredited investors.
In this briefing, we intend to clear up confusions around what it takes to become an accredited investor, and why most companies prefer to raise money from them.
For many private placement financing rounds, companies choose to sell securities to accredited investors so that they are exempt from registering them with the SEC. These regulatory filings can be costly and time-consuming, so it is no wonder that so many companies look towards accredited investors for capital.
Why Cannabis Companies Love Accredited Investors
According to the SEC, “Under the federal securities laws, a company that offers or sells its securities must register the securities with the SEC or find an exemption from the registration requirements.”
Companies have a number of exemptions to these registration requirements. One of these exemptions, is Rule 506 of Regulation D, a.ka. “Reg D”.
Companies Can Raise Unlimited Capital from Accredited Investors
Rule 506 gives companies two ways to get out of registration requirements, and companies that rely on Rule 506 exemptions can raise an unlimited amount of capital.
Under Rule 506, a company selling securities may sell to an unlimited number of “accredited investors” and up to 35 other purchasers. The term accredited investor is defined in Rule 501 of Reg D.
Who/What Qualifies as an Accredited Investor?
When most think of an accredited investor, they think of wealthy retirees with lots of money sitting around. What many people forget is that accredited investors can be people, investment banks, insurance companies, broker-dealers, family offices and more.
The one thing that all accredited investors have in common is a lot of money.
Banks, insurance companies, broker-dealers aside, Rule 501 of Regulation D also defines the most common qualifications for accredited investors:
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;
Any natural person whose individual net worth, or joint net worth with that person’s spouse, exceeds $1,000,000.
Any natural person who had an individual income in excess of $200,000in 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;
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.
Any entity in which all of the equity owners are accredited investors.
Verification is Necessary
Before a company can go assuming that an investor is accredited, verification/ due-diligence is paramount.
According to leading securities law firm Andrews Kurth Kenyon LLP, “Rule 506(c)(2)(ii) sets forth non-exclusive and non-mandatory accredited investor verification methods that, if satisfied, serve as safe harbors for issuers who will be deemed to have satisfied the “reasonable steps” verification requirement.”
The accredited investor concept is important for companies raising money, and investors considering investing money. Be sure to consult your own tax, legal and accounting advisors on the matter.
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