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Series LLCs

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Businesses organized as LLCs, just like with corporations, often find it advisable to form multiple LLCs to cover different lines of business to keep liabilities associated with one business isolated from the others.  However, the formation of multiple entities increases the business’s administrative costs.  For each new entity, there are filing fees and then ongoing franchise taxes with the state of organization and other states in which the company does business, separate tax returns, etc., so the business has to weigh these costs against the benefits of asset protection before making the decision to form new entities.

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Crowdfunding and SEC Paternalism

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Photo courtesy Scott Sutherland Great Ideas, Inc.
Licensed under CC BY 2.0.

One of the provisions of the JOBS Act that has many in the investment community excited is the new crowdfunding exemption to the registration requirements.  When effective, these offerings will permit sales of securities to anyone – not just accredited investors – for up to $1 million in the aggregate in each 12 month period.  This represents a radical democratization of private offerings, which currently are, for the most part, marketed just to the wealthy.  The SEC, however, does not share the private sector’s enthusiasm and has seemingly been slow-walking its efforts to enact rules that are required before these offerings can be introduced.


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Email Triage

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In my post on emailing vs. phone calls, which laid out some advantages of communicating by email, I didn’t address one thing that many people hate about email, which is that it can at times seem impossible to keep up with the volume of incoming messages.  Unfortunately from an attorney’s perspective, if you miss a deadline because you lose track of an email, it won’t fly to complain to your client that you get 500 (or whatever) emails a day.  Regardless of whether law school lasts for three years or two, as President Obama would have it, there is little to no attention paid there to such mundane issues as email management, though this ends up being crucial to being a reliable attorney, which is a prerequisite to being a successful attorney. …

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Verification of Accredited Investor Status

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In my earlier post on the liberalization of general solicitation and advertising in Rule 506 offerings (to be effective September 23, 2013), I briefly mentioned the more stringent requirement, when general solicitation or advertising is used, for verifying each investor’s status as an “accredited investor.”  I’d like to get into more detail about what that entails.

Trust... but verify | Andrew Abramowitz

Current practice is for companies conducting Rule 506 offerings to have prospective investors check a box on a simple accredited investor questionnaire, and that is generally sufficient to establish the investor’s accredited investor status without further investigation by the company.  Going forward, Rule 506 offerings that are not accompanied by general solicitation or advertising will continue to operate in the same manner.  However, when general solicitation or advertising is used, the company must take “reasonable steps” to verify each investor’s accredited investor status.  This is a “principles-based” standard that is dependent on the facts and circumstances of the investors and the offering, but clearly a checked box on a questionnaire will not suffice.

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Email vs. Phone/Meeting

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A near-constant theme in my interactions with clients and other attorneys is the relative merits of various modes of communication — email, phone or in-person meetings.  After a long email chain, someone will get frustrated and say, “Why don’t we just get on the phone and figure this out?”  But those same people will, on another occasion, dial into a conference call, quickly get bored, and hone their skills at computer Solitaire.

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Share Transfer Provisions for Startups

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In preparing a stockholder agreement or operating agreement for a startup (for a corporation or LLC, respectively) with multiple owners, the section of the agreement that generally requires the most thought and discussion with the client relates to share transfers.  While it’s possible to punt on all of these questions by having the agreement simply say that no transfers are permitted except as may be agreed by the owners, it’s advisable to at least consider the various scenarios and include appropriate provisions in the agreement.  The following are some common ones:

  • Permitted Transferees – Share transfers may be made to related persons (like a trust for the benefit of a family member) without consent of the company or other owners.
  • Right of First Refusal/Offer – With a right of first refusal (ROFR), if an owner receives an offer from a third party to purchase the owner’s shares, the owner must first offer to sell the shares to the company or existing owners on the same terms.  A right of first offer (ROFO) requires the owner to first solicit offers from the company or existing owners, and then the owner can sell to a third party if a deal is not reached. …

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How to Be a Good Client

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The best attorney mentors I had in my early years of practice emphasized that law is a service business. Attending to the basics like responding promptly to emails and calls is at least as important, to this way of thinking, as being able to come up with an ingeniously complicated transaction structure. While I therefore have a “the customer is always right” orientation, I’d be lying if I said that it doesn’t matter whether the client was similarly responsive, organized, etc. With that in mind, here are a few tips for how clients can make the attorney-client relationship run smoothly:
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Use of General Solicitation and Advertising in Rule 506 Offerings

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Generally, the terms “public offering” and “private offering” have the meanings that the words imply: a public offering of securities is made to hundreds or thousands of investors who may have no connection to the company, and a private offering is made to a select group of investors known to the company or its broker. Historically, private offerings made under widely-used SEC Rule 506 (part of Regulation D) were required to be completed without the use of any “general solicitation or general advertising.” However, a provision of the federal JOBS Act, enacted in 2012, blurred the lines between private and public offerings by permitting general solicitation or advertising in Rule 506 offerings, subject to conditions imposed by the SEC. The SEC has now done its imposing, establishing rules to become effective in September 2013.

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Use of “Profits Interests” for LLC Equity Compensation

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With limited liability companies (LLCs) having become a widely-used form of business entity for new private companies, I am often asked by LLC clients about compensating employees and other service providers in company equity.

The basic tax planning goal in setting up these equity grants is to avoid triggering an immediate tax to the recipient prior to any distribution of cash to pay this tax.  This is not a practical issue with true startup companies that have no or very limited value, since there is not a significant tax.  However, if the company does have value, and it makes a simple grant of equity to a recipient, there is taxable income to the recipient equal to the fair market value of the equity.

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Use of Finders in Securities Offerings

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In private securities offerings where the company does not engage an investment banker who is a registered broker-dealer to market the offering to investors, companies will often seek the assistance of so-called “finders,” who are not registered as broker-dealers, to connect the company with potential investors.  These finders are often paid a pre-determined percentage of the amount ultimately raised by the company from the investors introduced by the finder.  Though this practice is extremely common, this area of the law is very much a gray area, and there are significant risks to both the finder and the company that should be considered.

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