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When raising money in Ontario or Canada for your startup company, you fall under the scrutiny of the rules of the Securities Act and related National Instruments that set the rules on the nature and type of disclosure that you need to provide to your potential investors. In all cases you are required to provide a prospectus (which is a detailed document outlining the risks and details of the business to invest in), unless your fall under a prospectus exemption. I’ve written about prospectus exemptions in the past (see here). My past article describes the Accredited Investor Exemption which is often used when raising money from “arm’s length parties”, and that is the topic of this blog post.
Determining if your investor is “accredited”
I’m often asked what steps should be taken to confirm that investors are accredited. When raising money from accredited investors, it is the responsibility of the company raising money to determine whether the accredited investor test is met. Other than relying on a statement by the investor as to their net worth or earnings, how can a company confirm that they truly are a member of that category?
Best practices for confirming/recording the status of potential investors include:
- Reasonable efforts to ensure that the purchaser understands the meaning of the definition of “accredited investor” through discussion and written explanation;
- A certificate of independent legal advice from the investor that the investor documents were reviewed by their own counsel who provided advice on same;
- Receipt of a signed document by the investor indicating which exemption is relied upon, and better still, specifics on their “fit” in the category;
- Signed letter from the fundraising board director/executive indicating which exemption is relied upon (in the future if the fundraising party has moved on to another company, having this documentation on file will potentially be useful).
It is useful and prudent to review supporting information wherever possible:
- with respect to purchasers who are accredited investors based on income, a review of tax returns for the past two years and obtaining a written representation from such person that he or she has a reasonable expectation of reaching the income level in the current year;
- with respect to purchasers who are accredited investors based on net worth, the issuer reviews bank statements, brokerage statements, other statements of securities holdings, in order to verify assets, a consumer report from at least one of the nationwide consumer reporting agencies to verify liabilities and obtains a written representation that all liabilities necessary to make a net worth determination have been disclosed (all information reviewed may not be more than 3 months old); and/or
- confirmation from the accountant, broker or lawyer of the accredited investor in writing that they have confirmed that such purchaser is an accredited investor.
After funds are raised using this exemption, disclosure of this financing should be filed with the securities regulator in your jurisdiction. It is important for companies raising money to conduct this process carefully with a view to investor protection. Always consult with legal counsel to ensure that you’re properly navigating the fundraising process.