Diverse Recent Measures of the Israel Securities Authority to Expand Investment in Private Entities
Amir Shachar is a partner at Shibolet & Co. law firm specializes in all areas of capital markets including highly complex cross-border transactions.
The Israel Securities Authority (ISA) has during the past year promoted various mechanisms to make available to corporations a wide range of tools for offering securities with an exemption from the requirement to publish a prospectus – and thus to facilitate investor accessibility to these companies.
One mechanism in the regulatory pipeline, which fits into the worldwide regulatory trend, is crowdfunding for all small and medium-sized businesses. According to the proposal taking shape, the principles of the model set a number of conditions that must be met in order to benefit from eligibility for an exemption from publishing a prospectus, the most significant of which are as follows: a limit on the total amount to be raised of NIS 1 million annually and up to NIS 2 million annually if the offering is accompanied by a sophisticated investor; a limit on the amount of a maximum investment by a lone investor of NIS 5,000 in a single investment, and up to NIS 10,000 per year; the company seeking to raise capital will have to comply with certain disclosure requirements pertaining to itself and to the details of the offering (financial statements, a business plan, a description of ownership and capital structure, details of the offer); the financing shall be conducted through a single financing portal and will be limited to bonds only. At the time of writing this article, the ISA is examining public comments received in response to the proposed model and whether there is a need to make any changes in light of such comments ahead of the procedure for regulating the matter in primary legislation.
Another mechanism currently being put forward by the ISA is a bill prepared by the Committee for Promoting Investment in Public Companies Engaged in Research and Development (the R&D Committee), which was set up to review and make recommendations on measures to encourage investment in high-tech companies. The R&D Committee formulated a specific model (as opposed to the general crowdfunding model discussed above) for crowdfunding by young startups not suited for an exchange listing to raise relatively small sums of money from a large number of investors from among the public through a dedicated Internet platform. The proposed crowdfunding is intended for new private companies that have not previously offered securities to the public in Israel or outside the country, and who have the stamp of approval of the Chief Scientist. The securities offered shall be shares only, the company seeking to raise capital shall be limited to raising no more than NIS 2 million in each offering or within a period of 12 consecutive months, and the amount each investor may invest in the capital-raising company shall be limited by the investor’s level of income. In addition, the proposed regulations require the participation of a lead investor alongside the public, who must comply with the conditions in the regulations and invest in the company at least 10% of the total amount invested in it. At the time of writing this article, the ISA is examining public comments received in response to the proposed model and whether there is a need to make any changes in light of such comments ahead of the procedure for regulating the matter in primary legislation.
Another ISA legislative proposal deals with one of the exemptions from the duty to publish a prospectus, which states that the publication of an intention to sell securities to no more than 35 offerees, to be selected through a process set by the publishing entity, shall not be deemed as an offer or sale to the public. The proposal to amend the wording of this exemption arises primarily from growing activity on the Internet websites of ventures appealing to the public at large with an offer to invest in securities offered by such ventures, without a prospectus and without the protection mechanisms set forth in the securities law, where the wording of the existing exemption does not clarify what the permissible publication is, the level of detail to be given therein, and the mix of the potential investing public at whom this exemption is directed. In accordance with the proposed amendment to this exemption, a general publication will be permitted, which is aimed at the public at large and intended to locate a limited group of potential investors to whom it will be possible to offer securities, so long as in practice securities are offered and sold to no more than 35 ordinary investors, in addition to sophisticated investors. An essential condition for a prospectus exemption is that after the general publication, an additional process shall be carried out, as defined by the publishing entity, aimed at the limited group of investors (no more than 35 regular offerees), and in which the specific terms of the issuance shall be determined.
A further legislative proposal being promoted by the ISA deals with amendment of the definition of a “qualified client.” In this context, one of the most significant exceptions to the duty to publish a prospectus is an offer and sale without limit on the number of sophisticated investors, among whom are included institutional investors and other sophisticated investors including “qualified clients.” The current definition of a qualified client sets out stringent demands and is based on examination of whether the individual meets two of three tests, as follows: (1) the liquid assets test – the overall value of cash, deposits, financial assets and securities owned by the client exceeds NIS 12 million; (2) the expertise test – the client has expertise and skills in the capital market, or was employed for at least one year in a professional capacity requiring capital market expertise; (3) the number of transactions test – the client has made at least 30 transactions, on average, in each quarter during the four quarters prior to his authorization.
According to the proposed new legislation, it is proposed to define a “qualified client” as an individual who meets one of the following three tests: (1) the liquid assets test – NIS 8 million; (2) the income test – the income of the individual stands at NIS 1.5 million in each of the prior two years; (3) the combined test – a mix of the liquid assets test and the income test: NIS 5 million in liquid assets plus annual income of NIS 750,000 in each of the prior two years. The revised draft legislation thus proposes revocation of the expertise test and the number of transactions test in the existing legislation. The new tests proposed examine a qualified client’s financial soundness through a stance that such a client does not need the protection of securities law since he can acquire expert advice from a capital markets specialist and his financial resources allow him to absorb losses in the event of failure of his investment.
It should be noted that close to the publishing of the above draft legislation on modification of the definition of a “qualified client”, the ISA published a legal position statement specifying a number of test methods to examine that indeed an individual is a “qualified client”, and that establishes a presumption that the measures taken by the issuer are reasonable, provided that neither the issuer, nor anyone representing him, has information raising reasonable grounds of a likelihood that the offeree does not meet the qualifying conditions for being a “qualified client.” (1) In relation to the liquid assets test: obtaining written confirmation from a CPA, attorney or other acceptable external entity, dated no earlier than three months prior to the date of sale of the securities offered, confirming that the certifying entity took reasonable measures (other than the offeree’s declaration) to verify that the offeree meets the requirements of this alternative; (2) In relation to the number of transactions test: obtaining approval from a member of the Stock Exchange through which the transactions were made, confirming that the offeree meets the requirements of this alternative, a printout of a bank statement detailing the number of transactions required, or receipt of a written confirmation from a CPA, attorney or other acceptable external entity, where the issuer has a reasonable basis to rely on his certification; (3) In relation to the expertise test: an explanation from the offeree, supported by external evidence verifying the existence of that offeree’s characteristics and from which it is possible to construe that he meets this alternative (for example, confirmation of employment in a professional role demanding skill in the capital market).
The date of verifying an offeree’s compliance with the above conditions shall generally be the date of sale – i.e., an issuer can expose the details of an investment offer to an offeree, without the offeree having to prove his/her competence at the stage of the general publication until the date of the actual sale. At the time of the offer, it is sufficient to accept an offeree’s declaration of his compliance with the above conditions. In the event that an additional sale is made to the same investor within a period of one year of the date on which his competence was verified, in accordance with the above conditions, it is sufficient to accept the investor’s declaration that he still meets the competency conditions.
To a large extent, the regulatory changes described above are in line with changes made in the United States and elsewhere in recent years and which are intended, as mentioned, to make it easier for investors to participate in investments and expand the amount of private capital directed at private companies.