SCOR and the Dietary Supplement Market

SCOR and the Dietary Supplement Market
by Michael G. Schinner

SCOR means "Small Corporate Offering Registration." It wasdeveloped by the Securities and Exchange Commission (SEC) to help smallbusinesses go public economically. SCOR offers small businesses a low-cost,minimal-hassle alternative to filing an initial public offering (IPO) orconducting a private placement offering (PPO).

SCOR caters to entrepreneurs and small- to mid-sized businesses. Using SCOR,businesses can raise up to $1 million in equity capital annually for businessstartup, development or growth by filing a self-directed direct public offering(DPO).

The SCOR process works best for companies that are required to be registeredunder state securities laws, and whose securities are exempt from registrationwith the SEC under Rule 504 of Regulation D. Companies can use SCOR to sell upto $1 million of common stock, preferred stock, options, warrants, rights, notesor other debt securities every 12 months. Companies that wish to take advantageof the SCOR program are required to file two forms, Form D and SCOR Form U-7.The SCOR Form U-7 was developed specifically for SCOR and is uniform for allstates. It has 50 questions and serves as the primary registration document. Thequestions are designed to satisfy the requirements of "fulldisclosure" of a company's business activities: what it does, where it hasbeen, and what it plans to do with the monies being raised. Audited or reviewedfinancial statements must be included as part of the filing. Companies file FormU-7 with each state in which they plan to sell, and file Form D with the SEC.

SCOR is advantageous over traditional IPOs and PPOs because it allowscompanies to have greater access to capital, gives them the ability to targetcertain shareholders and generally allows them to custom fit their financingneeds. It permits companies greater latitude to determine the prices, controlthe costs, and it allows them to create a direct relationship with shareholders.

In general, filing a SCOR is significantly less restrictive than doing a PPO,and less costly than filing an IPO. Stock sold under a SCOR can be freely tradedin the secondary market, making investment more liquid and thereby moreattractive to investors. Additionally, there are no restrictions on advertisingand general solicitation, no accredited/non-accredited investor relations, andit is not subject to accredited/non-accredited investor qualification issues.

SCOR vs. Private Placements

If you want to raise equity capital, particularly in a tough market, and takeyour company public, filing a SCOR or conducting a private placement are bothrelatively low-cost alternatives to filing a traditional IPO. While both canhelp you raise equity by selling securities (usually in the form of stock),there are some major differences.

First is resale of securities. Securities purchased in a privateplacement are subject to stringent resale restrictions. This is especially truein established secondary markets controlled by the various exchanges (i.e.NASDAQ, etc.). This creates an illiquid investment for those buying securities,especially when buying into privately held companies that may never becomepublicly traded.

Stock sold under a SCOR, meanwhile, can be freely traded in the secondarymarket, making the investments more liquid and thereby appealing to investors.While companies filing a SCOR are subject to some disclosure requirements and anapplication process, SCOR securities can be resold into established secondarymarkets. Various bulletin boards have been established on the Internet for SCORsecurities, adding to the potential liquidity of these investments.

Second, advertising and general solicitation come into play. Raisingmoney in a private placement means you can't solicit to investors via standardmarketing methods such as advertising and direct mail. Additionally, a companycannot sell to anyone without having a pre-existing relationship. Under a SCORoffering, a company can advertise for investors and sell securities to anybodywho expresses an interest.

Third, look at investor accreditation and sophistication. Privateplacements allow companies to sell securities to 35 nonaccredited investors andan unlimited number of accredited investors. Usually, an accredited investor isdefined as someone with $2 million in assets, $1 million in net worth, or anannual income of at least $200,000, or $300,000 with spouse. This groupcomprises less than one percent of the U.S. population.

The investors must also qualify under certain sophistication requirements.The burden is on the company to find out if each investor has enough investmentsavvy to know what he is getting into. If this provision seems somewhatarbitrary, it is. Unfortunately, both of these provisions can severely hamper asmall company's ability to raise significant equity capital.

SCOR permits the sale of securities to an unlimited number of investors,accredited or nonaccredited. For this reason, SCOR is known as a registrationby exemption because it is basically a hybrid between a public offering anda private placement.

Finally, we look at procedures and costs. Companies registered for aprivate placement must file different disclosure documents in each state, whichare often based on different exemption provisions. This creates a lot ofrepetitive paperwork. Registration at the federal level for public offerings ismore complex and expensive, and is subject to SEC review.

SCOR standardizes the state filing form by using Form U7. In addition,audited financial statements are not required for offerings under $500,000. Theregistration could become effective 30 days after filing with your state. Thesimplified paperwork process reduces a company's legal and accounting fees up to75 percent, making SCOR a much preferred, simplified method of raising equitycapital for many companies.

SCOR vs. Regulation A

If you've narrowed your options for taking your company public down toRegulation A or SCOR, it's time to determine which is best for you. Either onecan give a company a good shot at raising capital from the public. Almost 40percent of companies that do a SCOR or Reg. A raise money, which is close to thestatistics on raising money from any source. The question to answer is whetheryou have a solid, loyal affinity group, which is most frequently and most likelycomprised of customers.

Both Reg. A and SCOR offerings are exempt from registration with the SEC.Reg. A allows a company to raise up to $5 million in one year and must be filedwith the state and the SEC. A SCOR allows a company to raise up to $1 million inone year and files the SCOR registration at state level and Reg. D at thefederal level. The decision comes down to the amount of money a company needs toraise. SCOR is designed for the early stage of financing, whereas a Reg. A is amodel to raise capital when a company has gone down the road a bit. The greaterfiling requirements (and therefore increased costs) should discourage companieslooking to raise $1 million or less from filing Reg. A. However, a benefit ofthe SCOR is that the form is the same as the one used for the Reg. A, whichmakes it easy to upgrade later, if a company needs more money.

For more details on filing requirements, you can also visit the SEC online atwww.sec.gov or the Web site for the SmallBusiness Administration at www.sba.gov.

Michael Schinner is lead partner for the Schinner Law Group, based in SanFrancisco; he is online at www.schinner.com.