Emerging Markets Law

Hard Rock Cafe & Hotel Palm Springs Crowdfund Offering

RealtyMogul has announced a "crowdfund" offering of securities in the Hard Rock Café & Hotel in Palm Springs, California and the announcement is getting a lot of media attention.

While I applaud any entrepreneur who can successfully launch a fundraising campaign and garner medial attention, I am concerned that some of the non-legal press may be confusing for investors and some entrepreneurs.

Strictly speaking, the Hard Rock offering is not a true crowdfund offering.  Rather, RealtyMogul has formed a special purpose LLC (Realty Mogul 20, LLC) that is offering membership interests to the public under SEC Rule 506(c).  As such, investments in this offering are strictly limited to persons who qualify as “accredited investors” under SEC rules.

Investors will invest their cash with Realty Mogul 20, LLC and that entity, in turn, will make an investment in Kittridge Hotels & Resorts, LLC, the entity that manages the Hard Rock Café in Palm Springs.

Confusion may arise because the SEC has proposed (but not yet adopted) crowdfunding rules under the 2012 JOBS Act.  These rules, when adopted, will permit issuers to offer securities publicly to potential investors (including those who are not accredited investors).  Until these proposed SEC rules become effective, however, crowdfund offerings to non-accredited investors remains prohibited.

Another interesting twist is the way in which the sponsors are attempting to exempt their structure from the Investment Advisors Act.  In the investor disclosure documents the sponsors describe that the company (Realty Mogul 20, LLC) will not be an investment company under the 1940 Act.  They also disclose an affiliated entity that is registered as a broker dealer (presumably to collect a placement fee for the offering).  They disclose that the company will be exempt from the 1940 under Section 3(c)(1) (the chief exemption for private funds, recently narrowed by the Dodd-Frank Act) and yet the fund manager will not be registered under the Investment Advisors Act because the underlying investment is an investment in real estate.

This approach to avoiding the use of a registered investment advisor as the fund manager is often attempted in real estate investment funds.  The approach is not entirely free from risk, however, as there is relatively little SEC guidance on  when a private fund is primarily engaged in making an investment in real estate (an activity that does not require an RIA) as opposed to an investment in securities (which does require an RIA).

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