\u201cSophisticated Investor\u201d is one of those terms that crops up from time to time in among the ASX announcements \u2013 usually when there\u2019s news from a company that has presented the results of a capital raise to \u201csophisticated investors\u201d as a fait accompli, without the usual snowstorm of pre-raise prospectuses, trading halts and other pesky things like shareholder approvals.<\/p>\n
It brings to mind mental imagery of top hats and monocles, the sound of gentle harrumphing from behind newspapers in the depths of a fireside armchair and somewhat grumpy, portly old men discussing the sorts of exclusive, expensive wheelings and dealings that the common man couldn\u2019t possibly understand.<\/p>\n
And that\u2019s because it\u2019s meant to. A Sophisticated Investor is, as defined by law in Australia, someone whose understanding of the market goes far beyond (kind of) the understanding of your average Joe Schmoe in the street.<\/p>\n
Being a Sophisticated Investor is kind of like being a Platinum Rewards member of your favourite airline \u2013 where certain doors are open to you as a member of an exclusive club, and you get access to bigger and better things than everyone else back in Cattle Class.<\/p>\n
But here\u2019s the thing \u2013 there are rumblings afoot that the current federal government wants to change the rules, and make the cut-off for being Sophisticated even further out of reach of the common man.<\/p>\n
\u00a0<\/p>\n
Sophistication by Definition<\/p>\n
To make things as clear as humanly possible, the Australian Corporations Act has an ironclad, foolproof definition of what it means to be sophisticated. If you cut out all the legalese and other mumbo jumbo, it boils down to this:<\/p>\n
Either you\u2019re earning in excess of $250,000 per year, or you\u2019re sitting on assets worth more than $2.5 million, and you have an accountant who\u2019s willing to back those claims up if anyone has any further questions.<\/p>\n
In short, Sophisticated Investors are people who are already wealthy. Simple stuff, really.<\/p>\n
There are other bits of the rules that limit non-Sophisticated investors from getting too deep into the upper end of investments, too.<\/p>\n
For instance, as the rules currently stand, while there is no upper limit on how a company\u00a0 can raise from a sophisticated investor, ASIC rules say there is a $30k limit for retail investors (non-sophisticated chums like the rest of us) through a share purchase plan.<\/p>\n
And, it\u2019s worth noting that it\u2019s very common to see the words \u2018sophisticated investor\u2019 alongside \u2018institutional investors\u2019 in releases and prospectuses \u2013\u00a0so companies actually cap raise to institutional investors and sophisticated investors at the same time, not just to one of them.<\/p>\n
\u00a0<\/p>\n
The basis of the law is, therefore, the assumption that if you already have money, then you\u2019re smart enough to know your way around making investment decisions \u2013 and, therefore, you can take part in stuff that is locked away from smaller, retail-level investors who are (according to the law) not smart enough to have enough money yet.<\/p>\n
Which is why, on the basis that Rich People are Smart, and Poor People are Dumb, access to some of the activities on the ASX are restricted to those designated to be Smart, because they have lots of money.<\/p>\n
The inference, in very uncharitable terms, being that if you\u2019re minted, play the market \u2013 if you\u2019re not, then keep playing the pokies \u2019til you are.<\/p>\n
It\u2019s worth noting at this stage that the relevant section of the Act also makes allowances for similar treatment with professional investors and experienced investors (s.708(10)) \u2013 although the latter term isn\u2019t explicitly used to describe them.<\/p>\n
Hence, s.708(10) includes investors for whom a broker can be satisfied that they have the experience to act without a disclosure document \u2013\u00a0and that\u2019s where the big difference in who\u2019s allowed to play comes into force.<\/p>\n
\u00a0<\/p>\n
The Corporations Act, specifically the aforementioned s.708, lists sophisticated investors (among other groups) as parties for which disclosure documents do not have to be prepared.<\/p>\n
These are groups or individuals that are just the ticket for any company that wants to raise capital quickly, and with a minimum of pre-raise fuss and without a lot of time-wasting or up-front expense.<\/p>\n
Raising money from sophisticated investors is, more often than not, appreciably faster than running a fundraiser through retail channels.<\/p>\n
That\u2019s because the company doesn\u2019t have to go to all the expense of getting a prospectus prepared to meet the requirements of adequately informing investors below the Sophisticated level.<\/p>\n
A while ago, Stockehead spoke to Joe Durak from Canary Capital, who explained it thusly.<\/p>\n
\u201cThe advantage for a company in doing one of these sophisticated investor or excluded offers essentially is that you don\u2019t have the time lag involved,\u201d Joe said.<\/p>\n
\u201c[There\u2019s] obviously a lot of cost in doing [a] prospectus, [but] you can get one of these placements very quickly after you\u2019ve done your due diligence.<\/p>\n
\u201cYou can put a term sheet together, send it to your clients and have the money raised in a week or two.\u201d<\/p>\n
\u201cWhen you\u2019re doing a prospectus, with ASX and ASIC these days, it can take 4-6 months to do an IPO. There\u2019s obviously an element of uncertainty if you have to wait several months.\u201d<\/p>\n
\u00a0<\/p>\n
So here\u2019s the thing\u2026 according to recent reports, the current Federal government is looking into switching up the rules on what defines a Sophisticated Investor, by raising the floor limit from $2.5 million in assets to $4.5 million.<\/p>\n
The proposed overhaul to the rules also reportedly includes a regular overhaul of the threshold, \u201cto ensure that the test thresholds rise at regular intervals to account for changes in prices, such as through a periodic ministerial review\u201d, as per the AFR.<\/p>\n
And it depends entirely on your outlook as to what effect this is likely to have.<\/p>\n
One one side, there\u2019s the argument that all this will do is put \u201cbetter\u201d investment options further out of reach of the common man, so the rich can get richer while the poor stay poor.<\/p>\n
On the government\u2019s side of the argument, the changes being proposed are supposed to shield investors who legitimately don\u2019t know what they\u2019re doing from getting involved in the riskier side of investing, and losing their life savings within yards of life\u2019s Big Finish Line.<\/p>\n
The thing is that when the limits were set via the Corporations Act in 2001, $2.5 million in net assets was actually quite a lot.<\/p>\n
The rules, as set back then, meant that just 1.9% of the population could be considered to be Sophisticated under the law \u2013 but that has since risen to include more than 16% in 2021, so it\u2019s quite probably appreciably higher than that as we head into 2024.<\/p>\n
What that does to an already tight capital market remains to be seen, of course \u2013 but the main impact it has on retail-level investors is that a bunch of them that currently enjoy Sophisticated designation are suddenly going to find themselves locked out of opportunities that they\u2019re perfectly capable of understanding, even if their assets aren\u2019t valuable enough to suggest otherwise.<\/p>\n
<\/span><\/p>\n The post Explainer: What\u2019s a \u2018sophisticated investor\u2019, and why does Labor want to make \u2018Sophi\u2019s choice\u2019 even harder?<\/a> appeared first on Stockhead<\/a>.<\/p>","protected":false},"excerpt":{"rendered":"