SEC Alert: Regulation A+
By: Steve Kronengold and David C. Zuckerbrot
© June 2016
All rights reserved
Introduction
On March 25, 2015, the Securities and Exchange Commission adopted final rules to implement Section 401 of the Jumpstart Our Business Startups Act (the “JOBS Act”) by expanding Regulation A into two tiers: (i) Tier 1, for securities offerings of up to $20 million in a 12-month period, including no more than $6 million on behalf of selling security holders that are affiliates of the issuer; and (ii) Tier 2, for securities offerings of up to $50 million in a 12-month period, including no more than $15 million on behalf of selling security holders that are affiliates of the issuer. An issuer of $20 million or less of securities may elect to proceed under either Tier 1 or Tier 2.
The amendments to Regulation A, commonly known as “Regulation A+,” are designed to “jumpstart” Regulation A and spur capital formation by addressing certain impediments in the old Regulation A framework.
Summary of Regulation A+
Regulation A+ offerings are unregistered public offerings in which issuers may conduct general solicitation, including solicitation of non-accredited investors (but Tier 1 offerings will be required to comply with applicable state laws relating to solicitation and advertising). Securities issued to non-affiliates in a Regulation A+ offering are freely tradable and are not “restricted securities” under Rule 144, but the resale of such securities is subject to state securities law requirements (see “State Law Preemption” below).
Regulation A+ is available only to companies which are organized and have their principal place of business in the United States or Canada.
The final rules for offerings under Tier 1 and Tier 2 build on current Regulation A, preserving, with some modifications, existing provisions regarding issuer eligibility, offering circular contents, “testing the waters,” and “bad actor” disqualification. Under the final rules, Tier 2 issuers are required to include audited financial statements in their offering documents (although Tier 1 issuers will be required to include audited financial statements pursuant to applicable state laws), and to file annual, semiannual, and current reports with the SEC on an ongoing basis. Purchasers in Tier 2 offerings who are not accredited investors, as that term is defined in Rule 501(a) of Regulation D, may purchase no more than: (a) 10% of the greater of his annual income or net worth (for natural persons); or (b) 10% of the greater of its annual revenue or net assets at fiscal year-end (for non-natural persons).
The final rules make it clear that the issuer has no obligation to verify the investor’s financial information to confirm whether the investment limitation is met and instead may rely on a representation of compliance by the investor, provided the issuer does not know the representation is untrue. Issuers must notify investors of the 10% limitation in the offering through disclosure in the offering statement.
Sales by all selling security holders in a Regulation A+ offering are limited to no more than 30% of the aggregate offering price in an issuer’s first Regulation A offering and any subsequent Regulation A offerings in the following 12-month period.
Both Tier 1 and Tier 2 issuers must file summary information after the termination or completion of a Regulation A+ offering, including information on sales and the termination of sales. Tier 1 issuers must file the offering termination information on a new Form 1-Z exit report, no later than 30 calendar days after termination or completion of the offering. Tier 2 issuers are required to file the offering termination information either on a new Form 1-Z or by including the information in their first annual report on a new Form 1-K.
Offering Statement
All issuers that conduct offerings pursuant to Regulation A+ are required to electronically file an offering statement on Form 1-A on the SEC’s EDGAR system.
The existing Form 1-A consists of three parts: Part I (Notification), Part II (Offering Circular), and Part III (Exhibits). The final rules retain the basic three-part structure of Form 1-A, but revise various disclosure requirements—most notably the changes in Part II regarding the offering circular. Specifically, the final rules eliminate the “question and answer” format in Part II and replace it with a narrative disclosure format that is closely aligned with the smaller reporting company disclosure requirements for registered offerings. Part II requires issuers to provide certain basic information about the company similar to Part I of Form S-1 but on a scaled–down level.
A Form 1-A offering statement is subject to review and comment by the SEC and must be qualified by the SEC prior to any sales in a “notice of qualification,” which is similar to the declaration of effectiveness of registration statements. In addition, if a preliminary offering circular is used to market the offering and the issuer is not already subject to the Tier 2 on-going reporting requirements, the issuer or participating broker/dealer must deliver the preliminary circular to prospective purchasers at least 48 hours prior to a sale. In such a case, a final offering circular must be delivered within two business days after the sale. Adopting the “access equal delivery” model, the final rules provide that the delivery requirement for final offering circulars can be satisfied by filing on EDGAR.
State Law Preemption
The final rules provide federal preemption of state securities law requirements for Tier 2 Regulation A+ offerings, provided certain conditions are met. State securities law registration and qualification requirements are only preempted, however, with respect to primary offerings of securities by the issuer or secondary offerings by selling security holders that are qualified pursuant to Regulation A+ and offered or sold to qualified purchasers pursuant to a Tier 2 offering. Tier 1 offerings will be subject to full state registration and qualification requirements.
Re-sales of securities purchased in a Tier 2 offering must be registered, or offered or sold pursuant to an exemption from registration, with state securities regulators. In general, the states provide certain exemptions for non-issuer (i.e., secondary) trading of private company securities, including a “manual exemption.” To claim the manual exemption for secondary trading, the issuer and the security must be listed in a securities manual recognized by the relevant state.
Analysis
Regulation A+ provides an option for non-public companies to raise capital other than through a Regulation D private offering or undertaking a generally costlier IPO. However, while Regulation A+ may provide start-ups and larger companies with a less expensive alternative to raise capital in the public market, it does not appear that Regulation A+ can compete effectively with Regulation D, particularly for financing of early and mid-stage companies. The cost and delay in preparing and qualifying offering circulars with the SEC, in addition to the ongoing reporting obligations for Tier 2 offerings, may prove to be too onerous when compared to the less expensive and more familiar process of Regulation D financing.
Regulation A+ may be more attractive to late-stage companies with more resources that are seeking to eventually complete an IPO. Such companies may not be able to conduct a traditional IPO for a variety of reasons (such as lack of support from investment banks, lower valuation, and the high cost of financial audits), and Regulation A+ may provide a solution. In this regard, Regulation A+ may be valuable in serving as a springboard for companies to become fully “public companies” by raising the profiles of these companies in the public market and improving the liquidity and trading of their securities.
Comparison Table
| Regulation D (Rule 506) | Regulation A+ | Form S-1 | |
|---|---|---|---|
| Issuer Qualification | Any issuer that is not a “bad actor” due to prior violations. | Any issuer based in the US or Canada that is not a reporting company or a blank check shell company. | Any issuer. |
| Cap on the Amount of Money Being Raised | The issuer may raise an unlimited amount of capital. | Tier 1: Up to $20M within 12 months, including $6M by affiliates.Tier 2: Up to $50M within 12 months, including $15M by affiliates. | The issuer may raise an unlimited amount of capital. |
| Status of Securities | The securities are unregistered and restricted. | The securities are unregistered, but freely tradable. | The securities are registered and freely tradable. |
| Is General Solicitation Allowed? | Section 201(a)(1) of the JOBS Act removed the prohibition on general solicitation for Rule 506 offerings, provided that sales executed in accordance with such general solicitation are limited to accredited investors and an issuer takes reasonable steps to verify that all purchasers of the securities are accredited investors. | Yes | Yes |
| Status of Investors | If there is general solicitation, then investors must be accredited. Without general solicitation, up to 35 non-accredited investors who are “sophisticated”. | Investors may be non-accredited. | Investors may be non-accredited. |
| Investment Limitations | There are no limitations. | Tier 1: There are no limitations.Tier 2: Non-accredited investors may purchase up to 10% of the greater of their annual income or net worth. | There are no limitations. |
| Offering Filing | No pre-offering filing. | Regulation A Offering Statement on Form 1-A. | Registration Statement on Form S-1. |
| Information Requirements | No specific requirement other than disclosure of material information and risks, subject to anti-fraud rules. | A description of the offering and certain business information.Financial statements for:Tier 1: May be unaudited.Tier 2: Must be audited. | Detailed information, including audited financial statements for 2-3 years. |
| Filing Timeline/SEC Pre-Approval | N/A | The Form 1-A must be declared qualified by the SEC before the offer is made. | The Form S-1 must be declared effective by the SEC before the offer is made. |
| State-Law Preemption (Primary Offering) | Preempts state laws. | Tier 1: Subject to state registration and qualification.Tier 2: Preempts state laws. | Preempts state laws. |
| Post-Offering Filings | Notice of Exempt Offering of Securities on Form D after first sale. | Form 1-Z 30 days after offering terminates. | None. |
| Periodic Reporting Requirements | None. | Tier 1: None.Tier 2: Annual, semi-annual and current reports. | Annual, quarterly and current reports. |
This article is provided for educational, informational and non-commercial purposes only. The content of this article is not intended to provide legal advice on any subject matter and should not be relied on as such.