On Wednesday, 25th March, 2015, the Securities and Exchange Commission (SEC) approved the final rules to activate implementation of Regulation A+ which is Title IV of the Jumpstart our Business Startups Act, or JOBS Act. The rules implement a provision in the JOBS Act that directed the SEC to adopt rules which would exempt from the registration requirements of the Securities Act offerings of up to $50 million of securities annually.
The approval of Regulation A+ is a major breakthrough in the crowdfunding industry as there are a number of financial institutions around the country that have indicated strong interest in being able to raise capital to buttress lending and other business opportunities available in their markets, but having to undertake all of the burdens associated with becoming a public reporting company has been viewed as too burdensome to justify the undertaking. This new capital raising law will allow a small business to raise up to $50 million per year from both accredited and non-accredited investors.
This post will explore the implications and requirements of these new rules and attempt to shed a little light on the new developments.
REGULATION A+ BACKGROUND
After Congress enacted the JOBS Act in 2012, the process to correct Regulation A was initiated. Regulation A was a provision in the federal law that paved way for companies to fundraise a maximum of 5 million dollars through public offers, however, it was rarely used.
Regulation A’s major shortcoming was the fact that it required companies to register their offerings in every state where they intended to offer securities. Compared to other commonly applied laws like Regulation D, this requirement made it extremely costly for companies to offer securities. Regulation D requirements allowed companies to raise similar amounts or even more without incurring high costs of complying with state laws.
WHAT ARE THE NEW RULES?
The new rules, which amend existing Regulation A and are being referred to as “Regulation A+,” provide financial institutions and other businesses with the ability to raise capital while still providing flexibility in assessing and selecting the types of ongoing public reporting responsibilities the issuer is willing to undertake as part of the process. In general, the final rules create an exemption for U.S. and Canadian companies that are not required to file reports under the Securities and Exchange Act (Exchange Act). This expands the pool from which these funds can be raised, from just accredited investors, as provided by Regulation D, to the general public. This means that startups and small businesses can now hold small Initial Public Offers not just from accredited investors, but also from the general public.
A TWO-TIERED STRUCTURE
The rules create a two-tiered structure that is based on the size of the proposed offering, each of which has different requirements for the issuer:
- Tier 1 permits securities offerings of up to $20 million in a 12-month period, with not more than $6 million being offered by selling security holders that are affiliates of the issuer.
- Tier 2 permits securities offerings of up to $50 million in a 12-month period, with not more than $15 million being offered by selling security holders that are affiliates of the issuer.
For offerings of up to $20 million, the issuer will have the opportunity to elect whether to proceed under Tier 1 or Tier 2. Both tiers are subject to basic requirements as to eligibility, disclosure and other matters discussed in this alert that are derived from Regulation A. However, in addition to the basic requirements, companies that conduct either a Tier 1 or Tier 2 offering would be subject to additional requirements.
TIER 1 AND TIER 2 OFFERING REQUIREMENTS
The following requirements apply to Regulation A+ offerings regardless of whether they constitute Tier 1 or Tier 2 offerings:
- Regulation A+ is available to U.S. and Canadian issuers that are not SEC-reporting companies, blank check companies or investment companies registered under the Investment Company Act of 1940.
- Issuers may offer debt and equity securities, including warrants and convertible securities, under a Regulation A+ offering. Asset-backed securities are expressly excluded from Regulation A+ offerings.
- Issuers are permitted to engage in “testing the waters” communications both before and after a required offering statement is filed with the SEC. This is similar to the “testing the waters” communications permitted for “emerging growth companies” under the JOBS Act, except Regulation A+ issuers may communicate with all potential investors, not just institutional accredited investors and qualified institutional buyers.
- Securities issued pursuant to a Regulation A+ offering are not “restricted securities” and are thus freely transferrable by non-insiders.
- Issuers must file an offering statement with the SEC, which must then be “qualified.” An offering statement is a scaled-down version of a prospectus, which is a disclosure document that provides potential investors with information that will form the basis for their investment decision. The “qualification process” is similar to a declaration of effectiveness for a registered offering.
- Securities offered by selling shareholders cannot exceed 30 percent of the aggregate offering.
- Issuers are permitted to use Regulation A+ to engage in continuous or delayed offerings for, among other things, offerings for employee benefit plans and offerings by selling shareholders.
- Issuers meeting the “bad actor” provisions of Rule 262 are prohibited from relying on the Regulation A+ exemption.
- Regulation A+ issuers must file an “exit report” within 30 days of the completion or termination of a Regulation A+ offering.
TIER 1 OFFERINGS
In addition to the requirements noted above, Tier 1 offerings under Regulation A+ are subject to the following requirements:
- Issuers are limited to an aggregate offering of $20 million over a 12-month period in a mini-IPO and there are no investment limitations on purchasers as well as no requirement of audited financial statements.
- Tier 1 offerings are not exempted from Section 12(g) of the Exchange Act, which requires that issuers with total assets exceeding $10 million register a class of securities with the SEC if such securities are held of record by either: (i) 2,000 persons, or (ii) 500 persons who are not accredited investors.
- In addition to complying with blue sky laws regarding filing and anti-fraud, Tier 1 offerings must comply with the new coordinated review process for solicitation materials that is administered by the North American Securities Administrators Association (NASAA).
TIER 2 OFFERINGS
In addition to the requirements noted above, Tier 2 offerings under Regulation A+ are subject to the following requirements:
- Issuers are limited to an aggregate offering of $50 million over a 12-month period.
- Tier 2 offerings subject issuers to periodic reporting requirements that are a scaled-down version of the annual, quarterly and ongoing reporting requirements that Exchange Act reporting companies are subject to. Tier 2 issuers are required to file annual reports, semiannual reports and current reports, which are less comprehensive than a Form 10-K, Form 10-Q or Form 8-K, respectively.
- Tier 2 offerings are exempt from blue sky requirements, as purchasers of Tier 2 securities are considered “qualified purchasers” and thus, applicable blue sky laws are preempted by federal securities law.
- Unlike Tier 1 offerings, Tier 2 offerings are exempt from Section 12(g) of the Exchange Act, provided that the issuer meets several conditions.
- Offering statements for Tier 2 offerings must include audited financial statements.
Investor protection is an important element that the newly SEC rules for Regulation A+ address comprehensively. Non-accredited investors are limited to investing 10 percent of the greater of their: (i) annual income, or (ii) net worth. This investment limitation will not apply if the securities are to be listed on a national securities exchange upon consummation of the offering.
If you have questions regarding Regulation A+ or would like help to evaluate how the distinctions afforded by Tier 1 and Tier 2 offerings under Regulation A+ would impact your business, please do not hesitate to contact Larry Horwitz at firstname.lastname@example.org.