The extent to which Regulation A+ will result in issuers and other market participants actually using Regulation A to raise capital will depend on a number of factors—including how it compares to other methods for raising capital, how the SEC Staff will administer the offering process and the market’s acceptance of Regulation A-compliant offering materials.
An issuer looking to raise no more than $50 million in a registered offering should seriously consider conducting the offering pursuant to Regulation A. As compared to Securities Act registration, Regulation A has fewer prescriptive disclosure requirements.1 It also permits issuers to use short-form registration to immediately register a class of equity securities under Section 12(b) of the Securities Exchange Act of 1934 (the Exchange Act), which would allow the issuer to list its shares on a national securities exchange if it otherwise meets applicable listing standards. And even where there is no listing, the largest Regulation A offerings will benefit from blue sky preemption,2 whereas registered offerings of securities that are not listed on a national securities exchange do not. Consequently, conducting a Regulation A offering could result in the same public market for the offered shares as would be available in a registered offering, but with potentially lower offering and regulatory expenses and more limited exposure to liability under the Securities Act as compared to registered offerings since there is no Section 11 liability in Regulation A offerings.
If an issuer is satisfied raising capital pursuant to Rule 506 of Regulation D or Rule 144A under the Securities Act, then the primary benefit of a Regulation A offering—freely tradable securities—may not be viewed as adequately offsetting the costs and benefits of a Regulation A offering. These include not only complying with Regulation A’s specific disclosure requirements for the offering, but also dealing with the same Staff review and comment process that applies to the review of a Securities Act registration statement, which can be time-consuming, and thereafter providing annual, semi-annual and current reports to the markets if the issuer raises more than $20 million in any 12-month period. Also, as discussed below under “Liability Considerations,” the liability profile of a Regulation D or Rule 144A offering is lower than that for a Regulation A offering—which subjects the sellers to liability under Section 12(a)(2) of the Securities Act.
Scope of the Exemption
The rule amendments create a two-tiered framework for Regulation A offerings. Issuers in Tier 1 may offer and sell up to $20 million of securities over the course of a 12-month period, and issuers in Tier 2 may offer and sell up to $50 million of securities over a 12-month period. The key difference between the two tiers, other than the size of the offerings, is that a Tier 2 offering will subject the issuer to an ongoing reporting requirement of annual, semi-annual and current reports, as discussed below.
With respect to an issuer’s initial Regulation A offering, and any additional offerings during the first 12 months thereafter, the rule amendments limit secondary sales to no more than 30 percent of the aggregate offering price in the particular offering. After the expiration of the first 12 months, affiliates (but not other selling security holders) will be limited to selling no more than $6 million over a 12-month period in a Tier 1 offering and no more than $15 million over a 12-month period in a Tier 2 offering. The rule amendments eliminate the last sentence of Securities Act Rule 251(b), which prohibited affiliate resales unless the issuer had net income from continuing operations in at least one of its two last fiscal years.
Eligible Issuers and Securities
The rule amendments continue to limit the Regulation A exemption to entities organized in, and with their principal place of business in, the United States or Canada. Also, issuers must not be subject to the reporting requirements of Sections 13(a) or 15(d) under the Exchange Act or trigger the revised “bad actor” disqualification provision in Regulation A, which has been substantially conformed to the “bad actor” disqualification under Rule 506(d) of Regulation D. Investment companies, blank check companies and issuers of fractional undivided interests in oil or gas rights also remain disqualified from Regulation A. In addition, there are two new categories of issuers that are disqualified from Regulation A: (a) issuers that were required to, but did not, file ongoing reports under Regulation A during the two years preceding the filing of a new offering circular, and (b) issuers that are, or during the five years preceding the filing of an offering circular have been, subject to an SEC order denying, suspending or revoking the registration of a class of securities pursuant to Exchange Act Section 12(j).
Only equity securities (including warrants), debt securities and debt securities convertible or exchangeable into equity interests, as well as guarantees of any such securities, are eligible to be offered and sold pursuant to the Regulation A exemption. Asset-backed securities are ineligible for the exemption.
Investment Limitations in Tier 2 Offerings
Prior to these rule amendments, Regulation A did not limit the amount of securities an investor could purchase in an offering. The rule amendments continue that approach with Tier 1 offerings. In Tier 2 offerings, however, investors that are not “accredited investors,” as defined in Rule 501 of Regulation D, are limited to purchasing no more than 10 percent of the greater of their annual income (or revenues for legal entities) or net worth (or net assets for legal entities). This limitation does not apply to accredited investors or in the event the securities issued in the Tier 2 offering are to be exchange-listed. Tier 2 issuers must notify investors of these investment limitations, but are not required to investigate further nor are they required to have a reasonable belief that the investor qualifies as an accredited investor. Tier 2 issuers may rely on an investor’s representation that the investor is in compliance with the investment limitation (unless the issuer knew at the time of sale that any such representation was untrue).
Regulation A offerings will not be integrated with any prior offers or sales of securities, nor will they be integrated with subsequent offers or sales of securities that are registered under the Securities Act (subject to certain exceptions); made in connection with certain compensatory benefit plans, or contracts or an employee benefit plan; made pursuant to Regulation S; made more than six months after the completion of any Regulation A offering; or made in connection with a crowdfunding offering pursuant to Section 4(a)(6) of the Securities Act.
Offering Process Prior to Filing
Testing the Waters
Issuers may “test the waters” prior to filing an offering circular under Regulation A. Unlike emerging growth companies, Regulation A issuers are not restricted in the pool of potential investors they can contact, and they can use “testing the waters” solicitation materials both before and after the offering circular is filed, subject to compliance with rules on filing and disclaimers. Any such solicitation materials remain subject to the antifraud and civil liability provisions of the federal securities laws.
Any solicitation materials used prior to the public filing of an offering circular must be included as an exhibit to the offering circular. Any solicitation materials used subsequent to the public filing of an offering circular must either be accompanied by a current preliminary offering circular or include the URL where it can be obtained, and any such materials must be updated and redistributed to the extent that they or the preliminary offering circular become inadequate or inaccurate in any material respect.
Regularly released factual business communications would not constitute solicitation of interest materials under Regulation A. Whether a particular communication constitutes a regularly released factual business communication is a facts and circumstances determination; the SEC has noted that issuers can look to Securities Act Rule 169 for guidance in making this determination. The SEC has also observed that factual business communications typically include information about the issuer, its business, its financial condition and its products, and generally do not include predictions, projections, forecasts or opinions with respect to the valuation of a security.
As with draft registration statements confidentially submitted by emerging growth companies, the new rule amendments permit issuers that have never sold securities pursuant to a qualified offering circular under Regulation A or an effective registration statement under the Securities Act to submit a draft offering circular for nonpublic Staff review. Such drafts must be substantially complete upon submission and are to be submitted via the Electronic Data Gathering, Analysis and Retrieval (EDGAR) system. The initial nonpublic submission, along with any nonpublic amendments thereto and correspondence submitted by or on behalf of the issuer, must be made public at least 21 calendar days before the qualification of the offering circular. This timing requirement does not depend on whether or not the issuer conducts a road show.
Unlike the draft registration statements confidentially submitted by emerging growth companies, nonpublic submissions of Form 1-A are not shielded from the requirements of the Freedom of Information Act (FOIA), which means that, under certain circumstances, the SEC may be required to provide copies of the nonpublic offering materials to a requesting party or otherwise make them publicly available. If an issuer believes that a FOIA exemption is applicable to its offering materials, it should submit them in compliance with the SEC’s Rule 83 in order to be notified of any information requests by third parties.
There are no filing fees associated with the Regulation A filing and qualification process.
Form 1-A is the offering document required to be filed with and qualified by the SEC in order to conduct a Regulation A offering, and it consists of three parts.
Part I of Form 1-A is an XML-based fillable form (similar to Form D) with drop-down menus, indicator boxes or buttons and text boxes. It will include certain issuer information; certifications that the issuer meets various eligibility criteria and is not subject to “bad actor” disqualification; information about the offering and jurisdictions in which the securities will be offered; and disclosure about unregistered issuances or sales of securities within the last year. Part I is intended to assist an issuer in determining whether it is eligible to rely on Regulation A.
Part II consists of a text file containing the offering circular, including the financial statements. Part II is required to be formatted in HTML or ASCII to be compatible with the EDGAR filing system. Issuers will not be required to submit any financial statements in interactive data format using XBRL. The rule amendments eliminate the current Form 1-A’s Model A, which consists of a “question and answer” style disclosure, and instead permit issuers to comply with either new Part II of Form I-A or Part I of Form S-1 (or Form S-11, as appropriate).
Required disclosure topics in Part II include, among other things, basic information about the issuer and the offering, material risk factors, descriptions of the issuer’s business operations and its material physical properties, management discussion and analysis (MD&A), information about the issuer’s directors, executive officers and 10 percent owners (including certain compensation disclosures), related-party transactions and the material terms of the offered securities. Issuers in Tier 1 offerings are subject to lighter disclosure requirements regarding executive and director compensation and related party transactions than issuers in Tier 2 offerings. Each of the required disclosure topics is described more fully below in the table titled “Form 1-A Disclosure Requirements.”
Both Tier 1 and Tier 2 issuers must provide balance sheets and other required financial statements for the two most recently completed fiscal years (or for such shorter time that the issuer has been in existence). Tier 1 issuers are not required to provide audited financial statements unless such financial statements are already available to the issuer. Tier 2 issuers must provide financial statements that are audited in accordance with either U.S. Generally Accepted Auditing Standards (GAAS) or the auditing standards of the Public Company Accounting Oversight Board (PCAOB).
All financial statements for U.S.-domiciled issuers must be prepared in accordance with U.S. Generally Accepted Accounting Principles (GAAP), while Canadian issuers may prepare such statements in accordance with either U.S. GAAP or International Financial Reporting Standards (IFRS).
The rule amendments extend the permissible age of financial statements in Form 1-A to nine months. An offering circular will not be qualified if its balance sheet is dated more than nine months before the date of qualification. For filings made more than nine months after the issuer’s most recently completed fiscal year, the issuer must provide an interim balance sheet as of a date no earlier than six months after the end of such fiscal year, and any required interim financial statements must cover a period of at least six months.
Part III of Form 1-A includes signatures, an exhibit index and exhibits to the offering circular. The new rules maintain the existing exhibit requirements of Form 1-A, but now permit issuers to incorporate by reference certain information in documents already filed on EDGAR. Issuers should describe any information incorporated by reference and include a hyperlink to the relevant exhibit on EDGAR.
Form 1-A Disclosure Requirements
|Disclosure Requirement||Tier 1 Issuers||Tier 2 Issuers|
|Issuer Information||Issuer’s identity, industry, number of employees, financial statements and capital structure; contact information||Same|
|Issuer Eligibility||Certification that issuer meets eligibility criteria
|Bad Actor Certification||Certification that no disqualifying events have occurred
|Summary Information||Tier level, amount and type of securities offered, secondary sales, type of offering, estimated aggregate sales of concurrent offerings pursuant to Regulation A, anticipated fees, audit and legal service providers, underwriters
|Jurisdictions||Information about jurisdictions in which securities will be offered
|Unregistered Offerings||Disclosure of unregistered issuances or sales of securities within the last year
|Cover Page||Basic issuer information, identification of underwriters, disclosure of underwriting discounts and commissions||Same|
|Table of Contents||Must be included||Same|
|Risk Factors||Most significant factors that make the offering speculative or substantially risky||Same|
|Dilution||Material disparities between the public offering price and the effective cash costs for shares acquired by insiders during the past year||Same|
|Plan of Distribution||Plan of distribution for the offering; disclosure regarding selling security holders
|Use of Proceeds||Principal purposes for which net proceeds are intended to be used
|Business||Business operations of the issuer for the prior three fiscal years (or, if in existence for less than three years, since inception)
|Property||Description of material physical properties||Same|
|MD&A||Discussion and analysis of the issuer’s liquidity and capital resources and results of operations through the eyes of management covering the two most recently completed fiscal years and interim periods; for issuers that have not received revenue from operations during each of the three fiscal years immediately before the filing of the offering circular (or since inception, whichever is shorter), the plan of operations for the 12 months following qualification of the offering circular, including a statement about whether the issuer anticipates that it will be necessary to raise additional funds within the next six months||Same|
|Directors, Esecutive Officers and Significant Employees||Identification of directors, executive officers and significant employees; any family relationships within this group; business experience during the past five years, and involvement in certain legal proceedings during the past five years||Same|
|Executive Compensation Data||Group-level data for three highest paid executives or directors and all directors as a collective group||Individual-level data for three highest paid executives or directors and all directors as a collective group|
|Security Ownership||Beneficial ownership of voting securities by executive officers, directors and 10 percent owners
|Related Party Transactions||Transactions with related persons, promoters and certain control persons in excess of $50,000 in the prior two years (or similar transactions currently contemplated)||Transactions with related persons, promoters and certain control persons that exceed lesser of $120,000 or 1 percent of the average total assets at year end for the last two completed fiscal years
|Securities||Material terms of securities being offered
|Bad Actor Disclosure||Any events that would have triggered disqualification of the offering under Rule 262 if the issuer could not rely on the provisions in Rule 262(b)(1)
|Financial Statements||Unaudited balance sheets and other unaudited financial statements as of the two most recently completed fiscal year ends (or for such shorter time that they have been in existence); form and content generally prescribed by Part F/S of Form 1-A
||Audited balance sheets and other audited financial statements as of the two most recently completed fiscal year ends (or for such shorter time that they have been in existence); must generally follow requirements of Article 8 of Regulation S-X
|Incorporation of Reference||May incorporate any documents publicly submitted or filed on EDGAR
|Exhibits||Underwriting agreement; charter and bylaws; instrument defining rights of security holders; subscription agreement; voting trust agreement; material contracts; plan of acquisition, reorganization; arrangement, liquidation or succession; escrow agreements; consents; opinion regarding legality; “testing the waters” materials; appointment of agent for service of process; any additional exhibits issuer wishes to file
|Signatures||Issuers must manually sign offering circular before or at time of filing and retain for 5 years
The JOBS Act provides that Regulation A securities are “covered securities” for the purposes of exemption from state law registration and qualification, provided they are (1) offered or sold on a national securities exchange or (2) offered or sold to a qualified purchaser. One of the most significant aspects of the rule amendments is that they define a “qualified purchaser” as any investor in a Tier 2 offering. Accordingly, all Tier 2 offerings are exempt from state securities law registration and qualification requirements. Tier 1 offerings will be subject to state registration and qualification requirements.3 Issuers should note that both Tier 1 and Tier 2 offerings remain subject to state antifraud enforcement and filing and fee requirements, consistent with the federal preemption framework of the Securities Act.
- Fundamental changes, including material definitive agreements which result or would reasonably be expected to result in fundamental changes to the nature of the issuer’s business or plan of operations;
- Bankruptcy or receivership;
- Material modification to the rights of security holders;
- Changes in the issuer’s certifying accountant;
- Non-reliance on previous financial statements or a related audit report or completed interim review;
- Changes in control of the issuer;
- Departure of the principle executive, financial or accounting officer; and
- Unregistered sales of 10 percent or more of outstanding equity securities.
A Tier 2 issuer may suspend its ongoing reporting obligations under Regulation A at any time after completing reporting for the fiscal year in which its offering circular was qualified by filing an exit report on Form 1-Z. A Tier 2 issuer is eligible to file a Form 1-Z if: (1) it has filed all reports required by Regulation A for its three most recent fiscal years and the current portion of its fiscal year preceding suspension of such obligations (or since it became subject to ongoing reporting obligations, if less than three fiscal years), (2) the securities of each class to which the offering circular relates are held of record by fewer than 300 persons (or, in the case of banks and bank holding companies, 1,200 persons) and (3) there are no ongoing offers or sales pursuant to a qualified Tier 2 offering circular.
2 It should be noted that Massachusetts and Montana have filed petitions for judicial review of the provisions in the Regulation A rule amendments preempting state securities law registration and qualification requirements. Both claim that the rule amendments are arbitrary and capricious and request vacatur of the rule amendments and a permanent injunction prohibiting the SEC from implementing and enforcement the rule amendments. See Petition for Review, Galvin v. SEC, Case No. 15-1150 (D.C. Cir. May 22, 2015) (this is Massachusetts’s petition; Montana’s petition has been consolidated with Massachusetts’s).
3 The North American Securities Administrators Association (NASAA) has implemented a multi-state coordinated review program for Regulation A offerings, under which issuers may file offering materials with the states via e-mail, have a lead disclosure (and, if applicable, lead merit) examiner selected and receive comments within a contemplated 21 business days. A vast majority of states have adopted and implemented the program, which may therefore reduce state disclosure and compliance obligations for Tier 1 issuers. Further information on the NASAA’s Coordinated Review Program is available at http://www.nasaa.org/industry-resources/corporation-finance/coordinated-review/regulation-a-offerings.
|Thomas J. Kim
|Craig E. Chapman
|John J. Sabl