Overview of Regulation A
On December 18, 2013, the SEC proposed rules to amend Regulation A, pursuant to Title IV of the Jumpstart Our Business Startups Act of 2012 (the “JOBS Act”). Regulation A, adopted as a rule in 1936, was meant to assist small businesses with capital formation under the then-newly created securities regulatory regime. The Regulation A securities registration exemption was meant to be a middle ground between private placement financings and a full-blown public securities offering.
In practice, however, Regulation A is rarely used. According to the recent proposed rules release, the SEC noted in the time period of 2009–2012 Regulation A was only used in 19 offerings, raising approximately $73 million. During the same time period, however, Regulation D was used in 27,500 offerings of up to $5 million (the statutory limit for Regulation A offerings), raising approximately $25 billion
Two longstanding criticism of Regulation A have contributed to its non-use: (1) the cost of an offering relative to the amount capable of being raised, and (2) the necessity of complying with state blue sky laws in each state where the offering is conducted. While Regulation A offerings are supposed to be “mini-registrations” compared to a public offering’s registration statement, they still involve a number of costs and must be qualified by the SEC before a sale can be made. Despite being qualified by the SEC, the issuer must then comply with the blue sky laws of every state in which it intends to offer its securities for sale. This entire process is expensive and time consuming, and therefore arguably not worth using considering companies can only raise a maximum of $5 million per year through Regulation A.
Fixing Regulation A: Regulation A+
The changes brought about by Title IV of the JOBS Act and its resultant proposed rules are widely known as “Regulation A+.” Regulation A+ attempts to address the criticisms of Regulation A and resuscitate its use through a number of significant changes. As an initial matter, offerings under Regulation A+ are organized into two tiers: Tier I is for offerings of $5 million and under, and Tier II is for offerings of up to $50 million. Tier I offerings maintain Regulation A as it was pre-JOBS Act, while Tier II offerings contain the new changes. Issuers elect which tier they wish to use for their offering.
Regulation A+ retains many of the beneficial characteristics of Regulation A, such as allowing issuers to: (i) submit a scaled-down offering statement to the SEC for validation before sales of securities can be made in lieu of the full registration statement required of public offerings; (ii) “test the waters” for market interest before submitting an offering statement; (iii) publicly offer securities for sale; (iv) generally advertise and solicit; (v) accept non-accredited investors; and (vi) permit investors to resell their securities without restriction.
The proposed changes of Regulations A+ are meant to address the primary criticisms of Regulation A: the low issuance cap of $5 million and the high cost of complying with state blue sky laws. The most significant changes of Regulation A+ are: (1) raising the issuance cap to $50 million, and (2) federal preemption of state blue sky laws—i.e., issuers electing to use Tier II of Regulation A+ will only be required to receive SEC validation, eliminating the need to comply with state blue sky laws.
Yet with these changes Regulation A+ imposes three notable checks to balance the interest of fostering capital formation by companies against the interest of maintaining investor protections. First, the issuers must provide enhanced offering disclosures with audited financial statements (which is still less stringent than a full registration statement), annual and semiannual reports, as well as ongoing reporting of certain significant events. Second, certain categories of issuers are excluded from using Regulation A+, including “bad actor” issuers, development stage companies, and issuers registered under the Investment Company Act of 1940. Third, investors are limited to investing the greater of 10% of their net worth or net income into a Regulation A+ offering per year.
Like the proposed rules for equity crowdfunding, Regulation A+ is simply a set of proposed rules at this point (although raising the issuance cap to $50 million is mandated by Congress in the JOBS Act, so that will not be changing). As with any expansive change to securities regulation, Regulation A+ has received its share of challenges, particularly with respect to the proposed federal preemption of state blue sky laws, so it is unclear how closely the final rules will reflect the proposed rules. The comment period on the proposed rules closed earlier this year, but there is still no sign of when the final rules will be issued.
Please feel free to contact us if you have any questions regarding the status of Regulation A+ or how you might be able to utilize it in the future.