Our firm is one of the most prolific in Regulation A offerings. Regulation A has become common for use in selling fractional ownership interests in all manner of “things,” including art, cars, racehorses, real estate, watches, collectibles and the like. Regulation A has also gained popularity for the registration of digital securities such as tokens and NFTs.
Regulation A can be used to complete an initial public offering on a national exchange or a direct listing onto OTC markets. It can be used as a follow-on offering by existing public companies and by private companies alike.
A Tier 1 Regulation A offering allows a company to raise up to $20 million in any 12-month period; however, in reality, very few companies raise more than a few million dollars in a Tier 1 offering. Since Tier 1 does not preempt state law, it is really only useful for offerings that are limited to one but no more than a small handful of states. Tier 1 does not require the company to include audited financial statements and does not have any ongoing SEC reporting requirements; however, most states conduct a merit review of a Tier 1 Regulation A offering and many require that the company include audited financial statements, thus alleviating the federal law benefit.
Tier 2 allows a company to file an offering circular with the SEC to raise up to $75 million in a 12-month period. Tier 2 preempts state blue sky law, which is an extremely cost-efficient benefit. A company may elect to either provide the disclosure in Form 1-A format or the disclosure in a traditional Form S-1 when conducting a Tier 2 offering. The Form S-1 format is a precondition to being able to file a Form 8-A to register under the Exchange Act.
Testing The Waters
Regulation A allows for prequalification solicitations of interest in an offering, commonly referred to as “testing the waters.” Companies can use “test-the-waters” solicitation materials both before and after the initial filing of the Form 1-A registration statement. In the event that materials are issued after the filing of the Form 1-A, the materials must include a link to the Form 1-A itself.
Moreover, solicitation material used before qualification of Form 1-A must contain a legend stating that no money or consideration is being solicited and none will be accepted, no offer to buy securities can be accepted and any offer can be withdrawn before qualification, and a person’s indication of interest does not create a commitment to purchase securities.
Testing the waters can be very helpful in determining whether proceeding with a Regulation A offering is the right course for a company. A Regulation A offering is not inexpensive. A company needs to complete an audit, incur legal fees, and incur direct and indirect marketing and offering expenses. In addition to the direct offering expenses, management will need to focus an inordinate amount of time on the offering itself, which will detract from business operations.
Testing the waters can also help to build up investor interest and excitement for an offering prior to its actual launch or “going live,” thus making the selling process exponentially quicker and easier. It takes time to educate the public about a company and an offering, and through testing the waters, this process can be completed concurrently with the SEC review of Form 1-A rather than after. Moreover, testing the waters may have the secondary effect of increasing product sales, customer acquisition and brand awareness.
Regulation A is available to companies organized and operating in the United States and Canada. A company will be considered to have its “principal place of business” in the U.S. or Canada for purposes of determination of Regulation A eligibility if its officers, partners or managers primarily direct, control and coordinate the company’s activities from the U.S. or Canada, even if the actual operations are located outside those countries.
The following issuers are not eligible for a Regulation A offering:
- Investment companies registered or required to be registered under the Investment Company Act of 1940, including BDCs. However, a company that operates investments that are exempt from the registration requirements under the 1940 Act would qualify, such as REITs and companies that transact in certain loans such as small business loans, student loans, auto loans and personal loans.
- Blank check companies are companies that have no specific business plan or purpose, or whose business plan and purpose is to engage in a merger or acquisition with an unidentified target; however, shell companies are not prohibited unless such a shell company is also a blank check company. A shell company is a company that has no or nominal operations; and either no or nominal assets, assets consisting of cash and cash equivalents; or assets consisting of any amount of cash and cash equivalents and nominal other assets. Accordingly, a startup business or minimally operating business may utilize Regulation A.
- Issuers seeking to offer and sell asset-backed securities or fractional undivided interests in oil, gas or other mineral rights.
- Issuers that have been subject to any order of the SEC under Exchange Act Section 12(j) denying, suspending or revoking registration entered within the past five years. Accordingly, a company that is deregistered for delinquent reporting would not be eligible for Regulation A.
- Issuers that became subject to Regulation A reporting requirements, such as through a Tier 2 offering, and did not file required ongoing reports during the preceding two years.
- Issuers that are disqualified under the Rule 262 “bad actor” provisions.
Regulation A is limited to equity securities, including common and preferred stock and options, warrants and other rights convertible into equity securities, debt securities and debt securities convertible or exchangeable into equity securities, including guarantees. If convertible securities or warrants are offered that may be exchanged or exercised within one year of the offering statement qualification (or at the option of the issuer), the underlying securities must also be qualified, and the value of such securities must be included in the aggregate offering value.
For more information on Regulation A offerings, see https://securities-law-blog.com/2021/02/23/sec-final-rule-changes-for-exempt-offerings-part-4/ and https://securities-law-blog.com/2018/04/17/regulation-a-continues-to-grow/.
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