The Jumpstart Our Business Startups (JOBS) Act required the Securities and Exchange Commission (SEC) to adopt rules to amend Regulation A of the Securities Act of 1933 (the Securities Act). On March 25, 2015, the SEC adopted final rules to fulfill the JOBS Act mandate. The final rules containing the amendments to Regulation A are set out in Release No. 33-9741 (www.sec.gov/rules/final/2015/33-9741.pdf). The final rules and form amendments are effective 60 days after publication in the Federal Register.
Regulation A is a longstanding exemption from registration that prior to the amendments permitted unregistered public offerings of up to $5 million of securities in any 12-month period, including no more than $1.5 million of securities offered by securityholders of the company. Regulation A offerings historically have been rare in comparison to offerings conducted in reliance on other Securities Act exemptions from registration (i.e. Rule 506 of Regulation D). The most notable deficiencies of the former Regulation A were the relatively small maximum offering size and the fact that issuers typically were required to register and qualify offerings under blue sky laws, which was particularly problematic given the maximum offering size. The JOBS Act directed the SEC to adopt amendments to Regulation A addressing each of these two limitations, among others. Because these amendments are intended to improve the utility of Regulation A and improve access to capital by smaller companies, amended Regulation A is oftentimes referred to as “Regulation A+” by practitioners.
Offerings under Regulation A+ represent a hybrid or middle road between the relatively light regulatory requirements of a Regulation D private placement and the onerous registration and post-offering continuous disclosure requirements of an initial public offering. Issuers conducting a Regulation A+ offering may sell up to $50 million of securities in a 12-month period (including up to $15 million by selling securityholders) and are required to qualify an offering circular with the SEC that contains certain mandatory disclosure. For certain offerings, issuers also will be subject to ongoing disclosure requirements but will benefit from federal preemption of state blue sky laws. The offering circular/qualification and ongoing reporting for a Regulation A+ offering are substantially less burdensome than the analogous prospectus/registration and continuous reporting requirements for an initial public offering. The amendments to Regulation A also improve the ability of issuers to communicate with potential investors through “test-the-water” provisions. These changes to the little-used Regulation A may create an attractive new option for mature, private companies that want to provide liquidity for early investors or raise capital without going public.
Below is a detailed summary of the amendments to Regulation A, including the offering circular requirements, post-qualification ongoing disclosure obligations, and impact on state securities laws. If you have an interest in learning more or discussing the impact that these amendments to Regulation A may have on your capital raising plans or your business, please contact your Lindquist & Vennum attorney.
Consistent with the 2013 proposed rules, the final rules categorize offerings under Regulation A into two tiers.
- Tier 1 will be available for offerings of securities of up to $20 million in a 12-month period, including up to $6 million on behalf of selling securityholders that are affiliates of the issuer.
- Tier 2 will be available for offerings of up to $50 million in a 12-month period, including up to $15 million on behalf of selling securityholders that are affiliates of the issuer.
Only certain issuers are eligible to conduct offerings under amended Regulation A. The Regulation A exemption may not be used by SEC reporting companies, Tier 2 issuers delinquent in ongoing reporting, and issuers disqualified by “bad actors.” All offerings under Regulation A are subject to certain basic requirements. Tier 2 offerings are also subject to additional offering requirements and ongoing reporting requirements. The basic offering requirements and Tier 2 specific requirements are explained below.
For offerings up to $20 million, an issuer may use either Tier 1 or Tier 2. For many issuers, this decision will be made by weighing (i) the benefits of federal preemption of blue sky laws available for Tier 2 offerings against (ii) the costs and burdens of ongoing reporting under Tier 2, the requirement that Tier 2 issuers provide audited financial statements as part of the offering circular, and the limitations on purchases by non-accredited investors in a Tier 2 offering.
Eligibility to Use Amended Regulation A
Amended Regulation A is available to issuers organized in and with their principal place of business in the United States or Canada. However, the exemption is not available to companies that:
- are already reporting under the Securities Exchange Act of 1934, as amended (the Exchange Act) and certain investment companies;
- have no specific business plan or purpose or have indicated their business plan is to engage in a merger or acquisition with an unidentified company (i.e. shell companies);
- are seeking to offer and sell asset-backed securities or fractional undivided interests in oil, gas or other mineral rights;
- have been subject to certain SEC orders entered within the past five years;
- have not filed ongoing reports required by the amendments to Regulation A during the preceding two years; or
- are disqualified under the “bad actor” provisions of Rule 262, which are nearly identical to the bad actor disqualification provisions in Rule 506(d) of Regulation D.
Basic Offering Requirements
For all offerings under amended Regulation A, issuers are required to prepare an offering statement on Form 1-A and file it electronically through the SEC’s EDGAR system. Similar to the confidential submission process for emerging growth companies (EGCs) conducting an initial public offering, an issuer may submit a draft Form 1-A to the SEC for non-public review.
Form 1-A is divided into three parts: Part I, a notification; Part II, an offering circular; and Part III, exhibits. Part I, the notification, consists of a fill-in-the-blank form similar to Form D. For Part II, the offering circular, non-real estate issuers can select from two different disclosure models: the offering circular standards set out in Part II of amended Form 1-A or the requirements of Part I of Form S-1 (the registration statement used for IPOs), tailored to smaller reporting companies if the issuer would qualify as a smaller reporting company. Either offering circular disclosure model requires, among other items: risk factors, a business section, management’s discussion and analysis (MD&A) of the issuer’s results of operations and liquidity, executive compensation disclosure, plan of distribution disclosure and two years of financial statements (audited in the case of issuers conducting Tier 2 offerings).
An issuer may not begin a Regulation A offering until its offering statement is qualified and it receives a “notice of qualification” issued by the SEC’s Division of Corporation Finance. The notice of qualification is analogous to a notice of effectiveness issued in an offering registered under the Securities Act. In the period prior to qualification, the issuer must provide prospective investors with a copy of the preliminary offering circular at least 48 hours before a sale.
Under amended Regulation A, an issuer may “test the waters” – that is, solicit indications of interest from any potential investor – both before and after filing the offering statement. Issuers testing the waters after the offering statement is filed must make the offering circular available to prospective investors. All testing-the-waters materials must bear certain legends or disclaimers and must be filed with the Form 1-A.
Tier 1 issuers must file a Form 1-Z within 30 calendar days after termination or completion of the offering describing the particulars of the issuer and the offering such as (i) the date the offering was qualified and commenced; (ii) amount of securities qualified and amount sold; (iii) price of securities; (iv) fees associated with the offering; and (v) net proceeds to the issuer. For Tier 2 issuers, this information may be reported through its annual report on Form 1-K.
Tier 2 Additional Requirements and Ongoing Reporting
As mentioned above, a Tier 2 offering circular must contain audited financial statements. The audit must be conducted in accordance with either generally accepted auditing standards in the United States or the standards issued by the Public Company Accounting Oversight Board.
Under the final rules, securities issued in a Tier 2 offering may be sold to accredited investors or non-accredited investors. However, the amount of securities that a non-accredited investor may purchase in a Tier 2 offering is limited. The limit for natural persons is 10% of the greater of annual income or net worth. The limit for non-natural persons is 10% of the greater of annual revenue or net assets at fiscal year end. This limit does not apply to purchases of securities that will be listed on a national securities exchange upon qualification.
Under the final rules, Tier 1 issuers are not subject to any post-offering reporting requirements other than filing the Form 1-Z. In contrast, Tier 2 issuers must file annual reports (Form 1-K), semiannual reports (Form 1-SA) and current event reports (Form 1-U) via the EDGAR system similar to Exchange Act reporting issuers.
- Form 1-K must be filed within 120 days after the issuer’s fiscal year end. Form 1-K requires information on business operations, related party transactions, beneficial ownership of voting securities, identification of directors, executive officers and significant employees, executive compensation data for the three most highly paid officers, an MD&A section covering the issuer’s liquidity, capital resources, and results of operations for the two most recently completed fiscal years, and two years of audited financial statements.
- Form 1-SA must be filed within 90 calendar days after the end of the first six months of the issuer’s fiscal year. Form 1-SA must include interim financial statements and an MD&A section. The financial statements may be condensed and are not required to be audited or reviewed.
- Form 1-U must be filed within four business days after the occurrence of specified triggering events. Triggering events include fundamental changes in the nature of their business, bankruptcy or receivership, material modifications of securityholders’ rights, changes in accountants, changes in control, non-reliance on previous financial statements or a related audit report or interim review, departure of the principal executive, financial or accounting officers, and unregistered sales of 10% or more of outstanding equity securities.
A Tier 2 issuer’s ongoing reporting obligations will be suspended when the issuer becomes subject to Exchange Act reporting. A Tier 2 issuer may also suspend its ongoing reporting obligations at any time by filing a Form 1-Z after completing reporting for the fiscal year in which an offering statement was qualified, so long as the securities of each class to which the offering statement relates are held of record by fewer than 300 persons (fewer than 1,200 persons for banks or bank holding companies), and offers or sales made in reliance on a qualified Tier 2 Regulation A offering statement are not ongoing.
Blue Sky Preemption
Securities sold under former Regulation A were not “covered securities” under the National Securities Markets Improvements Act (NSMIA). With few state securities law exemptions available for former Regulation A offerings, issuers typically had to comply with the registration and qualification requirements of the blue sky laws. This significant limitation on the utility of the former Regulation A drove many issuers to instead conduct their offerings under Rule 506 of Regulation D since the securities issued in a Rule 506 offering are covered securities.
Under amended Regulation A, securities sold in Tier 2 offerings are covered securities under NSMIA and therefore are exempt from state registration and qualification requirements. The SEC accomplished this by designating securities offered or sold in a Tier 2 offering as being offered or sold to “qualified purchasers.” However, securities sold in Tier 1 offerings are not designated as securities sold to qualified purchasers. Accordingly, they are not covered securities and continue to be subject to the blue sky registration and qualification requirements of the applicable states.
For both Tier 1 and Tier 2 offerings, state securities regulators retain the authority to investigate and enforce securities fraud and similar actions. State securities regulators also retain the authority to require notice filings and fees for Tier 2 offerings, similar to the existing Form D filing requirement in many states.
Issuers who are seeking registration or qualification of a Tier 1 Regulation A offering in many states should consider taking advantage of the Multi-State Coordinated Review Program recently launched by the North American Securities Administrators Association (NASAA), whose membership includes state securities regulators from all 50 states, as well as the District of Columbia, Puerto Rico, the U.S. Virgin Islands. This coordinated review program provides for blue sky review by a lead disclosure examiner and, if applicable, a lead merit examiner selected by the administrator of the program. The review protocol has specific timeframes for the review of the offering materials and clearing the offering and has an expedited schedule for completion of the initial comment letter. By simultaneously seeking qualification of an offering statement by the SEC and registration or qualification under NASAA’s Multi-State Coordinated Review Program, a Tier 1 issuer may gain valuable time to market and reduce expense associated with blue sky compliance, as well as reduce the possibility of conflicting comments from separate state securities regulators.