Our firm’s lawyers routinely assist U.S. and non-U.S. companies in raising capital in the United States. One of the most critical ways international and U.S. companies raise funds in the U.S. is by issuing stock or other securities. Securities offerings, however, are highly regulated — at both the state and federal levels. U.S. law requires issuers to first register securities with the Securities and Exchange Commission (“SEC”). But, there are many SEC-sanctioned exemptions to the registration requirements. In this post, I’ll be focusing on Regulation A and some of its requirements.
Regulation A is an exemption from the registration requirements that allows qualified issuers to offer and sell up to $75 million in securities in a 12-month period, if they follow certain SEC filing and qualification requirements. Regulation A isn’t limited to private placements, and purchasers may be able to resell securities with much fewer restrictions than with other exemptions. Let’s unpack what Regulation A is and how to become qualified.
What is Regulation A?
Regulation A is an exemption from registration requirements for certain securities issuances. Only U.S. or Canadian entities may take advantage of Regulation A offerings, so international companies need to form a U.S. entity. Certain issuers are not permitted to engage in Regulation A offerings, so potential issuers should understand at the outset whether and how they can qualify.
Regulation A is split into two tiers, referred to as Tiers 1 and 2. Tier 1 offerings are for issuances of up to $20 million in a 12-month period. Tier 2 offerings are for issuances of up to $75 million in a 12-month period. An issuer that wants to offer less than $20 million in securities may opt for either Tier 1 or Tier 2. According to this summary, 85% of issuers opt for Tier 2. The reason should become apparent if you keep reading.
What are the key differences between Tiers 1 and 2?
One of the main reasons issuers opt for Tier 2 is because it is exempt from state registration and qualification. Tier 1 is not. So a Tier 2 securities offering can save substantial time and money, and justify some of the other limitations or requirements of a Tier 2 offering. That said, even though Tier 2 security offerings are exempt from state registration and qualification requirements, states may still require certain filings or notices, so it is key for issuers to understand the state requirements where they intend to offer their securities.
One of the drawbacks of a Tier 2 securities offering is that the potential pool of investors is limited to accredited investors or purchasers who meet certain financial thresholds. Those thresholds require the purchase price be no more than 10% of the greater of the purchaser’s (a) annual income or net worth if the purchaser is a natural person, or (b) revenue or net assets from the purchaser’s most recently completed fiscal year end if the purchaser is an entity.
Notably, Regulation A permits a Tier 2 issuer to rely on written statements from the purchaser in determining whether the purchaser complies with the 10 percent limitation. This means that the level of required “diligence” of prospective purchasers is relatively low.
On the other hand, Tier 1 purchasers may include non-accredited investors who don’t meet the above thresholds. This means that Tier 1’s “pool” of potential purchasers is potentially much bigger. That said, Tier 1 is often less attractive because of the lack of state-law exemptions, and because it is capped at $20 million in a 12-month period.
How does an issuer become qualified for a Regulation A securities offering?
To undertake a Regulation A offering, an issuer must first file an offering statement with the SEC with Form 1-A. Certain first-time issuers can file a confidential draft of the offering statement for SEC review prior to public filing. Issuers also need to submit certain financial or other documentation in connection with the issuance, such as an investor-facing prospectus describing the securities and risk factors of the investment.
While issuers may be able to engage in certain “testing the waters” communications prior to filing the offering statement, and certain offers may be made prior to qualification, sales can occur only after the SEC qualifies the offering statement. Tier 2 Regulation A offerings also require more in-depth ongoing reporting after qualification by the SEC.
How does Regulation A compare to Regulation D?
Regulation D is another exemption to the registration process. There are several different types of exemptions within Regulation D, including Rule 504, Rule 506(b), and Rule 506(c). Certain Regulation D offerings could be advertised generally, whereas others can only be offered and issued to narrower pools of purchasers. We plan on writing about each of these at length in the near future.
One key aspect of Regulation A is that it does not impose the same kind of resale restrictions as Regulation D. The biggest drawback – in contrast to Regulation D – is that the process of qualifying a Regulation A offering statement is more complicated and expensive. But once qualified, these issuances generally allow for a lot more flexibility for issuers and secondary purchasers.
What are some good resources for Regulation A issuers?
Some good resources for prospective Regulation A issuers are:
- The SEC’s website, which has detailed guidance materials for Regulation A issuers;
- The Regulation A regulations themselves; or
- The SEC’s EDGAR database, which has many examples of qualified offering statements from other Regulation A issuers.
A word of caution though – Regulation A is incredibly complicated, and getting the filings right is critical. Even experienced business executives generally do not have the experience to go undertake complicated SEC filings. Our officer has guided many clients through various SEC regulatory exemptions and we’ve seen many businesses get things wrong on their own. So any prospective Regulation A issuer should consult with good securities counsel first. It will save a lot in the long run.
The U.S. is among the world’s top markets – if not the top market – for foreign and domestic companies to raise capital. IPOs and SEC registrations are still off the table for most businesses, which means that issuers must look to the complex array of SEC exemption regulations. While many investors focus on Regulation D, Regulation A can be a very powerful option for issuers. Stay tuned to this blog for more updates on U.S. securities requirements.