SEC Fulfills Final Jobs Act Mandate by Proposing Changes to Regulation A
Legal Alerts
1.17.14
The SEC released proposed rules to carry out the last rulemaking mandate of the JOBS Act: modernizing the current framework of Regulation A’s “small offering exemption.” Regulation A currently permits non-reporting companies in the U.S. and Canada to sell up to $5 million annually through a streamlined offering circular qualification process. A Regulation A offering is not a “private” offering; indeed, it is often referred to as a “mini-registration” and investors in a Regulation A offering receive shares that are freely transferable. However, Regulation A is rarely used today because of its low $5 million limit, its requirement to prepare and file an offering statement for the SEC’s review and approval and to deliver the offering statement to prospective investors; its requirement to file periodic sales reports after completion of the offering; and the need to comply with applicable state blue sky regulation, which can mean registration in several states and associated delays.
According to a 2012 study by the Government Accountability Office, there were fewer than 20 offering circulars filed under Regulation A during 2008 through 2011. Recognizing the impracticality of the current framework, the SEC has made an effort to propose rules to implement revised Regulation A, which we refer to in this alert as Regulation A+, in a manner that is more enticing to small and non-reporting companies as an alternative to the Regulation D exemptions or the proposed crowdfunding exemption for raising capital.
Overview. The proposed rules intend to meet the Congressional mandate by expanding Regulation A into two tiers. Tier 1 would preserve the current offering threshold in Regulation A, which permits an issuer to offer and sell up to $5 million in any 12-month period, including no more than $1.5 million in securities sold on behalf of selling stockholders. Tier 1 offerings would remain subject to state blue sky securities review. Tier 2 would provide an exemption for offerings of up to $50 million in any 12-month period, including no more than $15 million on behalf of selling stockholders. State securities law registration and qualification requirements for securities sold in Tier 2 offerings would be preempted but issuers would be subject to ongoing reporting requirements. Offerings in both tiers are subject to the same basic requirements relating to issuer eligibility, disclosure and other matters as noted below.
Issuer Eligibility. The SEC proposes that Regulation A+ would continue to be available to companies organized in, and with the principal place of business inside, the U.S. or Canada. Regulation A+ would not be available to SEC reporting companies, investment companies, blank check companies, issuers disqualified from participation in such offerings under certain “bad actor” provisions and to issuers of fractional undivided interests in oil, gas or mineral rights. Further, the proposed changes would disqualify issuers that have been subject to an order denying, suspending or revoking the registration of a class of securities within the prior five years as well as issuers that have failed to file, during the two years prior to filing the offering statement, any required ongoing reports required by the proposed rules. The “bad actor” definition would be conformed to the recently adopted Regulation D Rule 506(d) definition.
Eligible Securities. The securities that may be offered under Regulation A+ are limited to equity securities, debt securities and debt securities convertible into or exchangeable into equity interests, including any guarantees of such securities. The proposed rule would exclude asset-backed securities.
Electronic Filing and Offering Mechanics. The proposed rules would require all offering statements to be filed electronically with the SEC via EDGAR instead of the paper filings currently permitted. As in a registered public offering, the proposed rules would also consider the final offering statement to be “delivered” when it is accessible on EDGAR. Within two days after completion of the sale, confirmation of the sale would then have to be provided by means of a notice that includes a URL where the offering statement or the final offering circular may be obtained. Delivery of a paper copy of the preliminary offering circular to a prospective purchaser would be required at least 48 hours in advance of any sale. The proposed rule would also permit filing of post-qualification supplements to offering statements containing pricing information similar to a registered offering. An order of the SEC would be required before the offering statement would be qualified, similar to a registration statement being declared effective.
“Testing the Waters.” Under the proposed rules, issuers would be permitted to use “testing the waters” solicitation materials both before and after the filing of an offering circular, subject to issuer compliance with certain rules on filing and disclaimers.
Confidential Submission. With the requirement for electronic filing of offering statements, the proposed rules would also permit confidential submission of draft offering circulars in Regulation A+ offerings similar to the provision made in the JOBS Act for “emerging growth companies”, but only by issuers who have not previously sold securities pursuant to a qualified Regulation A+ offering statement or an effective Securities Act registration statement. Comment responses and amendments would also be filed electronically and non-publicly. Under the rule proposal, nonpublic drafts and related correspondence would be submitted via EDGAR and required to be publicly filed as exhibits to the offering statement not less than 21 calendar days before qualification of the offering statement.
Continuous or Delayed Offerings. The proposed rules contain provisions that would permit use of Regulation A+ for certain continuous or delayed offerings, like a registered shelf offering, and would also implement more practical procedures for updating the related offering circular. As with registered shelf offerings on Form S-3, eligibility would be conditioned on whether the issuer is current with ongoing reporting requirements.
Offering Statement Disclosure Requirement. The disclosure requirements for the offering statement would be modified to, among other things, eliminate the question and answer format option and require balance sheets for the most recent two fiscal years. The proposed rules would also ease financial statement staleness rules so that they are consistent with the proposed requirement for semiannual interim reporting.
Additional Tier 2 Requirements. In addition to these basic requirements, issuers conducting Tier 2 offerings under Regulation A+ would be subject to certain additional requirements, including (i) a limitation on the amount any investor could purchase of no more than 10% of the greater of an investor’s annual income and net worth; (ii) annual financial statements included in Tier 2 offering circulars would be required to be audited; and (iii) electronic filing of ongoing reports, including annual reports (new Form 1-K) within 120 days of year end and semiannual reports (new Form 1-SA) within 90 days after the end of the second quarter, as well as current event updates (new Form 1-U) within four business days after the event. Issuers conducting Tier 2 offerings could exit such ongoing reporting at any time by filing a Form 1-Z exit report after completing its reporting obligation for the fiscal year in which the 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, or by becoming subject to public company reporting requirements. Issuers conducting Tier 2 offerings would also be required to provide special financial reports prior to the issuer’s first periodic report after qualification to the extent certain financial statements were not included in the offering statement.
Post-Qualification Sales Reporting. The proposed rules would eliminate the requirement to file a form to report sales to the SEC every six months after qualification and within 30 days after the final sale. Instead, the proposed rules would require issuers conducting Tier 1 offerings to file a Form 1-Z report electronically within 30 days after termination or completion of the offering to provide information about sales in the offering and to update certain information. Issuers conducting Tier 2 offerings would include such information in either their first annual report after termination or completion of the offering or in a Form 1-Z report.
Integration of Offerings. Currently, Rule 251 of Regulation A provides that offers or sales made in reliance on Regulation A will not be integrated with (1) prior offers or sales of securities; or (2) certain subsequent offers or sales of securities, including offerings related to employee benefit plans, and offerings made more than six months after the completion of the Regulation A offering. The proposal would add crowdfunding offerings to the list of subsequent offerings that would not be integrated.
For more information about proposed Regulation A+, please contact the authors of this alert, Robert B. Murphy (202-906-8721) and Mark A. Metz (313-568-5434), or D. Richard McDonald, who leads Dykema’s public company practice group (248-203-0859). We will monitor these proposals and provide an update if the SEC adopts final rules.
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