The Road Not (Yet) Taken

As part of the JOBS Act, Congress and the SEC updated and expanded Regulation A (Reg. A) to reduce some of the road blocks to capital formation faced by startups and emerging growth companies.  Many have argued that regulations implemented over the past two decades have removed the economic incentives for broker-dealers to engage in smaller offerings. In many cases, the prohibitively high costs associated with being public have also left smaller companies unable or unwilling to look at the public markets.

The amendments to Reg. A not only lower the hurdles in securities offerings, but allow for flexibility when structuring transactions – bridging the gap that existed between private and public offerings, thus reducing the cost and complexity of being public.

Diverging from prevailing discussions around online capital raising and equity crowdfunding, below is a look at some of the more practical applications of Reg. A.

Reverse Merger Substitute

In the late 2000s, reverse mergers (or reverse take-overs “RTOs”) became a popular alternative for companies looking to go public.

In a reverse merger, a private company merges with an existing public reporting company (often a shell/non-operating company) to “go public” in lieu of doing a traditional IPO.

While a reverse merger is often viewed as a quicker and more cost-effective route, it also poses higher risks to investors as the transaction doesn’t require the same regulatory oversight as an underwritten IPO.  For companies considering a reverse merger to go public, Reg. A may serve as a win-win for the issuers, investors, and regulators. Under Reg. A, offered shares are immediately freely tradable, eliminating the need to file the resale registration that typically follows the closing of a merger. And since Reg. A requires the filing and review of an offering circular with the SEC, there may be less risk of “back-door” deals and investor protection concerns associated with shell-company transactions.

Reg A. Mergers and Acquisitions

With Reg. A in effect for just over a year, a number of issuers have taken advantage of the new amendments to offer shares in a merger and acquisition.  In certain transactions where the targeted company may have a substantial number of unaccredited investors, such as a community bank or local craft brewery,

Reg. A allows for stock issuances to unaccredited investors without needing to file a S-4 registration statement.  Reg. A not only solves the problem of the accredited investor limitation with private placements, but also provides immediate liquidity for incoming shareholders.

In M&A transactions, the type of currency offered is particularly important, and in many cases cash isn’t king, especially when a liquid stock might be preferable to cash for both the acquirer and the acquiree.

Shelf and Continuous Offering

One of the most notable provisions under the Reg. A rules is the ability to offer shares on a delayed and/or continuous basis.  Similar to a shelf registration statement (S-3), Reg. A allows issuers, who are current in their annual and semi-annual filing obligations, to utilize the initially qualified offering circular (1-A) to offer shares over a prolonged period.  In addition, the rule changes have eased the process for updating the 1-A once it’s been qualified, and they are now similar to how a post-effective amendment is treated in a registered continuous offering.  However, it is important to note that Reg. A does not currently permit At-the-Market offerings (ATM).

In our recent petition for rulemaking to the SEC, we have requested that the Commission broaden Reg. A to include SEC reporting companies as well as to permit ATM offerings. We believe that these changes will help improve access to capital and the public markets for all companies.  We encourage you to read our petition and share your thoughts with us or directly with the SEC.