Can the Regulation A Exemption be used for a syndicated offering?
The JOBS Act of 2012 created and revised methods for small and emerging companies to raise capital. Regulation A (Reg A), one of the available exemptions companies can take from registering their securities with the SEC, was completely overhauled. The updated Reg A, sometimes called “Reg A+”, was split into two tiers (up to $20 million with Tier 1 and up to $75 million with Tier 2) allowing for significantly larger raises and more flexibility around how and to whom securities can be marketed.
Reg A falls into a middle ground between private capital raise options like Regulation D and public options like an IPO, but presents unique benefits to issuers and sponsors.
REGULATION A VS REGULATION D 506B & 506C
A fundamental difference between Regulation A and private offerings under Regulation D is the ability for non-accredited investors to participate. While 506b does allow for up to 35 non-accredited investors in an offering, it is forbidden to publicly market those securities online to potential investors. 506c does not allow unaccredited investors, but can be publicly marketed, similar to an attractive feature of Reg A. Reg A is marketable to all investors, regardless of channel.
Significant benefits to Reg D over Reg A are lower costs associated with launching the offering, the ability to raise capital without a maximum limitation and the eligibility of SEC-registered companies to participate in the exemption. Reg A is limited depending on the tier selected and to companies that have not previously registered with the SEC.
REGULATION A VS CROWDFUNDING (REGULATION CF)
An often-held misconception is that because Reg A is marketable to any and all investors, it is crowdfunding. There are material differences between Reg A and crowdfunding under Regulation CF. Because of the lower capital raise limit, companies utilizing Regulation CF tend to be earlier in their corporate lifecycle and have lower valuations. Generally, more established companies seeking growth capital initiate a Reg A offering because of higher associated costs.
Regulation CF requires that the offering be listed on a registered funding portal. Acceptance to these portals can be competitive, with some being very exclusive. No such requirements exist for Reg A offerings. Some online service providers do exist to help the issuer with marketing and subscription, as does the option to list on national stock exchanges such as OTC, NASDAQ, and NYSE.
REG A AS AN EXEMPTION USED FOR SYNDICATED OFFERINGS
The Reg A exemption can be a good choice for a syndicated offering, particularly if the selling members seek quality offerings that can be publicly solicited and available to all investors.
Launching a syndicated Reg A offering is a significantly different process than a Reg D offering since it’s considered to be a public offering.
To initiate a Reg D offering, an issuer drafts a private placement memorandum (PPM) that describes the project, its risks and opportunities, how to subscribe, the use of proceeds, the issuer’s best reasonable estimate of what the future holds, third-party diligence reports on the sponsor and project—and engages a dealer manager (DM) to administer the selling syndicate. That is a typical, albeit abbreviated, cost of entry to take a Reg D offering to market and to engage independent broker-dealers (IBDs) and registered investment advisors (RIAs) for the offering’s distribution.
To initiate a Reg A offering with similar distribution ambitions that include IBD and RIA syndication, the Reg A exemption has additional hurdles. The PPM is replaced by an offering circular (OC) that has more specificity as to its contents than does a PPM (which technically is not even required for the Reg D exemption, but RIAs and IBDs likely will not engage without one).
The OC is submitted to the SEC in what’s called a 1A filing. Because it is a public offering, the SEC is going to ensure that the OC includes all required information before they qualify the offering. Concurrent with the 1A filing, the syndicate manager (the dealer manager or managing broker-dealer) files a 5110 filing with FINRA. FINRA’s interest is the plan of distribution, the underwriting costs, the compensation for sales and the issuer’s or sponsor’s contribution to get the offering organized. That process is defined in FINRA Rule 5110, and for direct participation programs, in FINRA Rule 2310 and in several qualifying notices such as Notice To Members 08-35. It’s an extra administrative burden, takes some time and takes a knowledgeable partner—but it’s doable and repeatable.
The benefit to the syndicate is that it’s a public offering, available to all investors whether accredited or not, and it can be advertised without the risk of violating the exemption claimed. IBDs and RIAs have a product that they can put on their shelf and present to their clients where the underlying asset likely has many similar risk/reward attributes as the assets being syndicated in the Reg D space. For Tier 2 offerings, audited statements are required, which could add additional comfort to investors.
As with all investments, the underlying asset, the track record of the sponsor and the cost of the investment compared to the potential outcome should be taken into account for investment decisions.
