Reg A+ is here!!! But is it crowdfunding?

There has been a potentially game-changing development in the world of crowdfunding. The SEC, while unable for a host of reasons to approve rules governing Title III of the JOBS Act (which permits true crowdfunding), did approve the final rules for Title IV. When the SEC trotted out the proposed rules, all the interest groups – including state securities administrators – came out in full force. I am happy to report that the crowdfunding community won the day, in no small part to relentlessly educating the SEC staff that championed this change.

There is a seldom used exemption that allows for sales of securities called “Regulation A”. In recent years, less than 20 offerings a year were being conducted using this Regulation A. To try to jumpstart use of that exemption, Congress wrote legislation to legalize an enhanced Regulation A.

In the new rules, the SEC divides the new Regulation A into two tiers. Tier One is a basic rehash of the old unused exemption, which gives power to each individual state to approve or disapprove of an offering.

Tier Two is colloquially referred to as “Reg A+”. And it really provides a great opportunity for companies to begin raising money online. Reg A+ eliminates the various state securities agencies from reviewing the offering at all.

The highlights:

• A company can raise up to $50 million.
• The SEC has to approve the offering.
• The company, while raising money, has semi-annual reporting requirements.
• The company is required to have audited financial statements.
• Under certain circumstances, the company may exceed the 2,000 shareholder limitation without triggering public company reporting requirements.

• AND MOST IMPORTANTLY: these offerings are NOT limited to only accredited (rich) investors. Any non-accredited investor (basically 93% of the public) can invest, provided that they are not investing in excess of 10% of the greater of their net worth or annual income.

The last part is the game-changer. Already being referred to as the “Mini-IPO”, companies will now be able to connect with all their customers and have those customers become something special – owners.

Of course, the cost of compliance for a Reg A+ offering eliminates little start-ups and mom-and-pops. But for companies that were previously unable to raise money online (because of earlier limitations on general solicitation and the current prohibition on raising money for a private company from non-accredited investors online), this is going to open up major doors. Yes – the audit requirements and the fact that a lawyer will need to be involved makes the transaction cost prohibitive for a restaurant that wants to build a back patio, but for the restaurant that wants to expand by opening up five new locations? Reg A+ is perfect!

The dirty secret is that the SEC was also trying to eliminate the use of reverse-merger transactions to get a company public. In the recent past, the easiest way for a company to become publicly traded was to merge into a defunct public shell, avoiding the usual barriers to going public. The result is that a publicly traded Jiffy Lube chain that went out of business in North Carolina was all of a sudden a mining operation in Southern Arizona without much regulatory oversight. By bringing down compliance costs from a real IPO, the Reg A+ offering will give a company a path to becoming publicly traded without the need to resort to that common shenanigan.

These rules will become effective at the beginning of June. It will be interested to see if the SEC takes its responsibility to efficiently turn around these potential offerings seriously. If so, you can expect that this Fall will be full of excitement in the world of online investing. Smart consumer facing companies will take this opportunity to transform their customers into owners.

—————————————————————————————————

Jonathan Frutkin is CEO of Cricca Funding, LLC. He’s the author of “Equity Crowdfunding: Transforming Customers into Loyal Owners” which is available in paperback, Kindle and audio book formats.

An End to the Ban on General Solicitation

The rule of law has long been abandoned – especially when the rule is the Securities and Exchange Commission’s ban general solicitation for private placements. In English (and perhaps the problem is that seldom has there been even an attempt by the SEC and securities lawyers to put this in English), the ban means that a privately held company cannot ask people that don’t already have a “pre-existing business relationship” to invest in their company.

Now, of course, as a percentage of American businesses, the ones that are privately owned (rather than publicly traded) is quite close to 100%. And, frankly, the number of potential investors that these business owners have a pre-existing business relationship is also infinitesimally small. So is it any surprise that there is a complete dearth of investment in these businesses? Almost all of the capital used to grow businesses comes from banks and family members – with a large amount of that capital taking the form of Small Business Administration-backed loans.

However, a host of companies do in fact get investment through private placements with accredited investors – a geeky phrase meaning “raising money from rich people”. Now, of course, in my experience, clients seldom even realize that the ban on general solicitation is strict. They routinely ask friends and family to introduce them to third-parties that may want to invest. Interestingly, these same clients easily understand and internalize that investors must be accredited – put very basically, that the investors have income above $200,000 or assets worth more than $1,000,000.

So why ignore the rule about general solicitation? Because the ban makes no darn sense.

But both Congress and the SEC knew that there was an opportunity to fix a problem that had been created under the old regulatory scheme. The problem? Companies raising money were taking money from non-accredited investors. The “wink-wink” usually included a questionnaire where the investor attested (falsely sometimes) that they were accredited, insulating the company from any claim that the investment was improper.

So, the new rules are this:

1) Companies can “generally solicit” and attempt to raise money from anyone.

2) In exchange, the company really needs to investigate whether or not the investor is accredited. This means looking at tax returns or certifications from accountants and/or lawyers.

The new rule only applies to companies raising money from accredited investors, but it is a pre-cursor to the equity crowdfunded future where even non-accredited investors will be able to get into the action. Maybe now securities lawyers can provide accurate guidance that reflects the real world, where successfully raising money requires meeting new investors and marketing the opportunity to invest in a private company.

Sometimes it takes a few decades, but the law catches up to reality.

 

Jonathan Frutkin
Jonathan Frutkin is CEO of Cricca Funding, LLC. He’s written a new book called “Equity Crowdfunding: Transforming Customers into Loyal Owners” which was published in May, 2013.

Blog at WordPress.com.

Up ↑

%d bloggers like this: