On the 24th of May, 2018, the Economic Growth, Regulatory Relief, and Consumer Protection Act was signed into public law bringing with it financial reforms – some controversial, some commonplace. Among them are changes related to U.S. securities law that received sweeping support. These changes include updates that allow issuers to more easily use smaller national stock exchanges, allowing Exchange Act reporting companies to utilize Regulation A, increasing the Investment Company Act exemption threshold for venture capital funds, and increasing the annual limit for exempt issuances for employee stock plans.
Since 2015 Regulation A has had two tiers. Tier 1 allows issuers to raise up to $20 million every 12 months if certain qualifications are met, where qualifications are set on a state by state basis. Tier 2 allows raising up to $50 million every 12 months with financial statement and audit requirements from the SEC. Initially, the SEC amended Regulation A it tried to limit its use by reporting companies under the Exchange Act, taking the view that Regulation A should be for smaller, early-stage companies not yet required to report to the SEC.
Congress, however, saw it expand the offerings a reporting company could take by allowing for more capital raising activities under Regulation A. The changes that were recently signed into law means a few things for markets.
First, the changes will lower the cost of raising capital for smaller reporting companies not currently listed on an exchange by allowing them to make public offerings. With the expansion of Regulation A, smaller reporting companies not listed on national exchanges can more cheaply raise capital without taking on private loans that could have unfavorable terms. Prior to the expansion of Regulation A, raising follow on capital could be prohibitively expensive due to compliance costs and additional expenses associated with qualifying in each state they raised follow on capital with. Now, smaller reporting companies can take advantage of raising follow on capital with the lower cost Regulation A.
Second, private investment in public equity offerings may move to be under regulation A. These are commonly known as PIPE offerings and are used for their relatively quick turnaround for receiving capital from private investors. However, PIPE issuers are required to file a registration statement to allow the resale of securities purchased by PIPE investors. Because of the additional bureaucracy investors typically demand a lower price of the PIPE offerings relative to the public price of the securities. Regulation A now allows for the filing of a post-sale registration statement, meaning the securities would be freely tradeable immediately. So, the issuer is now able to set the price closer to the public price associated with its securities. Even though the $50 million cap every 12 months may limit some enterprises, the overall cost associated with Regulation A is likely to be lower than that associated with PIPE offerings.
These expansions to Regulation A could help the market mature into a more effective tool for small-cap companies seeking to raise public capital. OTC markets, possibly the biggest proponents to the expansion of Regulation A to companies that are publicly traded, have applauded the recent changes deeming them “a pivotal milestone for smaller companies.”
Because both accredited and non-accredited investors can participate in Regulation A offerings they can reach a larger pool of investors. The recent changes signed into law expand the number of companies that can make offerings under Reg A, and will be critical in expanding the role of technology in fueling capital accumulation for small companies.