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Testing the Waters and Filing a Regulation A+ Offering with the SEC

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Major regulatory changes are coming to the startup and alternative investing worlds. Starting on June 19, private companies will have a new way to raise money from both accredited and non-accredited investors.

The SEC has approved modifications to Regulation A that are about to transform it from an obscure backwater of securities law into an attractive way for private companies to gauge their appeal in the marketplace, and raise up to $50 million in growth capital. In fact, the new Regulation A+ specifically provides a stage in the process in which companies can ‘Test the Waters’ to see how investors might respond to a fundraising offering, before pulling together a formal offering circular.

In this article, I’m providing a deeper dive into ‘Testing the Waters,’ the second of five basic stages to a Reg A+ offering that I addressed in an earlier article. I will also address in more detail the third stage in this piece, namely ‘Filing with the SEC.’

Stage 2. Testing the Waters

Rule 255 of the new Reg A+, "Solicitations of interest and other communications," specifically allows companies to promote a potential offering and see how much interest they receive, starting even before they submit materials to the SEC. This is called ‘Testing the Waters’ and this stage lasts until your offering has been “qualified” for fundraising by the SEC.

Compared to conducting the actual offering, the ‘Testing the Waters’ stage is relatively informal. Issuers can use public channels like social media or email to let investors know they’re considering offering securities – and they can enter this stage as soon as the new regulations take effect on June 19, 2015.

There are several important nuances to keep in mind, though.

During the ‘Testing the Waters’ stage, all your communications are subject to anti-fraud law, so they can’t be misleading in any way. You can’t, for example, say you’re doing an offering because you’ve been wildly profitable, unless you in fact are. Simple and to the point will be the best approach, for instance: “We might do an offering soon, anyone interested?”

Also, make sure to include a link to a website with a bit of fine print. And as soon as you file your paperwork with the SEC, you need to provide explicit reference to that filing.

You can start ‘Testing the Waters’ even before having filed anything with the SEC or state regulator. Yet, if you do an extensive ‘Testing the Waters’ campaign prior to filing, you can only proceed with a Tier 2 listing (more on this further down).

While you’re ‘Testing the Waters,’ investors need to know you’re not accepting money at this time. More specifically, you can’t accept any orders to buy securities until your offer has been “qualified” by the SEC. In addition, if investors express interest during the ‘Testing the Waters’ stage, this doesn’t commit them to actually buying your securities, and you need to tell them that.

That last point is important for companies to recognize, as well. A tweet or a Facebook “like” is far from being a commitment to actually buy stock in the future, both legally and practically. Companies considering a Reg A+ offering may want to ask a little more of investors. For instance, ‘Testing the Waters’ could include conducting a Kickstarter-style campaign, looking for backers who will pre-buy a product or otherwise commit money. Naturally, you’ll have to ensure it’s completely clear that such “reward backers” are not investors. And, once the SEC filing for your Reg A+ has been “qualified,” any communication you send backers about your offering should come from a FINRA registered broker-dealer that’s approved to sell securities, like Venovate Marketplace.

Stage 3. Filing with the SEC

At some point in considering a Reg A+ fundraise you need to make an important decision on the type of offering you want to pursue: Tier 1 or Tier 2. As stated above, you can start ‘Testing the Waters’ even before having filed anything with the SEC or state regulators. But from a practical point of view you will most likely be limited to a Tier 2 offering, because of the state rules that relate to offers of securities that apply to Tier 1 (see below).

Here are some of the key differences between Tier 1 and 2:

In a Tier 1 offering, you’ll be able to raise up to $20 million in capital. Your offering will be subject to SEC and state review in every state in which you’re selling securities (the so-called ‘blue sky laws’).

With Tier 2, issuers can raise more money – up to $50 million – and your offering will not be subject to state review. However, the reporting requirements are much more stringent for Tier 2. You’ll have to submit audited financials, and after your offering is complete, you’ll have ongoing reports to file.

Tier 1 is likely best for smaller companies that are recruiting investors locally, in only one or two states. Tier 2 is better suited for bigger companies that can afford the expense of an audit. But whichever type of offering you choose, your next step will be to file your offering circular with the SEC, through their online system, EDGAR. It can be filed privately first, but it has to be made public no fewer than 21 days after the SEC has qualified it. Also, as mentioned earlier, you need to provide explicit reference to this filing if you are still ‘Testing the Waters.’

The filing for a Reg A+ offering is made on Form 1-A. It includes some basic information about the offering and the issuer, a narrative statement about the business and how the proceeds from the offering will be used, and any necessary exhibits, which will include contracts that are important to the company’s business. All offerings must also include financial statements from the past two years (or since inception, if the company is fewer than two years old) and for a Tier 2 offering, your financials must be audited. You’ll also need to file all solicitation materials you’ve used during the ‘Testing the Waters’ stage, as well as any future materials.

Logically, you want to work with a securities lawyer throughout the stages of ‘Testing the Waters’ and ‘Filing with the SEC.’ I hope this series of articles helps you get a better sense of how this exciting new type of private offering will work. In my next piece, I’ll explain the remaining two stages: ‘Conducting the Offering’ and ‘Filing Ongoing Reports.’