Understanding Regulation A+: A Pathway to Growth for Nano-Cap Companies and Beyond Understand the Risks and Rewards

Summary Article based on Podcast Webinar previously recorded by Karen Rands Watch the webinar: https://bit.ly/CCS-REGA

Transcript of Recording: https://bit.ly/3X9sjzW?

Author:?

By Karen Rands, Kugarand Capital Holdings, LLC, Managing Partner? 8/20/24

Contributors:? Erik Nelson, Coral Capital Advisors, LLC &? Mountain Transfer, LLC, President

Stefan Speth, Usul Ventures, Partner ?

The JOBS Act revolutionized capital raising in the U.S., offering small and medium-sized businesses new avenues to access funding.? One of the most transformative but lesser-known tools to emerge from this legislation is Regulation A+ (Reg A+).?

Despite its potential, Reg A+ is still relatively underutilized, often misunderstood, and sometimes misapplied. For companies stuck in the middle of an angel portfolio growing organically because the sit at the edge of the Capital Abyss—too big with too much ‘value’ for angel investors, too slow-growing or the wrong industry for VCs,? too small with not enough revenue or EBITDA for private equity, and need more money to grow and scale than what the Bank will lend —Reg A+ could be the key to unlocking growth capital.

A key aspect of Reg A+ that makes a darling for ‘retail investors’ and institutional investment funds alike, is the requirement to file SEC caliber audited financials like a public company.? However, as “public” as Reg A+ is, data on the companies choosing this route is not readily available.? One crowdfunding data aggregator company tracking the Equity Crowdfunding Industry is KingsCrowd.? They shared that Reg A+ funding rounds that closed in 2023 aggregated to approximately $274M from 61 offerings (companies) with a total of over 88,000 investors.? They accounted for another 39 funding rounds under Reg A+ but were not authorized to disclose the funding amounts.?

The Basics of Reg A+: What It Is and Who It’s For

Reg A+ is a form of Direct Public Offering (DPO) that allows businesses to raise up to $75 million from both accredited and unaccredited investors without needing to navigate the complex and costly process of going public. While Reg A itself has been around for some time.? With the JOBS Act of 2012, they split into Type I and II, with Type II referred to as REG A +.? The “+”? version exempts companies from state-level Blue Sky laws, which dramatically reduces the regulatory burden.? Companies seeking to use the REG A+ method for raising capital and potentially completing their filing to be publicly traded on NASDAQ, must first file SEC level audited financials.???

This path for raising capital is not for any business. Startups with a limited track record should avoid Reg A+ for two reasons:?

1. Costs. Beyond the marketing costs for paid and organic engagement of potential investors, there are higher accounting and legal costs than associated with any other form of private capital raise.?
2. Time: The SEC can take up to 6 months to approve the filings.? For established companies with profit and strong cash flow that are raising capital to scale, the ‘testing the water’ phase is used to begin to create investor awareness and ‘reservations’ in the offering before legally authorized to receive the capital.??

However, for companies with steady growth that have already raised some capital, established their customer base and steady cash flow, Reg A+ offers a way to bring in funding when other sources have dried up.

Consumer product companies, in particular, can benefit greatly from Reg A+ because it allows them to engage directly with their customer base and community. Imagine a local coffee chain or innovative gadget maker—if they need capital to expand or develop new products, they can turn to their loyal customers who already believe in their brand. ? To be effective at a REG A+ capital raise, as with any Direct Public Offering like even REG CF, you must be able to target the decision maker, just like you would a customer. ? The issuer must be able to be clear in their value proposition. ? That is hard if the decision to buy a product is made by a committee.??

Regulation A+ dramatically improves the funding and liquidity prospects for companies that want a more practical and cost-effective way to raise capital that can also align with their strategy to grow revenue. ? When I work with companies considering this approach, we look at how they generate market awareness and sales now and see how we can leverage that and improve it to turn customers into investors and grow their revenue while raising capital so that they increase their profit and value. ? This sets the stage to have a better outcome when they do complete their filings to become publicly traded on the NASDAQ, retain control of their company, and have market awareness to continue the value proposition for stock traders. It has completely changed the capital raising landscape; Reg A+ also offers other attractive listing options after the offering completes.?

Reg A+ is also called a Public Offering because, during and after the offering, the Regulation A+ shares are considered liquid by the SEC. There is no lockup period unless you impose a lockup for your company. It is not a requirement, but Reg A+ can be used to take a company public and list on the NASDAQ or the NYSE.? Similarly, there is no SEC requirement for investor funds to be held in escrow or a minimum amount of capital to be raised before the issuer can ‘cash the check’ as there is with Regulation Crowdfunding (REG CF).? Although it is a practice that I recommend to private companies so that they create? piece-of-mind for their early investors that what the company raises can get to the next operational or performance milestone with the funds raised, as they continue to raise their full amount.?

The Mini-IPO

Reg A+ is often referred to as a “Mini-IPO” or “Nano Cap IPO” or as being a ‘back door into NASDAQ.? This is due to the relative size of the companies going through the process compared to traditional IPOs and because the process is much less complicated than traditional IPOs. A Reg A+ IPO is much more cost-effective than a traditional S-1 IPO and takes far less time to process by the SEC.? When all the filings are complete and the gates have been passed through, the company will be listed on NASDAQ.? They also can remain private, continuing to raise capital, while also providing liquidity for their existing shareholders in the alternative markets. ? Some companies will use it to go through multiple rounds as they continue to grow their value before completing their filings.? Transparency with their current investors is key so that they can decide to hold and trade their shares on a primary exchange rather than a secondary exchange.? Some companies that have been successful in raising capital under Reg A+ will attract acquirers as they do all the marketing outreach and brand awareness necessary to raise capital, and choose that vs completing the steps to be a fully reporting public company.?

Although working with a licensed Broker Dealer is not a requirement, it is a recommended addition to the team and process for certain companies to avoid mistakes or misfilings that could be costly to the company to fix later on. ? Doing it right the first time is worth pounds when you are trying to save pennies. ? Companies raising capital under REG A+ exemption must work with a Transfer Agent to handle the paperwork and communications with investors. ? We work with Erik Nelson at Mountain Share Transfer, LLC, a SEC Licensed Transfer Agent, that is also part of my strategic alliance with Coral Capital Advisors, LLC.?

Other listing options include the OTCQB, OTCQX, and one of the many new ATS (Alternative Trading Systems).? The emerging ATS option is good for investors wanting to get liquidity from their private shares, but if done outside of an intentional effort to grow the value of the company through raising growth capital like with Reg A+ it can have a similar impact on the value of shares as reverse mergers do when there is no actual demand for the shares other than to ‘dump’ them. ? Shareholder communication and engagement, and transparency is key with any strategy to raise capital.?

Challenges and Pitfalls: The Good, the Bad, and the Ugly

While Reg A+ is a powerful tool, it is not without its challenges.? When this original podcast was recorded, the SEC had recently cracked down on companies misusing this vehicle. Fraudulent activities, such as overstating company achievements or omitting key information, can lead to severe consequences, including legal action, bankruptcy, and loss of investor trust.? In 2023, the SEC filed another 10 companies with fraud based on their filings.?

Transparency and compliance are critical. When filing with the SEC under Reg A+, the companies must maintain auditable financials. However, the SEC does not vouch for the viability of the companies, leaving investors to do their own due diligence.? This is when it becomes critical for companies to have a ‘deal room’ with all their due diligence materials available for the potential investors.? With my alliance with Coral Capital Partners, we have a team that understands the filing requirements, how retail investors consider their investment so that our clients can pass the Know, Trust, Buy gateway, in a similar way a publicly trading company would for a first time stock investor.?

At its core, Reg A+ allows businesses to bypass traditional gatekeepers like VCs or PE firms, but it requires companies to be diligent and truthful. Misrepresentation, even small inaccuracies—like claiming a patent that is only “patent pending”—can lead to accusations of fraud.? At the time of the original recording, there had been a wave of criminal cases filed by the SEC for companies and their executives committing fraudulent activities (SEE LINK AT END).???

Why Reg A+ Matters

Reg A+ offers a viable solution for those companies caught between a rock and a hard place. For many businesses, especially those that have tapped out angel funding and can’t secure traditional financing, Reg A+ serves as a lifeline. It provides an opportunity to raise the capital needed for growth while maintaining control and avoiding the pitfalls of venture capital that may push a company into unicorn status but without the fundamentals to maintain the value when they go public with traditional stock market IPOs.???

When the idea of Equity Crowdfunding was first being tossed around Washington as a way to ‘jump start’ the US economy, there were 3 drivers:?

1. Give startup entrepreneurs access to other capital than the traditional Angel/VC pathway, and small businesses growth capital not available from banks.?
2. Give Americans a way to recover the wealth they had lost from the collapse of the stock market and real estate market by allowing them to? participate in the upside potential of private companies that grow profitably to exit with their money.?
3. Boost IPO market, and therefore the stock market as US competitive advantage against other markets, particularly China.?

Because REG A+ allows for accredited and unaccredited investors, it offers a broader audience for raising capital, and access to opportunities to invest in similar to ‘penny stocks’ for retail investors.? Key difference between investing inReg A+ vs buying retail stock on the stock market, is that the companies raising capital under REG A+ use that money to grow their business and bring new products to market or expand into new industries or through acquisition. ? When a retail investor buys a penny stock with the expectation it may double just because it is cheap to start with, there is no value to the company other than an increased stock value. ? Investor impact comes from investing directly into the company.???

The SEC saw the problems with OTCBB companies and those that try to go public with reverse mergers only to have their stock value stagnate or drop through the stock dumps the market tends to do on those companies - very hard to raise capital from PIPEs - Private Investment into Public Entities companies. ? They modified the regulations to authorize public companies, such as these, to use REG A+ to raise capital.? It is complicated and takes experts to make sure you fill paperwork properly, but it is a needed option for so many companies languishing and not raising capital and growing like they want to.?

The Appeal for Investors

Investors, especially those involved with angel groups, should view Reg A+ as an opportunity to breathe new life into their portfolio companies. Imagine you’re holding equity in a company that’s been treading water—doing okay, but not the rapid scale or exit you were hoping for. A well-executed Reg A+ offering could give that company the boost it needs to break out, scale up, or even become an attractive acquisition target.

A key feature of Reg A+ offerings is that they provide liquidity to early investors. These shares can be traded on secondary exchanges, which is a huge advantage compared to the traditionally illiquid nature of private investments. Angel investors who have been sitting on their investments for years can finally get an opportunity to exit.

The Path Forward

Success with Reg A+ depends on having the right team in place—accountants, legal advisors, marketing experts, and investor relations professionals. Companies must be prepared to provide transparency and ongoing communication to their investors. Cutting corners won’t work.

For investors, Reg A+ provides an opportunity to invest in businesses they believe in, but it also requires vigilance. Companies must have a solid plan for growth and a clear vision for how they will use the funds they raise.?

In the end, Reg A+ is not a magic bullet—it’s a structured path to growth that, when done right, can help companies scale and achieve their next big milestone.

So, for those nano-cap companies or angel-backed businesses that find themselves too big for angels (outside their valuation ceiling), too slow growth or wrong industry for VCs, too small for PE (Private Equity) firms (not enough revenue or EBITDA), and simply need more money than a bank is willing to lend in order to do any of the traditional growth strategies they may be considering:?

• Launch a new product that requires new tooling and/or a new sales model.
• Bring manufacturing back into the US from offshore to reduce production times, increase profit, and improve satisfaction but need to build and fund the transition.?
• Acquire another company that is in a different sector or has a complimentary offering that would expand their marketplace.?

?Reg A+ might just be the solution for access to capital they've been searching for to do that next big move to scale.?

In Conclusion

I have been a fan of REG A+ ever since it was first announced and transformed by the JOBS Act of 2012.? I recognized the opportunity for so many valuable and worthy companies to get access to capital that simply wasn’t available from traditional sources.? There is a real ‘capital abyss’ for small business owners that raised a friends and family round, or a seed round from an angel group, thinking that is all the money they need or didn’t raise enough at the time, and find themselves plateaued.? They are profitable and their revenues are growing, but not enough to pay for the things they want and need to grow and scale so they can ‘exit rich’. ? Reg A+ is a great solution to grow the brand, grow revenue, and get the capital needed to jump the business lifecycle to an emerging growth company and poised for a strong acquisition.?

To learn more about the services offered through the alliance with Coral Capital Advisors to help small business owners understand and evaluate their options for raising growth capital, please visit: https://bit.ly/coralcap ? A calendar link is available on that page to schedule a free consultation or discussion call.?

Reference Articles:?

KORECONX article on the 8 companies caught in fraudulent scheme on REG A+

https://www.koreconx.com/sec-charges-eight-in-scheme-to-fraudulently-promote-securities-offerings/

SEC news

https://www.sec.gov/litigation/litreleases/2022/lr25541.htm

Basic Primer on REG A+ provided by Manhattan Street Capital

https://www.manhattanstreetcapital.com/blog/kosb95-17756/what-regulation-a-how-do-a-reg-a-offering

SEC Enforcement Results for FY23 https://www.sec.gov/newsroom/enforcement-results-fy23#:~:text=The%20SEC%20charged%20ten%20microcap%20companies%20with%20offering,that%20allegedly%20did%20not%20comply%20with%20Regulation%20A.

CHANGES IN REG A+ POLICY AND REGULATION SINCE THIS INITIAL RECORDING:

Changes in policy and regulation since Oct 2022

?Since October 2022, there have been a few key regulatory changes and ongoing rulemaking activities by the SEC that impact Regulation A+ offerings and the broader securities landscape. These changes are part of a larger effort to modernize disclosure requirements, improve transparency, and enhance investor protections across various sectors.

?1. Regulation A+ Oversight & Crowdfunding Updates: There have been proposed rules aimed at improving transparency and investor access to Regulation A+ offerings, especially focusing on disclosure updates and ensuring that smaller investors are adequately protected. The SEC continues to emphasize improved disclosure standards in relation to crowdfunding and Regulation A+ issuers

[SOURCE: https://www.bassberrysecuritieslawexchange.com/wp-content/uploads/sites/201/2022/03/regulation-a-faq.pdf】

[SOURCE: https://cooleypubco.com/2023/01/09/packed-sec-fall-2022-agenda/ ]

?2. Climate-Related and Human Capital Disclosures: Although not specific to Reg A+, the SEC has intensified its focus on ESG (Environmental, Social, Governance) matters, proposing rules that require issuers, including those involved in Reg A+ offerings, to disclose more information about their environmental and human capital policies. This is particularly relevant for companies raising capital under Reg A+ as it may affect their reporting obligations.

[SOURCE:https://securities-law-blog.com/2023/01/31/the-secs-fall-2022-regulatory-agenda/]

3. Beneficial Ownership Reporting: The SEC has also proposed amendments to modernize beneficial ownership reporting under Reg A+ and other securities offerings. These amendments aim to accelerate filing deadlines and expand the definition of beneficial ownership to cover certain derivatives, which could impact Reg A+ issuers and their reporting.

[SOURCE: https://www.sec.gov/rules-regulations/rulemaking-activity ]

?These updates reflect the SEC's ongoing efforts to adapt regulations to modern market realities while enhancing investor protection.