Regulation A+ Question and Answer

The implementation of Regulation A+ on June 19, 2015, has not only generated a lot of excitement but a lot of questions on the part of investors and companies. The SEC addressed some of these questions in a recent release.For the guidance provided by the SEC, see the Excerpt from the June 23, 2015 C&DIs included on our website.  We have also included a copy of the June 18, 2015, SEC release entitled “Amendments to Regulation A: A Small Entity Compliance Guide.” We have spoken at length with companies considering going public through Regulation A+.  Regulation A+ is being referred to by many people in the industry as a “mini-IPO” because it achieves a similar result for companies for far less money.

Below is a summary of the Regulation A+ questions we have researched for clients and the answers attained.  It should be noted that the answers to this article focus on Tear 2 of Regulation A+ as that is what our clients have shown the most interest in.  If you have a questionsabout Regulation A+ that are not addressed in this article please submit your questions to jamie@vancelaw.us and we will provide you with an answer.

Question: What type of company is a good candidate for Regulation A+?

Answer: Regulation A+ is not a one-size-fits-all solution to raising money.  It is not available to issuers subject to bad actor disqualification under Rule 262, companies subject to the Investment Company Act of 1940, or to companies subject to ongoing reporting requirements under Section 13 or 15(d) of the Exchange Act. You still have to have funding sources. It is, on the other hand available for voluntary filers and subsidiaries of a reporting company.  Because of the cost to complete a Regulation A+ offering, the best candidates are mid-level companies that have seen success, have current income, and are looking to expand or create a market. A startup company may get the funding it needs through a private offering under Rule 506 or (eventually) Crowdfunding at a fraction of the cost of a Regulation A+ offering.

Question: If we start a Regulation D 506(c) money raise first, can we also offer a Regulation A+ immediately after closing the 506(c)?

Answer: Rule 251(c)(1) of Regulation A+ specifically states that any prior offerings of securities would not be integrated into a subsequent Regulation A+ offering.  Thus, you could conduct a Regulation A+ offering immediately following a 506(c) offering.

Question: Is a Canadian issuer required to use GAAP accounting or can it use IFRS?

Answer: Canadian issuers may prepare financial statements in accordance with either U.S. GAAP or IFRS.

Question: How long will it take to complete the information statement?

Answer: The SEC estimates that the burden hours associated with amended Form 1-A will be greater than the current estimated 608 burden hours per response but will not be as great as the current estimated 972.32 burden hours per response for Form S-1.  Depending upon which format is used for the offering circular (the offering circular format provided in Form 1-A or the information required by Part I of Form S-1), the costs associated with preparing the information statement and having it qualified should still be substantially less than filing a registration statement on Form S-1.  Regulation A+ filings will be handled by the staff of the SEC similar to S-1 registration statements, with a first comment letter in four weeks.  Depending on the number of comment letters from the SEC, the total review time would generally be two months.

Question: What is required in terms of ongoing reporting requirements?

Answer: Typically an issuer in the U.S. is required to make quarterly reports (10-Qs) that contain unaudited financial statements and an annual report (10-K) that with year-end financial statements audited by a PCAOB audit firm.  Reporting issuers are also typically required to make filings for any 8-K reportable current event. Companies qualifying their shares under Regulation A+ are only required to make a semi-annual report (Form 1-SA) with unaudited financial statements and an annual report (Form 1-K) with year-end financial statements audited by a non-PCAOB firm. You are still required to make filings for any interim reportable event (which in this case are called Form 1-U). We have attached a list of these 8-K reportable events for your reference as it will likely be similar to 1-U events.

Question: Would a company still have to apply to FINRA to commence a market for the company’s stock?

Answer: This would depend on the current status of the company. If the company is a reporting issuer in Canada, for example, and already meets the requirements of 15c2-11, it would not be required to do anything.If the company does not have a trading market in the US, it would need to make application with FINRA through a brokerage firm.

Question: Are shares sold in a Regulation A+ offering free trading?

Answer: Yes, pursuant to Regulation A+, the shares issued in a Regulation A+ offering are free trading.  However, reporting under Regulation A+ would not in and of itself satisfy Rule 144 for control shares or restricted securities.  We spoke withrepresentatives of OTC Markets and there are options for compliance to make the additional filings which would provide compliance with Rule 144 using the OTC Markets platform.

Question: Clients have mentioned that it is costly to deposit certificates into brokerage accounts and have wondered whether a broker would require a legal opinion as to the free tradability of shares sold in Regulation A+ offerings.

Answer: We spoke to alocal broker who said that he would not require an opinion for shares qualified in a Regulation A+ offering (although the transfer agent would). He also said that the cost to deposit shares whether paperless or not is around $500 per shareholder. He said that there is no way around this cost.

Question: Is there a minimum amount that you need to raise?

Answer: No.

Question: Is there a minimum offering price that must be met?

Answer: No. But you must offer the shares at a price of $.01 per share to qualify for or remain on OTCQB.

Question: How does testing the waters work?

Answer: When an issuer discusses an offering with potential investors before it is filed it is considered “gun jumping” which could substantially delay the offering. Testing the waters allows an issuer to contact potential investors either prior to or after filing the Form 1-A (without it resulting in gun jumping), to see whether they would be interested in the offering. The issuer is not allowed to accept funds at this stage. The intent of allowing the Company to test the waters is to gauge the level of interest from the market without incurring costs for preparing and filing offering documents. This can be done online or in person.

Question: Would warrant shares included in the Regulation A+ be free trading once the warrants are exercised?

Answer: Yes, so long as the shares issuable upon exercise of the warrants are included in the Form 1-A filing, they would be free trading.

Question: Can a company offer shares of selling security holders as part of the Regulation A+ offering?

Answer: Yes. But the portion of the aggregate offering price attributable to the securities of selling security holders cannot exceed 30% of the aggregate offering price of the Regulation A+ offering.

Question: Is there a limit to how much investors can invest?

Answer:If an investor is unaccredited the investor can invest no more than: (a) 10% of the greater of annual income or net worth (for natural persons); or (b) 10% of the greater of annual revenue or net assets at fiscal year-end (for non-natural persons).

Question: What are the costs associated with doing a Regulation A+ offering?

Answer: Below is a list of fees for doing a Regulation A+ offering.  The amounts are estimates only.

Service

Cost

Explanation

Professional Costs

 

 

Initial Legal Fees

TBD

Depending upon the complexity of the disclosure document and the number of comments received from the SEC.

Ongoing Legal Fees

TBD

The disclosure requirements are less than those required for a standard reporting company. 

Accounting Fees

TBD

 

Broker Fees

Anywhere from 5-15% of the offering proceeds.

There is only a cost here if a broker is engaged. It is not required.

Market Quotation Costs

 

 

OTC-QB application fee

$2,500

 

OTC-QB annual fee

$10,000

 

Other Costs

 

 

DTC Eligibility

$12,000

This cost may or may not be required depending on the company.

Cost to deposit shares with a US Broker

$500 per shareholder

 

Set up new transfer agent

$750

 

Changes/replacement of certificate

$25-$45 per certificate

 

Shipping/delivery charge for certificates

$25-$100   

 

Initial printing of certificate (may be
more or less depending on DWAC eligibility)

$475 plus or minus

 

Filing Fee for Form 1A Offering

$150-$200

 

Edgarizing Costs

$10/page for HTML docs converted from Word/Excel

 

EXCERPT FROM June 23, 2015Compliance and Disclosure Interpretations (“C&DIs”) (which comprise the Division’s interpretations of the rules adopted under the Securities Act.)

QUESTIONS AND ANSWERS OF GENERAL APPLICABILITY

Section 182. Rules 251 to 263

Question 182.01

Question: Where an issuer elects to non-publicly submit a draft offering statement for staff review pursuant to Rule 252(d) of Regulation A before publicly filing its Form 1-A, Item 15 (Additional Exhibits) of Part III (Exhibits) to Form 1-A requires issuers to file as an exhibit to the publicly-filed offering statement: (1) any non-public, draft offering statement previously submitted pursuant to Rule 252(d), and (2) any related, non-public correspondence submitted by or on behalf of the issuers. Would an issuer that elects to make the non-public, draft offering statements public on the EDGARLink submissions page of EDGAR (see Chapter 7 (Preparing and Transmitting EDGARLink Online Submissions) of Volume II of the EDGAR Filer Manual, available at:http://www.sec.gov/info/edgar/edmanuals.htm) at the time it publicly files its Form 1-A also be required to refile such material as an exhibit pursuant to Item 15 of Part III?

Answer: No. If, at the time it first files the offering statement publicly, the issuer makes public on the EDGARLink submissions page all prior non-public, draft offering statements, the offering statements will no longer be non-public and the issuer will not be required to file them as exhibits. The issuer is still required to file as an exhibit any related, non-public correspondence submitted by or on behalf of the issuer regarding non-public draft offering statements submitted pursuant to Rule 252(d). [June 23, 2015]

Question 182.02

Question: If an issuer elects to submit a draft offering statement for non-public staff review before public filing pursuant to Rule 252(d), and, as part of that process, submits correspondence relating to its offering statement, what must it do if it wants to protect portions of that correspondence from public release?

Answer: During the review of the draft offering statement, the issuer would request confidential treatment of any information in the related correspondence pursuant to Rule 83, in the same manner it would during a typical review of a registered offering. It would submit a redacted copy of the correspondence via EDGAR, with the appropriate legend indicating that it was being submitted pursuant to a confidential treatment request under Rule 83. At the same time, it would submit an unredacted paper version to the SEC, in the manner required by that rule. When the issuer makes its public filing of the offering statement, it will be required to file as an exhibit to the electronically filed offering statement any previously submitted non-public correspondence related to the non-public review. Since that correspondence will be information required to be filed with the SEC, the issuer must redact the confidential information from the filed exhibit, include the required legends and redaction markings, and submit in paper format to the SEC’s Office of the Secretary an application for confidential treatment of the redacted information under Rule 406. The staff will consider and act on that application in the same manner it would with any other application under Rule 406 for other types of filed exhibits. As with registered offerings, the review staff will act on Rule 406 confidential treatment applications before the offering statement is qualified. For the requirements a registrant must satisfy when requesting confidential treatment, see Division of Corporation Finance Staff Legal Bulletin No. 1 (with Addendum). [June 23, 2015]

Question 182.03

Question: Would a company with headquarters that are located within the United States or Canada, but whose business primarily involves managing operations that are located outside those countries be considered to have its “principal place of business” within the United States or Canada for purposes of determining issuer eligibility under Regulation A?

Answer: Yes, an issuer will be considered to have its “principal place of business” in the United States or Canada for purposes of determining issuer eligibility under Rule 251(b) of Regulation A if its officers, partners, or managers primarily direct, control and coordinate the issuer’s activities from the United States or Canada. [June 23, 2015]

Question 182.04

Question: Is a company that was previously required to file reports with the Commission under Section 15(d) of the Exchange Act, but that has since suspended its Exchange Act reporting obligation, an eligible issuer under Rule 251(b)(2) of Regulation A?

Answer: Yes. A company that has suspended its Exchange Act reporting obligation by satisfying the statutory provisions for suspension in Section 15(d) of the Exchange Act or the requirements of Exchange Act Rule 12h-3 is not considered to be subject to Section 13 or 15(d) of the Exchange Act for purposes of Rule 251(b)(2) of Regulation A. [June 23, 2015]

Question 182.05

Question: Is a voluntary filer under the Exchange Act an eligible issuer for purposes of Rule 251(b)(2) of Regulation A?
Answer: Yes. A voluntary filer is not subject to Exchange Act Section 13 or 15(d) because it is not obligated to file Exchange Act reports pursuant to either of those provisions. [June 23, 2015]

Question 182.06

Question: Is a private wholly-owned subsidiary of an Exchange Act reporting company parent eligible to sell securities pursuant to Regulation A?

Answer: Yes, although the Exchange Act reporting company parent could not be a guarantor or co-issuer of the securities of the private wholly-owned subsidiary. [June 23, 2015]

Question 182.07

Question: Can Regulation A be relied upon by an issuer for business combination transactions, such as a merger or acquisition?

Answer: Yes. The final rules do not limit the availability of Regulation A for business combination transactions, but, as the Commission (SEC Rel. No. 33-9497) indicated, Regulation A would not be available for business acquisition shelf transactions, which are typically conducted on a delayed basis. [June 23, 2015]

Question 182.08

Question: May a recently created entity choose to provide a balance sheet as of its inception date?

Answer: Yes, as long as the inception date is within nine months before the date of filing or qualification and the date of filing or qualification is not more than three months after the entity reached its first annual balance sheet date. The date of the most recent balance sheet determines which fiscal years, or period since existence for recently created entities, the statements of comprehensive income, cash flows and changes in stockholders’ equity must cover. When the balance sheet is dated as of inception the statements of comprehensive income, cash flows and changes in stockholders’ equity will not be applicable. [June 23, 2015]

Question 182.09

Question: Can an issuer solicit interest (or “test the waters”) in a Regulation A offering on a platform that limits the number of characters or amount of text that can be included, thereby preventing the inclusion in such communication of the information required by Rule 255?

Answer: Yes. The staff will not object to the use of an active hyperlink to satisfy the requirements of Rule 255 in the following limited circumstances:

  • The electronic communication is distributed through a platform that has technological limitations on the number of characters or amount of text that may be included in the communication;
  • Including the required statements in their entirety, together with the other information, would cause the communication to exceed the limit on the number of characters or amount of text; and
  • The communication contains an active hyperlink to the required statements that otherwise satisfy Rule 255 and, where possible, prominently conveys, through introductory language or otherwise, that important or required information is provided through the hyperlink.

Where an electronic communication is capable of including the entirety of the required statements, along with the other information, without exceeding the applicable limit on number of characters or amount of text, the use of a hyperlink to the required statements would be inappropriate. [June 23, 2015]

Question 182.10

Question: Are state securities law registration and qualification requirements preempted with respect to resales of securities purchased in a Tier 2 offering?

Answer: No. State securities law registration and qualification requirements are only preempted with respect to primary offerings of securities by the issuer or secondary offerings by selling securityholders that are qualified pursuant to Regulation A and offered or sold to qualified purchasers pursuant to a Tier 2 offering. Resales of securities purchased in a Tier 2 offering must be registered, or offered or sold pursuant to an exemption from registration, with state securities regulators. [June 23, 2015]

Question 182.11

Question: When is an issuer required to engage the services of a registered transfer agent before being able to avail itself of the conditional exemption from mandatory registration under Section 12(g) of the Exchange Act described in Exchange Act Rule 12g5-1(a)(7)?

Answer: An issuer that seeks to rely on the conditional exemption from mandatory registration under Section 12(g) of the Exchange Act must at the time of reliance on the conditional exemption satisfy the requirements of Rule 12g5-1(a)(7). [June 23, 2015]

Sections 183 to 197. Rules 264 to 400 [Reserved]

Amendments to Regulation A: A Small Entity Compliance Guide

June 18, 2015

Table of Contents
This compliance guide is divided into the following parts:

1. Summary of Regulation A
On March 25, 2015, the Securities and Exchange Commission (the “Commission”) adopted final rules to implement Section 401 of the Jumpstart Our Business Startups (JOBS) Act by expanding Regulation A into two tiers: Tier 1, for securities offerings of up to $20 million in a 12-month period; and Tier 2, for securities offerings of up to $50 million in a 12-month period. An issuer of $20 million or less of securities can elect to proceed under either Tier 1 or Tier 2. The final rules for offerings under Tier 1 and Tier 2 build on current Regulation A and preserve, with some modifications, existing provisions regarding issuer eligibility, offering circular contents, testing the waters, and “bad actor” disqualification. The final rules modernize the Regulation A filing process for all offerings, align practice in certain areas with prevailing practice for registered offerings, create additional flexibility for issuers in the offering process, and establish an ongoing reporting regime for certain Regulation A issuers.

Under the final rules, Tier 2 issuers are required to include audited financial statements in their offering documents and to file annual, semiannual, and current reports with the Commission on an ongoing basis. With the exception of securities that will be listed on a national securities exchange upon qualification, purchasers in Tier 2 offerings must either be accredited investors, as that term is defined in Rule 501(a) of Regulation D, or be subject to certain limitations on their investment. The requirements for Tier 1 and Tier 2 offerings are described more fully below.

2. Scope of Exemption
Understanding the scope of the exemption is important because not all issuers are eligible to conduct offerings pursuant to Regulation A. Additionally, there are limitations on the types of securities that may be sold and on the amount of securities that may be sold by the issuer and selling securityholders, as well as other issues that may affect the issuer’s offering process pursuant to the exemption.

a. Eligible Issuers and Securities
Regulation A is available only to companies organized in and with their principal place of business in the United States or Canada. It is not available to:

  • companies subject to the ongoing reporting requirements of Section 13 or 15(d) of the Exchange Act;
  • companies registered or required to be registered under the Investment Company Act of 1940 and BDCs;
  • development stage companies that have no specific business plan or purpose or have indicated that their business plan is to engage in a merger or acquisition with an unidentified company or companies (often referred to as, “blank check companies”);
  • issuers of fractional undivided interests in oil or gas rights, or similar interests in other mineral rights;
  • issuers that are required to, but that have not, filed with the Commission the ongoing reports required by the rules under Regulation A during the two years immediately preceding the filing of a new offering statement (or for such shorter period that the issuer was required to file such reports);
  • issuers that are or have been subject to an order by the Commission denying, suspending, or revoking the registration of a class of securities pursuant to Section 12(j) of the Exchange Act that was entered within five years before the filing of the offering statement; and
  • issuers subject to “bad actor” disqualification under Rule 262.
    The final rules limit the types of securities eligible for sale under Regulation A to the specifically enumerated list in Section 3(b)(3) of the Securities Act, which includes warrants and convertible equity and debt securities, among other equity and debt securities. The final rules exclude asset-backed securities from the list of eligible securities.

<b. Offering Limitations and Secondary Sales
Issuers may elect to conduct a Regulation A offering pursuant to the requirements of either Tier 1 or Tier 2. Tier 1 is available for offerings of up to $20 million in a 12-month period, including no more than $6 million on behalf of selling securityholders that are affiliates of the issuer. Tier 2 is available for offerings of up to $50 million in a 12-month period, including no more than $15 million on behalf of selling securityholders that are affiliates of the issuer. Additionally, sales by all selling securityholders in a Regulation A offering are limited to no more than 30% of the aggregate offering price in an issuer’s first Regulation A offering and any subsequent Regulation A offerings in the following 12-month period.

c. Investment Limitations in Tier 2 Offerings
Issuers that conduct a Tier 2 offering should note that Regulation A limits the amount of securities that an investor who is not an accredited investor under Rule 501(a) of Regulation D can purchase in a Tier 2 offering to no more than: (a) 10% of the greater of annual income or net worth (for natural persons); or (b) 10% of the greater of annual revenue or net assets at fiscal year end (for non-natural persons). This limit does not, however, apply to purchases of securities that will be listed on a national securities exchange upon qualification.

d. Integration
The integration doctrine provides an analytical framework for determining whether multiple securities transactions should be considered part of the same offering. This analysis helps to determine whether registration under Section 5 of the Securities Act is required or an exemption is available for the entire offering. Generally, the determination as to whether particular securities offerings should be integrated calls for an analysis of the specific facts and circumstances. Regulation A, however, provides issuers with a safe harbor that offerings conducted pursuant to Regulation A will not be integrated with:

  • prior offers or sales of securities; or
  • subsequent offers or sales of securities that are:
    • registered under the Securities Act, except as provided in Rule 255(c);
    • made pursuant to Rule 701 under the Securities Act;
    • made pursuant to an employee benefit plan;
    • made pursuant to Regulation S;
    • made pursuant to Section 4(a)(6) of the Securities Act; or
    • made more than six months after completion of the Regulation A offering.

e. Treatment under Section 12(g)
Section 12(g) of the Securities Exchange Act of 1934 requires, among other things, that an issuer with total assets exceeding $10,000,000 and a class of equity securities held of record by either 2,000 persons, or 500 persons who are not accredited investors, register such class of securities with the Commission. Regulation A, however, conditionally exempts securities issued in a Tier 2 offering from the mandatory registration provisions of Section 12(g) for so long as the issuer remains subject to, and is current in (as of its fiscal year end), its Regulation A periodic reporting obligations. Additionally, in order for the conditional exemption to apply, issuers in Tier 2 offerings are required to engage the services of a transfer agent registered with the Commission pursuant to Section 17A of the Exchange Act. The final rules also provide that the conditional exemption from Section 12(g) is only available to companies that meet size-based requirements similar to those contained in the “smaller reporting company” definition under Securities Act and Exchange Act rules. [1]  An issuer that exceeds the size-based requirements is granted a two-year transition period before it would be required to register its class of securities pursuant to Section 12(g), provided it timely files all ongoing reports due during such period.

3. Offering Statement
All issuers that conduct offerings pursuant to Regulation A are required to electronically file an offering statement on Form 1-A on the Commission’s Electronic Data Gathering, Analysis and Retrieval system (EDGAR). Form 1-A consists of three parts:

  • Part I: an eXtensible Markup Language (XML) based fillable form;
  • Part II: a text file attachment containing the body of the disclosure document and financial statements; and
  • Part III: text file attachments, containing the signatures, exhibits index, and the exhibits to the offering statement.

a. Part I
Part I of Form 1-A serves as a notice of certain basic information about the issuer and its proposed offering, which also helps to confirm the availability of the exemption. The notification in Part I of Form 1-A requires disclosure in response to the following items:

  • Item 1. (Issuer Information) requires information about the issuer’s identity, industry, number of employees, financial statements and capital structure, as well as contact information.
  • Item 2. (Issuer Eligibility) requires the issuer to certify that it meets various issuer eligibility criteria.
  • Item 3. (Application of Rule 262 (“bad actor” disqualification and disclosure)) requires the issuer to certify that no disqualifying events have occurred and to indicate whether related disclosure will be included in the offering circular.
  • Item 4. (Summary Information Regarding the Offering and other Current or Proposed Offerings) includes indicator boxes or buttons and text boxes eliciting information about the offering.
  • Item 5. (Jurisdictions in Which Securities are to be Offered) requires information about the jurisdiction(s) in which the securities will be offered.
  • Item 6. (Unregistered Securities Issued or Sold Within One Year) requires disclosure about unregistered issuances or sales of securities within the last year.

b. Part II
Part II of Form 1-A contains the primary disclosure document that an issuer will prepare in connection with a Regulation A offering, called an “offering circular.” Issuers are required to provide financial disclosure in Part II that follows the requirements of Part F/S of Form 1-A, while they have the option to prepare narrative disclosure that follows one of two different formats.[2]
i. Offering Circular Format
The Offering Circular format is a simplified and scaled version of the narrative disclosure requirements otherwise required to be provided by issuers in registered offerings on Form S-1. In addition to the availability of certain scaled disclosure items, the Offering Circular format is meant to simplify the process by which an issuer prepares its narrative disclosure by limiting the need for issuers to look outside the form for disclosure guidance.

ii. Part I of Form S-1 or Part I of Form S-11 Formats
Part I of Form S-1 and Part I of Form S-11 contain the narrative disclosure requirements for registration statements filed by issuers in registered offerings. In addition to the Offering Circular format, issuers may provide narrative disclosure in Part II of Form 1-A that follows the requirements of Part I of Form S-1 or, in certain circumstances, Part I of Form S-11. While Form S-1 is generally available for all types of issuers and transactions, Form S-11 is only available for offerings of securities issued by (i) real estate investment trusts, or (ii) issuers whose business is primarily that of acquiring and holding for investment real estate or interests in real estate or interests in other issuers whose business is primarily that of acquiring and holding real estate or interest in real estate for investment. Part I of both Form S-1 and Form S-11 generally describes narrative disclosure requirements by cross-reference to the item requirements of Regulation S-K.

iii. Part F/S (Financial Statements)
Part II of Form 1-A requires issuers to provide financial statements that comply with the requirements of Part F/S. Part F/S requires issuers in both Tier 1 and Tier 2 offerings to file balance sheets and related financial statements for the two previous fiscal year ends (or for such shorter time that they have been in existence). For Tier 1 offerings, issuers are not required to provide audited financial statements unless the issuer has already prepared them for other purposes. Issuers in Tier 2 offerings are required to include financial statements in their offering circulars that are audited in accordance with either the auditing standards of the American Institute of Certified Public Accountants (AICPA) (referred to as U.S. Generally Accepted Auditing Standards or GAAS) or the standards of the Public Company Accounting Oversight Board (PCAOB). Part F/S requires issuers in both Tier 1 and Tier 2 offerings to include financial statements in Form 1-A that are dated not more than nine months before the date of non-public submission, filing, or qualification, with the most recent annual or interim balance sheet not older than nine months. If interim financial statements are required, they must cover a period of at least six months.

c. Part III
Part III of Form 1-A requires issuers to file certain documents as exhibits to the offering statement. Issuers are required to file the following exhibits with the offering statement: underwriting agreement; charter and by-laws; instrument defining the rights of securityholders; subscription agreement; voting trust agreement; material contracts; plan of acquisition, reorganization, arrangement, liquidation, or succession; escrow agreements; consents; opinion regarding legality; “testing the waters” materials; appointment of agent for service of process; materials related to non-public submissions; and any additional exhibits the issuer may wish to file.

d. Non-Public Submission of Draft Offering Statements
Issuers whose securities have not been previously sold pursuant to a qualified offering statement under Regulation A or an effective registration statement under the Securities Act are allowed to submit to the Commission a draft offering statement for non-public review by the staff. Consistent with the treatment of draft registration statements in registered offerings, a non-publicly submitted offering statement must be substantially complete upon submission in order for staff of the Division of Corporation Finance to begin its review. All non-public submissions of draft offering statements must be submitted electronically via EDGAR, and the initial non-public submission, all non-public amendments thereto, and correspondence submitted by or on behalf of the issuer to the Commission staff regarding such submissions must be publicly filed and available on EDGAR not less than 21 calendar days before qualification of the offering statement.

e. Qualification
Issuers are only permitted to begin selling securities pursuant to Regulation A once the offering statement has been qualified by the Commission. The Division of Corporation Finance has delegated authority to declare offering statements qualified by a “notice of qualification,” which is analogous to a notice of effectiveness in registered offerings.

4. Solicitation of Interest Materials
Issuers are permitted to “test the waters” with, or solicit interest in a potential offering from, the general public either before or after the filing of the offering statement, provided that all solicitation materials include the legends required by the final rules and, after publicly filing the offering statement, are preceded or accompanied by a preliminary offering circular or contain a notice informing potential investors where and how the most current preliminary offering circular can be obtained.

5. Ongoing Reporting
Issuers in Tier 1 offerings are required to provide information about sales in such offerings and to update certain issuer information by electronically filing a Form 1-Z exit report with the Commission not later than 30 calendar days after termination or completion of an offering. Issuers in Tier 2 offerings are required to electronically file annual and semiannual reports, as well as current reports and, in certain circumstances, an exit report on Form 1-Z, with the Commission on EDGAR.

a. Annual Report on Form 1-K (Tier 2 Issuers Only)
Issuers in Tier 2 offerings are required to electronically file annual reports with the Commission on EDGAR on Form 1-K within 120 calendar days of the issuer’s fiscal year end. Form 1-K requires issuers to update certain information previously filed with the Commission pursuant to Part I of Form 1-A, as well as to provide disclosure relating to the issuer’s business operations for the preceding three fiscal years (or, if in existence for less than three years, since inception), related party transactions, beneficial ownership of the issuer’s securities, executive officers and directors, including certain executive compensation information, management’s discussion and analysis (MD&A) of the issuer’s liquidity, capital resources, and results of operations, and two years of audited financial statements.

b. Semiannual Report on Form 1-SA (Tier 2 Issuers Only)
Issuers in Tier 2 offerings are required to electronically file semiannual reports with the Commission on EDGAR on Form 1-SA within 90 calendar days after the end of the first six months of the issuer’s fiscal year. Form 1-SA requires issuers to provide disclosure primarily relating to the issuer’s interim financial statements and MD&A.

c. Current Report on Form 1-U (Tier 2 Issuers Only)
Issuers in Tier 2 offerings are required to electronically file current reports with the Commission on EDGAR on Form 1-U within four business days of the occurrence of one (or more) of the following events:

  • Fundamental changes;
  • Bankruptcy or receivership;
  • Material modification to the rights of securityholders;
  • Changes in the issuer’s certifying accountant;
  • Non-reliance on previous financial statements or a related audit report or completed interim review;
  • Changes in control of the issuer;
  • Departure of the principal executive officer, principal financial officer, or principal accounting officer; and
  • Unregistered sales of 10% or more of outstanding equity securities.

d. Exit Report on Form 1-Z (Tier 1 and Tier 2 Issuers)
Issuers in Tier 1 offerings are required to electronically file with the Commission on EDGAR certain summary information on terminated or completed Regulation A offerings in an exit report on Part I of Form 1-Z not later than 30 calendar days after termination or completion of an offering. Issuers conducting Tier 2 offerings are required to provide this information in Part I of Form 1-Z, if such information was not previously provided on Form 1-K as part of their annual report, at the time of filing information in response to Part II of Form 1-Z.

Issuers in Tier 2 offerings that have filed all ongoing reports required by Regulation A for the shorter of (1) the period since the issuer became subject to such reporting obligation or (2) its most recent three fiscal years and the portion of the current year preceding the date of filing Form 1-Z may immediately suspend their ongoing reporting obligations under Regulation A at any time after completing reporting for the fiscal year in which the offering statement was qualified, if the securities of each class to which the offering statement relates are held of record by fewer than 300 persons and offers or sales made in reliance on a qualified Tier 2 offering statement are not ongoing. In such circumstances, an issuer’s obligation to continue to file ongoing reports in a Tier 2 offering under Regulation A would be suspended immediately upon the electronic filing of a notice with the Commission on Part II of Form 1-Z.

6. Bad Actor Disqualification
The “bad actor” disqualification provisions contained in Rule 262 of Regulation A disqualify securities offerings from reliance on Regulation A if the issuer or other relevant persons (such as underwriters, placement agents, and the directors, officers and significant shareholders of the issuer) (collectively, “covered persons”) have experienced a disqualifying event, such as being convicted of, or subject to court or administrative sanctions for, securities fraud or other violations of specified laws.

a. Covered Persons
Understanding the categories of persons that are covered by Rule 262 is important because issuers are required to conduct a factual inquiry to determine whether any covered person has had a disqualifying event, and the existence of such an event will generally disqualify the offering from reliance on Regulation A.

“Covered persons” include:

  • the issuer, including its predecessors and affiliated issuers
  • directors, general partners, and managing members of the issuer
  • executive officers of the issuer, and other officers of the issuers that participate in the offering
  • 20 percent beneficial owners of the issuer, calculated on the basis of voting power
  • promoters connected with the issuer in any capacity
  • persons compensated for soliciting investors, including their directors, executive officers or other officers participating in the offerings, general partners and managing members

b. Disqualifying Events
Under the final rule, disqualifying events include:

  • Certain criminal convictions
  • Certain court injunctions and restraining orders
  • Certain final orders of certain state and federal regulators
  • Certain SEC disciplinary orders
  • Certain SEC cease-and-desist orders
  • Suspension or expulsion from membership in a self-regulatory organization (SRO), such as FINRA, or from association with an SRO member
  • SEC stop orders and orders suspending the Regulation A exemption
  • U.S. Postal Service false representation orders

Many disqualifying events include a look-back period (for example, a court injunction that was issued within the last five years or a regulatory order that was issued within the last ten years). The look-back period is measured from the date of the disqualifying event—for example, the issuance of the injunction or regulatory order and not the date of the underlying conduct that led to the disqualifying event—to the date of the filing of an offering statement.

c. Reasonable Care Exception
The final rule provides an exception from disqualification when the issuer is able to demonstrate that it did not know and, in the exercise of reasonable care, could not have known that a covered person with a disqualifying event participated in the offering.

The steps an issuer should take to exercise reasonable care will vary according to particular facts and circumstances. A note to the rule states that an issuer will not be able to establish that it has exercised reasonable care unless it has made, in light of the circumstances, factual inquiry into whether any disqualification exists.

d. Other Exceptions

i. Determination of issuing authority
Disqualification will not arise if, before the filing of the offering statement, the court or regulatory authority that entered the relevant order, judgment or decree advises in writing—whether in the relevant judgment, order or decree or separately to the Commission or its staff—that disqualification under Regulation A should not arise as a consequence of such order, judgment or decree.

ii. Disclosure of pre-existing events
Disqualification will not arise as a result of disqualifying events relating to final orders of certain state and federal regulators or certain SEC cease-and-desist orders that occurred before June 19, 2015, the effective date of the rule amendments. Matters that existed before the effective date of the rule and would otherwise be disqualifying are, however, required to be disclosed in writing to investors in Part II of Form 1-A.

e. Waivers

i. Waiver for good cause shown
The final rule provides for the ability to seek waivers from disqualification by the Commission upon a showing of good cause that it is not necessary under the circumstances that the exemption be denied. Staff has identified a number of circumstances that could, depending upon the specific facts, be relevant to the evaluation of a waiver request for good cause shown:http://www.sec.gov/divisions/corpfin/guidance/disqualification-waivers.shtml. Issuers may view past applications and waivers granted under Regulation A by referring to the following page: http://www.sec.gov/divisions/corpfin/cf-noaction.shtml#3b. Staff in the Office of Small Business Policy is also available to discuss potential waiver concerns over the phone at (202) 551-3460.

7. Relationship with State Securities Laws
a. Tier 1 Offerings
In addition to qualifying a Regulation A offering with the Commission, issuers in Tier 1 offerings must register or qualify their offering in any state in which they seek to offer or sell securities pursuant to Regulation A. Issuers wishing to obtain information on state-specific registration requirements should contact state securities regulators in the states in which they intend to offer or sell securities for further guidance on compliance with state law requirements. Issuers may also obtain useful information on state securities law registration and qualification requirements, including the option to have Tier 1 offerings that will be conducted in multiple states reviewed pursuant to a coordinated state review program, by visiting the website of the North American Securities Administrators Association (NASAA) at www.nasaa.org.

b. Tier 2 Offerings
While issuers in Tier 2 offerings are required to qualify offerings with the Commission before sales can be made pursuant to Regulation A, they are not required to register or qualify their offerings with state securities regulators. Tier 2 offerings by such issuers, however, remain subject to state law enforcement and antifraud authority. Additionally, issuers in Tier 2 offerings may be subject to filing fees in the states in which they intend to offer or sell securities and be required to file with such states any materials that the issuer has filed with the Commission as part of the offering. The failure to file, or pay filing fees regarding, any such materials may cause state securities regulators to suspend the offer or sale of securities within their jurisdiction. Issuers should contact state securities regulators in the states in which they intend to offer or sell securities for further guidance on compliance with state law requirements.

8. Transition Issues
Issuers conducting sales of securities pursuant to a Regulation A offering statement that was qualified by the Commission before June 19, 2015 may continue to do so. Such offerings are considered Tier 1 offerings after the effectiveness of the final rules on June 19, 2015. Qualified offering statements under the preexisting rules for Regulation A are, however, incompatible with the final requirements for Tier 2 offerings, and issuers that wish to transition to a Tier 2 offering need to file a post-qualification amendment to their previously qualified offering statement that satisfies the requirements for Tier 2 in order to do so.

On and after June 19, 2015, issuers conducting Regulation A offerings under the preexisting rules must begin to comply with the final rules for Tier 1 offerings, including, for example, the requirement of electronic filing and the rules for post-qualification amendments, at the time of their next filing under Regulation A. Additionally, after effectiveness of the final rules, issuers that previously provided offering statements that were qualified using the Model A disclosure format of Part II of the Form 1-A must, at the time of their next filing due under Regulation A, file or amend such offering statement using a disclosure format that is permissible under the final rules for Tier 1 offerings. Model A is no longer permitted for post-qualification amendments of qualified offerings that pre-date effectiveness of the final rules. Lastly, an issuer that is offering securities pursuant to a qualified offering statement under the preexisting rules will, upon effectiveness of the final rules, no longer be required to file a Form 2-A, but instead be required to file a Form 1-Z with the Commission electronically upon completion or termination of the offering.

On or after June 19, 2015, issuers that are in the review process for the qualification of a Regulation A offering statement based on materials filed with the Commission before June 19, 2015 will be required to comply with the final rules, including the requirements for electronic filing and, where applicable, transitioning to a disclosure format that is approved for Regulation A offerings. The issuer may elect to proceed at that time with its offering under the final requirements for either Tier 1 or Tier 2 offerings, provided it follows the requirements for the respective tiers.

9. Other Resources
The adopting release for the amendments to Regulation A can be found on the SEC’s website at http://www.sec.gov/rules/final/2015/33-9741.pdf.
Regulation A can be accessed through the “Corporation Finance” section of the SEC’s website at http://www.sec.gov/divisions/corpfin/ecfrlinks.shtml.
Additional materials regarding the application of Regulation A are available athttp://www.sec.gov/divisions/corpfin/cfguidance.shtml.
You can also submit complaints or tips about possible securities laws violations on the SEC’s questions and complaints page at http://www.sec.gov/complaint.shtml.

10. Contacting the SEC
The SEC’s Division of Corporation Finance is happy to assist small companies with questions regarding Regulation A. You may contact the Division’s Office of Small Business Policy by telephone at (202) 551-3460.


*  This guide was prepared by the staff of the U.S. Securities and Exchange Commission as a “small entity compliance guide” under Section 212 of the Small Business Regulatory Enforcement Fairness Act of 1996, as amended. The guide summarizes and explains rules adopted by the SEC, but is not a substitute for any rule itself. Only the rule itself can provide complete and definitive information regarding its requirements.

[1]  See 17 CFR 240.12g5-1(a)(7). Under Securities Act and Exchange Act rules, a smaller reporting company is generally an issuer that has a public float of less than $75 million, determined as of the last business day of its most recently completed second fiscal quarter, or, in the absence of a public float, annual revenues of less than $50 million, as of the most recently completed fiscal year. See Securities Act Rule 405, 17 CFR 230.405, Exchange Act Rule 12b-2, 17 CFR 240.12b-2, and Item 10(f)(1) of Regulation S-K, 17 CFR 229.10(f)(1).

[2]  The final rules eliminate the Model A (Question-and-Answer) disclosure format under Part II of Form 1-A that was permitted for use in Regulation A offerings before June 19, 2015.

REGULATION A+

[A new method of gaining access to U.S. markets without the cost of a traditional IPO]

On June 19, 2015, new SEC rules go into effect that have the potential of changing how private companies go public. Regulation A+ was approved by the SEC on March 25, 2015, and will give private companies the opportunity to raise seed capital by conducting a public offering to both accredited and non-accredited investors and allowing them to purchase free-trading stock in the company. Some commentators believe this is one of the most significant changes to capital formation since the adoption of Regulation D in 1982, and may reduce the need to go public by means of a reverse merger. Any private company which has ever contemplated entering the public arena or raising startup funds should carefully consider this new framework as a means to the reaching this goal. While not completely free of regulatory compliance requirements, the process is substantially simpler than an IPO (an S-1 offering) and much safer than entering into a reverse merger transaction with a shell company.

Regulation A was adopted many years ago and for the most part has been unused. Under the existing Regulation A, in order to be eligible for the exemption, an issuer is limited to $5 million in the amount of securities that it can offer and sell during any 12-month period. Regulation A does not preempt state qualification requirements which can vary from state to state making compliance difficult and costly. Due to the popularity of the Regulation D exemption, Regulation A has rarely been utilized by companies in recent years.

Regulation A+ makes the process more streamlined for the issuer by eliminating these taxing and expensive state requirements. It also permits smaller private companies to raise funds in an IPO-type process without becoming subject to the more detailed SEC reporting obligations of larger companies. We anticipate that the process will result in substantially reduced costs for private companies to raise seed capital and to become publicly traded in the OTC marketplace, with the possibility to easily transition to a stock exchange as the company matures and grows.

Regulation A+ expanded the exemption into two tiers: Tier 1 and Tier 2. Because of several limitations in Tier1 offerings, only Tier 2 offerings will be addressed here. These offerings have an annual limit of $50 million, including no more than $15 million on behalf of selling security holders that are affiliates of the issuer. Increasing the annual offering limit from the existing $5 million to up to $50 million for Tier 2 offerings is a very attractive option for smaller companies looking to raise capital. In addition, there are many more attractive features of Regulation A+ that are summarized and elaborated on below.

The benefits of Tier 2 offerings under Regulation A+ include the following:

  • Raising up to $50 million offering in a 12-month period;
  • Allowing resale of restricted affiliate shares up to $15 million;
  • Preemption of state qualification and registration requirements;
  • A confidential filing process which allows issuers to test the waters prior to effectiveness;
  • Sale of free-trading shares which can create an immediate public market;
  • Elimination of any underwriter requirement;
  • Sales to both accredited and non-accredited investors (subject to 10% of net worth);
  • General solicitation of investors;
  • Elimination of PCAOB audit requirement;
  • Reduction in filing requirements with the SEC; and
  • Compliance with Rule 15c211 trading requirements.
  • Who May Take Advantage of Regulation A+?

    Regulation A+ is only available to U.S. and Canadian companies that are not subject to the Exchange Act reporting requirements and are not subject to a “bad actor” disqualification. The exemption is unavailable to blank check companies, companies required to be registered under the Investment Company Act of 1940, companies which are not current in their Regulation A SEC reporting obligations for the prior two years, and companies which have had their registration revoked through a 12(j) action within the last five years. Regulation A+ is an especially good option for Canadian companies currently listed on a Canadian exchange that are trying to gain access to the U.S. market.

    What Types of Securities May be Offered Under Regulation A+?

    Only equity securities, debt securities, and debt securities convertible or exchangeable into equity interests, including any guarantees of such securities would be eligible for sale under Regulation A+. This would include warrants and convertible equity securities, among other equity and debt securities. It would exclude any asset-backed securities.

    What Types of Investors May Purchase Regulation A+ Securities?

    The rule permits unlimited investment in Regulation A+ offerings by “accredited investors” as defined under Rule 501(a) of Regulation D. All other investors are limited to the following investment amounts: (a) 10% of the greater of annual income or net worth (for natural persons); or (b) 10% of the greater of annual revenue or net assets at fiscal year-end (for non-natural persons). Issuers may rely on self-certification by each investor to verify status. This forms a dual purpose of opening up these offerings to average investors, but protects them from investing in excess of what the regulators believe would be prudent. For issuers, this opens a vast, virtually unlimited, new investor base.

    Who can offer and Sell Regulation A+ Securities?

    As in the sale of any security, the selling party must either be licensed or registered on both the state and federal levels or be exempt from licensing or registration requirements. Most states provide an exemption from licensing requirements for officers and directors of the issuer who are selling the securities without remuneration. Licensed brokerage firms can conduct such sales provided that they and their representatives are licensed in the state.

    How may Issuers Offer the Securities to Potential Investors?

    Under Regulation A+, general solicitation of investors is allowed. All communications are still subject to anti-fraud rules. Investors must be provided a copy of the offering documents or have access to them on the Internet prior to investment.

    How Does an Issuer Initiate a Regulation A+ Offering?

    All filings under Regulation A+ are made on EDGAR and may be filed with the SEC on a confidential basis. The initial filing made with the SEC is a Form 1-A, which requires less disclosure than an S-1 registration statement. There is no underwriter requirement for the Form 1-A. Also, “testing the waters” communications are allowed after the filing of the Form 1-A and prior to effectiveness. Since the disclosure requirements for Form 1-A are less than for an S-1 registration statement, the cost to prepare the document is less.

    Are Audited Financial Statements Required with the Form 1-A?

    Yes, audited financial statements for the last two years and any interim periods must be included with the Form 1-A; however, the audit does not require a PCAOB audit firm (as is required to do an IPO). The lack of a PCAOB audit would mean major cost savings for smaller companies.

    Once the Offering is Approved by the SEC, do State Compliance Requirements Exist?

    No. One of the reasons Regulation A has been underutilized by smaller companies in recent years is the costly requirement to comply with individual state registration requirements. As with Rule 506, Regulation A+ preempts state law in favor of review of the offering by the SEC. This means that, once the Form 1-A has been filed with the SEC, there is no separate state approval or filings, except for simple notice filings similar to Form D in Rule 506 offerings.

    Once the Offering is Approved by the SEC, What are the Continuing Reporting Obligations?

    After filing Form 1-A and gaining access to the U.S. market, issuers in Tier 2 offerings will be required to file the following reports on an ongoing basis:

  • annual reports on Form 1-K;
  • semi-annual reports on Form 1-SA;
  • current reports on Form 1-U;
  • special financial reports on Form 1-K and Form 1-SA; and
  • exit reports on Form 1-Z.
  • The continuing semiannual reporting requirements for a Tier 2 offering will not satisfy the current requirements under Rule 144 and, thus, a Tier 2 filer would need to voluntarily file public quarterly information to satisfy the current requirements of Rule 144. The continuing reporting requirements under Regulation A+ are less stringent than the continuous reporting requirements for SEC reporting issuers which means cost savings for smaller companies.

    Are There Restrictions on the Resale of Shares Sold Under Regulation A+?

    No, the shares sold under Regulation A+ are free-trading. This means that they may be immediately sold without restriction. By allowing issuers to sell a large amount of free-trading shares, Regulation A+ allows a public shareholder base to develop and also, without restrictions, shares purchased in these offerings may generate a higher valuation than in exempt offerings made under Rule 506. Affiliates of the issuer would remain subject to the resale limitations of Rule 144.

    Are There Selling Security Holder Limitations?

    No, Regulation A+ securities purchased by non-affiliates are free trading which allows a secondary market to develop; however, sales by selling security holders in an issuer’s initial Regulation A+ offering and any subsequently qualified Regulation A+ offering within the first 12-month period following the date of qualification of the initial Regulation A+ offering are limited to no more than 30% of the aggregate offering price.

    Would a Regulation A+ Offering Permit Trading on OTC Markets?

    Yes, once the offering has been completed, the issuer may engage a brokerage firm to make application to FINRA for quotation of the stock on OTC Markets, at any of the three levels available to it. Once approved, the application will permit the stock to be traded in the over-the-counter market. If the issuer later decides to move up to a stock exchange, in most cases it can file a short-form registration statement on Form 8-A to register the class of stock under the Exchange Act without having to file a lengthier, more expensive Form 10 registration statement.

    What Steps Should a Company take to Prepare for a Regulation A+ Offering?

    Prior to commencing a Regulation A+ offering, even before preparing and auditing the necessary financial statements, management should review all of the company’s corporate records to verify that there are no issues which require resolution prior to filing. Through the use of checklists and questionnaires, our firm can assist management in this process. We can also help management plan the offering to provide reasonable assurance of success. We can also guide management through the filing phase by preparing and filing the offering documents and assisting management in its ongoing post-offering filing requirements.

    Regulation A+ is an exciting opportunity for startup and smaller companies and our experienced securities attorneys can help your company navigate the requirements for Regulation A+ in order to gain access to public capital markets. For more information or to discuss how Regulation A+ applies to you or your business call us at (801) 446-8802 or email us at ron@vancelaw.us.

    SEC Charges CEO and CFO for Misrepresenting Deficiencies in Internal Controls

    On July 30, 2014, the SEC issued a press release announcing that it had filed charges against the CEO and former CFO of a computer equipment company based out of Florida, on the grounds that they misrepresented deficiencies in their internal controls to their external auditors and in their SEC filings.

    Pursuant to the Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley”), a company’s CEO and CFO are required to certify that they have reviewed the annual report and have disclosed all significant deficiencies therein. In 2008, the CEO and CFO of QSGI, Inc. (the “Company”), Marc Sherman (“Sherman”) and Edward Cummings (“Cummings”), signed certifications required under Section 302 of Sarbanes-Oxley falsely representing that they have evaluated the Company’s 10-K and had disclosed all significant deficiencies to the Company’s external auditors.

    In truth, the Company had attempted to implement internal controls in their Minnesota office to cure problems with removal of inventory, adjusting of inventory, and employee qualifications, among other things. These internal controls had failed to cure the problems. Sherman and Cummings intentionally withheld that information from their outside auditors. They also failed to disclose improper accounting procedures that were used in order to maximize the amount of money they could borrow from their chief creditor.

    These charges should make all CEOs and CFOs around the country stand up and take notice. It shows an increased emphasis the SEC places on the seriousness of reviewing and certifying the accuracy of in internal controls and disclosing any deficiencies therein.
    In the press release, Associate Director of the SEC’s Enforcement Division, Scott W. Friestad, stated that “[c]orporate executives have an obligation to take the Sarbanes-Oxley disclosure and certification requirements very seriously. Sherman and Cummings flouted these regulatory requirements and misled investors and external auditors in the process.”

    As a result of the charges filed stemming from a 2008 filing, Cummings has agreed to pay a $23,000 penalty and to not serve as an officer, director or accountant of a public company for a period of five (5) years. The SEC will continue to pursue charges against Sherman.

    OTC Market’s Modified OTCQB Requirements Now In Effect

    OTC Markets recently unveiled changes to the OTCQB marketplace that became effective on May 1, 2014. OTC Markets operates financial marketplaces that inform investors of opportunities and create a platform for nearly 10,000 over-the-counter securities. These securities are organized into three marketplaces: OTCQX, OTCQB, and OTC Pink. The recent changes implemented by OTC Markets to the OTCQB marketplace are briefly stated as follows:

    • Meet a minimum bid price of $0.01 (all current OTCQB companies must meet a minimum bid price of $0.01 per share as of the close of business for at least one of the previous thirty consecutive calendar days. For a newly applying company it must meet this minimum bid for each of the 30 calendar days immediately preceding the application and one of the 30 calendar days after the application);
    • Submit an application and pay an annual fee of $10,000 (for companies currently on the OTCQB the annual fee is $7,500 for the first two years);
    • Submit an annual certification confirming certain company information.

    OTC Markets has put these measures in place to remove underperforming companies and to weed out dilutive stock fraud schemes in an attempt to raise investors’ confidence in the trading market. Failure to meet these new OTCQB requirements and failure to make required SEC filings in a timely manner can lead to a company being downgraded to OTC Pink Marketplace (“OTC Pink”).

    The question we have been receiving from clients is what does it matter? Is it worth paying the $10,000 annual fee and the other administrative costs involved to stay on OTCQB or should the company allow itself to drop down to OTC Pink? There are various practical as well as technical advantages and disadvantages to remaining on OTCQB or being quoted on OTC Pink. There is no one-size fits all answer for every company making this determination. But in an effort to assist that decision-making process, we have provided the below chart outlining the advantages and disadvantages of remaining on OTCQB or in dropping down to OTC Pink:

    Advantages of Remaining on OTCQB Disadvantages of Remaining on OTCQB
    • SEC recognizes it as a public market.
    • OTCQB has a positive investor perception as a market for up and coming companies.
    • Higher disclosure requirements instills more investor confidence.
    • Higher broker confidence resulting in higher trading volume.
    • Higher administrative costs ($10K per year).
    • Requires a minimum bid price.
    • Must remain current in SEC periodic reporting requirements.
    Advantages of Being on OTC Pink

    • Lower cost to maintain (still an annual fee of $4,200 for posting company information on OTC Marketplace website).
    • Least regulated exchange.
    • Does not require a company to remain current on SEC periodic reporting requirements. (The SEC and OTC Markets are two separate entities and the SEC does require that a company comply with SEC reporting requirements.)
    • No minimum bid price.

    Disadvantages of Being on OTC Pink

    • Not recognized as an established public market by the SEC and will be unable to issue capital offerings.
    • Going from OTCQB to OTC Pink can cause a loss in investor confidence as you are trading alongside bankrupt and distressed companies.
    • If delisted from OTCQB for extended period, institutional investors may stop researching and trading stock.
    • Individual investors have less access to
      information which places the burden on investors to seek information about the company and will likely lead to less liquidity and reduced trading volume.
    • Dropping from OTCQB to OTC Pink is generally regarded as the first step toward Chapter 11 bankruptcy and may cause people to sell their stock.

    Our law firm recently reached out to OTC Marketplace asking them whether they could set forth the differences between OTCQB and OTC Pink. They responded by stating that the new changes are really going to shake things up in the OTC Marketplace. Better companies are going to remain on OTCQX and OTCQB and “bad characters” will fall to OTC Pink “making it a more risky and variable market than has been seen in the past.” They produced the following chart outlining the technical differences between the OTCQB and OTC Pink marketplaces:

    10 11
    Marketplace Description
    Venture Stage marketplace for early stage and developing companies Open marketplace with variable reporting companies.
    SEC RecognizedEstablished Public Market Yes Yes
    Premium Services
    OTC Disclosure & News Services® Included Not Included
    Real-Time Level 2 Quote Display® Included Not Included
    Blue Sky Monitoring Service Not Included Not Included
    OTCQX Market Center Not Included Not Included
    Additional Support
    OTC Markets Issuer Specialist Included Not Included
    Third Party Advisor None None
    Reporting Eligibility
    SEC Reporting Eligible Eligible
    Alternative Reporting Not Eligible Eligible
    Financial Eligibility
    Minimum Bid Price $0.01 None
    Total Assets None None
    Penny Stock ExemptMeets one of the following:

    • $5 Bid Price
    • $2 million Net Tangible Assets
    • $6 million 3 year Avg. Revenue
    No No
    Meets one of the following:

    • $2 million Revenue
    • $1 million Net Tangible Assets
    • $500,000 Net Income
    No No