Starting a new business is a challenge, and funding is one of the biggest reasons why. But many companies are finding opportunities to raise money through a provision of the JOBS Act, Obama-era legislation that lets companies offer pre-IPO investment opportunities to more people.
What is Regulation A?
Title IV of the JOBS Act, otherwise known as Regulation A, expands the ways in which small and medium-sized businesses can raise capital. Under Regulation A, startups are exempt from SEC registration, allowed to use equity crowdfunding, and can accept capital from non-accredited investors.
The biggest benefit put simply: anyone can invest in a business registered with Regulation A.
Tier 1 and Tier 2
Regulation A is divided between Tier 1 and Tier 2. The major differences between the two tiers are:
- Tier 1
- Companies are allowed to raise up to $20 million per year
- There is no limit to how much money non-accredited investors can invest
- Tier 1 offerings require investors to satisfy state blue sky laws
- Tier 2
- Companies are allowed to raise up to $50 million per year
- Non-accredited investors are limited in their investments to 10% of their net worth per year
- Tier 2 companies do not need to fulfill state registration requirements
According to Kings Crowd, the preferred Regulation A tier among business startups utilizing the equity crowdfunding benefit is Tier 2. This tier offers a higher fundraising cap, and the exemption from state registration makes the process of offering investment securities easier among different states.
Tier 2 does have its drawbacks. Unlike in Tier 1, offerings made within Tier 2 have strict audit requirements, and those who register with Tier 2 are also required to submit annual reports.
Expanded Fundraising
The benefits of fundraising as a business with Regulation A, especially as a small business or startup, are varied. With the ability to expand fundraising to the general public, businesses can appeal to their own customer base.
As explained by Seed Invest, this intimate level of investment has strong benefits for both the company and its customers. If an existing customer feels personally aligned with a business, they may welcome the opportunity to invest in stock. This financial investment can draw a deeper connection between the customer-turned-stockholder and the company itself. This connection may become fundamental in their desire to support the business, foster its success, and encourage others in their network to do so as well.
A customer-turned-stockholder may also prevent the loss of control that so often accompanies large offers of funding. When a company trades equity to a major investor, that equity often earns them a seat at the table in how the company is run. Businesses choosing Regulation A to crowdfund are often able to retain control over key decisions.
Testing the Waters
Another major benefit of Regulation A for businesses is the ability to utilize a “test the waters campaign.”
As a small business, implementing Regulation A can be taxing. It requires filing with the SEC that could incur consultation costs, a lengthy preparation of materials, and months spent waiting to complete the registration process. Testing the waters allows companies to market themselves to potential investors and gauge interest levels prior to committing to a Regulation A offering. This helps alleviate risks, connects companies with potential investors, and establishes informed decision making with regards to future fundraising.
According to Inc., this benefit extends beyond simply gauging interest. By including customers in their early stages of development, businesses establish a rewarding relationship between their company and potential investor base. This involvement “energizes” their customers and heightens their personal investment in the company’s financial success.
Once the campaign has ended, a business can determine whether Regulation A is a practical move. If not, they are welcome to abandon the filing and pursue an alternative method of raising capital. As explained in a Forbes article regarding testing the waters and Regulation A, utilizing this option may lead to narrow options following the end of the campaign. Because of the state rules required for Tier 1, the business may be limited to Tier 2 after transitioning out of the testing the waters campaign.
How Regulation A Benefits Investors
While regulation A is great for businesses, investors can benefit too. Investments in a company before it’s IPO can earn you much higher equity for your investment dollar.
How to Qualify?
Although qualifying as a business for Regulation A is a lengthy process, it can prove highly beneficial, especially for small businesses and startups. There are several articles which explore frequently asked questions regarding filing Form 1-A, the offering statement form, and may prove to be a useful resource for small businesses pursuing Regulation A to expand their capital.