03 Mar Reg A+ vs. S-1 vs. Reverse Merger: Assessing Your Options for a Retail Public Offering
As many already know, we also operate reversemergers.com and crowdfund.co. As a result, we likely kiss more frogs than we would like to admit. In almost 90% of cases, potential issuers will likely see me as the Debbie Downer. That is, I talk most off the ledge for going public via reverse merger, S-1 or performing a Regulation A+ offering via Form 1A. Each public offering type has its place in the world, but very few companies fit within each of these well-defined buckets. Every VC and crowdfunding consultant out there is on the prowl for the next unicorn investment, but that still means a relatively small proportion of companies fit the mold.
If I were asked to rank between these various alternative public offering types, I would likely order them as follows:
Regulation A+ > Traditional S-1 > Reverse Merger
Let’s discuss some of the differences, including pros and cons of each so we know what types of company might fit within the proverbial bucket.
Title IV of the JOBS Act, also known as Regulation A+ or Reg A+ represents a new (and very well-promoted) form of offering stock to non-accredited, retail investors. The price: filing a couple years’ audited financials and getting a knowledge and reputable attorney to file the Form 1-A. There are two options for Reg A+, which provides a bit more flexibility.
One of the big benefits of Reg A+ is the ability to “test the waters” prior to shelling out the coin for attorneys and accountants to prepare your offering. A product or product design that has broad-based appeal and an existing network of potential users could–within the confines of what is allowed by SEC law–test the efficacy of a Reg A+ campaign before actually collecting any money and signing-up any investors. This option alone significantly reduces the downside financial risk. In addition, Reg A+ also bypasses most individual state Blue Sky laws, allowing issuers to generally solicit without having to register securities individually in each respective state. Not even an S-1 filing has that feature. This is extremely important, especially as most Reg A+ offerings will likely involve some form of web portal which will expose the offering broadly. Companies are also able to sell their own stock in a Reg A+ offering directly on the company’s website.
While a Reg A+ offering can be sold to retail investors, the stock is completely illiquid. It lacks a ticker symbol and has no publicly-traded float. This means companies that perform a successful raise through Reg A+, who want more liquidity to their stock, will need to work with a knowledgeable attorneys and investment bankers to move from Reg A+ over to a non-reporting public company.
Note: There is a special transaction structure that provides a simple, less-expensive method for obtaining immediate liquidity, by giving you a Ticker Symbol and DTC clearance on the OTCQB (not the pink sheets) without the need for a typical S-1 or reverse merger. This special structure then allows for further capital requisition through the power of the public markets. It also gives your initial investors a greater incentive to invest. A great, very recent example of this is Elio Motors.
Often referred to as a direct public offering (DPO), a direct offering or a direct shareholder offering, a traditional S-1 is just like the famous IPOs often promoted in the media. Like a typical IPO a form S-1 is filed with the SEC, registered the desired shares. As part of this process, the company files PCAOB-audited financials, obtains a CUSIP# and applies for a ticker symbol. Most often these companies are listed on the over-the-counter exchange.
We are not talking about NASDAQ or NYSE in terms of size, pomp and hype, but many of the same Sarbanes-Oxley reporting requirements still apply. In addition, the annual, on-going reporting requirements are much more onerous than a Reg A+ offering (annual reporting for Reg A+ is only twice per year). With an S-1, you are somewhat pigeonholed in that you cannot go back to Reg A+. Michael Williams rightly points-out that existing, trading public entities are precluded from participating in Regulation A+.
In a reverse merger, a private company, registered as a C-corp, acquires a clean, trading public shell and “reverses” its business into the public vehicle. While we do operate reversemergers.com and have experience in this field it has become tainted through the years with foreign deals, pump-and-dump schemes and other fraudulent activities.
When it comes right down to it, reverse mergers are typically a terrible route for most small businesses. Unless you are willing to shell-out between $300K to $400K for an existing, clean, DTC-eligible public shell, there is a likelihood that even your shell is hiding something (e.g. convertible debentures, litigation/regulator liabilities, etc.). Perhaps the greatest benefit to a reverse merger is speed. A company that wishes to be fully trading and reporting can do so in a matter of weeks. Of course, there is a premium paid for the increased speed.
Both Traditional S-1 and reverse merger offerings often lack quality market makers and the support of institutional investors willing to create a public float that is commensurate with a highly-successful underlying business. Reg A+, traditional S-1 and reverse mergers have their place in the world and there is no one-size-fits-all scenario for capital financing.
While Reg A+ may offer benefits above other alternative public offering methods, the best route is to first focus on building a quality business that can act as a good platform for scalable growth. This includes the right people, systems and processes to create a real company. Most investment banks will only work with companies above a very specific size threshold. We could waste a great deal of time working with startups that have nothing more than an idea and a prayer. Like investors (both retail and institutional), we too prefer companies that have existing, profitable operations. If the idea, team, intellectual property or potential backers are compelling enough for a startup, then Reg A+ can be a good option for issuers.
Note: As always, this is not legal, investing or accounting advice. Please consult with knowledgeable professionals when making business and investment decisions.