[co-author: Zachary Kogut]
Over the past two decades, the SEC has tried to make it easier for early-stage companies to raise capital, and for main street investors to access those opportunities, by expanding registration exemptions. Regulation Crowdfunding (Reg CF), introduced in 2012, allows companies to raise up to $5 million from non-accredited investors, subject to per investor limitations, through registered online platforms. Regulation A (Reg A), overhauled in 2015, enables companies to raise up to $75 million from non-accredited investors upon filing and SEC qualification of a detailed disclosure document.
While nearly all of our firm’s deals are traditional private placements using Rule 506(b) of Regulation D or Section 4(a)(2) of the Securities Act of 1933, there are other exemption options. Many of our entrepreneurial clients are intellectually curious and have read about alternatives, while also inclined to explore disruption and leverage technology, so clients ask us from time to time whether an offering under Reg A or Reg CF would be a better option. We have generally been skeptical at the prospect, but thanks to the SEC’s latest reports on Reg A and Reg CF offerings, we can quantifiably assess some of our concerns.
Let’s dive into the data.
Regulation A: Rarely used, rarely successful
The SEC’s report on Regulation A covers offerings from June 19, 2015 (the date when the 2015 Reg A amendments went into effect) through December 31, 2024. During that time 1,618 total offerings were filed, which requires a publicly available disclosure, but only 1,426 were qualified by the SEC. This means nearly 15% of the filings did not complete the SEC review process, with most unqualified offerings subsequently abandoned despite being publicly announced. Of the offerings that were qualified, only 817 offerings reported raising money, meaning slightly over 50% of all attempted Regulation A offerings raised nothing, despite the cost of preparing and filing a detailed disclosure document with the SEC.
Even for companies that successfully raised money, the bad news continues. The average qualified offering sought just under $20 million but raised only $11.5 million. The median qualified offering aimed for $10 million and raised just $2.3 million. Given this difficulty in raising intended amounts, it is unsurprising that previous SEC analysis found Reg A issuers underperform post-offering relative to Reg D issuers. The skewed distribution of proceeds and offering amounts is primarily driven by larger deals in the financial sector, an industry that accounted for 46% of aggregate financing sought but 64% of reported proceeds.
Notably, 80% of all attempted offerings were in Reg A’s “Tier 2.” This is not surprising—Tier 2 offerings preempt state blue sky laws, allowing nationwide marketing and solicitation over the internet without the need to clear the offering with securities regulators in each state under “merit” review standards (which considers the substantive terms of a transaction). But the disclosure burden for Tier 2 is substantially higher than under Tier 1, further squeezing companies that took this long and expensive route to Securities Act compliance—especially for those who failed to complete the SEC review process, failed to raise funds, or raised less than they sought.
Standing back, in the aggregate companies raised $9.4 billion through Reg A offerings over nearly a decade, for an average of less than $1 billion per year. To put that number into context, in just the year 2019, companies raised $1.5 trillion through just Rule 506(b) (not Section 4(a)(2), Rule 504, Rule 506(c) or other private structures).
Regulation crowdfunding: More popular, still problematic
The SEC’s Regulation Crowdfunding report covers offerings between May 16, 2016 (the effective date of Reg CF) and December 31, 2024. In that time, 9,482 offerings were attempted, 8,492 were not withdrawn, and 3,869 reported receiving proceeds.
While more than seven times as many Reg CF offerings raised money than did Reg A offerings, the failure rate was even higher—approximately 60% of all attempted Reg CF offerings raised nothing. And despite no SEC qualification requirement, 990 offerings were voluntarily withdrawn, notwithstanding the companies having already spent money on a Form C filing, facing the reputational risk of canceling an announced deal, and the withdrawal raising integration considerations that may complicate future offerings.
In line with the lower investment limit, offerings under Reg CF raised substantially less than those under Reg A. The average offering sought just over $1 million and raised $346,000. The median offering sought $800,000 and raised only $113,000. In total, companies raised $1.3 billion in proceeds through Reg CF offerings over nearly a decade, averaging $150 million per year. Going back to our 2019 Reg D comparison, $150 million is just 0.01% of the amount raised under Rule 506(b). Worse still, $1.3 billion represents only 15% of the $8.4 billion Reg CF issuers intended to raise.
The policy disconnect
Expanding access to capital is a laudable policy goal, and some companies in specific situations have used Regulations A and Crowdfunding to raise money. But while providing permission to sell tends to increase the supply of offerings, it may not necessarily induce investor demand.
The data could be cynically read to suggest that these registration exemptions have meaningfully expanded neither non-accredited investor access to high-quality private offerings, nor company access to capital. These policy goals seem potentially better accomplished through simplified exemptions: the complexity of Reg A and Reg CF require meaningful outlays, yet the usage and results seem disappointing.
Takeaway for startups: Stick with what works
For aspiring venture-backed startups, Regulation A and Regulation Crowdfunding remain niche tools with limited upside in most cases. We for years have been concerned that Reg A and Reg CF are complicated, expensive ways to raise small amounts of capital – and now a decade of data helps to quantify that concern:
- A majority of attempted issuers raise no funds
- 50.5% of attempted Reg A filers raised no funds
- 59.2% of attempted Reg CF filers raised no funds
- The minority who raise funds only raise a fraction of what they seek
- 23% of funds sought is the most common Reg A experience
- 14% of funds sought is the most common Reg CF experience
These numbers are certainly skewed by companies that are not financeable, or that intentionally report high amounts sought but do not really need them (such as those using securities offerings primarily for customer acquisition/retention purposes). The effect of this is difficult to quantify, but perhaps the bigger question is whether other companies wish to be associated with exemption pathways cluttered by such companies and marred by high failure rates and disappointing proceeds.
Interestingly, the median Reg A issuer is a two-year-old company with one employee and $0 revenue, while the median Reg CF issuer is a two-year-old company with three employees and less than $10,000 in revenue. While it is possible such companies could have spent their first two years and limited employee bases to build out technological, regulatory or other moats for their business, this is somewhat uncommon profile for a growth business.
Of course, not every Reg A or Reg CF issuer fits this mold, and venture capital firms do not find success by relying on snap judgments to assess startups. But in a world where first impressions and heuristics matter, aspiring VC-backed startups should think carefully before choosing these paths.
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