Early-stage companies often fail. They often get acquired, too, sometimes in distressed circumstances and sometimes in circumstances leading to Lambos all round (most often the former). Companies who have raised funds under Reg A and Reg CF are no exceptions.
Unlike companies that made only private offerings to investors, companies that have made Reg A or Reg CF offerings are required to make reports to the SEC. Reg A companies must file an annual report on Form 1-K (together with audited financials), a semi-annual report on Form 1-SA (with unaudited financials) and report material events on a Form 1-U. Companies that have made Reg CF offerings must make annual reports (with unaudited financials) on Form C-AR.
Both Reg A and Reg CF companies may exit the reporting system (in any case, even if not going under) by filing a Form 1-Z or a C-TR, respectively, if they have made at least one annual report and have fewer than 300 shareholders of record. Reg CF companies can also cease reporting after making three annual reports if they have assets less than $10 million. The first thing to consider upon failure or acquisition is whether the company can exit the reporting system according to the regular rules.
But what happens if they fail or get acquired while still obligated to file reports?
- Reg A companies that fail and intend to file for bankruptcy or liquidation. We’ve had some conversations with the SEC Staff about this one, especially around the time the annual reports are due. If a company is about to fold up shop (that is, liquidate itself as oppose to merely file for protection during reorganization), and there’s a chance that there might be a little money left to distribute to shareholders, why waste those last dollars on getting audits that show the company is going under? While the company is technically non-compliant with ongoing reporting requirements if it doesn’t file, it seems to us that best practice is to file a Form 1-U explaining the situation and that there will be no further filings. We do not recommend filing a Form 1-Z, as that includes a representation that the company meets the conditions to terminate reporting.
- Reg A companies whose shares or assets are acquired.
- If the Reg A company is being acquired by another company, it will become a subsidiary of that company. It will then have just one shareholder and will be entitled to file a Form 1-Z as long as it has filed at least one 1-K. We are assuming its original shareholders will have received either cash or shares of the acquiring company. The Reg A reporting requirements are not inherited by the company’s new parent, and so the Reg A investors will not be receiving any further information about the Reg A company or its parent.
- If the assets of the Reg A company are being acquired, then the original Reg A company will presumably be wound up or liquidated (see above). The original investors under Reg A will not receive Reg A-type information from the acquiring company.
- Reg CF companies that fail and intend to file for bankruptcy or liquidation. As with the equivalent situation for Reg A, the original company may technically be in violation of its reporting obligations, but complying with those requirements may be impossible or impractical and are probably pointless. There is no equivalent of a Form 1-U in Regulation CF, and filing a C-TR may be misleading and is not advisable. Although these forms aren’t designed for this purpose, companies might consider filing a C-AR/A (if they have previously filed a C-AR) or a C/A, in order to let investors know what has happened.
- Reg CF companies whose shares or assets are acquired.
- If the Reg CF company is being acquired by another company, it will become a subsidiary of that company. It will then have just one shareholder and will be entitled to file a Form C-TR as long as it has filed at least one C-AR. We are assuming the original shareholders will have received either cash or shares of the acquiring company. The Reg CF reporting requirements are not inherited by the company’s new parent, and so the Reg CF investors will not be receiving any further information about the Reg CF company or its parent.
- If the assets of the Reg CF company are being acquired, then the original Reg CF company will presumably be wound up or liquidated. We assume the Reg CF investors will receive either cash or shares of the acquiring company, but that company will not be obligated to provide Reg CF-type information to the original investors.
We are assuming in all cases that any acquisition is made in accordance with the rights granted to the investors under corporate law or the purchase agreement or any investor rights agreement they may be subject to. (This sort of transaction will most often happen as a result of “dragalong” provision.) Advisers should check those agreements to confirm whether they might include any rights to information upon acquisition (they typically don’t).
We can’t guarantee that companies that are going under (or their officers and directors) won’t hear from the SEC about their failure to file, although there would be little point from a policy point of view in the SEC bringing any action against them.
With respect to acquisitions of Reg A or Reg CF shares in exchange for the shares of the acquiring company, advisers should make sure that the original issuer’s transfer agent coordinates the recording of the issuance of the shares of the acquiring company to the original shareholders.