The Reg A renaissance
In his weekly blog post Dealflow’s Steven Dresner discusses tribulations encountered by the companies behind recent Regulation A offerings.
Like a lot of guys in the microcap market, I’ve been rooting for Reg A deals in a big way. When I say I’ve been rooting for them, I’m talking about rooting for deals to get done. Not rooting for successful investments (although that’s nice of course). But rooting for the basic of basics – funded deals.
There’s a lot of Reg A promotion going on at the broker and consultant level, and it seems like there’s a webinar every week on this subject. There have also been a lot of Reg A filings done under SEC Form 1-A, literally dominating the number of filings for traditional IPOs. But to date, there’s only one deal that’s been successfully funded – Elio Motors.
So this past week, I started paying attention to the deals that aren’t getting done, and others that I believe won’t get done – at least not as Reg A offerings. Here are a few observations:
This week XTI asked the SEC if they could “refile” their Regulation A offering because they failed to meet their minimum $3 million raise target. XTI asked to remove the lower limit because they’ve been unable to convert the reported $20 million of indicated interest into actual investment. That’s upsetting of course but it also helps condition other issuers to be more realistic about their self-imposed minimum raise target. It’s also drawing attention to what I’ve talked about many times in this blog. That is, understanding the key conversion ratio of indications of interest to actual investment, and the need for broker-dealer involvement in the selling process to improve that conversion ratio.
I should preface my comments on the Stocosil deal with this: I tend to view these Reg A’s as retail offerings (or at least as having a retail component). This deal was filed in May but I hadn’t seen it until a friend forwarded me the offering docs. When I opened the 1-A, I jumped to the section “Overview/Our Company”:
“Stocosil was founded for the purpose of licensing and commercializing ST-101, a fixed-dose combination bilayer tablet of olmesartan medoxomil (an angiotensin II receptor blocker) for the treatment of hypertension and rosuvastatin calcium (a statin) for the treatment of hypercholesterolemia.”
Am I to expect that a retail investor would invest in something they couldn’t even pronounce? (If you don’t know what I mean, re-read that company description aloud.)
Conference Call with company “XYZ Inc.”
Let’s just call this last example “XYZ Inc.” I did a conference call on Wednesday with a VC-backed company in the early stages of FDA approval on an exciting potential drug. I was joined on the call by a broker, and a savvy marketing consultant who’s worked on successful crowdfunded offerings. The company told a wonderful story. I was impressed.
After management finished their pitch, conversation moved into Reg A territory and why the company should consider a general solicitation. The discussion, which was largely driven by the marketing consultant, was grounded in the idea that they could attract investors by effectively “merchandising” a better drug with email solicitations and snazzy videos.
There’s only one small problem: The company doesn’t have a drug. They have a molecular compound in a petri dish, which they hope will eventually become a drug. There’s a big difference. (Think FDA marketing guidelines, FINRA customer communication rules, etcetera.)
OK… moving on, I think you get the idea…
All of this Reg A pitching reminds me of something Tim Keating once said. Tim, for those who don’t know him, was bleeding-edge on the reverse merger scene back in the late 1990’s and early 2000’s. He understood the going-public strategy better than most and he was one of the best speakers at my conferences because of his insight and candor.
So anyway, at a Reverse Merger Conference somewhere in the 2006-2007 timeframe, Tim gave a presentation where he quoted the Mark Twain adage, “To a man with a hammer, every problem looks like a nail.” What he meant by this was that as an industry, we were pitching issuers on an investment structure that suited our needs as opposed to the issuer’s needs. We had a toolkit but we only wanted to use one tool – reverse mergers.
Just in case you need a refresher: With Chinese investment so hot at that time, brokers, shell sponsors, attorneys, and IR guys, were all making a lot of money bringing small companies public through reverse mergers. The problem was that most of those companies had no business being public. Shit, some of them even had no business. Literally, no business.
Tim’s point was that responsible deal advisors should be careful not to put their own interests ahead of their client’s.
With this in mind, I’m going to close on a positive note. I think the Reg A movement – while early in its renaissance – is going to be a boon for small company capital formation. Like many in the industry, I’m bullish. That is bullish, assuming we’re cognizant of what we promise issuers and which deals we shepherd to the capital markets using this structure. Let’s remember that there are other tools in the toolbox.