Listing on a stock exchange like the New York Stock Exchange or NASDAQ is usually a time-consuming and expensive process, but it provides the handful of startups lucky enough to have an initial public offering each year an envy-inducing exit. In addition to much needed financing for companies, an IPO also confers instant liquidity to founders and early investors.
There are hundreds of private companies that have not achieved the same scale, but whose owners would like to access the similar liquidity for their shares as their businesses grow.
Now many more can, thanks largely to new regulations from the Securities and Exchange Commission, known as Regulation A+. The updated regulations--which went into effect in June--could alter the investment landscape for companies, as it allows them to access capital markets without going through the traditional rigors of filing for an official IPO.
The new regulations allow private companies to solicit funding from so-called non-accredited investors, essentially people with a net worth of less than $1 million and an annual income under $200,000, in a process known as a mini-IPO. It's named as such because the process is less complex, with fewer underwriting and registration requirements than a traditional public offering. The investments are for rounds ranging from $20 million to $50 million.
Based on the expected interest in mini-IPOs, an entity called OTC Markets is now offering itself to such companies as a place to create a market for their shares and to start trading without trading on the big-name public exchanges, and for a fraction of the price.
“The SEC has created a real vehicle for companies to go public and to raise meaningful amounts of money and a meaningful ability for secondary market trading,” says Jason Paltrowitz,? executive vice president of corporate services for OTC Markets Group, which is a private company that creates a market for the shares of these smaller companies. “The only real place for companies to go for this OTC markets.”
You may recall the name OTC Markets in reference to the buying and selling of shares of pink-sheet companies, so-called because their stock quotes, which did not meet the minimum trading standards of the official exchanges for a variety of reasons such as falling below the $1 a share trading threshold. In the last decade or so, OTC Markets has essentially consolidated and brought to the digital age these pink-sheet companies. In the old days, the particulars of these stocks were printed out daily on pink sheets of paper and sold by brokers. Such stocks are said to trade over the counter. Many of today's mini-IPOs are effectively pink-sheet equivalents.
How It Works
Today, some 10,000 companies trade on the OTC, which has expanded to include a much broader set of companies. They are separated into three categories. The first tier are the traditional pink-sheet companies, which generally have less transparency than the companies trading in other OTC exchanges. (Although some well-established non-U.S. companies that don’t want to go through the time and expense of trading on a U.S. exchange may also trade there.) The second tier trade on something called OTC QB, which is comprised of companies that have already tapped some venture funding, and which is where most Reg A+ companies will wind up, Paltrowitz says.
The third tier, QX, takes things a step further. The category has a minimum asset requirement of $2 million for companies that have been in existence for three years or more ($5 million for companies that are less than three years old). Companies also need to have a revenue of at least $6 million, plus a bid price over 10 cents a share, and a minimum of 50 shareholders owning at least 100 shares of common stock each.
Companies can list on the QB for $10,000 annually, and the QX for $15,000 a year, plus a one-time application fee for $2,500 and $5,000 respectively. That compares to $50,000 for the NASDAQ, and up to $100,000 a year on the NYSE, Paltrowitz says.
Currently about 1,000 companies are listed on QB, and 400 on the QX. And since 2009, more than 400 have graduated to either the NASDAQ or NYSE, Paltrowitz says.
Nevertheless, listing is an involved process. Among other things, companies must submit disclosure forms and other registration materials to the SEC, including two years of financial statements, which must be audited for companies seeking something called a Tier 2 registration, which is for investment amounts up to $50 million. It must also work with underwriters and SEC and Financial Industry Regulatory Authority (FINRA)-registered broker dealers who will oversee the funding of trading accounts and make a market for the new security.
A Case Study
That doesn’t daunt some startups who have recently benefitted from Regulation A+. One company that intends to list on OTC is Elio Motors, based in Phoenix. Since June 19, when the Regulation A+ changes went into effect, Elio has gathered commitments for $25 million from non-accredited investors, through equity crowdfunding site StartEngine.
The money will allow Elio to finish building and testing prototypes of its three-wheeled car, and will allow it to start building the cars themselves, which requires an estimated $100 million. Non-accredited investors can purchase shares of the company for as little as $100.
Allowing those investors to trade stock on an exchange is a next logical step, Elio says.
“The OTC…will be one of the [groups] out there, in addition to venture backed exchanges, to allow individual broker dealers to buy and sell Regulation A+ shares on a secondary market,” says Paul Elio, the founder and chief executive of Elio.