Saturday, June 23, 2007
On May 23, the SEC announced that it was proposing a series of measures to modernize and improve its capital raising and reporting requirements for smaller companies. This week it issued two releases setting forth some of the specifics. Release 33-8812 proposes modification of the eligibility requirements for use of Form S-3 so that companies with a public float below $75 million can use Form S-3 and can also take advantage of shelf registration. Release 33-8813 proposes revisions to Rule 144 to shorten the holding period for resales of restricted securities and revisions to Rule 145 to eliminate the presumptive underwriter doctrine.
When Form S-3 was revised in 1992, the SEC stated that the $75 million float requirement would limit use of Form S-3 principally to corporations traded on the NYSE or NASDSQ who were generally followed by at least three analysts. (In today's dollars, $75 million would be between $100-110 million). Indeed, the SEC's heavy reliance on the efficient markets hypothesis was the guiding principle behind the adoption of the tiered registration system, including Form S-3 and its incorporation by reference of 34 Act filings into the 33 Act registration statement. Today, the SEC believes that more companies should benefit from the greater flexibility and efficiency in accessing capital markets afforded by Form S-3. Citing the great advances in electronic dissemination and accessibility to company information since the last revisions to Form S-3, the SEC has dramatically expanded the use of Form S-3 and the periodic takedowns of securities permitted by shelf registration. The proposed rule would permit registrants (other than shell companies) to use Form S-3 for primary offerings, whether or not they satisfy the $75 million public float requirement, so long as they do not sell more than 20% of their public float over any twelve-month period and otherwise satisfy the Form S-3 requirements (i.e., the company must be a reporting company and must have timely filed all required 34 Act reports in the past 12 months). This would include companies quoted on the OTC Bulletin Board and the Pink Sheets quotation services. The cap of 20%, the SEC states, should be large enough to help issuers meet their financing needs but small enough to take into account the effect the issuances could have on the market for thinly traded securities. In the release the SEC emphasizes the advantages to smaller companies of shelf registrations. While it recognizes the concern that this would allow periodic takedowns without any further SEC staff review since the initial filing of the registration statement, it believes this risk is justified by the benefits for smaller companies. Comments are due August 27. The release contains a number of questions on which the SEC would like to receive comment. To me an important one, as stated by the SEC, is: in what way is market following an important criterion in light of technological changes?
There are two principal proposed revisions to Rule 144 to ease the restrictions of the Rule and to increase the liquidity of restricted securities and thus decrease the cost of capital. First, the Rule would reduce the holding period for restricted securities of 34 Act companies to six months (currently, it is one year), subject to increasing the holding period, for up to six months, if the holder engaged in hedging transactions during that time. The SEC believes that six months is a reasonable indication that an investor has assumed the economic risk of the investment and is therefore not an "underwriter." Second, the Rule would substantially reduce restrictions on resales by non-affiliates after they have satisfied the holding period. Non-affiliates of reporting companies would only be subject to the current public information requirement for one year after the acquisition of the securities. Non-affiliates of both reporting and non-reporting companies could resell their securities after one year without any other conditions. As is usual with Rule 144, there are plenty of technicalities, and the SEC has a two very useful charts (at p. 12 and p. 26 of the release) tracking the changes. The SEC has rewritten the Preliminary Note in "plain English," and it is startling in its brevity. As a securities law professor, I found the Preliminary Note's discussion of the principles behind the Rule and, in particular, its discussion of "when a person is deemed not to be engaged in a distribution" very helpful. I will be sorry to see it go.
Finally, the proposed changes to Rule 145 would, first, eliminate the presumptive underwriter position in paragraph (c), except for transactions involving shell companies. This is a long overdue change to my mind, since the presumptive underwriter doctrine did not make much sense in this context. Second, the resale provisions in paragraph (d) would be changed to conform with the changes in Rule 144.