In an action characterized by Chairman Arthur Levitt as a historic moment at the Securities and Exchange Commission (the "Commission" or the "SEC") and one of the most significant rule proposals the Commission has ever made, the SEC authorized the issuance of a release proposing significant revisions in the federal regulation of securities offerings and in the disclosure system that applies to publicly reporting companies. These rule proposals, so comprehensive that the staff said that the implementation of the proposed changes will be like maneuvering an "aircraft carrier," are intended to modernize the regulation of capital formation. (As a result, the Commission and its staff have dubbed the release the "Aircraft Carrier" proposal.)
The sweeping package of rule changes is designed to provide companies with more flexibility in selling securities to the public and to get more useful information in the hands of investors. As outlined by the SEC staff, the package proposes reforms to:
- the current system of securities regulation;
- rules on corporate communications during the registration process;
- prospectus delivery requirements;
- periodic reports; and
- integration of public and private offerings.
A copy of the executive summary of the proposal is attached hereto.
According to Chairman Levitt, the premise of the proposals is "that the investors benefit from more information, that is more targeted to the reader, and that is delivered in a more timely and technologically-friendly manner. Added flexibility and certainty for issuers are intended to keep capital formation efficient and nimble," Chairman Levitt said.
The backdrop for the "Aircraft Carrier" proposal was built over the course of the past few years. The Commission and its staff, as well as groups outside the Commission, have studied the current securities offering process and disclosure system with the goal of improving the system for several years. In 1995, the Commission created two groups to study and recommend improvements in the capital formation and disclosure systems. Those groups -- the Task Force on Disclosure Simplification and the Advisory Committee on Capital Formation -- issued their reports in 1996. Later that year, the Commission published a concept release requesting public comment on ways to improve the capital formation process, enhance disclosure, and increase investor protection, and Congress broadened the Commission's general exemptive authority in the regulating of securities offerings.
A. Summary of Proposals and Comments Required
The following is a brief summary of the most significant aspects of these proposals. Once we have studied the current proposal in depth, we intend to produce a comprehensive outline of the proposals and the issues they raise. The SEC has requested comments on a number of issues raised by the proposal. We believe it will be important for every company to view the issues raised in the release from its own perspective, taking into consideration its current business needs and also considering what those needs may be in the future.
The comment period for the proposal is 120 days from publication in the Federal Register. Anyone intending to submit comments to the SEC will be required to do so on or about April 4, 1999. We are available to assist you in preparing your comments on the proposal.
We would be pleased to discuss specific issues raised by these proposals with you, or to provide you with further background information.
B. Registration System Reform
The Commission currently has a number of forms for the registration of securities offerings under the Securities Act of 1933. Each form requires issuers to file specific disclosure information. Issuers are required to deliver the final prospectus (which includes most of the information filed in the forms) to investors. The new rules propose a broad reform of this system.
1. Large, Seasoned Issuers
The proposal would adopt a new Form B for offerings by "large, seasoned investors." A "large" issuer has either:
- •a public float of $250 million or more of common stock or other similar equity; or
- •a public float of $75 million or more of such equity and an average daily trading volume of $1 million or more.
A "seasoned" issuer must be a reporting issuer with at least a one-year reporting history that has filed at least one annual report. The Commission estimates that the top one-fourth of public companies in size would be included in this category - approximately 38% of all companies listed on national exchanges. These are the issuers that are currently permitted to use the SEC's Form S-3 for securities offerings.
For such companies there would be no mandatory prospectus disclosure requirements except for a "securities term sheet" explaining certain fundamental terms of the securities offered. This term sheet is akin to the term sheet currently permitted under Rule 434. The issuer would be free to create the offering documents it considers appropriate.
The issuer could control the timing of the effectiveness of its offer and as a consequence, offerings could be conducted more quickly than is currently allowed. Under the current system, the Commission declares a registration statement effective only after the Commission staff has had the opportunity, if it chooses to do so, to review the registration, and the issuer has resolved any staff concerns or questions about the disclosure.
Under the proposed system, the issuer could delay filing the Form B registration statement until immediately before the first sale of securities. The new Form B is substantially similar to a Form S-3 universal shelf registration statement for a continuous or delayed offering that many large issuers use today. It is anticipated that the proposed rules will result in issuers registering many offerings that are currently sold in "private placements" in reliance upon certain exemptions from the registration provisions of the securities laws. In the Commission's opinion, the registration of these securities will result in enhanced investor protection and will impose additional liabilities upon issuers. The Commission proposes to expand its due diligence rules to address factors that should be considered in Form B offerings that are completed on an expedited basis.
2. Certain Offerings by Smaller Seasoned Investors
Issuers that do not meet the size requirements to be classified as large issuers, but which are "seasoned" (i.e., have filed periodic reports with the SEC for at least one year), could use Form B in certain offerings, including:
- offerings to Rule 144A qualified institutional investors;
- offerings to certain existing security holders;
- offerings of investment grade, non-convertible securities, and
- market making transactions by broker-dealers affiliated with the issuer.
3. "Medium-Size Issuers"
Issuers that do not meet the requirements for Form B and which would not qualify as "small business issuers" would register on new proposed Form A. Form A would replace Form S-1 as the basic registration statement form. Initial public offerings would typically be registered on Form A.
Form A would allow smaller seasoned issuers to incorporate company disclosure from their Exchange Act periodic reports two years sooner than such companies are permitted to utilize "incorporation by reference" under current rules. The periodic reports would have to be delivered with the prospectus. Certain other seasoned Form A issuers would be able to control when their offerings become effective, as would some smaller issuers whose periodic reports have recently been reviewed by the SEC staff.
4. Small Business Issuers
Under current rules, small issuers that meet the definition of "small business issuer" may provide less extensive disclosure than larger companies. Such "small business issuers" are defined as companies with less than $25 million in annual revenues and less than $25 million public float of the common stock or other similar equity. The proposals would revise this definition to raise the revenue level to $50 million and drop the public float limitation. The Commission estimates that this would make stream-lined registration and reporting requirements available to over 1,000 additional small companies. In addition, the proposal would permit small business issuers to delay payment of registration fees until shortly before effectiveness of the offering.
5. Communications Around the Time of Securities Offerings
The current system imposes significant restrictions on communications before and during the time an issuer is "in registration." No offers may be made until after a registration statement has been filed. Even after a registration statement has been filed, written offers may only be made through a prospectus the content of which is mandated by SEC rules. The net effect of the existing restrictions is to establish a "quiet period" during which issuers are reluctant to communicate with the market. The proposals would lift many of those restrictions for certain offerings.
Specifically, for issuers entitled to use Form B, the Commission proposes to remove all restrictions on offering communications before the registration statement is filed. These communications would be subject to the anti-fraud and civil liability provisions of the federal securities laws. The communications would have to be filed, either as offering communications or "free writing" materials. Market research may continue uninterrupted, and analysts may continue to publish research reports before and during the Form B offering.
For offerings that are not made on Form B, all communications made more than 30 days before a registration statement is filed would be entitled to a bright line communications safe harbor. Communications during the 30 days before a registration statement is filed would continue to be restricted. However, the Commission would permit: (1) factual business communication and (2) regularly released forward looking information by reporting companies.
There would be no restrictions on communications after a registration statement is filed. Communications made after filing would not have to meet the content requirement of a statutory prospectus, but they would be subject to the antifraud and civil liability provisions of the securities laws. Such materials would have to be filed with the SEC as "free writing" materials.
6. Prospectus Delivery Requirements
Currently, all issuers must send a final prospectus to investors no later than the time sales are confirmed. A preliminary prospectus is required to be delivered only in limited situations.
For Form B offerings, no prospectus delivery would be required, and only a securities term sheet setting forth fundamental terms of the security would be required.
For other offerings, delivery of a prospectus would be required before an investment decision is made. The prospectus would need to be delivered either seven or three days before the securities are priced (in a firm commitment offering) or before the investor is committed to purchase the securities (in a best efforts offering). If a material change occurs that was not described in the delivered prospectus, the issuer must deliver information about that change at least 24 hours before either pricing or the time the purchase commitment is made. The delivery requirements are intended to provide adequate time for investors to read and understand the information and to seek more information.
7. Final Prospectus
In most offerings there would be no delivery requirements for a final prospectus, though a final prospectus would have to be filed with the Commission. Most issuers would be exempt from delivering a final prospectus to investors if a preliminary prospectus had been delivered. Final prospectuses still would be required to be delivered in merger and acquisition transactions.
8. Dealer Delivery of Final Prospectus
Under current rules, dealers are required to deliver prospectuses in certain offerings for a specified period of time after the effectiveness of a registration statement. Dealers are subject to this requirement even though they may not have participated in the offering. The proposals would exempt dealers from delivery if the prospectus has been filed with the Commission and the dealer explains to the investor where the investor can obtain the final prospectus.
C. Periodic Reports
The proposed rules seek to expedite reporting of certain information and add requirements to report certain material events. For example, the proposal would require risk factor disclosure in certain registration statements and in annual and quarterly reports.
Summary annual and quarterly financial data on a current report (i.e., Form 8-K) would be required before the due dates of the actual annual and quarterly reports.
Additional events would need to be reported in current reports (e.g., current 8-K reports), such as:
- major defaults on senior securities;
- departure of a CEO or CFO;
- material modifications of the rights of security holders; and
- receipt of notice from an independent auditor that the registrant may no longer rely upon its audit report.
The proposal would accelerate the due date of such current reports from fifteen days to five or, in some cases, one, calendar days.
D. Other Topics
An issuer may start a private offering and decide, for any number of reasons, to stop that offering and register a public offering. On the other hand, an issuer may file a registration statement to make a public offering and later decide to withdraw that and conduct a private offering. The existing regulatory structure does not provide companies with much flexibility to proceed with the second offering unless they wait for months. The proposal would revise the rules to allow companies to change course provided that key investor protections are maintained.
In addition, issuers could commence a registered public offering to gauge investor interest. Then, if an issuer discovers limited interest in its securities, it may withdraw the public offering and sell securities to those buyers that it did find in the public offering.
If you have any questions or comments, please contact your representatives here at Sutherland Asbill & Brennan LLP.