Alerts and Updates
SEC Adopts Significant Revisions to Communications, Registration and Offering Procedures for Securities Offerings
September 13, 2005
The Securities and Exchange Commission (SEC) has adopted significant changes to its securities offering rules. The rules are intended to modernize the offering process under the Securities Act of 1933 (Securities Act), including, in particular, to permit issuers greater flexibility in communicating with investors outside of a formal registration statement. In addition, they make certain changes to the disclosure requirements for filings under the Securities Exchange Act of 1934 (Exchange Act), intended to further integrate the requirements under the Securities Act with the Exchange Act. The rules were adopted largely as proposed by the SEC in November 2004 and become effective on December 1, 2005. The SEC has stated that "early adoption" of the rules will not be permitted.
Goals of the New Rules
The adopted rules continue the evolution of the offering process by modernizing the offering process and regulation of communications in connection with registered securities offerings. These reflect the changes in communications technology and the increased ongoing disclosure provided by issuers as mandated or encouraged by the rules under the Exchange Act, rules and listing standards of securities exchanges, and comparable requirements in foreign jurisdictions. The rules, while significant, are much more limited in nature than the far-reaching revisions to Securities Act rules proposed by the SEC in 1998, referred to as the "Aircraft Carrier" proposals, which met significant criticism and were ultimately shelved. Instead, in adopting the current rules, the SEC focused primarily on making "constructive, incremental changes" to the regulatory structure. As stated in the adopting release, the SEC intends the new rules to:
- facilitate greater availability of information to investors and the market with regard to all issuers,
- eliminate barriers to open communications that have been made increasingly outmoded by technological advances,
- reflect the increased importance of electronic dissemination of information, including use of the Internet,
- make the capital formation process more efficient, and
- clarify disclosure liability.
Overview
The newly adopted rules involve three main areas relating to the Securities Act:
- The rules governing communications before and during registered securities offerings have been liberalized, particularly for certain very large issuers. Several new "safe harbors" for specific types of communications during different periods of the offering process have been adopted.
- Certain aspects of the liability provisions of the Securities Act have been clarified. Most significantly, the SEC has codified its interpretation concerning the information that forms the basis for a claim under certain provisions of the Securities Act.
- Certain registration procedures have been streamlined, including liberalizing the use of shelf registrations; providing an "automatic" shelf registration process for the largest issuers; permitting a wider range of issuers to incorporate previously filed information into Securities Act registration statements; and reforming prospectus delivery procedures.
Classification of Issuers
The newly adopted rules liberalize the offering and communications process most significantly for larger issuers. To accomplish this, the SEC created two new categories of issuers - "well-known seasoned issuers" and "ineligible issuers" - and made greater use of (though without specifically defining) three existing categories.
Well-known seasoned issuer is an issuer that:
- meets the registrant requirements of Form S-3 or Form F-3 (which require, among other things, that the issuer has been current and timely in its Exchange Act reporting obligations for the prior 12 months),
- as of a date within 60 days of the date for determining eligibility, the issuer either (i) has a worldwide public float (market value of its voting and non-voting common equity held by non-affiliates) of at least $700 million or (ii) has issued in the prior three years at least $1 billion aggregate amount of non-convertible securities, other than common equity, in registered, primary offerings for cash (but not in an exchange), and will register only non-convertible securities, other than common equity (unless the issuer also meets the $75 million public float requirement of Form S-3 or F-3), and
- is not an ineligible issuer, an asset-backed issuer, a registered investment company or a business development company.
The rules, as adopted, clarify ambiguities in the proposal regarding when to make the determination of whether an issuer meets the eligibility requirements for being a well-known seasoned issuer. As adopted, that determination is to be made at the later of the time of filing of the issuer's most recent shelf registration statement or the time of its most recent amendment to update the information contained in a shelf registration statement (including incorporated Exchange Act reports). If no shelf registration statement or amendment has been filed within the preceding 16 months, the eligibility determination is to be made as of the time of filing of the issuer's most recent annual report on Form 10-K or Form 20-F.
Seasoned issuer is an issuer that is eligible to use Form S-3 for a primary offering of its securities (i.e., it has been current and timely in its Exchange Act reporting obligations for the prior 12 months and has a public float of at least $75 million) but does not meet the requirements to be a well-known seasoned issuer.
Unseasoned issuer is an issuer that is required to file, or that voluntarily files, reports under the Exchange Act but is not eligible to use Form S-3 for a primary offering of its securities.
Non-reporting issuer is an issuer that is not required to file reports under the Exchange Act, even if it files voluntarily.
Ineligible issuer is an issuer that:
- is required to file reports under the Exchange Act and is not current on filing such reports,
- is, or in the last three years was, a blank check company, a shell company (other than a business combination related shell company) or a penny stock issuer,
- is a limited partnership offering and selling its securities other than through a firm commitment underwriting,
- has entered into bankruptcy proceedings in the past three years (including some involuntary proceedings), unless it has filed an annual report subsequent to emerging from such proceedings,
- has been (or has or had a subsidiary that was) convicted in the last three years of certain felonies or misdemeanors, or similar crimes under foreign laws,
- in the past three years was made the subject of a judicial or administrative decree or order (including a settled decree or order, if the settlement occurs after the effective date of the rule, regardless of whether or not the issuer admits any wrongdoing in the settlement) regarding violations of the anti-fraud provisions of the securities laws, or
- has been subject in the last three years to a refusal or stop order under the Securities Act, or is subject to a pending proceeding for a stop order or a cease and desist order with respect to an offering.
The definition of ineligible issuer as adopted differs somewhat from the proposed definition. The SEC limited the conditions based on securities law violations to violations of the anti-fraud provisions; eliminated a proposed condition based on the issuer having received a "going concern" qualification to its most recent audit opinion; and provided that ineligibility based on settlements will apply only to settlements after the effective date of the rules. The last change is particularly important for issuers that have recently concluded settlements, such as many of the large brokerages, which otherwise would have been precluded from becoming well-known seasoned issuers for several years. In addition, issuers currently engaged in settlement proceedings may wish to consider concluding the settlement prior to the effective date to avoid becoming an ineligible issuer.
Written Communications
The rules also added two new definitions of types of written communications. First, the SEC has defined "written communication" as any communication that is written, printed, a radio or television broadcast or a "graphic communication." "Graphic communications" include communications via electronic media such as audio and video tapes, facsimiles, CD-ROMs, e-mail and Web sites. Graphic communications also include substantially similar messages widely distributed (rather than individually distributed) by "blast" answering machine and voice mail messages, computers, computer networks and other forms of computer data compilation. However, a live telephone call or another communication that, at the time of the communication, originates live, in real time to a live audience and does not originate in recorded form or otherwise as a graphic communication, although transmitted through graphic means, is not considered a graphic communication.
Second, the rules introduce the concept of a "free writing prospectus," defined as any written communication that constitutes an offer to sell, or a solicitation of an offer to buy, securities in a registered offering that is used after the filing with the SEC of the registration statement (or prior to such filing, in the case of an offering of securities of a well-known seasoned issuer) and that is other than (i) a prospectus or (ii) a communication that is made after the recipient has been provided, or that is accompanied by, a final prospectus. Issuers and others will be permitted to use free writing prospectuses subject to certain conditions depending on the nature of the issuer.
Communications Reforms
Current rules under the Securities Act, often referred to as "gun-jumping provisions," significantly restrict the information an issuer may disclose during the public offering process, and are often unclear and difficult to apply. Under the current rules:
- Prior to the filing of a registration statement, all offers, in whatever form (including oral), are prohibited. The term "offer" has been interpreted very broadly and can include a communication that does not specifically refer to an offering of securities if it is designed to condition the market for the issuer's securities. Further, it is unclear for what length of time prior to the filing of a registration statement the SEC might consider that a communication could constitute a prohibited offer. As a result, the restrictions during the pre-filing period are often unclear.
- Between the initial filing of a registration statement and its effectiveness, the only written material permitted in connection with an offer (including by e-mail or the Internet) is a preliminary prospectus meeting the requirements of Section 10(b) of the Securities Act (referred to as a "statutory prospectus"), except for a limited notice permitted under Rule 134.
- After effectiveness of a registration statement, all writings, known as "free writing," are permitted if the recipient has previously been provided, or if the writing is accompanied by, a final prospectus.
Safe Harbors for Communications During Any Offering Period - Factual Business Information and Forward-Looking Information
The SEC adopted new safe harbors for ongoing business communications. Communications falling within these safe harbors will be deemed not to be offers under the Securities Act.
Factual business information - could be communicated by any issuer at any time. All issuers are free to release or disseminate, at any time, factual business information. "Factual business information" is limited to factual information about the issuer, its business or financial developments, or other aspects of its business, and advertisements for and other information about its products or services. For reporting issuers only, factual information also includes dividend notices and information in its Exchange Act filings.
Forward-looking information - could be communicated by reporting issuers at any time. Reporting issuers are also free to release or disseminate, at any time, forward-looking information. "Forward-looking information" is limited to financial projections, statements about the issuer's plans and objectives for future operations or about its future economic performance and assumptions relating to such projections or statements.
For purposes of these rules, asset-backed issuers (and their depositors, sponsors, servicers and affiliated depositors) and certain non-reporting foreign private issuers are treated as reporting issuers.
Conditions of use. Both safe harbors are available only to information released by or on behalf of the issuer. Information released by another party, such as an underwriter, is not eligible for the safe harbor. Further, the safe harbors require that (i) the information be of the type the issuer has previously released in the ordinary course, and (ii) the information be released in a time frame, manner and form consistent with past disclosures; for non-reporting issuers, the information could be released to or disseminated for intended use only by persons, such as customers and suppliers, other than in their capacities as investors or potential investors, and only by employees or agents who historically provided such information.
Neither factual business information nor forward-looking information would include information about an offering or released as part of the offering process. However, the safe harbors are specific to each communication; accordingly, use of any such information in an offering-related manner will not affect the ability to rely on the safe harbor for other, protected communications. The safe harbors are non-exclusive, but are not available for communications that are in "technical compliance" with the rules but are part of a plan or scheme to evade the registration requirements of the Securities Act.
Pre-filing - Safe Harbors for Communications More than 30 Days Pre-filing and for Pre-filing Offers by Well-Known Seasoned Issuers
Most communications permitted more than 30 days prior to filing. The SEC adopted another new, non-exclusive safe harbor for any communication made more than 30 days before the filing of a registration statement, provided that the communication does not reference a securities offering and the issuer takes reasonable steps within its control to prevent further distribution or publication of the information during the 30 days immediately before filing of the registration statement. Any communications falling within this safe harbor will not be considered an offer of the securities offered under the registration statement.
The safe harbor is available only for communications made by or on behalf of the issuer; as with the safe harbors for factual business information and forward-looking information, information released by another party such as an underwriter is not eligible for the safe harbor. In addition, the safe harbor is not available for communications relating to business combination transactions (which are subject to a separate set of existing rules), communications relating to offerings registered on Form S-8 (other than by well-known seasoned issuers) or communications regarding offerings made by registered investment companies, business development companies, blank check companies, penny stock issuers or shell companies.
The SEC declined to provide additional guidance as to what actions would constitute "reasonable steps within the issuer's control" to prevent publication during the 30-day period. This may undercut the usefulness of this safe harbor for at least certain kinds of communications. For example, issuers may wish to continue to be cautious with respect to giving interviews prior to the 30-day period, as it is unclear what steps the issuer would be required to take to prevent publication within the 30-day period. The SEC did state, though, that information on an issuer's Web site would not necessarily have to be removed, provided that the information is appropriately dated, otherwise identified as historical material and not referred to as part of the offering activities.
Safe harbor for pre-filing offers by well-known seasoned issuers. The safe harbors discussed above leave in effect the present restrictions on communications other than of factual business information or, for reporting issuers, forward-looking information, during the 30 days prior to the filing of a registration statement. As a result of the changes in the shelf registration rules discussed below, the SEC expects that most well-known seasoned issuers will have a shelf registration statement on file at all times and thus will rarely desire to make offers prior to filing. However, for those possibly rare instances, the SEC has adopted an additional safe harbor that permits well-known seasoned issuers to make offers, both oral and written, before a registration statement is filed. As with the pre-filing safe harbors, this safe harbor is available only for communications made by or on behalf of the issuer. In addition, the safe harbor is not available for communications relating to business combination transactions or in offerings by investment companies or business development companies.
Although pre-filing communications by well-known seasoned issuers are thus exempt from the gun-jumping provisions, whether such communications will be considered offers will be determined, as under current rules, based on the facts and circumstances. Any such offers will be subject to the liability and anti-fraud standards applicable to any offers and, unlike most post-filing communications made in connection with a registered securities offering, will be subject to the disclosure requirements of Regulation FD. Written pre-filing offers are considered free writing prospectuses and, as such, must be legended and, in most cases, filed with the SEC (although such filing need not be made until the registration statement itself is filed).
Post-Filing - Use of Free Writing Prospectus and Expansion of Rule 134
Free writing prospectus permitted for most issuers. The adopted rules significantly relax the restrictions on communications after filing and prior to effectiveness by permitting the use of free writing prospectuses. Under the new rules, issuers and others participating in an offering are permitted to use free writing prospectuses after the registration statement is filed, subject to the following conditions:
Availability and Delivery of Prospectus.
- If the issuer is a non-reporting issuer or an unseasoned issuer, the rules generally require that the free writing prospectus be accompanied or preceded by the most recent prospectus. Once a prospectus has been provided to a person, the issuer or other offering participants may provide additional free writing prospectuses without providing additional prospectuses, even if the prospectus provided is no longer the most recent, unless there had been material changes from the version provided or a final prospectus is available.
- The prospectus need not be provided through the same medium as is the free writing prospectus. However, it must be actually provided - merely referring to its availability is not sufficient. An electronic free writing prospectus may satisfy the delivery requirement by including a hyperlink to the most recent preliminary prospectus.
- If the free writing prospectus had not been prepared by the issuer or another person participating in the offering and neither the issuer nor any other offering participant had given or will give any consideration for the publication of any free writing prospectus (e.g., if the free writing prospectuses had been prepared by a person in the media that is not affiliated with, or paid by, the non-reporting or unseasoned issuer or an offering participant), prior or contemporaneous delivery of the prospectus is not required. In that case, the issuer need only have filed a statutory prospectus as part of the registration statement.
- If the issuer is a seasoned issuer (including a well-known seasoned issuer)¸ delivery of the prospectus is not required. In that case, an issuer or offering participant may use a free writing prospectus at any time after the issuer has filed a statutory prospectus (which, in a shelf offering, may be the base prospectus) as part of the registration statement.
- If the issuer is a well-known seasoned issuer, it (but not another offering participant) will also be able to use free writing prospectuses prior to filing a statutory prospectus.
Information in free writing prospectuses and legends. A free writing prospectus is not subject to any "line item" informational requirements and may include information that goes beyond the information included in the prospectus included in the registration statement, although it may not contain information that conflicts with information in the prospectus or in Exchange Act reports incorporated into the registration statement by reference. In addition, the adopting release discusses (although nothing in the rules explicitly states) legends and disclaimers that the SEC believes inappropriate and which would cause the materials not to be permissible free writing prospectuses. Examples of such inappropriate disclaimers and legends, which the SEC states are not exclusive, include (i) disclaimers regarding accuracy or completeness or reliance by investors, (ii) a requirement that investors read or acknowledge they have read or understand the registration statement or any disclaimers or legends, (iii) language that the free writing prospectus is not a prospectus nor an offer to sell or a solicitation of an offer to buy, and (iv) for information required to be filed with the SEC, statements that the information is confidential. The free writing prospectus would be required to contain a legend stating that the issuer has filed (or, with respect to a free writing prospectus used by a well-known seasoned issuer prior to filing a registration statement, will file) a registration statement (including a prospectus) for the offering to which the communication relates, indicating where the prospectus is available, and recommending that potential investors read the prospectus, including any Exchange Act documents incorporated by reference.
Filing. In general, use of a free writing prospectus is conditioned on filing that free writing prospectus with the SEC. An issuer will be required to file
- any free writing prospectus prepared by or on behalf of the issuer or used or referred to by the issuer (an "issuer free writing prospectus");
- any material information about the issuer or its securities that has been provided by or on behalf of the issuer ("issuer information"), is contained in a free writing prospectus prepared by or on behalf of or used by any offering participant other than the issuer and has not previously been included in a prospectus or filed free writing prospectus relating to the same offering (but not information prepared by or on behalf of a person other than the issuer on the basis of or derived from that issuer information); and
- any free writing prospectus prepared by or on behalf of the issuer or any other offering participant that contains a description of the final terms of the issuer's securities in the offering, after such terms have been established for all classes in the offering (although preliminary term sheets would not be required to be filed).
The requirement to file a free writing prospectus will not apply if the free writing prospectus does not contain substantive changes from or additions to a free writing prospectus already filed. In addition, the requirement to file issuer information contained in a free writing prospectus prepared by an offering participant other than the issuer will not apply if the information is included (directly or by means of incorporation by reference) in a prospectus or free writing prospectus previously filed that relates to the offering.
Free writing prospectuses would not be part of the registration statement, but would be available to the public on the SEC's EDGAR system.
Generally, a free writing prospectus must be filed on or before the date of first use. A well-known seasoned issuer that uses a free writing prospectus prior to the filing of the registration statement to which the free writing prospectus relates must file the free writing prospectus on the same day that the registration statement is filed. A free writing prospectus that contains only a description of the final terms of the securities must be filed within two days after the later of the date the terms are final and the date of first use. Unintentional or immaterial failures to file can be cured if the material is filed as soon as practicable after the discovery of the failure to file.
Issuer Web sites. An offer on or hyperlinked from an issuer's Web site is a written offer and a free writing prospectus. However, historical materials contained on a Web site will not be considered an offer if identified as such, appropriately segregated and not incorporated by reference or otherwise included in a prospectus for the offering or otherwise used or referred to in connection with the offering.
Road shows. As noted above, the SEC excluded from the definition of a "graphic communication" any communication that, at the time of the communication, originates live, in real time, to a live audience. This includes slides or other visual aides that may accompany the live communication. Accordingly, a live road show transmitted electronically would not be considered a graphic communication, and thus not a written communication or a free writing prospectus (it would, though, still be an offer and thus be subject to liability under the Securities Act). On the other hand, road shows that do not originate live, in real time, to a live audience and are transmitted electronically are considered free writing prospectuses. As such, they are permitted provided that the conditions of the new rules for use of free writing prospectuses are satisfied. However, notwithstanding such requirements, road show materials are not required to be filed unless the road show relates to an initial public offering of common or convertible equity securities and the issuer does not make at least one version of a bona fide road show readily available electronically to any potential investor no later than when any other version is used.
Media publications. Where an issuer or any offering participant provides information about the issuer or the offering that constitutes an offer, whether orally or in writing, to a member of the media and the media publication of that information is an offer by the issuer or other offering participant, the new rules consider such publication a free writing prospectus. If the issuer or offering participant prepares or pays consideration for publication of (or uses or refers to) the publication, the issuer or other offering participant will have to comply with all of the requirements that apply to the use of any other free writing prospectus. However, if the free writing prospectus is prepared and disseminated by media persons not affiliated with, and no consideration is paid to the media publication by, the issuer or any other offering participant, the requirements for prospectus delivery will not apply and the issuer or other offering participant may satisfy the filing requirement by filing, within four business days after the issuer or offering participant becomes aware of its publication or first broadcast, the media publication itself, all of the information provided to the media or a transcript of the interview or similar materials that the issuer or other offering participant provided to the media. The media publication need not be filed if its substance has been previously filed with the SEC. In addition, an issuer or offering participant may file any additional information that the issuer reasonably believes is necessary or appropriate to correct information included in the filed media publication. Since the prospectus delivery requirements will apply if consideration is paid, unseasoned and non-reporting issuers will effectively be precluded from using written advertisements, "infomercials" and broadcast spots, and seasoned issuers (other than well-known seasoned issuers) will be able to use advertisements only after filing the registration statement.
Record keeping. Issuers and other offering participants are required to keep records of free writing prospectuses they use and do not file with the SEC for three years from the date of the initial bona fide offering of the securities. Immaterial or unintentional failures to retain a free writing prospectus will not result in the loss of the ability to rely on the exemption, provided the issuer or offering participant made a good faith and reasonable effort to comply with the record retention condition.
Expansion of Rule 134. Rule 134 currently provides a safe harbor for a public notice that contains only specified, and very limited, information about a proposed offering and that is published after a registration statement containing a prospectus is filed. Such a public notice is not considered a prospectus and thus may be made without violation of the gun-jumping rules. The SEC has revised Rule 134 to expand the information permitted in a Rule 134 notice to include:
- expanded contact information for the issuer, including phone numbers and e-mail addresses, as well as information about the geographic areas and operating segments in which the issuer does business,
- for offerings of debt securities, information concerning maturity and interest rates (however, the notice may not include a detailed description or term sheet for the offered securities, although such a term sheet may be delivered as a free writing prospectus, as discussed above),
- information concerning the anticipated offering schedule, including the schedule and location of marketing events such as road shows and procedures for attending the events,
- information about the underwriters (not just the managing underwriters, as under the current rule), the underwriting procedures and procedures for account opening and for submitting indications of interest and conditional offers to buy the offered securities,
- information regarding procedures for directed share plans and other participation in offerings by officers, directors and employees,
- any security rating reasonably expected to be assigned (under the current rule, only a rating that has been assigned can be included in a Rule 134 notice),
- the names of selling security holders, if included in the prospectus on file at the time of the notice,
- the exchanges where any class of the issuer's securities are or will be listed and the ticker symbols for those securities, and
- the correction of inaccuracies in permissible information previously disclosed pursuant to the Rule.
Narrowing of Regulation FD Exclusion
Regulation FD requires U.S. issuers to make widely available certain information that the issuer has disclosed to select persons. However, Regulation FD currently does not apply to communications directly related to a registered offering (other than certain shelf registrations). The new rules amend Regulation FD to narrow this exclusion, placing under Regulation FD (and thus requiring disclosure pursuant to Regulation FD) communications within the safe harbors for factual business information, forward-looking information and information communicated prior to filing.
Expanded Use of Research Reports
The SEC recognizes the value that analyst research reports provide to market participants, and recently promulgated rules to require disclosure of conflicts of interest and otherwise enhance the usefulness of research reports. The new rules relax certain of the current restrictions on research as written offers to limit restrictions on research under the gun-jumping provisions to those the SEC believes most appropriate to avoid offering abuses. Under the new rules, research reports may be published or distributed:
- With respect to any issuer, including non-reporting issuers, by a broker or dealer that is not a participant in an offering by such issuer, does not receive compensation from any offering participant in connection with the research report and publishes research reports in the ordinary course of its business.
- By a broker or dealer that is an offering participant, on a reporting issuer or a large foreign issuer publicly traded abroad, if such research is confined to (i) non-convertible debt or preferred securities, if the offering is of common stock or securities convertible into common stock, or (ii) common stock or securities convertible into common stock, if the offering is of non-convertible debt or preferred securities, and in either case the broker or dealer publishes or distributes research reports in the ordinary course of its business on such type of securities.
- By a broker or dealer participating in an offering, on a seasoned issuer that is current in its Exchange Act reporting or on a large foreign issuer publicly traded abroad, or any of such issuers' securities, if that research is in a publication distributed in the normal course of the broker's or dealer's business and the broker or dealer has previously distributed research reports regarding the issuer or its securities.
- By a broker or dealer participating in an offering by any reporting issuer, if such reports are industry-wide and contain only information similar to prior such reports.
The revised rules relating to research reports do not apply to offerings by issuers that are, or in the prior three years were, blank check companies, shell companies (other than business development shell companies) or issuers of penny stocks.
Liability Issues
Under the Securities Act, purchasers of an issuer's securities in a registered offering have private rights of action for materially deficient disclosure in registration statements under Section 11 and in prospectuses and oral communications under Section 12(a)(2). The Securities Act also contains a general anti-fraud provision.
Although free writing prospectuses would be filed, they would not be considered part of the registration statement. Accordingly, they would not be subject to liability under Section 11. They would, however, be subject to liability under Section 12(a)(2) of the Securities Act and the anti-fraud provisions. The new rules clarify that not including, in a prospectus filed as part of a registration statement, information that is included in a free writing prospectus will not, solely by virtue of inclusion of the information in a free writing prospectus, be considered an omission of material information required to be included in the registration statement.
Under prior case law, liability under these provisions has generally been based on the final prospectus. This created an anomaly, because investors typically make investment decisions before they receive the final prospectus. The new rules codify the SEC's interpretation, which was set forth in the proposing release, that, for purposes of Section 12(a)(2) and the anti-fraud provisions, information provided to an investor after the investor enters into a contract of sale, and therefore becomes committed to purchase the securities, should not be taken into account.
Although the SEC's interpretation addresses the anomaly in the current regime, it raises a number of concerns. The time at which a contract of sale is entered into is often unclear. Moreover, current underwriting practices essentially require that the underwriters accept offers to buy before the final prospectuses are available. It is unclear how underwriters can provide the information in the final prospectus on a timely basis; yet, on the other hand, underwriters will be reluctant to accept the potential for liability on anything other than the final prospectus. In the adopting release, the SEC attempted to solve this issue by making clear that, where a seller wishes to convey new information after the contract of sale has been entered into, the seller could terminate the old contract of sale by agreement with the purchaser, and enter into a new contract of sale based on the new information. In that case, the time of the contract of sale with that purchaser will be the time of the new contract of sale and rights based on the prior contract would cease as a result of the contract's termination. The SEC stated in the adopting release that any such termination must provide the purchaser with adequate disclosure of the contractual arrangement, the purchaser's rights under the existing contract at the time termination is sought and the new information the seller seeks to convey, as well as the meaningful ability to elect to terminate or not terminate the prior contract and to enter or not enter into the new contract. This would essentially formalize prior informal customs in which underwriters allowed a customer to cancel purchases in an offering if the customer was unhappy after receiving a final prospectus.
Registration Process Reforms
The new rules also reform certain aspects of the registration process to provide additional flexibility for certain offerings under the Securities Act.
Shelf Registration Information and Limitations
Offerings under shelf registration statements are sold in takedowns from the shelf, the form of which is unknown at the time the registration statement becomes effective and that varies from time to time. The issuer will generally file a base prospectus that omits certain information (such as the terms of the security or the identity of selling security holders) and will later file a prospectus supplement or post-effective amendment to supply the required information when it becomes known. The new rules clarify that required information which is unknown or not reasonably available at the time of the registration statement may be omitted from such a base prospectus. In such a case, the base prospectus as filed, with the permitted omissions, will be considered a statutory prospectus, thus enabling issuers to use Rule 134 notices and free writing prospectuses.
The base prospectus will not be considered a final prospectus if it omits required information. The issuer will be required to provide such information by prospectus supplement, by post-effective amendment or in Exchange Act reports incorporated by reference into the prospectus. Information in a prospectus supplement will be deemed part of the registration statement containing the base prospectus. Prospectus supplements filed after the initial effective date of a registration statement will be included in the registration statement for Section 11 liability purposes and a new effective date for Section 11 purposes will occur for issuers and underwriters (although not for experts, officers or directors) with respect to each takedown.
Current rules limit the types of information that may be included in a prospectus by supplement or incorporation by reference to Exchange Act reports. Amendments to Forms S-3 and F-3 will permit issuers eligible to use such forms to incorporate by reference from Exchange Act reports all information required in the prospectus about the issuer and its securities (e.g., material changes in the plan of distribution), provided that a supplement is filed to identify the Exchange Act report containing such information. Such information can also be provided in a prospectus supplement.
Under current rules, selling security holders generally must be named in the registration statement or in a post-effective amendment, and cannot be added or changed by a supplement. Under the new rules, seasoned issuers may omit the identities of selling security holders and the amounts of securities to be registered on their behalf if (i) the initial offering of the securities is completed; (ii) the securities are issued and outstanding prior to the original date of filing of the resale registration statement; and (iii) the resale registration statement identifies the initial offering transaction or transactions pursuant to which the securities were sold. In such cases, the issuer may identify selling security holders by a supplement or by incorporation by reference to Exchange Act reports (subject to filing a prospectus supplement identifying such report).
Currently, the amount of securities registered on certain types of shelf registration statements is limited to an amount that is intended to be offered or sold within two years from the effective date of the registration statement. The new rules eliminate this requirement. In its place, the new rules require that a new shelf registration statement be filed every three years to replace old registration statements (including for automatic shelf registrations, discussed below). For shelf registration statements that are effective prior to December 1, 2005, the three-year period will begin on December 1, 2005, while for a registration statement that becomes effective after December 1, 2005, the three-year period will begin on its effective date. The new rules would permit unsold securities and unused fees from the old registration statement to be carried forward to the new registration statement. In addition, offerings begun on an old registration statement may be completed even if completion occurs after the effective date of the new registration statement.
Finally, the new rules eliminate current restrictions on primary "at-the-market" offerings of equity securities (including volume limits and the requirement that the underwriter be identified in the registration statement) and permit takedowns from a shelf immediately following effectiveness.
Automatic Shelf Registrations for Well-Known Seasoned Issuers
The new rules allow well-known seasoned issuers to file an "automatic shelf registration," a significantly more flexible version of the normal shelf registration. Automatic shelf registrations will consist of a general base prospectus and the provision of additional information as necessary to complete the prospectus. The additional information could be added by incorporation by reference to Exchange Act reports or by prospectus supplement, subject to certain exceptions (such as the registration of new types of securities or addition of new subsidiaries as co-issuers) that must be effected by amendment.
Most significantly, while the issuer will be required to specify classes of securities to be registered (as under current practice, this could done in general terms and the mix of securities offered would not have to be specified beforehand), the issuer will not need to register a specific amount of securities. Instead, the amount of securities to be offered may be specified as the issuer files supplements for specific offerings. In addition, the issuer will not need to indicate whether the securities are being sold in primary offerings or secondary offerings on behalf of selling security holders. Filing fees may be paid in advance or on a "pay-as-you-go" basis.
Automatic shelf registrations and post-effective amendments will be effective immediately upon filing without any prior SEC staff review.
As a result, the SEC anticipates that a well-known seasoned issuer will file a single broad-based automatic shelf registration, with amendments or replacements as needed, and conduct substantially all of its offerings through takedowns under that registration statement. This will provide such issuers a significant improvement in their ability to quickly access capital markets through registered offerings, which the SEC hopes will encourage such issuers to use the registration process rather than alternatives such as Rule 144A offerings.
Changes for Unseasoned and Non-Reporting Issuers
The new rules permit a reporting issuer that has filed at least one annual report, is current in its Exchange Act reports and makes such reports readily accessible on its Web site, to incorporate by reference, into a Form S-1 or Form F-1 registration statement, information from previously (but not subsequently) filed Exchange Act reports. An issuer that is, or was in the past three years, a blank check company, shell company (other than business development shell companies) or issuer of penny stocks would not be permitted to take advantage of such incorporation by reference. Because this incorporation by reference would largely duplicate the requirements for Forms S-2 and F-2, those forms have been eliminated.
Prospectus Delivery Reforms
Under current rules, after effectiveness of a registration statement, the issuer or underwriter delivers to each investor in a registered offering a written confirmation of a sale. The confirmation must be accompanied or preceded by the final prospectus. As noted above, however, investors' investment decisions are generally made prior to delivery of the final prospectus.
Accordingly, the final prospectus is often not useful except to memorialize information for the aftermarket. Because physical delivery of the final prospectus is not necessary to accomplish that function, the new rules will allow delivery of the final prospectus under an "access equals delivery" model. Under the rules, written confirmations (containing no more than the information that is required by the securities laws or is typically included in confirmations) and notices of allocations (containing only information identifying the securities, pricing, allocation and settlement) may be sent without being accompanied or preceded by a final prospectus if (i) the issuer has filed the final prospectus (to which the investor would thus have access, via the SEC's EDGAR system on the Internet) or will make a good faith effort to file the prospectus within the required time period (and, in the event, the issuer fails to timely file, it files the final prospectus as soon as practicable thereafter), including a prospectus that omits certain pricing information, (ii) the registration statement is effective and not the subject of a stop order and (iii) neither the issuer nor the underwriter or dealer is subject to a pending cease and desist order. In addition, the underwriter, or the issuer if it effects the sale directly, may send to each purchaser, within two days after completion of the sale, in lieu of a final prospectus, a notice that the sale was made pursuant to the registration statement or in a transaction otherwise subject to the prospectus delivery requirements. Purchasers will be permitted, however, to request a copy of the final prospectus. Excluded from these new rules are business combination transactions, exchange offers, offerings registered on Form S-8 and offerings by registered investment companies and business development companies.
Additional Exchange Act Disclosure Requirements
Currently, risk factor disclosure is required in Securities Act registration statements but not in Exchange Act reports. The new rules will require risk factor disclosure in annual reports on Form 10-K and Exchange Act registration statements on Form 10. Quarterly reports on Form 10-Q will not need to repeat the risk factor disclosure, but will update the previously filed risk factor disclosure for any material changes. Many issuers have been following this practice for several years.
The new rules also require an accelerated filer or a well-known seasoned issuer to disclose, in its Form 10-K or 20-F, any written SEC comments to its Exchange Act reports that the issuer believes are material, that were issued more than 180 days before the end of the fiscal year covered by the Form 10-K or 20-F and that remain unresolved at the time of filing of the Form 10-K or 20-F. An issuer would be required to disclose the substance of the comment and may, but would not be required to, disclose its position on the comment. (In the adopting release, the SEC also clarified that both domestic and foreign companies would be subject to the requirement to disclose unresolved comments. The rule as proposed was unclear as to whether foreign companies would be required to comply, because the proposal only applied to accelerated filers and foreign companies do not have an accelerated schedule for filing Exchange Act reports. However, the SEC noted that foreign companies may meet the definition of an "accelerated filer," even if the forms on which they file Exchange Act reports do not contain an accelerated filing timetable.)
Finally, the new rules add a box on the front page of Form 10-K and Form 10-KSB that, if applicable, an issuer would check to indicate that it is not required to file Exchange Act reports but is filing voluntarily.
For Further Information
While the new rules become effective December 1, 2005, because they have broad implications for how issuers raise money publicly, issuers should review the rules in advance of their effectiveness to determine whether they provide any new opportunities. Issuers will also need to prepare for the changes in Exchange Acts report under the new rules, such as by adding risk factor disclosure to their periodic reports.
For more information on how the new rules may affect your company, or if you have any questions about them, please contact one of the attorneys of the Securities Law Practice Group or the Duane Morris attorney with whom you are regularly in contact.
Disclaimer: This Alert has been prepared and published for informational purposes only and is not offered, nor should be construed, as legal advice. For more information, please see the firm's full disclaimer.
