Alerts and Updates

Corp Fin Provides Guidance on Section 3(a)(10) Exemption

July 9, 2008

Section 3(a)(10) of the Securities Act of 1933 (Securities Act) exempts the offer and sale of securities in certain exchange transactions from the registration requirements of the Securities Act. In the staff bulletin,1 the Securities and Exchange Commission (SEC) staff Division of Corporation Finance (Corp Fin) provided its views regarding the Section 3(a)(10) exemption and the resale status of Section 3(a)(10) securities. The highlight of the Bulletin is the discussion regarding Corp Fin's view of the impact of the amendments to the Rule 144/145 resale provisions on Section 3(a)(10) securities. The Section 3(a)(10) exemption is available when securities are issued in exchange for other securities, not for cash, and the fairness of the exchange is approved by a court or a governmental entity. The fairness hearing must be open to everyone to whom securities would be issued in the proposed exchange.

The Section 3(a)(10) exemption is available without any action by the Corp Fin staff or the SEC. However, issuers unsure of whether the exemption is available for a specific transaction may request a no-action position.2 The Bulletin discusses issues that commonly arise in those no-action requests.

Resale Status of Section 3(a)(10) Securities

The amendments to Rule 145, among other things, eliminated the presumptive underwriter provision in Rule 145(c) except for transactions involving a shell company (other than a business-combination-related shell company).

No Shell Company Involved. Securities received in a Rule 145(a) transaction (not involving a shell company) that was exempt under Section 3(a)(10) would not constitute "restricted securities" within the meaning of Rule 144(a)(3), and therefore may generally be resold without regard to Rule 144 if the sellers are not affiliates of the issuer and have not been affiliates within 90 days of the date of the Section 3(a)(10)-exempt transaction. If the sellers are affiliates, they may be able to resell such securities under Rule 144.

Shell Company Involved. When a Rule 145(a) transaction is exempt from Securities Act registration under Section 3(a)(10) and any party to that transaction is a shell company (other than a business-combination-related shell company), then the Rule 145(c) and (d) resale limitations apply to any party to that transaction (other than the issuer of the Section 3(a)(10) securities) and to any person who is an affiliate of such party at the time such transaction is submitted for vote or consent. In those situations, holders who are deemed to be underwriters under Rule 145(c) may resell their securities without registration in the manner permitted by Rule 145(d).

Also Corp Fin noted that in computing the holding period of the Section 3(a)(10) securities for purposes of Rule 145(d)(2)(ii) or (d)(2)(iii), "tacking" of the holding period of the securities exchanged for the Section 3(a)(10) securities is not permitted.

Corp Fin Analysis of Section 3(a)(10) Requirements

The Securities Must Be Issued in Exchange for Securities, Claims or Property Interests

Although Section 3(a)(10) exempts sales of securities that are "partly in such exchange and partly for cash . . .," transactions must be predominantly exchanges of securities. The "partly for cash" language, in Corp Fin's view, is intended merely to permit flexibility in structuring exchanges. Because the analysis of whether an exchange is structured in accordance with Section 3(a)(10) is fact-specific, the Bulletin does not provide guidance on the issue, leaving issuers with the option of submitting a no-action request in those situations.

In limited circumstances, Corp Fin has not objected to the issuance of securities as attorneys' fees under the Section 3(a)(10) exemption, such as when those securities amount to no more than one-third of the securities issued in a settlement.

When convertible or exercisable securities are issued in a Section 3(a)(10) transaction, only the securities issued are exempt from the Securities Act registration requirements. The issuance of the underlying securities upon exercise or conversion is not covered by the Section 3(a)(10) exemption. This is different from transactions that are exempt under Section 1145 of the U.S. Bankruptcy Code, which exempts the later exercise or conversion from Securities Act registration.

The Court/Governmental Entity Approval Requirement


A court, including a foreign court,3 or authorized governmental entity (e.g., state insurance commissions, state corporation or securities commissions, state banking agencies, etc.) must approve the fairness of the terms and conditions of the exchange by finding, after holding a hearing, that the terms and conditions of the exchange are fair (both procedurally and substantively) to those to whom securities will be issued.

In addition, the issuer must advise the court or governmental entity before the hearing that the issuer will rely on the Section 3(a)(10) exemption based on the court's or governmental entity's approval of the exchange. In Corp Fin's view it is necessary that the court or governmental entity "have sufficient information before it to determine the value of both the securities, claims or interests to be surrendered and the securities to be issued in the proposed transaction."

Open Hearing & Notice

The hearing must be open to everyone that would be issued securities in the proposed exchange. The issuer must provide notice of the hearing in a timely manner. Although there is no specific information that must be included in the notice,4 Corp Fin, in connection with no-action requests, does consider whether the notice:

  • adequately advises the persons of their right to attend the hearing; and
  • gives them the information necessary to exercise that right.

Issuers may impose certain prerequisites to appearance at a hearing. For example, Corp Fin did not object to the requirement that a person file a notice of intention to appear at a hearing. However, no requirement may prevent persons from having a meaningful opportunity to appear at the hearing.

Statutory Authority Required for Governmental Entities

If a governmental entity is approving the exchange, that entity must be authorized by statute to:

  • hold a hearing on the transaction (although it is not necessary that the statute require the hearing); and
  • approve the fairness of the exchange's terms and conditions.

The statute must also require the governmental entity to conclude affirmatively that the exchange is fair to the security holders participating in the exchange (e.g., the statute must require the governmental entity to conclude that the terms and conditions of the exchange are "in the best interest of shareholders" or "fair" to shareholders). Statutes that permit the entity to conclude that the exchange is "not unfair," "not unreasonable," "not prejudicial" or "not counter to the best interest of shareholders" do not satisfy this requirement.

Corp Fin suggests that issuers review previously issued no-action responses to see if the particular statute on which the issuer intends to rely has ever been the basis for a no-action position, and take into account whether the statute has been amended since the no-action position was taken.

Timing of Security Holders' Votes

Ordinarily, when an issuer solicits security holders' votes on the transaction before the fairness hearing, it is making an offer of the securities to be issued in the transaction, and that requires either registration under the Securities Act or an exemption therefrom. This presents a concern because many statutes governing fairness hearings require security holders to vote before the hearing and an issuer will not know if it will be able to rely on the Section 3(a)(10) exemption until after the hearing is held. Corp Fin does not object to a security holder vote before the fairness hearing in this situation because the timing is required by the statute and, under that statute, the transaction is not effected unless the court or governmental entity approves the transaction. However, Corp Fin advises issuers to submit the disclosure materials offering the securities to the court or governmental entity before the issuer mails them to the voting security holders.

State Securities Laws

Corp Fin clarified the status of fairness hearings conducted under state securities laws. The National Securities Markets Improvements Act of 1996 amended Section 18 of the Securities Act to preclude any state from requiring registration or qualification of covered securities, which are nationally listed securities. One effect of this was that an issuer could not use a state fairness hearing as a basis for relying on the Section 3(a)(10) exemption. The SEC staff said that Congress' prohibiting reliance on state fairness hearings was inadvertent. Corp Fin noted that Congress corrected this situation in the Securities Litigation Uniform Standards Act of 1998, which amended Section 18 of the Securities Act to add securities issued under Section 3(a)(10) as a category exempt from the definition of covered securities. Thus, Corp Fin believes that an issuer may rely upon a fairness hearing conducted under state securities law to perfect an exemption under Section 3(a)(10) for securities that otherwise would be covered securities.

For Further Information

If you have any questions regarding this Alert, including how the Bulletin may affect your company, please contact one of the members of the Securities Law Practice Group or the lawyer in the firm with whom you are regularly in contact.


1Staff Legal Bulletin No. 3A (CF) (Bulletin), issued on June 18, 2008. The Bulletin supersedes two previous staff bulletins (originally issued in July 1997 and revised in October 1999) that dealt with Section 3(a)(10).

2Issuers sometimes seek a no-action letter from the SEC with regard to 3(a)(10) transactions. Corp Fin advises that the issuer must submit its no-action request before the fairness hearing. Corp Fin tries to respond to no-action requests within 30 days of receipt. If an issuer submits a no-action request very close to the fairness hearing date, Corp Fin may not have adequate time to consider the issues presented and respond before the fairness hearing. The request will not be answered if submitted after the hearing.

3A foreign court may approve the transaction if all requirements that apply to exchanges approved by U.S. courts are satisfied and the issuer provides an opinion from counsel in the foreign jurisdiction stating that, before the foreign court can give its approval, it must approve the fairness of the proposed exchange to persons receiving securities in the exchange.

4However, keep in mind that the anti-fraud provisions of the federal securities laws apply to the required notice. In addition, although Corp Fin did not address the adequacy or appropriateness of the information provided, in connection with no-action requests, Corp Fin will consider the adequacy of the information to the extent that it adequately advises those who are proposed to be issued securities in the exchange of their right to attend the hearing and gives them the information necessary to exercise that right.

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.