Many thanks to Gary Brown of Nelson Mullins, who leads our SEC Reporting and Practice Skills for Lawyers and many other PLI programs, for his thoughts in this post!<\/p>\n
In the \u201cWhat We Do\u201d<\/a>\u00a0section of the SEC\u2019s web page, the very first thing the SEC states is its mission:<\/p>\n The mission of the U.S. Securities and Exchange Commission is to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation.<\/p>\n \u00a0In the public company reporting world we frequently focus on the investor protection part of this mission.\u00a0These words are often heard when the staff speaks and even arise occasionally in the comment process.<\/p>\n Facilitation of capital formation can be at odds with protection of investors.\u00a0 The 1933 Act requires that all securities offers and sales be registered unless there is an exemption.\u00a0 When one hears a comment about the \u201cprotection of the \u201933 Act,\u201d what that means is the information that one would find in a registration statement \u2013 that, in conjunction with potential liability for sellers of securities, is what protects investors.\u00a0 The basis for many of the exemptions from registration is that there is an alternative scheme of regulation (e.g. <\/em>bank stocks) that provides the information or that sales are limited to accredited and other sophisticated investors who can, in the words of the Supreme Court, \u201cfend for themselves\u201d and do not need the protection of the 1933 Act.<\/p>\n Which brings us to the SEC\u2019s recent proposed rule to allow \u201ctesting-the-waters\u201d communications by all issuers.\u00a0 To understand the importance of this rule and why it is necessary requires one to understand the SEC\u2019s \u201cgun-jumping\u201d rules.\u00a0\u00a0The heart of these rules is Section 5 of the 1933 Act<\/a>, which, in part:<\/p>\n A violation of section 5 is a serious matter \u2013 at a minimum, investors in essence have a \u201cput\u201d back to the issuer in the form of a rescission right under Section 12(a)(1).\u00a0There doesn\u2019t have to be fraud \u2013 it\u2019s a simple matter of making an unlawful \u201coffer\u201d or using an unlawful \u201cprospectus.\u201d<\/p>\n The problem begins with the broad definition of \u201coffer\u201d in the 1933 Act.\u00a0 As many know, it includes \u201cconditioning the market\u201d for a securities offering.<\/p>\n Dealing with business and communication realities in the face of the definition of \u201coffer\u201d began with the drafters of the 1933 Act.\u00a0 Preliminary negotiations with and among underwriters were carved out of the statutory definition of \u201coffer\u201d.\u00a0 That\u2019s the first acknowledgement that some communications are essential to the offering process (capital formation) and pose no real danger to investors (investor protection).<\/p>\n Over the years, we have seen the SEC, through guidance or rulemaking, as well as Congress, through amendments to the Securities Act, add to the list of items that would not run afoul of the \u201cgun jumping\u201d rules.\u00a0 These include:<\/p>\n This situation addressed by these statutory provisions and rules is a great example of how the three parts of the SEC\u2019s mission are frequently in conflict with each other.<\/strong>\u00a0 A reduction in the amount of information required to be provided to investors, which would likely make raising capital easier, may well leave investors less well informed as they make investment decisions.\u00a0 That\u2019s why in many of these cases, either the scope or the recipients (e.g., <\/em>limited to QIBs and IAIs) is restricted \u2013 that addresses the investor protection mission.<\/p>\n The balancing act between what information investors really need and the cost of this information and its impact on the capital formation process is complex.\u00a0 It is not a simple or cut-and-dried decision-making process.\u00a0Dealing with the conflict in these parts of the SEC\u2019s mission requires judgment.<\/p>\n This capital formation part of the SEC\u2019s mission has received more attention in recent years.\u00a0 Perhaps the clearest example is the bi-partisan passage of the JOB\u2019s Act in 2012 to create the \u201cIPO On-Ramp\u201d for Emerging Growth Companies or EGCs.\u00a0 Simplifications such as allowing Emerging Growth Companies to provide two years of financial statements clearly reduces information available to investors, and just as clearly reduces the cost of capital formation.\u00a0 Time, and hopefully a retrospective analysis of the effect of this change, will tell whether it was good for investors and issuers.<\/p>\n The current administration at the SEC has clearly put more emphasis on the capital formation part of the SEC\u2019s mission, which brings us to recent development in this area.\u00a0 On February 19, 2019, \u00a0the SEC issued\u00a0 proposed Rule 163B, which would extend the \u201ctesting the water\u201d provisions (prefiling communications to QIBs and IAIs) provided to EGCs (as well as WKSIs and companies doing Reg A offerings) to all offerings<\/u><\/strong>.<\/p>\n Taken as a whole, proposed Rule 163B , coupled with several of the other exemptions referenced above, should substantially reduce the risks of mistimed communications about proposed offerings (\u201cgun jumping\u201d violations), which can result in significant costs and delays. Summarizing its rationale for proposing Rule 163B, the SEC states in the adopting release:<\/p>\n We believe that, by allowing more issuers to engage with certain sophisticated institutional investors while in the process of preparing for a contemplated registered securities offering, the proposed rule could help issuers to better assess the demand for and valuation of their securities and to discern which terms and structural components of the offering may be most important to investors. This in turn could enhance the ability of issuers to conduct successful offerings and lower their cost of capital.<\/p>\n As you can read in the SEC\u2019s Fact Sheet<\/a>\u00a0the proposal would enable all issuers to engage in test-the-waters communications with QIBs and IAIs.\u00a0 All issuers would be able to test-the-waters with QIBs and IAIs about contemplated registered securities offerings to determine whether such investors might have an interest in such an offering.\u00a0 These communications could occur prior to or following the filing of a registration statement.<\/p>\n Importantly, these communications would be exempt from the \u201cprospectus\u201d restrictions imposed by Section 5(b)(1) of the Securities Act and the restrictions on \u201coffers\u201d imposed by Section 5(c) o the Securities Act.\u00a0These communications, however, are nevertheless deemed to be \u201coffers,\u201d which means that they are subject to antifraud liabilities.\u00a0 In other words \u2013 they are \u201coffers,\u201d just not prohibited<\/u><\/em>\u201coffers.\u201d<\/p>\n From the Fact Sheet:<\/p>\n The proposed rule would be non-exclusive and an issuer could rely on other Securities Act communications rules or exemptions when determining how, when, and what to communicate related to a contemplated securities offering.<\/p>\n Under the proposed rule:<\/p>\n Some of the actions here (just as those exempted under other provisions described above) would have been unlawful \u201cgun jumping\u201d without these changes.\u00a0 They represent a big change from a long-standing part of the offering process.\u00a0While the proposals would only apply communications to QIBs and IAIs, investors who are assumed to be knowledgeable and experienced enough to protect themselves, this kind of change is always uncertain.\u00a0 What will the ultimate impact be as the SEC works to balance the contradictory parts of its mission?\u00a0 In the proposal\u2019s words:<\/p>\n \u201cThe expanded test-the-waters provision, as proposed, would provide all issuers with appropriate flexibility in determining when to proceed with a registered public offering while maintaining investor protections.\u201d<\/p>\n This nicely describes the balancing act!<\/p>\n The proposal will have a 60-day public comment period.<\/p>\n As always, your thoughts and comments are welcome.<\/p>\n <\/p>\n","protected":false},"excerpt":{"rendered":" Many thanks to Gary Brown of Nelson Mullins, who leads our SEC Reporting and Practice Skills for Lawyers and many other PLI programs, for his thoughts in this post! In the \u201cWhat We Do\u201d\u00a0section of the SEC\u2019s web page, the very first thing the SEC states is its mission: The mission of the U.S. Securities … Continue reading Mission Driven \u2013 The tightrope of Capital Formation versus Investor Protection \u2013 the Latest \u201cTest-the-Waters\u201d Move by the SEC Continues to Peel Back What is an Unlawful \u201cOffer\u201d<\/span> \n
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