In April 2012, we wrote here about the potential future impact of the Jumpstart Our Business Startups Act (“JOBS Act”) on M&A transactions in which an acquirer seeks to issue its privately placed equity securities as consideration in an acquisition. Our discussion at the time focused on the conditions of Rule 506 of Regulation D under the Securities Act of 1933 (the “Securities Act”) and, in particular, the tension faced by issuers that are required to determine the offerees’ status as “accredited investors” or as otherwise suitable to evaluate the potential investment. We noted that such issuers have historically been prohibited from using any form of “general solicitation” when offering securities in such transactions. Subsequently, in July 2013, the SEC adopted final rules (effective September 23, 2013) to eliminate the absolute prohibition against general solicitation in securities offerings conducted pursuant to Rule 506, as required by Section 201(a) of the JOBS Act (Gibson Dunn’s summary and analysis of the rules may be found here). The following discussion updates our earlier post to address the legal and practical effects of these new rules for M&A transactions that include a private placement component.
Securities Regulation
SEC Staff Grants Request to Exclude Rule 14a-8 Shareholder Proposal Regarding Repayment of Student Loans
Gibson Dunn successfully represented DeVry Inc. in obtaining no-action relief from the SEC staff (the “Staff”) for the exclusion of a shareholder proposal requesting that DeVry “annually report to shareholders on the expected ability of students at Company-owned institutions to repay their student loans.” The shareholder proposal, which was submitted by the New York City Comptroller’s Office on behalf of several New York City pension funds, specified particular quantitative and other information to be included in the requested report. DeVry’s no-action request argued that DeVry could exclude the shareholder proposal under Rule 14a-8(i)(7) as relating to DeVry’s ordinary business operations because the proposal implicated decisions concerning product quality. The no-action request identified shareholder proposal precedents relating to the quality of products or services in other industries (such as beverages and banking) and pointed out that, similar to those precedents, the proposal at issue was focused on the quality of DeVry’s educational services. In a response letter dated September 6, 2013, the Staff concurred that the shareholder proposal could be excluded, noting that “the proposal focuses primarily on information the company should provide regarding the quality of its educational services” and that “[p]roposals that concern product quality are generally excludable under rule 14a-8(i)(7).” The Staff’s decision to grant DeVry’s no-action request is notable because the Staff had denied a no-action request earlier this year regarding an identical shareholder proposal submitted to another company. The earlier no-action request had also asserted that the proposal was excludable under Rule 14a-8(i)(7), but its reasoning focused on the proposal’s infringement of the company’s risk assessment practices and compliance with laws rather than on how the proposal implicated the quality of the company’s products or services. The Staff’s concurrence with DeVry’s no-action request highlights the importance of identifying the appropriate issue that may support exclusion of a shareholder proposal, exploring and addressing any precedents and clearly articulating the reasons for which the proposal implicates a particular basis for exclusion.
SEC Proposes Rules Regarding Internal Pay Ratio Disclosure
The SEC today held an open meeting and voted, 3-2, to approve the issuance of proposed rules to implement the internal pay ratio disclosure requirement in Section 953(b) of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”). SEC Chair Mary Jo White and Commissioners Kara Stein and Luis Aguilar voted to propose the rules and Commissioners Daniel Gallagher and Michael Piwowar dissented. Statements made by the Commissioners today regarding the proposal are on the SEC website and available here. The comment period for the SEC’s proposed rules will be 60 days after the proposing release is published in the Federal Register; the proposing release is on the SEC website and available here.
NGOs Release Report on Expectations for Conflict Minerals Reporting
On September 5, 2013, a white paper titled, “Expectations for Companies’ Conflict Minerals Reporting,” was released by two NGOs dedicated to human rights issues, the Enough Project and the Responsible Sourcing Network, describing in detail the expectations and suggestions of certain sustainable and responsible investors, or SRIs, and nongovernmental organizations, or NGOs, for the content of Form SD filings and Conflict Minerals Reports expected to be filed with the SEC next year. The two groups make a number of suggestions that far-exceed the literal requirements of the SEC’s conflict minerals rules. The paper, which is available at www.enoughproject.org/files/Expectations-for-Companies-Conflict-Minerals-Reporting.pdf, suggests that issuers disclose, among other things:
Are Changes to the Audit Report on the Horizon? PCAOB Issues Two Significant Proposals
Today, the Public Company Accounting Oversight Board (“PCAOB”) proposed for public comment two audit standards that, if adopted, would significantly change the audit report model, and dramatically expand the auditor’s responsibilities in reporting on management’s disclosures outside the financial statements. PCAOB Chairman Doty remarked that the proposed standards – running to almost 300 pages – mark a “watershed moment” for auditing in the United States.
U.S. District Court Upholds SEC’s Conflict Minerals Rules
Yesterday, Judge Robert Wilkins of the U.S. District Court for the District of Columbia issued a decision granting the SEC’s motion for summary judgment in a suit challenging the SEC’s conflict minerals rules, which were mandated under the Dodd-Frank Act and issued by the SEC on August 22, 2012. As a result, the conflict minerals rules remain in effect as adopted by the SEC. The parties have not yet indicated whether they will appeal the decision. The National Association of Manufacturers, the U.S. Chamber of Commerce and the Business Roundtable had challenged the rules in October 2012, arguing that the rules are arbitrary and capricious and impose undue costs on companies in violation of the Administrative Procedure Act of 1946 and the Securities Exchange Act of 1934, and compel speech in violation of the First Amendment by requiring companies to make misleading disclosures suggesting that their products promote violence and human rights abuses. Rejecting the petitioners’ arguments, the court found that various aspects of the conflict minerals provision in the Dodd-Frank Act were ambiguous, and it gave deference to the SEC’s judgments, including its determination not to adopt a de minimis exception and to include within the scope of the rules issuers that “contract to manufacture” products containing conflict minerals. In regard to the First Amendment argument, the court gave deference to Congress in light of the foreign affairs aspect of the Dodd-Frank conflict minerals provision. The district court’s opinion is available at https://ecf.dcd.uscourts.gov/cgi-bin/show_public_doc?2013cv0635-37.
Removal of General Solicitation Ban, Bad Actor Disqualification Rules to Become Effective September 23, 2013; Comment Period on Related Proposed Amendments Also to End September 23, 2013
The Commission’s final rules to remove the ban on general solicitation and general advertising in offerings pursuant to Rule 506 of Regulation D under the Securities Act of 1933 (the “Securities Act”) and pursuant to Rule 144A under the Securities Act, and to disqualify felons and certain other “bad actors” from participating in offerings pursuant to Rule 506, were published in the Federal Register today. As a consequence, the final rules will become effective on September 23, 2013.
NYSE Amends Rule on Matters Requiring Shareholder Approval Under NYSE Rules
The New York Stock Exchange (“NYSE”) recently amended its rules to eliminate the quorum requirement that previously applied to proposals that require shareholder approval under NYSE rules. This rule change became effective July 11, 2013.
SEC Approves Final Rules to Permit Advertising in Rule 506 and Rule 144A Offerings; Also Proposes Rules to Add Additional Investor Protections
At an Open Commission Meeting on July 10, 2013, the Securities and Exchange Commission (the “SEC” or the “Commission”) adopted final rules to eliminate the prohibition against general solicitation and general advertising (together, “general solicitation”) in securities offerings conducted pursuant to Rule 506 of Regulation D under the Securities Act of 1933 (the “Securities Act”) and Rule 144A under the Securities Act, as required by Section 201(a) of the Jumpstart Our Business Startups Act (the “JOBS Act”). Rule 506 currently permits an issuer to raise an unlimited amount of capital in a private placement to an unlimited number of accredited investors and up to 35 non-accredited investors provided that the issuer does not engage in general solicitation; it is the most widely used exemption under Regulation D. Rule 144A permits the resale of an unlimited amount of securities in a private transaction to qualified institutional buyers. The Commission approved the rules by a vote of 4-1 with Commissioner Aguilar dissenting.
Corp Fin Updates Compliance and Disclosure Interpretations
On May 16, the Staff of the Division of Corporation Finance updated C&DI’s across topic areas primarily relating to Securities Act practice. This is the first set of updates to the C&DI’s for the Securities Act and its rules and forms since February 2012. The new and revised C&DI’s do not reveal significant shifts in Staff views, but they do include new guidance regarding Rule 144 holding periods and volume limits, use of resale registration statements after private equity line financings, Form 8-K reporting of material impairments and disclosure of non-GAAP financial measures in a company’s compensation discussion and analysis. Following is a summary of the new and revised C&DI’s. Securities Act Forms · In calculating whether the size of a stock and warrants offering exceeds Form S-3 General Instruction I.B.6(a)’s one-third cap, an issuer is required to follow Instruction 2, even when the warrants are not exercisable for common stock within 12 months. (Securities Act Forms Question 116.24) · An issuer may post-effectively amend an automatic shelf registration statement to add more securities of a class already registered, even when the initial registration statement registered the offer and sale of a specified number and class of securities. (Securities Act Rules Question 210.03) · Even if an issuer relies on Rule 430B(b) to omit from a prospectus until after effectiveness “the identities of selling security holders and amounts of securities to be registered on their behalf,” the issuer must disclose the aggregate number of shares registered for resale before effectiveness. (Securities Act Rules Question 228.04) · When a company files a resale registration statement for securities sold in a private equity line financing, the private transaction may be deemed to be “completed” (a factor that must be met for the company to be allowed to register the “resale” of the securities prior to its exercise of the put) despite the lack of a fixed price if (1) the agreement provides for pricing based on a formula tied to market price and (2) there is an existing market for the securities as evidenced by trading on a national securities exchange or through the facilities of the OTC Bulletin Board or the OTCQX or OTCQB marketplaces of OTC Link ATS. (Securities Act Sections Question 139.13) · Although Form S-4 Item 3 does not expressly contemplate incorporation by reference of risk factors, a registrant that is permitted to, and does, incorporate by reference registrant information under either Item 11 or 13 of Form S-4 may also incorporate risk factors from its latest Form 10-K. (Securities Act Forms Question 125.12) Rule 144 · Non-affiliate donees and pledgees of securities that the donor or pledgor acquired in the open market may resell the securities pursuant to Rule 144 without regard to the holding period requirement of Rule 144(d) but subject to the current information requirement in Rule 144(c)(1). (Securities Act Rules Question 129.03 and Interpretation 532.01) · An affiliate’s sales of securities back to an issuer in a private transaction are excludable when calculating the amount of securities that the affiliate may sell under Rule 144. (Securities Act Rules Question 133.07) Regulation D · If an acquiror seeks written consents from a target’s shareholders, which include non-accredited investors, to approve a business combination transaction involving the issuance of securities in reliance on Rule 505 or 506, then financial statement and other information specified in Rule 502(b)(2) must be provided to target shareholders who are non-accredited investors a reasonable amount of time prior to obtaining written consents. (Securities Act Rules Question 256.22) Regulation S-K · Instruction 5 to Regulation S-K Item 402(b) provides that the rules governing non-GAAP financial measures do not apply to target levels (for compensation purposes) that are non-GAAP financial measures, other than to disclose “how the number is calculated from the registrant’s audited financial statements.” This Instruction applies not only to the target levels but also to the actual results of the non-GAAP financial measure used as a target. (Regulation S-K Question 118.09) · In an IPO, a price range in excess of $2 for offerings up to $10 per share, or in excess of 20% of the high end of the range for offerings over $10 per share, will not be considered a “bona fide estimate of the range of the maximum offering price” for purposes of Instruction 1 to Regulation S-K Item 501(b)(3). Also, “[i]f an auction clearing price will be used as the primary factor in establishing the final offering price, a price range in excess of $4, for offerings up to $20 per share, or in excess of 20% of the high end of the range, for offerings over $20 per share, will not be considered bona fide.” (Regulation S-K Question 134.04) · Although Regulation S-K Item 601(b)(101)(i) requires an interactive data file “only if the registration statement contains a price or price range,” “registration statements for shelf offerings, at-the-market offerings, exchange offers and secondary offerings must comply with the interactive data filing requirement even though they generally do not include a specific offering price at the time of effectiveness, unless the financial statements are incorporated by reference into the registration statement” (emphasis added). (Regulation S-K Question 146.17) Exchange Act Form 8-K · An impairment conclusion that is made at a time that coincides with the preparation, review or audit of financial statements for the next periodic report, even if not made “in connection with” such preparation, review or audit, does not trigger an Item 2.06 Form 8-K. (Exchange Act Form 8-K Question 110.01)