December 23, 2020
Rule 144: SEC Proposes to Tackle Toxic Tacking
Yesterday, the SEC announced a proposal to amend the provisions of Rule 144(d) to prohibit “tacking” of certain market-adjustable convertible or exchangeable securities. The proposal would also modify and update the filing requirements for Form 144. (Here’s the 84-page proposing release.) This excerpt from the SEC’s press release summarizes the proposed changes to Rule 144’s tacking rules:
The proposal would amend Rule 144(d)(3)(ii) to eliminate “tacking” for securities acquired upon the conversion or exchange of the market-adjustable securities of an issuer that does not have a class of securities listed, or approved to be listed, on a national securities exchange. As a result, the holding period for the underlying securities, either six months for securities issued by a reporting company or one year for securities issued by a non-reporting company, would not begin until the conversion or exchange of the market-adjustable securities.
“Market-adjustable” conversion provisions are a common feature of “toxic” or “death spiral” securities. Instead of a pre-established conversion rate, the securities are issued with a conversion rate that represents a discount to the market price of the underlying securities at the time of conversion. If there’s no cap on the number of shares that may be issued or floor on the conversion price, the market adjustment feature means that the number of shares issuable upon conversion may be enormous.
Currently, holders of convertible securities are allowed to tack their holding periods for the securities held pre- and post-conversion for purposes of calculating their eligibility to resell under Rule 144 period. As this excerpt from the proposing release points out, the SEC thinks that’s a problem for market-adjustable securities:
If the securities are converted or exchanged after the Rule 144 holding period is satisfied, the underlying securities may be sold quickly into the public market at prices above the price at which they were acquired. Accordingly, initial purchasers or subsequent holders have an incentive to purchase the market-adjustable securities with a view to distribution of the underlying securities following conversion to capture the difference between the built-in discount and the market value of the underlying securities.
The SEC thinks these sellers look a lot like statutory underwriters, and proposes to remove this incentive by amending Rule 144(d)(3) to preclude tacking in the case of unlisted market-adjustable securities. Why distinguish between these securities and listed securities? According to the release, the answer is that the NYSE & Nasdaq listing rules put a cap on the amount of shares that may be issued without shareholder approval, which limits the ability of a company to issue market-adjustable securities & reduces the concerns of an unregistered distribution.
The SEC also proposes to tweak the filing requirements for Form 144. If adopted, the rules would require a Form 144 to be filed electronically, but the filing deadline would be changed so that the Form 144 could be filed concurrently with a Form 4 reporting the transaction. Rule 144 transactions involving securities of non-reporting companies would no longer require a Form 144 filing. The proposal also would amend Forms 4 and 5 to add an optional check box to indicate that a reported transaction was made under a Rule 10b5-1 plan.
Direct Listings: SEC Approves NYSE Proposal
Let’s see, where were we on the NYSE’s direct listing proposal? Oh yeah, last August, the SEC approved the proposed rule, but shortly thereafter, it stayed the rule in response to a petition for review filed by the CII. Yesterday, the SEC lifted that stay and approved the rule. In doing so, it rejected arguments that the direct listing proposal circumvented traditional due diligence processes & created a potential “end run” around Section 11 liability.
So, will this fundamentally change the IPO process as we know it? Probably not. Sure, there will always be the high-name recognition Unicorns like Palantir that may find a direct listing to be an attractive option – particularly now that primary shares may be offered. But most IPO candidates aren’t well known & need Wall Street to play its traditional role in the process.
CF Disclosure Guidance: SPACs
Looking very much like an agency that wants to get everything off its desk before the Christmas holiday, the SEC capped off a busy afternoon yesterday with Corp Fin’s issuance of new disclosure guidance. CF Disclosure Guidance Topic: No. 11 provides Corp Fin’s views regarding disclosure considerations for SPACs in connection with both their IPOs & subsequent de-SPAC transactions.
– John Jenkins