In November 2014, and further amended in February 2015, FINRA announced a comprehensive revision of the equity research rule currently numbered as NASD Rule 2711 and proposed a debt research rule modeled on the equity research rule. The equity research rule would be numbered FINRA Rule 2241 and the debt research rule would be numbered FINRA Rule 2242. The amended rule proposals can be found here: SR-FINRA-2014-047 (equity) and SR-FINRA-2014-048 (debt). The structures of the two rules are very similar but there are important differences. To guide your analysis of the two rules, here is a link to a line-by-line comparison of the two rules.
Last week, in connection with the meeting of the SEC’s Advisory Committee on Small and Emerging Companies, both Commissioner Aguilar and Commissioner Gallagher expressed interest in, and support for, a more thorough assessment of the utility of venture exchanges as a means of promoting capital formation. Later in the week, speaking on the West Coast at Stanford Law School, Commissioner Stein also addressed venture exchanges and indicated her support for a concept release from the SEC regarding venture exchanges. Tomorrow, the Subcommittee on Securities, Insurance and Investment of the Senate Committee on Banking, Housing and Urban Affairs will conduct a hearing on “Venture Exchanges and Small-Cap Companies.” Stephen Luparello, the Director of the SEC’s Division of Trading and Markets, is scheduled to testify. Additional information regarding the hearing and the testimony (when posted) is available here: http://www.banking.senate.gov/public/index.cfm?FuseAction=Hearings.Hearing&Hearing_ID=68652d9f-3c34-4620-a9ec-58740e3a4750.
Commissioner Stein also raised the possibility of “regional exchanges.” In her remarks, she noted that, “Some view regional exchanges as a possible way to help to increase secondary market liquidity for smaller companies.” Once upon a time, we had several regional exchanges.
This voyage back to the future might well seem more appropriate once the SEC actually completes the rulemaking required of it by the JOBS Act. In terms of facilitating liquidity, it would seem that a simpler and more immediate approach would be to address in its final Regulation A+ rules a means of consummating a Tier 2 Regulation A+ offering and effecting a concurrent listing of securities on an existing national securities exchange without the added requirement to prepare and file a Form 10.
The Committee discussed: Regulation A+; secondary market trading for private securities; venture capital exchanges; and the accredited investor definition. The presentation materials are available from the SEC website at http://www.sec.gov/info/smallbus/acsec.shtml.
In the introductory remarks made by Commissioner Gallagher, he emphasized the importance of taking steps in order to promote liquidity in the market for private securities. Gallagher noted that the SEC “can increase the ability of an investor to exit his or her investment in these markets and decrease the illiquidity discount of the investment, and [the SEC] can enhance oversight of and transparency into issuers, thereby promoting investor protection. And that in turn will increase investors’ willingness to participate in the primary issuance of securities, which enhances capital formation for these small companies that are the lifeblood of our economy.” Many companies are choosing to remain private longer and, as a result, raising capital in private offerings. Although several platforms have developed that provide a venue for transacting in sales/resales of restricted securities, a number of impediments remain that hamper further growth. AnneMarie Tierney of SecondMarket provided an overview of a number of the most significant issues (see: http://www.sec.gov/info/smallbus/acsec/slides-acsec-meeting-030415-secondary-trading-tierney.pdf). A codification of the Section 4(a)(1-1/2) exemption certainly would address many of the issues.
Both Commissioner Gallagher and Commissioner Aguilar addressed the potential benefits associated with the development of venture exchanges. Commissioner Aguilar suggested that a venture exchange that is limited to smaller cap companies may provide a secondary market. However, he cautioned that prior experiences with venture exchanges were not successful and therefore any initiative should take into account the difficulties encountered by these exchanges.
The Committee considered and discussed the Regulation A+ proposed rule and heard from a NASAA representative regarding the multi-state coordinated review for Regulation A offerings.
Finally, the Committee considered the “accredited investor” definition and, essentially, recommended a “do no harm” approach, including avoiding changes that would have the effect of excluding retirement assets or otherwise limiting the investor universe.
Morrison & Foerster is pleased to share with our clients and friends the 2015 Proxy Season Field Guide. The 2015 proxy season occurs in an environment of heightened shareholder activism and an ever-increasing focus on compensation and corporate governance disclosures. This Proxy Season Field Guide provides you with an overview of recent legislative, regulatory and shareholder developments, and provides guidance on how these developments will impact you in the 2015 proxy season.
The SEC’s advisory committee will meet this Wednesday to discuss and address means of promoting secondary market liquidity for the securities of small and emerging companies, including addressing the Section 4(a)(1-1/2) exemption, as well as to vote on a recommendation regarding the “accredited investor” definition. The session will be webcast and available from the SEC’s website. The full agenda is available here: http://www.sec.gov/news/pressrelease/2015-41.html#.VPTlA010yFg.
On February 20, 2015, several representatives from the SEC spoke at the Practising Law Institute’s program titled “SEC Speaks in 2015,” including Chair Mary Jo White and Commissioner Louis A. Aguilar. Ms. White provided highlights from 2014, including significant rulemaking (e.g., Regulation SCI, reforms related to money market funds, over-the counter derivatives, asset-backed securities and credit rating agencies, additional Title VII requirements, rules regarding clearing agency oversight, and rules requiring hedging policy disclosure) and significant increases in enforcement proceedings and registrant examinations. Ms. White also highlighted three core initiatives for the SEC for 2015: (1) enhancing market structure; (2) strengthening asset managers; and (3) facilitating capital formation for smaller issuers. In his remarks, Mr. Aguilar also described the SEC’s priorities for 2015, which include:
- completing the remaining rulemaking required under the Dodd-Frank Act, particularly rulemaking relating to derivatives regulation and corporate governance;
- continuing the implementation of various provisions of the JOBS Act for facilitating the ability of smaller businesses to access the capital markets, particularly the adoption of final rules regarding Regulation A+ and crowdfunding and amending Regulation D to mitigate the risks posed to investors involved in general solicitations; and
- bringing more enforcement cases to send a stronger message of deterrence.
In addition, Mr. Aguilar emphasized certain macro principles with respect to the implementation of various provisions of the JOBS Act, including: (1) the nature and experience of the investor; (2) the type of information necessary to permit investors to make informed investment decisions; (3) the overall regulatory environment, particularly the role of state securities regulators; and (4) the secondary trading environment and whether investors will be able to sell securities in a fair, liquid and transparent market. Finally, Commissioner Kara M. Stein and Investor Advocate Rick A. Fleming discussed disclosure reform and making data both layered and structured in order to enhance disclosure and provide greater transparency for investors.
The speeches of the SEC representatives, including Ms. White and Mr. Aguilar, are available on the SEC’s website at http://www.sec.gov/news/speeches.
Earlier this month, the UK’s Financial Conduct Authority published a paper, “A review of the regulatory regime for crowdfunding and the promotion of non-readily realizable securities by other media” (you may access the paper here: http://www.fca.org.uk/static/documents/crowdfunding-review.pdf), which provides a post-implementation review of the market following the April 2014 effective date of regulations. For 2014, the report notes that loan-based crowdfunding grew almost three-fold from 2013 to 2014, reaching approximately GBP 1.3 billion in loans. Small business loans comprised the majority of the market. Equity crowdfunding remains smaller, though it is growing rapidly. The report notes approximately 200% growth from 2012 to 2014, with nearly GBP 84 million raised in 2014. The report comments on the FCA’s market supervision, noting the FCA’s registration process and its review of websites used by crowdfunding platforms. The website and advertising review highlights a number of recurring issues, such as a lack of balanced disclosure, insufficient or misleading information, cherry picking of information, etc. The report concludes that despite these deficiencies, the FCA does not see a need to change its regulatory approach and will continue to monitor the fast-growing market. The regulatory approach and the findings related to communications may be instructive to state regulators in the United States who have moved forward with crowdfunding regulations in their states.
The SEC recently proposed amendments to require disclosure of whether employees and directors of public companies are permitted to hedge or offset any decrease in the market value of equity securities granted to them as part of a stock-based compensation plan or that are held by them. The proposed amendments were necessary in order to implement Section 14(j) of the Exchange Act, as required by Section 955 of the Dodd-Frank Act. In its proposing release, the SEC indicates that it intends to apply the disclosure requirement to smaller reporting companies and EGCs. The release notes that consideration was given to exempting or delaying the application of the proposed amendments for EGCs.
In the analysis of costs and benefits, the proposing release notes that employees and directors of EGCs potentially face greater downside price risk than those of non-EGCs, thereby making disclosures relating to hedging activities by employees and directors more valuable to shareholders and potential investors. The analysis also estimates that the compliance costs for EGCs than for seasoned issuers (already preparing Compensation Disclosure & Analysis sections and complying with more rigorous executive compensation disclosure requirements) will be higher. For example, the release notes that EGCs may incur costs associated with formulating hedging policies for the first time and preparing required related disclosures.
The proposed rule is subject to a 60-day comment period. The final rule will detail the fiscal year in which issuers must begin to comply with the requirements of Section 14(j) of the Exchange Act.
In a recent paper titled “Analyst Research Quality and the JOBS Act: Effects of Increased Pre-IPO Communication” Michael Dambra (University of Buffalo), and Laura Field, Matthew Gufstafson, and Kevin Pisciotta (Penn State University) examine the effect of the JOBS Act on equity research. The paper concludes that the JOBS Act “increases permissible pre-IPO interactions between research analysts and investors, investment bankers, and management.” It is not clear from the paper how or why the interactions have changed. The authors conclude that in the post-JOBS Act period, research distributed by analysts affiliated with the IPO underwriters has become less accurate and more optimistic relative to their unaffiliated counterparts. Post-JOBS, affiliated reports are also accompanied by muted market reactions and larger price increases prior to the end of the quiet period when most affiliated analysts initiate coverage. The paper may be downloaded here: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2530109.
Peer-to-peer, or person-to-person, lending (“P2P lending”) is a type of crowdfunding that involves the facilitation of loan originations outside of the traditional consumer banking system by connecting borrowers directly with lenders, or investors, through an Internet platform. P2P lending’s use of Internet platforms reduces costs by eliminating many operational expenses associated with traditional consumer bank loans, such as the cost of maintaining and staffing physical branches. Some cost savings are passed along to borrowers through lower interest rates than those offered by traditional banks. P2P lending platforms may be subject to certain consumer banking and related regulations, and the funding side of P2P lending platforms is subject to SEC regulation. For more information about P2P lending, how it works, current regulations and considerations, see our client alert, “P2P Lending Basics: How it Works, Current Regulations and Considerations,” available at http://www.mofo.com/~/media/Files/UserGuide/2015/150129P2PLendingBasics.pdf.