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83-67 Proposed Amendments to the Corporate Financing Rule Proposed Amendments to Section 26 of the Rules of Fair Practice
I M P O R T A N T
Officers * Partners * Proprietors
TO: All NASD Members
Last Voting Date is January 9, 1984
Attached are amendments regarding two separate issues which are being submitted to the membership for a vote. The first issue is that of amendments to the proposed Corporate Financing Rule filing requirements which would exempt from those requirements all debt and equity securities registered with the Securities and Exchange Commission on Registration Statement Form S-3. The proposed exemption would replace the present NASD exemptions for debt rated "B" or better by a recognized rating service and for debt and equity offerings registered on a Form S-3 and distributed pursuant to Rule 415.
On May 27, 1983, the Association requested comments on the amendments to the proposed Corporate Financing Rule filing requirements. (Notice to Members 83-25). The proposed amendment was approved by the Association's Board of Governors on July 15, 1983, and now requires approval by the membership. If approved, it must be filed with and approved by the Securities and Exchange Commission pursuant to Section 19(b) of the Securities Exchange Act of 1934, as amended. The background and details of the amendment are discussed below (Exhibit A). The text of the proposed amendments is attached to this notice (Exhibit B).
The second issue requiring a membership vote is that of proposed amendments to Article III, Section 26 of the Rules of Fair Practice. The proposed amendments to subsection (k) of Section 26 are purely technical in nature and have no material effect on the standards contained in the rule. They represent language clarifications requested by the staff of the Securities and Exchange Commission in connection with the Commission's approval of prior amendments. The text of the proposed amendments is also attached to this notice (Exhibit C).
Should the proposed amendments be approved by membership vote, they must be filed with and approved by the Securities and Exchange Commission pursuant to Section 19(b) of the Securities Exchange Act of 1934, as amended.
Gordon S. Macklin
CORPORATE FINANCING RULE
The Interpretation of the Board of Governors — Review of Corporate Financing ("Corporate Financing Interpretation") under Article III, Section 1 of the Rules of Fair Practice (NASD Manual (CCH) Para. 2151) requires that most public offerings of debt and equity securities which involve member participation be filed with the Association for a review of the underwriting terms and arrangements. Historically, the Association, through its filing requirements, has tried to identify offerings in which review of the underwriting terms and arrangements would be most meaningful. In the past, certain types of offerings have been exempted from the filing requirements where market forces or other constraints were present to assure the fairness and reasonableness of underwriting terms and arrangements, including specifically the amount of underwriting compensation.
In Notice-to-Members 83-24 (May 19, 1983), the Association submitted to the membership for vote a new Corporate Financing Rule which, when approved by the SEC, will replace the Corporate Financing Interpretation. Sections (c)(3)(D) and (F) of the Corporate Financing Rule exempt from the filing requirements debt rated "B" or better by a recognized rating service and securities registered as part of a "shelf" registration on Form S-3 issued by a registrant which meets the requirements of Form S-3 as those requirements were in effect on March 1, 1983.
The exemption for offerings of debt securities rated "B" or better by a recognized rating service reflects the nature of the debt market during the late 1960's when the filing requirements were developed. At that time, most outstanding debt was rated "B" or better. There was a small amount of debt rated below "B" which was of significantly lesser quality.
The exemption for securities registered on a Form S-3 and distributed pursuant to Rule 415*/ is an extension of prior policy which provided an exemption for "shelf" offerings registered on a Form S-16 which do not involve an underwriting agreement. The current exemption reflects a determination that, irrespective of whether the securities are sold in normal brokerage transactions or pursuant to an underwriting agreement, market pressures in connection with "shelf" offerings result in the amount of underwriting compensation being determined through a virtual competitive bidding process which helps to achieve its reasonableness. Even in "shelf" offerings which eventually include a traditional underwriting agreement, the Association believes that the competitive pressures which come into play in the negotiations preceding the execution of that agreement can usually be relied upon to achieve the overall fairness of the arrangement.
Recently, the Association reexamined its filing requirements in light of the adoption by the SEC of the Form S-3 eligibility criteria. Form S-3 is the most streamlined of SEC registration statement forms and permits issuers to incorporate by reference substantial amounts of information from annual reports and other periodic filings. The Commission devoted substantial resources to identifying those securities and issuers which were widely followed and subject to sufficiently meaningful market forces as to assure that adequate information was readily available in the marketplace.
To use Form S-3, both the registrant and the transaction must meet specified qualifications. Form S-3 may be used by a U.S. registrant which has been a reporting company for 36 months prior to the filing, and has made timely filings for 12 months preceding the filing date. In addition, neither the registrant nor its subsidiaries may have defaulted in the payment of required dividends or any material obligations since the end of its last audited year.
Form S-3 may be used for primary offerings of such registrants which have outstanding voting stock held by non-affiliates with an aggregate market value of $150 million, or alternatively, $100 million aggregate market value and annual trading volume of three million shares. Primary offerings by qualified registrants of "investment grade" non-convertible debt and preferred securities may also be registered on Form S-3. Investment grade debt is defined as those securities rated by a nationally recognized statistical organization in the four highest categories (e. g. "AAA" through "BBB" by Standard & Poor's and "Aaa" through "Baa" by Moody's). Secondary offerings of outstanding securities by any person other than the issuer may be registered on Form S-3 if the securities are quoted on NASDAQ or listed on a national securities exchange. Finally, rights offerings, dividend and interest reinvestment plans, and offerings of securities upon conversion and the exercise of warrants may be registered on Form S-3.
Having observed the operation of the integrated disclosure system for over a year, the Corporate Financing Committee and Board of Governors have concluded that it is appropriate to amend the NASD filing requirements to reflect the new structure of SEC registration requirements.
EXPLANATION OF PROPOSED AMENDMENTS
The proposed amendments significantly alter present NASD filing requirements for both debt and equity securities. With respect to equity offerings, i.e. offerings which have any attribute of equity ownership, the number of offerings which would be required to be filed would be substantially reduced. Currently, most equity offerings are required to be filed with the Association, except where the offering is being made pursuant to Rule 415. Under the proposed amendment, the current exemption for equity offerings registered on a Form S-3 and distributed pursuant to Rule 415 would be eliminated. In its place, the Association is proposing that an exemption for all equity offerings registered with the SEC on Form S-3 (or an equivalent successor form) be adopted. As explained above, primary offerings of equity securities can generally be registered on Form S-3 when the issuer has outstanding voting stock held by non-affiliates with an aggregate market value of $150 million or such stock has an aggregate market value of $100 million and a trading volume of three million shares. The market value and trading volume requirements are inapplicable to preferred offerings, rights offerings, dividend and interest reinvestment plans and offerings upon conversion and the exercise of warrants.
With respect to debt offerings, i.e. offerings with no equity characteristics, the proposed amendments would require a greater number of such offerings to be filed than at present. Pursuant to the proposed amendment, the present exemptions for debt rated "B" or better and "shelf" offerings of debt registered on a Form S-3 would be eliminated. In its place, an exemption for all debt registered on Form S-3 (or an equivalent successor form) would be adopted. Generally speaking, therefore, debt instruments rated "B", or "BB" by Standard and Poor's and "B" or "Ba" by Moody's would become subject to NASD filing requirements. In today's market, the nature of debt instruments is significantly different than that which existed when the filing requirements were developed in the late 1960's. There has been a proliferation of types and levels of quality debt. The Corporate Financing Committee concluded, therefore, that it is appropriate to subject these instruments to review by the Association to assure the fairness and reasonableness of their overall underwriting terms and arrangements.
In recommending the proposed amendments, the Corporate Financing Committee concluded that competitive market forces which ordinarily affect a public offering by an issuer qualified to use Form S-3 are effective in assuring that the underwriting terms and arrangements generally are fair and reasonable. In addition, the Committee noted that rapid access to the marketplace has become increasingly critical for certain issuers and that such access has been facilitated by SEC policies which permit offerings to become effective without detailed review. The Association has long been committed to expediting its review of offerings where rapid market access was critical. It is therefore appropriate that the Association take steps to assure ready access to the marketplace so long as investor protection is assured.
It is important to note that the proposed amendments relate only to filing requirements and do not constitute exemptions from the substantive requirements of the Corporate Financing Interpretation or the proposed Rule. Members will still be expected to assure compliance with those requirements in any offerings in which they participate. Additionally, the proposed exemptions relate only to filing requirements under the proposed Corporate Financing Rule; these exemptions do not extend to offerings which are subject to Schedule E to Article IV, Section 2 of the NASD By-Laws concerning offerings by members of their own securities or those of affiliates.
The text of the proposed amendments is attached.
PROCEDURES FOR ADOPTION OF RULE
The authority for this proposal is contained in Section 15A of the Securities Exchange Act of 1934, as amended (15 U.S.C. 78o-3), and Article VII of the Association's By-Laws.
Text of Proposed Amendment*/
Subsection (c): Filing Requirements
No member or person associated with a member shall participate in any manner in any public offering of securities unless documents and information as specified herein relating to such offering have been filed with and reviewed by the Association for compliance with this section. For purposes of this section, participation in a public offering shall include participation in the preparation of offering or other documents, participation in the distribution of the offering on an underwritten, non-underwritten or any other basis, or participation in any advisory capacity related to the offering.
* * *
The provisions of paragraph (1) notwithstanding, documents and information shall not be required to be filed with respect to offerings of the following types of securities:
Below are technical amendments which will have no substantive effect on Article III, Section 26. The proposed changes are merely in conformance with the Commission's request for language changes.
Proposed Amendments to Article III, Section 26(k) of the Rules of Fair Practice
(additions underlined; deleted material in brackets)
Execution of Investment Company Portfolio Transactions
*/ The Association recently clarified the filing requirements with respect to "shelf" offerings registered on a Form S-3 in Notice-to-Members 83-12 (March 8, 1983).