As 2016 unfolds, capital markets attorneys will be closely watching how regulatory and legislative changes intended to achieve long-promised goals of streamlining capital raising for smaller companies, many of which were crammed into a $305 billion highway bill in late 2015, play out in the new year.
Among them is an ambitious, long-term proposal to streamline the entire disclosure system for public companies reporting to the U.S. Securities and Exchange Commission, known as Regulation S-K, that won’t take shape until well into 2016. Meanwhile, tweaks to the Jumpstart Our Business Startups Act, sometimes dubbed JOBS Act 2.0, designed to ease burdens on early-stage public companies, went into effect in December. So did a related plan to ease the resale of private, restricted securities that could make investing in pre-public companies more attractive.
Also in December, the Financial Industry Regulatory Authority proposed a rule easing requirements on “capital acquisition brokers” that mainly engage in advising private placements and private mergers and acquisitions, adding another item to the watch list for capital markets attorneys.
Here, Law360 breaks down the developments and examines what attorneys are looking for in 2016.
Congress is urging the SEC to modernize and simplify Regulation S-K, the Securities Act of 1933 regulation that lays out SEC reporting requirements for public companies from S-1 registration statements to ongoing quarterly and annual reports and other updates. Like the JOBS Act-related items, the matter was attached to the highway funding bill, known as the FAST Act.
Kirkland & Ellis LLP partner Joshua Korff described the outline by Congress as broad but said it will merit close watching once specific rule-making proposals come from the SEC.
“S-K is certainly long overdue for a refresher,” Korff said. “The devil is in the details, obviously. Hopefully, it will be a well-thought-out approach.”
The legislation calls for the SEC within about six months from enactment on Dec. 4 to revise Regulation S-K in ways that “further scale or eliminate” requirements on emerging growth companies and other small issuers while eliminating provisions found duplicative or outdated for all issuers.
The bill also calls on the SEC to complete a study and make recommendations on how to streamline and modernize regulation S-K by late 2016.
Among items Congress wants the SEC to include in its report are ways to emphasize a “company-by-company” approach to disclosure requirements that avoids boilerplate language and ideas to improve the readability and navigability of disclosure documents. Congress also wants the SEC to propose a rule implementing the study’s recommendations.
Olshan Frome Wolosky LLP partner Spencer Feldman said such a paring-down would be welcome.
“Just like the Internal Revenue Code, over the years, Reg S-K gets bulky,” Feldman said. "Every year, Congress and the SEC bolt on more and more. At some point, you need to modernize and simplify it.”
SEC Chair Mary Jo White said in a recent speech that the Division of Corporation Finance has begun review of Regulation S-K and the closely related Regulation S-X, which sets requirements for financial statements. White said the SEC issued a request in September for comment on certain Regulation S-X requirements, and she expects further output in 2016 on Regulation S-K. Capital markets attorneys will be following developments.
"To the extent we streamline disclosure requirements for emerging growth companies and smaller reporting companies, I think that is going to contribute to the willingness of companies to access the public markets," Skadden Arps Slate Meagher & Flom LLP partner Stacy Kanter said.
“JOBS Act 2.0”
The FAST Act also contained a raft of measures aimed at upgrading the JOBS Act, which was enacted in 2012 to encourage more smaller companies to go public by loosening various disclosure requirements and regulations that apply to traditional public companies. The changes apply to “emerging growth companies,” defined as those having annual revenue under $1 billion.
In an attempt to speed up IPOs, the legislation shortened the window by which EGCs filing confidential submissions must publicly disclose plans before launching a road show from 21 days to 15 days.
The revision also provides a more flexible time frame for how companies submit audited financial statements. Currently the JOBS Act requires EGCs to submit two years of audited statements, compared with three years for traditional companies.
Under the change, EGCs no longer need to immediately submit two years of audited financials so long as they update their registration statement by the time they distribute a preliminary prospectus to investors. This means a company that filed in late in 2015 but did not expect to price its IPO until well into 2016 would not need to submit an audited statement for 2013 as long as the company later amends its registration statement to include 2014 and 2015 financials.
Feldman said the new provision eases the burden on the smaller companies that make up the bulk of his clients.
“You have just automatically saved IPO issuers $50,000 to $100,000 by not having to file an audit that’s ultimately not going to be needed,” Feldman said. “That's huge."
The JOBS Act also provides a grace period allowing a company to maintain its EGC status, and thus be able to take advantage of the law’s benefits, even if its revenue passes $1 billion by the time it completes its IPO. The extension is valid for up to one year after the company’s revenue exceeds $1 billion.
Resale of Private Securities
Separately, the FAST Act formally enables nonissuers to privately resell restricted securities under certain conditions, a change that could increase investments in pre-IPO companies.
The legislation details terms for the exemption under a new Section 4(a)(7), which replaces an informal exemption known as Section 4(a)(1½) that bridged two other sections of the law but required jumping through many legal hoops and was widely considered onerous.
Section 4(a)(7) allows nonissuers to sell restricted, private shares to accredited investors so long as they don’t use general solicitation, or advertising, and meet other requirements. Attorneys say the more clearly codified exemption could stimulate investment in early-stage companies by improving liquidity to owners of those securities, such as employees or venture capital investors.
"If investors see that liquidity is increased on the back end then they are more likely to get in on the investment in the first place,” Dechert LLP partner Kris Brown said. “If investors have this means of certainty on how to get out, they may be willing to take more risks going in.”
New Rules Proposed for Capital Acquisition Brokers
While Congress was streamlining the JOBS Act, FINRA in December proposed a rule change to the SEC that could ease regulatory burdens on broker dealers that mainly advise private placements and private mergers and acquisitions,
The self-regulatory agency is pushing a separate rule set that would apply streamlined supervisory and conduct rules to firms that meet the definition of a “capital acquisition broker," Such entities are now generally registered as broker-dealers and face the same compliance obligations as full-service brokers such as Charles Schwab or Fidelity that handle customer accounts and trade customer securities.
Under the FINRA proposal, firms that limit their activities those under the definition of a capital acquisition broker, such as advising companies on mergers and acquisitions or advising equity and debt issuers on raising capital in private placements with institutional investors, could elect to be governed by less burdensome rules that apply to broker-dealers.
If the SEC approves the proposal, capital acquisition brokers would no longer have to conduct annual compliance meetings, nor would the chief executive of a CAB be required to annually certify the firm's compliance program. FINRA estimates that the number of member firms that meet the CAB definition would range from 650 to 750.
Day Pitney LLP partner Eliza Fromberg said CABs would still face a considerable compliance regime, but this measure moves things in the right direction.
“It is a first step," Fromberg said. "It's a welcome modification of these rules in recognition of the changes in the broker-dealer business model and changes in the security industry more generally.”
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