I. Exchange Act Reporting Proposals

The Release sets forth a proposal to amend the eligibility requirements for use of Form S-8 so that an issuer would only be eligible to register securities on the form if the issuer has filed reports under Section 13(a) or 15(d) of the Securities Exchange Act of 1934 in a timely manner. In the case of a private company that has merged into a public company with "nominal assets" (a public "shell"), the combined entity would not be eligible to register securities on

Form S-8 until it had filed an annual report on Form 10-K (or 10-KSB) showing audited financial statements for the combined entity.

A. Timeliness

According to the Release, the purpose of the proposed timeliness requirement is to deter abuses in the use of Form S-8. We do not believe that a penalty for failure to file timely reports under the Exchange Act would have any deterrent effect at all on companies that inappropriately use Form S-8 to accomplish a distribution to the general public. We also do not believe that failure to file timely reports is an indication that an issuer is attempting to include in a Form S-8 securities issued to consultants and advisers in capital-raising or promotional contexts. Rather, a late report may reflect inattention or lack of sufficient resources, or it could be for justifiable reasons or be indicative of an attempt to produce higher quality disclosure (which should be encouraged). Although we understand that some of the Form S-8 abuse cases brought to the Commission's attention in the past have also been characterized by untimely filings, we do not believe that the two problems are sufficiently related to justify the proposed penalty on all issuers. The abuses in question were more appropriately addressed in the amendments to

Form S-8 and Rule 401(g) under the Securities Act adopted earlier this year (see Release 33-7646). Under those amendments, the circumstances under which securities may be issued to consultants and advisers under Form S-8 were limited in capital-raising and promotional contexts. Issuers are now explicitly precluded from including in a Form S-8 shares issued to consultants or advisers for promoting the issuer's securities. Further, the presumption that an issuer has registered securities on the correct form no longer applies to a registration statement, such as one on Form S-8, that is effective upon filing with the SEC. As a result, the SEC is now empowered to challenge the improper use of the Form long after the securities have been issued, which should have the effect of deterring aggressive interpretations of the eligibility rules.

1. The Proposal

The proposed timeliness requirement would apply to post-effective amendments as well as new filings. Our understanding is that this would work as follows: if, for example, an issuer filed a report on Form 10-Q late, it could continue to use the outstanding Form S-8 until the report on Form 10-K was due, at which time the Form S-8 would normally be post-effectively amended under Section 10(a)(3) of the Securities Act. Since the issuer would not, at that time, satisfy the 12-month timeliness standard, it would be barred from using the Form S-8 until it had established a 12-month track record of timeliness, which may take less than 12 months from the due date of the Form 10-K, depending on when the late reporting occurred. The logical alternative would be to register the exercise of outstanding options or other sale to employee plan participants on Form S-3, with the attendant opportunity for SEC review. However, the untimely filings would also disqualify the issuer from using Form S-3. Although there would be circumstances in which it would be appropriate for the SEC to grant waivers, as it has with respect to Form S-3 in the past, we do not believe that it is a good policy to regulate by waiver.

The only alternative would be to take the highly impractical step of attempting to use a registration statement on Form S-1 to cover equity compensation plans. Otherwise, the issuer would have to suspend the exercisability of all outstanding options covered by a Form S-8 registration statement. As a matter of contract law, this may place the issuer in breach of an obligation. Employees whose options expired during this time could lose a significant benefit, for reasons over which they had no control. The incentive value of the equity compensation program would be lost.

The result would be especially awkward in the case of an employee stock purchase plan under Section 423 of the Internal Revenue Code. In that case, the issuer would have to suspend payroll withholding and return previously withheld amounts, only to reinstitute the plan several months later. We believe that this represents an undue penalty that may well fall inappropriately on rank and file employees, who have no control over the timing of SEC filings.

By contrast, failure to meet the current timeliness standards in the context of Form S-3 results in a penalty that directly affects the issuer itself (in the case of a primary offering) or its significant shareholders (in the case of a secondary offering). Thus, the penalty in the case of the Form S-3 more directly affects the persons responsible for the late filings. However, the penalty is not ultimately as severe in the case of an S-3 as it would be under the proposed amendments toForm S-8. In the case of the issuer that is temporarily precluded from using Form S-3 to raise capital, a private venture financing is an alternative. In the case of a selling shareholder, Rule 144 may be available (assuming the issuer has caught up on its Exchange Act reports) to cover resales once the applicable holding period has been met.

We therefore believe that the timeliness proposal unduly penalizes the innocent employee participants in a legitimate employee benefit plan and would inappropriately penalize issuers who may be late in a filing for legitimate reasons (e.g., difficulty in obtaining required financial statements).

2. Alternatives

We do not believe that any of the alternative formulations of the penalty for late filings suggested by the Commission would present workable solutions, because the penalty would still fall inappropriately on employees and would not deter the abuses sought to be curbed. Further, in the case of a formulation that only applies the penalty to smaller, less seasoned issuers, the penalty would disproportionally fall on small business issuers.

a. Limiting Which Reports Would Trigger the Penalties

You asked whether it would be preferable if the penalties only applied if the annual report on Form 10-K or 10-KSB were late, rather than if any of the other reports were late. Although it would be better to limit the number of ways that a good faith issuer could trip up, this alternative only presents a quantitative difference (fewer chances for inadvertent disqualification), not a qualitative one (it does not address the source of our concerns). In fact, this variation would create the harshest penalty because the issuer would be disqualified from using Form S-8 for the longest period of time (a full year) with the least warning (because, unlike the case of other late reports, the effects on availability of Form S-8 would take effect immediately). The effect on employees is the same as described above, so we do not view this as a workable solution.

b. Limitation to Certain Public Companies

You asked whether it would make sense to limit the application of the penalties for untimely reporting to companies that might be more likely to abuse Form S-8.

One alternative suggested in the Release would be to apply the timeliness requirement only to companies whose securities are not listed on a major exchange such as the New York Stock Exchange or the American Stock Exchange or on a trading market such as the Nasdaq National Market. If the SEC's concern is with the quality of information available to the trading markets, then the basis for making such a distinction would be that these exchanges and markets (which should include the Nasdaq Small Cap Market) are in a better position to monitor abuses that affect the trading markets.

There are two sets of standards that could serve as the basis for treating companies that meet the standards for listing and continued inclusion on these markets more favorably. Among the quantitative maintenance requirements are requirements relating to net tangible assets, total assets, total revenue, net income, minimum bid price of shares and number of market makers. More significantly, these markets all impose qualitative maintenance standards, including corporate governance standards (which have also applied to the Nasdaq Small Cap market since 1997). For example, under the Nasdaq National Market and Small Cap standards, a company is required to distribute to shareholders annual reports containing audited financial statements a reasonable time prior to the annual meeting and to make available quarterly reports following the filing on Form 10-Q. The rules that might have a direct effect on the abusive practices that concern the Commission are those that require shareholder approval of equity compensation plans and of significant issuances of securities (resulting in a change of control or 20% dilution). These rules would limit the ability of companies to make extraordinary issuances under a Form S-8.

It may be that the companies who meet these standards are less likely to engage in the abusive practices discussed above. However, we do not believe that other companies who file reports late are sufficiently likely to be making abusive issuances under Form S-8 to justify the proposed penalty. For the other companies, including most small business issuers, the same problem of penalizing the wrong people (employees) remains.

Another alternative suggested in the Release would be to limit the application of the penalty based on the size of the issuer (a measure that is also built into the exchange/Nasdaq listing and maintenance requirements discussed above). We do not believe that the size of an issuer bears a sufficiently significant relationship to the likelihood that the issuer would abuse the Form. Again, this alternative would penalize the wrong people and would not deter the abuses sought to be discouraged.

B. "Shell" Mergers

In the case of a private company that merges into a public "shell," the Commission has proposed that a stricter standard would apply because, in this circumstance, the same level of public disclosure is not available as in the case of a company that has gone public through a Securities Act registration. Under the proposal, such an issuer would not be eligible to register on Form S-8 until it has filed an annual report on Form 10-K (or 10-KSB) containing audited financial statements of the combined entity.

This proposal is based on the fact that the information available with respect to the surviving company is not equivalent to the information that is publicly available for a company that has gone public through the registration process. Further, the public shell company has not been subjected to the discipline and investigation involved in an underwritten offering. We agree that these are meaningful differences and that it would be appropriate to delay the availability ofForm S-8 in this context. However, we believe that an objective, easily understood definition of "nominal assets," based upon the Commission's experience in this area, would have to be provided for this penalty to be appropriate.

You asked whether the delay should be longer. It does not appear that significant advantage would be gained by making the delay longer. Once the annual report with audited financial statements is available, the bulk of the information gap would be bridged. Moreover, unlike the situation prior to EDGAR, these materials are instantly available to anyone with access to the Internet. Delayed availability of Form S-8 might have been appropriate in the era when disclosure was only available on paper and not so readily accessible, but it is not appropriate for these issuers in the electronic age.

You asked whether issuers other than those resulting from a "shell" merger should be precluded from using Form S-8 until after the first Form 10-K has been filed. We believe that it definitely would not be appropriate to delay the availability of Form S-8 for other issuers. Not only are audited financial statements of the issuer included in the Form S-1 (or a Form 10), but the SEC review that these companies go through in the process of going public ensures a much higher quality of disclosure in practice than is likely to be produced for the first report on Form 10-K after a "shell" merger.


II. Proposals Relating to Disclosure of Grants to Consultants and Advisers

You have also requested comments on two sets of proposals relating to disclosure of grants to consultants and advisers, some of which are new and some of which remain from the 1998 proposals in Release No. 33-7506 (February 17, 1998). Although some disclosure regarding the magnitude of grants to consultants is more likely to deter abusive practices than the timeliness proposal discussed above, we do not believe that it is necessary. The amendments adopted in Release 33-7646 this spring placed significant limitations on the types of consultants or advisers who are eligible to receive awards of securities under Form S-8 (or Rule 701). Coupled with the amendment of Rule 401 (g), we believe that these amendments will effectively prevent the abusive practices identified as having occurred in the past. The effect of the amendment to Rule 401 (g) should not be underestimated. Should an issuer make awards to a consultant or adviser that should not be included in a Form S-8 registration statement, there is no time limit on the SEC's ability to challenge the use of Form S-8 for this purpose. We do not believe that the companies that might continue to abuse Form S-8 are likely to continue conscientious Exchange Act reporting long enough to make the proposed disclosure useful. The type of person that would flaunt the new explicit prohibitions is not likely to be deterred by a disclosure requirement. Thus, none of the proposed disclosure requirements are likely to serve their intended purposes. Rather, they would penalize legitimate issuers. We refer to our letter dated April 27, 1998 commenting on Release No. 53-7506 for a complete discussion of the negative effects such disclosure would have.

If, in spite of our views, the Commission determines that some disclosure regarding the extent of grants to consultants is appropriate, we continue to regard any specific disclosure relating to individual consultants as very troubling, for the reasons set forth in our April 27, 1998 comment letter on Release 33-7506. Specific disclosure of names of consultants, services rendered and/or amounts of awards would put issuers retaining consultants, most particularly high technology companies, at a disadvantage relative to their competitors. Such information would provide competitors with valuable insights into the proprietary activities and direction of such companies. Any required disclosure should only relate to aggregate issuances and should only be triggered if such issuances to consultants exceed 15% of the shares outstanding. No such disclosure should be required if the shareholders of the company have approved the plan under which the securities are issued, following disclosure of the potential issuances to consultants.

With respect to your specific questions relating to the remaining proposals, we have the following comments:

1. Should specific disclosure of names of consultants and advisers including numbers of shares and details of services be included in Exchange Act reports (rather than in Part II of the Form S-8, as originally proposed)? For the reasons relating to the critical need to maintain the confidentiality of this information set forth in our letter dated April 27, 1998, we continue to believe that any specific disclosure requirement would be inappropriate.

2. Should there be a limit on the aggregate percentage that may be awarded to consultants and advisers? No. The number of securities issued to consultants and advisers is not related sufficiently directly to potential abuses to merit such a limit, which is, in any event, better left to the business judgment of a company's directors. Further, it is simply not appropriate, or within the power of the Commission, to attempt to regulate management decisions by corporations.

3. Should the existing requirement that an issuer certify that it meets the requirements for use of Form S-8 be expanded to give more specific certifications with respect to consultants? We do not believe that a more detailed certification would deter abuses.

4. Should issuers be required to check a box on the cover of Form S-8 if they intend to offer securities to consultants and advisers? This proposal seems harmless, but would not be useful. Since almost all issuers would check the box, the Commission would not obtain useful information.

In summary, we do not believe that any additional disclosure regarding grants to consultants and advisers is likely to serve the intended purpose. Rather, it could impair the competitive position of legitimate companies and, in any event, place unnecessary burdens on all companies.

We hope that the Commission will find these comments helpful. Members of the Subcommittee who were involved in the drafting of this letter are available at the Commission's convenience to discuss further any aspect of these comments.

Respectfully submitted,

Stanley Keller
Chair, Committee on Federal Regulation of Securities

Louis Rorimer
Chair, Subcommittee on Employee Benefits,
Executive Compensation and Section 16

Scott P. Spector
Vice Chair, Subcommittee on Employee Benefits, Executive Compensation and Section 16

Drafting Committee
Anne G. Plimpton, Chair
Keith F. Higgins
Elizabeth W. Powers
Ann Yvonne Walker