Goldman, Sachs & Co. | 85 Broad Street | New York, New York 10004
June 30, 1999
Securities and Exchange Commission
450 Fifth Street, N. W.
Washington, D.C. 20549
Attention: Mr. Jonathan G. Katz, Secretary
Re: Regulation of Securities Offerings (aka the "Aircraft Carrier") -
File No. S7-30-98
Dear Mr. Katz:
We would like to take this opportunity to comment on the Aircraft Carrier release. recognize that there are a number of areas in which the Federal securities laws need to be amended in order to address recent and ongoing changes in the securities markets, particularly changes affecting the manner and speed with which information is communicated and transactions are executed. In addition, we are aware of the significant and well-intentioned commitment of time and resources made by the Commission and its staff in drafting these proposals.
However, after careful review of these proposals, we have concluded that they are fundamentally flawed. On balance, they do not provide significant benefits to market participants or investors. Instead, they would be costly, potentially damaging to the efficient operation of the U.S. capital markets and in a number of cases are likely to result in consequences which are nearly the opposite of their stated intentions. The U.S. capital markets, including the U.S. venture capital markets, are the most efficient in the world. While stock exchanges and securities regulators in other major capital markets are actively working to make their markets operate on a more streamlined and competitive basis, it is essential that we not adopt proposals, such as those embodied in the Aircraft Carrier release, which would threaten the efficient operation and competitive position of the U.S. capital markets.
As a result, we believe that these proposals should be withdrawn. In their place, we would urge the Commission to revert to the approach which it has utilized with considerable skill and success in proposing and adopting a great many beneficial reforms over the past decades - that of steady, focused and incremental reform.
At a minimum, we strongly urge the Commission to state publicly at the earliest possible moment that, in light of the already broad-based criticism of these proposals and consistent with the Commission's legal obligations and long established practice, no revised version of these proposals will be adopted without re-proposal and a further public comment period. Statements by members of the Commission staff that the staff will make what they believe to be the necessary compromises and have the Commission adopt final rules without re-proposal have created considerable concern among market participants.
Reform of the Federal securities laws has always been and should continue to be an iterative and highly cooperative undertaking among the Commission, its staff, market participants and the public. We are ready and eager to work with the Commission and its staff to insure that the Federal securities laws remain up-to-date and that they continue to serve their dual purpose of facilitating the efficient operation of the U.S. capital markets, while at the same time protecting investors.
We are a member of the Securities Industry Association's Aircraft Carrier Subcommittee. You have already received the SIA's comment letter, dated May 12, 1999, and the report prepared by Drs. Edwin T. Burton and Lawrence E. Kochard. We endorse the detailed comments made in the SIA's comment letter. Additionally, we urge the Commission to study Drs. Burton and Kochards' analysis and conclusions of the economic impact of the timing delays contained in the Aircraft Carrier proposal. We are, as well, members of the Bond Market Association and also endorse the comments made by that organization in its comment letter, dated June 30, 1999.
Rather than undertake another detailed analysis of and commentary on the provisions contained in the proposals, a task which has already been ably accomplished by the comment letters provided by the SIA and the BMA, as well as by a number of other commentators, including the letters submitted by the American Bar Association and the Association of the Bar of the City of New York, we would like to address three topics: Process, Objectives and Alternative Proposals.
We believe that:
We believe that absent a crisis in the markets, there is no need to abandon the historically successful approach of incremental and focused reform. The costs, confusion and risks associated with wholesale and radical reform of the type embodied in the Aircraft Carrier are unwarranted under current circumstances.
We also note that the Commission staff failed to perform any economic analysis of the consequences of the reforms contemplated by the Release and we believe that its analysis of the additional time and paperwork requirements of the Release dramatically understates the additional efforts required. Finally, we are aware of the Commission staff's statements indicating that they might significantly revise the proposals and urge the Commission to adopt final rules without a re-proposing release and comment period. We find these comments very troubling in light of the scope and magnitude of the issues covered by the proposals. The Commission should clearly state that this course of action will not be taken.
We have attempted to analyze the proposals in light of the stated or apparent objectives of the proposals. Some of the objectives are identified in the Release and others we have surmised from the proposals and other public statements made by the Commission and its staff in connection with the public debate on these proposals. We have concluded that in most cases the proposals fail to meet their stated objectives or the intended benefits of the proposals are outweighed by the costs associated with them.
1. Proposals Relating to Filing and Prospectus Delivery Procedures.
One of the stated objectives of this aspect of the proposals is to respond to complaints by investors that they do not receive information in time to review it prior to making an investment decision. We are not aware of such complaints nor do such complaints appear to be a part of the public record.
Even assuming that this is a serious issue for investors, we note that the proposal's requirement of sending a preliminary prospectus to investors three or seven days prior to pricing in Form A offerings (versus the current rule of delivery 48 hours prior to confirmation), will significantly decrease flexibility in pricing transactions and increase the risk to the issuer and underwriters. In any event, the proposed time periods are too long in this age of fast-paced markets and decision making. The focus on delivery of information, rather than access to information, also appears to make the proposals outdated in their formulation.
In offerings made by SEC reporting companies, especially offerings of Medium Term Notes, the only additional information that needs to be provided to investors is with respect to the terms of the securities. In such offerings requiring the delivery of a term sheet to investors prior to sale is pointless, and in many cases may result in issuers missing "market windows" as a result of the time required to prepare and distribute such term sheets. In the case of some offerings made by SEC reporting companies of novel or complex securities it would be helpful if investors could obtain written information about the proposed terms of the securities being offered prior to making an investment decision. The simple solution is to permit the use of term sheets which describe the proposed terms of the securities in the case of an offering made off an effective shelf registration statement, without requiring such term sheets to be filed.
If the Commission is concerned that in a limited number of cases material non-public information concerning issuers is not being provided to investors in shelf offerings prior to purchasers making an investment decision, then a number of commentators have provided suggestions for insuring that issuers must follow the best practices adopted by nearly all issuers, underwriters and lawyers with respect to the dissemination of such information to investors prior to their making an investment decision. These proposals are more practical and focused in scope than the term sheet proposals contained in the Release.
The filing and prospectus delivery procedures contained in the Release seem to be designed, in part, to anticipate the implementation of T+1 settlement in the next several years. Adding "speed bumps" designed to force documentation efforts and delivery of final terms to occur prior to or contemporaneously with pricing, as well as eliminating the requirement to deliver final prospectuses, would permit T+1 settlement of primary offerings. While this would still permit lawyers, bankers, accountants and company officials to have the time to draft and review documents, conduct due diligence and prepare comfort letters, it comes at a very significant cost in terms of up front expenses for transactions that may never take place and creates delays and risks for market participants. Again, we refer you to the report filed by Drs. Burton and Kochard.
T+1 settlement of primary offerings is unnecessary even if that is the settlement period for secondary transactions, although T+3 settlement for primary offerings and T+1 settlement for secondary offerings would necessitate when-issued trading for several days.
We believe that eliminating the availability of short-form registration for secondary offerings of restricted securities and market-making transactions and denying more than a thousand issuers that are currently S-3 eligible access to the new proposed short-form process is unnecessary. We also believe that such changes would have a negative impact on venture capital financing and private acquisition transactions by smaller issuers and those issuers no longer eligible to use a short-form registration statement and would also increase financing costs for those issuers. This overall adverse impact would far outweigh any benefits. The U.S. venture capital markets are the envy of the world and a very significant factor in the development in the U.S. of new technologies and new industries. The cost and confusion that would be injected into these highly successful and vital markets by the proposals embodied in the Aircraft Carrier release could seriously harm these markets and very negatively impact emerging companies and technologies.
As a result of the Commission's efforts to address the objectives set forth above and certain other enumerated objectives, the provisions of the Release relating to filing and prospectus delivery have included a number of other equally unnecessary and unwelcome features, including, but not limited to, the following:
2. Proposals with Respect to Rule 144A.
In order to deal with legal liability concerns associated with the uncertain application of the U.S. Supreme Court's holding in Gustafson to Rule 144A offerings and of the damage provisions of Section 11 of the Securities Act to Exxon Capital exchange offers, the Commission's proposals would eliminate a very significant method of offering securities. However, no abuses have been documented in connection with either Rule 144A offerings or Exxon Capital exchanges. One of the principal reasons issuers agree to make Exxon Capital exchange offers, is so that the securities being issued will not be subject to certain purchaser's investment limitations with respect to unregistered securities and to allow other classes of investors to avail themselves of the more favorable regulatory capital treatment granted to registered securities. Such exchanges are not an effort to, and do not significantly result in, a transfer of these securities from QIBs to non-QIBs.
The Release purportedly would offset the elimination of the Exxon Capital exchange offers (and the Vitro line of foreign "stepping stone" exchange offers would also be eliminated) by allowing offerings made only to QIBs to be made pursuant to the new Form B short-form registration statement, but only for issuers that have been reporting for at least a year and that have filed a 10-K or 20-F. In addition, the proposals would effectively prohibit QIBs buying securities in such registered offerings from reselling those securities to non-QIBs. This prohibition may well negate the benefits sought by issuers in making Exxon Capital exchanges by causing such securities to be subject to investment and regulatory capital limitations.
The Rule 144A and Exxon Capital exchange offer route is appealing to many issuers because Rule 144A permits issuers and underwriters to avoid having to comply with technical Securities Act disclosure rules to the extent that the issuer, underwriters, lawyers and accountants do not deem compliance with such rules at the time of the initial offer to be material to the QIB investors, thus often permitting issuers to access markets at times that they would not be able to launch a registered transaction. Rule 144A's biggest attraction is flexible and certain access to the institutional capital markets. Form B offerings to QIBs will only be available to "seasoned" issuers and are, in any event, subject to the uncertainty and delays embodied in the "speed bumps" built into the Form B procedures.
The Commission staff cites the elimination of Exxon Capital in exchange for the QIB only Form B offerings as a way to increase the number of registered offerings. It points to the number of Exxon Capital initial registered offerings as a problem. The Release is likely to have the actual impact of causing issuers to do higher cost Rule 144A offerings, but then being prevented from doing the subsequent registered exchange. The end result is likely to be fewer registrants, exactly the opposite of what the Commission states that it intends to achieve.
3. "Free-Writing" Proposals.
The so called "free writing" provisions of the Release are the proposals most likely to have the effect most directly the opposite of that intended by its drafters.
The proposals confuse the objective of equal access to all material information about an issuer with a "public utility like" notion that investment banks, research houses, market commentators and research analysts have an obligation to make their analysis and their work product available to everyone. Issuers have an obligation to disclose all material information to investors when offering securities. Underwriters, and the sales forces and research analysts that work for them, do not have an obligation to provide free of charge to every investor their estimates of the issuer's prospects or their ability to describe clearly and concisely the business and prospects of the issuer and the industry in which it competes.
The current debate on "selective disclosure" to a large extent fails to distinguish between information, presentation and analysis prepared by third parties that is material and helpful to an investor on the one hand and material non-public information about an issuer on the other. Both can be material to an investment decision, but only the latter is and should be the subject of disclosure obligations.
If the Commission's objective is to let investors have access to forward-looking information, then it should address the issue directly, as it has done in the past, with proposals to require such disclosure by issuers. Such proposals have not overcome opposition in the past, but it is issuer forecasts, not underwriters' estimates, that should be filed if the Commission believes that investors must receive forward-looking information.
If the Commission believes that road show presentations and oral sales presentations by underwriters, their analysts and sales forces are more effective forms of communication than what is contained in the prospectus, the focus needs to be on improving the quality of the disclosure in the prospectus, not further diluting its impact by permitting the use of ancillary written materials. Efforts such as those taken in the past by the Commission to improve the quality of MD&A should be undertaken again and more often. Even the plain English proposals, despite the enormous cost and delay that has been associated with their implementation and that continue to frustrate issuers, underwriters and lawyers because of their occasionally arbitrary and inconsistent application, are a more sensible approach to improving the quality of issuer communication than attempting to replace effective issuer communication in the prospectus with the "free-writing" proposals.
Permitting underwriters and issuers to use written materials other than the prospectus in offerings (other than those made by investment companies), and requiring that they be filed with the Commission and be subject to either Section 11 or Section 12(a)(2) liability, is unlikely to result in any additional written information being used. Instead, such proposals are more likely to "chill" or "sanitize" the content of research reports and road show presentations to the extent that they must be filed. Road show presentations made to institutional and certain sophisticated individual investors are an important element of marketing equity offerings and seriously curtailing the content of such presentations would make it harder for such investors to evaluate whether to invest in such offerings. The "free writing" proposals are also likely to result in a confusing web of liability of issuers and underwriters for each others' publications, not to mention an administrative nightmare involving efforts to insure that all required materials have been located and properly filed in order to avoid potential liability under Section 12(a)(1).
The bottom line is that, if the "free-writing" proposals are adopted, road shows will probably be reduced to oral statements and underwriting agreements will contain representations and indemnities with respect to the non-use of any documentation other than the prospectus. The actual impact will be exactly the opposite of the intended effect. While offerings by investment companies have been conducted using ancillary sales materials, such offerings are made on a continuous basis, the company's only business is its investment objectives which rarely change and its results are simply the funds daily NAV and expenses. The situation is completely inapplicable to that of securities offerings by non-investment companies.
4. Proposals Relating to 1934 Act Reports and Signatures and Certifications of Officers and Directors.
We will not comment in detail in this letter on the various proposals being made to expedite the filing of annual and interim reports under the 1934 Act. While the earlier provision of financial information is obviously desirable, it is likely that the cost and the potential for errors associated with the proposed shorter filing deadlines outweighs the benefits of the earlier provision of information. The earlier preparation and disclosure of financial information should be strongly encouraged, but not required.
Similarly, we do not offer detailed comments on the requirements for additional signatures and certifications by officers and directors embodied in the proposals. However, we believe that these proposals may further deter qualified individuals from acting as corporate directors and will create serious logistical problems.
We have already suggested a number of preferable alternatives to the Commissions' proposals. We would especially urge the Commission to preserve the shelf registration rules and to institute "pay-as-you-go", automatic effectiveness and indicative term sheet proposals with respect to the existing shelf rules. These proposals would achieve many of the stated benefits of the Commission's proposed Form B and address some of the issues with respect to timely delivery of information about indicative terms of novel and complex securities.
In addition, the Commission should retain Exxon Capital and Vitro, and should implement rules which we had understood were going to be part of the Aircraft Carrier, but were not, in order to eliminate restrictions on offers in Rule 144A offerings sold entirely to QIBs and to expand the class of purchasers which would qualify as QIBs. There are numerous other amendments that should be made to clarify and facilitate the use of Rule 144A and the rules governing private placements.
The areas of the Federal securities laws that most require careful thought and revision are those laws that relate to the internet and on-line sales of securities, including the liability for information on web sites, use of electronic road shows and investor calls and the application of the broker-dealer and NASD rules to offers and sales of securities made through on-line brokers. One small step in this regard would be for the Commission to expedite its efforts to improve the EDGAR web site. This is a very valuable asset to the market which has not yet met its full potential. Easier access to printer quality formatted documents will insure that an increasing number of investors are able to have access to preliminary and final prospectuses on a timely basis.
One of the most unfortunate consequences of the Commission's attempt to build the Aircraft Carrier, rather than sticking to the more incremental and focused approach to regulatory reform, has been the repeated statements by the Commission and its staff over the past several years to the effect that issues can not be dealt with separately because they are part of the Aircraft Carrier. This has created a regulatory logjam of major proportions. Too many initiatives have been needlessly put on hold in order to devote the resources to the Aircraft Carrier and in pursuit of an integrated global answer to problems.
We again reiterate our call to withdraw the Aircraft Carrier and our sincere offer to work actively and constructively with the Commission, its staff, other market participants and the investing public to take the steps and make the reforms necessary to insure that the Federal securities laws continue to provide the regulatory framework necessary to promote the efficient operation of the U.S. capital markets and to provide the necessary investor protections.
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We would be happy to discuss with the Commission or its staff any questions that you may have with respect to the comments made in this letter. We ask that you direct any questions that you may have to Kenneth L. Josselyn at (212) 902-3761 or Michael L. Crowl at (212) 902-7418.
Very truly yours,
/s/ Goldman, Sachs & Co.
(Goldman, Sachs & Co.)