June 30, 1999
Mr. Jonathan G. Katz
Securities and Exchange Commission
450 Fifth Street, N.W. Stop 6-9
Washington, D.C. 20549-6009
Re: The Regulation of Securities Offerings – Release No. 33-7606A;
File No. S7-30-98
Dear Mr. Katz:
J.P. Morgan & Co. Incorporated ("JPM") is pleased to submit this response to the request of the Securities and Exchange Commission (the "Commission") for comments on its proposals contained in Release No. 33-7606A, The Regulation of Securities Offerings (the "Release"). JPM’s affiliate, J.P. Morgan Securities Inc., is a member of the Aircraft Carrier Subcommittee of the Federal Regulation and Capital Markets Committees of the Securities Industry Association ("SIA") and of the Corporate Bond Committee of The Bond Market Association (the "BMA"). We join in the comments contained in the SIA’s comment letter of May 12, 1999 and to be contained in the BMA’s letter to be filed imminently. Nevertheless, we feel that, as a frequent issuer of registered securities, an additional, separate, comment letter is warranted to express our views as an issuer. Accordingly, our comments in this letter relate primarily to two sections of the Release: Section V, "Proposals Altering the Securities Act Registration Process," and Section XI, "Proposals Relating to Exchange Act Disclosure."
JPM supports the Commission’s goals of improving the timeliness and the quality of the information disclosed to the public by domestic reporting companies and of modernizing the existing offering process. Nevertheless, we believe that several aspects of the Commission’s approach, as reflected in proposals contained in the Release, are flawed and will impose unjustified burdens on issuers subject to the registration requirements of the Securities Act of 1933 (the "Securities Act") and the reporting requirements of the Securities Exchange Act of 1934 (the "Exchange Act").
JPM supports the proposals to permit effectiveness on demand and to adopt a "pay as you go" approach to registration fees. But there is no reason that these proposals could not be adopted in the context of the existing registration system rather than as part of the new regulatory scheme described in the Release. Furthermore, there are a number of proposals contained in the Release that will present serious problems for issuers, and may have the effect of eroding the quality of corporate disclosures:
We are also concerned with the Commission’s apparent abandonment of the shelf registration system. The shelf system has worked well for us. It allows us rapid access to the market, and it has become central to our capital formation process. The Release proposes such far-reaching changes to the registration system that they would have the effect of eliminating the current system. Yet the Commission does not cite any abuses of the current system to justify this radical step. We believe that the present shelf registration process has justifiably become an established market standard and should not be jettisoned absent compelling reasons to do so.
Proposals Altering the Securities Act Registration Process
New Form B
Under the Release, a new Form B would replace existing Form S-3, which JPM currently uses for registered offerings of securities. Form B would offer the ability to control the timing of the effectiveness of registration statements and would offer "pay-as-you-go" registration (as compared with the current shelf registration rules, which require us to prepay the registration fee for the entire amount to be offered off the shelf). These two aspects of the proposal offer clear advantages over the current system. Nevertheless, there are several significant flaws with the Form B proposal.
Term Sheet Delivery
The Release would also require the delivery of a term sheet (or under an alternative proposal, a preliminary prospectus) prior to the time an investor decides to purchase the securities offered. This is an extreme departure from current practice. It creates an obstacle to an issuer’s entry into the market, and will undoubtedly lead to delays in an issuer’s ability to offer securities. The problem would particularly affect issuers like JPM who regularly offer investment grade debt and medium term notes. These are generally sold based on investor familiarity with JPM, our credit rating and the interest rate and maturity of the offered securities. We believe that the current shelf registration system already provides adequate disclosure. In particular, our base prospectus and prospectus supplements, together with the availability of Exchange Act filings and incorporation by reference, currently provide adequate information to investors without the need for delivery of an additional document prior to sale.
Form B Filing and Access to Market
The issuer’s ability to control the timing of the effectiveness of its registration statements as proposed in the Release – an advantage in "one off" registrations – is not an advantage when compared to the existing shelf regime. The proposal appears to contemplate filing a Form B registration statement for an offering immediately before sales are made. This is in stark contrast to the shelf regime, which contemplates early preparation and filing of a registration statement (including, for example, obtaining the signatures of officers and directors, and preparing and filing various exhibits), which can be a cumbersome and time-consuming process. Once done, however, the shelf regime allows for nearly instantaneous access to the market. If all of the documentation were required to be filed just prior to sales, rapid access to the market currently available under the existing shelf registration system would be impaired. We believe that preserving the immediacy of shelf registration is a critical factor in allowing us as an issuer to make effective use of the U.S. capital markets. Accordingly, while we believe that effectiveness on demand should be adopted as an improvement to the registration system, we also believe that it is of paramount importance that the flexibility of the shelf registration process be preserved.
Required Certifications with Respect to Offers
The proposed requirement of officer and director certification at the time of each offering, as compared to today’s shelf registration practice of filing prospectus supplements, will only exacerbate the delays and operational obstacles brought on by filing a Form B just prior to sales, and will almost certainly prove impractical. The proposal that all persons signing a registration statement certify compliance with the proposed securities term sheet delivery requirement is unworkable. JPM and its signing officers and directors would not be able to make a satisfactory determination that this is true, because delivery is to be made not by us, but by our underwriters, and at times subsequent to the filing of the registration statement. The additional proposed requirement that the individual signers (including a majority of directors) certify that they have read the registration statement is also impracticable. In light of the fact that JPM is a frequent debt issuer, this requirement would present difficulties in our ability to access the marketplace quickly. It would require us to complete a draft of our registration statement, circulate a copy of it to all of our principal executive officers and to a majority of our board, and give them sufficient time to read it cover to cover, judge whether there are any material misstatements or omissions and sign the certification. The proposal does not contemplate any way to delegate this responsibility to other persons. Thus, compliance with the proposed certification requirements would be extremely burdensome and create significant delays for even seasoned issuers such as JPM; such delays would result in missed market opportunities.
Disqualification for Violations
As with Form S-3, issuers would not be able to use Form B if a disqualifying event has occurred. However, the Commission proposes to expand the universe of disqualifying events to an unwarranted extent. One provision of the proposal would disqualify an issuer from using the Form B short-form registration for past violations by the issuer or its underwriter. Such disqualification is unduly harsh, unwarranted and unnecessary. It would require issuers to satisfy themselves that neither the issuer, any executive officer or director nor any underwriter is disqualified. This could slow down the offering process if underwriters are added at the last minute or effectively eliminate the ability to add offering participants at a late stage of the offering. We also question the fairness of this approach. Shelf takedowns have worked well without these disqualifications, and we do not see why the Commission considers adding additional impediments to the offering process appropriate now.
Disqualification for Unresolved Staff Comments
Another provision of the proposal would disqualify an issuer from using the Form B short-form registration if the issuer has an unresolved Commission staff comment on the issuer's Exchange Act reports. Under existing shelf procedures, we (with our underwriters and counsel) can assess the materiality of any outstanding staff comments on incorporated documents and proceed if we judge the issue to be immaterial. Under the new procedure, no discretion would be afforded to us, and staff reviewers would essentially control our ability to access the market. Not only could we not use Form B, but we would not be able to incorporate by reference or obtain effectiveness on demand under Form A. Rather, we would be cast in the same role as an unseasoned Form A issuer, with full review of our registration statement by the staff, including the unresolved item. Here again, the shelf regime has worked well without this draconian measure.
"Inclusive Prospectus" Approach
The proposed expansion of what is required to be included in a registration statement and the requirement to file "offering information" and "free writing" raise serious concerns for us as an issuer. First, the filing requirement would slow down offerings. Under the Commission’s proposal, broad-based searches of our own records, as well as obtaining and reviewing all written communications relating to us which were sent by each prospective underwriter in the recent past, would be required to identify all "offering information" and "free writing" that must be filed with the Commission. This identification, retrieval and review process would be cumbersome and time-consuming. In addition, the proposal would unfairly subject us, as issuer, to liability for the conduct of others (in particular, the conduct of the underwriters, both before and after the effectiveness of the registration statement). As an issuer, JPM would not have a "due diligence" defense under Section 11, and we would not want to be liable for offering information prepared by underwriters.
We also wonder what the penalties might be for failure to file offering information or free writing even in circumstances where we have taken steps to collect, file and/or prohibit such information. Would the failure to file the document result in a violation of the securities laws by us as the issuer? Would it be a violation of the registration provisions? Would it result in a Form B disqualification? Does such failure give rise to a rescission remedy under Section 12? Again, we find it inappropriate to penalize the issuer for actions taken by others, in this case the underwriters.
Proposals Relating to Exchange Act Disclosure
Risk Factor Disclosure
The Release proposes requiring that Exchange Act registration statements and periodic reports (Forms 10-K and 10-Q) include a new risk factors section. Rather than describing risks relevant to a particular security being offered, the proposed section would discuss risk factors related to the issuer generally. Although we have, on occasion, included a risk factors section in public offerings of securities having unique features (such as exposure to the performance of a particular stock, commodity or other extrinsic index), our more basic Securities Act registration statements generally do not include a risk factors section. This is because such filings incorporate by reference Management’s Discussion and Analysis (MD&A) and other information included in our Exchange Act periodic filings. Our MD&A, as well as our Risk Management section, appropriately identify and discuss all material risks and uncertainties management believes are important to users of financial statements. This information is updated quarterly, or sooner as the need arises. These disclosures are based on existing guidance included in Item 303 of Regulation S-K, Section 501 of the Codification of Financial Reporting Policies (FRP 36) and AICPA Statement of Position of 94-6. Accordingly, we believe the additional requirement of a specific risk factors section in the specified Exchange Act reports is unnecessary.
Management Report to Audit Committee
The Release seeks comments on whether the filing of a management report to the audit committee to disclose the procedures that have been used to assure the accuracy and adequacy of the Exchange Act reports should be required and filed as an Exhibit to Form 10-K. The report would not specify a particular set of procedures to follow, nor would it require an assessment of the adequacy of the procedures. It would be refiled only when there has been a material change in procedures.
We support the Commission’s effort to enhance the accuracy and adequacy of Exchange Act reporting. However, we believe the current proposal is not clear as to the content of the report and further clarification is needed prior to adoption.
Accelerated Exchange Act Filing Deadlines
The Release seeks comments on whether the existing filing deadline for Form 10-Q should be shortened from forty-five days to thirty days, and whether the existing filing deadline for Form 10-K should be shortened from ninety days to sixty days. JPM has historically made an effort to produce its annual and quarterly results in a timely manner, to release such information a soon as practicable by means of a press release, and to file that press release on Form 8-K. Nevertheless, the preparation of all of the disclosures required by Forms 10-Q and 10-K can only be accomplished as the result of careful consideration and commitment of substantial resources. The present deadlines themselves can be onerous at times, as evidenced by the fact that many of our filings, as well as those of other registrants, are often filed with the SEC near or on the final day. Registrants are already burdened with extensive disclosure requirements. This, and the continued trend of new disclosure requirements from regulators, coupled with the demand from the marketplace for increased transparency, makes an accelerated timeframe unworkable and would diminish a registrant’s ability to produce accurate and reliable disclosures on a timely basis.
Accelerated Due Dates for Reporting Events
The Release also proposes that the filing deadline for required Form 8-K disclosures be established as within five calendar days of the triggering event (as opposed to the present fifteen calendar day period) and, in the case of a material default, the resignation or replacement of our accountants or the resignation of a director, within one business day of the triggering event. As stated above, we believe that while accelerated deadlines might marginally improve timeliness, it would be at the cost of accuracy and completeness of the substantive disclosure. The Form 8-K is a public statement and must be properly prepared, reviewed and finalized. It is unrealistic to assume that careful preparation of the required disclosure can be accomplished within one business day of the occurrence of a triggering event. Moreover, five calendar days is an unrealistic deadline for events that call for more detailed disclosure.
Additional Signatories to Quarterly Reports
The Release proposes to require that quarterly reports on Form 10-Q be signed by our principal executive officers and a majority of our board of directors. We strongly oppose this proposal. As a global company, our board of directors, a majority of whom are outside directors, and our executive officers frequently travel throughout the world and are not casually available on short notice. Requiring all of our executive officers and a majority of our board to sign the quarterly reports, even within the existing deadlines, will be burdensome. Coupled with the certification requirement discussed below, this requirement is wholly unrealistic.
The Release proposes that all signatories to our annual report on Form 10-K and our quarterly reports on Form 10-Q certify that they have read the reports, and that, to their knowledge, the report contains no material misstatements or omissions. This would require us to finalize each annual or quarterly report, circulate a copy of it to all of our principal executive officers and to a majority of our board, give them sufficient time to read it in its entirety, judge whether there are any material misstatements or omissions, ask any questions and resolve any issues they may have, and sign the certification. Compliance with these procedures would be extremely burdensome and create significant delays. We believe that our corporate officers perform the task of formulating our corporate disclosure with expertise and professionalism; the proposed certification requirements creates additional and unrealistic burdens on them, without producing any measurable benefit.
Plain English in Exchange Act Reports
We are supportive of the Commission’s efforts for extending plain English requirements to all Exchange Act reports. We recognize the investor’s need for information presented in a clear and concise format and written in a manner that is easy to read and understand. However, since the plain English guidelines have been in effect since October 1, 1998, we feel that additional time should be provided for registrants and the Commission’s staff to develop the necessary expertise in preparing and reviewing plain English disclosures before implementing the requirements for all Exchange Act Reports. This will allow for the refinement of the requirements and permit the Commission to provide clear guidance to ensure the consistent application across all registrants and their respective filings. We acknowledge that the recent release of Updated Staff Legal Bulletin No. 7 by the staff will be very helpful to issuers preparing plain English disclosure; nevertheless, we feel that application of the plain English standards to all disclosure should be phased in gradually.
The proposals contained in the Release represent a fundamental change in the current registration system. The advantages and effectiveness of the current shelf registration regime should not be ignored or eliminated. We would urge that the Commission proceed cautiously in this area. Although a few of the reforms proposed by the Commission represent improvements in the current system, the burdens imposed by the new regime (including the requirement to deliver term sheets and preliminary prospectuses prior to sale, the requirement to file "free writing" materials, the increased liability imposed with respect to "free writing" and other communications, and the imposition of sanctions on issuers for the actions of others) far outweigh any perceived benefits. Moreover, the proposed acceleration of periodic reporting deadlines under the Exchange Act would result in a significant challenge for issuers to produce accurate, timely reports with the appropriate due diligence and care without generating commensurate benefits to the marketplace or to investors. Further, the Commission’s proposed certification requirements and additional signatories to quarterly reports are unrealistic and extremely burdensome on management and directors, with minimal potential for improving the accuracy and adequacy of disclosures.
/s/ Rachel F. Robbins
Managing Director and General Counsel
J.P. Morgan & Co. Incorporated