WILMER, CUTLER &
2445 M STREET, N.W.
WASHINGTON, D.C. 20037-1420
FACSIMILE (202) 663-6363
June 30, 1999
Securities and Exchange Commission
Mail Stop 6-9
450 Fifth Street, NW
Washington, DC 20549
Attention: Mr. Jonathan G. Katz, Secretary
E-mail address: rule-comments@SEC.gov
Re: Commission File No. S7-30-98
Ladies and Gentlemen:
We submit this letter on behalf of R.R. Donnelley & Sons Company and R.R. Donnelley Financial (together, "Donnelley") in response to the Commission's request for comments on Securities Act Release No. 7606A (November 3, 1998) (the "Release"), in which the Commission proposed rules relating to the regulatory structure for offerings under the Securities Act of 1933 (the "Securities Act"). Donnelley Financial is a major provider of financial printing, data and content management and distribution services to the capital market, investment company, insurance and healthcare communities. Donnelley Financial is a business unit of R.R. Donnelley & Sons Company, which is number one in Fortune's Publishing and Printing class and is North America's largest commercial and financial printer. R.R. Donnelley & Sons Company listed on the New York Stock Exchange in 1954.
Donnelley appreciates the opportunity to comment on the proposed rules and hopes these comments will be useful to the Commission and its staff. As a major participant in the disclosure process and a public company, Donnelley agrees fully with the Commission's stated goal: to adopt rules that will make capital raising more efficient and provide stronger protection to investors, primarily through accurate and timely disclosure.
The vibrant U.S. capital markets are the envy of the world primarily because they enjoy a high level of investor confidence. The Commission has fostered that confidence through more than 60 years of bold and pragmatic regulation, which it has prudently adjusted from time to time as circumstances change. Donnelley applauds the Commission for thoroughly examining its regulations yet again and proposing adjustments to meet dramatic recent changes in information technology. As set forth in detail in this letter, however, Donnelley believes that many of the proposals in the Release miss their targets. A primary reason, Donnelley believes, is that legal theory has too often displaced pragmatic understanding of how information is actually disseminated and used by investors. The result is a proposal that, too often, would make capital raising harder and more expensive without a corresponding benefit to investors.
A. The Commission's Approach to Reform
In this comment letter, Donnelley offers its comments on specific aspects of the proposals, for the Commission's consideration if it decides to proceed with reform along the lines set forth in the Release. In an appendix to this letter, Donnelley provides comments on technical issues raised by the proposals.
Preliminarily, however, Donnelley encourages the Commission to rethink its basic approach. The U.S. securities markets work -- for both issuers and investors -- far better than any other major securities markets in the world. A primary reason for this is that a strong scheme of investor protection, centered on requirements of full and accurate disclosure, has been implemented with imagination and pragmatism by the Commission. Investors proceed with confidence because they know that, with rare exceptions, information available to them and the market is complete and reliable. Issuers proceed with great care because they know that the punishment for bad disclosure in offering materials or periodic reports can be severe: loss of credibility with analysts and investors, enforcement action by regulators, and civil litigation. The regulatory system has served U.S. investors well and has therefore served responsible issuers well.
Donnelley agrees with the Commission that the system needs adjustments to work better in today's technological environment. Donnelley does not, however, believe that sweeping overhaul is needed, and it urges the Commission to reconsider its approach and change only those rules that no longer work in today's environment. The present system is generally working well and much of what the Commission would substitute is far less practical and could disrupt capital formation to the detriment of both issuers and investors.
The regulatory system has been carefully designed to enable companies to raise capital in both public and private markets. When companies need to tap the public markets, they are subject to rigorous disclosure regulation, possible Commission scrutiny, and high levels of potential liability. But companies may also meet their capital needs in the private markets, through sales of securities to investors financially powerful and sophisticated enough to demand the information they need, without requiring the protection of Securities Act registration.
Over the years, the Commission has focussed pragmatically on serving the real needs of investors, in both public and private markets, at minimum cost to issuers. It has taken steps to increase efficiency of access to public markets, such as short-form registration and shelf registration. It has also provided greater liquidity and certainty in the private markets, through measures like Regulation D and Rule 144A. And it has focussed carefully on the relationship between continuous disclosure under the Securities Exchange Act and the needs of investors on the occasion of a securities offering.
Throughout its history, the Commission has carefully weighed the costs of regulation against the potential benefits for investors. It has tailored measures to meet specific investor protection problems without imposing unnecessary burdens. It has reduced regulatory burdens when that can be done safely. It has been willing to take some carefully measured risks if the potential benefits are great, and ready to react swiftly when problems develop. The resulting current system of securities registration and ongoing disclosure has imperfections, but it has resulted in high quality disclosure for investors and reasonable regulation for issuers.
Notwithstanding this successful history, the Commission has now proposed a dramatically new system. The Commission's justification for changes, in many instances, is theoretical: a preference for registration over unregistered sales; an assumption that more and earlier disclosure is always better; a focus on the legal right of the investor to know and reflect on information in connection with a specific transaction, rather than on the dynamic flow of information in the marketplace. But pursuant to these theories the Commission would now impose substantial new regulatory burdens that, Donnelley believes, are not needed to address any demonstrated problem of investor protection. The Commission's theories about the needs of investors and the likely responses of issuers are often untested, and the real impact of a reform is often largely unknown. Donnelley urges the Commission to take smaller steps, tackling specific, identified problems with carefully tailored regulatory changes.
B. Concerns Raised by the Proposals
Donnelley's concerns about the proposals are discussed in detail throughout this letter. In summary, Donnelley believes that the Commission should consider the following problems.
Registration generally. The new system represents a distinct shift away from primary reliance on continuous disclosure and towards transaction-centered regulation. As compared to the current system, the new system is much more complex, requires many more filings in shorter time frames, and presents many more opportunities for mistakes with potentially disastrous consequences, including a large number of situations in which investors would have a windfall right to rescind their purchases. In addition, the new system will, from Donnelley's experience, both as a filer and as a filing agent, significantly complicate the filing process and increase the burden of creating and making SEC submissions. With all of this change, however, disclosure to investors would not improve appreciably. And the Commission has not shown that the trend under the current rules toward reliance on shelf registration and other means to relieve timing concerns has caused any harm to investors.
Filing and prospectus delivery. Many of the proposed changes, such as moving away from shelf registration to require a new registration before each sale and requiring delivery of a preliminary prospectus seven days before an investor can be included in an offering, could make it very difficult to complete offerings, because they would not allow flexibility to react to changing market conditions late in an offering. Although, in principle, other things being equal, an investor would rather have information filed with the Commission earlier or distributed sooner, the Commission has not shown that investors do not now have sufficient timely information. The proposals could hobble the capital-raising process without a corresponding benefit to investors.
Shift toward registration and away from private markets. The securities laws have always recognized that some investors can fend for themselves and have allowed issuers to avoid regulatory burdens if they sell securities to those investors. This is good, not bad: there is no reason to impose regulatory burdens on private markets, making them less efficient and attractive, as long as private purchasers do not require additional protection and any public distribution is accompanied by full and fair disclosure. That appears to be the case today: the Commission has not offered evidence that the enormous success of the private markets has worked to the detriment of investors. Donnelley sees no reason to impose additional burdens on private capital raising in order to push companies toward registration.
Other communications. Donnelley agrees that technological changes warrant some change in the rules governing communications around offerings. Donnelley is concerned, however, that the Commission's approach will add complexity and uncertainty and could, contrary to the Commission's objective, discourage innovation and better disclosure. The Commission's approach appears to reflect two strongly opposing views: that it is desirable to encourage more freedom for issuers to communicate, but that without intensive new regulation issuers will misuse this new freedom and investors will suffer. The result is a compromise that may not benefit issuers or investors. Donnelley understands that the Commission must carefully weigh the risks of deregulating, and tailor the new rules carefully. But if the changes are to benefit issuers or investors, the Commission must provide a simpler, clearer path for issuers. Under the new regime proposed, it is unlikely that issuers will engage in a more open dialogue with investors or that investors will benefit from all of the new ways that today's and tomorrow's technology will allow information to be shared with them.
Exchange Act reporting. Donnelley believes that the Commission should reconsider its approach to improving Exchange Act reporting. The Commission's proposal to require more filings, with more information, sooner, and with more involvement by directors and senior management is not realistic. These faster time tables are likely to reduce the quality of disclosure at the same time that the Commission is asking for higher quality. In Donnelley's experience, the deadlines for Exchange Act reports under the current rules are already tight. Moreover, Donnelley believes that the proposals misinterpret the appropriate role of directors and senior management in companies' day-to-day disclosures. Donnelley urges the Commission to consider any reform of the Exchange Act reporting system through an open dialogue with the issuer community, outside the setting of the complex proposals to reform the securities offering process.
II. Registration System Reform
For the last several years, the Commission has been examining the securities registration system, seeking possible improvements in light of changing conditions in the capital markets. The Commission has now proposed a sweeping overhaul intended to provide greater flexibility and speed in the registration process, consistent with investor protection. The Commission hopes that greater flexibility and speed will encourage more issuers to choose registration rather than exempt placements.
Donnelley applauds the goal of increasing the speed and efficiency of some registered offerings. Donnelley believes, however, that a number of the Commission's proposals are in fact inconsistent with that goal. Moreover, Donnelley questions the Commission's underlying objective of encouraging more registered offerings, particularly if that means reducing issuers' flexibility and increasing their costs. Donnelley also believes that the Commission's attempt to simplify registration by reducing the number of registration forms could actually complicate the process, because each new form would have to be extremely complex to accommodate the many kinds of offerings that could be registered.
B. New Registration Forms
The Commission has proposed a three-tier registration system for both domestic and foreign issuers: Form A for offerings by small or unseasoned issuers; Form B for offerings by large, seasoned issuers and offerings to specific types of investors; and Form C for offerings in connection with business combinations and exchange offers. The primary innovations are in Form B. That form would contain, among other things, a prospectus that includes "offering information" and a "securities term sheet." Issuers registering on Form B could offer securities at any time as long as they filed a registration statement before the first sale. Issuers could designate whether a Form B registration statement would become effective immediately upon filing or at the time requested by the issuer, in either case without any pre-sale staff review. Some smaller but seasoned issuers registering on Form A could also designate the time of effectiveness. (A separate set of registration forms, Forms SB-1, SB-2 and SB-3, would be provided for small business issuers.)
Donnelley agrees with the Commission's goal of simplifying the registration system. Donnelley is concerned, however, that because each form tries to accomplish so much, the forms themselves will be too complicated and the process of preparing forms for filing will grow rather than diminish in complexity. Issuers may find it difficult to navigate through the forms to determine what disclosure items apply to them, whether they can incorporate by reference (and if so, how it is done) and what provisions govern when a form has become effective. It may be easier for the Commission to achieve simplicity by retaining separate specialized forms for the different types of issuers and offerings.
C. Form Eligibility
1. Form B Eligibility Standards
The proposed requirements for eligibility to use Form B are extremely complex. Analyzing whether a given offering may be registered on that form will be time-consuming and difficult for many issuers. In addition, the Commission has proposed to deny Form B eligibility for a significant number of issuers that can now use Form S-3. Donnelley offers the following comments on the eligibility standards in proposed Form B.
Donnelley believes that a number of the proposed disqualifications from Form B eligibility are unnecessary for investor protection: Donnelley is not aware of abuses of short-form registration under current Form S-3 that should lead the Commission to impose such disqualifications on the use of Form B. The Form B disqualifications also contain a number of traps for the unwary, making it easy to envision situations in which an issuer does not realize that it is disqualified from using Form B. Issuers may find that the risk of inadvertently using the wrong form outweighs the benefit of the certainty of no staff review.
"Bad Boy" Disqualification . Among the most troubling of the disqualifications is the so-called "bad boy" disqualification. This disqualification would prohibit an issuer from using Form B if, within five years before the date of filing, the issuer, or any executive officer, director or general partner of the issuer or any underwriter has been convicted of certain felonies or misdemeanors, or if any such person is the subject of a judicial or administrative decree or order relating to certain violations of the securities laws.
Under the current Form S-3, an issuer with such a history, or with an underwriter who has such a history, can use the form, although it may need to disclose the violations in the prospectus or through incorporation by reference. The proposal to make short-form registration wholly unavailable, rather than merely require disclosure, seems both harsh and unnecessary: there is no evidence of harm to investors from allowing use of current Form S-3 in these circumstances.
Moreover, an issuer may not realize that it is ineligible to use Form B, if the ineligibility arises from the disqualification of an underwriter. To minimize the risk of a Section 5 violation, the managing underwriter would need to conduct time-consuming additional screening of potential underwriters. To accommodate this expanded screening process, the final composition of the underwriting syndicate would probably have to be determined much earlier than is currently the case, which would require more lead time for Form B offerings than is needed for most expedited offerings under the current system.
The potential for disqualification from Form B if an underwriter has "bad boy" disqualifiers may also result in smaller underwriting syndicates, which could favor larger investment banks over smaller or regional firms. This could decrease the efficiency of the capital markets, because distribution of securities might tend to be controlled primarily by a few large firms.
In light of these concerns and the absence of evidence of any pertinent investor protection need, Donnelley urges the Commission not to adopt this disqualification.
Outstanding Staff Comments. Form B would not be available for issuers incorporating by reference an Exchange Act report if the Commission had requested the issuer to amend the report and the issuer "did not amend the report or, in the Commission's judgment, did not amend the report in accordance with the Commission's comments." Donnelley believes that this disqualification is both unnecessary for investor protection and troubling.
Under current shelf registration procedures, an issuer and its underwriters can evaluate outstanding staff comments on reports and proceed with the offering if they determine that the comments are not material. This procedure is consistent with the basic philosophy that the issuer, not the Commission, is ultimately responsible for disclosures. An issuer with material staff comments on a filed report risks potential civil liability to purchasers if it proceeds with an offering and is later required to amend its Exchange Act filings in a material respect, and the prospect of civil liability surely serves as an effective deterrent to proceeding with an offering in the face of material outstanding staff comments. The Commission has not presented any evidence of shelf takedowns by companies that have failed to amend Exchange Act filings in response to material staff comments, or that, if there have been such takedowns, investors have been harmed.
The proposed disqualification would take control of the timing of offerings -- and the response to staff comments -- out of the issuer's hands. An issuer that needed to go to market would have no alternative but to amend its filings as requested, even if it strongly disagreed with the comments. (Alternatively, the issuer could sell privately or offshore and then register resales after it resolves the staff comments, an alternative that seems inconsistent with the Commission's goal of encouraging registration.)
A further problem is that an issuer could believe in good faith, but erroneously, that it had responded adequately to the staff's comments. To address this, the Commission would have to establish procedures to provide assurance to issuers with respect to the status of any staff comments on earlier filings. For example, the Commission could adopt a requirement that an issuer be notified whether the comments are adequately resolved within a specified time after the issuer submits a response to staff comments. 1
Eligibility Based on Size of Issuer's ADTV. As the Commission notes in the Release, a significant number of issuers currently eligible to use Form S-3 would not be eligible to use Form B because of the addition of the $1 million average daily trading volume test. The Commission says it is concerned that companies with between $75 million and $250 million in public float are not sufficiently followed by analysts to allow short-form registration unless they also meet the proposed new trading volume test. The Commission has not presented any evidence, however, that investors purchasing in offerings by these companies have received insufficient information or have been otherwise harmed.
Donnelley believes that the Commission's proposal to require long-form registration by these companies is unnecessary for investor protection and will impose substantial costs on these companies. In printing costs alone, an S-1 can be many times as costly as a short-form S-3. Investors have access to substantial amounts of information about reporting companies, both through the periodic reports filed with the Commission and through information provided in prospectuses. In Donnelley's experience, many companies include substantial amounts of information in Form S-3 prospectuses. In light of the high level of quality information, Donnelley does not believe that it is necessary to move these issuers to long-form registration in order to insure that investors are adequately protected. Making registration more difficult for these companies also seems inconsistent with the Commission's goal of encouraging registered offerings.
Resale Registration. The Commission's proposal to eliminate short-form eligibility for resale registration unless the issuer would be eligible to register a primary offering on Form B would impose significant new costs on smaller companies. The Commission has not presented evidence that investors have been harmed by the use of short-form resale registration by smaller companies. The Commission's apparent purpose is to encourage these smaller companies to register their initial offerings to private purchasers so that resale registration is unnecessary, but that seems unlikely to be the result. Donnelley questions whether this costly change is necessary for investor protection.
Smaller companies faced with a need for capital often raise money in private offerings because they cannot risk a delay for possible staff review before the offering is consummated. Many of these companies are not seasoned, so QIB-only Form B offerings would not be possible. Even for seasoned smaller companies, Form B QIB-only offerings may not be possible, because many of the investors in these offerings are "angel" investors experienced in private placements but not qualified to purchase in a QIB-only offering. As a result, companies faced with an immediate need for capital are likely to continue to raise it in private offerings, and then to face significantly greater costs to provide registration for the buyers.
The Commission also says that the theory of short-form eligibility (that short-form registration should be available only to well-followed issuers or for offerings to certain investors who do not need information physically delivered to them) is inconsistent with allowing these smaller companies to use short-form registration for resales. But notwithstanding any such theoretical inconsistencies, short-form registration has always been available for these offerings with great benefits for issuers and without demonstrable harm to investors. Donnelley urges the Commission to reconsider its proposal to disallow short-form registration for these offerings.
QIB-Only Offerings -- Repeal of Exxon Capital. The Commission attempts in two ways to encourage registration rather than reliance on Rule 144A: (1) allowing Form B -- with effectiveness on demand -- to be used for QIB-only offerings without regard to the issuer's public float, and (2) repealing the Exxon Capital line of no-action letters. For the reasons noted below, Donnelley believes that the proposed Form B eligibility standards for QIB-only offerings will not adequately meet issuers' needs for rapid access to capital. In addition, in the absence of evidence that investors are harmed by the Rule 144A/Exxon Capital approach to capital formation, Donnelley believes that the significant costs imposed by the new system far outweigh any improvement in investor protection. Donnelley urges the Commission to continue to allow reliance on the Rule 144A/Exxon Capital approach. If the Commission determines to repeal that line of letters, Donnelley urges the Commission to reconsider the eligibility criteria for Form B QIB-only offerings to address the concerns noted below.
Form B offerings to QIBs could be made only by an issuer that has been a reporting company for at least one year, has filed at least one annual report and is current and timely in fulfilling its reporting requirements. These requirements, in addition to the "outstanding comments," "bad boy, " and other disqualifications from use of Form B, would seriously limit the number of issuers that could take advantage of the Commission's plan to encourage registered offerings. For example, Donnelley understands that a significant percentage of Rule 144A/Exxon Capital exchanges are made by companies not subject to reporting at the time of the offering. None of these companies could make QIB-only offerings on Form B. In addition, under the proposals, QIB-only offerings on Form B could not be made to dealers or investment advisers, both of which are currently eligible to participate in Rule 144A offerings.
Issuers and QIBs may also be reluctant to use QIB-only offerings on Form B because of the risk of a Section 5 violation resulting from indirect public distribution of securities. In the Release, the Commission notes that if securities registered on Form B for a QIB-only offering do not come to rest with eligible QIBs, the offering would become ineligible for Form B. If a QIB-only offering is registered on Form B but is subsequently found to be ineligible for Form B under this "conduit" theory, it appears to be the Commission's view that the offering is unregistered and any QIB that purchased the securities and then resold them is effecting a distribution and acting as an underwriter. Therefore, unless an exemption from registration happens to be available, the entire offering would violate Section 5. This feature of the proposal could scare away QIBs, which would not know when they could resell, and issuers, which are not able to monitor resales effectively.
Because of the limited number of issuers eligible to register on Form B for QIB-only offerings and the risks of Securities Act violations associated with improper use of Form B, Form B registration may not provide an adequate alternative to Rule 144A offerings for many issuers who now rely on them. Form B would still provide benefits to those who chose to use it, but if the Commission repeals Exxon Capital, it would be important to provide a means by which issuers that currently use Rule 144A/Exxon Capital can access the markets rapidly, and to provide an efficient means of affording liquidity to investors. Donnelley does not believe that the proposals adequately meet those needs.
Eliminating Exxon Capital exchanges will introduce inefficiencies into a market that now works very well. Rule 144A/Exxon Capital transactions are typically used where fast access to the market and liquidity for the buyers are critical. Under today's regulatory structure, an offering pursuant to Rule 144A can be completed more quickly and with more flexibility than a registered offering. An Exxon Capital exchange allows holders of the securities issued pursuant to Rule 144A to exchange their securities for securities with the same terms that are registered under the Securities Act and, therefore, are freely salable.
Neither the demand for fast and flexible access to the market nor the demand for freely tradeable securities will diminish if Exxon Capital exchanges are eliminated. As a result, issuers may continue to offer and sell securities pursuant to Rule 144A in order to get the desired market access, but then will be forced to prepare and file a resale registration statement so that purchasers of the unregistered securities will be able to resell them. Issuers would need to keep a resale registration statement current for at least two years, or until all of the Rule 144A securities have been sold, which would be burdensome and costly. The costs and burdens would be even more pronounced if access to short-form registration for selling stockholder transactions and the ability to "forward incorporate " future Exchange Act filings are restricted as proposed.
In addition, institutions are likely to pay significantly less because of the need to hold the securities and to deliver a prospectus on resale. Institutions subject to investment restrictions are often limited to specified amounts of restricted securities. Donnelley understands that securities that are restricted but subject to an effective resale registration statement continue to be treated as restricted for these purposes. As a result, the amount of other restricted securities that an institution could hold would be reduced, and buyers would be likely to require higher yields to compensate them for taking space in their restricted "baskets." In addition, since these buyers would be subject to Section 12(a)(2) seller liability for the resale prospectus, it is likely that these buyers would require additional compensation (in the form of higher yields) to make up for this new risk.
The consequence for issuers would be delay and higher capital costs. The consequence for buyers would be increased liability. In light of these increased costs and burdens, it is inappropriate to make these changes without clear evidence that investor protection is inadequate today. The Commission has not presented any evidence that the 144A/Exxon Capital financing technique results in any harm to QIBs or to retail investors. In the absence of such evidence it is difficult to understand what benefits could outweigh the high costs of this regulatory change.
2. Form A Eligibility Standards
Form A would serve several purposes in addition to replacing current Forms S-1 and F-1. Form A will also permit some issuers to incorporate Exchange Act filings by reference and some issuers to designate time of effectiveness. This will enable Form A to (1) replace Forms S-2 and F-2, which allow for a form of incorporation by reference, and (2) provide a means for some companies, such as those that would lose short-form eligibility because they would not meet the new trading volume test applicable to Form B, to have registration on demand without any pre-sale staff review. But the eligibility standards for these special Form A privileges are complex and uncertain.
The right to incorporate by reference and the right to designate effectiveness on Form A are subject to a number of complex provisions, including the same disqualifications as are applicable to the use of Form B as discussed above. Donnelley believes that the disqualifications (e.g., "bad boy" and outstanding staff comments) raise the same concerns in connection with Form A as with Form B, and Donnelley urges the Commission to reconsider these disqualifications for Form A as well.
In addition, Donnelley believes there is a high risk that issuers will make mistakes in determining what type of Form A offering they are eligible to conduct, and believes that the complexities in the form itself should be removed to the extent possible. For example, Form A allows issuers to incorporate by reference if they are "seasoned" and are not disqualified. Seasoned issuers also can designate the effective dates of their registration statements if they are not disqualified and they are eligible to do so under proposed Rule 462(f)(1)(iv). That rule has complex tests, including several references back to various sections in Form A, and sets forth alternatives based on a minimum public float or staff review of the most recent annual report and company compliance with any staff comments. Issuers may well make mistakes about whether they are eligible to designate effectiveness. If the issuer makes this mistake and sells promptly after filing, it risks liability, including the possibility that the Commission would take the position that the offering was not registered.
To meet these concerns, Donnelley believes that the Commission could consider simplifying matters so that only one test (set forth in the form itself) applies to both incorporation by reference and designation of effectiveness, or having different forms for the different types of offerings. In the event that one test is used, Donnelley believes that the test for incorporation by reference should be sufficient for both purposes.
D. Liability for Incorrect Form Selection
The Commission indicates in the Release that an issuer that files on Form B or designates effectiveness on Form A when it is not eligible to do so has made an unregistered offering in violation of Section 5. This would mean that all investors in the offering have rescission rights. This severe penalty could significantly deter use of Form B or designation of effectiveness on Form A, and it would provide an unjustified windfall to investors.
Donnelley understands that the Commission is quite concerned that issuers will misuse the new forms to avoid staff review. Although Donnelley understands the Commission's concerns, treating these offerings as unregistered is far too harsh: the risk would deter responsible issuers who should be able to take advantage of the new forms from registering offerings in this fashion. Even worse, investors would get a windfall when responsible issuers make innocent mistakes, even if the issuer in fact provided full and fair disclosure. Donnelley urges the Commission to reject this approach.
The Commission could meet its concerns about misuse of the ability to designate effectiveness in less draconian ways. For example, the Commission could bring enforcement actions against companies that use Form B or designate effectiveness under Form A without a good faith belief that they were eligible. Alternatively, the Commission could disqualify such an issuer prospectively from using Form B or designating effectiveness under Form A.
E. Timing of Offerings and Filing Requirements
A registration statement on Form B would be required to be filed before the first sale of the securities. Filing could immediately precede the sale: the issuer would have discretion to specify when its registration statement will become effective, which could be upon filing, at a specified date and time after filing or as specified in a later amendment. On its face, this "file and go" approach appears to increase the speed and efficiency of eligible offerings. Unfortunately, in practice, it may actually delay and increase the costs of a significant number of offerings, notably delayed shelf offerings and selling security holder resales. In addition, logistical problems caused by needing to make filings on the proposed tight deadlines within the current EDGAR hours of operation may make the approach unworkable.
1. Delayed Shelf Offerings
Today, delayed shelf offerings pursuant to Rule 415(a)(1)(x) are very fast and efficient. Registration statements for these offerings can be prepared, filed and declared effective well in advance of any takedown. When the issuer later decides to offer and sell securities, it may do so immediately, and it then has two business days after pricing to file a prospectus supplement pursuant to Rule 424(b) containing pricing and other transaction specific information. Shelf registration thus currently offers S-3-eligible issuers the opportunity to sell securities almost immediately after making the decision to access the capital markets.
Under the proposed rules, an issuer would have to file a separate registration statement on Form B, which would operate as the equivalent of a base prospectus and a Rule 424(b) prospectus supplement, prior to the first sale of securities for each takedown. This means that substantially final offering documentation would have to be completed a full two days earlier than is now the case. 2 Issuers and underwriters would have to agree on the terms of the offering earlier in the offering process, which would leave them with less flexibility to modify the offering terms based on rapidly-changing market conditions. That delay could only increase the cost of capital. The Commission has suggested that an issuer who is accustomed to using shelf registration could file preliminary information in advance on Form B and, depending upon whether the issuer wishes to designate the effective date of the Form B, it could then file the additional, transaction-specific information in a pre-effective amendment that specifies that the registration statement goes effective upon filing of the amendment, or in a post-effective amendment that is effective upon filing. Unfortunately, this does nothing to reduce the inefficiencies created by requiring documentation to be completed and filed prior to the first sale, because the deal terms or other deal-related information would be required to be included in an amendment (either pre- or post-effective) that is filed and effective prior to the first sale. Preparing and filing these materials in the short time available for expedited offerings would be much more difficult than the current shelf registration process. This would present new logistical problems, additional filing preparation costs and opportunities for filing errors, as well as jeopardize the quality of the disclosure in the filings. 3
Requiring a separate Form B registration to be filed for each offering would also increase administrative burdens and costs for issuers that currently use the shelf. Once a registration statement and base prospectus are filed under the current system, preparing and filing supplements under Rule 424 for shelf takedowns is not complex. By contrast, filing a new Form B for each offering would require new signatures, new accountant consents, new opinions and the like. In the case of a frequent issuer, this could increase costs substantially. Even if a "base" Form B could be used in a manner similar to the base Form S-3 today, the requirement to file a pre-sale amendment would add significant new filing burdens. 4 Also, given the short time available, the quality of the disclosure could suffer and the opportunity for errors would increase. This administrative burden does not appear to be justified by any additional disclosure benefits to investors. 5
Donnelley urges the Commission to retain the current very successful shelf registration system. If the Commission decides to adopt the requirement that a separate Form B registration statement or an amendment must be filed for each offering, Donnelley urges the Commission to consider allowing the Form B and any amendments to be filed on a more reasonable schedule so that the quality of the filing and disclosure do not suffer. For example, the Commission could consider allowing issuers to file Form B registration statements and amendments within two business days after the first sale of securities. Although this process would still be more cumbersome and costly than the current shelf registration process, it would more closely mirror the current requirement of Rule 424(b)(2) with respect to prospectus supplements and provide issuers more nearly sufficient time to create filings that comport with the high standards applicable to SEC filings. 6
With respect to shelf registrations, the Commission has expressed concern that some investors are aware of a takedown before it happens while others become aware only when the prospectus supplement is filed with the Commission afterwards. Although it is not clear that the current system has resulted in any harm to investors, to address this concern the Commission could require issuers to issue a press release or make a filing with the Commission at or before the time of sale indicating that they have made an offering and including information like that specified in Rule 134 (such as title and amount of securities). The issuer could then file the Form B within two business days after the sale. 7 This would give notice to the market, but would reduce the problems caused by the rush to file. Absent evidence that the current shelf takedown procedure harms investors, the Commission should not create new market inefficiencies by modifying the current system in the manner proposed.
2. Form B Resale Registration
As discussed above, the number of selling security holder resale registration statements that will be eligible for short-form registration on Form B will be substantially smaller than the number now eligible for Form S-3. For those that are eligible, the proposals will impose new filing requirements and create timing problems. Donnelley believes these new requirements are not necessary for investor protection and should not be adopted.
Under current rules, a registration statement on Form S-3 for selling security holder resales is automatically updated through forward incorporation by reference of future filings. Accordingly, once the Form S-3 is effective, it is not necessary to file amendments in order to allow sellers to use the prospectus in the Form S-3 to make sales. Issuers traditionally maintain these resale shelf registrations for up to two years, pursuant to registration rights agreements entered into at the time of the original private sales.
Donnelley understands that under the proposed rules, once a Form B resale registration statement is effective, the staff is of the view that it will be necessary to file a post-effective amendment whenever a selling security holder actually offers the security. Apparently, the staff's position is that periodic reports can be incorporated by reference only if filed during the "offering period" and that the offering period will not be viewed as continuous over the life of the shelf registration. As a result, unless the selling security holder sells immediately after effectiveness, the Form B would become stale and would need to be updated through an amendment incorporating any later Exchange Act filings.
This approach would introduce new administrative burdens and uncertainties for these offerings. The need to file amendments would be expensive and logistically difficult. Selling security holders may determine to offer securities for sale, and then have to wait while an amendment is prepared. There would then be time pressure to complete the filing before the trade evaporates, which would increase costs and the opportunity for mistakes. If a resale shelf registration covered sales by a significant number of security holders, the company could be faced with many requests for amendments. In addition, it is possible that a company would lose its Form B eligibility before the amendment is filed because, for example, it is undergoing a review of its Exchange Act reports and has not yet responded to all staff comments. If so, a resale shelf registration would not assure a selling security holder of liquidity, even if the company is generally eligible to use Form B.
These problems would increase the cost of capital for issuers. At the same time, the Commission has not demonstrated that the current "evergreen" resale registration approach has harmed investors. If the Commission otherwise adopts the proposals, Donnelley urges it to make clear that for selling security holder resale registrations, the " offering period" is continuous until the securities are sold or deregistered. Selling security holders would then not face blackout periods when they could not sell, and issuers would avoid the costs and burdens of filing amendments each time a selling security decides it wants to sell.
3. EDGAR Filing Concerns
The proposed new registration system would significantly increase time pressures for making filings in registered offerings. In many cases, these filings would be more complex than under the current system. Donnelley's experience in preparing filings today is that issuers often work under extreme pressure to complete filings on schedule. Donnelley believes that the risk of filing errors, including filings that simply do not get done in time, is increased under the proposals. One measure that might alleviate some of this concern would be to allow for EDGAR filings to be accepted 24 hours per day. This would enable a company that tries, but fails, to make a filing late at night just around the time of an investment decision to try again without an artificial cutoff. Donnelley urges the Commission to consider extending the hours of EDGAR operation as much as possible if the Commission adopts a registration system along the lines of the one proposed.
F. Contents of Form B Registration Statements
Donnelley understands that the Commission proposes that the disclosures required in a Form B registration statement would be substantially the same as in current Form S-3. The Commission requested comments on whether the transaction-specific disclosure should include (1) offering information that includes some of the traditional items of transactional disclosure or (2) all of the information required by the Regulation S-K transactional disclosure items currently required in Form S-3 or Form F-3. For the reasons noted below, Donnelley believes it would be preferable to continue the current line-item requirements.
It is likely that issuers will craft substantially similar transactional disclosure under both of the alternatives and that, as a practical matter, this disclosure will be almost identical to what issuers currently provide. The primary difference between the two alternatives is that the first has less precise disclosure requirements, which could lead to confusion and potential exposure for issuers. For instance, instead of stating that an issuer must "[f]urnish the information required by Item 508 of Regulation S-K" as in Item 8 of Form S-3, proposed Form B states that an issuer must disclose "information about the plan of distribution of the type described in Item 508 of Regulation S-K " Requiring information "of the type described in" a specific disclosure item does not provide sufficient, specific guidance to issuers in crafting their disclosure. Because issuers will be unsure of exactly what disclosure is "of the type" specified, by default they will likely choose to follow the specific requirements of the existing disclosure items and rely on the same boilerplate disclosure they have used for years. As a result, it is unlikely that the elimination of a few specific disclosure requirements and the lack of precision in several of the remaining requirements would improve the overall quality of disclosure, result in "customized" disclosure documents or eliminate boilerplate.
III. Information Delivery Requirements
Donnelley agrees with the Commission that investors are often better served when they are given information earlier, and that in some transactions investors need a block of time to consider the disclosures. Donnelley does not, however, believe that the Commission's approach to information delivery in the proposed rules is necessary or appropriate for investor protection. On the contrary, Donnelley believes that some of the proposals would actually harm both issuers and investors because of negative effects on the costs of capital and the vibrancy of the U.S. capital markets.
Donnelley believes that under the current system issuers generally provide information to investors when investors require it, and provide adequate time because investors demand it. It is not necessary to create speed bumps in the offering process to make sure investors get enough information and time to consider it. Instead, the focus should be on allowing issuers to craft disclosure that suits investors' needs, such as through some of the Commission's proposals to liberalize communications around the time of offerings discussed in Section IV below.
B. Delivery of Preliminary Prospectus Information for Form B Offerings
With respect to offerings registered on Form B, the Commission has proposed requiring that a term sheet prospectus be sent in a manner reasonably designed to arrive before the date an investor makes a binding investment decision. The term sheet would be a part of the registration statement on Form B filed with the Commission before the first sale of the security. Requiring documentation of a deal to be prepared in time to be delivered on the date before investment decisions are made means that there would be a lag time not currently required between the moment when issuers gauge market interest in a deal and the moment when the deal can be consummated. Even if the term sheet delivery were permitted up to just before the investment decision, 8 the requirement to document the deal in advance of receiving a commitment would introduce new timing problems. Donnelley believes that the uncertainty and increased time to market would increase costs to both issuers and investors and urges the Commission not to adopt this requirement.
The benefits of pre-delivery to investors purchasing securities of large, seasoned Form B issuers are very limited at best. In this information age, investors have access to information about issuers through sources other than the offering documents. Term sheet information is not likely to be particularly useful to investors in most Form B offerings unless the offering involves a novel or particularly complex security. If investors do need information about specific terms of the offering, they will demand it prior to committing to purchase the securities. The benefits of pre-delivery to QIBs in QIB-only Form B offerings by smaller companies also appear to be marginal. If these sophisticated investors need written information in advance of commitment, they will demand it, as they do now in the asset-backed securities market. It is not necessary for the Commission to impose additional requirements that will decrease efficiency and increase the cost of capital for issuers.
Pre-delivery of term sheets would be particularly difficult in some settings, such as a sale by a trading desk of a block of securities registered on Form B, or in the case of "reverse inquiry" in which an investor makes an offer to purchase securities from an issuer. It is also difficult to envision how a term sheet would be delivered in the case of a secondary trade by a selling stockholder on an exchange. In those cases, it is unclear how any benefit of a term sheet requirement could offset the logistical problems.
If the Commission determines that term sheets must be provided, Donnelley believes that the Commission should provide clearer guidance about their content. As proposed, the term sheet would have to provide, among other things, "an itemization of the material terms of the securities in summary format." 9
Donnelley is concerned that issuers and underwriters will not know what information is required. Donnelley's long experience is that clear disclosure instructions are important to assure correct filings. This is particularly true when the Commission adopts new rules. As just one example, in a debt security term sheet, would it be necessary to include information about redemption in the event of a change in control? If so, would it be sufficient to say that the securities must be redeemed on a change in control? Or would it be necessary to explain the various conditions to redemption, the price, and the applicable definition of change in control? If there is no provision for redemption on a change in control, is that fact itself a material term that needs to be " itemized in summary format"?
The term sheet would be a part of the registration statement on Form B, and would be subject to strict Section 11 liability. Facing this strict standard of liability, it seems likely that term sheet authors would err on the side of over-disclosure, to avoid a claim that a material term was left out, or was insufficiently explained. This could result in long, boiler-plate term sheets that are not helpful to investors. In order to mitigate these concerns, the Commission should consider providing examples of acceptable term sheets for different types of offerings.
C. Delivery of Preliminary Prospectus Information for Offerings by Smaller or Unseasoned Issuers
With respect to offerings other than those registered on Form B, the Commission has proposed two different time frames for prospectus delivery. If the offering is an issuer's IPO or occurs within one year after the effective date of the issuer's IPO, a prospectus satisfying Section 10 of the Securities Act must be sent to each investor in a manner reasonably designed to arrive at least (a) seven calendar days before pricing of the offering in the case of a firm commitment underwritten offering or (b) seven calendar days before the investor signs a subscription agreement or otherwise commits to purchase the securities in an offering that is not underwritten on a firm commitment basis. If the offering occurs more than one year after the effective date of the issuer's IPO, the periods are reduced to three calendar days.
The timing of this pre-delivery requirement raises serious logistical problems. A requirement to deliver a preliminary prospectus three or seven days prior to the sale of securities would mean that only those investors who had been identified before the cutoff date, or otherwise happened to receive a prospectus, could be included. The size of an offering could not be increased because of demand, even if each new investor had in fact reviewed the prospectus. On the other hand, if there is insufficient interest in the offering after the relevant delivery period has passed, the issuer would have to deliver prospectuses to additional investors and start the clock running again. Furthermore, if an investor drops out of the offering near the pricing date, the delay required to replace that investor could stop the entire deal if market conditions change during that period. In a jittery IPO market the clock might have to restart several times, and an offering that could be done under current SEC rules might never get done. In order to attempt to avoid these problems, issuers could deliver prospectuses more widely than they currently do, but that would involve additional printing and mailing costs, and the issuer still might not know whether it had sent enough prospectuses until it is too late. In any case, offerings will likely take longer and cost more for issuers and investors. 10
Donnelley does not believe that these increased costs will be offset by any corresponding benefit for investor protection and urges the Commission not to adopt these proposed delivery requirements. The Commission has not presented any evidence that investors in offerings of smaller or less-seasoned companies do not currently receive adequate information. In Donnelley's experience, in initial public offerings and offerings by less-known issuers, there is already broad dissemination of preliminary prospectuses before investors make binding investment decisions. These offerings are typically marketed for a substantial period of time before pricing. Informed decision-making results from the wide general availability of preliminary prospectuses to investors and their advisers, not primarily from each investor's individual study of the prospectus. Imposing additional requirements for these offerings is not necessary and could be very disruptive to completion of offerings.
IV. Clarifying and Liberalizing Rules Regarding Issuer Communications
Donnelley supports the Commission's goal of clarifying and liberalizing the rules regarding issuer communications around the time of offerings. Clarifying the rules would help all issuers make more useful communications to investors. More predictable ground rules would enable issuers to provide continuous information with assurance that they are not risking disruption of their capital raising plans. And freer issuer communications would give investors increasing amounts of relevant and useful information.
Liberalizing the communications rules at this time in the evolution of electronic communications is critical. Unless the rules are changed to keep pace with the new ways that information is communicated, investors will miss the opportunity for more relevant and timely information, and the rules will lose touch with the way information actually spreads.
Donnelley does not believe, however, that the Commission's proposals will fully accomplish these goals, because the proposed rules are unnecessarily complex and difficult to comply with. In addition, the penalties for noncompliance are severe, with the result that issuers may not be willing to take advantage of the increased freedom the proposed rules purport to grant. Donnelley's research in the financial marketplace indicates little to no interest in employing these new communication opportunities because of these concerns. Donnelley also believes that large issuers, many of whom are quite comfortable engaging in extensive communications under the current rules, may decrease their public communications because of the strict filing requirements and liability imposed.
B. The Pre-Filing Period
1. Form B Offerings
The Commission has proposed to liberalize significantly the rules regarding communications surrounding offerings registered on Form B. Specifically, offers could be made before filing a registration statement if the offering is later registered on Form B and the issuer files with the Commission any "prospectus" used in reliance on the exemption during the period beginning 15 days before the "first offer and ending with the filing of the registration statement." Any "offering information," as defined, would have to be included in the Form B registration statement; other information that is deemed a "prospectus" (such as "free writing materials" and "regularly released forward-looking information") would be filed under proposed Rule 425 at the time the Form B is filed.
Donnelley applauds the Commission's creative use of its exemptive authority to allow offers before filing but believes that revisions to this proposal would be necessary to encourage issuers to use it. In addition, if the proposal is not revised, issuers may communicate less than they do now, out of fear that a communication might later be subject to a filing requirement even though the issuer was not contemplating an offering when the communication was made.
Under proposed Rule 425, any prospectus used in reliance on the safe harbor described above must be filed with the Commission at the time the registration statement is filed, unless the prospectus is a "factual business communication," information already filed or to be filed as part of an effective registration statement (such as "offering information"), a research report, or one of several other types of information related to specific types of offerings. This filing requirement will require issuers to take several steps. First, issuers must gather all of the communications made by themselves, their underwriters and participating dealers during the 15 days preceding the first offer. Second, as discussed in more detail below, they must classify the communication to determine whether it is required to be filed. This would involve determining whether it would be a "prospectus" and, if it is, deciding what type of prospectus it is (e.g., "free writing", "regularly released forward-looking information"). The threshold question whether a particular communication is a "prospectus" would often be difficult, since the term "prospectus" is very broad and subject to divergent interpretations. Further categorizing the communication under the various definitions in the proposed rules would also be difficult, as discussed below in " Communications Subject to the Rules." Third, issuers must file the communication when they file the Form B, which might involve creating a transcript of a multimedia presentation so that the communication is capable of being filed via EDGAR prior to the first sale in the offering. All this would need to be done on the potentially very tight schedule for a Form B offering.
This cumbersome process may cause a Form B issuer to think twice about communicating at all during the 15-day period before its first offer. Because larger issuers do not always plan offerings 15 days in advance, Form B issuers may place more restrictions on communications than they do today. Rather than increasing communication to the public's benefit, the Commission's proposals may actually chill such communication.
Even the 15-day period may be hard to identify. It often will be difficult to determine when the first "offer" is made, particularly since "offer" as defined in the Securities Act is an extremely broad term. If the exact beginning of the period is not clear, there is a good chance that issuers will do one of the following: (1) cease communicating if they think they might make an offer in the foreseeable future, (2) find they have to delay offerings because they communicated at a time when they did not expect to make an offering and are not willing to file the materials, or (3) make a mistake in judging when the first offer occurred, and therefore fail to file required materials, which could provide rescission rights to buyers in the offering.
In light of these concerns, Donnelley urges the Commission to narrow the filing requirement to apply only to a more specific category of communications, such as communications that are used by an issuer or an authorized representative specifically to market a security. In addition, Donnelley suggests that the Commission provide a clearer definition of the covered period, such as a specified number of days before the Form B registration statement is filed.
2. Other Offerings
The Commission has also proposed to liberalize the pre-filing communications rules applicable to issuers and to offerings other than those registered on Form B. Specifically, any communication (including those that would otherwise constitute "offers" or "prospectuses") made by an issuer, underwriter or participating dealer more than 30 days before the date of filing of the registration statement would not be deemed an offer as long as the issuer, underwriter or participating dealer takes all reasonable steps within its control to prevent further distribution or publication of the communication during the 30 days preceding the filing of the registration statement. Although it may be difficult to control further distribution, Donnelley believes that this safe harbor should provide significant additional certainty and flexibility to smaller or less seasoned companies, without sacrificing investor protection.
During the 30-day period before filing, Form A issuers would be able to issue communications falling within the newly created safe harbors for "factual business communications" (such communications would not have to be filed) and "regularly released forward-looking information, " which would have to be filed under Rule 425 at the time of filing the related registration statement. Donnelley's concerns with respect to the classification and filing requirements for these materials are discussed below.
C. The Post-Filing Period
The Commission proposes to liberalize substantially the rules relating to communications during the post-filing period. Under current rules, until a final prospectus is delivered, no other writing that offers the security may be used unless the writing satisfies the strict statutory tests for a preliminary prospectus. Under the new rule, issuers and underwriters could use any materials to offer the security after filing the registration statement, as long as (1) prospectus information is delivered in accordance with proposed Rule 172, (2) the issuer files with the Commission any prospectus used in reliance on this " free writing" rule on or before its first use, and (3) the issuer files the Section 10(a) prospectus with the Commission prior to the first sale.
Donnelley believes that an exemption to allow free writing throughout the offering for Form B issuers and during the post-filing period for Form A issuers would enable issuers to provide disclosure more closely tailored to the needs of investors. The requirement that the statutory prospectus be on file, and be delivered when appropriate, should assure that investors have access to high quality information against which to judge the free writing materials.
Donnelley understands from its customers, however, that they would be reluctant to take advantage of this opportunity for freer communication because of the requirement to file all free writing. Every item of free writing will have to be filed pursuant to proposed Rule 425. The filing requirement would mean that issuers must carefully monitor both their own free writing and the free writing that others, such as underwriters, use on their behalf. Reluctance to file these materials, especially proprietary materials prepared by underwriters, could result in limited use of the ability to free write. Indeed, the requirement to file free writing may even result in less communication than under the current regime, because the Commission has indicated that certain communications that are currently viewed as oral, such as road show multimedia materials, would become subject to filing pursuant to proposed Rule 425. As a result, issuers and other offering participants may cease using materials that have typically been used to communicate during the waiting period.
If the Commission determines that filing is necessary for investor protection, Donnelley believes that the Commission should revise the proposed rules to the extent possible to address concerns of issuers and underwriters that may lead them to refrain from using the new exemptions. Possible revisions to accomplish this goal are discussed in the following three sections.
D. Timing of Filing Requirement
If the Commission determines that free writing materials must be filed, Donnelley believes that changes to the filing rules would be necessary to make sure that there is adequate time to find all of the materials, convert them to EDGAR format, and file them with the Commission. Under the proposals, for a Form B offering all free writing would be required to be filed at the time of the Form B filing, or on or before the date of first use if the free writing occurs after the Form B is filed. For Form A, all free writing would be required to be filed on or before the date of first use.
Donnelley believes that the rules as proposed would not allow sufficient time for filing, which could result in filing violations and rescission rights, risks that likely would deter use of free writing. This is particularly true if issuers use new presentation formats, such as multimedia presentations or conversations in chat rooms. For example, in a Form A offering, if a company executive entered a chat room and responded to questions in the afternoon, it is difficult to imagine how that communication could be EDGARized and filed "on or before the date of first use."
In Donnelley's view the following time frames would be tight but more workable than the proposal: For a Form B offering, free writing materials used before the Form B is filed should be allowed to be filed up to at least two business days after sale (the period currently applicable to prospectus supplements in shelf takedowns). For Form A and Form B offerings, post-filing free writing materials should be due no earlier than two business days after first use.
E. Communications Subject to the Rules
Donnelley is concerned that the proposed communications rules are overly complex and that the filing requirements are overly broad. Issuers may find it extremely hard to comply with the various rules because it will be difficult to be certain of the classification of many writings. In addition, many communications that should not be viewed as a part of the offering process would be subject to the rules.
Under the Commission's proposals, communications will consist of "free writing," " offering information," "regularly released forward-looking information" and "factual business communications." The classification is extremely important because it determines the filing requirements, whether or not the communication is permissible at all, and the level of liability that attaches to the information. Issuers will face very real problems trying to classify the various communications because business communications do not neatly divide themselves into these four categories.
For example, a company's press release announcing a new product would, at first blush, seem to be a " factual business communication" and thus constitute a permitted communication not requiring filing. Indeed, two examples in the Commission's definition of "factual business information" are "advertisement of the issuer's products and services" and "factual business or financial developments with respect to the issuer." Most press releases about new products, however, contain statements of management's views about the product's potential success or information about the projected market for the product, because the public demands such information to evaluate the significance of the announcement. It would be difficult to conclude, without further guidance, that these statements are not " forward-looking" statements that cause the entire press release to be subject to filing.
Moreover, the press release would only be covered by the safe harbor for "regularly released forward-looking information" if the issuer had released the same type of information in the ordinary course of business on a regular basis during the two fiscal years (and any fraction of a fiscal year) immediately prior to the communication and the time, manner and form of the current press release are consistent with such past practice. As an initial matter, it may be difficult to decide whether an issuer meets the "regularly released" test. Whether an issuer has "customarily" released a certain type of information during the prior two fiscal years and any interim period and whether a specific communication is consistent in time, manner and form with past communications is a highly fact-specific determination, which adds a measure of uncertainty to the communications rules. If the press release at issue fails the "regularly released" test, then the issuer's communication will not be covered by either safe harbor. Will this mean that most Form A issuers cannot issue press releases about new products within the 30 days of filing registration statements? If so, that is a setback for disclosure as well as for the competitive position of smaller companies planning registered offerings. Under the current system, depending upon the facts, counsel would probably be able to advise the issuer that a press release about a new product could be issued with a minimum of risk.
Donnelley urges the Commission to simplify the proposed communications rules as much as possible. The exemption for "factual business communications" could safely be broadened to cover most business communications issued by companies. For example, Donnelley questions whether it is necessary to exclude any communication that has "forward-looking information." If the Commission's goal was to provide for heightened scrutiny of communications with projections (as distinct from other types of forward-looking information), the Commission could consider limiting the exclusion from the factual business communications safe harbor to communications that include financial projections (although Donnelley has additional concerns about special treatment of projections, as noted below).
Donnelley is concerned that the safe harbor for regularly released forward-looking information would actually discourage release of forward-looking information, even though both the Commission and Congress have made clear that they believe such disclosures should be encouraged. As noted above, the safe harbor is quite narrow. Many issuers would not be eligible, and those that might be eligible may be reluctant to use the safe harbor because of the complexities of the classification and the filing requirements. The Commission's timing in imposing these new requirements would be unfortunate, because many issuers are just beginning to feel more comfortable providing forward-looking information and updating the markets when conditions change. Indeed, this type of communication is becoming more commonplace, taking on the characteristics of an ordinary course business communication. If the rule is adopted as proposed, it could have the unfortunate effect of causing issuers to stop providing forward-looking information if they think they may conduct an offering in the foreseeable future. In light of these concerns, Donnelley suggests that, at least for Form B issuers, the Commission consider treating forward-looking information like other " factual business communications," so that these communications would be permissible at any time and would not be subject to filing.
F. Liability Under the Communications Rules
Another aspect of the Commission's proposals that Donnelley believes may have a chilling effect on useful communications is the increased risk of liability. The Commission has stated that Section 12(a)(2) liability will always apply to free writing materials used during an offering, including regularly released forward-looking information prepared by the issuer and sales materials prepared by any underwriter. This risk of liability could cause issuers and their underwriters to put strict controls on any communications. If even one of the offering participants prepares and uses free writing material, each of the other participants would become liable under Section 12(a)(2). Review of such materials prior to use by each participant and its counsel would be time-consuming, expensive and generally impractical.
Added liability for the content of filed materials is not the only risk. Under the proposed rules, failure to make a required filing could be a Section 5 violation, resulting in rescission rights for investors (even if the material itself was unobjectionable). This is a particularly severe result considering the difficulty of tracking and classifying all written communications by the issuer and all other offering participants, especially when some of the communications might have been used before the issuer decided to offer securities. Furthermore, whether and when a communication is required to be filed will depend in part on whether the offering is registered on Form A or Form B. In addition to tracking and classifying its communications, an issuer will have to analyze its form eligibility and then analyze the various communications rules to determine whether filing is required. The analysis will often be complicated. Because of the potentially severe and retroactive application of the rescission remedy, issuers and offering participants may choose to avoid written communications altogether rather than risk a costly error.
Donnelley recognizes that developing an appropriate regulatory approach to filing and liability for free writing is difficult. Donnelley believes, however, that the proposed approach has too many disincentives to free writing, so that investors will not be able to benefit from the Commission's efforts to provide them with more information.
In order to shift the balance to encourage free writing, Donnelley suggests that the Commission consider adjusting the liability standards for the content of the free writing and the consequences of failure to file. As with offering materials used before the offering period by Form B issuers and prior to the 30 days before filing by Form A issuers, the Commission could consider providing that free writing materials are subject to the Section 10(b) anti-fraud standard, rather than the more strict Section 12(a)(2) negligence standard. Donnelley also suggests that the Commission consider limiting the liability of offering participants for materials prepared and used by other participants. For example, the Commission could provide that one offering participant is not liable for the free writing materials prepared by another unless the participant took part in preparing the materials, used the materials to offer the security or specifically authorized their use by the other offering participant.
With respect to the consequences of failure to file, Donnelley urges the Commission to provide alternative remedies to rescission, such as enforcement remedies or loss of Form B eligibility for future offerings. Providing rescission rights to investors just because a piece of free-writing was not filed would provide an unfair windfall to the investors. The proposed rules already provide that liability for the content attaches whether or not the materials are filed, so filing is not necessary to achieve that result.
V. Improving Quality and Meaningfulness of Periodic Reporting
The Commission has proposed a variety of changes to the rules and forms governing periodic Exchange Act reporting, with the goal of enhancing the quality and timeliness of information in periodic reports. While this is a worthwhile goal, Donnelley's experience in filing these documents for itself as well as for its customers leads it to conclude that some of the proposals could erode the overall quality of disclosure and others will hurt issuers without materially benefiting investors. In light of these concerns, Donnelley believes that certain proposals should be revised or abandoned for the reasons described below.
A. Filing of Summary Financial Information
The Commission has proposed that a new Item 14 be added to Form 8-K, which would require issuers to file the summary financial information required by Item 301 of Regulation S-K after the end of each fiscal quarter and the end of each fiscal year. Issuers would be required to file information with respect to a fiscal quarter within 30 calendar days after the end of the quarter and information with respect to a fiscal year within 60 calendar days after the end of the year. The Commission notes that many issuers publish summary earnings information by press release before filing their annual or quarterly reports. The Commission expresses concern that not all investors are informed of a company's financial results at the same time and proposes this new requirement to "ensure uniform and even disclosure by public companies. "
Donnelley does not believe that the benefits of the proposed requirement would justify the costs of up to four additional filings by every public company each year. Information about earnings published by companies is widely available. Although EDGAR filing would add another location to find the information, the Commission has not demonstrated that Commission filing is necessary for investor protection.
The proposal will impose on issuers who do not now publish early results a practice that other issuers are now pursuing voluntarily. The Commission has not demonstrated that a significant number of issuers who can prepare and publish results early have failed to do so. Donnelley is concerned that some issuers would find it costly or impossible to provide the selected financial information in the time required by the proposal. Smaller issuers, or issuers facing difficult accounting issues, often cannot publish early earnings results and should not be required to do so. Moreover, the requirement to include the selected financial data required by Item 301 goes beyond what many issuers include in early earnings releases.
At the same time, the proposed requirement will not significantly address the problem of selective disclosure. Issuers would still be able to disseminate information that is not required in the Form 8-K selectively. There is also some danger that issuers will decide not to include in their press releases information (such as EBITDA and other non-GAAP measures) that is not called for by Item 301 of Regulation S-K but that they currently include in press releases. That information may instead be disseminated through conference calls, and thus be less available than it is today.
In short, the requirement for filing of summary financial information could increase the difficulty and cost of making filings without substantial additional benefits for investors.
B. Accelerated Filing Requirements
The Commission has requested comment on whether issuers should be required to file quarterly reports within 30 days following the end of a quarter and file annual reports within 60 days following the end of a fiscal year. The Commission has proposed that issuers be required to file periodic reports on Form 8-K within one to five business days after the reported event and that foreign private issuers be required to file reports on Form 20-F within five months after the end of the issuer's fiscal year. For the most part, these shortened reporting times will impose hardships on many issuers and will not significantly aid investors.
1. Filing of Reports on Forms 10-Q and 10-K
The Commission seeks comments on accelerated filing requirements for reports on Forms 10-Q and 10-K as an alternative to requiring the filing of selected financial information on a report on Form 8-K.
The Commission suggests that advances in computer and communications technologies justify an earlier required filing date, but these advances in technology have not allowed all issuers to shorten financial statement preparation time, at least not in every case. In some cases, technological advances have simply allowed issuers to report on more complex and geographically dispersed operations within the current time limits. It still takes issuers time to compile and analyze financial data, especially if the issuer has numerous or widespread operations. Issuers must still discover, understand and resolve accounting and other disclosure issues. The Commission's disclosure requirements have increased and become more complex, most recently with increases in required disclosure for Year 2000 issues and quantitative and qualitative disclosures of market risk. While there are certainly many issuers who can and do complete their quarterly and annual filings before the current due dates, Donnelley works with many issuers who meet current filing deadlines only with significant difficulty. Indeed, over 800 notices of late filing on Form 12b-25 were filed with respect to annual reports for the year ended December 31, 1998. This statistic indicates that many issuers have difficulty meeting current filing requirements and would be burdened by accelerated filing requirements.
Donnelley does not believe that the hardship imposed by accelerated filing requirements is justified by the earlier availability of disclosure. If the Commission requires earlier disclosure, issuers who have difficulty meeting current deadlines are likely to commit more errors in their filings. The compressed time for filing may cause poorer decision making on disclosure issues and increase the probability of miscommunication and other errors throughout the filing process. If this were to occur, disclosure would be degraded rather than enhanced. The effort to avoid these errors -- and the simple fact that those who provide services to issuers will need to handle the same number of filings in a shorter time period -- are likely to increase filing costs. Consequently, Donnelley believes the current filing deadlines should be retained.
2. Filing of Reports on Form 20-F
For similar reasons, Donnelley believes that the filing deadlines for foreign private issuers should be retained. Foreign private issuers include issuers from many countries where technological and professional infrastructures are not as developed as they are in the United States. Even if based in developed markets, large foreign private issuers may face considerable difficulties complying with filing requirements in numerous markets. Especially with the requirement to include reconciled financial statements in the Form 20-F, foreign private issuers need additional time after preparing home country disclosure to meet U.S. disclosure requirements.
3. Filing of Reports on Form 8-K
Except with respect to early earnings releases, Donnelley supports the additional items that the Commission proposes for reporting on Form 8-K. With one exception, Donnelley also believes it is appropriate and practical to reduce the time required for filing to five business days after the reported event. 11 Donnelley believes, however, that it is unrealistic to expect issuers to file a report on Form 8-K within one business day after any event. Issuers frequently need several people in the company plus professional advisors to review filings on Form 8-K, and they must obtain a signature from an authorized officer. 12 One or more of these people may be traveling or otherwise difficult to reach on short notice. Finally, issuers must have the filing converted for filing via EDGAR and transmitted. Donnelley believes it is unrealistic to expect that issuers will be able to complete this process in as little as 24 hours after an event occurs. Donnelley believes that a rule allowing five business days for all Form 8-K filings would be appropriate and workable.
Donnelley believes the one-day filing requirement for reports relating to changes in accountants is particularly inappropriate. If the change relates to a disagreement with accountants, the disclosure is especially complex, and an issuer is required to submit the disclosure to the departing accountants and provide a letter from the accountants pursuant to Item 304(c) of Regulation S-K Donnelley thinks that it is unlikely that this disclosure could be created and reviewed by the departing accountants, let alone prepared and formatted for filing, within 24 hours. If -- as is often the case -- the change in accountants does not involve a disagreement with the departing accountants, the disclosure may be easier but, in that case, there is no need for urgent disclosure. Donnelley believes the filing requirement for this item should remain at five business days.
C. Additional Signatures on, or Delivery of, Certain Filings
The Commission proposes to expand the number of persons who are required to sign Forms 8-A, 10, 10-SB, 20-F, 40-F, 10-Q and 10-QSB to include the principal executive officers of the registrant and a majority of the board of directors of the registrant. Donnelley believes that the expansion of signature responsibility to directors for reports on Forms 10-Q and 10-QSB is unwarranted.
The requirement for director signatures on quarterly filings is not consistent with the appropriate role of directors in the disclosure process. Directors are responsible for setting overall policy for the corporation, including policy with respect to disclosure. Their role is not to have detailed knowledge of the facts that must be disclosed or of the legal requirements, but to ensure that policies and procedures are in place that will promote full disclosure in compliance with the law. Even with respect to annual reports, which directors are now required to sign, the signature does not so much confirm detailed accuracy and completeness as confirm that disclosure policies and procedures are adequate and that officers who are responsible for specific content have presented it to the board. An annual confirmation of policies and procedures is appropriate, but it is unrealistic and inappropriate to expect directors to review policies and procedures on a quarterly basis. If directors are required to make a quarterly confirmation, they will be distracted from their overall responsibility for setting the strategic direction and appropriate policies of the corporation. Qualified directors may also fear that they are taking on additional liability that is inconsistent with an appropriate view of directors' responsibilities, and they may thus be discouraged from serving on boards of reporting companies.
Issuers will also encounter practical difficulties in obtaining signatures of directors each quarter, particularly if filing deadlines are accelerated. The process of circulating quarterly reports for review and signature will be time consuming, particularly for non-employee directors who may be difficult to reach. It will be difficult to complete this process within current time limits, let alone the shorter time periods the Commission proposed for comments.
D. Certification of Reading
The Commission proposes to change the signature sections of all registration statements and periodic reports to add a new certification that the signers have read the registration statement or report and that, to their knowledge, the report contains no material misstatements or omissions. Donnelley believes this proposal is inappropriate and unlikely to improve disclosure.
Donnelley does not believe it is realistic to expect all signers of Commission filings to have read the entire filing and the materials on which is it based. As noted above, directors should not be expected to have detailed personal knowledge of the facts reflected in a filing. The same is true of the principal executive officer and often is true for principal financial officers. 13 The persons who sign an SEC filing are responsible for its accuracy, but they may accept responsibility based on the work of subordinates without having studied the entire filing. The certification proposed by the Commission is therefore inconsistent with accepted practice and imposes obligations on directors and officers that are not necessary for responsible oversight of the disclosure process.
Donnelley also believes it will be impractical for officers and directors to give the proposed certification. Most filings change -- sometimes in respects that may be deemed material -- up until the moment they are filed, as the disclosure is re-examined and the underlying facts are checked by those working directly on the filing. The signing persons are rarely engaged in this last minute checking. It is simply not possible in most cases to get the final version of a filing to every signing officer and director for a final review prior to the filing deadline. At best, officers and directors will be able to review a draft which could differ in material respects from the final filing. These problems are particularly acute in the case of Securities Act filings, which may be made on a very tight schedule.
Nor does Donnelley believe that the certification will materially improve disclosure. The quality of disclosure depends primarily on the professionalism and integrity of those who prepare the disclosure, and on the incentives they have to prepare accurate disclosure. The signing officers and directors can evaluate the professionalism and integrity of those who prepare filings without reading all of every filing. The liability they face encourages signing officers and directors to take whatever steps are necessary to ensure accuracy of the disclosure. 14
E. Risk Factor Disclosure in Periodic Reports
Donnelley does not believe that the Commission's proposal to require risk factor disclosure in periodic reports would improve the quality of information. On the contrary, there is a significant risk that this disclosure would overwhelm the filing, distracting readers from the important information that must be included in periodic reports.
The Commission's requirements in Item 303 of Regulation S-K for the management's discussion and analysis section of periodic reports elicit meaningful disclosure about the risks and uncertainties known to the company that could cause reported results to change in the future, or that could materially affect the company's liquidity or financial position. The company must consider these requirements quarterly, and keep the market up to date on the important issues affecting the business. This is exactly the kind of tailored disclosure the Commission should require. Donnelley fears that a separate requirement for a general description of risks will add bulk but not meaningful information to the filings, and will only exacerbate the information overload problems already faced by investors. Consequently, Donnelley urges the Commission not to adopt this proposed requirement.
* * *
Donnelley appreciates the Commission's consideration of its comments on the proposed rules. We would be pleased to discuss this letter with the staff if that would be helpful.
Louis R. Cohen
Kevin C. Richardson
Technical Comment Appendix Attached
1 It appears that this disqualification also effectively eliminates the issuer's option to designate the effectiveness of a Form B registration statement at a specific time after filing. It seems likely that most issuers would see too great a risk of receiving comments on an Exchange Act report in the period between filing a registration statement on Form B and its subsequent automatic effectiveness.
2 Donnelley assumes that price-related information that currently may be omitted under Rule 430A could also be omitted under the new rules. It would be helpful if this were stated specifically in the rules.
3 The increase in speed of offerings associated with "file and go" may increase the probability of both technical and substantive filing errors. Issuers concerned about the risk of filing errors might be reluctant to go effective immediately upon filing, preferring to specify effectiveness at a later date so that they can take additional time to review their filings, and amend them if necessary, before Section 11 liability attaches.
4 It is not clear whether separate accountant consents would be necessary for offerings done through post-effective amendments to a Form B registration statement. If the Commission intended that such consents should not be required, this should be clarified in the rules.
5 The Commission could make Section 11 liability attach to each takedown by adopting a provision to that effect in Rule 415 or Form B. There is no need to require issuers to produce numerous registration statements or amendments to make the same offerings they can make with one registration statement today.
6 Although allowing delayed filing would address some of the timing concerns raised by the proposals, it would not address the timing concerns raised by the information delivery requirements discussed in Section III below.
7 To the extent that the Commission is concerned about permitting sales of securities prior to the filing of a registration statement, it could require the issuer to file a very abbreviated form to register the securities and pay the filing fee at the time of sale with an undertaking to file the full registration statement within a specific number of days. This abbreviated form could be limited to such identifying information as the title and amount of the securities and the date of sale.
8 There is some confusion about whether the Commission intended to require the term sheet just before the decision, or a day before the decision. If the Commission intended the former, then (assuming that the Commission continues to believe that term sheets are necessary) this should be clarified in the rule. In addition, it should be made clear that the requirement to deliver information about material changes 24 hours before pricing does not apply to Form B term sheets.
9 Donnelley assumes that the term sheets are not required to include "price related information" that can currently be omitted from prospectuses at the date of effectiveness pursuant to Rule 430A. It would be helpful if that point were clarified in the rule.
10 It is unclear how the pre-delivery requirement could be satisfied in the case of a selling stockholder trade over an exchange, particularly since the Commission has proposed to repeal Rule 153, which currently provides a mechanism for delivering prospectuses in transactions over an exchange.
11 The exception is for filing of reports regarding dispositions of significant assets. Issuers must file pro forma financial statements showing the effect of the dispositions. The staff has advised in a telephone interpretation that the 60-day extension for filing financial statements in Item 7(a)(A) of Form 8-K does not apply to the pro forma financial statement requirement for dispositions. Donnelley believes that many issuers will not be able to prepare pro forma financial statements within five business days after a disposition and therefore urges that the Commission retain the 15-day filing requirement for filings relating to dispositions of assets. Also, as noted below, the period within which issuers must file financial statements of acquired companies should not be shorter than the current requirement of 75 days after the acquisition.
12 The Commission has also proposed that issuers be required to provide a copy of the report to each member of the board of directors. As noted below, the proposal is unclear as to when this copy must be provided to directors. If the copy had to be provided at or prior to filing, this could make it substantially more difficult to comply with a one-day filing requirement.
13 Indeed, the principal financial officer and the principal accounting officer, though they will normally be intimately familiar with the financial statements and related disclosure, may not be intimately familiar with other parts of a filing, such as discussions of applicable regulatory matters.
14 In response to the Commission's request for comment on the proposed report of management on disclosure policies, Donnelley does not believe that such a report would improve disclosure or otherwise benefit investors. It is likely that most reports would become standardized "boilerplate. " Accordingly, Donnelley questions the effectiveness of requiring issuers to file a report.
APPENDIX TO COMMENT LETTER
TECHNICAL COMMENTS ON RULE PROPOSALS
In this Appendix, Donnelley provides technical comments on those portions of the regulatory text proposed in Release 33-7606A that relate to matters addressed in Donnelley's comment letter. These comments are intended to assist the Commission in clarifying the proposed rules in the event the Commission decides to adopt rules along the lines of those proposed.
II. Registration System Reform
A. Form A
1. Cover Page
Rule 462(c) Post Effective Amendments. The cover refers to the 15 business day period for pricing under Rule 430A(a)(3) currently in effect. If the proposed amendment to Rule 430A to reduce the 15 business day period to five business days is adopted, the cover of Form A should be conformed.
12(g) Registration Statements. The cover page of Form A indicates that Section 12(g) registration statements become effective automatically within 60 days unless that time period is shortened by the issuer. However, General Instruction X.B states that 12(g) registration statements become effective upon the effectiveness of the registration statement. General Instruction X.B should be conformed to the cover page. This comment also applies to Form B.
Under current Form 8-A, a registrant can designate its desire to have the Exchange Act registration statement made effective concurrent with the Securities Act filing to which it relates. This is not dependent on any special eligibility requirements. As proposed, it appears this ability is lost unless the company meets special eligibility criteria. The Commission should consider retaining separate boxes for Exchange Act registration timing (that are not dependent on special eligibility) to preserve this flexibility.
Designation of Effectiveness. As an initial matter, Form A is somewhat confusing in the way it combines the designation of effectiveness boxes for Exchange Act and Securities Act purposes. It would be helpful if the two were broken out separately, or the instructions were revised to make clear that the boxes apply to both. This comment also applies to Form B.
Although General Instruction VIII to Form A discusses the eligibility requirements a Form A registrant must meet to designate effectiveness, the section of the cover page in which the registrant elects such effectiveness does not refer to the fact that an issuer must meet certain eligibility requirements to designate effectiveness. To avoid inadvertent designations of effectiveness, particularly by inexperienced issuers, the Commission could add a reference to the eligibility requirements, such as " We are eligible to designate effectiveness in accordance with Rule 462(f)(1)(iii), and" before "We propose that this filing become effective."
Also, by checking the box to designate either immediate effectiveness or effectiveness at a specific later time, the registrant is certifying compliance with the delivery requirements of Securities Act Rule 172(b). Since the Form A must be filed prior to the first offer, such certification is necessarily prospective, so the words should be changed to reflect that the delivery requirements will be met. Also, since the underwriter, not the issuer, is in most cases the one effecting delivery, such certification by the issuer seems inappropriate. This comment also applies to Form B.
Foreign Private Issuers. The Commission could combine the two lines regarding whether the registrant is or is not a foreign private issuer into one line without losing any clarity. This comment also applies to Form B.
2. General Instructions
Shell Entities. General Instruction II.B.2 disqualifies any registrant who in the last two years was a "shell entity having few or no assets, earnings or operations" from incorporation by reference and automatic effectiveness. The Commission should consider further clarifying what it means by "shell entity" since it is arguable that many widely followed, established high technology or research and development companies might fall within the proposed standard. This comment also applies to Form B.
"Bad Boy" Disqualification . General Instructions II.B.7 and 8 disqualify any registrant whose "underwriter" has violated specified provisions. It is unclear whether this refers to the underwriting firm, its parent, its affiliates or any of its employees. This comment also applies to Form B.
Successor Registrants. General Instruction II.C.1(a) refers to the "4 eligibility requirements in General Instruction II.A of this Form." The correct reference should be to "3" or the number should simply be deleted.
Foreign Registrant Financial Statements. General Instruction VI.B's definition of " investment grade" has been changed from the definition currently applicable to foreign issuers (or any other issuers) to provide that a security is not investment grade if it has received a non-investment grade rating from any NRSRO even if it has received an investment grade rating from another NRSRO. This change should be highlighted in the adopting release. In addition, the instructions in current rules that explain which ratings generally are " investment grade" have been deleted from the new definition. It is unclear whether this change is intended to have a substantive impact. If this was intended to have a substantive impact, that should be highlighted. If not, the former instruction was helpful and should be retained. The same changes to the definition of " investment grade" security also are included in the eligibility criteria for Form B, and the same comments apply to that provision.
Effectiveness of Registration Statement and Post-Effective Amendments. Throughout General Instruction VIII (as well as in General Instruction II.B), there is an incorrect reference to the rule permitting issuers to designate the effectiveness of Form A registration statements. All references to Rule 462(f)(1)(iv) should be to Rule 462(f)(1)(iii).
In General Instruction VIII.A.2, the method of computing public float should be clarified. For example, Form B includes additional instructions not included in Form A on how to compute the amount. Also, it is unclear whether the test is based on domestic or world-wide amounts. It appears the Commission may mean to limit the test to domestic public float since proposed Rule 138 provides that public float for that rule should be computed as provided in Form B (which is the same basic test as Form A), except that it is "measured on worldwide markets rather than only U.S. markets." At the same time, the reference to " worldwide" markets in Rule 138 may only relate to how to compute trading volume, as opposed to public float.
Finally, in General Instruction VIII.B there is a reference to General Instruction VIII.A.2, which defines "public float." It does not appear that the definition of "public float" is relevant to that cross-reference.
Concurrent Exchange Act Registration . As noted above, General Instruction X.B should be revised to reflect the times when an Exchange Act registration statement may become effective as set forth on the cover page of Form A. This comment also applies to Form B.
In addition, General Instruction X.C appears out of place. If the Commission's intention is to require Form A/Section 15(d) filers to file an annual report at a specified time, it would appear more appropriate to include such a requirement in an Exchange Act rule.
3. Part I
Items Governing Incorporation by Reference. The Commission should consider combining Items 12 and 13 to present in one place the rules that govern incorporation by reference by a seasoned Form A issuer. In the item, it would be helpful if an affirmative statement that Exchange Act reports in addition to Forms 10-K and 10-Q are required to be incorporated by reference, but are not required to be delivered with the prospectus except upon request. In addition, if the Commission intends that the Exchange Act reports that are delivered must be presented in a special fashion, such as bound separately from the prospectus, or bound with the prospectus as an appendix, that should be clarified. If, instead, the decision is up to the registrant, an instruction to that effect would be helpful.
4. Part II
Certifications. On Form A the proposed certification language is that each signer has "read this registration statement and to his/her knowledge the registration statement does not continue any material misstatements or material omissions." The form does not include the more traditional reference, which was included in the text of the Release, to material misstatements or omissions "necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading." If the certification is retained, this language should be added. This comment also applies to Form B.
B. Form B
In addition to those comments regarding Form A identified above as also applicable to Form B, Donnelley has the following comments on Form B:
1. General Instructions
Eligibility Requirements -- General . Instruction I.B.2(b) and (c) could be combined to one instruction requiring "timely" filing of the required items during the 12-month period since both paragraphs cover the materials during the same 12-month period.
Public Float Test. It is unclear whether the Commission intends to include worldwide public float or only U.S. public float in the calculation required by Instruction I.C.1. By contrast, the instruction for the computation of trading volume makes clear that only U.S. trading volume is to be included.
QIB-Only Offerings. The Note to General Instruction I.C.2 indicates that for purposes of the instruction, "qualified institutional buyer" has the meaning set forth in Rule 144A(a)(1) except that it does not include dealers or investment advisers. If the Commission decides to exclude those investors, a different term should be used to avoid confusion between "regular" QIBs and Form B-eligible QIBs.
The instruction also should be revised consistent with the Commission's language in the Release to clarify that filing a Form B registration statement for a QIB-only offering is not, by itself, deemed an "offer" to non-QIBs.
2. Information Required in the Prospectus That is Part of the Effective Registration Statement
Offering Information. The application of Paragraph 1(c) is unclear. Registrants are allowed to include oral offering information in the Form B registration statement, but not information that has not been disclosed by or on behalf of the issuer during the offering period. It is unclear what is prohibited by the second sentence of this provision.
Incorporation of Subsequently Filed Information. The application of provision 3(b) is unclear. This section allows incorporation by reference of subsequent reports after delivery only if the "information" in the report has been "disclosed" to investors at the same time as the previous delivery. This section appears to severely limit incorporation by reference of future Exchange Act filings, because the information in these future filings will have to be disclosed at the time of the previous delivery. It is somewhat unlikely that the information in the future reports will be available at the time of the previous delivery, or if it is, issuers may not feel comfortable disclosing it before it is filed publicly. In addition, does this section allow for oral disclosure of that "information"? If so, that should be made clear. A report may have several pieces of "information." What information contained in the report must be disclosed before incorporation by reference is allowed?
The treatment of incorporation by reference of subsequent filings in "continuous" offerings is unclear. Traditionally, in a selling stockholder registration, the offering is not complete until the securities are sold or deregistered. Paragraph 3(c) should be clarified to address forward incorporation in offerings other than delayed shelf offerings under Rule 415(a)(1)(x).
Paragraph 3(d) says that Rule 424 is not available for Form B offerings. Does this mean that a prospectus with Rule 430A pricing information that under current rules is filed after effectiveness under Rule 424 would have to be included in an amendment? If so, the rule should be made more clear.
Material Changes Term Sheet. Form B calls for the filing of any document describing material changes that must be delivered to investors under Securities Act Rule 172(e). Rule 172(e) appears to be limited to offerings other than Form B offerings. In addition, a 24-hour recirculation rule would be inconsistent with Form B's approach to term sheets. Form B should be modified to omit the concept of the material changes term sheet and the text of Rule 172(e) should be clarified.
3. Other Offering Materials
The discussion of "free writing " that must be filed in this section of Form B is inconsistent with the provisions of proposed Rule 425. Rule 425 would require filing of materials that are "prospectuses" and that meet certain other conditions (or do not qualify for certain exclusions). Form B should be made consistent with Rule 425 so as not to create any additional filing obligations.
1. Regulation S-K
Item 512(k). Undertakings. Rule 425(a) contains a number of exceptions from the general filing requirement for free writing materials set forth in Rule 425(b). Therefore, because not all materials arguably qualifying as " free writing materials" must be filed with the Commission, the undertaking in Item 512(k) should include the words "that are required to be filed in accordance with Rule 425."
Item 601. Exhibits. For Form B filings, Item 601 does not indicate that the underwriting agreement needs to be filed as an exhibit. It is unclear whether this omission was intentional. In addition, for Form B filings, Item 601 does not include powers of attorney as exhibits. While the signature page to Form B indicates that signatories to the form automatically grant powers of attorney for amendments, it is possible that the original filing could be accomplished through signatures provided through powers of attorney. It is unclear whether these powers of attorney need to be filed as exhibits if not set forth on the signature page.
2. Rule 110(d)
There appears to be an incorrect reference to Section 230.425(c) that should be 230.425(b). In addition, it is unclear why filings pursuant to Rule 462(c) are not eligible to be made by facsimile.
3. Rule 430A
The proposal to reduce the 15 business day filing period in Rule 430A to five business days is not highlighted in the Release. It is unclear why this period is proposed to be reduced.
If Rule 430A would be available for omitting pricing information at the time the Form B is made effective (so that term sheets included in the Form B at effectiveness could omit Rule 430A information), it would be helpful if the rule were revised to reflect that.
The revision to the instruction would change the 20% test to focus on the amount of proceeds rather than the aggregate offering price. Is this intended to be proceeds to the issuer or proceeds to the issuer or any selling security holder?
4. Rule 464
Rule 464(a)(2), Rule 464(b)(2) and Rule 464(c)(2) state that, following the filing of a post-effective amendment, the effective date of the registration statement shall be deemed to be the effective date of the post-effective amendment. This represents a change from the language of current Rule 464, which changes the effective date of the registration statement only with respect to securities sold on and after the date of filing of the post-effective amendment. It is unclear how this change would effect sales made before the change in the effective date. For example, it should be made clear that changing the effective date as proposed would not retroactively de-register sales of securities made between effectiveness of the registration statement and filing of the post-effective amendment.
III. Information Delivery Requirements
A. General Introductory Language to Rule 172
The introductory language to proposed Rule 172 indicates that a prospectus (or "prospectus information ") must be delivered to each person "offered securities in connection" with an offering of securities registered under the Securities Act in the manner set forth in the rule. In order to avoid the impression that every offeree must be given prospectus information, this introductory language could be revised to provide that the named persons must deliver prospectus information to purchasers as provided in the rule.
B. Rule 172(a)
The reference to the term sheet arriving "before the date" an investor makes a decision should be changed to "before the time."
C. Rule 172(b)
Each of the delivery periods in Rule 172(b) is measured with reference to calendar days before the pricing of the securities. If securities remain unsold after pricing (e.g., if not all securities are sold by the underwriters in the offering), what time period will apply to prospectus delivery in the post-effective period to purchasers located after the pricing?
D. Rule 172(e)
This rules requires delivery of a document reflecting material changes at least 24 hours in advance of pricing if the changes were not "previously disclosed by any other means to investors." Does the Commission intend that a minimum time period would apply to communications about material changes that are made other than through delivery of a document?
E. Rule 172(f)
This rule provides that pre-delivery of a prospectus (or a material changes prospectus) is not required in connection with specific registrations to increase the size of an offering as long as a prospectus was already delivered as required by Rule 172 and investors are otherwise informed of the change in the size of the offering. Does the Commission intend that a minimum time period would apply to these communications?
IV. Clarifying and Liberalizing Rules Regarding Issuer Communications
A. Rule 166
It is unclear how the exemption from Section 5(c) of the Securities Act provided by Rule 166(a) will be applied in a case where, at the time the offer is made, the registrant and the offering are eligible to use Form B, but the offering is subsequently filed on a form other than Form B, or the offering is not made at all. For example, if a Form B-eligible issuer relied upon the rule to make an offer before filing, and then received comments on a periodic report, would the issuer have violated Section 5 if it files on Form A or does not proceed with an offering?
B. Rules 168 and 169
As noted in Donnelley's comment letter, the terms "forward-looking information" and " factual business communications" are unclear. In addition to the general concerns noted about the application of these rules, one specific technical concern that arises is that it appears that a periodic report required to be filed that includes mandatory forward-looking information in the management's discussion and analysis would not qualify as a factual business communication because it includes forward-looking information. As a result, if the issuer cannot qualify for the Rule 168 forward-looking information safe harbor, would an issuer filing such a report around the time of an offering be in violation of Section 5 if it did not qualify for the exemption for forward-looking information under Rule 168?
V. Improving Quality and Meaningfulness of Periodic Reporting
A. Risk factor disclosure in annual and quarterly reports
The Commission proposes to implement the requirement for risk factor disclosure in periodic Exchange Act reports by amending Forms 10, 10-K, 18, 18-K and 10-Q (and their Small Business counterparts) to add new items. The new items read in part as follows:
Set forth . . . the most significant factors with respect to the registrant's business, operations, industry, or financial position that may have a negative impact on the registrant's future financial performance.
The disclosure standard set forth in this language is different from the language currently in Item 503 of Regulation S-K, which requires disclosure of "the principal factors that make the offering speculative or one of high risk." The provisions should be consistent so there is no confusion as to whether the same risk factors relating to the issuer can be used in periodic reports and in registration statements. As the Commission notes, issuers engaged in an offering may need to disclose risks relating to the offering in addition to risks relating to the issuer in general. Language capturing this concept should be included in Item 503 of Regulation S-K.
B. Filing of selected financial information on Form 8-K
The wording of the proposed new items in Form 8-K with respect to the time periods for which selected financial information is required is confusing. It appears that Item 14(a)(1)(i) should read "the most recently completed fiscal year," Item 14(a)(2)(i) should read "the most recently completed fiscal quarter" and Item 14(a)(2)(ii) should read "the period between the end of the last fiscal year and the end of the most recent fiscal quarter."
C. Reporting of additional events on Form 8-K
If the Commission requires disclosure of material modification of securities (as proposed in new Item 10 of Form 8-K) and the disclosure of defaults, dividend arrearages and delinquencies (as proposed in new Item 11 of Form 8-K), it would appear that these events should no longer be required to be reported in Form 10-Q (as is currently required in Items 2 and 3 of Form 10-Q).
If the requirement to disclose these items on Form 10-Q is retained, the disclosure requirements in Form 8-K and Form 10-Q should be harmonized. In this regard, the proposed disclosure of material defaults on senior securities eliminates the 30-day grace period for non-monetary defaults in both paragraphs (a)(2) and (c). The Commission has not explained the reason for this change and it is unclear why this change would be made.
D. Shortening of due date for financial statements required under Item 7 of Form 8-K
The Commission has proposed to accelerate the date for filing information regarding acquisitions pursuant to Item 2 of Form 8-K from 15 calendar days to five business days. Item 7(a)(4) of Form 8-K allows an issuer to file financial statements of the acquired company (and pro forma financial statements reflecting the acquisition) up to 60 days following the date on which the initial filing was due. Unless Item 7(a)(4) is revised, the required date for filing financial statements of acquired companies will be reduced by up to seven calendar days. Many issuers will find it difficult to prepare and file financial statements of acquired companies in less than the 75 days currently allowed. Item 7(a)(4) should therefore be revised to provide that financial statements may be filed up to 75 days following the date of the reported event.
The Commission recently revised Item 3-05(b)(4)(i)(B) of Regulation S-X to allow issuers filing registration statements or proxy statements to exclude financial statements of acquired companies as long as the effective date of the registration statement or mailing date of the proxy statement was no more than 74 days following the date of the closing (although an issuer must file financial statements of acquired companies earlier if the acquisition is significant above the 50% level). Unless Item 7(a)(4) is changed, the filing period for 8-K purposes would be shorter than that provided -- and considered appropriate by the Commission -- with respect to registration statements and proxy statements.
E. Certification that Forms 6-K and 8-K have been delivered to directors
The Commission has proposed that issuers certify on the signature page of each report on Form 8-K that they have provided a copy of the report to each director of the issuer. The proposed revision is not clear as to how and when the copy must be provided to directors: must each director receive the report prior to filing or is it sufficient if the issuer sends the report to the regular business address of the director simultaneous with filing? If this requirement is retained, the instructions should clarify how and when the delivery must take place.
F. Filing of periodic reports with Nasdaq and exchanges
The Commission has revised the instructions for filing Forms 6-K, 8-K, 10-Q, 10-QSB, 10-K and 10-KSB, in each case to add the NASDAQ Stock Market to the list of persons that must receive a copy of the report. The Commission recently gave immediate effectiveness to a rule change proposed by NASDAQ eliminating NASDAQ's requirement that issuers file reports with NASDAQ if the report was filed on EDGAR. The staff also granted no-action relief at the request of the New York Stock Exchange from the requirement currently in forms that materials be filed with a national exchange. The Commission should clarify in either the adopting release or by a revision to the instructions to these forms that issuers may comply with the requirement to file copies with NASDAQ and the national exchanges by filing on EDGAR.
In each of the proposed Exchange Act forms, the proposed certification language is that "the following persons certify that they have read this [report][registration statement] and to their knowledge the [report][registration statement] does not contain any material misstatements or omissions." The forms do not include the more traditional reference, which was included in the text of the Release, to material misstatements or omissions "necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading." If the certification is retained, this language should be added.