VALERO ENERGY CORPORATION
Jay D. Browning
February 13, 2003
Mr. Jonathan G. Katz, Secretary
Re: Proposed Rule Concerning Rule 10b-18
Dear Mr. Katz:
I am Jay D. Browning, Vice President, Secretary and Managing Attorney, Corporate Law of Valero Energy Corporation ("Valero"). I am writing to you on behalf of Valero to provide comments on the Commission's proposed rules concerning Rule 10b-18 and purchases of certain equity securities by the issuer and others, as set forth in Releases No. 33-8160, 34-46980; IC-25845; File No. S7-50-02 (the "Proposed Rule"). We are pleased to have the opportunity to comment on the Proposed Rule.
As an issuer of securities subject to Section 12 of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), Valero would be subject to the changes set forth under the Proposed Rule.
No Safe Harbor While An Acquisition Is Pending
The Proposed Rule would make Rule 10b-18's safe harbor provisions unavailable during the entire period from public announcement of a merger or acquisition to completion of the transaction - a significant and unnecessarily severe change from current practice. In the Commission's own words, "issuers repurchase their securities for many legitimate business reasons. For example, issuers may repurchase their stock in order to have shares available for dividend reinvestment, stock option and employee stock ownership plans, or to reduce the outstanding capital stock following the cash sale of operating divisions or subsidiaries. Issuers may believe that a repurchase program is preferable to paying dividends as a way of returning capital to shareholders. Issuer repurchases also provide liquidity in the marketplace, which benefits all shareholders." Valero strongly agrees with the Commission's recognition that repurchases serve a valuable purpose and believes they are generally welcomed by investors as beneficial.
If implemented, the absence of the safe harbor of Rule 10b-18 would likely have the effect of precluding issuers such as Valero from repurchasing their stock while an acquisition is pending, denying issuers and their shareholders the benefits of issuer repurchases.
This result would be particularly burdensome for companies such as Valero where the regulatory approval process for any significant acquisition is likely to take many months. For example, Valero announced its proposed acquisition (via merger) of Ultramar Diamond Shamrock Corporation on May 7, 2001 and was not able to close the transaction until December 31, 2001, following regulatory approval, a consecutive period of almost eight months. In addition, the SEC staff review and comment process on S-4 registration statements and merger proxy statements, even without other regulatory processes, can often result in a merger taking four-to-five months to complete. Also, it is not unusual for an issuer, in connection with a stock merger, to state an intention to repurchase some or all of the issued shares in the market to limit anticipated dilution. Under the proposed rule, an issuer would be reluctant to state such an intention if, for example, the possibility existed that another acquisition might overlap with the pending stock merger, such that the Rule 10b-18 safe harbor might not even be available promptly after the pending stock merger closed.
The reason given by the Commission for this substantial restrictive change is that once "a merger or acquisition is announced, an issuer has considerable incentive to support or raise the price of its stock." This alone is not sufficient grounds for such a broad ban on use of the safe harbor provisions of Rule 10b-18.
The concern expressed by the Commission in its release is that transactions that involve valuation periods for an issuer's stock create a greater incentive for manipulation. However, any such concern must be viewed in the context of Regulation M, which already bars repurchases during pricing periods in a merger and during proxy solicitation. Also, using the Commission's rationale, it is difficult to see why all-cash mergers should be included, or why the unavailability of the safe harbor should persist past stockholder approval and the valuation period for the issuer's stock.
Generally, except during a valuation period, companies have been free, following the shareholder vote and prior to closing of purchase transactions, to repurchase stock in compliance with the safe harbor provisions of Rule 10b-18. This would likely not be the case under the Proposed Rule. Notably, the Commission's proposals to now include block purchases in the 25%-of-ADTV daily volume limitation and to require substantially more detailed disclosure of repurchases would further tighten the safe harbor conditions. The Commission does not indicate why Regulation M, in combination with Rule 10b-18's volume, timing, price and manner conditions (particularly with the additional restrictions and disclosure obligations of the Proposed Rule), are not adequate to limit an issuer's ability to unduly influence the price of its stock while an acquisition is pending. The proposed rule contains no test as to the significance or materiality of a merger or acquisition to an issuer. As proposed, the safe harbor would be unavailable during the pendency of an acquisition of a $50 million market cap company by a $5 billion market cap company. We see no reason for a presumption that special incentives to manipulate stock price in such a situation outweigh an issuer's legitimate reasons for stock buybacks. We also believe that creating exceptions, e.g., for mergers in which stock is not part (or only a small part) of the consideration, for smaller acquisitions, etc. would add complexity and cause uncertainty about the availability of the safe harbor. In sum, we believe that, in view of the other anti-manipulation protections in place as described above, there is no need for the blanket ban on use of the safe harbor the Commission has proposed.
While the Commission has reiterated that Rule 10b-18 is not the exclusive means of making non-manipulative repurchases, the release acknowledges, in what we view as an understatement, that "issuers generally are reluctant to undertake any repurchases without the certainty that their repurchases come within the Rule's safe harbor." We think that issuers would indeed be extremely hesitant to proceed without the safe harbor, and therefore that the Proposed Rule would unfairly and needlessly restrict issuers' ability to repurchase shares and will result in a decrease in legitimate repurchase activity. Accordingly, we believe that the Proposed Rule should be modified so that issuers would continue to be allowed the benefit of 10b-18's safe harbor while an acquisition is pending, subject to the strong protections already provided by that rule's volume, timing and manner of purchase limitations, by the enhanced volume restrictions and disclosures called for by the Commission's proposal, as well as by Regulation M.
Disclosure of Identity of the Broker for Issuer Repurchases
Under the Proposed Rule, an issuer would be required to disclose the identify of the broker-dealer(s) used to effect its repurchases. As a general principle, we strongly believe that the identity of customers and the amount of business one does with a client is confidential business information. The Release offers no reason why a broker's confidential business information should be made public.
Absent a specific and serious harm that such a disclosure requirement is aimed to address, with some probability that the rule would eliminate the harm, the Commission should not promulgate a rule that would require issuers to compromise the confidential business information of a third party with which it does business.
The Proposed Rule would potentially alert traders as to the identity of a purchaser, placing an "issuer's" broker at a competitive disadvantage relative to its peers and/or offer unfair trading opportunities to others. This may raise issuers' transaction costs in that they would be required to use different brokers on different days if they desired to avoid signaling to the market that the orders being placed on the trading floor were for the issuer. Absent such precautions, or if such precautions are not 100% successful, we are also concerned about the potential for rumor and speculation that purchases are being made by an issuer, whether true or not, when purchase orders for the issuer's securities are placed by a broker that is known to do business for that issuer.
We urge reconsideration of this issue and request that this disclosure requirement be deleted from the Proposed Rule.
We appreciate the opportunity to comment on the Proposed Rule. Please do not hesitate to contact me if you have any questions regarding our comments.