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Legal Update

Aug 3, 2011

SEC Adopts Criteria for Short Form Registration Eligibility to Replace Credit Ratings and Provides Dodd-Frank Rulemaking Update

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On July 26, 2011, the Securities and Exchange Commission (the “Commission”) adopted new rules required by the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) that create new categories of transactions eligible for registration by domestic issuers on Form S-3 and eliminate investment grade credit ratings as an eligibility criteria. 

Changes to Form S-3

Form S-3 is the “short form” registration statement that may be used by eligible domestic issuers to register securities offerings under the Securities Act of 1933, as amended (the “Securities Act”).  Form S-3 allows companies to satisfy their disclosure obligations under the Securities Act by incorporating by reference to documents that the company previously filed and, especially, subsequently files with the Commission in its periodic reports that it files under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). A company with an effective Form S-3 can most easily offer securities “off the shelf” on an expedited basis.

The general instructions to Form S-3 set forth certain criteria that must be satisfied in order for an issuer to utilize the form to register a class of securities under the Securities Act.  General Instruction I.A. of Form S-3 sets forth the “issuer requirements” of Form S-3, and generally requires an eligible issuer to be a U.S. company that has been subject the reporting requirements of Exchange Act for at least 12 months and has been current and timely in its Exchange Act reports for at least 12 months. 

General Instruction I.B. of Form S-3 sets forth the “transaction requirements” of Form S-3, which are the specific classes of securities that are eligible for short form registration on Form S-3.  Currently, General Instruction I.B.2. of Form S-3 provides that a company will be eligible to use Form S-3 to register an offering of non-convertible securities, other than common equity (e.g., debt securities) that have received an investment grade rating by at least one nationally recognized statistical rating organization (“NRSRO”). 

Section 939A of the Dodd-Frank Act directed the Commission to remove references to credit ratings in all rules and forms under the Securities Act and the Exchange Act.  The new rules adopted by the Commission eliminate the credit ratings criteria under current General Instruction I.B.2. of Form S-3 and replace it with four new tests, one of which must be satisfied for an issuer to use Form S-3, as follows:

  1. The issuer has issued (as of a date within 60 days prior to the filing of the registration statement) at least $1 billion in non-convertible securities other than common equity, in primary offerings for cash, not exchange, registered under the Securities Act, over the prior three years.
  2. The issuer has outstanding (as of a date within 60 days prior to the filing of the registration statement) at least $750 million of non-convertible securities other than common equity, issued in primary offerings for cash, not exchange, registered under the Securities Act.
  3. The issuer is a wholly-owned subsidiary of a well-known seasoned issuer as defined under the Securities Act.
  4. The issuer is a majority-owned operating partnership of a real estate investment trust, or REIT, that qualifies as a well-known seasoned issuer.

The eligibility criteria for REITs was an important expansion of the eligibility criteria contained in the Commission’s original rule proposals, which generally were a carbon copy of the Well-Known Seasoned Issuer (a “WKSI”) criteria requiring either a $700 million public float or the issuance of $1 billion in debt or preferred securities for cash over the prior three years.  The proposed rules created significant problems for REITs.  Most public REITs function as the general partner of an operating partnership (the “OP”) subsidiary.  The public equity of the combined enterprise is held at the REIT level while assets are owned and operations are conducted at the OP level.  As a result of this structure, most REITs issue public debt through their OPs.  While most REITs qualified as WKSIs based on the public float test at the REIT level, very few OPs of REITs qualified as WKSIs independent of their REIT parents, and thus faced losing Form S-3 eligibility under the proposed rules.  However, the Commission recognized that adopting the rules as proposed would cause most OPs of REITs to lose Form S-3 status and result in OP debt transactions migrating to the Rule 144A and private placement market.  As the legislative history of the Dodd-Frank Act does not indicate that Congress intended to change the types of issuers and offerings that could rely on Form S-3, the Commission modified the final rules to grant specific relief to majority-owned OPs of REITs that are WKSIs as well as wholly-owned subsidiaries of WKSIs.  This relief for subsidiaries is consistent with similar provisions under current Rule 405 of the Securities Act for majority-owned subsidiaries.

Transition Rules

The new rules will become effective 30 days after the date the rules are first published in the federal register (the “Effective Date”).  In order to ease transition to the new rules and allow companies affected by the new eligibility criteria to plan for alternative forms of registration that may be required, the Commission has adopted a temporary “grandfather” clause.  The grandfather clause of the new rules provides that an issuer that reasonably believes that it would have been eligible to use Form S-3 for an offering of securities under General Instruction I.B.2. as it existed prior to the new rules may continue to use a Form S-3 registration statement declared effective before the Effective Date, or file and use a new Form S-3 registration statement filed after the Effective Date, with respect to any takedown offering of securities under General Instruction I.B.2. that occurs on or before the three year anniversary of the Effective Date.  An issuer that conducts such an offering pursuant to the grandfather clause of the new rules must specifically disclose that fact and the basis for it in the final prospectus for the offering and in the registration statement if it is filed after the Effective Date.

Changes to Other Forms

General Instruction I.B.2. of Form F-3, the short form registration statement available to foreign private issuers which mirrors Form S-3, has been amended to delete the credit rating criteria and adopt the same new eligibility tests under Instruction I.B.2. of Form S-3.  In addition, the new rules also eliminate Form F-9 as of December 31, 2012.  Form F-9 is a special short form registration statement available for the registration of non-convertible investment grade debt securities by Canadian registrants.  After December 31, 2012, Canadian registrants who currently use Form F-9, which permits registration in the U.S. without reconciliation to U.S. GAAP, will be required to register these offerings on Form F-3 and include a reconciliation to U.S. GAAP in the registration statement.  The new rules also make conforming changes to General Instruction B.1.a. of Forms S-4 and F-4 to refer to the new Form S-3 and Form F-3 rules, respectively.

WKSI Status

General Instruction I.D. of Form S-3 provides that certain filings on Form S-3 by a WKSI, as defined in Rule 405 of the Securities Act, shall be automatically effective upon filing.  The provisions of General Instruction I.D. of Form S-3 that provide for automatic effectiveness of offerings pursuant to General Instruction I.B.2. of Form S-3 remain unchanged.  Accordingly, WKSI offerings of non-convertible securities, other than common equity, pursuant to Instruction I.B.2. of Form S-3 will continue to be automatically effective upon filing.

It is noteworthy that the paragraph (1)(ii)(C) of the definition of a WKSI in Rule 405 of the Securities Act provides that a majority-owned subsidiary of a WKSI may itself qualify as a WKSI if “the securities of the majority-owned subsidiary meet the conditions of General Instruction I.B.2. of Form S-3 or Form F-3.”  A WKSI that currently qualifies as a WKSI under paragraph (1)(ii)(C) of Rule 405 and that meets one of the new eligibility criteria in new General Instruction I.B.2. will continue to be a WKSI under the new rules.  Such a WKSI that does not meet one of the criteria under new General Instruction I.B.2. (i.e., one that will lose its Form S-3 status except in circumstances where relief under the “grandfather” clause is available) would lose its WKSI status as of its next measurement date under Rule 405, which is typically when the company files its annual report on Form 10-K.  This loss of WKSI status is the result of the limited scope of the grandfather clause under the new rules, which waives enforcement of the Form S-3 eligibility criteria under General Instruction I.B.2. but does not change the substantive criteria that must be met.  Unless additional relief is granted by the Commission, a current WKSI under paragraph (1)(ii)(C) that does meet one of the criteria under General Instruction I.B.2. of Form S-3 and that has an effective automatic shelf registration statement on Form S-3 outstanding (a “Form S-3/ASR”) will be required to post-effectively amend its Form S-3/ASR at the time of its 10-K filing to convert it to a regular Form S-3 that is subject to Commission review and that must be declared effective by the Commission staff.

Dodd-Frank Rulemaking Update

On July 29, 2011, the Commission provided guidance with respect to its anticipated rulemaking timeline for various rulemaking that the Commission is required to undertake pursuant to the provisions of the Dodd-Frank Act.  Notable, the Commission has delayed its timeline with respect to certain matters as follows:

  1. Section 951 of the Dodd-Frank Act requires the Commission to adopt rules requiring disclosure by institutional investment managers of how they vote with respect to say on pay votes by public companies in their portfolio.  The Commission originally anticipated adopting final rules in July 2011 and now expects to act on these rules by year end.
  2. The Commission originally anticipated adopting by year end a series of enhanced corporate governance related disclosures, including rules regarding enhanced disclosure of pay-for-performance policies and measures and pay ratios of chief executive officers to other employees (Section 953 of the Dodd-Frank Act), expanded executive clawbacks in the event of a restatement (Section 954 of the Dodd-Frank Act) and policies regarding hedging activities by employees and directors (Section 955 of the Dodd-Frank Act).  Although the Commission expects to propose these rules by year end, the Commission believes that adoption of final rules will be delayed until the January-June 2012 timeframe.  It is uncertain whether the delay in the Commission adoption timeline will result in these new rules not being in place in time for the 2012 proxy seasons.
  3. The Commission’s rulemaking timeline for independence standards for compensation committee members and criteria for assessing the independence of outside counsel and advisors remains unchanged.  These rules are expected to be in place by year end.

By: Blake Hornick and Michael Dunn

Blake Hornick is a partner in Seyfarth’s New York office and Michael Dunn is an associate in the firm’s New York office.  If you would like further information, please contact your Seyfarth Shaw LLP attorney, Blake Hornick at bhornick@seyfarth.com or Michael Dunn at mdunn@seyfarth.com.