[Federal Register Volume 62, Number 136 (Wednesday, July 16, 1997)]
[Notices]
[Pages 38150-38156]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-18605]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-38822; File No. SR-NASD-97-38]
Self-Regulatory Organizations; Notice of Filing of Proposed Rule
Change by the National Association of Securities Dealers, Inc.
(``NASD'' or ``Association'') Relating to the Application of the NASD
Corporate Financing Requirements To Exchange Offers, Mergers/
Acquisitions, and Other Similar Transactions
July 8, 1997.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act'') \1\ notice is hereby given that on May 23, 1997, the National
Association of Securities Dealers, Inc. (``NASD'' or ``Association'')
filed with the Securities and Exchange Commission (``Commission'' or
``SEC'') the proposed rule change as described in Items I, II, and III
below, which Items have been prepared by the self-regulatory
organization. On June 19, 1997, the NASD filed Amendment No. 1 to its
proposal.\2\ The Commission is publishing this notice to solicit
comments on the proposed rule change from interested persons.
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\1\ 15 U.S.C. Sec. 78s(b)(1).
\2\ In Amendment No. 1, the NASD amended Rule 2710(b)(7)(F)(i)
to replace the phrase ``listed on The Nasdaq National Market, the
New York Stock Exchange, or American Stock Exchange'' with
``designated as a Nasdaq National Market security or listed on the
New York Stock Exchange or American Stock Exchange.''
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I. Self-Regulatory Organization's Statement of the Terms of
Substance of the Proposed Rule Change
The NASD is proposing to amend Rules 2710 and 2720 of the Conduct
Rules of the Association to clarify their applicability to exchange
offers, merger and acquisition transactions, and other similar
transactions. Below is the text of the proposed rule change. Proposed
new language is italicized; proposed deletions are in brackets.
Rule 2710. Corporate Financing Rule--Underwriting Terms and
Arrangements
(a) Definitions
* * * * *
(b) Filing Requirements
* * * * *
(7) Offerings Exempt from Filing.
Notwithstanding the provisions of subparagraph (1) above, documents
and information related to the following public offerings need not be
filed with the Association for review, unless subject to the provisions
of Rule 2720. However, it shall be deemed a violation of this Rule or
Rule 2810, for a member to participate in any way in such public
offerings if the underwriting or other arrangements in connection with
the offering are not in compliance with this Rule or Rule 2810, as
applicable:
* * * * *
(A)-(C)--No change.
(D) securities offered pursuant to a redemption standby ``firm
commitment'' underwriting arrangement registered with the Securities
and Exchange Commission on Forms S-3, F-3 or F-10 (only with respect to
Canadian issuers); [and]
(E) financing instrument-backed securities which are rated by a
nationally recognized statistical rating organization in one of its
four (4) highest generic rating categories; and
(F) exchange offers of securities where:
(i) the securities to be issued or the securities of the company
being acquired are designated as a Nasdaq National Market security or
listed on the New York Stock Exchange or American Stock Exchange; or
(ii) the company issuing securities qualifies to register
securities with the Commission on registration statement Forms S-3, F-
3, or F-10, pursuant to the standards for those Forms as set forth in
subparagraphs (c) (i) and (ii) of this paragraph.
(8) Exempt Offerings.
Notwithstanding the provisions of subparagraph (1) above, the
following offerings are exempt from this Rule, Rule 2720, and Rule
2810. Documents and information relating to the following offerings
need not be filed for review:
(A)-(F)--No change.
(G) tender offers made pursuant to Regulation 14D adopted under the
Securities Exchange Act of 1934, as amended; [and]
(H) securities issued pursuant to a competitively bid underwriting
arrangement meeting the requirements of the Public Utility Holding
Company Act of 1935, as amended[.];
(I) securities of a subsidiary or other affiliate distributed by a
company in a spin-off or reverse spin-off or similar transaction to its
existing securityholders exclusively as a dividend or other
distribution; and
(J) securities registered with the Commission in connection with a
merger or acquisition transaction or other similar business
combination, expect for offerings required to be filed pursuant to
subparagraph (9)(I) below.
(9) Offerings Required to be Filed.
Documents and information relating to all other public offerings
including, but not limited to, the following must be filed with the
NASD for review:
(A)-(F)--No change.
(G) securities offered pursuant to Regulation A or Regulation B
adopted under the Securities Act of 1933, as amended; [and]
(H) exchange offers that are exempt from registration with the
Commission under Sections 3(a)(4), 3(a)(9), 3(a)(11) of the Securities
Act of 1933 (if a member's participation involves active solicitation
activities) or registered with the Commission (if a member is acting as
dealer-manager) (collectively ``exchange offers''), except for exchange
offers exempt from filing pursuant to subparagraph (7)(F) above that
are not subject to filing by subparagraph (9)(I) below;
(I) any change offer, merger and acquisition transaction, or other
similar corporate reorganization involving an issuance of securities
that results in the direct or indirect public ownership of the member;
and
(J) any offerings of a similar nature that are not exempt under
paragraphs (7) or (8) above.
* * * * *
(c) Underwriting Compensation and Arrangements
* * * * *
(6) Unreasonable Terms and Arrangements.
(A) No member or person associated with a member shall participate
in any manner in a public offering of securities after any arrangement
proposed in connection with the public offering, or the terms and
conditions relating thereto, has been determined to be unfair or
unreasonable pursuant to this Rule or inconsistent with any By-Law or
any Rule or regulation of the NASD.
(B) Without limiting the foregoing, the following terms and
arrangements, when proposed in connection with the
[[Page 38151]]
distribution of a public offering of securities, shall be unfair and
unreasonable:
* * * * *
(v) any ``tail fee'' arrangement granted to the underwriter and
related persons that has a duration of more than two (2) years from the
date the member's services are terminated, in the event that the
offering is not completed in accordance with the agreement between the
issuer and the underwriter and the issuer subsequently consummates a
similar transaction, expect that a member may demonstrate on the basis
of information satisfactory to the NASD that an arrangement of more
than two (2) years is not unfair or unreasonable under the
circumstances.
Subparagraphs (v)-(xiii) are renumber (vi)-(xiv).
* * * * *
Rule 2720. Distribution of Securities of Members and Affiliates--
Conflicts of Interest
(a) General
(1) No member or person associated with a member shall participate
in the distribution of a public offering of debt or equity securities
issued or to be issued by the member, the parent of the member, or an
affiliate of the member and no member or parent of a member shall issue
securities except in accordance with this Schedule.
(2) No member or person associated with a member shall participate
in the distribution of a public offering of debt or equity securities
issued or to be issued by a company if the member and/or its associated
persons, parent or affiliates have a conflict of interest with the
company, as defined herein, except in accordance with this Schedule.
(3) In the case of an exchange offer, merger and acquisition
transaction, or similar corporate reorganization, this Rule shall only
apply if the offering is described in:
(a) Rule 2710(b)(9)(H) and the issuance of securities is by a
member or the parent of a member; or
(b) Rule 2710(b)(9)(I).
* * * * *
(c) Participation in Distribution of Securities of Member or Affiliate
(1) and (2)--No change.
(3) If a member proposes to underwrite, participate as a member of
the underwriting syndicate or selling group, or otherwise assist in the
distribution of a public offering of its own or an affiliate's
securities, or of securities of a company with which it or its
associated persons, parent or affiliates have a conflict of interest,
one or more of the following three criteria shall be met:
(A) The price at which an equity issue or the yield at which a debt
issue is to be distributed to the public is established at a price no
higher or yield no lower than that recommended by a qualified
independent underwriter which shall also participate in the preparation
of the registration statement and the prospectus, offering circular, or
similar document and which shall exercise the usual standards of ``due
diligence'' in respect thereto; provided, however, that:
(i) An offering of securities by a member which has not been
actively engaged in the investment banking or securities business, in
its present form or as a predecessor broker/dealer, for at least the
five years immediately preceding the filing of the registration
statement shall be managed by a qualified independent underwriter; and
(ii) The provision of this paragraph which requires that the price
or yield of the securities be established based on the recommendation
of a qualified independent underwriter shall not apply to an offering
of equity or debt securities if:
a. The securities (except for the securities of a broker/dealer or
its parent) are issued in an exchange offer or other transaction
relating to a recapitalization or restructuring of a company; and
b. The member that is affiliated with the issuer or with which the
member or its associated persons, parent or affiliates have a conflict
of interest is not obligated to and does not provide a recommendation
with respect to the price, yield, or exchange value of the transaction;
or
(iii) In any exchange offer, merger and acquisition transaction, or
similar corporate reorganization subject to this Rule under
subparagraph (a)(3) above, the provision of this paragraph which
requires that the price or yield of the securities be established based
on the recommendation of a qualified independent underwriter shall not
apply and, instead, the exchange value of the securities being offered
in the transaction shall not be less than that recommended by a
qualified independent underwriter; or (B) and (C)--No change.
* * * * *
(o) Predominance of Rule 2720
If the provisions of this Rule are inconsistent with any other
provisions of the Association's By-Laws or Rules, or of any
interpretation thereof, the provisions of this Rule shall prevail,
except to the extent that subparagraph (b)(8) of Rule 2710 provides an
exemption from this Rule for certain offerings.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, the self-regulatory organization
included statements concerning the purpose of and basis for the
proposed rule change and discussed any comments it received on the
proposed rule change. The text of these statements may be examined at
the places specified in Item IV below. The self-regulatory organization
has prepared summaries, set forth in Sections A, B, and C below, of the
most significant aspects of such statement.
A. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
1. Purpose
Rule 2710 of the Conduct Rules of the NASD (``Corporate Financing
Rule'') requires that members file with the Corporate Financing
Department of the NASD public offerings of securities for review of the
proposed underwriting terms and arrangements, which terms and
arrangements must comply with that rule. Rule 2720 of the Conduct Rules
(``Conflicts Rule'') establishes standards in addition to those in Rule
2710 to address the conflicts-of-interest that occur in connection with
a public offering of the securities of a member, the parent of a
member, an affiliate of a member, or other issuer with whom the member
has a conflict-of-interest. For an offering to be subject to filing
under the Corporate Financing and Conflicts Rules, a member must be
considered to be ``participating'' in the offering and the offering
must be one that is subject to the filing requirements. Paragraph
(a)(5) of Rule 2710 defines ``participation or participating in a
public offering'' to include participation in the preparation of the
offering or other documents, participation in the distribution of the
offering on an underwritten, non-underwritten, or any other basis,
furnishing of customer and/or broker lists for solicitation, or
participation in any advisory or consulting capacity to the issuer
related to the offering, but not the preparation of an appraisal in a
savings and loan conversion or a bank offering or the preparation of a
fairness opinion pursuant to SEC Rule 13e-3.
With respect to offerings subject to compliance with the Rules, the
Corporate Financing and Conflict Rules
[[Page 38152]]
apply to most ``public offerings'' of securities, which is defined in
Rule 2720(b)(14) to include, among other things, ``offerings made
pursuant to a merger or acquisition.'' Neither the Corporate Financing
Rule nor the Conflicts Rule currently identifies the types of mergers
and acquisitions subject to filing and compliance with those rules. The
NASD has, therefore, determined to amend Rules 2710 and 2720 to clarify
the application of the requirements of the Corporate Financing and
Conflicts Rules to exchange offers, mergers and acquisitions, and
similar corporate reorganizations and make other related amendments. In
view of the increasing amount of merger and acquisition activity, the
NASD believes that the proposed amendments to Rules 2710 and 2720 will
provide certainty and eliminate confusion regarding their application
to such transactions.
With respect to the time-sensitive nature of many mergers and
acquisitions, exchange offers, and similar corporate reorganizations
that would become subject to filing as a result of approval of the
proposed rule change, the NASD previously announced in Notice to
Members 95-73 (September 1995) (``NTM 95-73'') a policy to expedite the
review of such offerings by the Corporate Financing Department.\3\ In
general, it is anticipated that a comment letter will be issued by the
Corporate Financing Department of the NASD within 48 hours of receipt
of the filing of the documents related to such a transaction, so long
as the documentation and related information submitted meet the
requirements set forth in subparagraphs (b) (5) and (6) of Rule 2710
and the appropriate filing fee is included.
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\3\ A copy of NTM 95-73 was submitted as Exhibit 2 to the NASD's
proposal and is available for inspection and copying in the
Commission's Public Reference Room.
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Summary of Proposed Rule Change
The NASD is proposing to amend the Corporate Financing and
Conflicts Rules to clarify their application to exchange offers, merger
and acquisition transactions, and other similar corporate
reorganizations and make other related changes. The amendments limit
the application of the rules to narrow situations where pre-offering
review under the Corporate Financing Rule or the application of the
Conflicts Rule is believed necessary to protect investors. Thus, in
general, the proposed rule change would require that an exchange offer
be filed with the Corporate Financing Department for review only when a
member is participating in solicitation activities related to an offer
involving unlisted securities or securities that are exempt from SEC
registration. However, filing of an exchange offer (where a member is
participating in solicitation activities) will be required if the
offering is subject to the Conflicts Rule because the offering is of
securities of a member or its parent or the offer will result in the
direct or indirect public ownership of a member. In addition, exchange
offers, merger and acquisition transactions, and other similar
corporate reorganizations will be subject to the Conflicts Rule, and
required to be filed for review, if there is an issuance of securities
that results in the direct or indirect public ownership of a member.
Description of Proposed Rule Change to Rule 2710
The filing requirements of the Corporate Financing Rule subject an
offering to compliance with that rule and, if the offering is of
securities issued by a member, the parent of a member, an affiliate of
a member, or an issuer with which the member has a conflict-or-interest
(as that latter term is defined in Rule 2720), to compliance with the
Conflicts Rule. Paragraph (b)(9) of Rule 2710 is intended to provide
clarification of certain types of public offerings required to be filed
with the Corporate Financing Department of the NASD for review.
Paragraph (b)(9) is proposed to be amended to add new subparagraph (H)
that would require the filing of exchange offers exempt from
registration under Sections 3(a)(4), 3(a)(9), and 3(a)(11) of the
Securities Act of 1933 (``Securities Act''), where the member engages
in active solicitation, and exchange offers registered with the
Commission if a member acts as a dealer manager.\4\ Active solicitation
occurs when a member directly solicits or contacts securityholders,
acts as a dealer manager, performs tasks that are performed by investor
relations firms. (i.e., contacts securityholders to determine the
action they intend to take), contacts securityholders to determine
whether they have received the offering materials, answers unsolicited
contacts, and participates in meetings with securityholders or their
advisors before or after an exchange offer begins.\5\ In contrast,
active solicitation does not encompass the delivery of a ``fairness
opinion,'' advice as to the structure and terms of the exchange offer,
assistance in the preparation of the offering documents to be sent to
securityholders, nor any other functions that do not involve direct
solicitation or direct contact with securityholders.
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\4\ The term ``exchange offer'' is intended to refer to
transactions where one security is issued in exchange for another
security of the issuer or another entity, and is distinguished from
mergers, acquisitions and other corporate reorganizations (except if
accomplished through an exchange offer) registered on a Form S-4 or
F-4.
\5\ Activities by a broker/dealer that would not come within the
concept of ``soliciting'' for purposes of Section 3(a)(9) may none-
the-less come within the concept of ``solicitation'' for purposes of
the requirement to file an offering with NASD Regulation for review
under Rules 2710 and 2720. See applicable SEC no-action letters on
Section 3(a)(9). Further, the application of the filing requirements
of Rule 2710 does not depend upon whether remuneration is paid to
the member. Thus, regardless of whether a member is paid for
soliciting the exchange, an exchange offer would be subject to
filing if the member engages in solicitation activities as described
in this rule filing.
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The NASD is not extending the filing requirement to other public
exchange offers exempt from registration because such offerings are
either subject to the oversight of a bankruptcy court or of another
Federal review authority, such as the Comptroller of the Currency or
the Federal Deposit Insurance Corporation.\6\
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\6\ See 15 U.S.C. Secs. 3(a)(5), 3(a)(6), 3(a)(10), and
3(a)(12).
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With respect to exchange offers registered on Forms S-4 or F-4,
filing is expressly limited to those distributions where the member is
engaged by the company to act as dealer manager and solicits consents
on behalf of the company to the proposed reorganization and to
otherwise facilitate the exchange of securities. In such exchange
offers, the member generally acts as a financial advisor to help
structure the transaction and will receive a fee, as well as
distribution-related compensation for services rendered.
To the extent an exchange offer exempt under Sections 3(a)(4), (9),
and (11) of the Securities Act or registered with the SEC does not fall
within the filing requirement in new subparagraph (b)(9)(H) to Rule
2710 because the member is not engaging in solicitation activities or
is not acting as dealer manager, respectively, the exchange offer is
considered exempt from compliance with the Corporate Financing and
Conflicts Rules because the member is not considered to be
``participating in the offering.''
The NASD, however, is also proposing to add new subparagraph
(b)(7)(F) to Rule 2710 to exempt from filing exchange offers where the
securities to be issued or the securities of the company to be acquired
are designated as a Nasdaq National Market security or listed on the
New York Stock Exchange (``NYSE'') or American Stock Exchange
(``AMEX'') or where the
[[Page 38153]]
company issuing securities qualifies to register securities on SEC
Registration Forms S-3 or F-10. It is believed that the listing
standards of the three markets requiring independent directors of the
Board of Directors will ensure that the independent directors of the
acquiror or target will evaluate the offer and that sufficient
information will be distributed to shareholders and to the markets, so
that investors can make a decision regarding whether to sell or hold
the securities they hold or will receive.
The exemption for companies qualified to register securities on SEC
registration Forms S-3, F-3, or F-10 applies to those companies that
meet the standards for the Forms in subparagraphs (C)(i) and (ii) of
paragraph (b)(7) of Rule 2710 in order to restrict the exemption to
domestic companies that meet the standards for Forms S-3 and F-3 prior
to October 21, 1992 and to Canadian-incorporated foreign private
issuers that meet the standards for Form F-10 approved in Securities
Exchange Act Release No. 6902 (June 21, 1991).\7\ This provision would
require, in general, that a domestic company have a three-year history
as a public reporting company, and be in compliance with the current
year's periodic reporting requirements of the Act (with respect to the
timely filing of Form 10-Qs and 10-Ks). In addition, the minimum
required market value of a company's common stock must be as follows:
Form S-3, $150 million (or $100 million market value of voting stock
and three million shares annual trading volume); and Form F-3, $300
million held world-wide. For Form F-10, Canadian private issuers must
have (CN) $360 aggregate value of voting stock and a public float of
(CN) $754 million.
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\7\ See Notice to Member 93-88 (December 1993), which includes a
copy of Forms S-3 and F-3 as those Forms existed prior to October
21, 1992 and Form F-10 as approved by the SEC on June 21, 1991.
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Paragraph (b)(7) of the Corporate Financing Rule, which includes
the two filing exemptions for exchange offers discussed above, lists
those public offerings not required to be filed for review with the
Corporate Financing Department. However, the underwriting terms and
arrangements of such exempt offerings must be in compliance with the
requirements of Rule 2710 or 2810, as applicable. Moreover, any
offering exempt from filing under paragraph (b)(7) must nonetheless be
filed if the offering is subject to Rule 2720, the Conflicts Rule, and
is subject to review by the Corporate Financing Department for
compliance with Rules 2710 and 2720.\8\
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\8\ See infra note 10.
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Paragraph (b)(9) of the Corporate Financing Rule is also proposed
to be amended to add new subparagraph (I) to require the filing of any
exchange offer, merger or acquisition transaction, and similar
corporate reorganization that involves an issuance of securities that
results in the direct or indirect public ownership of a member.\9\ Such
offerings would be subject to compliance with Rule 2710 and Rule
2720.\10\ The NASD has long held the view that pre-offering review is
vital to protect investors when the member and the issuer are in a
control relationship that is addressed through the application of Rule
2720. The NASD has previously clarified in Notice to Members 88-100
(December 1988) that mergers or acquisitions involving an issuer and a
member or its parent that result in the direct or indirect public
ownership of a member are subject to compliance with Rule 2720,
regardless of whether the merger or acquisition occurs subsequent to
the issuer's initial public offering.\11\
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\9\ This latter filing requirement does not, it is important to
note, require the filing of exchange offers, mergers, acquisitions,
and corporate reorganizations involving an offering of securities of
an affiliate of a member other than a parent or of an issuer that
otherwise has a conflict-of-interest with a member.
\10\ Paragraph (n) of Rule 2720 provides that all offerings of
securities included within the scope of that Rule are also subject
to the provisions of Rule 2710, even though an exemption from filing
may be available under Rule 2720.
\11\ In the notice, the Association expressed its special
concerns regarding the merger of blank check companies in the penny
stock market with privately held holding companies of members,
indirectly creating a publicly-held NASD member without having to
comply with Rule 2720.
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Paragraph (b)(8) of Rule 2710 lists those offerings that, although
within the definition of ``public offering,'' are exempted from
compliance with Rules 2710 and 2720. The NASD is proposing to add new
subparagraphs (I) and (J) to paragraph (b)(8) to provide an exemption
from filing and compliance with Rules 2710 and 2720 for:
1. Spin-off and reverse spin-off transactions involving a
subsidiary or affiliate of the issuer, where the securities are issued
as a dividend or distribution to current shareholders; and
2. Securities registered with the SEC in connection with a merger,
acquisition, or other similar business combination, except if the
offering would be filed under subparagraph (b)(9)(I), described above,
because it involves a transaction that results in the direct or
indirect public ownership of a member.
Spin-off transactions to existing securityholders as a dividend or
other distribution do not involve an investment decision by
shareholders and, consequently, any member acting as a financial
advisor to the parent company is not generally involved in any public
solicitation in connection with the transaction.\12\ Merger
transactions and similar business combinations registered with the SEC
generally only involve a member in providing financial advice to the
Board of Directors of the acquiror or target, that may include an
obligation that the member issue a fairness opinion regarding the
acquisition price.
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\12\ It should be noted, however, that where a spin-off that is
followed by a traditional public offering by the spun-off company to
raise capital, the company's initial public offering would be
subject to the Corporate Financing Rule's filing requirements and to
compliance with Rule 2720. The same analysis would require the
filing of any public offering to raise capital that follows a
merger, acquisition, exchange offer or other corporate
reorganization that would be exempt from filing under Rule 2710 or
exempt from compliance with Rules 2710 and 2720. In the latter case,
the offering may nonetheless fall within another exemption from
filing, such as the filing exemptions provided by subparagraphs
(b)(7) (A), (C), or (D) of Rule 2710.
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In addition, the NASD is proposing to add new subparagraph
(c)(6)(B)(v) to Rule 2710 to provide that it is an unreasonable term
and arrangement for a member to receive a right to receive a ``tail
fee'' arrangement that has a duration of more than two years from the
date the member's services are terminated, in the event an offering is
not completed and the issuer subsequently consummates a similar
transaction. Such arrangements are currently only provided in
connection with exchange offers. It is believed that the real benefit
derived by a company that grants a ``tail fee'' arrangement is the
creativity of the strategic advice given by the member for the
particular transaction that may include, among other things, assisting
the company in defining objectives, performing valuation analyses,
formulating restructuring alternatives, and structuring the offering.
In particular, in the case of an exchange offer, a member providing
financial advice will generally have provided considerable ongoing
financial advisory services to the company.
The proposed ``tail fee'' prohibition also, however, would permit a
member to demonstrate on the basis of information satisfactory to the
NASD that an arrangement of more than two years is not unfair or
unreasonable under the circumstances. The ability of the staff of the
Corporate Financing Department to grant exceptions upon request is
intended to be used where the
[[Page 38154]]
member can demonstrate that the creativity of the strategic advice
provided by the member has a potential benefit to the company for more
than two years. In the case of exchange offers exempt from filing but
subject to compliance with the Rule under subparagraph (b)(7)(F), where
the ``tail fee'' arrangement is proposed to have a duration of longer
than two years, a member would be required to request an opinion of the
staff as to whether the arrangement is permissible under the Rule. In
the case of any other offering exempt from filing under subparagraph
(b)(7), a member is required to request an opinion of the staff as to
whether it has an opinion of ``no objections'' as to any proposed
``tail fee'' arrangement.
As set forth above, although ``tail fee'' arrangements are
currently granted only in connection with exchange offers, the
provision is written to regulate such an arrangement in connection with
any type of public offering subject to compliance with the Corporate
Financing Rule. Where a ``tail fee'' arrangement is proposed in
connection with public offerings that are not exchange offers, the NASD
staff will consider whether such an arrangement is justified by the
services provided by the member to the issuer. Where the member does
not appear to have provided the type of substantial structuring and/or
advisory services to the issuer similar to those that are described
above, other than those services traditionally provided in connection
with a distribution of a public offering, a proposed ``tail fee''
arrangement will be considered to be unfair and unreasonable on the
basis that the arrangement would violate Rule 2110 (the Association's
basic ethical rule) and Rule 2430 since the member is proposing to be
paid for services that the member has not provided to the issuer. This
position is consistent with subparagraph (c)(6)(B)(iv) of Rule 2710,
which prohibits a member from receiving compensation in connection with
an offering of securities that is not completed, except for
compensation received in connection with a transaction (i.e., a merger
transaction) that occurs in lieu of the proposed offering as a result
of the member's efforts and the reimbursement of the member's
reasonable out-of-pocket accountable expenses.
In addition, the NASD has considered whether other types of fees
and expense reimbursement arrangements that are typically negotiated
for and received in connection with exchange offers proposed to be
subject to compliance with Rule 2710 are inconsistent with or
prohibited by subparagraphs (c)(6)(B)(iii) and (iv) of the Corporate
Financing Rule. Subparagraph (c)(6)(B)(iii) of Rule 2710 currently
prohibits as unfair and unreasonable any payment of commissions or
reimbursement of expenses directly or indirectly to the underwriter and
related persons prior to commencement of the public sale of the
securities being offered, with certain limited exceptions. As set forth
above, subparagraph (c)(6)(B)(iv) of Rule 2710 currently prohibits as
unfair and unreasonable the payment of any compensation by an issuer to
a member or person associated with a member in connection with an
offering of securities which is not completed according to the terms of
agreement between the issuer and underwriter, except those negotiated
and paid in connection with a transaction that occurs in lieu of the
proposed offering as a result of the efforts of the underwriter and
related persons and provided, however, that the reimbursement of out-
of-pocket accountable expenses actually incurred by the member or
person associated with a member is not presumed to be unfair or
unreasonable under normal circumstances. The NASD has determined that
it is not inconsistent with the Corporate Financing Rule for a member
acting as financial advisor in an exchange offering to receive a ``time
and efforts'' or similar fee for the services it renders in connection
with an exchange offer that is not completed, where the member does not
receive the agreed-upon success fee. In addition, it is deemed not
inconsistent with the Corporate Financing Rule for a member to receive
reimbursement of certain expenses, including, but not limited to,
travel costs, document production, and legal fees of the financial
advisor, whether or not the transaction is consummated. In NTM 95-73,
publishing the original version of the proposed rule change for
comment, the Association stated that these and similar types of
reimbursement arrangements in exchange offers are not prohibited by the
Corporate Financing Rule because such arrangements are not viewed as
directly connected to the issuance of securities.
Description of Proposed Rule Change to Rule 2720
The NASD is proposing to amend the Conflicts Rule to conform the
scope section of the Rule to the amendments to the filing requirements
of Rule 2710 and to clarify the responsibilities of a qualified
independent underwriter in an exchange offer subject to compliance with
Rule 2720. Paragraph (a) of Rule 2720 is proposed to be amended to add
new subparagraph (3) to provide that in the case of an exchange offer,
merger and acquisition transaction, or similar corporate
reorganization, compliance with Rule 2720 is required only if the
offering comes within subparagraph (b)(9)(H) of Rule 2710, where the
issuance of securities is by a member or the parent of a member or if
the offering comes within subparagraph (b)(9)(I). As set forth above,
proposed subparagraph (b)(9)(H) would require the filing of exchange
offers exempt under Section 3(a)(4), 3(a)(9), and 3(a)(11) of the
Securities Act, if the member's participation involves active
solicitation activities, and of exchange offers registered with the
SEC, if the member is acting as dealer manager. Thus, the exemption
from filing for such exchange offers provided by proposed subparagraph
(b)(7)(F), where the securities are designated as a Nasdaq National
Market security or listed on the NYSE or AMEX or the issuer qualifies
to register securities on Forms S-3, F-3 or F-10, is not available if
the exchange offer is by a member or parent of a member.\13\ As further
set forth above, proposed subparagraph (b)(9)(I) would require the
filing of any exchange offer, merger and acquisition transaction, or
similar corporate reorganization involving an issuance of securities
that results in the direct or indirect public ownership of a
member.\14\
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\13\ See supra note 9.
\14\ This filing requirement is consistent with the position
announced in notice to members 88-100 (December 1988) and paragraph
(i) of Rule 2720 which states: ``* * * if an issuer proposes to
engage in any offering which results in the public ownership of a
member * * * the offering shall be subject to the provisions of this
Rule to the same extent as if the transaction had occurred prior to
the filing of the offering.''
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The NASD is also proposing to amend Rule 2720 to clarify the
obligations of a qualified independent underwriter \15\ that would be
required by subparagraph (c)(3) of Rule 2720 to perform due diligence
with respect to the offering document and provide a recommendation with
respect to the exchange value of an exchange offer, merger and
acquisition transaction, or similar corporate reorganization.
Currently, the Conflicts Rule requires
[[Page 38155]]
that the price at which an equity issue or the yield at which a debt
issue is to be distributed to the public be established at a price no
higher or yield no lower than that recommended by a qualified
independent underwriter (who shall also participate in the preparation
of the registration statement and shall exercise the usual standards of
``due diligence'' in respect thereto). The NASD is proposing to amend
subparagraph (c)(3)(A) of Rule 2720 by adding a new exception to state
that in any exchange offer, merger and acquisition transaction or
corporate reorganization subject to Rule 2720, the provision which
requires that the price or yield of the securities be established based
on the recommendation of a qualified independent underwriter shall not
apply and, instead, the exchange value of the securities being offered
in the transaction shall not be less than that recommended by a
qualified independent underwriter. Thus, the proposed new provision
would clarify that the obligation of the qualified independent
underwriter is to ensure that the recipient of the exchange offer,
which is the party intended to be protected by the participation of a
qualified independent underwriter, shall not receive fewer of the
securities being issued in exchange for each security held by the
recipient than is recommended by the qualified independent underwriter.
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\15\ A member must meet a number of requirements in order to be
a qualified independent underwriter under subparagraph (b)(15) of
Rule 2720, including the requirement that the member ``has agreed in
acting as a qualified independent underwriter to undertake the legal
responsibilities and liabilities of an underwriter under the
Securities Act of 1933, specifically including those inherent in
Section 11 thereof.'' Participation of a qualified independent
underwriter is not required by Rule 2720 if the offering is of
equity securities that meet the test of having a ``bona fide
independent market'' or is of debt that is rated investment grade.
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Finally, in order to make clear that the exemptions in subparagraph
(b)(8) of Rule 2710 (that include exemptions for offerings of
securities issued in a spin-off or in a merger registered with the SEC
on Forms S-4 or F-4) are also exempt from Rule 2720, paragraph (o) of
Rule 2720 is proposed to be amended to reference the exemptions from
Rule 2720 that are provided in subparagraph (b)(8) of Rule 2710.
Implementation of the Proposed Rule Change
The NASD has considered the impact of the proposed rule change on
pending transactions that would be required to be filed with the
Corporate Financing Department for review as a result of the
application of Rule 2710 or Rule 2720 or would be subject to compliance
with Rule 2710 even though exempt from filing. In order to provide
timely notice to the membership of the SEC's approval of the proposed
rule change, the NASD is proposing to make the proposed rule change
effective on a date that is 30 calendar days after the issuance of a
Notice to Members announcing SEC approval of the proposed rule change.
The Notice to Members will be issued within 45 calendar days of SEC
approval. Thus, proposed exchange offers, mergers, acquisitions, and
similar transactions that have not commenced at the time the proposed
rule change becomes effective will be required to be filed for review
with the Corporate Financing Department, if subject to filing under
Rule 2710 or Rule 2720. Further, such transactions, although exempt
from filing under subparagraph (b)(7) of Rule 2710, will be required to
be made in compliance with the proposed restrictions on ``tail fee''
arrangements and other provisions of the Corporate Financing Rule. The
proposed restrictions on ``tail fee'' arrangements will not be
applicable to any outstanding ``tail fee'' arrangements for an exchange
offer, merger, acquisition, or similar transaction that has commenced
prior to effectiveness of the proposed rule change.
2. Statutory Basis
The NASD believes that the proposal to establish filing
requirements for the review of exchange offers, mergers and
acquisitions, and other corporate reorganizations under Rules 2710 and
2720, to limit ``tail fee'' arrangements to two years, and to provide
clarification as to the obligations of a qualified independent
underwriter in exchange offers is consistent with the provisions of
Section 15A(b)(6) of the Act \16\ in that the proposed rule change
promotes just and equitable principles of trade and protects investors
and the public interest.
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\16\ 15 U.S.C. Sec. 78o-3.
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B. Self-Regulatory Organization's Statement on Burden on Competition
The Association does not believe that the proposed rule change will
result in any burden on competition that is not necessary or
appropriate in furtherance of the purposes of the Act, as amended.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
The proposed rule change was published for comment in NTM 95-
73.\17\ Two comments were received in response thereto.\18\ The
amendments published for comment would require filing when members act
as dealer/managers of merger transactions or exchange offers registered
with the SEC on Form S-4 or are engaged in solicitation activities in
connection with unregistered exchange offerings or the transaction
involves mergers/exchange offerings that are subject to Rule 2720.
Under the proposal, exchange offers would be exempt from the filing
requirements if the issuer of the securities is qualified to register
on the SEC's short-form registration statements, i.e., Forms S-3, F-3
or F-10, or the companies' securities held or to be received in
connection with the exchange offer by the securityholder are listed on
the Nasdaq National Market or the NYSE or AMEX. The Notice also
proposed that ``tail fee'' arrangements in exchange offers should be
limited to a two-year period from the termination of a member's
services, provided that the NASD may permit longer periods in certain
circumstances on a case-by-case basis. No amendments were proposed to
Rule 2720.
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\17\ NTM 95-73, supra note 3.
\18\ Copies of the comment letters received in response thereto
were submitted as Exhibit 3 to the NASD's proposal and are available
for inspection and copying in the Commission's Public Reference
Room.
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The first commentor questioned the rationale for applying Rule 2720
to a transaction where a company is seeking to acquire the securities
of a target company and the member with which it is affiliated is
either soliciting securityholders of the target company or merely
acting as a financial advisor to the acquiring company. The commentor
was unable to determine the exact role that a qualified independent
underwriter would have in such a transaction and whether the qualified
independent underwriter should be required to recommend a price at
which the equity issue or debt offering could be distributed to the
public. The commentor claimed that it would be extremely difficult for
a qualified independent underwriter to make such a recommendation.
The other commentor stated that the proposal was drafted too
broadly and would require the filing of any merger and acquisition
transaction by a member that provides financial advice to an affiliated
issuer in the transaction, even if the member does not solicit proxies
or otherwise have any direct contact with investors. The commentor
recommended that the proposed amendments to the Corporate Financing
Rule be revised to make clear that members are required to file
exchange offers for review only if the member engages in ``solicitation
activities'' and the exchange offer does not qualify for any of the
exemptions from filing set forth in the Rule.
To address these comments, language was added to proposed
subparagraph (b)(9)(H) of Rule 2710 to clarify that an exchange offer
under Sections 3(a)(4), 3(a)(9), and 3(a)(11) of the Securities Act are
subject to filing only if the member's participation involves active
solicitation
[[Page 38156]]
activities and an exchange offer (not a merger transaction) registered
with the SEC is subject to filing only if there is a member acting as a
dealer manager, thereby clarifying that filing is not required where
the member's role in the transaction is limited to providing financial
advice. In addition, as recommended by the second commentor, the
provision was amended to clarify that filing is not required if the
exchange offer comes within the exemption from filing in subparagraph
(b)(7)(F) for listed securities and securities of an issuer that
qualify to register on Forms S-3, F-3, or F-10. Consistent with this
latter change, proposed subparagraph (b)(8)(J) of Rule 2710 that would
exempt from the Rule mergers (not exchange offers) registered with the
SEC, was also amended to clarify that such a merger is nonetheless
subject to filing if the merger involves the securities of a member or
the parent of a member (as provided in subparagraph (b)(9)(I)).
Also consistent with the request of the second commentor for
greater clarity in the operation of the filing requirements, new
subparagraph (a)(3) was added to Rule 2720 to clarify that any exchange
offer, merger and acquisition transaction, or similar corporate
reorganization exempt from registration under Sections 3(a)(4),
3(a)(9), and 3(a)(11) where the member is actively soliciting
securityholders or registered with the SEC where a member is acting as
dealer manager, will be required to be filed with the Corporate
Financing Department and is subject to compliance with the requirements
of the Rule if the issuance of securities is by a member or parent of a
member. In addition, by reference to subparagraph (b)(9)(I) of Rule
2710, the new subparagraph of the Conflicts Rule provides that any
exchange offer, merger or acquisition transaction, or similar corporate
reorganization involving an issuance of securities that results in the
direct or indirect public ownership of a member will be required to be
filed under Rule 2720. In order to make clear, moreover, that the
exemption in subparagraph (b)(8) of Rule 2710 for offerings of
securities issued in a spin-off or in a merger registered with the SEC
are also exempt from Rule 2720, paragraph (o) of Rule 2720 is proposed
to be amended to reference the exemptions from Rule 2720 that are
provided in Rule 2710.
Finally, to address the concerns of the first commentor regarding
the role of the qualified independent underwriter in an exchange offer,
merger and acquisition transaction, or similar corporate reorganization
subject to the Conflicts Rule, subparagraph (c) of Rule 2720 is
proposed to be amended to add a provision that requires that the
exchange value of the securities being offered in the transaction not
be less than that recommended by the qualified independent underwriter.
III. Date of Effectiveness of the Proposed Rule Change and Timing
for Commission Action
Within 35 days of the publication of this notice in the Federal
Register or within such longer period (i) as the Commission may
designate up to 90 days of such date if it finds such longer period to
be appropriate and publishes its reasons for so finding or (ii) as to
which the self-regulatory organization consents, the Commission will:
(A) By order approve the proposed rule change, or
(B) Institute proceedings to determine whether the proposed rule
change should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing. Persons making written submissions
should file six copies thereof with the Secretary, Securities and
Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549.
Copies of the submission, all subsequent amendments, all written
statements with respect to the proposed rule change that are filed with
the Commission, and all written communications relating to the proposed
rule change between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. Sec. 552, will be available for inspection and copying at
the Commission's Public Reference Room. Copies of such filing will also
be available for inspection and copying at the principal office of the
Exchange. All submissions should refer to file No. SR-NASD-97-38 and
should be submitted by August 6, 1997.
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 97-18605 Filed 7-15-97; 8:45 am]
BILLING CODE 8010-01-M
