Major New Amendments to SEC Rule 144 Regarding the Resale of Restricted Securities
By Ara A. Babaian, Esq., Encore Law Group LLP
The SEC recently adopted amendments to Rule 144 and certain related rules to make it easier for security holders to resell “restricted securities” and “control securities.” Rule 144 is the primary rule under which, after a specified holding period, security holders are able to sell securities they acquired in private transactions. The objective of the amendments is to increase the liquidity of privately placed securities and decrease the cost of capital for issuers, without reducing investor protection. As a result, security holders will now be able to resell restricted securities sooner, which we expect will increase the value of and reduce the illiquidity discount for privately issued securities.
The Securities Act of 1933 requires registration of all offers and sales of securities, unless an exemption from the registration requirement is available. Section 4(1) of the Securities Act provides one such exemption for transactions by any person other than an issuer, underwriter or dealer. Promulgated under Section 4(1), Rule 144 is a safe harbor that permits holders of “restricted securities” and “control securities” to resell these securities in the public market if they satisfy certain conditions. Generally, “restricted securities” are securities acquired in one or more transactions not involving a public offering. Although the term “control securities” is not defined by Rule 144, it commonly refers to securities held by directors, executive officers and other affiliates of the issuer, whether or not those securities were acquired in a private placement transaction. Thus, even securities purchased in the public market can be considered “control securities,” depending on the holder’s relationship to the issuer.
Stock certificates representing restricted securities usually bear a legend indicating that the securities may be resold only if they are registered or if their sale qualifies for an exemption from the registration requirements. Rule 144 also can be used to remove these restrictive legends even if the securities are not immediately being sold.
Holding Period for Restricted Securities
The most significant amendments to Rule 144 reduce the period for which restricted securities must be held before they can be resold under that rule. In addition, as amended, Rule 144 now distinguishes between issuers that have been subject to the reporting requirements of Section 13(a) or 15(d) of the Securities Act for at least 90 days (i.e., “reporting issuers”) and non- reporting issuers.
Under amended Rule 144, security holders may resell restricted securities of reporting issuers, so long as the holder has held the securities for at least six months and so long as the reporting issuer has filed all of its required reports (i.e., Form 10-K and 10-Q filings) for the last 12 months. If the holder is an affiliate of the reporting company, the holder also must satisfy additional requirements that limit the manner of sale, limit the amount of securities that may be sold in any three-month period, and require the holder to make a filing on Form 144.
Further, if a non-affiliate holds restricted securities of any issuer (reporting or not) for at least one year, that non-affiliate may resell the securities without restriction (including the requirement for current public information). On the other hand, an affiliate of a non-reporting issuer may sell restricted securities after a one-year holding period only if the affiliate meets the manner of sale, volume limitation and Form 144 filing requirements, and the issuer is in compliance with the current public information requirements.
Sales of Control Securities by Affiliates
The requirements for affiliate sales of “control stock” remain mostly the same as prior to the recent adoption of these amendments, except for two changes: one, the manner of sale requirement has been liberalized, and, two, the threshold for requiring a Form 144 to be filed has been raised (discussed below), thereby permitting greater sales volumes than before the amendments.
Manner of Sale. Previously, affiliates could sell restricted securities only through brokers in brokers’ transactions (where the broker acts as an agent for the seller) or transactions directly with market makers. Under the amended rule, sales also can occur through brokers in riskless principal transactions in which the broker purchases or sells the securities as the agent for the seller in order to satisfy a previously-made buy or sell order (at the same price, exclusive of any explicitly disclosed markups, markdowns, commissions or fees). The rules of the self-regulatory organization must permit the transaction to be reported as riskless. Also under the amended rule, brokers now can post bid and ask quotations in alternative trading systems without violating the manner of sale requirements for brokers’ transactions. Amended Rule 144 entirely eliminates the manner of sale restriction for non-affiliates and also in connection with the sale of debt securities (for both affiliates and non-affiliates).
Form 144. As amended, Rule 144 raises the threshold for when a Form 144 is required to be filed by affiliates to sales within a three-month period in excess of 5,000 shares or $50,000. Non-affiliates are no longer required to file a Form 144.
Amended Rule 144 eliminates the manner of sale restrictions for resales of debt securities and increases the volume of permitted sales of debt securities by affiliates. Debt securities, as used in this context, include nonparticipatory preferred stock and asset-backed securities, as well as non-convertible debt securities.
Removal of Legends and Other Matters
In the adopting release, the SEC affirmed its position that legends affixed to stock certificates may be removed for both reporting and non-reporting issuers once the one-year holding period has lapsed. The SEC also codified its position on other matters, such as tacking requirements, the ability of a pledgee of securities to sell pledged securities without having to aggregate the sale with other pledgees, the unavailability of Rule 144 for securities issued by shell companies (other than business combination-related companies), and the representations required in connection with sales pursuant to Rule 10b-5-1(c) trading plans.
Amended Rule 144, which took effect on February 15, 2008, applies to securities acquired before or after that date. Issuers that are parties to registration rights agreements should review those agreements to determine whether they are still required to maintain an effective registration statement (a requirement which usually terminates once the securities become salable under Rule 144). In addition, issuers, brokers and transfer agents should review and revise their restricted securities procedures to comply with the more liberal provisions of amended Rule 144. Finally, issuers should send an updated memorandum or compliance policy to executive officers and directors explaining the changes in Rule 144.
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