Welcome to 2011. I hope it will be a great year for all my readers.
As to the topic at hand: among the multitude of rules Dodd-Frank is mandating that the SEC make, is disqualification from eligibility for Rule 506 treatment under Regulation D of any otherwise qualifying Rule 506 offering for prior “bad acts” of certain of the persons involved in making the offering. In particular, the SEC is to disqualify any otherwise Rule 506 qualifying offering if it is participated in by a person, of a sufficiently high level, previously convicted of a felony or misdemeanor in connection with the purchase or sale of any security, or involved in the making of any false filing with the SEC, or subject to any final order of a state financial regulator or federal banking authority barring the person from the securities industry.
In a Comment Letter by the North American Securities Administrators Association, Inc. (“NASAA”) dated November 4, 2010 the SEC was urged to beef up the disqualification considerably beyond the bare bones mandate of Dodd-Frank.
In this regard, NASAA made several points in the letter.
First, while Dodd-Frank would only have disqualified persons from making Rule 506 offerings (unlimited offering amount to Accredited Investors plus up to 35 non- Accredited Investors), NASAA urged that the disqualification should apply to all private offerings under Regulation D. NASAA was concerned that otherwise issuers could engage in “regulatory arbitrage” by making either (i) a Rule 505 offering (up to $5 million to Accredited Investors plus up to 35 non-Accredited Investors) subject a different set of disqualifications which could be more favorable to the issuer or (ii) a Rule 504 offering (up to $1 Million) subject to no disqualifications whatsoever.
Second, Dodd-Frank directed the SEC to adopt disqualification provisions substantially similar to those of Rule 262 under the Securities Act. Under 262 there are different disqualifications that apply depending on which of the following classes the person falls in: (i) issuer (ii) the issuer’s directors, officers, general partners, 10% beneficial owners, promoters and underwriters or (iii) the underwriter. This classification method means that not all of the disqualifications of 262 apply to each class. So if a person, A, in class (ii) has committed a "bad" act that applies to only class (i) or class (iii) persons then there is no Section 262 disqualification for A. NASAA would change this so that A, and hence the Regulation D offering in which A was involved, would be disqualified.
Third, in a 2007 Rule Making Release the SEC would have excluded Rule 262 “bad acts” of 10% of more beneficial equity holders and officers of an issuer, among others from disqualifying a Regulation D offering. NASAA would have the SEC adopt Regulation D disqualification provisions that include such 10% beneficial owners and officers of an issuer.
Fourth, the SEC’s 2007 Rule Making Release would also have excluded Rule 262 “bad acts” of underwriters, including broker-dealers and private placement agents, as well as partners, directors, or officers of underwriters from Regulation D disqualification. NASAA urged the SEC to include underwriters as they play “a critical role” in securities offerings. NASAA also felt inclusion of underwriters would encourage issuers to “screen” persons selling their securities.
* * *
Robert Kiggins, Esq. of McCarthy Fingar LLP, is author of the blog, and may be reached at (914) 385-1024 or rkiggins@mccarthyfingar.com.
Nothing is this blog is intended to or may be relied upon as specific legal advice. Securities and related laws are complex and competent counsel should be consulted. Views expressed by the author in this article are his own and not those of any other person.
