New SEC Rule Allows All Companies to File Confidentially for IPOs
By Neil Pinchuk, Co-Regional Managing Partner, Marcum Bernstein & Pinchuk LLP
Effective July 10, 2017, the Securities & Exchange Commission (“SEC”) began allowing all companies to submit non-public, draft registration statements for initial public offerings (“IPOs”). Why make this significant change? In altering the disclosure requirements, the SEC hopes to reduce organizations’ exposure to market fluctuations while going through the IPO process, rationalize the filing process so that compliance is less burdensome and expensive for small organizations, and further streamline disclosures to make them more meaningful and useful to investors.
The SEC’s new rule is largely an effort to reverse the decline in IPOs, encourage more public offerings, among both U.S. and foreign companies, on U.S. exchanges, and provide investors with access to a wider range of small, successful companies in which to invest. While this ruling may encourage more companies to consider (or reconsider) listing within the U.S. market, for foreign issuers, numerous complexities remain that should be considered.
Understanding the SEC’s New Rule
The new SEC rule has extended a favored provision of the JOBS Act, previously available only to organizations that qualified as emerging growth companies (EGCs), to allow any company filing for an IPO to submit non-public, draft registration statements for initial public offerings and certain other registrations.
The Jumpstart Our Business Startups (JOBS) Act1, enacted on April 5, 2012, was designed to encourage small business and start-up funding by easing federal regulations and allowing individuals to become investors.
A new category of issuer created under the JOBS Act, an EGC (Emerging Growth Company)2 is defined as an organization with annual gross revenues of less than $1.07 billion during its most recent fiscal year (initially set at $1 billion, the figure was adjusted for inflation in April 2017). Registrants that qualify as EGCs, including foreign private issuers, can take advantage of certain benefits, including:
- Voluntary submission of confidential draft initial registration statements and certain scaled disclosures during and after an initial public offering (IPO).
- Certain disclosure relief and accommodations provided by the JOBS Act, such as the ability to file a registration statement for an equity IPO with two years of audited financial statements rather than three.
In simple terms, the new SEC rule affords companies more flexibility to plan their offerings, and the post-IPO, non-public review process decreases the potential for drawn-out exposure to market fluctuations that could adversely affect the offering process and cause damage to existing public shareholders. By requiring a public filing period prior to the launch of any marketing activities or road shows, the process absorbs a feature of the EGC review procedure that enables the public to evaluate those offerings. By permitting them to file offering documents confidentially, companies will have the opportunity to fix any shortcomings in their disclosures before releasing them to the public or, they may decide not to go public, after all. Either way, the confidential filing process protects these companies from lengthy scrutiny from investors, the media, and competitors.
Confidential submission became a favored provision of the JOBS Act because it significantly changed the IPO landscape by incentivizing smaller companies to go public. For context, two years after its implementation, confidential submission was almost universal: nearly 90% of EGCs that priced an IPO in Year Two confidentially submitted at least one draft registration statement prior to public filing. Now, five years later, the SEC has expanded the provision to encourage a wider range of companies to file IPOs. A trend can be foreseen among all the companies. An overview of the changes implemented as a result of this new ruling are as follows:
- Effective Date: Companies were permitted to begin voluntary submission of draft registration statements to the SEC for non-public review on July 10, 2017.
- Not Limited to EGCs: Companies are no longer required to qualify as EGCs to take advantage of this process.
- Initial Securities Act and Exchange Act Registrations: This process is available for drafts of initial Securities Act registrations, as well as initial registration statements for listing of a class of securities on a national securities exchange under Section 12(b) of the Securities Exchange Act of 1934 (Exchange Act).
- Follow-On Public Offerings within One Year of IPO: The SEC will accept initial drafts of registration statements for non-public review until the end of the 12th month following the effective date of an initial registration under the Securities Act, or under Section 12(b) of the Exchange Act.
- New Process Impacts Timing, Not Disclosure: This process affects the manner and timing of public filing of registration statements, but does not impact disclosure or other requirements.
- No Change to EGC Process: This process doesn’t change the existing confidential review process or other special provisions available to EGCs.
- Content of Draft Registration Statements: Companies should ensure that their draft registration statement is largely complete when submitted; the SEC won’t delay processing if the company is confident that omitted financial information won’t be required when the registration statement is publicly filed.
- Communications Issues: Filing companies should carefully review communications before, during, and following the confidential submission of a draft registration statement and the subsequent public filing of a registration statement.
- EDGAR System Transition: Companies that don’t have EDGAR access codes will need to file a Form ID to obtain the codes from the SEC.
- Foreign Private Issuers and Multijurisdictional Disclosure System (“MJDS”) Filers: The SEC permits Foreign Private Issuers (FPI) to choose to proceed either under the new process or under those available to an EGC, if qualified as such.
The SEC requires that filing companies must publicly file drafts, along with any related amendments, no later than 15 days before any road show or marketing promotion begins, and if no promotional activities are planned, within 15 days of the requested effective date. Additionally, all draft registration statements must be “substantially complete,” meaning they must include a signed audit report from the company’s registered public accountant and meet all requirements for the registration statements. For example, when filing draft submissions, companies don’t need to include items such as the required signatures of executives and directors, the auditor’s consent, and the filing fee, but the publicly filed registration statement must be complete when the registration statement is initially filed.
Omission of Certain Financial Information from Draft Registration Statements
Companies are also permitted to withhold financial information from a draft registration statement for presently required historical periods, if executives are confident they won’t be required to include them at the time of their public filing. This provision is likely to apply when the SEC’s review process extends through a financial statement staleness date. It should be noted that, when a company files publicly for the first time, it must include all financial information required as of the public filing date.
Uncertain which financial information much be submitted? When evaluating which interim periods to include in a draft registration statement, companies may consider the concepts in the previously issued Compliance and Disclosure Interpretations (C&DIs) related to the FAST Act, which explains that interim financial information for the most recent fiscal period and the comparative prior period should be included if the annual fiscal periods will be included for the public filing. This means that interim financial statements would be required in each filing of a draft registration statement, since any periods presented in those statements will ultimately be included in either year-to-date interim periods or the annual periods presented in the registration statement as of the public filing date.
Listing Requirements of Global Major Stock Exchanges
With this new rule, the SEC hopes to increase the share sale for these companies. Foreign Issuers are among this targeted group – and overseas listings for fast-growing Chinese companies seeking to fund their growth, given the long wait in their own exchange boards, are long coveted by the SEC for the U.S. exchanges.