SEC to raise barriers to US capital markets

United Kingdom
The SEC has announced proposals to make it more difficult for foreign companies to use the Rule 144A exemption to US Securities Act registration requirements to tap the US capital market.

The lengthy SEC proposals, called the "Aircraft Carrier" because of their size and complexity, include provisions to make Rule 144A less attractive to foreign securities issuers that do not currently file reports with the SEC by

  • introducing new registration requirements,
  • imposing rules to reduce the attractiveness of Rule 144A securities to buyers,
  • generally discouraging the use of Rule 144A and other exemptions.

These changes will make it more burdensome and expensive for many foreign companies to raise capital in the US markets.

Those concerned with the "Aircraft Carrier" changes should make their objections known to the SEC before June 30, 1999.

Explanation of Rule 144A

The basic principles of the US Securities Act of 1933 ("Securities Act") are that securities sold to the public must be registered with the Securities Exchange Commission ("SEC"). Registration documents must disclose all material facts that could reasonably affect a decision to purchase the security.

These registration restrictions are detailed, burdensome and consequently expensive, but they are the price that securities issuers must pay to get access to the public securities market in the US.

There are certain exemptions from these general requirements and one of the most important for the international companies is Rule 144A. In general, Rule 144A permits the sale of securities in the US to "qualified institutional buyers" (know as "QIBs") under certain conditions without a Securities Act registration.

Generally, Rule 144A can apply to any securities except:

a. securities listed on a US exchange or NASDAQ, or
b. certain other securities such as those issued by an open-ended investment company or unit investment trust.

However, securities purchased under Rule 144A are categorised at "restricted securities" under US law and can be resold only to limited categories of buyers such as QIBs, or buyers that qualify under certain other exemptions.

A "QIB" must meet certain tests. Generally, it must own or invest on a discretionary basis at least US$100 million in the shares of an unrelated company (or $10 million in the case of a registered broker-dealer). There are currently over 4000 QIBs.

The current advantages of Rule 144A are (1) non-US companies can issue restricted securities (such as ADRs or GDRs) to raise capital in the US market without having to comply with full SEC registration or reporting requirements, (2) raising US capital this way is cheaper and quicker than a public offering, and (3) Rule 144A securities can be traded through the NASD's PORTAL system which can allow QIBs holding Rule 144A securities to describe them as "liquid" securities for regulatory reasons.

The disadvantages of Rule 144A are that the exemption cannot be used for shares already listed on a US exchange, and that market liquidity for Rule 144A offerings is limited compared to other US securities because of resale restrictions.

The "Aircraft Carrier" of Proposed Changes

However, on November 13, 1998, the SEC issued rule proposals that would significantly change the market for Rule 144A securities. The 700 plus page proposals are so long and complex they have been collectively dubbed "The Aircraft Carrier." One of the key aims of the Aircraft Carrier is to discourage the use of Rule 144A, and other exemptions to SEC registration requirements, by making registration easier to achieve and imposing restrictions that make Rule 144A a more expensive route to the US capital market.

The Aircraft Carrier proposes adopting new forms of registration, streamlining the registration process and reducing the liquidity of the market for Rule 144A offerings.

Large public companies with an SEC reporting history will be allowed to use the new Form B registration statement. This would give them the advantages of:

1. Issuing shares without prior SEC review,
2. Being permitted to incorporate most company information into the offering documents by reference,
3. Being permitted to make offers to sell securities before the registration material is filed, and
4. Being allowed more liberal communication with investors beyond the required prospectus.

Medium size companies (public flotation exceeding US$75 million) with a two-year reporting history could use a new Form A registration statement which offers the advantage of being able to incorporate company information by reference.

However, for companies that are not eligible (because they are too small or do not have the required reporting history) for Form A or B, things are less promising. They may lose some of the flexibility they now have.

Foreign companies have often used Rule 144A to sell high-yield securities to US QIBs. Under the new proposals, foreign companies that have a reporting history could use Form B to register offerings to QIBs. Those offerings would not be much different from today.

However, non-reporting foreign companies could be significantly disadvantaged by adoption of the Aircraft Carrier proposals. Under the present rules, Rule 144A issuers may place Rule 144A securities with QIBs and subsequently file a registration statement which allows them to swap unrestricted, tradable securities for the Rule 144A securities, often within 180 days. This securities exchange device permits issuers of Rule 144A securities to overcome what would otherwise be a liquidity problem. Under the Aircraft Carrier proposals, this option would be abolished. The SEC's position is that reducing the barriers to registration makes this technique unnecessary.

However, non-reporting foreign companies would no longer be able to offer a tradable securities "swap" for their Rule 144A sales. Consequently, the market for these Rule 144A securities would contract forcing the issuers to offer a higher yield as an "illiquidity premium."

The Aircraft Carrier also suggests that it now may be appropriate to raise the QIB threshold from US$100 million to US$200 million. This would further diminish liquidity for Rule 144A offerings by reducing the pool of QIBs.

These proposals are opposed by a number of influential organisations including the US Securities Industry Association ("SIA") which represents over 700 securities firms. They sent a long letter to the SEC (accompanied by an economic analysis) on May 12, 1999 arguing that the Aircraft Carrier proposals would be detrimental to securities issuers.


The SEC has extended time for comment on the Aircraft Carrier until June 30, 1999. Those concerned about its impact on access to US capital markets should register their concerns now.

For more information contact Banking and International Finance partner, Ned Swan on Tel: +44 (0)171 367 3000 or e-mail: