United States: SEC Adopts Two Exemptions From Exchange Act Registration Requirements For Compensatory Employee Stock Options

Effective December 7, 2007, the Securities and Exchange Commission (the "SEC") adopted two new exemptions for compensatory employee stock options from the registration requirements of the Securities Exchange Act of 1934 (the "Exchange Act").

Heretofore, a private, non-reporting issuer with 500 or more holders of compensatory employee stock options would have been required, absent the availability of another exemption, to register those stock options (as opposed to the common stock or other security underlying the options) under section 12(g) of the Exchange Act. Since 1992, the SEC has typically granted no-action letters to these private issuers when certain conditions were present.

The exemptions from registration contain conditions similar to those the SEC has historically analyzed in determining whether to issue no-action letters. The first exemption (set forth in Rule 12h-1(f) under the Exchange Act) is available to issuers that are not required to file periodic reports under the Exchange Act, either under section 12(g) or section 15(d). This exemption applies only to stock options that are:

• issued under one or more written compensatory employee stock option plans established by the issuer and related parties,
• held only by the issuer's employees, directors, general partners, officers, consultants or advisors, and their family members who acquire the options through gifts or domestic relations orders,
• restricted, together with the shares to be issued upon exercise of the stock options, as to transfer by the optionholder other than:
• to persons who are family members through gifts or domestic relations orders,
• to the optionholder's executor or guardian upon death or disability,
• to the issuer or
• in connection with a change of control transaction if after such transaction the stock options no longer will be outstanding and the issuer no longer relying on this new exemption, and

• restricted, together with the shares to be issued upon exercise of the stock options, as to pledge, hypothecation or other transfer.

This exemption from Exchange Act registration will be effective only until the issuer becomes subject to the reporting requirements of section 13 or 15(d) of the Exchange Act or is no longer relying on this new exemption.

Additionally, this exemption is available only when the issuer has agreed in writing in the plan or stock option agreement to provide to the optionholders, every six months, information about the risks associated with investment in the issuer's stock options and the issuer's financial statements (which cannot be more than 180 days old). An issuer that relies on this exemption must, if the exemption ceases to be available, file a registration statement to register the stock options within 120 calendar days after the exemption ceases to be available.

The second new exemption (set forth in Rule 12h-1(g) under the Exchange Act) is available to issuers that file periodic reports under the Exchange Act because they have registered a class of security under section 12 of the Exchange Act or they are required to file reports pursuant to section 15(d) of the Exchange Act. This exemption applies only to stock options that are:

• issued pursuant to one or more written compensatory employee stock option plans established by the issuer and related parties, and
• held only by the issuer's employees, directors, general partners, officers, consultants, advisors, former employees, and their family members who acquire the options through gifts or domestic relations orders.

An issuer can rely on this exemption even if there is an insignificant deviation from the rule regarding the identity of the optionholders, provided that the issuer has made a good faith and reasonable attempt to comply with that rule. Issuers relying on this exemption are not required to provide financial statements or other information to their optionholders because there is already sufficient information publicly available with respect to these reporting issuers. An issuer that relies on this exemption must, if the exemption ceases to be available, file a registration statement to register the stock options within 60 calendar days after the exemption ceases to be available.

This article is for general information and does not include full legal analysis of the matters presented. It should not be construed or relied upon as legal advice or legal opinion on any specific facts or circumstances. The description of the results of any specific case or transaction contained herein does not mean or suggest that similar results can or could be obtained in any other matter. Each legal matter should be considered to be unique and subject to varying results. The invitation to contact the authors or attorneys in our firm is not a solicitation to provide professional services and should not be construed as a statement as to any availability to perform legal services in any jurisdiction in which such attorney is not permitted to practice.

Duane Morris LLP, one of the 100 largest law firms in the world, is a full-service firm of more than 600 lawyers. In addition to legal services, Duane Morris has independent affiliates employing approximately 100 professionals engaged in other disciplines. With offices in major markets in the United States and internationally, Duane Morris represents clients across the U.S. and around the world.