United States: SEC Proposes To Expand "Testing The Waters" Exemption To Permit Pre-Offering Communications

On 19 February 2019, the Securities and Exchange Commission (SEC) proposed an expansion of the allowance under the 2012 Jumpstart Our Business Startups Act ("JOBS Act"), referred to as "testing the waters", which is currently only available to emerging growth companies (EGCs). The new Rule 163B under the Securities Act of 1933 ("Securities Act") would, if adopted, enable all issuers (and their authorised representatives, including underwriters) to engage in communications with certain categories of large institutional investors prior to or after the filing of a registration statement to assess investor interest in a registered offering. These communications would be exempt from the prohibition imposed by Section 5 of the Securities Act on making any written or oral offers prior to the filing of a registration statement with the SEC.

Generally, companies with annual revenues in excess of US$1 billion do not qualify as EGCs and thus currently are unable to "test the waters" in reliance on this JOBS Act provision. In the SEC press release announcing the proposed rule, SEC Chairman Jay Clayton stated, "Extending the test-the-waters reform to a broader range of issuers is designed to enhance their ability to conduct successful public securities offerings and lower their cost of capital, and ultimately to provide investors with more opportunities to invest in public companies."

In view of the fact that communications under the proposed rule would be limited to "qualified institutional investors" and institutional "accredited investors," the rule as proposed would not require issuers to file or include specific legends on testing-the-waters communications made under Rule 163B. However, these communications would be subject to review by the SEC to ensure that testing-the-waters communications do not conflict with any material information included in the registration statement, in line with the SEC's current practice. These communications would continue to be considered "offers" under the Securities Act, and would consequently be subject to potential liability under the Securities Act and other federal anti-fraud provisions. Furthermore, companies subject to Regulation FD would need to consider whether testing-the-waters communications would be considered selective disclosure of material non-public information and whether the issuer has an obligation to simultaneously make such information public. Under Regulation FD, if the investors in testing-the-waters meetings enter into confidentiality agreements, the issuer may in certain circumstances conclude that public disclosure is not required at that time.

The new rule is meant to be non-exclusive, and a company could rely on other Securities Act communications rules or exemptions when assessing the means and timing of communication with potential investors prior to a contemplated offering.

Comments on the proposal are due by 29 April 2019. The proposed rule release is available here.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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