October 11, 2012
On September 28, 2012, the Financial Industry Regulatory Authority, Inc. (“FINRA”) (f/k/a National Association of Securities Dealers, Inc. (“NASD”)) filed proposed rule changes to NASD Rule 2711 with the Securities and Exchange Commission (the “SEC”). These proposed changes are designed to conform that rule to the requirements of the Jumpstart Our Business Startups Act (the “JOBS Act”).
In particular, the proposal provides that research analysts may attend emerging growth company (an “EGC”, as defined under the JOBS Act) initial public offering (“IPO”) pitch meetings that are also attended by investment bankers, but only so long as the research analyst does not participate in soliciting investment banking business or engage in other prohibited conduct. The proposed rule changes also include conforming amendments to NYSE Rule 472 and additional modifications to eliminate quiet period restrictions with respect to EGCs under both NASD Rule 2711 and NYSE Rule 472 consistent with the policies underlying the JOBS Act.
The proposed rule changes are consistent with the Frequently Asked Questions (the “FAQs”) released by the SEC’s Division of Trading and Markets (the “Staff”) on August 22, 2012. Our Client Alert with respect to the FAQs is available here: https://www.gibsondunn.com/sec-releases-faqs-on-jobs-act-provisions-relating-to-research-analysts-and-underwriters/.
Permitted Research Analyst Communications
Section 105(b) of the JOBS Act provides that research analysts may participate in IPO-related communications with management of an EGC that are also attended by non-analyst personnel of a broker, dealer, or national securities association member, including investment banking personnel. NASD Rule 2711(c)(4) and NYSE Rule 472(b)(5) currently bar research analysts from participating in efforts to solicit investment banking business, explicitly forbidding participation in “pitches” or communications with companies for the purpose of soliciting investment banking business.
In the FAQs, the Staff took the position that research analysts may attend a pitch meeting in connection with an EGC IPO that is also attended by investment banking personnel so long as the research analyst does not participate in soliciting investment banking business or engage in other prohibited conduct. Such prohibited conduct may include (1) changing research in an effort to obtain investment banking business, (2) giving “tacit acquiescence” to overtures from EGC management that the issuer expects favorable research coverage in exchange for investment banking business, such as underwriting the EGC IPO, (3) providing views inconsistent with their personal views, and (4) making misleading statements. As indicated in the FAQs, this new flexibility does not extend to meetings with EGC management at which investors are also present.
FINRA’s proposed rule changes to NASD Rule 2711(c)(4) and NYSE Rule 472(b)(5) are consistent with the Staff’s view expressed in the FAQs. As a result, research analysts may attend EGC IPO pitch meetings that are also attended by investment bankers, but only so long as the research analyst does not participate in soliciting investment banking business or engage in other prohibited conduct. In addition, investment banking firms should continue to be mindful that investment banking personnel remain prohibited from directly or indirectly directing a research analyst to engage in sales or marketing efforts related to an investment banking services transaction under NASD Rule 2711(c)(6) and NYSE Rule 472(b)(6)(ii). Firms should institute and enforce appropriate controls to ensure that analysts do not engage in prohibited conduct — such as solicitation — at any meetings with EGC management that are also attended by investment banking personnel, or otherwise.
Further, as indicated in the FAQs and noted in our previous client alerts, the JOBS Act does not supersede, amend or modify the 2003 settlement between many large investment banks and the SEC, self-regulatory organizations, and other regulators regarding research analyst conflicts of interest (the “Global Research Settlement”). Absent future changes to the Global Research Settlement by court order or express SEC rulemaking, settling firms will continue to be precluded from having research analysts attend EGC IPO pitch meetings since, absent an express exception to the Global Research Settlement requirement to create and enforce firewalls between research and investment banking, analysts from settling firms are not permitted to participate in communications in the presence of investment banking personnel.
Elimination of Quiet Period Restrictions
Section 105(d) of the JOBS Act prohibits the SEC or registered national securities associations (effectively, FINRA) from adopting or maintaining any rule that prohibits any FINRA member from publishing or distributing research reports or making a public appearance for a prescribed period of time following an EGC IPO or prior to the expiration of a lock-up agreement entered into in connection with a securities offering of an EGC. Although the JOBS Act is silent as to the elimination of quiet periods following a secondary offering by an EGC and during the period after the expiration of a lock-up agreement, the Staff gave a broad reading to Section 105(d) in the FAQs. In light of this guidance, FINRA has proposed eliminating all NASD and NYSE quiet period restrictions regarding the publication or distribution of a research report or a public appearance by a research analyst in connection with IPOs and secondary offerings of EGCs, including:
Expedited Request for Approval and Retroactivity
FINRA has requested that the SEC approve the proposed rule changes prior to the 30th day after its publication in the Federal Register. Any comments on the proposal should be submitted on or before 21 days after publication in the Federal Register.
FINRA also requested that, other than elimination of the quiet periods for secondary offerings and after the expiration, termination or waiver of a lock-up agreement, the proposed rule changes be retroactive to April 5, 2012 (i.e., the date of effectiveness of the applicable provisions of the JOBS Act). FINRA requested that the elimination of the quiet periods for secondary offerings and after the expiration, termination or waiver of a lock-up agreement be effective upon approval of the proposed rule changes by the SEC.
 Addendum: On October 11, 2012, the SEC approved the proposed rule changes on an accelerated basis pursuant to FINRA’s request.
 As discussed further below, research analysts from Global Research Settlement (as defined below) firms will continue to be restricted from engaging in this activity pursuant to the terms of the Global Research Settlement.
 Section 105(b) of the JOBS Act also prohibits the SEC and any national securities association from adopting or maintaining rules that, in connection with an EGC IPO, restrict an employee of a broker, dealer or FINRA member from arranging a communication between a securities analyst and a potential investor based on such person’s “functional role” (i.e., investment banker). In the FAQs, the Staff indicated that NASD Rule 2711(c)(6) and NYSE Rule 472(b)(6)(ii) continue to prohibit investment banking personnel from directing analysts to engage in sales or marketing efforts, and from directing analysts to engage in communications with current or prospective customers regarding investment banking services. The Staff was of the opinion that these rules did not prohibit the arranging activity contemplated by the JOBS Act. In light of this guidance, FINRA did not propose a conforming rule change to authorize this type of arranging activity.
 In addition, non-settling firms may also adhere voluntarily to Global Research Settlement restrictions either as a “best practices” measure or at the request of investors or customers.
 The effect of this distinction is that FINRA and NYSE rules that were directly preempted by the JOBS Act will be eliminated with effect from the effective date of the applicable provisions of the JOBS Act, whereas the amendments that eliminate the quiet period after the secondary offering of an EGC and the quiet period after the expiration, waiver or termination of a lockup agreement in connection with a securities offering by an EGC — which were not directly preempted by the JOBS Act — will be effective only prospectively.
An abbreviated version of this Alert was posted as a blog on the Gibson Dunn Securities Regulation and Corporate Governance Monitor, available at https://securitiesregulationmonitor.com. We encourage you to sign up at the Monitor website to receive email alerts when we post information on developments and trends in securities regulation, corporate governance and executive compensation.
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