SEC Adopts New Rules to Replace Use of Credit Ratings in Short-Form Eligibility Criteria

August 2, 2011

On July 26, 2011, the Securities and Exchange Commission (“SEC”) adopted new rules to eliminate an issuer’s credit rating as one of the “transaction requirement” criteria by which an issuer can qualify for the short-form registration process on Forms S-3 and F-3.  The new rules correspondingly modify Forms S-4 and F-4 to the extent that these forms reference the amended contents of Forms S-3 and F-3. The SEC also adopted conforming amendments to Rules 134, 138, 139 and 168 to remove the safe harbor for including credit ratings in communications by issuers and broker/dealers.  The new rules were adopted pursuant to Section 939A of the Dodd‑Frank Act (“Dodd-Frank”), which requires the SEC to modify its regulations to “remove any reference to or requirement of reliance on credit ratings and to substitute in such regulations such standard of credit-worthiness” as the SEC deems appropriate.

We expect these amendments to have a relatively limited impact on most companies and to potentially expand the number of short-form issuers to include certain large issuers of non-investment grade debt securities that did not previously qualify for short-form registration.

Short-Form Registration

As discussed in our February 15, 2011 alert on the SEC’s proposed rule amendments, issuers that desire to register non-convertible debt securities via a short-form registration must satisfy the ‘issuer requirement’ and ‘transaction requirement’ of Form S-3 (or F-3 for non-US issuers).  The SEC’s newly adopted rules will modify the criteria by which an issuer can satisfy the transaction requirement.

As currently in effect, Forms S-3 and F-3 allow an issuer to satisfy the transaction requirement if the non-convertible debt securities to be issued are deemed ‘investment grade securities’ by at least one nationally recognized statistical rating organization (“NRSRO”).  The newly adopted rules will instead allow an issuer to satisfy the transaction requirement if it meets one of the following criteria:

(a)  the issuer has issued (as of a date within 60 days prior to the filing of its registration statement) at least $1 billion in non-convertible securities, other than common equity, in primary offerings for cash (not exchange), registered under the Securities Act of 1933, as amended (“Securities Act”), over the prior three years;

(b)  the issuer has outstanding (as of a date within 60 days prior to the filing of its registration statement) at least $750 million of non-convertible securities, other than common equity, issued in primary offerings for cash (not exchange), registered under the Securities Act;

(c)   the issuer is a wholly-owned subsidiary of a well-known seasoned issuer (“WKSI”);

(d)  the issuer is a majority-owned operating partnership of a real estate investment trust that qualifies as a WKSI; or

(e)  the issuer discloses in its registration statement that it (i) has a reasonable belief that it would have been eligible to register the securities offerings proposed to be registered under such registration statement pursuant to the investment-grade securities transaction requirement on Form S-3 or Form F-3 in existence prior to the new rules, (ii) discloses the basis for such belief, and (iii) files its final prospectus for any such offering on or before the date that is three years from the effective date of the newly adopted amendments.

As originally proposed, the SEC was to replace the credit-worthiness test for satisfying the short-form transaction requirement with a test that required the issuer to have issued at least $1 billion of registered debt securities in primary offering for cash over the prior three years.  After receiving comments, the SEC revised its proposed rules and has now adopted the additional transaction requirement tests described in (b) through (e) above.  In its July 27, 2011 release, the SEC acknowledges that it does not believe the purpose of Dodd‑Frank Section 939A was to reduce the number of issuers that qualify for short‑form registration, but rather, for the SEC to reduce its reliance on credit ratings for regulatory purposes.

We expect that the rule amendments will have a relatively limited impact on most companies.  Issuers that will lose their ability to perform a short-form registration based on the above-describe rule change will nonetheless be provided a three-year grace period to rely upon the existing transaction requirement, pursuant to item (e) above.  In addition, short-form registration of non-convertible debt securities will now be available to a potentially larger number of issuers of non-investment grade debt securities if such issuers can satisfy the existing issuer requirements and the newly adopted transaction requirements set forth above.

The SEC has not yet finalized rule amendments relating to the issuance of asset-backed securities on Forms S-3 or F-3, and as a result, Forms S-3 and F-3 will continue to permit issuers of asset-backed securities to satisfy the transaction requirement if the asset backed securities are rated investment‑grade by an NRSRO.

The SEC’s Amendments to Rule 134’s Limited Content Press Release

Securities Act Rule 134 provides a safe harbor for an issuer’s public statements that could otherwise be deemed a ‘prospectus’ if made during the securities offering process.  Currently, Rule 134 exempts certain limited, factual statements about an issuer’s business or the securities to be offered, including disclosure of the securities’ rating assigned by an NRSRO.  As amended, Rule 134 will not include disclosure of a security’s NRSRO in the Rule 134 safe harbor.  However, the SEC notes that such disclosure can still be made by means of a free writing prospectus.

Many issuers historically have not included a security’s rating in Rule 134 press releases or similar communication, so this change should not have a significant impact on market practice.

The SEC’s Amendments to Rules 138, 139 and 168

Rules 138 and 139 of the Securities Act provide a safe harbor for broker/dealer communications that could otherwise be deemed a prospectus if made during the securities offering process.  Rules 138 and 139 currently provide a safe harbor for certain regularly published research reports in cases where the broker/dealer distributing the report is participating in an offering by the subject company (for Rule 138) or an offering of the subject security (for Rule 139).  Similarly, Rule 168 allows a foreign private issuer to continue to provide certain factual business information or forward-looking statements during an offering process without requiring such information to be incorporated into the foreign-private issuer’s prospectus.

The SEC’s amendments to Rules 138, 139 and 168 will limit these safe harbors to situations where the broker/dealer or foreign-private issuer’s statements relate to an offering by means of a short-form registration statement that satisfies the issuer and transaction requirements, including the newly adopted transaction requirements, but not including the credit-worthiness transaction requirement test to be replaced, to be consistent with the revisions to Forms S-3 and F-3.

Gibson, Dunn & Crutcher lawyers are available to assist in addressing any questions you may have regarding the issues discussed above.  Please contact the Gibson Dunn lawyer with whom you work, any member of the Capital Markets Practice Group, or any of the following:

Kevin W. Kelley – Co-Chair, New York (212-351-4022, [email protected])
Stewart L. McDowell – Co-Chair, San Francisco (415-393-8322, [email protected])
Andrew L. Fabens – New York (212-351-4034, [email protected])
Amy L. Goodman  – Washington, D.C.  (202-955-8653, [email protected])
James J. Moloney – Orange County (949-451-4343, [email protected])
Ronald O. Mueller – Washington, D.C. (202-955-8671, [email protected])
Douglas D. Smith – San Francisco (415-393-8390, [email protected])

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