- ATMs and Equity Lines: Raising Capital in Today’s Volatile Markets
- June 26, 2012 | Author: Anthony J. Marsico
- Law Firm: Greenberg Traurig, LLP - New York Office
During the recent economic crisis, turbulent markets and limited access to traditional and certain alternative financing sources have forced many public companies to search for new and creative avenues for raising capital. Mid- and small-cap issuers, especially, are increasingly turning to two types of attractive alternative equity financing options, “equity lines” and “at-the-market” equity distribution programs (or ATMs), to meet their liquidity needs. Both equity lines and ATMs provide public companies with quick, flexible and cost-efficient means of raising equity capital in amounts and at times of the company’s choosing, at prices the company deems most attractive, without sacrificing price stability and without the need for extensive pre-deal marketing or special selling efforts. Equity lines and ATMs are designed to allow companies to quickly and opportunistically access equity capital markets, especially during periods of high volatility when traditional equity or debt financing may not be economically attractive or practical.
An equity line enables a public company to sell directly to a private investor, from time to time at the company’s election, a certain dollar amount or number of shares of its common stock by exercising “draw downs” (or “puts”) under the facility, with the purchase price determined by a formula tied to the market price of the company’s common stock over a specified pricing period. The aggregate dollar amount of the investor’s total commitment, the specific amounts the company may draw down at any particular time, the number of draw downs the company may make over the term of the facility, the specific pricing mechanics and discount ranges, and the other terms of the equity line are all negotiated between the company and the investor and set forth in a written equity line agreement executed at the commencement of the transaction. The company is under no obligation to sell any shares, but the investor is required to purchase the shares subject to a properly delivered draw down (or put) notice and satisfaction of conditions outside the investor’s control.
An ATM facility enables a public company listed on a U.S. securities exchange to sell directly to the public periodically during the term of the facility, through a registered broker-dealer, newly-issued, registered equity securities, in amounts and at times and prices determined by the company in its sole discretion. Shares are sold either through the designated broker-dealer, acting as sales agent, at prevailing market prices to natural interest in an existing secondary market (i.e., “at-the-market” sales) or, if the ATM facility permits, directly to the broker-dealer as principal. The company is under no obligation to sell any shares, and the timing, frequency and terms of sales orders are entirely at the discretion of the company and can be altered (or sales orders revoked before they are executed) by the company at any time, even intraday.
Advantages of ATM Facilities and Equity Lines
ATM facilities and equity lines offer many advantages over other equity financing options, such as traditional follow-on underwritten offerings, registered direct offerings and private investments in public equities or “PIPEs.”
Follow-on underwritten offerings, registered direct offerings and PIPEs are typically more dilutive, usually require warrant coverage, and incur significantly higher all-in transaction costs than ATM facilities and equity lines. For example, the all-in cost of capital, taking into account underwriter or placement agent fees, market discounts and warrant coverage, was approximately 20 percent for PIPEs and registered direct offerings completed in 2011, and approximately 15 percent for follow-on underwritten offerings completed in 2011. Further, a company’s cost of capital increases substantially if multiple capital raises are required.
For most equity line products currently in the market, the all-in cost of capital ranges between 8 and 15 percent (though some could potentially result in higher discounts, depending on the specific pricing formula), including commitment fees and market discounts. Typically, there are no warrants or non-usage or termination fees associated with equity lines.
ATM’s offer an even more cost effective financing option, with broker-dealer’s commissions in an ATM typically ranging from two to five percent of the gross sales price of securities sold under the facility. There are no market discounts, warrants or structuring, commitment, non-usage or termination fees associated with ATMs. However, companies may be required to reimburse a portion of the investor’s or broker-dealer’s legal fees in an equity line or ATM, respectively, and incur ongoing maintenance and due diligence costs.
The initial public announcement of an ATM program or equity line generally does not have a significant impact on the company’s stock price. There are substantially fewer market overhang issues with ATM’s and equity lines, due primarily to the delayed nature of equity line draw downs and ATM stock issuances and the fact that these facilities provide the company with an option, not an obligation, to issue shares over an extended period of time. In addition, the precise timing of issuances under an ATM or equity line is not disclosed at the commencement of the program, unlike traditional follow-on underwritten offerings, PIPEs and registered direct offerings. Moreover, equity line draw downs and ATM stock issuances generally are not publicly announced at the time of sale, but rather, companies typically disclose the results of sales made through the equity line or ATM at the end of each fiscal quarter, greatly limiting arbitrage or speculation concerning the size or pricing of specific sales. Accordingly, with an ATM facility or an equity line, a company can raise capital in periodic increments that do not cause as much downward pressure on the market price of its stock as a single, large, marketed follow-on equity offering might.
In addition, ATM and equity line facilities can be negotiated and implemented very quickly relative to other financing options, usually between two and three weeks, thereby saving management time and resources. Once an ATM facility or equity line is in place, management can access cash quickly, as-and-when needed, in an orderly, flexible manner, and can precisely match the sources and uses of funds. A company can raise a substantial amount of capital in a relatively short period of time if there is sufficient liquidity in its stock.
ATMs and most equity line facilities require no “lock-up” agreements from the company or its directors, officers or significant stockholders, which are common in traditional follow-on underwritten offerings, registered direct offerings and PIPEs. Furthermore, ATMs and equity lines do not restrict companies from pursuing other equity or debt financing, thereby providing companies with maximum flexibility to raise capital.
ATMs are not intended to replace traditional equity financings, since the capacity of an ATM program generally is limited by the company’s market liquidity. Rather, they are intended to provide an attractive supplemental means to access equity capital, particularly in turbulent markets. ATM programs with an aggregate total commitment of approximately $60 billion have been implemented since 2001 for companies in a wide variety of industries (including airline, banking and financial services, biotech and life sciences, energy and utilities, natural resources, REITs, technology and transportation), and over 110 ATM facilities exceeding $16 billion in aggregate total commitment were implemented in 2011 alone.
General Structure, Terms and Mechanics of ATM Facilities; Eligible Companies
ATM facilities enable public companies listed on a U.S. securities exchange to sell to the public, periodically during the term of the facility, newly-issued, registered equity securities, including common stock, preferred stock, American depositary shares (ADSs) and American depositary receipts (ADRs). The securities are sold through a designated broker-dealer, acting as sales agent, at prevailing market prices to natural interest in an existing secondary market. Some ATM facilities provide a mechanism under which the broker-dealer may purchase shares from the company as principal on terms to be negotiated between the parties from time to time in a separate agreement.
The company is under no obligation to sell any shares, and the timing, frequency and terms of sales orders are entirely at the discretion of the company and can be altered or revoked by the company prior to execution at any time, even intraday. The broker-dealer will generally execute orders through an electronic communications network (ECN) to preserve anonymity, but many ATMs also permit the broker-dealer to sell in block trades and to execute private sales.
ATM facilities may be employed by public companies with equity securities listed on a U.S. securities exchange (NYSE, NYSE MKT or NASDAQ) that are eligible to register a primary offering of securities on Form S-3, foreign private issuers with equity securities (including ADSs and ADRs) listed on a U.S. securities exchange that are eligible to register a primary offering of securities on Form F-3, Canadian foreign private issuers with dual listing of equity securities on the Toronto Stock Exchange (TSX) and a U.S. securities exchange that are eligible to register securities on Form F-10 (under the U.S./Canadian Multi-Jurisdictional Disclosure System (MJDS)), and closed-end investment companies with equity securities listed on a U.S. securities exchange that are eligible to register a primary offering of securities on Form N-2.
ATM facilities are increasingly being used by non-U.S. companies. A growing number of dual listed companies in Canada, Hong Kong, Australia and Israel have been participating in ATM facilities in the United States. Many jurisdictions do not have regulatory systems that permit equity distribution programs equivalent to ATM facilities, so dual-listed companies often can take advantage of their U.S. listing to effect an ATM facility in the United States.
Implementation and Maintenance of ATM Facilities
To implement an ATM facility, a company must have an effective shelf registration statement on Form S-31 that complies with Rule 415(a)(4) under the Securities Act of 1933, as amended (Securities Act), which applies to “at-the-market” offerings. The company may file a new shelf registration statement or use an existing effective shelf registration statement, provided there is a sufficient amount of shares available to be issued to cover at least the total number of shares (or full dollar amount worth) of the company’s common stock subject to the ATM facility.2
Because the broker-dealer is considered an “underwriter” under the Securities Act with respect to sales that are deemed to be “at-the-market” under the ATM facility, the broker-dealer will typically conduct pre-offering due diligence substantially similar to that performed by underwriters in firm commitment public offerings. After completing due diligence, the company and the designated broker-dealer will enter into a sales (or equity distribution) agreement, providing the company with the right to instruct the broker-dealer to sell shares on its behalf during the term of the program. The sales agreement is very similar to a standard underwriting agreement for a traditional follow-on public equity offering, with standard representations, warranties and covenants of the company and conditions to the obligations of the broker-dealer, including the delivery of legal opinions and audit comfort letters, and indemnification provisions.
Upon execution, the sales agreement is filed with the Securities and Exchange Commission (SEC) as a material agreement, together with any press release to be issued by the company, under cover of a current report on Form 8-K (or Form 6-K for a foreign private issuer). The company also files with the SEC a prospectus supplement to the base prospectus included in the registration statement that describes the general terms of the ATM program, including the plan of distribution and the maximum amount of shares to be sold, and names the designated broker-dealer sales agent as required by SEC guidance.
After all the required documentation has been executed, filed and delivered, when the company desires to access the equity market, it will deliver a notice to the broker-dealer instructing the broker-dealer to sell shares in accordance with the parameters set forth in the notice, including the number, or the gross dollar proceeds, of shares to be sold by the broker-dealer, the sales period during which sales are to be made, the minimum price per share, and any volume restrictions the company wishes to impose.
Upon receipt of the notice, the broker-dealer will commence selling the shares, often through ECNs or on the stock exchange on which the stock is listed, utilizing the company’s existing market liquidity. The broker-dealer will sell shares throughout the day, in volumes usually averaging less than 25 percent of the company’s average daily trading volume, in order to avoid putting downward pressure on the share price. Sales are often made in ordinary brokered transactions, with no special selling efforts. ATMs generally will not permit a company to execute sales under the program during “blackout periods” imposed by the company’s insider trading policies, which can vary widely from company to company. At other times, a company may be in possession of material non-public information, which also would preclude it from selling its securities through an ATM program.
The company must disclose aggregate sales and commission amounts paid under the ATM facility on at least a quarterly basis in a prospectus supplement filed under Rule 424(b) under the Securities Act or, if permitted by the ATM sales agreement, in the company’s quarterly report on Form 10-Q or annual report on Form 10-K (as applicable). In some cases, such as with a block trade, the volume or terms of particular sales may be individually material and therefore require prompt disclosure following such sales.
While the ATM program is in effect, the broker-dealer will require periodic “bring downs” of its business and legal due diligence, including bring-down legal opinions, negative assurances letters and comfort letters, usually on a quarterly (but at least on an annual) basis or upon the occurrence of a material change in the company’s business or financial condition. A company can terminate an ATM facility at any time, without any termination fees or penalties.
Compliance with Securities Exchange Rules and Other Issues with Respect to ATM Facilities
The company and its counsel will need to ensure that the ATM facility is in compliance with the rules and regulations of the U.S. securities exchange (and, for dual-listed companies, any foreign exchanges)3 on which the company’s securities are listed, and the company will need to file the required notification or additional listing application to have the shares issued in connection with the ATM facility listed on the exchange.4
As a general matter, ATM programs (provided the bulk of the sales are conducted on an “agented” basis and “at-the-market”) are considered “public offerings” under NASDAQ rules and, therefore, a NASDAQ company can sell in excess of 20 percent of its outstanding capital stock or voting power in an ATM offering without stockholder approval. It is also possible to sell in excess of 20 percent of an issuer’s outstanding shares in an ATM offering without stockholder approval under NYSE or NYSE MKT rules, although guidance from NYSE and NYSE MKT in this area is limited.5
In addition, each ATM transaction must be analyzed carefully at the outset to determine whether it constitutes a “distribution” for purposes of Regulation M, which governs the activities of underwriters, issuers, selling security holders, and others in connection with offerings of securities. If the ATM transaction is a “distribution,” the ATM broker-dealer’s ability to publish research reports and engage in market-making activities during the term of the ATM facility may be significantly limited and other restrictions under Regulation M would apply.6 Moreover, the broker-dealer must not engage in any stabilization activity in the company’s common stock during the full term of the ATM program. Many ATM agreements expressly prohibit the broker-dealer from engaging in any market making, bidding, stabilization or other trading activity with regard to the company’s stock (including short sales) if such activity would be prohibited under Regulation M or other anti-manipulation rules under the Exchange Act. Further, the Financial Industry Regulatory Authority, Inc. (FINRA) must review and approve the underwriting compensation and other arrangements in certain registered offerings, including offerings under an ATM facility. Sales of securities pursuant to an offering that is required to be filed with FINRA under FINRA Rule 5110 may proceed only after FINRA has issued a “no objections” letter relating to the underwriting terms and other arrangements.7 In an ATM transaction, FINRA’s “same day clearance” option can be used to obtain the “no objections” letter within 24 hours of the FINRA filing, so that sales under the ATM may occur promptly after the program is established. Even if a FINRA filing is not required in an ATM transaction, the substantive requirements of FINRA Rule 5110 would still apply. Accordingly, a FINRA member would be precluded from participating in an ATM if the compensation arrangements do not comply with the substantive requirements of the rule, whether or not a FINRA filing is required.
Equity lines can be structured either as a registered public offering by the company, in which the company sells shares to an investor through takedowns off a shelf registration statement, or as a private placement of shares by the company to the investor with a subsequent registered public resale of the shares by the investor. In either case, the equity line is structured such that all shares purchased by the investor through the equity line may be publicly resold into the market without restriction.
Like ATM facilities, equity lines provide issuers with a relatively fast and flexible means of raising equity capital. The all-in cost of capital tends to be slightly higher for most equity lines than for ATM facilities, but equity lines can offer some advantages compared to ATM facilities and other equity financing options. Equity lines are “firm commitments” by the investor to purchase the company’s common stock, unlike ATM offerings, which are usually conducted only on a “commercially reasonable efforts” agency basis. In a typical ATM facility, the selling broker-dealer agent is not obligated to purchase any stock for its own account as principal and there are no assurances that any shares will be sold in the market in accordance with the pricing terms set by the company. In addition, the “market-outs” in equity line agreements are substantially narrower than those in other types of equity financings, such as follow-on underwritten offerings, registered direct offerings and ATM facilities. Further, with equity lines there are no automatic quarterly and annual management certification requirements or “bring down” legal opinions or audit comfort letters typically associated with ATM facilities, which can add ongoing maintenance costs.
More than 1,100 equity lines with an aggregate total commitment in excess of $20 billion have been implemented since 2001, and over 125 equity lines exceeding $1.9 billion in aggregate total commitment were implemented in 2011. Equity lines have been established for companies with market capitalizations ranging from less than $25 million to in excess of $1 billion in a wide variety of industries (including biotech and life sciences, energy and utilities, natural resources, REITs and technology).
Equity Line Pricing Terms and Mechanics
The aggregate dollar amount of the investor’s total commitment, the specific amounts the company may draw down at any particular time, the number of draw downs the company may make over the term of the facility (typically ranging between 18 and 36 months), the specific pricing mechanics and (if applicable) discount ranges, the conditions that must be satisfied, the termination provisions and the other terms of the equity line are all negotiated between the company and the investor and set forth in a written equity line agreement executed at the commencement of the transaction. The terms of the equity line are typically based upon the company’s current market capitalization and liquidity. These terms vary widely among equity line products.
Once an equity line facility is in place, the company has the right, but not the obligation, to cause the investor to purchase common stock by submitting to the investor a standard draw down or put notice, specifying the dollar amount or number of shares the company desires to sell and other pricing-related information. Most equity line products utilize a “forward-looking” pricing period to determine the actual purchase price the investor will pay for the shares, consisting of a certain number of trading days following delivery of the draw down notice, typically ranging from five to 10 trading days, but sometimes as long as 12 or 15 trading days.8 Some equity lines utilize a “backward-looking” or historical pricing period, consisting of a certain number of trading days preceding delivery of the draw down notice, which would enable the company to fix the price of the shares at the time the draw down notice is delivered to the investor.9 Moreover, certain equity line products provide for an up-front “commitment fee” usually payable in shares of common stock, typically ranging between one and five percent of the investor’s total commitment.
Compliance with Securities Exchange Rules and Other Issues with Respect to Equity Lines
As in the case of an ATM offering, the company and its counsel will need to ensure that the terms of the equity line comply with the rules and regulations of each U.S. (and if the company is dual-listed, foreign) securities exchange on which the company’s securities are listed.10
Unlike an ATM, however, U.S. national securities exchanges, including NASDAQ, treat both “public” and “private” equity lines as private offerings subject to stockholder approval requirements. Accordingly, unless the equity line is “at market” under the listing maintenance rules of the applicable securities exchange, a company will be precluded from issuing more than 20 percent of its outstanding common stock or voting power through an equity line without prior stockholder approval.11 Because the precise number of securities issuable under an equity line cannot be calculated at signing due to the future-based pricing formulae, to comply with these stockholder approval rules, most equity line purchase agreements provide that the investor’s total commitment under the equity line is subject to the limitation that no more than 19.99 percent of the company’s outstanding common stock or voting power, measured at the time of execution of the equity line agreement, may be issued through the equity line without stockholder approval.
Because the private investor in an equity line is purchasing the shares as principal, equity line agreements also typically include a beneficial ownership limitation providing that the investor is not required to make any purchase under the equity line if it would cause the investor’s beneficial ownership of the company’s outstanding common stock to exceed 9.9 percent at any time. This restriction is utilized to prevent the investor from having to file reports under Section 16(a) of the Exchange Act, and becoming subject to the “short swing profit” disgorgement rules under Section 16(b) of the Exchange Act, which would significantly restrict the investor’s ability to trade the equity line shares. In addition, some investors may impose a beneficial ownership limitation of 4.9 percent to avoid the potential obligation to file beneficial ownership reports under Section 13(d) or 13(g) of the Exchange Act.
Similar to the SEC’s position with respect to ATM sales agents, the SEC takes the position that private investors in equity lines are statutory underwriters for purposes of the Securities Act. Accordingly, the investor is subject to underwriter’s liability in connection with the resale of equity line shares. As a result, in an equity line transaction, the investor and its counsel will typically conduct pre-offering due diligence substantially similar to that performed by an underwriter in a firm commitment public offering (and a registered broker-dealer acting as a sales agent in an ATM offering).
As with an ATM program, the parties to an equity line must comply with Regulation M to the extent applicable. In that regard, most equity line agreements expressly prohibit the investor from engaging in short sales (and many equity lines further prohibit the investor from engaging in hedging and price stabilizing activities) during the term of the facility.
Public Equity Lines
A public equity line is a registered public offering by the company, in which draw downs are executed by the company through takedowns off a shelf registration statement. In many ways, it is structured as hybrid of an ATM and a registered direct offering. Similar to an ATM, a public equity line may be employed by U.S. public companies eligible to register the offer and sale of securities on a Form S-3 shelf registration statement, or by “foreign private issuers” with common equity listed on a U.S. securities exchange eligible to use Form F-3, in each case pursuant to Rule 415(a)(4) under the Securities Act.12
The due diligence, document preparation and SEC registration process involved in implementing a public equity line are substantially similar to those involved in establishing an ATM program. Similar to an ATM program, the company must disclose the amount of securities sold, the purchase price and the net proceeds to the company on at least a quarterly basis in either a prospectus supplement filed under Rule 424(b) under the Securities Act or, if permitted by the equity line agreement, in the company’s quarterly report on Form 10-Q or annual report on Form 10-K (as applicable).13
Unlike “private” equity lines discussed below, with a public equity line there are no prohibitions regarding re-negotiation of terms, amendments, waivers and the ability of the investor to make investment decisions from time to time. Accordingly, public equity line products can be structured to be extremely flexible and may provide that the parties may, upon mutual agreement, modify the pricing terms in the equity line agreement or in a particular draw down notice, including shortening the pricing periods, changing the threshold prices or modifying the size of permissible draw downs, as desired from time-to-time, even during a pricing period. Further, certain public equity line products may provide that in addition to the mandatory draw down amount the company desires to sell to the investor at a given time, the company may designate an additional dollar amount worth of shares that may be purchased at the investor’s option.
Although equity line investors are typically not FINRA members or registered broker-dealers subject to FINRA rules, the filing requirements under FINRA Rule 5110 discussed above with respect to ATM offerings also apply to public equity lines if a FINRA member is participating in the transaction (e.g., as a placement agent or “finder”). If no FINRA filing exemption is available, FINRA members will be precluded from receiving any compensation in the public equity line unless the appropriate filing is made and FINRA has delivered a “no-objections” letter relating to the compensation. Even if a FINRA filing is not required in a public equity line, the substantive requirements of FINRA Rule 5110 would still apply to any FINRA member participating in the transaction. Accordingly, a FINRA member would be precluded from receiving any compensation in the public equity line to the extent such compensation does not comply with the substantive requirements of the rule, whether or not a FINRA filing is required to be made. Note that unlike an ATM offering, FINRA has specifically stated that FINRA’s “same day clearance” option may not be used in an equity line transaction.
Private Equity Lines
A private equity line is a private placement of shares by the company to the investor with a subsequent registered public resale of the shares by the investor. It is structured very much like a PIPE, except with delayed draw downs, rather than a one-time sale. After execution of transaction documentation for a private equity line, the company files a “resale” registration statement with the SEC covering the resale of shares of common stock that may be issued to the investor under the equity line facility. After the resale registration statement is declared effective by the SEC, the company can then start exercising draw downs under the equity line.
SEC guidance states that the delayed nature of the draw downs and the lack of market risk resulting from the pricing formulae of private equity lines differentiate private equity lines from PIPEs. Accordingly, the SEC analyzes private equity lines as “indirect primary” offerings. Nevertheless, the SEC will permit companies to register the public “resale” of the equity line shares by the investor before any draw downs are exercised if the transaction meets the following conditions: (i) the company must have “completed” the private placement of all of the securities it is registering for resale before the filing of the resale registration statement; (ii) the resale registration statement must be on a form that the company is eligible to use for a primary offering; and (iii) in the prospectus, the investor must be named as an underwriter and a selling stockholder.
For the private placement to be considered “complete,” the investor must be irrevocably bound to purchase all of the equity line shares. This means that only the company can have the right to exercise a draw down and, except for conditions outside of the investor’s control, the investor must be irrevocably bound to purchase the securities once the company exercises the draw down.
A private equity line purchase agreement must be drafted carefully to ensure compliance with SEC guidance in this area. The investor cannot have the ability to make any investment decisions after the filing of the resale registration statement for a private equity line. Examples of structures that may provide the investor with an investment decision include a due diligence “out,” the right to acquire additional securities through conversion or exercise of derivative securities (such as warrants or convertible preferred stock), the right to determine when or at what price the securities underlying a draw down may be purchased, and termination provisions that have the effect of causing the investor to no longer be irrevocably bound to purchase the draw down securities. Accordingly, unlike a public equity line, a private equity line cannot permit any amendment or waiver of any terms or conditions of the equity line after the resale registration statement is filed with the SEC.14
Because the SEC views private equity lines as “indirect primary” offerings, a company may use Form S-3 or Form F-3 to register the resale of the equity line shares only if the company is eligible to use such forms on a “primary” basis. Accordingly, a company with common stock on a U.S. national securities exchange and a public float of less than $75 million may not register for resale equity line shares in excess of one-third of its public float on a Form S-3 or Form F-3 over a period of 12 months. The one-third cap is measured as of the execution of the private equity line agreement and applies to both the investor’s maximum dollar commitment under the private equity line facility and the maximum number of securities issuable under the equity line.15
One advantage offered by private equity line facilities over public equity lines and ATM’s is that private equity lines may be utilized by U.S. public companies with common stock listed on a U.S. national securities exchange or the OTC Bulletin Board that are not Form S-3 or Form F-3 eligible (or that have temporarily lost Form S-3 or Form F-3 eligibility), but that qualify to use Form S-1 on a primary basis.16 In addition, the option of filing on Form S-1 means that private equity lines may appeal to companies that are subject to the one-third public float limitations of Form S-3 or Form F-3, but that require substantially more equity financing, because the maximum dollar commitment in the private equity line agreement is not required to be limited to one-third of the company’s public float. However, the number of shares covered under any single Form S-1 resale registration statement must be limited to no more than one-third of the number of the company’s public float shares determined as of the date the Form S-1 is filed with the SEC. Accordingly, if a private equity line agreement provides for a maximum dollar commitment in excess of one-third of the dollar value of the company’s public float, the company may use successive Form S-1 resale registration statements to register the private equity line shares. The SEC will permit the company to register another tranche of shares for resale by the investor upon the later of (i) 60 days after the investor has resold substantially all of the shares that were previously registered and (ii) six months after the effective date of the prior registration statement.
Offerings exempt from SEC registration pursuant to provisions of Sections 4(a)(1), 4(a)(2) or 4(a)(6) of the Securities Act, or pursuant to Rule 504 (if the securities are “restricted securities” under Rule 144(a)(3)), 505 or 506 of Regulation D under the Securities Act are exempt from both the filing and substantive requirements of FINRA Rule 5110. Accordingly, since the issuance of securities to the investor in most private equity lines is typically effected pursuant to Section 4(a)(2) of, and Rule 506 under, the Securities Act, a FINRA Rule 5110 filing typically is not required to be made upon execution of private equity line transaction documents, even if a FINRA member acted as placement agent or finder.17
1Eligible foreign private issuers may use Form F-3; Canadian foreign private issuers with dual listing of equity securities on the TSX and a U.S. securities exchange may use Form F-10 under MJDS; and closed-end investment companies with equity securities listed on a U.S. securities exchange may use Form N-2.
2 If the company is a “well-known seasoned issuer” (WKSI), the company can file an automatic shelf registration statement on Form S-3ASR immediately prior to signing an ATM sales agreement, which would become effective upon filing, and can pay the applicable registration fee at the time the prospectus supplement relating to the ATM is filed with the SEC. Under the General Instructions to Form S-3 and Form F-3, a company with common stock listed on a U.S. national securities exchange and a public float of less than $75 million may not sell more than one-third of its public float under a Form S-3 or Form F-3 over a period of 12 months, including the ATM sales and any other shelf takedowns. SEC interpretive guidance indicates that if a company is subject to the one-third public float limitation at the time the ATM agreement is executed, the total amount of securities issuable under the ATM facility may represent no more than one-third of the company’s public float at the time the ATM agreement is executed. Note that if, at the time the ATM is implemented, the company’s public float exceeded $75 million, but later dropped below $75 million, the one-third public float volume restrictions would apply to subsequent primary sales made after the Form S-3 registration statement is amended in accordance with Section 10(a)(3) of the Securities Act (which typically occurs by the company filing its Form 10-K) and would continue for as long as the company’s public float was less than $75 million.
3 The requirements of foreign exchanges are beyond the scope of this article. Foreign exchanges have certain notification requirements, share amount limitations and, in certain cases, pricing restrictions, all of which must be considered in connection with the implementation of an ATM program in the United States.
4 NASDAQ requires 15-day advance notice for transactions that may result in the issuance of more than 10 percent of a company’s outstanding common stock or voting power. The NYSE also requires a supplemental listing application to be filed with it for certain transactions that may result in the issuance of common stock.
5 Each of NASDAQ, the NYSE and the NYSE MKT generally requires stockholder approval for a private placement completed at a discount to the greater of book value or market price of an issuer’s common stock if the offering may result in the issuance of 20 percent or more of the issuer’s outstanding capital stock or voting power prior to issuance. In general, NASDAQ and NYSE MKT provide that stockholder approval is not required for a “public offering”. The NYSE has an exception for any “public offering for cash”. However, the mere fact that securities are registered on a registration statement filed with the SEC does not necessarily make the offering “public” for purposes of these stock exchange requirements. Registration is just one factor to consider, because the fact that an offering is registered does not assure that the offered securities will be broadly marketed or widely distributed.
6 A “distribution” is defined under Regulation M as an offering of securities that is distinguished from ordinary trading transactions both by the magnitude of the offering and by the presence of “special selling efforts and selling methods”.
7 A FINRA Rule 5110 filing exemption is available if the company has been subject to the reporting requirements of Section 12 or 15(d) of the Securities Exchange Act of 1934, as amended (Exchange Act), for at least 36 calendar months, is current in its Exchange Act reporting obligations, and has registered the offering with the SEC on Form S-3 (or Form F-3) and either (i) the company’s public float is at least $150 million for companies using Form S-3 ($300 million for companies using Form F-3) or, alternatively (ii) the company’s public float is between $100 million and $150 million and the company’s common stock has had an annual trading volume of at least three million shares. A FINRA filing exemption is also available for offerings of securities by foreign private issuers organized under the laws of Canada or any Canadian province or territory registered on Form F-10 (pursuant to the standards of that Form approved in the MJDS adopting release dated June 21, 1991) and offered pursuant to Canadian shelf prospectus offering procedures. There is no similar FINRA filing exemption for Form N-2 filings by closed-end investment companies. Although guidance from FINRA as to the appropriate “determination date” for determining whether the filing exemption applies is scant, most broker-dealers are of the view that for the filing exemption to apply, the company must satisfy these requirements both at the time of filing of the Form S-3 and at the time of execution of the ATM sales agreement and the filing of the related prospectus supplement.
8 For example, many equity lines provide that the purchase price is based on a simple discount to the forward-looking daily volume weighted average price (VWAP) of the company’s common stock for each trading day during the forward-looking pricing period on which the VWAP exceeds the designated threshold price. If the daily VWAP of the company’s common stock falls below the threshold price on any trading day during a pricing period, the investor would not be required to purchase the pro-rata portion of the requested draw down amount worth of shares allocated to that day. Market discounts typically range from 3 to 15 percent, though market discounts vary widely among equity line products. Certain equity line products may provide that the purchase price is based on a discount to the average of the lowest VWAPs or closing prices of the company’s stock over only a portion of the forward-looking pricing period, for example, the three lowest VWAPs or closing prices over a 10-, 12- or 15-trading day forward-looking pricing period, or perhaps even the lowest VWAP or closing price on any trading day during the pricing periods.
9 For instance, some equity lines provide that the actual price at which the investor purchases the shares is based on the lower of (i) the average of the lowest closing prices of the company’s stock over a certain number of trading days (e.g., three trading days) during the 10-, 12- or 15-days preceding the date of delivery of the draw down notice and (ii) the lowest trade price on the date of delivery of the draw down notice.
10 The company will need to comply with the same prior notification and, if applicable, additional listing application rules of U.S. and foreign securities exchanges applicable to an ATM offering.
11 To be considered “at market” under applicable NASDAQ listing maintenance rules, the average purchase price (taking into account any market discount) for all shares issued under the equity line must exceed the greater of book or market value of the common stock (measured at the time the equity line agreement is executed -- not at the time of any particular draw down). “Market value” for NASDAQ purposes is the last consolidated closing bid price of the company’s common stock immediately prior to execution of the equity line agreement. It is unclear whether the NYSE or the NYSE MKT would apply the same analysis as NASDAQ in determining whether an equity line is “at market.”
12 The SEC treats public equity lines as “at-the-market” equity offerings subject to Rule 415(a)(4) under the Securities Act. Like ATMs, a public equity line may also be used by (i) certain closed-end management investment companies registered under the Investment Company Act of 1940 that meet the reporting requirements of Form S-3 (and whose securities are “qualified to be registered” on Form S-3), but are required to use Form N-2 to register their securities, and (ii) Canadian issuers listed on the TSX and a U.S. securities exchange who are eligible to use Form F-10 under the MJDS. Moreover, a company with a public float of less than $75 million would be subject to the same restrictions on sales of shares that apply to ATM programs described in Note 2 above.
13 As with an ATM, in some cases, the volume or terms of sales may be individually material and therefore require prompt disclosure following such sales.
14 If the investor is permitted to transfer its obligations under a private equity line, the investor may not be deemed irrevocably bound under the equity line and, therefore, the transaction may not be considered complete. Accordingly, any provision in the equity line documents that suggests that obligations of the investor under the equity line documents can be assigned to any third party, other than an affiliate of the investor, is problematic. Conditions to settlement of any draw down such as “bring downs” of customary representations and warranties and customary clauses regarding no material adverse changes will not be deemed to be conditions within the investor’s control that would prevent the private transaction from being completed. However, the investor must not be able to delay the company’s ability to deliver a draw down notice by requiring the company to comply with any certification requirements or due diligence obligations.
15 SEC guidance states that because the sale of all of the securities to the investor is deemed to occur when the company and the investor execute the private equity line agreement, the company and the investor need to determine at that time whether the maximum number of securities issuable under the equity line complies with the one-third cap.
16 Companies cannot conduct ATMs and public equity lines on Form S-1, because Form S-1 may not be used by companies to engage in primary securities offerings on a “delayed” basis or “at-the-market” under Rule 415 under the Securities Act.
17 Note, however, that FINRA members do have certain FINRA notification requirements in connection with private placements of securities. FINRA has advised that under certain circumstances, if a FINRA member is participating in the registered resale of privately placed equity line shares, the FINRA member firm should assess whether it has a FINRA Rule 5110 filing requirement at the time of its participation.