Alert January 31, 2012

FINRA Files Partial Amendment No. 1 to Proposed Rule 5123 Governing Private Placements of Securities by Member Firms

FINRA filed with the SEC an amendment (“Partial Amendment No. 1”) and letter in response to comments received regarding proposed FINRA Rule 5123 (Private Placements of Securities), which was filed with the SEC on October 5, 2011 (see “FINRA Proposes New Rule 5123 Governing Private Placements of Securities by Member Firms” in the October 18, 2011 Financial Services Alert).  Rule 5123 creates a separate rule for private placements other than member private offerings, which are governed by FINRA Rule 5122 (Member Private Offerings), and imposes disclosure and filing requirements similar to, but less restrictive than, those applicable to member private offerings.  Comments received on FINRA’s October 2011 filing included comments concerning the definition of “private placement” and opposing the requirement that members provide disclosure documents to each investor in a private placement.  Partial Amendment No. 1 reflects revisions made by FINRA in response to those comments.

Proposed Rule Change

The major revisions Partial Amendment No. 1 makes to Rule 5123 include the following:

  • “Private Placement.”  The term “private placement” in Rule 5123 would be clarified to mean a non-public offering of securities conducted in reliance on an available exemption from registration under the Securities Act of 1933, as amended (the “Securities Act”).  The definition as amended would be consistent with the definition of “private placement” in Rule 5122.  In its response to comments, FINRA stated that the term “private placement” would not apply to securities offered pursuant to:
    • Securities Act Sections 4(1), 4(3) and 4(4) (which generally exempt secondary transactions);
    • Securities Act Sections 3(a)(2) (offerings by banks), 3(a)(9) (exchange transactions with an existing holder, where no one is paid to solicit the exchange), 3(a)(10) (securities subject to a fairness hearing), or 3(a)(12) (securities issued by a bank or bank holding company pursuant to reorganization or similar transactions); or
    • Section 1145 of the Bankruptcy Code (securities issued in a court-approved reorganization plan that are not otherwise entitled to the exemption from registration afforded by Securities Act Section 3(a)(10)).
  • Disclosure.  Rule 5123’s disclosure requirements would apply only to private placements in which a disclosure document drafted by or on behalf of the issuer is used.
  • Filing.  The requirement that every participating member file the disclosure document would be replaced by a requirement that a disclosure document be filed by either the participating member or by a member designated to make the filing on behalf of members identified in the filing.
  • Notice Filing.  In private placements in which no disclosure document is used, the member making the filing would make a notice filing identifying the private placement and that no disclosure document was used.
  • Exemptions.  Partial Amendment No. 1 would add or clarify the following exemptions from the Rule 5123:
    • sales to knowledgeable employees (as defined in Investment Company Act Rule 3c-5);
    • sales to eligible contract participants (as defined in Section 3(a)(65) of the Securities Exchange Act of 1933, as amended);
    • sales to accredited investors described in Securities Act Rule 501(a)(1), (2), (3) or (7) (these are categories of entities, not individuals);
    • sales of short-term debt securities offered by members pursuant to Section (4)(2) of the Securities Act so long as the maturity does not exceed 397 days and the securities are issued in minimum denominations of $150,000 (or the equivalent thereof in another currency);
    • business combination transactions as defined in Securities Act Rule 165(f);
    • offerings of registered investment companies;
    • standardized options (as defined in Securities Act Rule 238); and
    • offerings exempt, in accordance with Rule 5110(b)(7), from filing with FINRA under Rules 2310, 5110, 5121 and 5122 (added to the exemption for offerings filed under one of these rules).

Request for Comments

Due to issues raised by FINRA’s proposed rule change, the SEC has determined to institute proceedings pursuant to Section 19(b)(2) of the Exchange Act to determine whether to approve or disapprove the proposed rule change.  The SEC has requested that comments on the proposed rule, as modified by Partial Amendment No. 1, including comments regarding whether the proposed rule change should be approved or disapproved, be submitted to the SEC by February 27, 2012.  Rebuttal comments by any person, with respect to the comments of any other person, should be submitted by March 12, 2012.