Sullivan & Cromwell LLP
125 Broad Street
New York, New York 10004-2498
212-558-4000
February 26, 2003
Via E-mail: rule-comments@sec.gov
Mr. Jonathan G. Katz,
Secretary,
Securities and Exchange Commission,
450 Fifth Street, N.W.,
Washington, D.C. 20549-0609.
Re: Proposed Amendments to Rule 10b-18 and New Disclosure Requirements Regarding Issuer Purchases (File No. S7-50-02)
Dear Mr. Katz:
We are pleased to submit this letter in response to the SEC's request for comments on its proposal to amend Rule 10b-18 and to require issuers to disclose their equity purchases. The proposal is set forth in Release No. 34-46980 (the "Proposing Release").
We support the SEC's initiative to update and revise Rule 10b-18 to reflect significant changes in securities trading and securities markets since the Rule's adoption in 1982. Revision is particularly important in light of the globalization of the markets over the last 20 years. As the SEC notes in the Proposing Release, there are many legitimate business reasons why issuers purchase their securities, and for those reasons, including the need to fund employee stock ownership and stock option plans without dilution and to return capital to shareholders in a tax-efficient manner, it has become increasingly important for issuers to be able to access the markets for their shares on a regular basis. In addition, issuer purchases can be a key provider of liquidity in times of market stress or order imbalances.
Consequently, we think that the underlying premise of Rule 10b-18 should be that issuer purchases are beneficial for companies, shareholders and investors generally and should be permitted to continue freely at all times subject only to compliance with the conditions of the Rule, unless there is persuasive evidence that these purchases cause substantial harm to investors under particular circumstances. Only in those limited circumstances as to which the evidence of harm is clear should issuers be constrained in their ability to access the market more than they already are by the limitations set forth in the Rule. We think this fundamental approach to regulating issuer purchases is especially apt in light of the SEC's proposal to require quarterly disclosure of those purchases. Enhanced disclosure should reduce the risk of harm to investors even further, which makes the argument for ensuring that issuers can have regular access to the markets for their shares even more compelling.
In our comments below, we address four aspects of the proposed rulemaking that we think raise the most significant concerns. These include the proposals (1) to limit the availability of the Rule 10b-18 safe harbor by expanding the merger exclusion, (2) to eliminate the block exception from the volume limitation and (3) to require issuers to disclose potential future purchases under their announced purchase plans or programs (as opposed to purchases completed in the prior quarter). We also think it is time (4) to make the Rule 10b-18 safe harbor available for issuer purchases in foreign markets. Following our discussion of these four key issues, we comment on several aspects of the proposed rulemaking that raise issues having a more technical or limited scope.
I. Limiting the Rule 10b-18 Safe Harbor by Expanding the Merger Exclusion
The proposed change in the merger exclusion would drastically expand the scope of the exclusion, substantially restricting the availability of the Rule 10b-18 safe harbor and keeping issuers out of the market far longer than necessary.
In its current form, Rule 10b-18 excludes from the definition of a "Rule 10b-18 purchase" a purchase "pursuant to a merger, acquisition, or similar transaction involving a recapitalization". The effect of this exclusion is to preclude an issuer from relying on the safe harbor when making purchases of the kind described in the exclusion. According to the Proposing Release, this exclusion would be modified to "make it clear" that the exclusion extends to purchases "[e]ffected during the period from the time of public announcement of the merger, acquisition, or similar transaction involving a recapitalization, until the completion of such transaction". This change, however, is far more than a mere "clarification". It would drastically expand the scope of the exclusion, making the safe harbor unavailable for what could be very long periods when the risk of manipulation is low and when issuers have traditionally conducted stock purchase programs in the ordinary course.
As noted above, the merger exclusion currently applies only to purchases made "pursuant to" a merger or other covered transaction. Consistent with the long history of the Rule and its proposed predecessors, we have always understood this language to refer to purchases made in, or as a part of, the covered transaction and, accordingly, to mean that purchases outside the covered transaction could be made in reliance on Rule 10b-18. This has long enabled issuers to continue conducting Rule 10b-18 purchase programs in the ordinary course while a covered transaction is pending (subject to Regulation M as noted below).
If the proposed change is adopted, however, the merger exclusion would extend far beyond purchases made in the covered transaction and would apply to all issuer purchases made during the pendency of the transaction, however long that may be. This would be a very significant expansion of the merger exclusion and, because issuers are unlikely to continue their purchase programs when the safe harbor is unavailable, would likely result in very significant disruption of those programs.
As proposed to be expanded, the merger exclusion would discriminate against issuers engaged in pending M&A transactions, a result that directly contradicts the original purpose of the exclusion.
Adopting this proposal would mark a 180-degree change in the SEC's philosophical approach to regulating issuer purchases during the pendency of a business combination. When the SEC proposed to regulate issuer purchases in the early 1980's, its proposal triggered considerable public comment and concern about the need to ensure that any new regulation in this area did not interfere with the markets for mergers, acquisitions and similar transactions or with the extensive regulatory regime - including Regulations 14D and 14E and Rules 13e-1, 3 and 4 under the Securities Exchange Act of 1934 - that already governed (and continue to govern) those markets.
When it adopted Rule 10b-18 in 1982, the SEC, in response to these concerns, also adopted the merger exclusion specifically to make clear that the new regulation of issuer purchases did not apply to mergers and similar transactions. Purchases "pursuant to" those transactions were specifically excluded from the definition of a "Rule 10b-18 purchase". The merger exclusion was adopted to make it clear that those transactions did not need to comply with the volume, price and other conditions of the Rule in order to be lawful. A critical purpose of the merger exclusion was to confirm the boundary between two different regulatory regimes, the existing one governing mergers and similar transactions and the (then) new one governing issuer purchases.1
The original purpose of the merger exclusion, in short, was to insure that regulation of issuer purchases did not interfere with the market for mergers and similar transactions or the existing regulation of those markets. The current proposal to expand the merger exclusion would turn this basic principle on its head. By making the safe harbor unavailable throughout the pendency of an M&A transaction, the SEC would effectively ensure that issuers engaged in such transactions cannot purchase their stock while so engaged. What was originally intended to ensure that the regulation of issuer purchases did not interfere with the M&A markets and the existing regulation of those markets would now ensure the opposite: that regulation of issuer purchases would focus more intensely on the M&A markets than on any other by effectively prohibiting all issuer purchases during the pendency of an M&A transaction.
We urge the SEC to reconsider the current proposal to expand the merger exclusion in light of the history of Rule 10b-18 and to retain the merger exclusion without change. The original purpose of the exclusion remains as valid today as it was in 1982.
The proposed change in the merger exclusion would be inconsistent with Regulation M.
The proposed merger exclusion would be far broader in scope than the companion exclusion for purchases effected during a Regulation M restricted period (see paragraph (a)(13)(i) of the proposed rule). The Regulation M exclusion - like the Regulation M restricted period - applies to issuer purchases only during the pendency of a merger or similar transaction that involves a Regulation M distribution of securities, such as a stock-for-stock merger. In contrast, the proposed merger exclusion would apply to issuer purchases during any covered transaction, including an all-cash deal. In addition, as we discuss further below, the Regulation M exclusion applies only to purchases of the stock being distributed, not of the stock being acquired, in a covered transaction involving a distribution. The proposed merger exclusion, in contrast, would apply to purchases of both the stock being distributed and the stock being acquired.
More significantly, the proposed merger exclusion would apply to a period that is far longer than the period to which the Regulation M exclusion applies. In the context of a covered transaction involving a Regulation M distribution, the Regulation M exclusion applies from the time when the proxy or other solicitation materials are disseminated to the time when the shareholder vote is completed. It resumes during any subsequent valuation period.2 The proposed merger exclusion, in contrast, would apply from the public announcement of the covered transaction until the transaction is completed. This period would include potentially very long periods of time both before and after any solicitation or valuation period; indeed, it would apply even if there were no solicitation or valuation period at all.
For purposes of Regulation M, the SEC has concluded that the risk of manipulation by an issuer is greatest during the proxy or other solicitation period (when shareholders make their investment decisions regarding the transaction) and any valuation period (when the value of the transaction is fixed by reference to market prices), and that any risk of manipulation that may exist at other times, whether earlier or later, during the pendency of the transaction is simply not sufficient to justify keeping the issuer out of the market. This balanced approach is especially appropriate - indeed, it is critical to issuers - in light of the fact that the total period during which a merger or other covered transaction can be pending, from announcement all the way to closing, can be very long. Depending on the conditions to completing the transaction - particularly the need to obtain regulatory approvals - this period can often run for six months or longer.
Consequently, insofar as Regulation M is concerned, the SEC has wisely recognized that it would be unnecessarily disruptive to impose a restricted period during the entire time when a covered transaction involving a distribution is pending. Given the similarity of the policy goals underlying Regulation M and Rule 10b-18 - i.e., to reduce the potential for manipulation of the trading market for a security by the issuer and others acting with it - we do not understand why the scope of the merger exclusion should be so much broader than that of the Regulation M exclusion. If it is not necessary to extend the restricted period beyond the solicitation (and any valuation) period relating to a covered transaction under Regulation M, why should it be necessary to extend the merger exclusion beyond this period in a covered transaction under Rule 10b-18?
We think there are good reasons why the merger exclusion should not apply before the start of any solicitation period. The risk of manipulation is substantially lower during this preliminary period - from announcement to commencement of the offer - than during an actual solicitation period. The solicitation period remains the critical period, and efforts to manipulate a stock trading market in advance would likely be costly and ineffective unless the issuer could be certain that any manipulative effects would continue during the solicitation period. This is unlikely, particularly if the stock in question is actively traded, as we discuss below. In addition, the announcement of a merger or similar transaction is often followed by a substantial increase in selling activity in the acquiring company's stock, due to short selling by professional arbitrageurs and to concern among investors generally about the potential consequences of the transaction for the acquiring company's stock. This pattern puts substantial downward pressure on the price of the acquiring company's stock, making attempts by the issuer to manipulate the price upward very difficult and unlikely to succeed. Indeed, permitting an issuer to purchase its stock during the pre-solicitation period would likely serve only to mitigate substantial downward selling pressure, not to create upward buying pressure, on the stock and would provide an important source of liquidity for ordinary investors who want to liquidate their investment but might otherwise be unable to do so except in an artificially depressed market.
Moreover, Rule 10b-18 permits an issuer to rely on the safe harbor only if it complies with price, time, volume and manner restrictions. There are no such restrictions on transactions permitted under Regulation M. We think that any risk of manipulation during periods when no solicitation or valuation occurs would be more than adequately addressed by these substantive limits on bids and purchases.
We see no reason why the merger exclusion should apply after the solicitation (and any valuation) period has ended. Once shareholders have made their investment decisions and the pricing and other terms of the transaction have been fixed, an issuer participating in the transaction has no incentive, by reason of that transaction, to manipulate the trading market for its stock.
We think Regulation M has it right: concerns about manipulation are properly confined to the solicitation (and valuation) periods. And if there is no solicitation or valuation period, the merger exclusion should not apply at all.
The proposed change in the merger exclusion ignores the difference between securities that are actively traded and those that are not.
In adopting Regulation M, the SEC recognized that the risk of manipulation is substantially lower when the subject security is "actively traded". Particular purchases of an actively traded security are unlikely to affect the trading market for that security for very long, if at all, because the effects of those purchases are likely to be quickly dissipated by the relatively high level of trading activity in the security generally. The proposed expansion of the merger exclusion in Rule 10b-18 gives no effect to this critical concept, but it should. Even if the risk of manipulation rises during a solicitation or valuation period, the extent of that rise would depend heavily on whether or not the security is actively traded. More importantly, while we think there should be little concern about the risk of manipulation in advance of or after a solicitation or valuation period, we think there should be even less concern at those times if the subject security is actively traded.
For example, whatever effects Rule 10b-18 purchases might have following the announcement of a covered transaction involving actively traded securities, those effects should dissipate quickly once the purchasing stops. Therefore, there would be little purpose served by forcing the issuer of an actively traded security to stop its purchasing activity before the start of a solicitation or valuation period. This is the basic logic underlying Regulation M, and it should not be ignored in the context of Rule 10b-18.
As we discussed earlier, we do not think the merger exclusion should apply at any time other than during a solicitation or valuation period. If the SEC nevertheless determines that the exclusion should begin upon the announcement of a covered transaction, we urge the SEC to draw a distinction in this regard between securities that are "actively traded" within the meaning of Regulation M and those that are not. If the exclusion is to begin upon the announcement, it should do so only with regard to issuer purchases of securities that are not actively traded. Issuer purchases of actively traded securities should receive safe harbor protection at least until a solicitation period begins.
Furthermore, because the risk of manipulation is lower with respect to actively traded securities, we think the Rule 10b-18 safe harbor could be made available for issuer purchases of those securities even during a solicitation period, as long as those purchases ended a reasonable time, e.g., one week, before the shareholder vote or other expiration of the period. Given the reality of investor behavior during solicitation periods - the great majority of proxies and tenders are not submitted until the closing hours of the relevant period - requiring issuers to stay out of the market for the duration of what can be a far longer period serves little purpose.
Acquired companies should be treated differently from acquiring companies.
The proposed exclusion would presumably apply to all parties to a covered transaction, so that both the acquiring and acquired companies would be forced to suspend purchases of their own stock throughout the pendency of the transaction. We think there is no need for the exclusion to apply to acquired companies and that this is further evidence that the original exclusion was never intended to apply in the manner currently proposed. Once a business combination is announced, trading prices of the acquired company's stock are largely determined - indeed, they are effectively capped - by the announced acquisition price. In addition, trading volume in the target stock is largely driven by arbitrage activity and often reaches levels substantially higher than normal for the stock. In these circumstances, the acquired company's ability to manipulate the market price or trading volume of its own stock is significantly constrained by market forces.
As a result, it is difficult to imagine that there exists a risk of manipulation with regard to the stock of an acquired company. The SEC recognized this distinction between the stock of the acquiring company and that of the acquired company when it adopted Regulation M in 1997. During a covered transaction that involves a Regulation M distribution, the restricted period applies only with regard to the stock in distribution - which is normally the stock of the acquiring company - and does not apply to the stock being acquired in the transaction. Consequently, acquired companies have been permitted, at least by Regulation M, to conduct purchase programs in their own stock throughout the pendency of a covered transaction, including during any Regulation M restricted period that might apply with regard to the acquiring company's stock.
For these issuers, we think the proposed change in the merger exclusion would be both unnecessary and disruptive given the low risk of manipulation regarding their stock and the current regulatory landscape. We also note that in these circumstances other rules, such as Rule 14e-5, may apply to transactions in the acquired company stock and further reduce the risk of manipulation for that stock. If the merger exclusion is to be radically revised, therefore, it should apply only with regard to bids and purchases of the stock of the acquiring company that are made by the acquiring company and its affiliated purchasers.3
The concepts of "acquisitions" and "announcements" are too broad and vague.
The proposed merger exclusion also raises two interpretive problems. First, the amended merger exclusion would be triggered by any "acquisition", regardless of its size and whether or not it is likely to have any effect on the market price of the issuer's stock. The open-ended nature of this term has not been an issue in the past because the exclusion has extended only to purchases made "pursuant to" an acquisition. If the exclusion is extended to cover any purchase made after an acquisition is announced and before it is completed, however, the fact that the term "acquisition" potentially includes any transaction - however big or small and regardless of its structure - in which the issuer may acquire property of any kind would have significant consequences for issuer purchase programs. Would "acquisitions" include a purchase of assets or a joint-venture investment for which no shareholder approval is needed? Would it include de minimis transactions?4 In addition, for issuers that make frequent acquisitions, the scope of the exclusion could keep them out of the market so often and for such long periods that they could be effectively precluded from conducting purchase programs at all. The proposed change could have a very disruptive - indeed, discriminatory - impact on those issuers that wish to pursue a business strategy of growth through acquisitions.
Second, the amended merger exclusion would be triggered by an "announcement" of a merger or other covered transaction. What constitutes an announcement for this purpose? How detailed and specific must it be? Is a statement of intention to pursue a possible transaction sufficient? The SEC and its staff have encountered this interpretive thicket in other contexts (e.g., application of Section 5 of the Securities Act of 1933 in M&A transactions) and would need to work through it here as well.
In summary, the merger exclusion should not be extended, but if it is extended, it should apply only during solicitation or valuation periods and only with regard to the stock of acquiring companies.
For the reasons set out above, we urge the SEC not to extend the merger exclusion beyond purchases made "pursuant to" a covered transaction. The exclusion has long been written and applied this way. We are not aware of any evidence to suggest that issuers have abused the Rule 10b-18 safe harbor when covered transactions are pending. In the absence of such evidence, a change in the merger exclusion as drastic as what is now proposed is not justified. Despite the SEC's recognition of the many "legitimate business reasons" for issuers to purchase their stock, the proposal to dramatically expand the merger exclusion is almost certain to cause harm to investors by (1) inhibiting stock purchases and the associated benefits to stockholders, (2) adversely affecting the timing of M&A transactions for acquisitive issuers, (3) artificially distorting the timing of their stock purchases that do take place since the "window" during which the safe harbor is available to them could be quite short and (4) causing further distortion in the market price of an acquiror's stock following announcement of a deal - which in turn could affect consummation of the deal - by effectively prohibiting the issuer from purchasing its stock at a time when arbitrageurs are putting extraordinary and unusual "programmed" short-selling pressure on the stock.
If the SEC decides to extend the merger exclusion, however, we strongly urge the SEC not to extend it more broadly than the current exclusion relating to the Regulation M restricted period, as the latter applies in similar circumstances. In other words, if extended, the merger exclusion:
- should apply only to Rule 10b-18 purchases made during the period beginning when proxy or other solicitation materials relating to the merger, acquisition or similar transaction involving a recapitalization are disseminated to security holders and ending when security holders are no longer entitled to vote or otherwise make an investment decision regarding the transaction (or during any subsequent valuation period, as understood in the context of the Regulation M restricted period); and
- should not apply to an acquired company and its affiliated purchasers with regard to their Rule 10b-18 purchases of the stock of the acquired company.
If security holders are not entitled to vote or make any investment decision and there is no valuation period regarding the covered transaction, the merger exclusion should not apply at all. This point is particularly important in light of the two interpretive problems noted above. Given the broad sweep of the term "acquisition" and the uncertainty about what constitutes an "announcement", it is important that the exclusion, if extended, be triggered only by a solicitation or valuation period.
If the SEC determines that the merger exclusion should be expanded, we urge it to consider making a distinction between securities that are actively traded and those that are not. Most importantly, we do not think the exclusion should apply to actively traded securities at any time before or after a solicitation or valuation period.
II. Eliminating the Block Exception
The block exception has proved to be beneficial to issuers and the market, and in the absence of evidence that it has resulted in manipulation, the block exception should be retained in an updated form.
In its current form, Rule 10b-18 permits an issuer to purchase a block of its stock without regard to the volume limit. We believe that the block exception has served issuers and the market well, and there are several important reasons why it should be retained. First, it enables issuers to provide liquidity for sellers with large positions that might not otherwise be readily absorbed in the trading market. If an issuer were unable to purchase an offered block pursuant to Rule 10b-18 due to the volume limit, the offer of the block could put significant downward pressure on the price of the issuer's stock. When viewed from this perspective, the block exception enables the issuer to relieve or neutralize the downward pressure on the market price of its stock, rather than enabling the issuer to create upward pressure of the kind usually associated with market manipulation. Thus, the block exception enables an issuer to provide needed liquidity in the market in circumstances where the risk of issuer manipulation is relatively low.
Second, for issuers whose stock is thinly traded, the volume limitation will significantly restrict their ability to implement a purchase program within a reasonable period of time or perhaps at all. We understand that small- and mid-cap companies rely heavily on the block exception and would have a difficult time conducting a purchase program without it. In addition, these issuers are likely to represent a more important source of market liquidity than issuers whose stock is actively traded. As a result, block sales are likely to have a more disruptive impact on the trading markets of smaller issuers than on those of larger issuers, which makes the block exception even more important for smaller issuers. Although the SEC has proposed allowing an issuer to purchase up to 500 shares in the aggregate each day regardless of the ADTV for its stock, we believe this minimum share allowance would be too small to permit even a smaller issuer to conduct an effective purchase program.
We are not aware of any significant evidence that the block exception has led to market manipulation or other abusive practices, notwithstanding the fact that it has been available to issuers since Rule 10b-18 was adopted in 1982. In the Proposing Release, the SEC cites several studies for the proposition that block transactions can affect market prices, but it does not provide any evidence of fraud or abuse in this area. Nor does it provide any persuasive evidence to suggest that a block transaction has more impact on market prices than a large number of smaller transactions executed regularly over an extended period. In the absence of substantial evidence that the block exception leads to manipulative abuse, eliminating the exception entirely would be unwarranted.
The definition of "block" should be updated to conform to the definitions used by the SROs.
We recognize that market conditions have changed since Rule 10b-18 was adopted and that the definition of "block" in the Rule may be outdated. We support the SEC's alternative proposal to increase the size of a block for purposes of the Rule, so as to bring it more into line with current market practice. We think the SEC should look to the NYSE or Nasdaq for guidance on what the appropriate size threshold should be. For example, the NYSE defines a block in two ways for purposes of its block positioning rules, (1) as shares having a market value of at least $500,000 (see NYSE Rule 97) or (2) as at least 10,000 shares having a market value of at least $200,000 (see NYSE Rule 127).5 The NYSE definitions are used in trading rules that were designed to address the particular circumstances associated with block trading activity and its impact on the market. They reflect a careful balancing of competing concerns in this area, namely, the need to foster market liquidity and flexibility without increasing the potential for abusive market practices above an acceptable level. We urge the SEC to retain the block exception but to update the definition of "block" so that it is in line with the definitions used by the SROs.
III. Requiring Disclosure of Issuer Purchases
While disclosure of completed purchases can be useful, disclosure about possible future purchases could mislead the market and subject issuers to undue liability and, accordingly, should not be required.
The SEC proposes to adopt new Item 703 of Regulation S-K, which would require issuers to make disclosure about their stock purchases on a quarterly basis. We support this proposal insofar as it would require disclosure of past purchases. We agree that information about past purchases can be useful to both investors and the SEC. We do not support the proposal, however, insofar as it would require disclosure about possible future purchases under issuer purchase plans or programs. We think the risks, for both issuers and investors, associated with disclosure about possible future purchases outweigh any potential benefits it may provide.
Currently, there is no specific requirement that issuers disclose in their SEC filings their plans to purchase their stock in the future. This type of forward-looking disclosure would have to be made only if it were required under general materiality standards. Proposed Item 703 would change this long-standing approach. In addition to requiring an issuer to provide a table setting forth all the purchases it has made during the relevant completed quarter, Item 703 would require the issuer to specify the number of shares that it purchased under its publicly announced purchase plans or programs and the maximum amount that may yet be purchased under those plans or programs (see proposed Item 703(b)(4) and (5)). Additional footnote disclosure about these plans or programs would be required, including the amount approved for purchase, the expiration dates and, if the issuer made no purchases under a particular plan or program during the covered quarter, whether or not it still intended to do so in the future (see Instructions to proposed Item 703(b)(4) and (5)). Thus, proposed Item 703 would require an issuer not only to specify the purchases it has made in the completed quarter, but to indicate the purchases it may make in the future under its publicly announced plans or programs.
We think that requiring issuers to provide disclosure about their future purchase plans as a rule is likely to result in the dissemination of information that is more misleading than helpful to investors. For example, an issuer might disclose its plan to purchase up to a specified amount of its stock - which could cause the price of its stock to rise - but later have to defer, scale down or abandon the plan for any number of legitimate reasons. These could include changes in market conditions that make purchases more costly than anticipated, changes in the cost of funding needed to make the purchases or changes in the issuer's capital needs or sources, requiring it to allocate funds for other purposes. In our experience, we have found that when an issuer's board of directors authorizes a purchase program, the authorization is quite broad and unspecific, giving management considerable discretion as to when and on what terms (if at all) to effect the purchases. This is done precisely to accommodate possible changes in market conditions, business plans and other factors, and to ensure that the purchase program is conducted in a financially prudent manner. As a result, many of these "plans" are necessarily and intentionally indefinite and subject to change. Requiring that they be disclosed in SEC filings could mislead investors, who may well regard them as more certain than they are.
For the same reason, disclosure of future plans is likely to expose issuers to allegations of manipulation or fraud, including, inevitably, litigation over allegedly material misstatements or omissions concerning those plans. To protect themselves against this risk, as well as to reduce the risk of investor confusion, issuers can be expected to hedge any required disclosure about possible future purchases with substantial caveats about the possibility that their plans will not be implemented as disclosed. At the end of the day, we doubt that this type of hedged disclosure would be of any genuine value to investors.
Requiring issuers to disclose potential future purchases under announced plans also raises the question of what is a "plan" and when is it "announced"? If an issuer is asked during a quarterly earnings call whether it intends to purchase any shares in the market and responds that it may if the price is right, is that an "announced plan"? How specific and detailed must the statement be before it constitutes a "plan"? Must it include a timetable, price range or specific share number? How definite must it be? Must the statement be in writing? These interpretive questions may make compliance with a forward-looking disclosure requirement difficult. They may also make any disclosure that is provided less meaningful.
Disclosure about an issuer's possible future stock market activities is fundamentally different from the kind of disclosure that an issuer has traditionally been required to provide in its SEC filings - namely, information about its own affairs, such as its results of operations, financial condition, business prospects, expansion plans, etc. Disclosure about an issuer's possible future stock market activities can be much more sensitive because it can be viewed as relating directly to the trading prices of the issuer's stock. Consequently, we think there is a substantial risk that disclosure about future purchase plans will draw more investor attention than it warrants and will assume an importance that is out of proportion to other disclosure about the issuer's business.
In light of the foregoing, we think that disclosure of possible future purchases should be required only to the extent necessary under existing materiality standards. In the past, the SEC has recognized the problems associated with trying to go beyond general materiality principles in this area and wisely declined to do so.6 We see no reason to start down this path again.
Proposed Item 703 should be revised so as not to require the disclosure contemplated in paragraphs (b)(4) and (b)(5).
For the reasons described above, we think the SEC should eliminate the provisions of proposed Item 703 that would require disclosure about possible future purchases under announced plans. In addition, we do not think that issuers should be required to disclose whether their completed purchases were made pursuant to announced plans or in other transactions. This disclosure can only prompt speculation about the extent of future purchases that may yet be made under announced plans.
Accordingly, proposed Item 703 should be revised to eliminate paragraphs (b)(4) and (b)(5), the instructions to those paragraphs and columns (d) and (e) in the table required by Item 703(a). The second sentence of the instructions to paragraph (b)(1) - requiring footnote disclosure of the number of shares purchased other than through announced plans and the nature of those transactions - should also be eliminated. We do not see why information about the manner in which non-plan purchases are effected would be of any interest to investors.
If the SEC nevertheless decides to retain these proposed requirements regarding possible future purchases, we suggest that the SEC take two steps that could reduce the resulting risks of investor confusion and issuer liability. First, issuers should be permitted to make clear in their quarterly filings that their future plans to purchase are subject to change at any time in their sole discretion and are not necessarily indicative of future results. The SEC should make it clear in the adopting release that the required disclosure about future purchase plans can be accompanied by such "risk-factor" disclosure as the issuer believes is appropriate. Second, given the inherent uncertainty associated with forward-looking disclosure of the kind contemplated by proposed Item 703, the SEC should provide an express safe harbor from liability for misstatements or omissions arising from disclosures required by paragraphs (b)(4) and (b)(5) (including the related instructions) of proposed Item 703. The SEC recently provided a similar safe harbor for forward-looking statements about off-balance sheet arrangements and contractual obligations that are now required under amended Item 303 of Regulation S-K.7
Issuers should not be required to disclose completed purchases more frequently than quarterly, and disclosure should be on an aggregate basis for the quarter.
As noted above, proposed Item 703 would also require disclosure about completed purchases. We believe such historical information can be useful to investors, provided that it is not disclosed in a manner that is likely to lead investors to regard the information as more significant than it is or as predictive of possible future purchases. We think such investor misperceptions could arise if issuers are required to report their purchases too frequently, such as on a monthly or "real-time" basis. Requiring disclosure on this basis is likely to draw more attention to the reported purchases than they deserve. From an investor's perspective, information about issuer purchases is different from information about trading by directors and executive officers. Whereas the latter may often indicate an insider's view of the issuer's prospects and the current market valuation of its stock, that is not necessarily the case for issuer purchases, which may be effected for reasons having little to do with the merits of a personal investment in the stock. For these reasons, we believe that requiring disclosure of completed purchases more frequently than quarterly would not be helpful.
We also believe that the required disclosure should reflect purchases during the covered quarter on an aggregate basis, not on a month-by-month basis during the quarter. We do not see what benefit investors would derive from knowing the particular month in which the purchases occurred in the prior quarter. This monthly information could encourage investors to speculate about the timing of issuer purchases and its impact on past or future market prices of the issuer's stock. We doubt that such information would provide investors with meaningful insight into the movement of the issuer's stock price, nor do we think issuers ought to be trying to provide such insight.
An issuer should not be required to disclose the identity of the broker-dealers that effected purchases on its behalf.
Proposed Item 703 would require an issuer to identify any broker-dealer it used to effect purchases of its stock. We think such disclosure may prompt investors who wish to sell their stock to contact the identified firms in order to make offers to them. The disclosure could serve, in short, as a form of market-wide solicitation. This is contrary to the purpose of Rule 10b-18, which is designed to ensure that issuers effect their purchases as ordinary open-market trades in the normal course. If the issuer has determined to stop its purchasing activity in order to proceed with an offering, this disclosure may also be inconsistent with the requirements of the Securities Act of 1933 and Regulation M. Consequently, we think the requirement to identify broker-dealers (paragraph (b)(3) of proposed Item 703) should be eliminated.
The disclosure requirement should focus on registered common stock (or the equivalent) that is listed or quoted in a public trading market and should not extend to derivative securities.
Proposed Item 703 would require an issuer to disclose purchases of any class of its equity securities that is registered pursuant to Section 12 of the Securities Exchange Act of 1934. We believe disclosure should be limited to purchases of registered equity securities that are listed on a national securities exchange or quoted on an inter-dealer quotation system. The rationale for disclosure should be to indicate the extent to which the issuer has been active in the trading markets in which the issuer's public investors generally participate. Purchases of securities that are not traded in an organized, public market do not fall into this category, and requiring disclosure about issuer purchases of such securities would serve little purpose and could be confusing to investors.
We also believe that disclosure should be required only with regard to purchase of an issuer's common stock (or, in the case of a non-corporate issuer, any similar class of equity interest). Disclosure should not be required with regard to purchases of securities that are exchangeable for or convertible into, or that otherwise represent the right to receive, the issuer's common stock. As noted above, we think the focus of this disclosure should be on purchases in the markets that are of real interest to equity investors generally, and that purchases of derivative securities do not fall into this category. Moreover, in adopting Regulation M, the SEC determined that purchases of "rights" and other derivative securities have only minimal impact on the market for the underlying stock, and we think this logic applies here as well: disclosure about an issuer's purchases of its derivative securities will provide little meaningful information about the trading market for the underlying stock.
In any event, we do not think that the term "equity securities" as used in proposed Item 703 should be read to encompass options, swaps, debt securities or similar instruments that are issued by the issuer but whose value is determined by reference to equity securities issued by unaffiliated third parties. Derivative instruments of this sort do not represent equity interests in the issuer of the instruments and have no dilutive or anti-dilutive effect on the issuer's own equity securities. With regard to the issuer of the instruments, they are really debt obligations. Consequently, we ask the SEC to state in the adopting release that derivative instruments of this kind are not equity securities of the issuer for purposes of Item 703. The SEC staff has taken a similar interpretive position with regard to the application of Rule 13e-4 under the Securities Exchange Act of 1934.8
The disclosure requirement should apply more flexibly to foreign private issuers.
In many countries, issuer purchases, and disclosure about such purchases, are governed by regulatory regimes that are quite different from and often more restrictive than those in the United States. For many foreign private issuers, this is a heavily regulated area, and the SEC should not impose additional or inconsistent disclosure requirements on them. If foreign private issuers provide disclosure about purchases of their own stock pursuant to home country requirements, they should be permitted to include this disclosure in their Form 20-F reports in lieu of the disclosure required by proposed Item 15(e) of that Form. In other words, foreign private issuers should have a choice of providing either the disclosure required by proposed Item 15(e) or the disclosure they provide under home country requirements. In any event, the changes we suggest for proposed Item 703 should also be made to proposed Item 15(e).
IV. Foreign Markets
The safe harbor should be available for bids and purchases effected in foreign markets, and the safe harbor conditions should apply on a market-by-market basis outside the United States.
The Proposing Release asks whether the Rule 10b-18 safe harbor should apply to issuer purchases effected in markets outside the United States. In many cases this is an academic question because these transactions generally are beyond the jurisdictional reach of the federal securities laws. The SEC has noted, however, that fraudulent or manipulative activities in a foreign market can implicate the federal securities laws if the activities have a significant effect on U.S. markets.9 To this extent, the safe harbor can provide meaningful protection and guidance for an issuer whose stock is traded in both U.S. and non-U.S. markets and that proposes to conduct a purchase program involving markets outside the United States. In other words, if an issuer's purchases in these circumstances may be subject to the anti-fraud or anti-manipulation provisions of the federal securities laws, then the issuer ought to have access to the safe harbor provided by Rule 10b-18.
We urge the SEC to provide interpretive guidance in the adopting release confirming that the safe harbor applies to bids and purchases in non-U.S. markets, with the price, volume, timing and manner conditions modified so as to apply on a market-by-market basis in order to address certain practical problems associated with shares traded in multiple markets around the world, all as we describe in Annex A to this letter. In this regard, we see no reason to distinguish between U.S. and non-U.S. issuers or between issuers whose principal market is in the U.S. and those whose principal market is not. If an issuer's stock is traded in both a U.S. market and a non-U.S. market, the safe harbor should be available for bids and purchases effected in either market, regardless of which one is the principal market for the issuer's stock and regardless of whether the issuer is a domestic or foreign company.
In Annex A to this letter, we have described several modifications to the conditions of Rule 10b-18 that we think should apply to Rule 10b-18 bids and purchases in markets outside the United States. In essence, these changes would require the conditions of the Rule to be applied on a market-by-market basis outside the United States, by reference to the trading prices, trading volume and other aspects of the particular foreign market in which the transaction is to be effected. In Annex A, we describe the practical problems associated with applying Rule 10b-18 on a global basis and why a market-by-market approach makes sense in foreign markets. The alternative conditions set forth in Annex A would not apply to any Rule 10b-18 purchase in a U.S. market; U.S. market transactions would be subject to the conditions of the Rule as adopted in the proposed rulemaking.
V. Additional Comments on the Proposed Amendments
A. Scope of the Rule
The definition of "affiliated purchaser" is sufficient and should not be revised to conform to the Regulation M definition.
The SEC seeks comment on whether the current definition of "affiliated purchaser" should be revised and specifically asks if "affiliated purchaser" should have the same meaning in Rule 10b-18 as in Regulation M. The Rule 10b-18 definition and the Regulation M definition both cover (1) any person acting in concert with the issuer for the purpose of acquiring the issuer's securities, and (2) any affiliate of the issuer that, directly or indirectly, controls the issuer's purchase of such securities, or whose purchases of such securities are controlled by or are under common control with those of the issuer. Regulation M adds a third category of "affiliated purchaser" that Rule 10b-18 currently does not include: an affiliate that is a regular purchaser of securities for its own account or the accounts of others, excluding from this category any such affiliates that are separated from the relevant party by information barriers, have separate officers and employees with regard to securities activities and do not engage in market making, solicited brokerage or proprietary trading in the relevant securities.
This additional category of affiliated purchasers is relevant in the context of Regulation M, which addresses not only issuers but "distribution participants", a category of firms that are likely to have affiliates engaged in a securities business. Rule 10b-18, however, is concerned only with issuers and their affiliated purchasers; the Rule does not cover distribution participants per se. Consequently, expanding the definition of affiliated purchaser to include affiliates engaged in a securities business is likely to have no relevance for most issuers, unless they themselves are part of the financial services industry. With regard to issuers of the latter kind, any of their affiliates that are engaged in a securities business are most likely subject to other regulatory requirements that restrict their ability to trade in the stock of an affiliate generally and, if they make any such purchases in connection with an affiliate's purchase program, they would likely fall into the category of affiliated purchasers acting in concert with the issuer.
Thus, we think that expanding the existing definition of affiliated purchaser to include the third category described above would affect a relatively small number of issuers and, for those it might affect, would probably be unnecessary. On balance, therefore, we do not think the limited utility of the proposed change would justify the resulting complexity in applying the expanded definition. The current definition is simple and easy to apply and has worked well. We see no need to change it.
In a riskless principal transaction where one leg is reported to the market, both legs of the transaction should receive the protection of the safe harbor.
The SEC seeks comment on the application of the safe harbor to riskless principal transactions. We believe that both legs of a riskless principal transaction - the dealer's purchase in the open market and the issuer's purchase from the dealer - should be entitled to the protection of the Rule 10b-18 safe harbor if the open market leg complies with the conditions of the safe harbor and is the only leg reported. There should be no need to subject the issuer leg to any further requirements, if it is not reported.
B. Single-Broker Condition
The SEC should clarify that an ATS or ECN on which a Rule 10b-18 purchase is effected should not be considered a broker-dealer for purposes of the single-broker condition.
Rule 10b-18's "one broker or dealer" condition provides that on any particular day, an issuer may use only one broker or dealer to effect purchases in its securities. An alternative trading system (ATS) or electronic communications network (ECN), though registered with the SEC as a broker-dealer, should not count as a broker-dealer for purposes of this condition solely because an issuer purchase is effected on the ATS or ECN. In these circumstances, the ATS or ECN functions as a marketplace, not a broker-dealer in the conventional sense. The purpose of the single-broker condition is to prevent multiple brokers from placing bids or soliciting sellers on the issuer's behalf, thereby perhaps giving the impression of greater market interest and activity in the issuer's stock than actually exists. An ATS or ECN neither places bids nor solicits sellers. Therefore, we urge the SEC to make the following two interpretive points clear in the adopting release: First, an issuer may use a single broker-dealer to effect Rule 10b-18 purchases on any one or more ATSs or ECNs, as well as in any conventional markets, on a particular day without violating the single-broker condition; an ATS or ECN will not count as a separate broker-dealer for this purpose. Second, if an issuer has direct access to an ATS or ECN and effects a Rule 10b-18 purchase on that market without the use of a separate broker-dealer as intermediary, the purchase would satisfy the single-broker condition and the issuer could still use a separate broker-dealer to effect Rule 10b-18 purchases in other markets on the same day (i.e., the ATS or ECN would not count as a second broker-dealer under the single-broker condition). We do not think that direct effectuation of an order by an issuer on an ATS or ECN raises the concerns about multiple broker activity that the single-broker condition is intended to address.
C. Price Condition
The SEC should not eliminate the "last independent transaction price" as an alternative price limitation.
The SEC requests comment on whether Rule 10b-18's price condition should be limited only by the highest independent bid, rather than the higher of the highest independent bid or the last independent transaction price. We believe that both the bid test and the last sale test should remain in place. Allowing purchases to be effected at the last sale price does not foster manipulation, since purchases effected at the last sale price follow the market, rather than lead it. We are not aware of any evidence that suggests the last sale test has resulted in manipulation.
The price condition should not apply when an issuer has no control, directly or indirectly, over the price at which a Rule 10b-18 purchase will be effected.
The SEC seeks comment on whether purchases effected on automated trading systems that use "passive" (independently derived) pricing, such as the volume weighted average price (VWAP) or the mid-point of the national best bid and offer (NBBO), should be subject to the price condition. We believe that purchases made pursuant to these passive pricing mechanisms should be exempt from the pricing condition. After the initial decision to implement a passive pricing system, the issuer exercises no discretion over the price at which purchases are made; the purchase price is determined by reference to standards derived from aggregated and independent market forces. When the issuer does not exercise discretion in the purchase decision and purchases are made according to an algorithm, there is little potential for manipulation by the issuer. Accordingly, the price condition should not apply to passive pricing systems.
D. Off-Hours Trading
The SEC should confirm the staff's current position on the application of Rule 10b-18 in off-hours trading sessions, but should not adopt the Guzman proposal.
We think the SEC should confirm in the adopting release that Rule 10b-18 is available for off-hours trading on any national securities exchange, inter-dealer quotation system, ATS or ECN on which off-hours trading is permitted, with the following modifications and clarifications:
- Opening trades. The prohibition on a Rule 10b-18 purchase being the opening trade in the consolidated system should apply only with regard to the opening of a primary trading session and not the opening of an off-hours session. Since trading in the off-hours session is likely to be driven by trading at the close of the primary session, there should be no need to apply the timing condition to the opening transaction in the off-hours session.
- Trades in closing minutes. The prohibition on effecting a Rule 10b-18 purchase during the 10 or 30 minutes prior to the close of the session should apply only with regard to the close of the primary session; in the off-hours session, an issuer should be permitted to effect transactions throughout the session, until its close. We read proposed paragraph (b)(2)(ii) of Rule 10b-18, which refers to the "scheduled close of the primary trading session", as supporting this view.
- Trades after the close of the consolidated system. Paragraphs (b)(2)(ii)(C) and (b)(2)(iii)(C) of the proposed rule would prohibit a Rule 10b-18 purchase after the termination of the period in which last sale prices are reported in the consolidated system. This requirement should not apply to bids and purchases in an off-hours session.
- Off-hours trading volume. In applying the volume condition, trading volume in an issuer's security in an off-hours session, if it is reported in the consolidated system, should be included in calculating the issuer's ADTV and daily volume limitation. We think the language of the proposed rule supports this view.
- Single-broker condition. The single-broker condition should apply separately in the context of an off-hours session, so that an issuer will comply as long as it uses only one broker-dealer in the off-hours session, whether or not that broker-dealer is the same broker-dealer used in the primary session. It may be impractical for an issuer to use the same broker-dealer in both a primary session and an off-hours session, especially if the latter occurs in an electronic or other "alternative" market.
- Price condition. The price condition should apply as written. In applying the price condition, the highest independent bid and the last independent transaction price would be determined by reference to the consolidated system. If bids and sales prices in the off-hours session are not reported in the consolidated system, then the maximum permitted price for the session would be determined by closing prices in the primary trading session in that market, subject to any prices reported in the consolidated system from any other market at or after the close of that market.
- Reflect the current proposal. The off-hours interpretation should be updated to reflect changes to Rule 10b-18 adopted in the currently proposed rulemaking. In other words, to the extent that a provision of Rule 10b-18 would apply to a transaction in an after-hours session pursuant to the interpretation, that provision would apply as amended in the current rulemaking.
We think the modifications and clarification described above are largely consistent with the interpretive relief previously granted by the SEC staff with regard to off-hours trading on the NYSE and AMEX. If the SEC confirms the modifications and clarifications described above, we see no need to adopt the Guzman proposal regarding off-hours trading (other than to relax the one-broker condition as noted above). We think the Guzman proposal, at least as it is described in the Proposing Release, may be overly restrictive if it would require that bids and purchases in an off-hours session be effected at a price lower than the last reported price in the primary session in the primary market.
E. NYSE Proposal
The NYSE should be given an opportunity to implement its innovative proposal.
The NYSE has made an interesting and innovative proposal regarding special purchases, which the SEC should consider seriously. The proposal's reliance on an independent trustee to effect purchases should alleviate concern about issuer manipulation. In addition, the proposal sets forth clearly defined and limited situations in which special purchases would be permitted. We think this proposal could provide an important additional source of liquidity during periods of market stress as well as serious disequilibrium in buy and sell orders in a particular stock. The NYSE should be given an opportunity to implement the proposal and demonstrate its merits.
* * *
We appreciate the opportunity to comment on the proposed rules, and we would be pleased to discuss any questions the SEC or its staff may have about this letter. Any questions about this letter may be directed to David B. Harms (212-558-3882), John T. Bostelman (212-558-3840) or Robert E. Buckholz, Jr. (212-558-3876) in our New York office, Frank H. Golay, Jr. (310-712-6620) or Cristin J. O'Callahan (310-712-6646) in our Los Angeles office or Walter J. Clayton III (011-4420-7959-8950) in our London office.
Very truly yours,
SULLIVAN & CROMWELL LLP
Conditions for Bids and Purchases in Non-U.S. Markets
The following modifications of the price, volume, timing and single-broker conditions are intended to apply to any Rule 10b-18 purchase (including any bid) effected in a market located outside the United States, whether the issuer is a U.S. or non-U.S. company and whether the principal market for its stock is located in the United States or elsewhere. Bids and purchases effected in a market located in the United States would remain subject to Rule 10b-18 as it would otherwise apply; the modifications described below would not apply to a Rule 10b-18 purchase in any U.S. market.
We think the SEC should confirm, through interpretive guidance in the adopting release, that Rule 10b-18, with the following modifications, is available for Rule 10b-18 purchases in foreign markets.
Price. In the Proposing Release, the price condition refers to the highest independent bid or the last independent transaction price, whichever is higher (the "maximum permitted price"), in the consolidated system or as disseminated on a national securities exchange or a qualified inter-dealer quotation system that displays at least two priced quotations for the security. These pricing sources, of course, reflect trading only in U.S. markets. For transactions in a non-U.S. market, the maximum permitted price should be determined by reference to prices in the market in which the transaction is effected, for two reasons. First, prices in the non-U.S. market may be different from those in the U.S. market, due to differences in liquidity, arbitrage, currency exchange rates and other factors, and determining the maximum permitted price by reference to the U.S. market may result in transactions in the non-U.S. market at prices that are above or below prevailing prices in the non-U.S. market. In order to minimize the impact of Rule 10b-18 purchases effected in a non-U.S. market on prices in that market, the maximum permitted price for those transactions should be determined by reference to prices in that market. Second, due to time-zone differences, markets outside the United States may be open for trading at a time when markets in the United States are closed. Consequently, determining the maximum permitted price by reference to prices in any market other than the one in which the transaction is to be effected may result in a maximum based on stale prices. Again, this may lead to transaction prices that are above or below prevailing prices in the market where the transaction occurs.
Thus the price condition should apply on a market-by-market basis outside the United States. If the issuer's stock is traded in more than one market outside the United States, the maximum permitted price for any Rule 10b-18 purchase effected in a non-U.S. market should be determined by reference to prices in that particular market. For trades in a U.S. market, the rule set forth in the Proposing Release should apply.
This alternative pricing condition should apply to transactions in any non-U.S. market if the market is a securities exchange or an inter-dealer quotation system that displays or disseminates current bid and last sale information for the relevant security, provided that, in the case of an inter-dealer quotation system, at least two priced quotations are displayed for the security. If a non-U.S. market does not meet this requirement, then transactions in that market would have to be effected at a price no higher than the highest independent bid obtained from three dealers in that market.
This market-by-market approach is preferable to one that refers to prices in the principal market. The latter approach could be difficult to apply to bids and purchases in a non-principal market in light of time zone differences and currency exchange rate fluctuations. It also could lead to transactions in a non-principal market that move prevailing prices in that market. While there are sound policy reasons for referring to prices in the principal market in the context of multimarket stabilization, as Rule 104 of Regulation M provides, we see no reason why the Rule 10b-18 safe harbor cannot be applied solely in relation to the particular non-U.S. market in which the transaction is effected, whether or not it is the principal market. We think the purpose of the Rule 10b-18 price condition should be primarily to minimize the impact of issuer purchases on prices in the market where the transactions are effected, rather than to "harmonize" or promote consistency among prices in multiple markets, which is an important objective in the stabilization context.
Volume. For Rule 10b-18 purchases effected in a non-U.S. market, the volume condition should be applied by reference to ADTV in that particular market. While good arguments could be made for applying the condition on the basis of ADTV in all markets worldwide, we think a market-by-market approach is preferable because it is simpler to apply and ensures that issuer purchases in a non-U.S. market will be appropriately limited in relation to trading activity in that market. For an issuer whose principal market is in the United States but whose stock is also traded outside the United States, Rule 10b-18 purchases effected in a secondary market outside the United States in amounts based on volumes in the principal market could have a disproportionate effect on trading activity in the secondary market.
Timing. The timing condition should also be applied outside the United States on a market-by-market basis. For Rule 10b-18 purchases effected in a non-U.S. market, those purchases should not be the first purchase reported in that particular market and should not be effected during the applicable 10- or 30-minute period prior to the close of that particular market. If the non-U.S. market is not the principal market, the SEC may also wish to require that purchases not be effected in the non-U.S. market during the applicable 10- or 30-minute period prior to the close of the principal market. While this additional requirement deviates from a strict market-by-market approach, it is consistent with the approach taken in the timing condition paragraph of the proposed rule, which refers to the close of both the principal market and the market in which the purchase is made. Conversely, with regard to purchases in a U.S. market, we would read the references to the "principal market" in the timing condition to mean the principal market wherever it may be, including outside the United States. The SEC should confirm that this reading is appropriate. We think this is the only interpretive issue that needs to be addressed with regard to the application of the Rule to purchases made in U.S. markets of securities that are traded in both foreign and domestic markets.
In determining whether the pre-close period in the non-U.S. market should be 10 or 30 minutes, the issuer should refer to the ADTV for that particular market for the reasons described above regarding the volume condition. However, we think the public float test should be applied on a worldwide basis because it would be difficult to determine public float separately with regard to each particular market and, in any event, the ADTV test, which would not be applied on a worldwide basis, is the more significant test in terms of assessing market impact of issuer purchases.
The prohibition on effecting transactions "after the termination of the period in which last sale prices are reported in the consolidated system" (see paragraphs (b)(2)(ii)(C) and (b)(2)(iii)(C) of the proposed rule) may preclude transactions in a foreign market that is open for trading when the U.S. markets are closed. Therefore, this clause of the timing condition should not apply to any Rule 10b-18 purchase effected outside the United States.
One Broker. Because broker-dealer regulatory requirements vary from country to country, a single broker-dealer generally will not be able to effect transactions in markets in more than one country. Consequently, the single-broker condition should be modified so as to apply separately with regard to the United States and each foreign jurisdiction that regulates the conduct of broker-dealers. In other words, the issuer would be required to use a single broker-dealer for all transactions in the United States on a single day and, with regard to each such foreign jurisdiction, a single broker-dealer for all transactions in that jurisdiction on a single day. The broker-dealer used in any particular jurisdiction need not be the same as one used in another jurisdiction. The special treatment of ATSs and ECNs described in our letter should also apply in non-U.S. markets.
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| 1 | As reproposed in 1980, Rule 13e-2 under the Securities Exchange Act of 1934, the precursor to Rule 10b-18, would have excepted from its scope certain categories of issuer purchases "that either are regulated sufficiently under existing rules, or generally do not present the potential for the kind of abuse the proposed rule would be designed to prohibit". One of these excluded categories would have been purchases "pursuant to a merger, acquisition, or similar transaction involving a recapitalization". In short, the purpose of this "pursuant to" clause was to prevent these transactions from being regulated under Rule 13e-2. See Release No. 34-17222 (October 17, 1980), text accompanying note 36. The SEC later withdrew its proposal to adopt Rule13e-2 and adopted Rule 10b-18 instead, but the latter contained the same exclusion.
| | 2 | See paragraph (3) of the definition of "restricted period" in Rule 100 of Regulation M. See also Staff Legal Bulletin No. 9, Frequently Asked Questions About Regulation M (revised April 12, 2002).
| | 3 | If the merger exclusion is extended as proposed, the SEC needs to address the issue raised by competing bidders, just as the SEC staff has done with regard to Regulation M. See Staff Legal Bulletin No. 9 cited above. Any restriction that applies to an acquiring party with regard to purchases of its own stock during the solicitation or valuation period relating to its own offer should also apply to purchases by a competing bidder of the competing bidder's own stock during the same solicitation or valuation period. We think the SEC can address this issue through interpretive guidance similar to that given by the staff in SLB No. 9 with regard to Regulation M.
| | 4 | Similar interpretive problems would arise with regard to the term "recapitalization".
| | 5 | The NYSE thresholds are likely to be substantially higher than the three alternative standards currently found in the block definition in Rule 10b-18. Compared to the first two standards in the current definition - at least $200,000 or at least 5,000 shares with a purchase price of at least $50,000 - the NYSE thresholds would be at least twice as high. The third standard in the current definition - 20 round lots totaling at least 150% of the average daily trading volume in the stock or 0.1% of the public float - could be small in terms of absolute dollar value or number of shares for a stock that is thinly traded. However, we think the third standard is unlikely to permit excessively small transactions because of the 150%/0.1% requirement (which ensures that transactions will be large in proportion to the trading market for the stock) and is well suited to issuers whose stock is thinly traded. For these reasons, we think the third standard should be retained even if the first two are increased to the levels used by the SROs as described above.
| | 6 | See proposed Rule 13e-2, which the SEC proposed in 1970, 1973 and 1980 and later withdrew.
| | 7 | See Release No. 34-47264 (January 27, 2003).
| | 8 | See Item 17, Section P, Going Private Rules and Schedule 13E-3, Manual of Publicly Available Telephone Interpretations (July 1997).
| | 9 | See Release No. 34-33924 (April 19, 1994), at note 115.
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