FRIED, FRANK, HARRIS, SHRIVER & JACOBSON A P A R T N E R S H I P I N C L U D I N G P R O F E S S I O N A L C O R P O R A T I O N S

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1 FRIED, FRANK, HARRIS, SHRIVER & JACOBSON A P A R T N E R S H I P I N C L U D I N G P R O F E S S I O N A L C O R P O R A T I O N S TO O U R C L I E N T S SEC AMENDS REGULATION S AND IMPOSES ADDITIONAL BURDENS ON OFFSHORE OFFERINGS OF DOMESTIC U.S. REPORTING ISSUERS EQUITY SECURITIES March 4, 1998 On February 10, 1998, the U.S. Securities and Exchange Commission (the SEC ) adopted amendments to Regulation S 1 under the Securities Act of 1933, as amended (the Securities Act ), as part of a package of initiatives aimed at stopping abusive practices in connection with offerings of equity securities. Regulation S consists of a general statement to the effect that Section 5 of the Securities Act is deemed not to apply to offers or sales of securities made outside the United States. Significant Changes Although the amendments to Regulation S are not as dramatic as the SEC had proposed, several significant changes were adopted: The restricted period, renamed the distribution compliance period, for equity securities 2 of domestic U.S. reporting issuers will be increased from 40 days to one year. 3 The extension of the distribution compliance period also extends the period during which directed selling efforts are prohibited, including certain research activities by underwriters, and potentially certain marketing activities by domestic U.S. reporting issuers. Equity securities, including convertible securities, placed offshore by domestic U.S. reporting issuers under Regulation S will be classified as restricted 1 Securities Act Release No (February 17, 1998). 2 Equity securities include stock, securities convertible into or exchangeable for stock, rights to purchase equity securities and other types of equity-related securities. 3 In the proposing release, the SEC stated that some market participants had mistakenly viewed the expiration of the restricted periods applicable to issuers and other participants under Rule 903, as providing a safe harbor for U.S. resales by purchasers of Regulation S securities. Instead, the SEC said that purchasers of such securities were required either to register the securities under the Securities Act, or to rely on an exemption from registration for resales into the United States. Securities Act Release No (February 20, 1997). The SEC itself was a primary source for this view of the effect of the expiration of the Regulation S restricted period, by limiting its guidance on this subject to a footnote in the release adopting Regulation S stating that, [u]pon expiration of any restricted period, securities [sold under Regulation S] (other than unsold allotments) will be viewed as unrestricted. Securities Act Release No n. 110 (April 24, 1990). Apparently, some market participants, in the SEC s view, construed the term restricted period in this sentence more broadly than the SEC intended. As a result, resellers into the United States after the distribution compliance period should consider whether they would be deemed underwriters under Section 2(11) of the Securities Act. One New York Plaza 1001 Pennsylvania Avenue, N.W. 350 South Grand Avenue 4 Chiswell Street 7, rue Royale New York, NY Washington, DC Los Angeles, CA London, ECIY, 4UP England Paris, France (212) (202) (213) (44-171) (33-140)

2 securities within the meaning of Rule 144 under the Securities Act, so that resales into the United States will be restricted even after the distribution compliance period. 4 Certification, purchaser resale agreement, legending, and stop-transfer requirements (in addition to the current dealer notification requirement) currently applicable to sales of equity securities by non-reporting issuers will be imposed on all domestic U.S. reporting issuers equity securities sold under Regulation S. Purchasers of domestic U.S. reporting issuers equity securities must agree that their hedging transactions with respect to such securities will be conducted in compliance with the Securities Act. 5 The SEC clarified that offshore resales under Regulation S of domestic U.S. reporting issuer s equity securities that are restricted securities, as defined in Rule 144, will not affect (i.e., wash ) the restricted status of the securities. 6 For any Regulation S sales occurring after January 1, 1999, issuers no longer will be required to report information relating to such sales on Form 8-K within 15 days of the sale. 7 The information will instead be updated on Form 10-Q or 10-K. Except for the discontinuation of the requirement to report Regulation S sales on Form 8-K, the amendments to Regulation S will become effective on April 27, In addition, Rule 905 will not be applied retroactively to classify domestic equity securities previously sold under Regulation S as restricted securities under Rule 144. However, the SEC s interpretive position that resales conducted offshore do not wash off restrictions will apply to transactions taking place prior to the effective date. 4 The SEC also adopted conforming amendments to Rule The extent of permissible hedging activities by holders of restricted securities currently receives a facts and circumstances analysis. However, the SEC has proposed amendments to Rule 144 that would impose additional restrictions on hedging. See Securities Act Release No (February 20, 1997). 6 Although the SEC s interpretation in the proposing release extended to equity securities of domestic issuers and foreign issuers where the principal market for the equity securities is in the United States, the offshore resale provision of Rule 905 is limited to equity securities of domestic issuers. Accordingly, if a foreign issuer privately places securities in the United States, the purchasers can immediately resell the securities offshore under Rule 904 with no restrictions on flowback into the United States. The SEC has adopted a conforming amendment to Rule 144 providing that offshore resales pursuant to Regulation S are not included in the volume limits under Rule Currently, domestic U.S. reporting issuers are required to report sales of equity securities pursuant to Regulation S on Form 8-K within 15 days of their occurrence. All other privately placed sales of equity securities by domestic U.S. reporting issuers must be reported quarterly on the issuer s Form 10-Q, or Form 10-QSB, and, for the last quarter, on its Form 10-K, or Form 10-KSB

3 Changes Proposed, But Not Adopted Due to adverse comment, the SEC determined not to adopt several proposals that would have greatly reduced the benefits of making an offshore offering under Regulation S, rather than making an onshore private placement. The amendments increase the distribution compliance period for equity securities of domestic U.S. reporting issuers to one year, but retain a 40 day distribution compliance period for the equity securities of reporting foreign issuers. The SEC rejected a proposed two year distribution compliance period in favor of a one year distribution compliance period in order to align Regulation S more precisely with the Rule 144 resale restrictions. The SEC determined not to prohibit the use of promissory notes or similar instruments in Regulation S transactions, but only to require that the notes satisfy Rule 144 s conditions regarding tolling. Practical Effects Of The Amendments Whether the Regulation S amendments will accomplish the SEC s goals of reducing fraudulent practices in offshore offerings of equity securities will not be known for some time. A more probable and immediate result of these amendments, however, is that the offshore public offering practices of domestic U.S. reporting companies and their affiliates and distributors will change, and that the costs of capital raising by these issuers offshore will likely increase. Offshore Equity Offerings By U.S. Reporting Companies The legending and other procedural requirements that the Regulation S amendments impose on offers and sales of domestic U.S. reporting issuers equity securities, plus the designation of such securities as restricted securities under Rule 144 and the expanded restrictions on directed selling efforts, will require a reassessment of whether an offshore public offering should be conducted under Regulation S, or as a registered public offering or pursuant to another Securities Act exemption from registration. First, domestic U.S. reporting issuers contemplating an offshore public offering will need to determine if the laws of the jurisdictions in which they wish to offer and sell the securities, or the rules of any foreign securities exchange or quotation market on which they wish their securities to be listed or to trade permit securities to be legended or otherwise to be restricted as to transfer. 8 8 Rule 903 provides that, if the securities are issued in bearer form or foreign law prevents the issuer from refusing to register securities transfers, other reasonable procedures (such as a legend) may be implemented to prevent transfers of the securities not made in accordance with Regulation S

4 Second, the Regulation S documentation requirements for public offerings of these securities conducted entirely outside the United States generally will be as extensive as for U.S. private placements. Thus, the issuer and its transfer agent will need to implement procedures for policing the procedural requirements of Regulation S, particularly the purchaser certification and purchaser resale agreement provisions. In the case of securities traded in book-entry form or held in bearer or global form, compliance with these requirements may be difficult. Similarly, if an offshore custodian or depository will hold the securities or a centralized electronic share registrar system will be used, a determination will need to be made as to whether the procedural requirements of Regulation S can be accommodated. Third, the restrictions on directed selling efforts for a full year need to be evaluated. Underwriters in the Regulation S offering will need to determine what form of research reports can be issued and in what format. Issuers will need to consider how they will comply with the prohibition on directed selling efforts while they have disclosure obligations as reporting companies under the Securities Exchange Act of 1934, as amended (the Exchange Act ). Fourth, because purchasers could find their ability to resell such securities in offshore markets seriously restricted or cumbersome, the resulting limited liquidity may force issuers to sell the securities at a discount to the price at which the securities could be sold in a registered public offering. Fifth, a determination will need to made as to whether prospective purchasers will insist upon registration rights ( flowback registration ). In fact, the SEC s release states that purchasers of equity securities in a Regulation S offering by a domestic U.S. reporting issuer could insist upon registration rights, which could lead to reporting companies coupling Regulation S offerings with demand registration rights, even though registration would not be required to effect such sales. If an issuer is compelled to provide flowback registration contemporaneously with the public offshore offering, then the benefits of relying on Regulation S will be minimized. Finally, the issuer will need to weigh the costs of making a Regulation S offering against the expense, timing considerations, effort and liability exposure associated with registration. Broker-Dealer Research Reports A general condition for reliance on Rule 903 is that no directed selling efforts may be made by the issuer or the managing underwriter in the United States during the time when offers and sales of the subject securities are being made, and during any applicable distribution compliance period. Among other things, this means that no U.S. marketing efforts may be undertaken in order to induce the purchase of the securities purportedly being distributed abroad. In addition, although research similar to that permitted by Securities Act Rule 139(b) may be distributed or published in the United States with respect to a reporting issuer, in some circumstances research specific to a - 4 -

5 company or any class of its securities could constitute directed selling efforts and possibly be deemed an offer in the United States in violation of the regulation s offshore transaction requirement. In the case of equity securities of domestic U.S. reporting issuers, this generally could mean a one year blackout period on company specific research and other marketing activities by managing underwriters of Regulation S offerings. Use Of Equity Securities For Acquisitions The revisions to Regulation S apply not only to equity offerings undertaken to raise capital, but also to those undertaken by a U.S. domestic reporting company to acquire a foreign company. This may require an issuer of covered equity securities to consider registering any offshore issuance of such securities in connection with an offshore acquisition. Employee Benefit Plans Under current Regulation S, equity securities offered and sold to non-u.s. resident employees through an employee benefit plan governed by foreign law generally are not subject to a restricted period, regardless of the issuer s domicile. Securities sold pursuant to other plans are subject to the 40 day restricted period. As noted above, the 40 day period has been adjusted to one year and Rule 905 will classify all equity securities of domestic U.S. reporting issuers that are offered or sold pursuant to Regulation S as restricted securities within the meaning of Rule 144. The procedural requirements applicable to securities with a one year distribution compliance period also are required for employee resales. A U.S. issuer that offers or sells its equity securities to non-u.s. resident employees pursuant to an employee benefit plan may wish to minimize the burden of the new regulation and provide its non-u.s. resident employees with immediate access to the U.S. public market to offer and sell such securities by registering their sales on a Form S-8. If an issuer sells securities to non-u.s. resident employees pursuant to an employee benefit plan governed by foreign law, the issuer generally may report such sales, on an aggregate basis, on Form 10-Q. This reporting requirement, unlike the amendment eliminating an issuer s obligation to report other Regulation S sales on Form 8-K within 15 days of the sale, is effective April 27, 1998, and not January 1, Concurrent SEC Rulemakings Concurrent with its publication of the Regulation S amendments, the SEC published for comment proposed amendments to Form S-8, and corresponding amendments to Form S-3, 9 which would: (1) clarify that Form S-8 is not available for sales to consultants and advisors who directly or indirectly promote or maintain a market for the company s securities; (2) exclude certain registration statements and post-effective 9 Securities Act Release No (February 17, 1998)

6 amendments 10 that become effective automatically upon filing from the general rule that a registration statement or amendment is deemed filed on the proper form unless the SEC objects to the form before the effective date; and (3) require disclosure of certain information about consultants or advisors to whom the registrant will issue securities under the registration statement. This release also proposes making Form S-8 available for the exercise of employee benefit plan options by an employee s family member who acquires the options from the employee through a gift or domestic relations order and to former employees for the exercise of transferable and non-transferable options. Also proposed are amendments to executive compensation disclosure requirements to clarify how certain options and stock appreciation rights (SARs) should be reported. In addition, the SEC proposed amendments to Rules 15c2-11 and 17a-4 under the Exchange Act, which would increase the obligations of broker-dealers publishing quotations in non-nasdaq over-the-counter securities. 11 Generally, these amendments would: Eliminate Rule 15c2-11 s piggyback provision, which currently permits broker-dealers (other than the initial broker-dealer) to quote a security without having current issuer information; Require broker-dealers that publish price quotations for a security to obtain and review updated information about the issuer at least annually; Expand the information required about issuers that do not file periodic reports with the SEC; Require documentation of the broker-dealer s compliance with Rule 15c2-11 as part of the record preservation requirements of Rule 17a-4; and Enhance investor access to the information required by Rule 15c2-11. Comments on these proposals are due by April 27, * * * * * Attached for your reference is a chart comparing the impact of pre-1998 and post Regulation S requirements for offshore public offerings of equity securities by U.S. public companies. Because the amendments to Regulation S should not materially affect similar offerings by foreign private issuers, no comparison chart is included in this 10 Forms affected by these proposed amendments include (1) Forms S-3 and F-3 for dividend and interest reinvestment plans; (2) Form S-8; (3) registration statements filed pursuant to Rule 462(b) in certain limited circumstances to increase the number of shares of the same class previously registered for the same offering by no more than 20 percent and post-effective amendments to those registration statements; (4) posteffective amendments in reliance on Rule 430A to provide price-related information omitted from the registration statement; (5) post-effective amendments filed solely to add exhibits; and (6) certain posteffective amendments on Form S-8; Forms S-3, F-2, and F-3 relating to dividend or interest reinvestment plans and Form S Securities Exchange Act Release No (February 17, 1998)

7 package. If you have questions concerning these amendments, please contact one of the following attorneys. NEW YORK WASHINGTON, DC LONDON LOS ANGELES KENNETH R. BLACKMAN STEPHEN I. GLOVER TIMOTHY E. PETERSON DAVID K. ROBBINS (212) (202) (44 171) (213) STUART H. GELFOND KARL A. GROSKAUFMANIS DANIEL J. BURSKY EDWARD S. ROSENTHAL (212) (202) (44 171) (213) ALLEN I. ISAACSON, P.C. (212) (202) VALERIE FORD JACOB HARVEY L. PITT RICHARD A. STEINWURTZEL (212) (202) HARVEY L. PITT ANDREW P. VARNEY (212) (202) RICHARD A. STEINWURTZEL (212) JESSICA FORBES (212) K. SUSAN GRAFTON (212) March 4, 1998 Copyright 1998 Fried, Frank, Harris, Shriver & Jacobson All Rights Reserved - 7 -