Margin Loans and Former SPACs: Rules 144 and 145 Make Important Additional Requirements for the Resale of Securities | Morrison & Forster LLP
This article focuses on complications arising from the Securities Act 1933, as amended (“Securities Act”), in relation to de-SPACed public companies, which may prevent foreclosure lenders from selling interests pledged under margin loans secured by interests in former SPACs.
Pursuant to the Securities Act, all offerings and sales of securities must be filed with the Securities and Exchange Commission (“SEC’) unless an exception applies. This requirement applies to all secondary sales of securities by investors as well as the initial offering by the issuer.
Rule 144 of the Securities Act provides a pre-registration safe haven for the resale of securities acquired directly from an issuer except in a public offering (“Restricted Securities”) and resale of securities held by affiliates of an issuer (“control securities“). A person who satisfies all of the applicable Rule 144 conditions in connection with a sale transaction is not an “underwriter” for the purposes of Section 2(a)(11) of the Securities Act and is therefore entitled to an exemption from registration under Section 4 (a)(1) of the Securities Act.
In addition, Rule 145 of the Securities Act imposes additional restrictions on the resale of securities issued by former SPACs, which may result in the seller being considered a presumptive subscriber, potentially requiring registration of the securities under the Securities Act, to liquidate a significant amount position in the securities.
In connection with margin lending, a foreclosure lender wishing to sell (or cause to be sold) pledged restricted or controlled securities must do so by means of a registration statement or by complying with the conditions under Rule 144 and Rule 145. Public resale of securities of former shell companies, including SPACs, issued under Rule 144 are also subject to additional requirements not applicable to the majority of other public companies, which can make the resale of those securities by a foreclosure lender significantly more difficult.
Rule 144 requirements
Rule 144 is the rule normally relied on for the public resale of restricted and controlled securities.
There are five basic requirements under Rule 144, although not all requirements apply to every sale. Affiliates of the Issuer must meet all five requirements. However, sellers who are not affiliates at the time of sale and were not affiliates in the three months prior to the sale only need to comply with (1) the holding period and (2) current public information requirement in certain circumstances. A summary of these requirements is provided below; however, certain important exceptions apply to former SPACs, which are discussed in more detail following the summary.
- Current public information – Specified current information about the issuer must be publicly available (Rule 144(c)).
- holding period – A six-month hold period is required for restricted securities of an issuer that has been a reporting entity for at least 90 days and has current disclosure requirements. Otherwise, a one-year hold period is required (Rule 144(d)).
- volume limit – The amount of securities that can be sold in any three month period for listed companies is limited to (i) one percent of the outstanding shares or other units of that class or (ii) the average weekly trading volume during the period, as the case may be , whichever is greater the four calendar weeks prior to filing of a Form 144 or, if no such notice is required, the date of receipt of the order to complete the transaction. The amount of securities that can be sold in any three month period for companies with over-the-counter or OTC securities is limited to one percent of the outstanding shares or other units of that class (Rule 144(e)).
- type of sale – Equity securities (but not debt securities) must be sold in unsolicited “brokerage transactions”, directly to “market makers” or in “risk-free principal transactions” (Rule 144(f) and (g)).
- sale advert – The seller must file a Form 144 with the SEC at the time the sell order is placed with the broker if the seller is an affiliate and intends to sell more than 5,000 shares or securities valued in excess of during a three-month period $50,000 (Rule 144(h)).
Availability of rule 144 related to former SPACs
Rule 144 is not even available to a former SPAC until one year after the de-SPAC is closed and the company files its “Super 8-K” or “Super 20-F” (Rule 144(i)).
Additional Rule 144 requirements for former SPACs
Rule 144 provides additional conditions for “former shell companies” (as defined in Rule 405 of the Securities Act, including any former SPACs) to meet the requirements of Rule 144.
To qualify for the Rule 144 exemption, former SPACs would need to meet the additional requirements prescribed for former letterbox companies under Rule 144. Namely the company:
- is no longer a shell company within the meaning of Rule 144(i)(1);
- makes mandatory reports with the SEC;
- has filed current “Form 10 information” (usually via a “Super 8-K” or “Super 20-F”) with the SEC reflecting the issuer’s status as a non-shell company and has done so for at least one year has passed since such Form 10 information was submitted; and
- has filed all required SEC reports and other materials within the prior 12 months (or any shorter period in which the issuer is required to file such reports and materials, excluding Form 8-K reports) (“Evergreen Rule“).
The Evergreen Rule is of particular relevance to former SPACs and interested parties holding restricted or controlled securities in former SPACs. Rule 144 is only available as long as the issuer complies with the Evergreen Rule. Therefore, even after the one-year hold period, if a company has an issue with its SEC reporting, Rule 144 will not be available until the issuer’s SEC reporting issue is resolved. To be clear, this potential impediment to the application of Rule 144 would not apply to entities that are not former SPACs or otherwise former shell companies.
Rule 144 and Pledge of Related Securities in Margin Loans
In the context of a margin loan, the rule 144 hold period is critical for lenders seeking an exemption from public registration. A lender must meet the appropriate hold period prior to sale. For restricted securities, the required holding period is normally six months but may extend to 12 months in some cases.
In order to comply with the hold period required by Rule 144, a lender could arrange foreclosure in respect of the shares in a manner that avoids associated company status and the securities sold (or caused to be sold) publicly under Rule 144 by expiring the hold period “Attached” is the attached pledger. Rule 144(d)(3)(iv) permits a pledgee who may invoke rule 144 for the resale of the restricted pledged securities to the holding period of a linked pledgor following a default by the pledgor under the pledge. This attachment provision is subject to several requirements, including that the pledging of the restricted securities by the pledgor be subject to a bona fide pledge by the associated pledgor with recourse to the borrower.
When de-SPAC securities are affected, Rule 144 is not available to facilitate public sales if the de-SPAC occurred less than one year prior to the Enforcement Event. In this case securities could only be sold in private transactions or under a declaration of registration.
Additionally, the evergreen rule has a number of practical implications for lenders attempting to liquidate securities pledged as part of a margin loan. In particular, issuer transfer agents and attorneys will not honor “blanket” legend removal requests, which means that restricted legends must be removed on a transaction-by-transaction basis, which can result in significant administrative delays. In addition, the evergreen rule can create uncertainty about the ability to resell securities without a registration statement, which can last years after the initial one-year hold period expires.
Rule 145 provides that exchanges of securities in connection with reclassifications of securities, mergers or consolidations, or transfers of assets that are subject to a shareholder vote constitute sales of securities.
Under Rule 145, where a party to any such transaction is a shell company, under Rule 145(c) any party to that transaction (other than the issuer or a person who is an affiliate of the issuer, when the transaction is submitted) shall vote or consent ) publicly offering or selling securities of the issuer acquired in connection with the transaction in order to participate in a distribution and therefore be an “underwriter” who must comply with the selling restrictions on those securities set out in Rule 145.
Therefore, Rule 145 creates “presumptive underwriter status” for certain affiliates of the parties to a De-SPAC transaction. Therefore, Rule 145 securities may only be sold pursuant to a registration statement or in accordance with Rule 145(d) conditions (which are consistent with the Rule 144 resale restrictions for securities of ex-shell companies).