Securities LawCast©

The only Podcast series in the securities industry that translates the complexities of securities law into understandable language. Each segment of Securities LawCast© simultaneously corresponds with the more technical explanation of the subject matter that is posted on SecuritiesLawBlog.com.

Securities attorney Laura Anthony, founding partner of Legal & Compliance, LLC, expounds on FINRA compliance, going public, direct public offerings, SEC reporting requirements, due diligence of public shells, S-1 registration statements, OTC listing requirements, DTC chills and virtually every other aspect of securities law.

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Securities LawCast©- Legal & Compliance, LLC- OTCQX Listing Qualifications For International Issuers.

The OTC Markets divide issuers into three (3) levels of quotation marketplaces: OTCQX, OTCQB and OTC Pink.  The OTC Pink, which involves the highest-risk, highly speculative securities, is further divided into three tiers: Current Information, Limited Information and No Information.   This blog provides a summary of the listing requirements for each level of quotation on OTC Markets.

OTCQX

The OTCQX divides its listing criteria between U.S. companies and International companies, though they are very similar.  The OTCQX has two tiers of quotation for U.S. companies: (i) OTCQX U.S. Premier (also eligible to quote on a national exchange); and (ii) OTCQX U.S. and two tiers for International companies: (i) OTCQX International Premier; and (ii) OTCQX International.  Quotation is available for American Depository Receipts (ADR’s) or foreign ordinary securities of companies traded on a Qualifying Foreign Stock Exchange, and an expedited application process is available for such companies.

Issuers on the OTCQX must meet specified eligibility requirements.  Moreover, OTC Markets have the discretionary authority to allow quotation to substantially capitalized acquisition entities that are analogous to SPAC’s.

OTCQX – Requirements for Admission

To be eligible to be quoted on the OTCQX U.S., companies must:

  • Have $2 million in total assets as of the most recent annual or quarter end;
  • As of the most recent fiscal year end have at least one of the following: (i) $2 million in revenues; (ii) $1 million in net tangible assets; (iii) $500,000 in net income; or (iv) $5 million in market value of publicly traded securities;
  • Meet one of the following penny stock exemptions under Rule 3a51-1 of the Exchange Act: (i) have a bid price of $5 or more; or (ii) have net tangible assets of $2 million if the Company has been in continuous operation for at least three years, or $5,000,000 if the Company has been in continuous operation for less than three years which qualification can be satisfied as of the end of a fiscal period or as a result of an interim capital raise; or (iii) have average revenue of at least $6,000,000 for the last three years;
  • Not be a blank check or shell company as defined by the Securities Act of 1933 (“Securities Act”);
  • Not be in bankruptcy or reorganization proceedings;
  • Be in good standing in its state of incorporation and in each state in which it conducts business;
  • Have a minimum of 50 beneficial shareholders owning at least one round lot (100 shares) each;
  • Be quoted by a market maker on the OTC Link;
  • Have a minimum bid price of $0.10 per share for its common stock as of the close of business on each of the 30 consecutive calendar days immediately preceding the Company’s application for OTCQX. If (i) there has been no prior public market for the Company’s securities in the U.S. and (ii) FINRA has approved a Form 211, then the Company may apply to OTC Markets for an exemption from the minimum bid price requirements, which exemption is at the sole discretion of OTC Markets. In the event that the Company is a Seasoned Public Issuer (i.e., has been in operation and quoted on either OTC Link, the OTCBB or an exchange for at least one year) that completed a reverse stock split within 6 months prior to applying for admission to OTCQX U.S., the Company must have a minimum bid price of $0.10 per share for its common stock as of the close of business on each of the 5 consecutive trading days immediately preceding the Company’s application for OTCQX, after the reverse split;
  • Have GAAP compliant (i) audited balance sheets as of the end of each of the two most recent fiscal years, or as of a date within 135 days if the Company has been in existence for less than two fiscal years, and audited statements of income, cash flows and changes in stockholders’ equity for each of the fiscal years immediately preceding the date of each such audited balance sheet (or such shorter period as the Company has been in existence), and must include all going concern disclosures including plans for mitigation; and GAAP compliant (ii) unaudited interim financial reports, including a balance sheet as of the end of the Company’s most recent fiscal quarter, and income statements, statements of changes in stockholders’ equity and statements of cash flows for the interim period up to the date of such balance sheet and the comparable period of the preceding fiscal year; and
  • Be included in a Recognized Securities Manual or be subject to the reporting requirements of the Exchange Act.

To be eligible to be quoted on the OTCQX International, companies must:

  • Have U.S. $2 million in total assets as of the most recent annual or quarter end;
  • As of the most recent fiscal year end, have at least one of the following: (i) U.S. $2 million in revenues; (ii) U.S. $1 million in net tangible assets; (iii) U.S. $500,000 in net income; or (iv) U.S. $5 million in global market capitalization;
  • Meet one of the following penny stock exemptions under Rule 3a51-1 of the Exchange Act: (i) have a bid price of U.S. $5 or more; or (ii) have net tangible assets of U.S. $2 million if the company has been in continuous operation for at least three years, or U.S. $5,000,000 if the company has been in continuous operation for less than three years; or (iii) have average revenue of at least U.S. $6,000,000 for the last three years;
  • Be quoted by a market maker on the OTC Link (which requires a 15c2-11 application if the company is not already quoted on a lower tier of OTC Markets);
  • Not be in bankruptcy or reorganization proceedings;
  • Be included in a Recognized Securities Manual or be subject to the reporting requirements of the Exchange Act;
  • Have its securities listed on a Qualifying Foreign Stock Exchange for a minimum of the preceding 40 calendar days; provided, however, that in the event the company’s securities are listed on a non-U.S. exchange that is not a Qualified Foreign Stock Exchange, then at the company’s request and subsequent to the company providing OTC Markets Group with personal information forms for each executive officer, director, and beneficial owner of 10% or more of a class of the company’s securities and such other materials as OTC Markets Group deems necessary to make an informed determination of eligibility, OTC Markets Group may, upon its sole and absolute discretion, consider the company’s eligibility for OTCQX International;
  • Meet one of the following conditions: (i) be eligible to rely on the registration exemption found in Exchange Act Rule 12g-2(b) and be current and compliant in such requirements; or (ii) have a class of securities registered under Section 12(g) of the Exchange Act and be current in its SEC reporting requirements; or (iii) if such company is not eligible to rely on the exemption from registration provided by Exchange Act Rule 12g3-2(b) because it does not (A) meet the definition of “foreign private issuer” as that term is used in Exchange Act Rule 12g3-2(b) or (B) maintain a primary trading market in a foreign jurisdiction as set forth in Exchange Act Rule 12g3-2(b)(ii), and is not otherwise required to register under Section 12(g), be otherwise current and fully compliant with the obligations of a company relying on the exemption from registration provided by Exchange Act Rule 12g3-2(b). For an explanation of Exchange Act Rule 12g3-2(b), see my blog HERE.

To be eligible to be quoted on the OTCQX U.S. Premier, companies must:

  • Satisfy all of the eligibility requirements for OTCQX U.S. set forth above;
  • Have (i) At least (a) 500,000 publicly held shares; and (b) $1 million in market value of publicly held shares; and (ii) at least (a) $500,000 in net income (in the latest fiscal year or in two of the last three fiscal years); or (b) $2.5 million in stockholders’ equity; or (c) $35 million in market value of listed securities;
  • Have a minimum of 100 beneficial shareholders owning at least one round lot (100 shares) each;
  • Have a minimum bid price of $1.00 per share for its common stock as of the close of business on each of the 30 consecutive calendar days immediately preceding the Company’s application for OTCQX. If (i) there has been no prior public market for the Company’s securities in the U.S. and (ii) FINRA has approved a Form 211 and (iii) the bid price is equal to or greater than $1.00, then the Company may apply to OTC Markets for an exemption from the 30-day minimum bid price requirements, which exemption is at the sole discretion of OTC Markets. In the event that the Company is a Seasoned Public Issuer (i.e., has been in operations and quoted on either OTC Link, the OTCBB or an exchange for at least one year) that completed a reverse stock split within 6 months prior to applying for admission to OTCQX U.S., the Company must have a minimum bid price of $1.00 per share for its common stock as of the close of business on each of the 5 consecutive trading days immediately preceding the Company’s application for OTCQX, after the reverse split;
  • Conduct annual shareholders’ meetings and submit annual financial reports to its shareholders at least 15 calendar days prior to such meetings.

To be eligible to be quoted on the OTCQX International Premier, companies must:

  • Satisfy all of the eligibility requirements for OTCQX International set forth above;
  • As of its most recent fiscal year end, (i) have (a) revenue of U.S. $100 million; (b) global market capitalization of U.S. $500 million, (c) aggregate cash flow for the three preceding years of U.S. $100 million; and (d) minimum cash flow in each of the two preceding years of $25 million; or (ii) have (a) revenue of U.S. $75 million and (b) global market capitalization of $750 million.

To be eligible to be quoted as an OTCQX U.S. Acquisition Company, companies must:

  • Satisfy all of the eligibility requirements for OTCQX U.S. set forth above;
  • Have $25 million in net tangible assets as of the most recent annual or quarterly year end;
  • Have $10 million in market value of publicly traded securities as of the most recent fiscal year end;
  • Have a minimum bid price of $5.00 per share for its common stock as of the close of business on each of the 30 consecutive calendar days immediately preceding the Company’s application for OTCQX; and
  • Be subject to the reporting requirements of the Exchange Act.

Designated Advisors for Disclosure (“DAD”)/Principal American Liaison (“PAL”)

All U.S. companies that are quoted on the OTCQX must have either an Attorney Designated Advisor for Disclosure (“DAD”) or an Investment Bank DAD.  All DAD’s must be approved by OTCQX after submitting an application.  OTC Markets publishes a list of pre-approved DADs.  A Company may appoint a new DAD at any time, provided that the Company retains an approved DAD at all times.

A DAD’s primary role is to provide advice and guidance to a Company in meeting its OTCQX obligations.  The OTCQX puts a great deal of onus on the DAD to be responsible for the Company in which it sponsors, emphasizing the negative impact on the DAD’s reputation for sponsoring Companies that are not of acceptable quality.  In addition to providing advice and counsel to a Company, a DAD is required to conduct investigations to confirm disclosures.  A DAD must submit a Letter of Introduction and subsequent annual letters confirming their duties and the attesting to the disclosures made by the Company.

All International companies that are quoted on the OTCQX must have either an Attorney Principal American Liaison (“PAL”) or an Investment Bank PAL; provided however, if the company’s OTCQX traded security is an ADR, the international company may have an ADR PAL.  All PAL’s must be approved by OTC Markets Group.  A company may appoint a new PAL at any time provided they maintain a PAL at all times.

Application to the OTCQX

All U.S. companies that are quoted on the OTCQX must submit an application and pay an application fee.  The application consists of (i) the contractual agreement with OTCQX for quotation; (ii) personal information for each executive officer, director and beneficial owner of 10% or more of the securities, except for companies already traded on a foreign exchange or moving from a recognized U.S. exchange; (iii) designation of the DAD/PAL or application for same; (iv) appointment form for the DAD/PAL; (v) a letter from the Company’s independent auditor affirming their role and qualifications; and (vi) a digital Company logo.

All international companies that are quoted on the OTCQX must submit an application and pay an application fee.  The application consists of (i) OTCQX application for international companies; (ii) the contractual agreement with OTCQX for international companies; (ii) the OTCQX application fee; (iv) the OTCQX Agreement for international companies; (v) an application for the international company’s desired PAL if such PAL is not already pre-qualified; (vi) an appointment form for the DAD/PAL; and (vii) a copy of the company’s logo in encapsulated postscript (EPS) format.

The application is subject to review and comment by OTC Markets.  OTC Markets may require additional conditions or undertakings prior to admission.  Moreover, the application may be denied if, in the opinion of OTC Markets, trading would be likely to impair the reputation or integrity of OTC Markets Group or be detrimental to the interests of investors.

Initial Disclosure Obligations

A Company must post its initial disclosure documents on the OTC Markets website within 90 days of submission of its application to quote on the OTCQX, and such posting must be confirmed with a notice by the Company DAD/PAL.  The filing of the initial disclosure is a precondition to acceptance of an application for quotation.  Initial disclosure documents include: (i) SEC reports if the Company is subject to the Exchange Act reporting requirements; (ii) current information in accordance with OTC Markets disclosure guidelines including financial statements; and (iii) for International companies not subject to the SEC reporting requirements, all information required to be made public pursuant to Exchange Act Rule 12g3-2(b) for the preceding 24 months, which information must be posted in English.

A Company must supplement and update any changes to the initial disclosure within 30 days of acceptance of its application for quotation.  International companies must follow initial disclosure with a PAL Letter of Introduction.

Requirements for Ongoing Qualification for Quotation on the OTCQX

The following is a summary of the ongoing responsibilities for U.S. OTCQX quoted securities:

  • Compliance with Rules – OTCQX quoted companies must maintain compliance with the OTCQX rules including disclosure requirements.  The Company’s DAD/PAL is responsible for reporting their/its potential conflicts of interest;
  • Compliance with Laws – OTCQX quoted companies must maintain compliance with state and federal securities laws and must cooperate with any securities regulators, including self-regulatory organizations;
  • Blue Sky Manual Exemption – Companies must either properly qualify for a blue sky manual exemption or be subject to and current in their Exchange Act reporting requirements;
  • Retention and Advice of DAD – Companies must have a DAD at all times and are required to seek the advice of such DAD as to their OTCQX obligations;
  • Duty to Inform DAD – As part of its duty to seek advice from its DAD, a Company has an obligation to provide disclosure and information to the DAD, including “complete access to information regarding the Company, including confidential and propriety information” and access to personnel;
  • Notification of Resignation or Dismissal of DAD – A Company must immediately notify OTC Markets in writing of the resignation or dismissal of the DAD for any reason;
  • Payment of Fees – a Company must pay its annual fees to OTC Markets;
  • Sales of Company Securities by Affiliates – Prior to transacting in the Company’s securities through a broker-dealer, each officer, director or other affiliate of the Company shall make its status as an affiliate of the Company known to the broker-dealer;
  • Distribution and Publication of Proxy Statements – An OTCQX U.S. Premier company shall solicit proxies for all meetings of shareholders. Companies not subject to the Exchange Act reporting requirements must publish, on the OTC Markets website, copies of all proxies, proxy statements and all other material mailed by the Company to their shareholders within 15 days of such mailing;
  • Redemption Requirements – All redemptions must be either by lot or pro rata and require 15 days’ notice;
  • Changes in Form or Nature of Securities – All changes in form, nature or rights associated with securities quoted on the OTCQX require 20 days’ advance notice to OTC Markets;
  • Transfer Agent – Companies are required to use the services of a registered transfer agent and authorize such transfer agent to share information with OTC Markets;
  • Accounting Methods – Any change in accounting methods requires advance notice of such change and its impact, to OTC Markets;
  • Change in Auditors – All changes in auditor requires prompt notification and a letter from such auditor analogous to Form 8-K requirements;
  • Responding to OTC Markets Group Requests – OTCQX quoted companies are required to respond to OTC Markets comments and amend filings as necessary in response thereto;
  • Ongoing Disclosure Obligations – (i) Companies subject to the Exchange Act reporting requirements must remain current in such reports; (ii) Companies not subject to the Exchange Act reporting requirements must remain current with the annual, quarterly and current reporting requirements of OTC Markets, including posting annual audited financial statements prepared in accordance with GAAP and audited by a PCAOB auditor; (iii) file a notification of late filing when necessary; (iv) quickly release disclosure of material news and recent developments, whether positive or negative, through a press release on the OTC Markets website; (v) an OTCQX Company should also act promptly to dispel unfounded rumors which result in unusual market activity or price variations;
  • General requirements regarding integrity – OTCQX quoted Companies are expected to act professionally and uphold the OTC Markets standards for “high quality”; and to release news and reports that are prepared factually and accurately with neither excessive puffery or conservatism; companies must not report or act in a way that could be misleading; must not inundate with non-material releases; and must not make misleading premature announcements;
  • Maintain Company Updated Profile – OTCQX quoted companies are required to maintain updated accurate information on their profile page and to verify same every six months;
  • DAD Letter – Within 120 days of each fiscal year end and after the posting of the Company’s annual report, every Company must submit an annual DAD letter;
  • To remain eligible for trading on the OTCQX U.S. tier, the Company’s common stock must have a minimum bid price of $0.10 per share as of the close of business for at least one of every thirty consecutive calendar days.  In the event that the minimum bid price for the Company’s common stock falls below $0.10 per share at the close of business for thirty consecutive calendar days, a grace period of 180 calendar days to regain compliance shall begin, during which the minimum bid price for the Company’s common stock at the close of business must be $0.10 for ten consecutive trading days;
  • To remain eligible for trading on the OTCQX U.S. Premier tier, the Company’s common stock must have a minimum bid price of $1.00 per share as of the close of business for at least one of every thirty consecutive calendar days. In the event that the minimum bid price for the Company’s common stock falls below $1.00 per share at the close of business for thirty consecutive calendar days, a grace period of 180 calendar days to regain compliance shall begin, during which the minimum bid price for the Company’s common stock at the close of business must be $1.00 for ten consecutive trading days. In the event that the Company’s common stock does not regain compliance during the grace period, the Company shall have a fast-track option to have its securities traded on the OTCQX U.S. tier.

The following is a summary of the ongoing responsibilities for OTCQX International quoted securities:

  • Eligibility Criteria – The International company must meet the above eligibility requirements as of the end of each most recent fiscal year;
  • Compliance with Rules – OTCQX quoted companies must maintain compliance with the OTCQX rules, including disclosure requirements.  Officers and directors of the company are responsible for compliance and are solely responsible for the content of information;
  • Compliance with Laws – OTCQX quoted companies must maintain compliance with applicable securities laws of their country of domicile and applicable U.S. federal and state securities laws.  The company must comply with Exchange Act Rule 10b-17 and FINRA rule 6490 regarding notification and processing of corporate actions (such as name changes, splits and dividends).  The company must cooperate with any securities regulators, whether in their country of domicile or in the U.S., including self-regulatory organizations;
  • Blue Sky Manual Exemption – Companies must either properly qualify for a blue sky manual exemption or be subject to and current in their Exchange Act reporting requirements;
  • Retention and Advice of PAL – Companies must have a PAL at all times and are required to seek the advice of such PAL as to their OTCQX obligations;
  • Notification of Resignation or Dismissal of PAL – A company must immediately notify OTC Markets in writing of the resignation or dismissal of the PAL for any reason;
  • Payment of Fees – A company must pay its annual fees to OTC Markets;
  • Responding to OTC Markets Group Requests – OTCQX quoted companies are required to respond to OTC Markets comments and amend filings as necessary in response thereto;
  • Ongoing Disclosure Obligations – (i) Companies subject to the Exchange Act reporting requirements must remain current in such reports; (ii) A company that is not an SEC Reporting Company must remain current and fully compliant in its obligations under Exchange Act Rule 12g3-2(b), if applicable, and in any event shall, on an ongoing basis, post in English through the OTC Disclosure & News Service or an Integrated Newswire, the information required to be made publicly available pursuant to Exchange Act Rule 12g3-2(b); (iii) provide a letter to its PAL at least once a year, no later than 210 days after the fiscal year end, which states that the company (y) continues to satisfy the OTCQX quotation requirements; and (z) is current and compliant in its obligations under Exchange Act Rule 12g3-2(b) and that the information required under such rule is posted, in English, on the OTC Markets website or that the company is subject to the SEC reporting requirements and is current in such reporting requirements;
  • PAL Letter – Within 225 days of each fiscal year end and after the posting of the company’s annual report, every company must submit an annual PAL letter.

Removal from OTCQX International

A company may be removed from the OTCQX if, at any time, it fails to meet the eligibility and continued quotation requirements subject to a 30-day notice and opportunity to address them.  In addition, OTC Markets Group may remove the company’s securities from trading on OTCQX immediately and at any time, without notice, if OTC Markets Group, upon its sole and absolute discretion, believes the continued inclusion of the company’s securities would impair the reputation or integrity of OTC Markets Group or be detrimental to the interests of investors.  In addition, OTC Markets can temporarily suspend trading on the OTCQX pending investigation or further due diligence review.

A company may voluntarily withdraw from the OTCQX with 24 hours’ notice.

Fees

Upon application for quotation on the OTCQX, Companies must pay an initial non-refundable fee of $5,000.  In addition, Companies must pay an annual non-refundable fee of $15,000.

OTCQB

To be eligible to be quoted on the OTCQB, all companies will be required to:

  • Meet a minimum closing bid price on OTC Markets of $.01 for each of the last 30 calendar days;
  • In the event that there is no prior public market and a 15c2-11 application has been submitted to FINRA by a market maker, OTC Markets can waive the bid requirement at its sole discretion;
  • In the event that a Company is a seasoned public issuer that completed a reverse stock split within 6 months prior to applying to the OTCQB, the Company must have a post reverse split minimum bid price of $.01 at the close of business on each of the 5 consecutive trading days immediately before applying to the OTCQB;
  • In the event the Company is moving to the OTCQB from the OTCQX, it must have a minimum closing bid price of $.01 for at least one (1) of the 30 calendar days immediately preceding;
  • Companies may not be subject to bankruptcy or reorganization proceedings the Company’s application;
  • Either be subject to the reporting requirements of the Securities Exchange Act of 1934 and be current in such reporting obligations or, if an international issuer, be eligible to rely on the registration exemption found in Exchange Act Rule 12g-2(b) and be current and compliant in such requirements or be a bank current in its reporting obligations to its bank regulator;
  • Not be in bankruptcy or reorganization proceedings;
  • Be duly organized, validly existing and in good standing under the laws of each jurisdiction in which it is organized and does business;
  • Submit an application and pay an application and annual fee;
  • Maintain a current and accurate company profile on the OTC Markets website;
  • Use an SEC registered transfer agent and authorize the transfer agent to provide information to OTC Markets about the Company securities, including but not limited to, shares authorized, shares issued and outstanding, and share issuance history; and
  • Submit an OTCQB Annual Certification confirming the accuracy of the current company profile and providing information on officers, directors and controlling shareholders.

All companies are required to post their initial disclosure on the OTC Markets website and make an initial certification.  The initial disclosure includes:

  • Confirmation that the Company is current in its SEC reporting obligations and has filed all reports with the SEC, that all financial statements have been prepared in accordance with U.S. GAAP, and that the auditor opinion is not adverse, disclaimed or qualified;
  • International Companies –  (i) Companies subject to the Exchange Act reporting requirements must be current in such reports; (ii) A company that is not an SEC Reporting Company must be current and fully compliant in its obligations under Exchange Act Rule 12g3-2(b), if applicable, and shall have posted in English through the OTC Disclosure & News Service or an Integrated Newswire, the information required to be made publicly available pursuant to Exchange Act Rule 12g3-2(b) for the preceding 24 months (or from inception if less than 24 months); and all financial statements have been prepared in accordance with U.S. GAAP and that the auditor opinion is not adverse, disclaimed or qualified;
  • Verification that the Company profile is current, complete and accurate;

All companies will be required to file an initial and annual certification on the OTC Markets website, signed by the CEO and/or CFO, stating:

  • The company’s reporting standing (i.e., whether SEC reporting, bank reporting or international reporting) and briefly describing the registration status of the company;
  • If the Company is an International Company and relying on 12g3-2(b), that it is current in such obligations;
  • That the company is current in its reporting obligations to its regulator and that such information is available either on EDGAR or the OTC Markets website;
  • States the law firm and/or attorneys that assist the company in preparing its annual report or 10-K;
  • Confirms that the company profile on the OTC Markets website is current and complete;
  • Identifies any third-party providers engaged by the Company, its officers, directors or controlling shareholders, during the prior fiscal year and up to the date of the certification, to provide investor relations services, public relations services, stock promotion services or related services;
  • Confirms the total shares authorized, outstanding and in the public float as of that date; and
  • Names and shareholdings of all officers and directors and shareholders that beneficially own 5% or more of the total outstanding shares, including beneficial ownership of entity shareholders.

An application to OTCQB can be delayed or denied at OTC Markets’ sole discretion if they determine that admission would be likely to impair the reputation or integrity of OTC Markets group or be detrimental to the interests of investors.

Requirements for Bank Reporting Companies

Bank reporting companies must meet all the same requirements as all other OTCQB companies except for the SEC reporting requirements.  Instead, bank reporting companies are required to post their previous two years’ and ongoing yearly disclosure that was and is filed with the company’s bank regulator, on the OTC Markets website.

International Companies

In addition to the same requirements for all issuers as set forth above, foreign issuers must be listed on a Qualified Foreign Exchange and be compliant with SEC Rule 12g3-2(b).  Moreover, a foreign entity must submit a letter of introduction from a qualified PAL which states that the PAL has a reasonable belief that the company is in compliance with SEC Rule 12g3-2(b), is listed on a Qualified Foreign Exchange, and has posted required disclosure on the OTC Markets website.  A foreign entity must post two years’ historical and ongoing quarterly and annual reports, in English, on the OTC Markets website which comply with SEC Rule 12g3-2(b).

Ongoing Requirements

  • U.S. OTCQB companies will be required to remain current in their SEC reporting obligations.
  • A foreign company that is not an SEC Reporting Company must remain current and fully compliant in its obligations under Exchange Act Rule 12g3-2(b), if applicable, and in any event shall, on an ongoing basis, post in English through the OTC Disclosure & News Service or an Integrated Newswire, the information required to be made publicly available pursuant to Exchange Act Rule 12g3-2(b).
  • Banks must remain current in their banking reporting requirements;
  • All OTC Markets posting and reports must be timely filed 45 days following the end of a quarter or 90 days following the end of the fiscal year for US issuers and as soon as practicable but no later than 6 months following the end of the fiscal year end  or 60 days following the end of a quarter for International companies; where applicable, file a notice of late filing allowing for 5 extra days on a quarterly report and 15 extra days on an annual report;
  • All OTCQB companies will be required to post annual certifications on the OTC Markets website;
  • All companies are required to comply with all federal, state, and international securities laws and must cooperate with all securities regulatory agencies;
  • Must pay the annual fee;
  • All companies must respond to OTC Markets inquiries and requests;
  • All companies must maintain an updated company profile on the OTC Markets website and must submit a Company Update Form at least once every six months;
  • All Companies must file interim disclosures in the event the Company undergoes a reverse merger or change of control and make new updated certifications and disclosure related to the new business and control persons;
  • All OTCQB companies must meet the minimum bid price of $.01 per share at the close of business of at least one of the previous thirty (30) consecutive calendar days; in the event that the price falls below $.01, the company will begin a grace period of 180 calendar days to maintain a closing bid price of $.01 for ten consecutive trading days;
  • Use an SEC registered transfer agent and authorize the transfer agent to provide information to OTC Markets about the Company securities, including but not limited to, shares authorized, shares issued and outstanding, and share issuance history.

Officers and directors of the Company are responsible for compliance with the ongoing requirements and the content of all information.  Entities that do not meet the requirements of either OTCQX or OTCQB will be quoted on the OTC Pink.

Fees

Newly applying entities must pay an initial application fee of $2,500, which fee is waived for existing OTCQB entities.  All OTCQB companies will be required to pay an annual fee of $10,000.

Removal/Suspension from OTCQB

A company may be removed from the OTCQB if, at any time, it fails to meet the eligibility and continued quotation requirements subject to a 30-day notice and opportunity to address them.  In addition, OTC Markets Group may remove the company’s securities from trading on OTCQB immediately and at any time, without notice, if OTC Markets Group, upon its sole and absolute discretion, believes the continued inclusion of the company’s securities would impair the reputation or integrity of OTC Markets Group or be detrimental to the interests of investors.

In addition, OTC Markets can temporarily suspend trading on the OTCQB pending investigation or further due diligence review.

A company may voluntarily withdraw from the OTCQB with 24 hours’ notice.

OTC PINK           

The OTC Pink, which includes the highest-risk, highly speculative securities, is further divided into three tiers: Current Information, Limited Information and No Information, based on the level of disclosure and public information made available by the company either through the SEC or posted on OTC Markets.  There are no qualitative standards beyond disclosure for OTC Pink companies, which include companies in all stages of development as well as shell and blank check entities.

Current Information

Companies with Current Information status on OTC Markets include both companies that are subject to and current in their SEC Exchange Act reporting requirements and companies that file current information on OTC Markets in accordance with their Alternative Reporting Standards.  The following minimum disclosure is required to maintain Current Information status:

  • If subject to the Exchange Act reporting requirements, compliance with such reporting requirements will satisfy the financial reporting requirements for Current Information;
  • If not subject to the Exchange Act reporting requirements, a company must post annual financial statements, including a balance sheet, income statement, statement of cash flows and notes to financial statements, for the previous two fiscal years or from inception if the company is less than two years old, which annual report must be filed within 90 days of fiscal year end;
  • If financial statements are audited, the auditor report must be posted (audited financial statements are not required);
  • If the company’s financial statements are not audited, an annual Attorney Letter and Attorney Letter Agreement must be posted within 120 days of fiscal year end;
  • If not subject to the Exchange Act reporting requirements, a company must post quarterly financial statements within 45 days of the end of each fiscal quarter;
  • The company profile page on OTC Markets must be current and accurate;
  • File annual and quarterly reports with narrative information and CEO and CFO certifications that track SEC Rule 15c2-11 disclosures and can be completed using a fillable form available through OTC Markets;
  • A company must file a Form 8-K if SEC reporting or submit a news release within 4 days of any of the following:
  • Entry or Termination of a Material Definitive Agreement

  • Completion of Acquisition or Disposition of Assets, Including but not Limited to Mergers

  • Creation of a Direct Financial Obligation or an Obligation under an Off-Balance Sheet Arrangement of an Issuer

  • Triggering Events That Accelerate or Increase a Direct Financial Obligation or an Obligation under an Off-Balance Sheet Arrangement

  • Costs Associated with Exit or Disposal Activities

  • Material Impairments

  • Sales of Equity Securities

  • Material Modification to Rights of Security Holders

  • Changes in Issuer’s Certifying Accountant

  • Non-Reliance on Previously Issued Financial Statements or a Related Audit Report or Completed Interim Review

  • Changes in Control of Issuer

  • Departure of Directors or Principal Officers; Election of Directors; Appointment of Principal Officers

  • Amendments to Articles of Incorporation or Bylaws; Change in Fiscal Year

  • Amendments to the Issuer’s Code of Ethics, or Waiver of a Provision of the Code of Ethics

  • Other events the issuer considers to be of importance

In addition, to maintain Current information status, a company must subscribe to the OTC Disclosure & News Service with an annual fee of $4,200 and a one-time set-up fee of $500.

Limited Information

Companies with Limited Information status on OTC Markets are delineated by a “yield” sign and post some financial and basic information on the company on the OTC Markets website, but either do not report to the SEC or do not include enough information to satisfy the Current Information requirements.  The following minimum disclosure is required to maintain Limited Information status:

  • Maintain quarterly and annual reports that are no older than 6 months and that include a balance sheet, income statement and total number of issued and outstanding shares;
  • Financial statements must be prepared in accordance with GAAP; and
  • The company profile page on OTC Markets must be current and accurate.

In addition, to maintain Limited information status, a company must subscribe to the OTC Disclosure & News Service with an annual fee of $4,200 and a one-time set-up fee of $500.

No Information

Companies with No Information status on OTC Markets are delineated by a “stop” sign and do not provide any current or updated reliable public disclosure.

OTHER OTC MARKET DESIGNATIONS

Caveat Emptor – Skull and Crossbones  

Companies with a Caveat Emptor designation on OTC Markets are delineated with a skull and crossbones sign.  These companies have raised concerns such as improper or misleading disclosures, spam campaigns, questionable stock promotion, investigation of fraudulent or other criminal activity, regulatory suspensions or disruptive corporate actions.  While labeled with a skull and crossbones, a company that does not have Current Information or is not on the OTCQB will have its quote blocked on the OTC Markets website.

Other OTC or Grey Market

Companies labeled as Other OTC or Grey Market are delineated by a grey yield sign.  These companies do not have a current 15c2-11 and are not eligible for quotation by a market maker or broker-dealer until such time as a 15c2-11 application is made with and accepted by FINRA.

– See more at: http://securities-law-blog.com/2015/02/10/otc-markets-quotation-levels-listing-requirements-and-comprehensive-pubco-criteria/#sthash.LRZUOKLB.dpuf

Securities LawCast©- Legal & Compliance, LLC- OTC Markets Quotation Levels And Listing Criteria

OTC Markets divide issuers into three (3) levels of quotation marketplaces: OTCQX, OTCQB and OTC Pink.  The OTC Pink, which involves the highest-risk, highly speculative securities, is further divided into three tiers: Current Information, Limited Information and No Information.   This blog provides a summary of the listing requirements for each level of quotation on OTC Markets.

 OTCQX

The OTCQX divides its listing criteria between U.S. companies and International companies, though they are very similar.  The OTCQX has two tiers of quotation for U.S. companies: (i) OTCQX U.S. Premier (also eligible to quote on a national exchange); and (ii) OTCQX U.S. and two tiers for International companies: (i) OTCQX International Premier; and (ii) OTCQX International.  Quotation is available for American Depository Receipts (ADR’s) or foreign ordinary securities of companies traded on a Qualifying Foreign Stock Exchange, and an expedited application process is available for such companies.

Issuers on the OTCQX must meet specified eligibility requirements.  Moreover, OTC Markets have the discretionary authority to allow quotation to substantially capitalized acquisition entities that are analogous to SPAC’s.

OTCQX – Requirements for Admission

To be eligible to be quoted on the OTCQX U.S., companies must:

  • Have $2 million in total assets as of the most recent annual or quarter end;
  • As of the most recent fiscal year end have at least one of the following: (i) $2 million in revenues; (ii) $1 million in net tangible assets; (iii) $500,000 in net income; or (iv) $5 million in market value of publicly traded securities;
  • Meet one of the following penny stock exemptions under Rule 3a51-1 of the Exchange Act: (i) have a bid price of $5 or more; or (ii) have net tangible assets of $2 million if the Company has been in continuous operation for at least three years, or $5,000,000 if the Company has been in continuous operation for less than three years which qualification can be satisfied as of the end of a fiscal period or as a result of an interim capital raise; or (iii) have average revenue of at least $6,000,000 for the last three years;
  • Not be a blank check or shell company as defined by the Securities Act of 1933 (“Securities Act”);
  • Not be in bankruptcy or reorganization proceedings;
  • Be in good standing in its state of incorporation and in each state in which it conducts business;
  • Have a minimum of 50 beneficial shareholders owning at least one round lot (100 shares) each;
  • Be quoted by a market maker on the OTC Link;
  • Have a minimum bid price of $0.10 per share for its common stock as of the close of business on each of the 30 consecutive calendar days immediately preceding the Company’s application for OTCQX. If (i) there has been no prior public market for the Company’s securities in the U.S. and (ii) FINRA has approved a Form 211, then the Company may apply to OTC Markets for an exemption from the minimum bid price requirements, which exemption is at the sole discretion of OTC Markets. In the event that the Company is a Seasoned Public Issuer (i.e., has been in operation and quoted on either OTC Link, the OTCBB or an exchange for at least one year) that completed a reverse stock split within 6 months prior to applying for admission to OTCQX U.S., the Company must have a minimum bid price of $0.10 per share for its common stock as of the close of business on each of the 5 consecutive trading days immediately preceding the Company’s application for OTCQX, after the reverse split;
  • Have GAAP compliant (i) audited balance sheets as of the end of each of the two most recent fiscal years, or as of a date within 135 days if the Company has been in existence for less than two fiscal years, and audited statements of income, cash flows and changes in stockholders’ equity for each of the fiscal years immediately preceding the date of each such audited balance sheet (or such shorter period as the Company has been in existence), and must include all going concern disclosures including plans for mitigation; and GAAP compliant (ii) unaudited interim financial reports, including a balance sheet as of the end of the Company’s most recent fiscal quarter, and income statements, statements of changes in stockholders’ equity and statements of cash flows for the interim period up to the date of such balance sheet and the comparable period of the preceding fiscal year; and
  • Be included in a Recognized Securities Manual or be subject to the reporting requirements of the Exchange Act.

To be eligible to be quoted on the OTCQX International, companies must:

  • Have U.S. $2 million in total assets as of the most recent annual or quarter end;
  • As of the most recent fiscal year end, have at least one of the following: (i) U.S. $2 million in revenues; (ii) U.S. $1 million in net tangible assets; (iii) U.S. $500,000 in net income; or (iv) U.S. $5 million in global market capitalization;
  • Meet one of the following penny stock exemptions under Rule 3a51-1 of the Exchange Act: (i) have a bid price of U.S. $5 or more; or (ii) have net tangible assets of U.S. $2 million if the company has been in continuous operation for at least three years, or U.S. $5,000,000 if the company has been in continuous operation for less than three years; or (iii) have average revenue of at least U.S. $6,000,000 for the last three years;
  • Be quoted by a market maker on the OTC Link (which requires a 15c2-11 application if the company is not already quoted on a lower tier of OTC Markets);
  • Not be in bankruptcy or reorganization proceedings;
  • Be included in a Recognized Securities Manual or be subject to the reporting requirements of the Exchange Act;
  • Have its securities listed on a Qualifying Foreign Stock Exchange for a minimum of the preceding 40 calendar days; provided, however, that in the event the company’s securities are listed on a non-U.S. exchange that is not a Qualified Foreign Stock Exchange, then at the company’s request and subsequent to the company providing OTC Markets Group with personal information forms for each executive officer, director, and beneficial owner of 10% or more of a class of the company’s securities and such other materials as OTC Markets Group deems necessary to make an informed determination of eligibility, OTC Markets Group may, upon its sole and absolute discretion, consider the company’s eligibility for OTCQX International;
  • Meet one of the following conditions: (i) be eligible to rely on the registration exemption found in Exchange Act Rule 12g-2(b) and be current and compliant in such requirements; or (ii) have a class of securities registered under Section 12(g) of the Exchange Act and be current in its SEC reporting requirements; or (iii) if such company is not eligible to rely on the exemption from registration provided by Exchange Act Rule 12g3-2(b) because it does not (A) meet the definition of “foreign private issuer” as that term is used in Exchange Act Rule 12g3-2(b) or (B) maintain a primary trading market in a foreign jurisdiction as set forth in Exchange Act Rule 12g3-2(b)(ii), and is not otherwise required to register under Section 12(g), be otherwise current and fully compliant with the obligations of a company relying on the exemption from registration provided by Exchange Act Rule 12g3-2(b).

To be eligible to be quoted on the OTCQX U.S. Premier, companies must:

  • Satisfy all of the eligibility requirements for OTCQX U.S. set forth above;
  • Have (i) At least (a) 500,000 publicly held shares; and (b) $1 million in market value of publicly held shares; and (ii) at least (a) $500,000 in net income (in the latest fiscal year or in two of the last three fiscal years); or (b) $2.5 million in stockholders’ equity; or (c) $35 million in market value of listed securities;
  • Have a minimum of 100 beneficial shareholders owning at least one round lot (100 shares) each;
  • Have a minimum bid price of $1.00 per share for its common stock as of the close of business on each of the 30 consecutive calendar days immediately preceding the Company’s application for OTCQX. If (i) there has been no prior public market for the Company’s securities in the U.S. and (ii) FINRA has approved a Form 211 and (iii) the bid price is equal to or greater than $1.00, then the Company may apply to OTC Markets for an exemption from the 30-day minimum bid price requirements, which exemption is at the sole discretion of OTC Markets. In the event that the Company is a Seasoned Public Issuer (i.e., has been in operations and quoted on either OTC Link, the OTCBB or an exchange for at least one year) that completed a reverse stock split within 6 months prior to applying for admission to OTCQX U.S., the Company must have a minimum bid price of $1.00 per share for its common stock as of the close of business on each of the 5 consecutive trading days immediately preceding the Company’s application for OTCQX, after the reverse split;
  • Conduct annual shareholders’ meetings and submit annual financial reports to its shareholders at least 15 calendar days prior to such meetings.

To be eligible to be quoted on the OTCQX International Premier, companies must:

  • Satisfy all of the eligibility requirements for OTCQX International set forth above;
  • As of its most recent fiscal year end, (i) have (a) revenue of U.S. $100 million; (b) global market capitalization of U.S. $500 million, (c) aggregate cash flow for the three preceding years of U.S. $100 million; and (d) minimum cash flow in each of the two preceding years of $25 million; or (ii) have (a) revenue of U.S. $75 million and (b) global market capitalization of $750 million.

To be eligible to be quoted as an OTCQX U.S. Acquisition Company, companies must:

  • Satisfy all of the eligibility requirements for OTCQX U.S. set forth above;
  • Have $25 million in net tangible assets as of the most recent annual or quarterly year end;
  • Have $10 million in market value of publicly traded securities as of the most recent fiscal year end;
  • Have a minimum bid price of $5.00 per share for its common stock as of the close of business on each of the 30 consecutive calendar days immediately preceding the Company’s application for OTCQX; and
  • Be subject to the reporting requirements of the Exchange Act.

Designated Advisors for Disclosure (“DAD”)/Principal American Liaison (“PAL”)

All U.S. companies that are quoted on the OTCQX must have either an Attorney Designated Advisor for Disclosure (“DAD”) or an Investment Bank DAD.  All DAD’s must be approved by OTCQX after submitting an application.  OTC Markets publishes a list of pre-approved DADs.  A Company may appoint a new DAD at any time, provided that the Company retains an approved DAD at all times.

A DAD’s primary role is to provide advice and guidance to a Company in meeting its OTCQX obligations.  The OTCQX puts a great deal of onus on the DAD to be responsible for the Company in which it sponsors, emphasizing the negative impact on the DAD’s reputation for sponsoring Companies that are not of acceptable quality.  In addition to providing advice and counsel to a Company, a DAD is required to conduct investigations to confirm disclosures.  A DAD must submit a Letter of Introduction and subsequent annual letters confirming their duties and the attesting to the disclosures made by the Company.

All International companies that are quoted on the OTCQX must have either an Attorney Principal American Liaison (“PAL”) or an Investment Bank PAL; provided however, if the company’s OTCQX traded security is an ADR, the international company may have an ADR PAL.  All PAL’s must be approved by OTC Markets Group.  A company may appoint a new PAL at any time provided they maintain a PAL at all times.

Application to the OTCQX

All U.S. companies that are quoted on the OTCQX must submit an application and pay an application fee.  The application consists of (i) the contractual agreement with OTCQX for quotation; (ii) personal information for each executive officer, director and beneficial owner of 10% or more of the securities, except for companies already traded on a foreign exchange or moving from a recognized U.S. exchange; (iii) designation of the DAD/PAL or application for same; (iv) appointment form for the DAD/PAL; (v) a letter from the Company’s independent auditor affirming their role and qualifications; and (vi) a digital Company logo.

All international companies that are quoted on the OTCQX must submit an application and pay an application fee.  The application consists of (i) OTCQX application for international companies; (ii) the contractual agreement with OTCQX for international companies; (ii) the OTCQX application fee; (iv) the OTCQX Agreement for international companies; (v) an application for the international company’s desired PAL if such PAL is not already pre-qualified; (vi) an appointment form for the DAD/PAL; and (vii) a copy of the company’s logo in encapsulated postscript (EPS) format.

The application is subject to review and comment by OTC Markets.  OTC Markets may require additional conditions or undertakings prior to admission.  Moreover, the application may be denied if, in the opinion of OTC Markets, trading would be likely to impair the reputation or integrity of OTC Markets Group or be detrimental to the interests of investors.

Initial Disclosure Obligations

A Company must post its initial disclosure documents on the OTC Markets website within 90 days of submission of its application to quote on the OTCQX, and such posting must be confirmed with a notice by the Company DAD/PAL.  The filing of the initial disclosure is a precondition to acceptance of an application for quotation.  Initial disclosure documents include: (i) SEC reports if the Company is subject to the Exchange Act reporting requirements; (ii) current information in accordance with OTC Markets disclosure guidelines including financial statements; and (iii) for International companies not subject to the SEC reporting requirements, all information required to be made public pursuant to Exchange Act Rule 12g3-2(b) for the preceding 24 months, which information must be posted in English.

A Company must supplement and update any changes to the initial disclosure within 30 days of acceptance of its application for quotation.  International companies must follow initial disclosure with a PAL Letter of Introduction.

Requirements for Ongoing Qualification for Quotation on the OTCQX

The following is a summary of the ongoing responsibilities for U.S. OTCQX quoted securities:

  • Compliance with Rules – OTCQX quoted companies must maintain compliance with the OTCQX rules including disclosure requirements.  The Company’s DAD/PAL is responsible for reporting their/its potential conflicts of interest;
  • Compliance with Laws – OTCQX quoted companies must maintain compliance with state and federal securities laws and must cooperate with any securities regulators, including self-regulatory organizations;
  • Blue Sky Manual Exemption – Companies must either properly qualify for a blue sky manual exemption or be subject to and current in their Exchange Act reporting requirements;
  • Retention and Advice of DAD – Companies must have a DAD at all times and are required to seek the advice of such DAD as to their OTCQX obligations;
  • Duty to Inform DAD – As part of its duty to seek advice from its DAD, a Company has an obligation to provide disclosure and information to the DAD, including “complete access to information regarding the Company, including confidential and propriety information” and access to personnel;
  • Notification of Resignation or Dismissal of DAD – A Company must immediately notify OTC Markets in writing of the resignation or dismissal of the DAD for any reason;
  • Payment of Fees – a Company must pay its annual fees to OTC Markets;
  • Sales of Company Securities by Affiliates – Prior to transacting in the Company’s securities through a broker-dealer, each officer, director or other affiliate of the Company shall make its status as an affiliate of the Company known to the broker-dealer;
  • Distribution and Publication of Proxy Statements – An OTCQX U.S. Premier company shall solicit proxies for all meetings of shareholders. Companies not subject to the Exchange Act reporting requirements must publish, on the OTC Markets website, copies of all proxies, proxy statements and all other material mailed by the Company to their shareholders within 15 days of such mailing;
  • Redemption Requirements – All redemptions must be either by lot or pro rata and require 15 days’ notice;
  • Changes in Form or Nature of Securities – All changes in form, nature or rights associated with securities quoted on the OTCQX require 20 days’ advance notice to OTC Markets;
  • Transfer Agent – Companies are required to use the services of a registered transfer agent and authorize such transfer agent to share information with OTC Markets;
  • Accounting Methods – Any change in accounting methods requires advance notice of such change and its impact, to OTC Markets;
  • Change in Auditors – All changes in auditor requires prompt notification and a letter from such auditor analogous to Form 8-K requirements;
  • Responding to OTC Markets Group Requests – OTCQX quoted companies are required to respond to OTC Markets comments and amend filings as necessary in response thereto;
  • Ongoing Disclosure Obligations – (i) Companies subject to the Exchange Act reporting requirements must remain current in such reports; (ii) Companies not subject to the Exchange Act reporting requirements must remain current with the annual, quarterly and current reporting requirements of OTC Markets, including posting annual audited financial statements prepared in accordance with GAAP and audited by a PCAOB auditor; (iii) file a notification of late filing when necessary; (iv) quickly release disclosure of material news and recent developments, whether positive or negative, through a press release on the OTC Markets website; (v) an OTCQX Company should also act promptly to dispel unfounded rumors which result in unusual market activity or price variations;
  • General requirements regarding integrity – OTCQX quoted Companies are expected to act professionally and uphold the OTC Markets standards for “high quality”; and to release news and reports that are prepared factually and accurately with neither excessive puffery or conservatism; companies must not report or act in a way that could be misleading; must not inundate with non-material releases; and must not make misleading premature announcements;
  • Maintain Company Updated Profile – OTCQX quoted companies are required to maintain updated accurate information on their profile page and to verify same every six months;
  • DAD Letter – Within 120 days of each fiscal year end and after the posting of the Company’s annual report, every Company must submit an annual DAD letter;
  • To remain eligible for trading on the OTCQX U.S. tier, the Company’s common stock must have a minimum bid price of $0.10 per share as of the close of business for at least one of every thirty consecutive calendar days.  In the event that the minimum bid price for the Company’s common stock falls below $0.10 per share at the close of business for thirty consecutive calendar days, a grace period of 180 calendar days to regain compliance shall begin, during which the minimum bid price for the Company’s common stock at the close of business must be $0.10 for ten consecutive trading days;
  • To remain eligible for trading on the OTCQX U.S. Premier tier, the Company’s common stock must have a minimum bid price of $1.00 per share as of the close of business for at least one of every thirty consecutive calendar days. In the event that the minimum bid price for the Company’s common stock falls below $1.00 per share at the close of business for thirty consecutive calendar days, a grace period of 180 calendar days to regain compliance shall begin, during which the minimum bid price for the Company’s common stock at the close of business must be $1.00 for ten consecutive trading days. In the event that the Company’s common stock does not regain compliance during the grace period, the Company shall have a fast-track option to have its securities traded on the OTCQX U.S. tier.

The following is a summary of the ongoing responsibilities for OTCQX International quoted securities:

  • Eligibility Criteria – The International company must meet the above eligibility requirements as of the end of each most recent fiscal year;
  • Compliance with Rules – OTCQX quoted companies must maintain compliance with the OTCQX rules, including disclosure requirements.  Officers and directors of the company are responsible for compliance and are solely responsible for the content of information;
  • Compliance with Laws – OTCQX quoted companies must maintain compliance with applicable securities laws of their country of domicile and applicable U.S. federal and state securities laws.  The company must comply with Exchange Act Rule 10b-17 and FINRA rule 6490 regarding notification and processing of corporate actions (such as name changes, splits and dividends).  The company must cooperate with any securities regulators, whether in their country of domicile or in the U.S., including self-regulatory organizations;
  • Blue Sky Manual Exemption – Companies must either properly qualify for a blue sky manual exemption or be subject to and current in their Exchange Act reporting requirements;
  • Retention and Advice of PAL – Companies must have a PAL at all times and are required to seek the advice of such PAL as to their OTCQX obligations;
  • Notification of Resignation or Dismissal of PAL – A company must immediately notify OTC Markets in writing of the resignation or dismissal of the PAL for any reason;
  • Payment of Fees – A company must pay its annual fees to OTC Markets;
  • Responding to OTC Markets Group Requests – OTCQX quoted companies are required to respond to OTC Markets comments and amend filings as necessary in response thereto;
  • Ongoing Disclosure Obligations – (i) Companies subject to the Exchange Act reporting requirements must remain current in such reports; (ii) A company that is not an SEC Reporting Company must remain current and fully compliant in its obligations under Exchange Act Rule 12g3-2(b), if applicable, and in any event shall, on an ongoing basis, post in English through the OTC Disclosure & News Service or an Integrated Newswire, the information required to be made publicly available pursuant to Exchange Act Rule 12g3-2(b); (iii) provide a letter to its PAL at least once a year, no later than 210 days after the fiscal year end, which states that the company (y) continues to satisfy the OTCQX quotation requirements; and (z) is current and compliant in its obligations under Exchange Act Rule 12g3-2(b) and that the information required under such rule is posted, in English, on the OTC Markets website or that the company is subject to the SEC reporting requirements and is current in such reporting requirements;
  • PAL Letter – Within 225 days of each fiscal year end and after the posting of the company’s annual report, every company must submit an annual PAL letter. 

Removal from OTCQX International

A company may be removed from the OTCQX if, at any time, it fails to meet the eligibility and continued quotation requirements subject to a 30-day notice and opportunity to address them.  In addition, OTC Markets Group may remove the company’s securities from trading on OTCQX immediately and at any time, without notice, if OTC Markets Group, upon its sole and absolute discretion, believes the continued inclusion of the company’s securities would impair the reputation or integrity of OTC Markets Group or be detrimental to the interests of investors.  In addition, OTC Markets can temporarily suspend trading on the OTCQX pending investigation or further due diligence review.

A company may voluntarily withdraw from the OTCQX with 24 hours’ notice.

Fees

Upon application for quotation on the OTCQX, Companies must pay an initial non-refundable fee of $5,000.  In addition, Companies must pay an annual non-refundable fee of $15,000.

OTCQB

To be eligible to be quoted on the OTCQB, all companies will be required to:

  • Meet a minimum closing bid price on OTC Markets of $.01 for each of the last 30 calendar days;
  • In the event that there is no prior public market and a 15c2-11 application has been submitted to FINRA by a market maker, OTC Markets can waive the bid requirement at its sole discretion;
  • In the event that a Company is a seasoned public issuer that completed a reverse stock split within 6 months prior to applying to the OTCQB, the Company must have a post reverse split minimum bid price of $.01 at the close of business on each of the 5 consecutive trading days immediately before applying to the OTCQB;
  • In the event the Company is moving to the OTCQB from the OTCQX, it must have a minimum closing bid price of $.01 for at least one (1) of the 30 calendar days immediately preceding;
  • Companies may not be subject to bankruptcy or reorganization proceedings the Company’s application;
  • Either be subject to the reporting requirements of the Securities Exchange Act of 1934 and be current in such reporting obligations or, if an international issuer, be eligible to rely on the registration exemption found in Exchange Act Rule 12g-2(b) and be current and compliant in such requirements or be a bank current in its reporting obligations to its bank regulator;
  • Not be in bankruptcy or reorganization proceedings;
  • Be duly organized, validly existing and in good standing under the laws of each jurisdiction in which it is organized and does business;
  • Submit an application and pay an application and annual fee;
  • Maintain a current and accurate company profile on the OTC Markets website;
  • Use an SEC registered transfer agent and authorize the transfer agent to provide information to OTC Markets about the Company securities, including but not limited to, shares authorized, shares issued and outstanding, and share issuance history; and
  • Submit an OTCQB Annual Certification confirming the accuracy of the current company profile and providing information on officers, directors and controlling shareholders.

All companies are required to post their initial disclosure on the OTC Markets website and make an initial certification.  The initial disclosure includes:

  • Confirmation that the Company is current in its SEC reporting obligations and has filed all reports with the SEC, that all financial statements have been prepared in accordance with U.S. GAAP, and that the auditor opinion is not adverse, disclaimed or qualified;
  • International Companies –  (i) Companies subject to the Exchange Act reporting requirements must be current in such reports; (ii) A company that is not an SEC Reporting Company must be current and fully compliant in its obligations under Exchange Act Rule 12g3-2(b), if applicable, and shall have posted in English through the OTC Disclosure & News Service or an Integrated Newswire, the information required to be made publicly available pursuant to Exchange Act Rule 12g3-2(b) for the preceding 24 months (or from inception if less than 24 months); and all financial statements have been prepared in accordance with U.S. GAAP and that the auditor opinion is not adverse, disclaimed or qualified;
  • Verification that the Company profile is current, complete and accurate;

All companies will be required to file an initial and annual certification on the OTC Markets website, signed by the CEO and/or CFO, stating:

  • The company’s reporting standing (i.e., whether SEC reporting, bank reporting or international reporting) and briefly describing the registration status of the company;
  • If the Company is an International Company and relying on 12g3-2(b), that it is current in such obligations;
  • That the company is current in its reporting obligations to its regulator and that such information is available either on EDGAR or the OTC Markets website;
  • States the law firm and/or attorneys that assist the company in preparing its annual report or 10-K;
  • Confirms that the company profile on the OTC Markets website is current and complete;
  • Identifies any third-party providers engaged by the Company, its officers, directors or controlling shareholders, during the prior fiscal year and up to the date of the certification, to provide investor relations services, public relations services, stock promotion services or related services;
  • Confirms the total shares authorized, outstanding and in the public float as of that date; and
  • Names and shareholdings of all officers and directors and shareholders that beneficially own 5% or more of the total outstanding shares, including beneficial ownership of entity shareholders.

An application to OTCQB can be delayed or denied at OTC Markets’ sole discretion if they determine that admission would be likely to impair the reputation or integrity of OTC Markets Group or be detrimental to the interests of investors.

Requirements for Bank Reporting Companies

Bank reporting companies must meet all the same requirements as all other OTCQB companies except for the SEC reporting requirements.  Instead, bank reporting companies are required to post their previous two years’ and ongoing yearly disclosure that was and is filed with the company’s bank regulator, on the OTC Markets website.

International Companies

In addition to the same requirements for all issuers as set forth above, foreign issuers must be listed on a Qualified Foreign Exchange and be compliant with SEC Rule 12g3-2(b).  Moreover, a foreign entity must submit a letter of introduction from a qualified PAL which states that the PAL has a reasonable belief that the company is in compliance with SEC Rule 12g3-2(b), is listed on a Qualified Foreign Exchange, and has posted required disclosure on the OTC Markets website.  A foreign entity must post two years’ historical and ongoing quarterly and annual reports, in English, on the OTC Markets website which comply with SEC Rule 12g3-2(b).

Ongoing Requirements

  • U.S. OTCQB companies will be required to remain current in their SEC reporting obligations.
  • A foreign company that is not an SEC Reporting Company must remain current and fully compliant in its obligations under Exchange Act Rule 12g3-2(b), if applicable, and in any event shall, on an ongoing basis, post in English through the OTC Disclosure & News Service or an Integrated Newswire, the information required to be made publicly available pursuant to Exchange Act Rule 12g3-2(b).
  • Banks must remain current in their banking reporting requirements;
  • All OTC Markets posting and reports must be timely filed 45 days following the end of a quarter or 90 days following the end of the fiscal year for US issuers and as soon as practicable but no later than 6 months following the end of the fiscal year end  or 60 days following the end of a quarter for International companies; where applicable, file a notice of late filing allowing for 5 extra days on a quarterly report and 15 extra days on an annual report;
  • All OTCQB companies will be required to post annual certifications on the OTC Markets website;
  • All companies are required to comply with all federal, state, and international securities laws and must cooperate with all securities regulatory agencies;
  • Must pay the annual fee;
  • All companies must respond to OTC Markets inquiries and requests;
  • All companies must maintain an updated company profile on the OTC Markets website and must submit a Company Update Form at least once every six months;
  • All Companies must file interim disclosures in the event the Company undergoes a reverse merger or change of control and make new updated certifications and disclosure related to the new business and control persons;
  • All OTCQB companies must meet the minimum bid price of $.01 per share at the close of business of at least one of the previous thirty (30) consecutive calendar days; in the event that the price falls below $.01, the company will begin a grace period of 180 calendar days to maintain a closing bid price of $.01 for ten consecutive trading days;
  • Use an SEC registered transfer agent and authorize the transfer agent to provide information to OTC Markets about the Company securities, including but not limited to, shares authorized, shares issued and outstanding, and share issuance history.

Officers and directors of the Company are responsible for compliance with the ongoing requirements and the content of all information.  Entities that do not meet the requirements of either OTCQX or OTCQB will be quoted on the OTC Pink.

Fees

Newly applying entities must pay an initial application fee of $2,500, which fee is waived for existing OTCQB entities.  All OTCQB companies will be required to pay an annual fee of $10,000.

Removal/Suspension from OTCQB

A company may be removed from the OTCQB if, at any time, it fails to meet the eligibility and continued quotation requirements subject to a 30-day notice and opportunity to address them.  In addition, OTC Markets Group may remove the company’s securities from trading on OTCQB immediately and at any time, without notice, if OTC Markets Group, upon its sole and absolute discretion, believes the continued inclusion of the company’s securities would impair the reputation or integrity of OTC Markets Group or be detrimental to the interests of investors.

In addition, OTC Markets can temporarily suspend trading on the OTCQB pending investigation or further due diligence review.

A company may voluntarily withdraw from the OTCQB with 24 hours’ notice.

OTC PINK    

The OTC Pink, which includes the highest-risk, highly speculative securities, is further divided into three tiers: Current Information, Limited Information and No Information, based on the level of disclosure and public information made available by the company either through the SEC or posted on OTC Markets.  There are no qualitative standards beyond disclosure for OTC Pink companies, which include companies in all stages of development as well as shell and blank check entities.

Current Information

Companies with Current Information status on OTC Markets include both companies that are subject to and current in their SEC Exchange Act reporting requirements and companies that file current information on OTC Markets in accordance with their Alternative Reporting Standards.  The following minimum disclosure is required to maintain Current Information status:

  • If subject to the Exchange Act reporting requirements, compliance with such reporting requirements will satisfy the financial reporting requirements for Current Information;
  • If not subject to the Exchange Act reporting requirements, a company must post annual financial statements, including a balance sheet, income statement, statement of cash flows and notes to financial statements, for the previous two fiscal years or from inception if the company is less than two years old, which annual report must be filed within 90 days of fiscal year end;
  • If financial statements are audited, the auditor report must be posted (audited financial statements are not required);
  • If the company’s financial statements are not audited, an annual Attorney Letter and Attorney Letter Agreement must be posted within 120 days of fiscal year end;
  • If not subject to the Exchange Act reporting requirements, a company must post quarterly financial statements within 45 days of the end of each fiscal quarter;
  • The company profile page on OTC Markets must be current and accurate;
  • File annual and quarterly reports with narrative information and CEO and CFO certifications that track SEC Rule 15c2-11 disclosures and can be completed using a fillable form available through OTC Markets;
  • A company must file a Form 8-K if SEC reporting or submit a news release within 4 days of any of the following:
    • Entry or Termination of a Material Definitive Agreement
    • Completion of Acquisition or Disposition of Assets, Including but not Limited to Mergers
    • Creation of a Direct Financial Obligation or an Obligation under an Off-Balance Sheet Arrangement of an Issuer
    • Triggering Events That Accelerate or Increase a Direct Financial Obligation or an Obligation under an Off-Balance Sheet Arrangement
    • Costs Associated with Exit or Disposal Activities
    • Material Impairments
    • Sales of Equity Securities
    • Material Modification to Rights of Security Holders
    • Changes in Issuer’s Certifying Accountant
    • Non-Reliance on Previously Issued Financial Statements or a Related Audit Report or Completed Interim Review
    • Changes in Control of Issuer
    • Departure of Directors or Principal Officers; Election of Directors; Appointment of Principal Officers
    • Amendments to Articles of Incorporation or Bylaws; Change in Fiscal Year
    • Amendments to the Issuer’s Code of Ethics, or Waiver of a Provision of the Code of Ethics
    • Other events the issuer considers to be of importance

In addition, to maintain Current information status, a company must subscribe to the OTC Disclosure & News Service with an annual fee of $4,200 and a one-time set-up fee of $500.

Limited Information

Companies with Limited Information status on OTC Markets are delineated by a “yield” sign and post some financial and basic information on the company on the OTC Markets website, but either do not report to the SEC or do not include enough information to satisfy the Current Information requirements.  The following minimum disclosure is required to maintain Limited Information status:

  • Maintain quarterly and annual reports that are no older than 6 months and that include a balance sheet, income statement and total number of issued and outstanding shares;
  • Financial statements must be prepared in accordance with GAAP; and
  • The company profile page on OTC Markets must be current and accurate.

In addition, to maintain Limited information status, a company must subscribe to the OTC Disclosure & News Service with an annual fee of $4,200 and a one-time set-up fee of $500.

No Information

Companies with No Information status on OTC Markets are delineated by a “stop” sign and do not provide any current or updated reliable public disclosure.

Other OTC Market Designations

Cveat Emptor – Skull and Crossbones        

Companies with a Caveat Emptor designation on OTC Markets are delineated with a skull and crossbones sign.  These companies have raised concerns such as improper or misleading disclosures, spam campaigns, questionable stock promotion, and investigation of fraudulent or other criminal activity, regulatory suspensions or disruptive corporate actions.  While labeled with a skull and crossbones, a company that does not have Current Information or is not on the OTCQB will have its quote blocked on the OTC Markets website.

Other OTC or Grey Market

Companies labeled as Other OTC or Grey Market are delineated by a grey yield sign.  These companies do not have a current 15c2-11 and are not eligible for quotation by a market maker or broker-dealer until such time as a 15c2-11 application is made with and accepted by FINRA.

Due to the aforementioned complexities of OTC Listing Requirements, experienced legal counsel is necessary to assist Issuers.

 

Securities LawCast©- Legal & Compliance, LLC- Bringing Delinquent Filers Current.

SEC Delinquent Filers Program

In 2004 the Securities and Exchange Commission (“SEC”) instituted the Delinquent Filers Program and created the Delinquent Filers Branch as part of its Division of Enforcement.  The Delinquent Filers Branch was instituted to encourage publicly traded companies that are delinquent in the filing of their required periodic reports (Forms 10-K and 10-Q) under the Securities Exchange Act of 1934 (“Exchange Act”) to provide investors with accurate financial information upon which to make informed investment decisions. The securities registrations of issuers that fail to make their required periodic filings are subject to suspension or revocation by the SEC and other enforcement proceedings.

Since it was instituted, the SEC Delinquent Filers Branch has suspended the trading and/or revoked the registration of thousands of companies, often in sweeps of large groups of filers in a single day.  Generally, a delinquent filer will receive a letter from the SEC giving the Company 15 days in which to make the filings current, and if such filings were not made current during that time, the SEC would institute administrative proceedings to revoke the registration of the Company’s securities.

Becoming Current

A Company that is delinquent in its reporting requirements has three options to become current in its reporting requirements.  Upon filing the delinquent reports, the Company will satisfy the current information requirement for use of Rule 144 and will satisfy the “filed all reports” requirement for use of Form S-8.

Option A: File All Past Due Exchange Act Reports

This option is fairly self-explanatory; however, a few practice notes are helpful.  In preparing and writing the past due reports, the drafter should complete all the information to the current date of filing the report.  The description of the business and business plans, the names and bios of the officers and directors, and the sale of unregistered securities should be written as of the date of filing—provided, however, that there should be an added section in the MD&A which discusses the financial statements attached to that particular report and addressing that particular period.  Where appropriate, historical information should be disclosed.  So, for example, if the officers and directors have changed, there should be an explanatory disclosure as to the changes and historical information presented, followed by the current officer and director information as of the date of filing.

Accordingly, when completing all past due filings, the bulk of each document will be exactly the same, with the differences consisting of the financial statements, the MD&A section discussing the financial statements for that particular period, and the front page disclosing the date for which the report applies.  Each report must be signed and certified by the current chief executive and accounting officers.

Filing all delinquent reports will not satisfy the requirement that a Company has “timely filed” all periodic reports, but it will satisfy the requirement that the Company has filed all reports required to be filed over the subject period of time.

Option B: Request Permission for and File a Multi-year Comprehensive Form 10-K

A Company desiring to file a multi-year comprehensive Form 10-K must obtain permission from the SEC, which requires a great deal of initial groundwork to demonstrate the ability to file the required report in a timely fashion.  In particular, a Company desiring to file a multi-year comprehensive Form 10-K must submit correspondence to the SEC’s Office of Chief Accountant at the Division of Corporation Finance with extensive detailed information regarding the missing reports and how the company intends to complete the multi-year comprehensive Form 10-K, including the exact financial statements to be included, the date the filing will be made, the auditor that has been retained (it is helpful for the auditor to include a statement that he or she has, in fact, been retained and is engaging in the required services), and any other supportive facts demonstrating the Company’s ability to comply with the request.  This is just a brief summary of the information that must be submitted when requesting the ability to become current using the multi-year comprehensive Form 10-K.

Of course, competent counsel should be retained to either make the submission on the Company’s behalf or assist in the process.  Generally, the SEC responds within 10 days.

As with Option A, the multi-year comprehensive Form 10-K will not satisfy the requirement that a Company has “timely filed” all periodic reports, but it will satisfy the requirement that the Company has filed all reports required to be filed over the subject period of time.  Upon filing the multi-year comprehensive Form 10-K, the Company will satisfy the current information requirement for use of Rule 144 and will satisfy the “filed all reports” requirement for use of Form S-8.

Option C: Terminate Exchange Act Registration by Filing a Form 15 Followed by a Form 10 Registration Statement

If a Company qualifies to do so, they may file a Form 15, terminating its Exchange Act registration and thereby relieving it of the Exchange Act reporting requirements.  To qualify to file a Form 15, a Company currently must either have fewer than 300 shareholders, or fewer than 500 shareholders if it has assets of less than $10 million.

Title V of The JOBS Act amends Section 12(g) and Section 15(d) of the Exchange Act as to threshold shareholder requirements and registration and deregistration requirements such that the shareholder threshold before requiring registration and subsequent reporting with the SEC has been increased from 500 to either (a) 2,000 or more, or (b) 500 or more unaccredited shareholders.  It is expected that the SEC will implement rules to amend Exchange Act Rule 12g-4 to conform with Section 12(g).

A Form 15 does not technically relieve a Company’s obligation to file past due reports (only future reports); however, in practice the SEC does not generally require such filings.

An Issuer that files a Form 15 may thereafter file a new Form 10 registration statement subjecting it to the Exchange Act reporting requirements going forward.  As with all Form 10 registration statements, the Form 10 will include two years of audited financial statements.

Option C is especially attractive to a Company that is in excess of two years delinquent in its reporting requirements and cannot reasonably obtain the records necessary to complete its audits for those years beyond the two-year period.

SEC Filings and Attorneys

Complying with the SEC reporting requirements is highly technical.  Both the Company and individual signing officers are exposed to liability for the contents of such reports.  Accordingly, the assistance of qualified SEC counsel is not only highly recommended, but imperative in this process.

 

Securities LawCast©- Legal & Compliance, LLC- Advantages and Disadvantages of a Reverse Merger Transaction. Part 5 of The Reverse Merger Transaction Series.

The primary advantage of a reverse merger is that it can be completed very quickly.  As long as the private entity has its “ducks in a row,” a reverse merger can be completed as quickly as the attorneys can complete the paperwork.  Having your “ducks in a row” includes having completed audited financial statements for the prior two fiscal years and quarters up to date (or from inception if the company is less than two years old), and having the information that will be necessary to file with the SEC readily available.  The SEC requires that a public company file Form 10 type information on the private entity within four days of completing the reverse merger transaction (a super 8-K).  Upon completion of the reverse merger transaction and filing of the Form 10 information, the once private company is now public.  The reverse merger transaction itself is not a capital-raising transaction, and accordingly, most private entities complete a capital-raising transaction (such as a PIPE) simultaneously with or immediately following the reverse merger, but it is certainly not required.  In addition, many Companies engage in capital restructuring (such as a reverse split) and a name change either prior to or immediately following a reverse merger, but again, it is not required.

There are several disadvantages of a reverse merger.  The primary disadvantage is the restriction on the use of Rule 144 where the public company is or ever has been a shell company.  Rule 144 is unavailable for the use by shareholders of any company that is or was at any time previously a shell company unless certain conditions are met.  In order to use Rule 144, a company must have ceased to be a shell company; be subject to the reporting requirements of section 13 or 15(d) of the Exchange Act; filed all reports and other materials required to be filed by section 13 or 15(d) of the Exchange Act, as applicable, during the preceding 12 months (or for such shorter period that the Issuer was required to file such reports and materials), other than Form 8-K reports; and have filed current “Form 10 information” with the Commission reflecting its status as an entity that is no longer a shell company, then those securities may be sold subject to the requirements of Rule 144 after one year has elapsed from the date that the Issuer filed “Form 10 information” with the SEC.

 

Securities LawCast©- Legal & Compliance, LLC- Going Public Via Reverse Merger. Part 4 of The Reverse Merger Transaction Series.

One of the methods of going public is directly through a public offering.  In today’s financial environment, many Issuers are choosing to self-underwrite their public offerings, commonly referred to as a Direct Public Offering (DPO).  Management of companies considering a going public transaction have a desire to understand the required disclosures and content of a registration statement.  This blog provides that information.

Pursuant to Section 5 of the Securities Act of 1933, as amended (“Securities Act”), it is unlawful to “offer” or “sell” securities without a valid effective registration statement unless an exemption is available.  Companies desiring to offer and sell securities to the public with the intention of creating a public market or going public must file with the SEC and provide prospective investors with a registration statement containing all material information concerning the company and the securities offered.  Currently all domestic Issuers must use either form S-1 or S-3.  Form S-3 is limited to larger filers with a minimum of $75 million in annual revenues, among other requirements.  All other Issuers must use form S-1.

The DPO Regulated Time Periods

There are generally three regulated time periods in a DPO:

(i) the pre-filing period, which begins when the Issuer decides to proceed with an offering.  During this period, counsel prepares the registration statement and prospectus.

(ii)  the waiting or “quiet period,” which is the time from the filing of the registration statement until it is declared effective.  During this time the Issuer can engage in limited marketing (offers only) of the offering through the use of the filed registration statement, which must clearly indicate that it is not the final document (often referred to as a “red herring”).

(iii)  the post-effective period, in which the registration statement is effective and the Issuer can proceed with sales of the securities registered.

In addition to disclosure and regulations related to the offering during all three periods, marketing and public communications of the Issuer are restricted.  See the section “Restrictions on Communications Related to DPO’s” below.

The S-1 In General

There are four primary regulations governing the preparation and filing of Form S-1:

(i)  Regulation C – contains the general requirements for preparing and filing the Form S-1, including within Regulation Care regulations and procedures related to (a) the treatment of confidential information; (b) amending a registration statement prior to effectiveness; (c) procedures to file a post-effective amendment; and (d) the “plain English” rule.

(ii)  Regulation S-T – requires that all registration statements, exhibits and documents be electronically filed through the SEC’s EDGAR system.

(iv)  Regulation S-K – sets forth, in detail, all the disclosure requirements for all the sections of the S-1.  Regulation S-K is the who, what, where, when and how requirements to complete the S-1.

(v)  Regulation S-X – sets forth the requirements with respect to the form and content of financial statements to be filed with the SEC.  Regulation S-X includes general rules applicable to the preparation of all financial statements and specific rules pertaining to particular industries and types of businesses.

The S-1 In particular

The format of the S-1 is as follows: (i) cover page; (ii) Part I (the prospectus); (iii) Part II (supplemental disclosure); (iv) undertakings; (v) signatures and powers of attorney; (vi) consents; and (vii) exhibits.

Cover Page

The cover page of a Form S-1 is required to set out the following basic information about the Issuer and the offering: (i) the Issuer’s exact legal name; (ii) the Issuer’s state of incorporation; (iii) the Issuer’s SIC code; (iv) the Issuer’s tax ID number; (v) the address and telephone number of the Issuer’s principal executive offices and of its agent for service of process; (vi) the maximum amount of securities proposed to be offered and amount of registration fee; (vii) the approximate date of commencement of the offering; and (viii) whether any of the securities are being registered “on the shelf” pursuant to Rule 415.

The Prospectus – Part I of the Form S-1

Part I of the Form S-1 contains line items specifying required information by referencing the appropriate sections of Regulations S-K and S-X.  The following is a brief description of each of the items required in Part 1 of Form S-1.

Description of Business, Properties and Legal Proceedings (Items 101 – 103 of Reg. S-K)

Item 101 of Regulation S-K requires a description of the business over the prior 5 years (or 3 years for small public companies) or from inception as appropriate.  Item 101 sets forth a list of required information (including, for example, year and state of incorporation; products and services; sources of raw materials; environmental issues; government regulations, research and development and number of employees).  In addition, parts of Item 101 require discussion of future plans—for example, plans for expansion or increase in employees.  Item 101 also requires a description of the Issuer’s competitors specifically and in the industry in general.  This paragraph is a brief summary and examples of only a few of the numerous items that must be specifically disclosed and discussed in accordance with Item 101.

Item 102 of Regulation S-K requires that the Issuer set forth the location and general character of the physical properties of the Issuer, including how titled and a description of any liens, mortgages or encumbrances.

Item 103 of Regulation S-K requires that the Issuer disclose any pending or contemplated legal proceedings, including specifically required information about these proceedings.  An Issuer need not disclose legal proceedings in the ordinary course of its business.

Securities (Items 201 and 202 of Regulation S-K)

Items 201 and 202 require a description of the securities being offered as well as past and future information regarding these securities and all of the Issuer’s outstanding securities, including, for example, prior market and pricing activity, rights and preferences, outstanding warrants, and dividends.

Financial Information (Items 301-305 of Regulation S-K)

Small Issuers are not required to make disclosure under Items 301 and 302, which require that the Issuer provide a summary of financial data that is contained in the financial statements.  All Issuers are required to provide disclosure under Item 303: Management Discussion and Analysis of Financial Condition and Results of Operation (MD&A).  MD&A often makes up the bulk of narrative discussion in a registration statement and is arguably the most important portion of the registration statement for investors to understand the Issuer and its management plans.  A detailed discussion of the requirements of this section could fill up multiple blogs on this topic alone.  However, very briefly, MD&A requires discussion of key financial elements and changes in those items over the prior 12 months.  For example, MD&A would disclose revenues for the current term and prior year and explain why that number increased or decreased (i.e., the company may have expanded or cut back on its sales force).  In addition, MD&A requires a detailed discussion of the Issuer’s future plans and the costs and intended source of financing for those plans.  An Issuer cannot simply state that it plans to open 10 new locations, but instead would be required to provide details as to where those locations were, what progress (if any) had been made towards the plan, the costs of the plan and where the money is going to come from.

MD&A requires discussion regarding liquidity and capital resources.  This would include breaking out balances owed or owing on various obligations and sources and uses of funds for 12-, 24- and 36-month periods.  MD&A requires a discussion of the industry and competition, both generally and as may specifically affect the Issuer.  Again, this is a very brief outline of MD&A.

Management and Certain Security Holders (Items 401-404 of Regulation S-K)              

Items 401 through 404 of Regulation S-K require disclosure of certain information regarding directors, executive officers, key employees and those that own 5% or more of the outstanding securities of the Issuer.  Item 401 requires the Issuer to disclose certain biographical information about officers, directors and key employees.  This information includes 5 years of business background, name, age, familial relationships among other disclosed individuals, related party transactions, and involvement in certain legal proceeding over the prior 10 years (such as convictions of crimes, governmental enforcement actions, and involvement in bankruptcies).  Item 402 requires disclosure of executive compensation, including that which is past, current and obligated in the future.  Item 403 requires disclosure of the legal and beneficial ownership of executive officers, directors and 5%-or-more shareholders. Item 404 requires disclosure of financial related party transactions.

Registration Statement and Prospectus Provisions (Item 501-512 of Regulation S-K)

Items 501-512 (often referred to as standardized items) require different disclosures and information throughout the Form S-1, including specific information on the front and back covers and throughout the Form S-1.  Examples include how the offering price was determined (Item 505), risk factors (Item 503), use of proceeds (Item 504), dilution (Item 506), disclosure of selling security holders if a secondary offering (Item 507), plan of distribution (Item 508), experts (Item 509), offering expenses (Item 511), and undertakings (Item 512).

Part II of the Form S-1

Part II of the Form S-1 registration statement contains supplemental information and formal legal requirements.  Part II contains the financial information, sales and issuances of unregistered securities and legal information regarding the exemptions relied upon in making such sales and issuances and information regarding the exhibits attached to the S-1.  In addition, a list of exhibits is included in Part II.

Regulation S-X sets forth the form, content and requirements as to the financial statements that must be reviewed and audited by a PCAOB-licensed accounting firm.

Item 601 of Regulation S-K lists required exhibits that must be filed with a Form S-1 (for example, original articles of incorporation and all amendments thereto, material contracts, auditor consent letter, legal opinion, etc.).  These exhibits must be filed with the S-1 and become available for public review.

All registration statements must be written in “plain English” as opposed to legalese or industry terminology.  The plain English rule requires that the registration statement be written using the following English grammatical principles:  active voice; short sentences; definite, concrete, everyday words; tabular presentations of financial information and other applicable data; bullet lists for complex and material data, whenever possible; avoidance of legal jargon; avoidance of highly technical business terms; and no multiple negatives.  The SEC enforces the plain English rule and will not hesitate to ask that paragraphs or sections be rewritten.

The Filing and Comment Process

Once the Form S-1 is filed with the SEC, using the EDGAR and XBRL requirements, the SEC will let the Issuer know if the S-1 will be reviewed (they usually are).  The SEC assigns a team, including both a legal and an accounting expert, to review the document and provide comments to the Issuer.  The Issuer then prepares and files an amendment to the S-1 making the changes and addressing the comments requested by the SEC, and prepares and files a responsive letter which sets forth written direct answers to each of the comments.  The comment process can, at times, be arduous and repetitive; however, the Issuer should realize that it is all just part of the process.  When the comments are addressed to the satisfaction of the SEC, the Issuer can request and the SEC will issue an order allowing the registration statement to go effective.

The Sale Process

Once the S-1 goes effective, the issuing company can proceed with the sale process.  A sale is completed much the same way as in a private offering.  That is, an investor executes a subscription agreement and pays for the securities, which are then issued to the investor by the transfer agent.

Restrictions on Communications Related to DPO’s

The Pre-Filing Period

”Gun jumping” is the dissemination of information regarding the Issuer before a complete prospectus has been filed with the SEC.  Communications prior, during and immediately following the filing of a registration statement are strictly regulated to prevent an Issuer from hyping the market in association with an offering.  In addition, the SEC wants to ensure that investors’ decisions to participate in an offering are based on information that has been reviewed by the SEC and meet the disclosure standards set forth in the securities laws.

During the pre-filing period, Section 5(c) of the Securities Act of 1933, as amended (the “Securities Act”) makes it “unlawful for any person, directly or indirectly, to… offer to sell or offer to buy… any security, unless a registration statement has been filed as to such security.”  An offer to sell or offer to buy are broadly defined to include every attempt or offer to dispose of a security for value, including any effort to simulate investor interest in such security.

Moreover, the SEC considers all communications with the public as potential gunjumping violations.  A famous example is associated with the IPO of Google, Inc.  In a pre-IPO interview with founders Sergey Brin and Larry Page, published in Playboy magazine, Brin and Page made favorable comments about Google – of course.  The interview did not include any mention of the offering or the securities of the company.  Moreover, the statements appeared innocuous, including such generalities as “people use Google because they trust us.”

The SEC determined that the interview resulted in gunjumping and required Google to:  (1) revise its prospectus to include a risk factor warning that the Playboy interview may have violated Section 5; (2) include the full text of the Playboy article in the prospectus (thus subjecting its contents to the strict liability standards for the truth and accuracy of information filed with the SEC); and (3) address certain discrepancies between statistics in the article and in the prospectus.

In Google and several other cases, the SEC has found that gunjumping is any information that is not contained in the prospectus and that could stimulate investors’ interest.  In addition to requiring revisions to a prospectus, as a result of gunjumping, the SEC can require an Issuer to offer to buy back its already issued stock or to delay an offering to allow a cooling-off period, or can initiate enforcement proceedings seeking both injunctive and monetary penalties.

There are exceptions and safe harbors to the gunjumping prohibition.  Rule 135 of the Securities Act allows for limited notices of proposed offerings.  The notice must clearly indicate that it is not an offer to buy or sell securities.  The content of the notice is limited to: (i) the name of the Issuer; (ii) intention to make a public offering; (iii) amount and type of security and basic terms of the offering; (iv) anticipated timing of the offering; (v) whether the offering is limited to a certain class of investors (such as only accredited or only existing security holders); and (vi) any other required statement required by a certain state or foreign governmental body.

Rule 163A of the Securities Act provides a thirty (30)-day safe harbor for communications made at least 30 days prior to the filing of a registration statement and in which communications do not mention or refer to the proposed offering.

Rule 169 allows an Issuer to continue with the release of regular factual information in the ordinary course of business related to the goods and services of the company.  The communications cannot mention the offering or securities of the company and cannot contain forward looking statements regarding the company.

Rules 137, 138 and 139 address communications by or to broker-dealers.  Basically, communications and negotiations between a potential underwriter or participating broker-dealer and an Issuer, as long as they are confidential, will not be deemed gunjumping.

The Waiting or Quiet Period

The waiting period of an offering is the time following the filing of a registration statement with the SEC and its being declared effective.  Oral offers to sell and certain limited communications are allowed during this time, though no sales may be consummated until after the prospectus is declared effective.  Moreover, no communications may be made that go beyond the contents of the prospectus as set forth above.

Finally, the quiet period is the time following the effectiveness of a registration statement and is generally considered to be 30 days.  As investors may still be buying into an IPO for this period, Company communications are limited to the contents of the prospectus, updates filed with the SEC, and communications regarding products in the ordinary course of business.

 

 

Securities LawCast©- Legal & Compliance, LLC- Valuation of a Reverse Merger. Going public via a reverse merger. Part 3 of The Reverse Merger Transaction Series.

One of the methods of going public is directly through a public offering.  In today’s financial environment, many Issuers are choosing to self-underwrite their public offerings, commonly referred to as a Direct Public Offering (DPO).  Management of companies considering a going public transaction have a desire to understand the required disclosures and content of a registration statement.  This blog provides that information.

Pursuant to Section 5 of the Securities Act of 1933, as amended (“Securities Act”), it is unlawful to “offer” or “sell” securities without a valid effective registration statement unless an exemption is available.  Companies desiring to offer and sell securities to the public with the intention of creating a public market or going public must file with the SEC and provide prospective investors with a registration statement containing all material information concerning the company and the securities offered.  Currently all domestic Issuers must use either form S-1 or S-3.  Form S-3 is limited to larger filers with a minimum of $75 million in annual revenues, among other requirements.  All other Issuers must use form S-1.

The DPO Regulated Time Periods

There are generally three regulated time periods in a DPO:

(i) the pre-filing period, which begins when the Issuer decides to proceed with an offering.  During this period, counsel prepares the registration statement and prospectus.

(ii)  the waiting or “quiet period,” which is the time from the filing of the registration statement until it is declared effective.  During this time the Issuer can engage in limited marketing (offers only) of the offering through the use of the filed registration statement, which must clearly indicate that it is not the final document (often referred to as a “red herring”).

(iii)  the post-effective period, in which the registration statement is effective and the Issuer can proceed with sales of the securities registered.

In addition to disclosure and regulations related to the offering during all three periods, marketing and public communications of the Issuer are restricted.  See the section “Restrictions on Communications Related to DPO’s” below.

The S-1 In General

There are four primary regulations governing the preparation and filing of Form S-1:

(i)  Regulation C – contains the general requirements for preparing and filing the Form S-1, including within Regulation Care regulations and procedures related to (a) the treatment of confidential information; (b) amending a registration statement prior to effectiveness; (c) procedures to file a post-effective amendment; and (d) the “plain English” rule.

(ii)  Regulation S-T – requires that all registration statements, exhibits and documents be electronically filed through the SEC’s EDGAR system.

(iv)  Regulation S-K – sets forth, in detail, all the disclosure requirements for all the sections of the S-1.  Regulation S-K is the who, what, where, when and how requirements to complete the S-1.

(v)  Regulation S-X – sets forth the requirements with respect to the form and content of financial statements to be filed with the SEC.  Regulation S-X includes general rules applicable to the preparation of all financial statements and specific rules pertaining to particular industries and types of businesses.

The S-1 In particular

The format of the S-1 is as follows: (i) cover page; (ii) Part I (the prospectus); (iii) Part II (supplemental disclosure); (iv) undertakings; (v) signatures and powers of attorney; (vi) consents; and (vii) exhibits.

Cover Page

The cover page of a Form S-1 is required to set out the following basic information about the Issuer and the offering: (i) the Issuer’s exact legal name; (ii) the Issuer’s state of incorporation; (iii) the Issuer’s SIC code; (iv) the Issuer’s tax ID number; (v) the address and telephone number of the Issuer’s principal executive offices and of its agent for service of process; (vi) the maximum amount of securities proposed to be offered and amount of registration fee; (vii) the approximate date of commencement of the offering; and (viii) whether any of the securities are being registered “on the shelf” pursuant to Rule 415.

The Prospectus – Part I of the Form S-1

Part I of the Form S-1 contains line items specifying required information by referencing the appropriate sections of Regulations S-K and S-X.  The following is a brief description of each of the items required in Part 1 of Form S-1.

Description of Business, Properties and Legal Proceedings (Items 101 – 103 of Reg. S-K)

Item 101 of Regulation S-K requires a description of the business over the prior 5 years (or 3 years for small public companies) or from inception as appropriate.  Item 101 sets forth a list of required information (including, for example, year and state of incorporation; products and services; sources of raw materials; environmental issues; government regulations, research and development and number of employees).  In addition, parts of Item 101 require discussion of future plans—for example, plans for expansion or increase in employees.  Item 101 also requires a description of the Issuer’s competitors specifically and in the industry in general.  This paragraph is a brief summary and examples of only a few of the numerous items that must be specifically disclosed and discussed in accordance with Item 101.

Item 102 of Regulation S-K requires that the Issuer set forth the location and general character of the physical properties of the Issuer, including how titled and a description of any liens, mortgages or encumbrances.

Item 103 of Regulation S-K requires that the Issuer disclose any pending or contemplated legal proceedings, including specifically required information about these proceedings.  An Issuer need not disclose legal proceedings in the ordinary course of its business.

Securities (Items 201 and 202 of Regulation S-K)

Items 201 and 202 require a description of the securities being offered as well as past and future information regarding these securities and all of the Issuer’s outstanding securities, including, for example, prior market and pricing activity, rights and preferences, outstanding warrants, and dividends.

Financial Information (Items 301-305 of Regulation S-K)

Small Issuers are not required to make disclosure under Items 301 and 302, which require that the Issuer provide a summary of financial data that is contained in the financial statements.  All Issuers are required to provide disclosure under Item 303: Management Discussion and Analysis of Financial Condition and Results of Operation (MD&A).  MD&A often makes up the bulk of narrative discussion in a registration statement and is arguably the most important portion of the registration statement for investors to understand the Issuer and its management plans.  A detailed discussion of the requirements of this section could fill up multiple blogs on this topic alone.  However, very briefly, MD&A requires discussion of key financial elements and changes in those items over the prior 12 months.  For example, MD&A would disclose revenues for the current term and prior year and explain why that number increased or decreased (i.e., the company may have expanded or cut back on its sales force).  In addition, MD&A requires a detailed discussion of the Issuer’s future plans and the costs and intended source of financing for those plans.  An Issuer cannot simply state that it plans to open 10 new locations, but instead would be required to provide details as to where those locations were, what progress (if any) had been made towards the plan, the costs of the plan and where the money is going to come from.

MD&A requires discussion regarding liquidity and capital resources.  This would include breaking out balances owed or owing on various obligations and sources and uses of funds for 12-, 24- and 36-month periods.  MD&A requires a discussion of the industry and competition, both generally and as may specifically affect the Issuer.  Again, this is a very brief outline of MD&A.

Management and Certain Security Holders (Items 401-404 of Regulation S-K)              

Items 401 through 404 of Regulation S-K require disclosure of certain information regarding directors, executive officers, key employees and those that own 5% or more of the outstanding securities of the Issuer.  Item 401 requires the Issuer to disclose certain biographical information about officers, directors and key employees.  This information includes 5 years of business background, name, age, familial relationships among other disclosed individuals, related party transactions, and involvement in certain legal proceeding over the prior 10 years (such as convictions of crimes, governmental enforcement actions, and involvement in bankruptcies).  Item 402 requires disclosure of executive compensation, including that which is past, current and obligated in the future.  Item 403 requires disclosure of the legal and beneficial ownership of executive officers, directors and 5%-or-more shareholders. Item 404 requires disclosure of financial related party transactions.

Registration Statement and Prospectus Provisions (Item 501-512 of Regulation S-K)

Items 501-512 (often referred to as standardized items) require different disclosures and information throughout the Form S-1, including specific information on the front and back covers and throughout the Form S-1.  Examples include how the offering price was determined (Item 505), risk factors (Item 503), use of proceeds (Item 504), dilution (Item 506), disclosure of selling security holders if a secondary offering (Item 507), plan of distribution (Item 508), experts (Item 509), offering expenses (Item 511), and undertakings (Item 512).

Part II of the Form S-1

Part II of the Form S-1 registration statement contains supplemental information and formal legal requirements.  Part II contains the financial information, sales and issuances of unregistered securities and legal information regarding the exemptions relied upon in making such sales and issuances and information regarding the exhibits attached to the S-1.  In addition, a list of exhibits is included in Part II.

Regulation S-X sets forth the form, content and requirements as to the financial statements that must be reviewed and audited by a PCAOB-licensed accounting firm.

Item 601 of Regulation S-K lists required exhibits that must be filed with a Form S-1 (for example, original articles of incorporation and all amendments thereto, material contracts, auditor consent letter, legal opinion, etc.).  These exhibits must be filed with the S-1 and become available for public review.

All registration statements must be written in “plain English” as opposed to legalese or industry terminology.  The plain English rule requires that the registration statement be written using the following English grammatical principles:  active voice; short sentences; definite, concrete, everyday words; tabular presentations of financial information and other applicable data; bullet lists for complex and material data, whenever possible; avoidance of legal jargon; avoidance of highly technical business terms; and no multiple negatives.  The SEC enforces the plain English rule and will not hesitate to ask that paragraphs or sections be rewritten.

The Filing and Comment Process

Once the Form S-1 is filed with the SEC, using the EDGAR and XBRL requirements, the SEC will let the Issuer know if the S-1 will be reviewed (they usually are).  The SEC assigns a team, including both a legal and an accounting expert, to review the document and provide comments to the Issuer.  The Issuer then prepares and files an amendment to the S-1 making the changes and addressing the comments requested by the SEC, and prepares and files a responsive letter which sets forth written direct answers to each of the comments.  The comment process can, at times, be arduous and repetitive; however, the Issuer should realize that it is all just part of the process.  When the comments are addressed to the satisfaction of the SEC, the Issuer can request and the SEC will issue an order allowing the registration statement to go effective.

The Sale Process

Once the S-1 goes effective, the issuing company can proceed with the sale process.  A sale is completed much the same way as in a private offering.  That is, an investor executes a subscription agreement and pays for the securities, which are then issued to the investor by the transfer agent.

Restrictions on Communications Related to DPO’s

The Pre-Filing Period

”Gun jumping” is the dissemination of information regarding the Issuer before a complete prospectus has been filed with the SEC.  Communications prior, during and immediately following the filing of a registration statement are strictly regulated to prevent an Issuer from hyping the market in association with an offering.  In addition, the SEC wants to ensure that investors’ decisions to participate in an offering are based on information that has been reviewed by the SEC and meet the disclosure standards set forth in the securities laws.

During the pre-filing period, Section 5(c) of the Securities Act of 1933, as amended (the “Securities Act”) makes it “unlawful for any person, directly or indirectly, to… offer to sell or offer to buy… any security, unless a registration statement has been filed as to such security.”  An offer to sell or offer to buy are broadly defined to include every attempt or offer to dispose of a security for value, including any effort to simulate investor interest in such security.

Moreover, the SEC considers all communications with the public as potential gunjumping violations.  A famous example is associated with the IPO of Google, Inc.  In a pre-IPO interview with founders Sergey Brin and Larry Page, published in Playboy magazine, Brin and Page made favorable comments about Google – of course.  The interview did not include any mention of the offering or the securities of the company.  Moreover, the statements appeared innocuous, including such generalities as “people use Google because they trust us.”

The SEC determined that the interview resulted in gunjumping and required Google to:  (1) revise its prospectus to include a risk factor warning that the Playboy interview may have violated Section 5; (2) include the full text of the Playboy article in the prospectus (thus subjecting its contents to the strict liability standards for the truth and accuracy of information filed with the SEC); and (3) address certain discrepancies between statistics in the article and in the prospectus.

In Google and several other cases, the SEC has found that gunjumping is any information that is not contained in the prospectus and that could stimulate investors’ interest.  In addition to requiring revisions to a prospectus, as a result of gunjumping, the SEC can require an Issuer to offer to buy back its already issued stock or to delay an offering to allow a cooling-off period, or can initiate enforcement proceedings seeking both injunctive and monetary penalties.

There are exceptions and safe harbors to the gunjumping prohibition.  Rule 135 of the Securities Act allows for limited notices of proposed offerings.  The notice must clearly indicate that it is not an offer to buy or sell securities.  The content of the notice is limited to: (i) the name of the Issuer; (ii) intention to make a public offering; (iii) amount and type of security and basic terms of the offering; (iv) anticipated timing of the offering; (v) whether the offering is limited to a certain class of investors (such as only accredited or only existing security holders); and (vi) any other required statement required by a certain state or foreign governmental body.

Rule 163A of the Securities Act provides a thirty (30)-day safe harbor for communications made at least 30 days prior to the filing of a registration statement and in which communications do not mention or refer to the proposed offering.

Rule 169 allows an Issuer to continue with the release of regular factual information in the ordinary course of business related to the goods and services of the company.  The communications cannot mention the offering or securities of the company and cannot contain forward looking statements regarding the company.

Rules 137, 138 and 139 address communications by or to broker-dealers.  Basically, communications and negotiations between a potential underwriter or participating broker-dealer and an Issuer, as long as they are confidential, will not be deemed gunjumping.

The Waiting or Quiet Period

The waiting period of an offering is the time following the filing of a registration statement with the SEC and its being declared effective.  Oral offers to sell and certain limited communications are allowed during this time, though no sales may be consummated until after the prospectus is declared effective.  Moreover, no communications may be made that go beyond the contents of the prospectus as set forth above.

Finally, the quiet period is the time following the effectiveness of a registration statement and is generally considered to be 30 days.  As investors may still be buying into an IPO for this period, Company communications are limited to the contents of the prospectus, updates filed with the SEC, and communications regarding products in the ordinary course of business.

Securities LawCast©- Legal & Compliance, LLC- The process of a Reverse Merger Transaction. Part 2 of The Reverse Merger Transaction Series.

One of the methods of going public is directly through a public offering.  In today’s financial environment, many Issuers are choosing to self-underwrite their public offerings, commonly referred to as a Direct Public Offering (DPO).  Management of companies considering a going public transaction have a desire to understand the required disclosures and content of a registration statement.  This blog provides that information.

Pursuant to Section 5 of the Securities Act of 1933, as amended (“Securities Act”), it is unlawful to “offer” or “sell” securities without a valid effective registration statement unless an exemption is available.  Companies desiring to offer and sell securities to the public with the intention of creating a public market or going public must file with the SEC and provide prospective investors with a registration statement containing all material information concerning the company and the securities offered.  Currently all domestic Issuers must use either form S-1 or S-3.  Form S-3 is limited to larger filers with a minimum of $75 million in annual revenues, among other requirements.  All other Issuers must use form S-1.

The DPO Regulated Time Periods

There are generally three regulated time periods in a DPO:

(i) the pre-filing period, which begins when the Issuer decides to proceed with an offering.  During this period, counsel prepares the registration statement and prospectus.

(ii)  the waiting or “quiet period,” which is the time from the filing of the registration statement until it is declared effective.  During this time the Issuer can engage in limited marketing (offers only) of the offering through the use of the filed registration statement, which must clearly indicate that it is not the final document (often referred to as a “red herring”).

(iii)  the post-effective period, in which the registration statement is effective and the Issuer can proceed with sales of the securities registered.

In addition to disclosure and regulations related to the offering during all three periods, marketing and public communications of the Issuer are restricted.  See the section “Restrictions on Communications Related to DPO’s” below.

The S-1 In General

There are four primary regulations governing the preparation and filing of Form S-1:

(i)  Regulation C – contains the general requirements for preparing and filing the Form S-1, including within Regulation Care regulations and procedures related to (a) the treatment of confidential information; (b) amending a registration statement prior to effectiveness; (c) procedures to file a post-effective amendment; and (d) the “plain English” rule.

(ii)  Regulation S-T – requires that all registration statements, exhibits and documents be electronically filed through the SEC’s EDGAR system.

(iv)  Regulation S-K – sets forth, in detail, all the disclosure requirements for all the sections of the S-1.  Regulation S-K is the who, what, where, when and how requirements to complete the S-1.

(v)  Regulation S-X – sets forth the requirements with respect to the form and content of financial statements to be filed with the SEC.  Regulation S-X includes general rules applicable to the preparation of all financial statements and specific rules pertaining to particular industries and types of businesses.

The S-1 In particular

The format of the S-1 is as follows: (i) cover page; (ii) Part I (the prospectus); (iii) Part II (supplemental disclosure); (iv) undertakings; (v) signatures and powers of attorney; (vi) consents; and (vii) exhibits.

Cover Page

The cover page of a Form S-1 is required to set out the following basic information about the Issuer and the offering: (i) the Issuer’s exact legal name; (ii) the Issuer’s state of incorporation; (iii) the Issuer’s SIC code; (iv) the Issuer’s tax ID number; (v) the address and telephone number of the Issuer’s principal executive offices and of its agent for service of process; (vi) the maximum amount of securities proposed to be offered and amount of registration fee; (vii) the approximate date of commencement of the offering; and (viii) whether any of the securities are being registered “on the shelf” pursuant to Rule 415.

The Prospectus – Part I of the Form S-1

Part I of the Form S-1 contains line items specifying required information by referencing the appropriate sections of Regulations S-K and S-X.  The following is a brief description of each of the items required in Part 1 of Form S-1.

Description of Business, Properties and Legal Proceedings (Items 101 – 103 of Reg. S-K)

Item 101 of Regulation S-K requires a description of the business over the prior 5 years (or 3 years for small public companies) or from inception as appropriate.  Item 101 sets forth a list of required information (including, for example, year and state of incorporation; products and services; sources of raw materials; environmental issues; government regulations, research and development and number of employees).  In addition, parts of Item 101 require discussion of future plans—for example, plans for expansion or increase in employees.  Item 101 also requires a description of the Issuer’s competitors specifically and in the industry in general.  This paragraph is a brief summary and examples of only a few of the numerous items that must be specifically disclosed and discussed in accordance with Item 101.

Item 102 of Regulation S-K requires that the Issuer set forth the location and general character of the physical properties of the Issuer, including how titled and a description of any liens, mortgages or encumbrances.

Item 103 of Regulation S-K requires that the Issuer disclose any pending or contemplated legal proceedings, including specifically required information about these proceedings.  An Issuer need not disclose legal proceedings in the ordinary course of its business.

Securities (Items 201 and 202 of Regulation S-K)

Items 201 and 202 require a description of the securities being offered as well as past and future information regarding these securities and all of the Issuer’s outstanding securities, including, for example, prior market and pricing activity, rights and preferences, outstanding warrants, and dividends.

Financial Information (Items 301-305 of Regulation S-K)

Small Issuers are not required to make disclosure under Items 301 and 302, which require that the Issuer provide a summary of financial data that is contained in the financial statements.  All Issuers are required to provide disclosure under Item 303: Management Discussion and Analysis of Financial Condition and Results of Operation (MD&A).  MD&A often makes up the bulk of narrative discussion in a registration statement and is arguably the most important portion of the registration statement for investors to understand the Issuer and its management plans.  A detailed discussion of the requirements of this section could fill up multiple blogs on this topic alone.  However, very briefly, MD&A requires discussion of key financial elements and changes in those items over the prior 12 months.  For example, MD&A would disclose revenues for the current term and prior year and explain why that number increased or decreased (i.e., the company may have expanded or cut back on its sales force).  In addition, MD&A requires a detailed discussion of the Issuer’s future plans and the costs and intended source of financing for those plans.  An Issuer cannot simply state that it plans to open 10 new locations, but instead would be required to provide details as to where those locations were, what progress (if any) had been made towards the plan, the costs of the plan and where the money is going to come from.

MD&A requires discussion regarding liquidity and capital resources.  This would include breaking out balances owed or owing on various obligations and sources and uses of funds for 12-, 24- and 36-month periods.  MD&A requires a discussion of the industry and competition, both generally and as may specifically affect the Issuer.  Again, this is a very brief outline of MD&A.

Management and Certain Security Holders (Items 401-404 of Regulation S-K)              

Items 401 through 404 of Regulation S-K require disclosure of certain information regarding directors, executive officers, key employees and those that own 5% or more of the outstanding securities of the Issuer.  Item 401 requires the Issuer to disclose certain biographical information about officers, directors and key employees.  This information includes 5 years of business background, name, age, familial relationships among other disclosed individuals, related party transactions, and involvement in certain legal proceeding over the prior 10 years (such as convictions of crimes, governmental enforcement actions, and involvement in bankruptcies).  Item 402 requires disclosure of executive compensation, including that which is past, current and obligated in the future.  Item 403 requires disclosure of the legal and beneficial ownership of executive officers, directors and 5%-or-more shareholders. Item 404 requires disclosure of financial related party transactions.

Registration Statement and Prospectus Provisions (Item 501-512 of Regulation S-K)

Items 501-512 (often referred to as standardized items) require different disclosures and information throughout the Form S-1, including specific information on the front and back covers and throughout the Form S-1.  Examples include how the offering price was determined (Item 505), risk factors (Item 503), use of proceeds (Item 504), dilution (Item 506), disclosure of selling security holders if a secondary offering (Item 507), plan of distribution (Item 508), experts (Item 509), offering expenses (Item 511), and undertakings (Item 512).

Part II of the Form S-1

Part II of the Form S-1 registration statement contains supplemental information and formal legal requirements.  Part II contains the financial information, sales and issuances of unregistered securities and legal information regarding the exemptions relied upon in making such sales and issuances and information regarding the exhibits attached to the S-1.  In addition, a list of exhibits is included in Part II.

Regulation S-X sets forth the form, content and requirements as to the financial statements that must be reviewed and audited by a PCAOB-licensed accounting firm.

Item 601 of Regulation S-K lists required exhibits that must be filed with a Form S-1 (for example, original articles of incorporation and all amendments thereto, material contracts, auditor consent letter, legal opinion, etc.).  These exhibits must be filed with the S-1 and become available for public review.

All registration statements must be written in “plain English” as opposed to legalese or industry terminology.  The plain English rule requires that the registration statement be written using the following English grammatical principles:  active voice; short sentences; definite, concrete, everyday words; tabular presentations of financial information and other applicable data; bullet lists for complex and material data, whenever possible; avoidance of legal jargon; avoidance of highly technical business terms; and no multiple negatives.  The SEC enforces the plain English rule and will not hesitate to ask that paragraphs or sections be rewritten.

The Filing and Comment Process

Once the Form S-1 is filed with the SEC, using the EDGAR and XBRL requirements, the SEC will let the Issuer know if the S-1 will be reviewed (they usually are).  The SEC assigns a team, including both a legal and an accounting expert, to review the document and provide comments to the Issuer.  The Issuer then prepares and files an amendment to the S-1 making the changes and addressing the comments requested by the SEC, and prepares and files a responsive letter which sets forth written direct answers to each of the comments.  The comment process can, at times, be arduous and repetitive; however, the Issuer should realize that it is all just part of the process.  When the comments are addressed to the satisfaction of the SEC, the Issuer can request and the SEC will issue an order allowing the registration statement to go effective.

The Sale Process

Once the S-1 goes effective, the issuing company can proceed with the sale process.  A sale is completed much the same way as in a private offering.  That is, an investor executes a subscription agreement and pays for the securities, which are then issued to the investor by the transfer agent.

Restrictions on Communications Related to DPO’s

The Pre-Filing Period

”Gun jumping” is the dissemination of information regarding the Issuer before a complete prospectus has been filed with the SEC.  Communications prior, during and immediately following the filing of a registration statement are strictly regulated to prevent an Issuer from hyping the market in association with an offering.  In addition, the SEC wants to ensure that investors’ decisions to participate in an offering are based on information that has been reviewed by the SEC and meet the disclosure standards set forth in the securities laws.

During the pre-filing period, Section 5(c) of the Securities Act of 1933, as amended (the “Securities Act”) makes it “unlawful for any person, directly or indirectly, to… offer to sell or offer to buy… any security, unless a registration statement has been filed as to such security.”  An offer to sell or offer to buy are broadly defined to include every attempt or offer to dispose of a security for value, including any effort to simulate investor interest in such security.

Moreover, the SEC considers all communications with the public as potential gunjumping violations.  A famous example is associated with the IPO of Google, Inc.  In a pre-IPO interview with founders Sergey Brin and Larry Page, published in Playboy magazine, Brin and Page made favorable comments about Google – of course.  The interview did not include any mention of the offering or the securities of the company.  Moreover, the statements appeared innocuous, including such generalities as “people use Google because they trust us.”

The SEC determined that the interview resulted in gunjumping and required Google to:  (1) revise its prospectus to include a risk factor warning that the Playboy interview may have violated Section 5; (2) include the full text of the Playboy article in the prospectus (thus subjecting its contents to the strict liability standards for the truth and accuracy of information filed with the SEC); and (3) address certain discrepancies between statistics in the article and in the prospectus.

In Google and several other cases, the SEC has found that gunjumping is any information that is not contained in the prospectus and that could stimulate investors’ interest.  In addition to requiring revisions to a prospectus, as a result of gunjumping, the SEC can require an Issuer to offer to buy back its already issued stock or to delay an offering to allow a cooling-off period, or can initiate enforcement proceedings seeking both injunctive and monetary penalties.

There are exceptions and safe harbors to the gunjumping prohibition.  Rule 135 of the Securities Act allows for limited notices of proposed offerings.  The notice must clearly indicate that it is not an offer to buy or sell securities.  The content of the notice is limited to: (i) the name of the Issuer; (ii) intention to make a public offering; (iii) amount and type of security and basic terms of the offering; (iv) anticipated timing of the offering; (v) whether the offering is limited to a certain class of investors (such as only accredited or only existing security holders); and (vi) any other required statement required by a certain state or foreign governmental body.

Rule 163A of the Securities Act provides a thirty (30)-day safe harbor for communications made at least 30 days prior to the filing of a registration statement and in which communications do not mention or refer to the proposed offering.

Rule 169 allows an Issuer to continue with the release of regular factual information in the ordinary course of business related to the goods and services of the company.  The communications cannot mention the offering or securities of the company and cannot contain forward looking statements regarding the company.

Rules 137, 138 and 139 address communications by or to broker-dealers.  Basically, communications and negotiations between a potential underwriter or participating broker-dealer and an Issuer, as long as they are confidential, will not be deemed gunjumping.

The Waiting or Quiet Period

The waiting period of an offering is the time following the filing of a registration statement with the SEC and its being declared effective.  Oral offers to sell and certain limited communications are allowed during this time, though no sales may be consummated until after the prospectus is declared effective.  Moreover, no communications may be made that go beyond the contents of the prospectus as set forth above.

Finally, the quiet period is the time following the effectiveness of a registration statement and is generally considered to be 30 days.  As investors may still be buying into an IPO for this period, Company communications are limited to the contents of the prospectus, updates filed with the SEC, and communications regarding products in the ordinary course of business.

 

Securities LawCast©- Legal & Compliance, LLC- What Is A Reverse Merger? Part 1 of The Reverse Merger Transaction Series.

One of the methods of going public is directly through a public offering.  In today’s financial environment, many Issuers are choosing to self-underwrite their public offerings, commonly referred to as a Direct Public Offering (DPO).  Management of companies considering a going public transaction have a desire to understand the required disclosures and content of a registration statement.  This blog provides that information.

Pursuant to Section 5 of the Securities Act of 1933, as amended (“Securities Act”), it is unlawful to “offer” or “sell” securities without a valid effective registration statement unless an exemption is available.  Companies desiring to offer and sell securities to the public with the intention of creating a public market or going public must file with the SEC and provide prospective investors with a registration statement containing all material information concerning the company and the securities offered.  Currently all domestic Issuers must use either form S-1 or S-3.  Form S-3 is limited to larger filers with a minimum of $75 million in annual revenues, among other requirements.  All other Issuers must use form S-1.

The DPO Regulated Time Periods

There are generally three regulated time periods in a DPO:

(i) the pre-filing period, which begins when the Issuer decides to proceed with an offering.  During this period, counsel prepares the registration statement and prospectus.

(ii)  the waiting or “quiet period,” which is the time from the filing of the registration statement until it is declared effective.  During this time the Issuer can engage in limited marketing (offers only) of the offering through the use of the filed registration statement, which must clearly indicate that it is not the final document (often referred to as a “red herring”).

(iii)  the post-effective period, in which the registration statement is effective and the Issuer can proceed with sales of the securities registered.

In addition to disclosure and regulations related to the offering during all three periods, marketing and public communications of the Issuer are restricted.  See the section “Restrictions on Communications Related to DPO’s” below.

The S-1 In General

There are four primary regulations governing the preparation and filing of Form S-1:

(i)  Regulation C – contains the general requirements for preparing and filing the Form S-1, including within Regulation Care regulations and procedures related to (a) the treatment of confidential information; (b) amending a registration statement prior to effectiveness; (c) procedures to file a post-effective amendment; and (d) the “plain English” rule.

(ii)  Regulation S-T – requires that all registration statements, exhibits and documents be electronically filed through the SEC’s EDGAR system.

(iv)  Regulation S-K – sets forth, in detail, all the disclosure requirements for all the sections of the S-1.  Regulation S-K is the who, what, where, when and how requirements to complete the S-1.

(v)  Regulation S-X – sets forth the requirements with respect to the form and content of financial statements to be filed with the SEC.  Regulation S-X includes general rules applicable to the preparation of all financial statements and specific rules pertaining to particular industries and types of businesses.

The S-1 In particular

The format of the S-1 is as follows: (i) cover page; (ii) Part I (the prospectus); (iii) Part II (supplemental disclosure); (iv) undertakings; (v) signatures and powers of attorney; (vi) consents; and (vii) exhibits.

Cover Page

The cover page of a Form S-1 is required to set out the following basic information about the Issuer and the offering: (i) the Issuer’s exact legal name; (ii) the Issuer’s state of incorporation; (iii) the Issuer’s SIC code; (iv) the Issuer’s tax ID number; (v) the address and telephone number of the Issuer’s principal executive offices and of its agent for service of process; (vi) the maximum amount of securities proposed to be offered and amount of registration fee; (vii) the approximate date of commencement of the offering; and (viii) whether any of the securities are being registered “on the shelf” pursuant to Rule 415.

The Prospectus – Part I of the Form S-1

Part I of the Form S-1 contains line items specifying required information by referencing the appropriate sections of Regulations S-K and S-X.  The following is a brief description of each of the items required in Part 1 of Form S-1.

Description of Business, Properties and Legal Proceedings (Items 101 – 103 of Reg. S-K)

Item 101 of Regulation S-K requires a description of the business over the prior 5 years (or 3 years for small public companies) or from inception as appropriate.  Item 101 sets forth a list of required information (including, for example, year and state of incorporation; products and services; sources of raw materials; environmental issues; government regulations, research and development and number of employees).  In addition, parts of Item 101 require discussion of future plans—for example, plans for expansion or increase in employees.  Item 101 also requires a description of the Issuer’s competitors specifically and in the industry in general.  This paragraph is a brief summary and examples of only a few of the numerous items that must be specifically disclosed and discussed in accordance with Item 101.

Item 102 of Regulation S-K requires that the Issuer set forth the location and general character of the physical properties of the Issuer, including how titled and a description of any liens, mortgages or encumbrances.

Item 103 of Regulation S-K requires that the Issuer disclose any pending or contemplated legal proceedings, including specifically required information about these proceedings.  An Issuer need not disclose legal proceedings in the ordinary course of its business.

Securities (Items 201 and 202 of Regulation S-K)

Items 201 and 202 require a description of the securities being offered as well as past and future information regarding these securities and all of the Issuer’s outstanding securities, including, for example, prior market and pricing activity, rights and preferences, outstanding warrants, and dividends.

Financial Information (Items 301-305 of Regulation S-K)

Small Issuers are not required to make disclosure under Items 301 and 302, which require that the Issuer provide a summary of financial data that is contained in the financial statements.  All Issuers are required to provide disclosure under Item 303: Management Discussion and Analysis of Financial Condition and Results of Operation (MD&A).  MD&A often makes up the bulk of narrative discussion in a registration statement and is arguably the most important portion of the registration statement for investors to understand the Issuer and its management plans.  A detailed discussion of the requirements of this section could fill up multiple blogs on this topic alone.  However, very briefly, MD&A requires discussion of key financial elements and changes in those items over the prior 12 months.  For example, MD&A would disclose revenues for the current term and prior year and explain why that number increased or decreased (i.e., the company may have expanded or cut back on its sales force).  In addition, MD&A requires a detailed discussion of the Issuer’s future plans and the costs and intended source of financing for those plans.  An Issuer cannot simply state that it plans to open 10 new locations, but instead would be required to provide details as to where those locations were, what progress (if any) had been made towards the plan, the costs of the plan and where the money is going to come from.

MD&A requires discussion regarding liquidity and capital resources.  This would include breaking out balances owed or owing on various obligations and sources and uses of funds for 12-, 24- and 36-month periods.  MD&A requires a discussion of the industry and competition, both generally and as may specifically affect the Issuer.  Again, this is a very brief outline of MD&A.

Management and Certain Security Holders (Items 401-404 of Regulation S-K)              

Items 401 through 404 of Regulation S-K require disclosure of certain information regarding directors, executive officers, key employees and those that own 5% or more of the outstanding securities of the Issuer.  Item 401 requires the Issuer to disclose certain biographical information about officers, directors and key employees.  This information includes 5 years of business background, name, age, familial relationships among other disclosed individuals, related party transactions, and involvement in certain legal proceeding over the prior 10 years (such as convictions of crimes, governmental enforcement actions, and involvement in bankruptcies).  Item 402 requires disclosure of executive compensation, including that which is past, current and obligated in the future.  Item 403 requires disclosure of the legal and beneficial ownership of executive officers, directors and 5%-or-more shareholders. Item 404 requires disclosure of financial related party transactions.

Registration Statement and Prospectus Provisions (Item 501-512 of Regulation S-K)

Items 501-512 (often referred to as standardized items) require different disclosures and information throughout the Form S-1, including specific information on the front and back covers and throughout the Form S-1.  Examples include how the offering price was determined (Item 505), risk factors (Item 503), use of proceeds (Item 504), dilution (Item 506), disclosure of selling security holders if a secondary offering (Item 507), plan of distribution (Item 508), experts (Item 509), offering expenses (Item 511), and undertakings (Item 512).

Part II of the Form S-1

Part II of the Form S-1 registration statement contains supplemental information and formal legal requirements.  Part II contains the financial information, sales and issuances of unregistered securities and legal information regarding the exemptions relied upon in making such sales and issuances and information regarding the exhibits attached to the S-1.  In addition, a list of exhibits is included in Part II.

Regulation S-X sets forth the form, content and requirements as to the financial statements that must be reviewed and audited by a PCAOB-licensed accounting firm.

Item 601 of Regulation S-K lists required exhibits that must be filed with a Form S-1 (for example, original articles of incorporation and all amendments thereto, material contracts, auditor consent letter, legal opinion, etc.).  These exhibits must be filed with the S-1 and become available for public review.

All registration statements must be written in “plain English” as opposed to legalese or industry terminology.  The plain English rule requires that the registration statement be written using the following English grammatical principles:  active voice; short sentences; definite, concrete, everyday words; tabular presentations of financial information and other applicable data; bullet lists for complex and material data, whenever possible; avoidance of legal jargon; avoidance of highly technical business terms; and no multiple negatives.  The SEC enforces the plain English rule and will not hesitate to ask that paragraphs or sections be rewritten.

The Filing and Comment Process

Once the Form S-1 is filed with the SEC, using the EDGAR and XBRL requirements, the SEC will let the Issuer know if the S-1 will be reviewed (they usually are).  The SEC assigns a team, including both a legal and an accounting expert, to review the document and provide comments to the Issuer.  The Issuer then prepares and files an amendment to the S-1 making the changes and addressing the comments requested by the SEC, and prepares and files a responsive letter which sets forth written direct answers to each of the comments.  The comment process can, at times, be arduous and repetitive; however, the Issuer should realize that it is all just part of the process.  When the comments are addressed to the satisfaction of the SEC, the Issuer can request and the SEC will issue an order allowing the registration statement to go effective.

The Sale Process

Once the S-1 goes effective, the issuing company can proceed with the sale process.  A sale is completed much the same way as in a private offering.  That is, an investor executes a subscription agreement and pays for the securities, which are then issued to the investor by the transfer agent.

Restrictions on Communications Related to DPO’s

The Pre-Filing Period

”Gun jumping” is the dissemination of information regarding the Issuer before a complete prospectus has been filed with the SEC.  Communications prior, during and immediately following the filing of a registration statement are strictly regulated to prevent an Issuer from hyping the market in association with an offering.  In addition, the SEC wants to ensure that investors’ decisions to participate in an offering are based on information that has been reviewed by the SEC and meet the disclosure standards set forth in the securities laws.

During the pre-filing period, Section 5(c) of the Securities Act of 1933, as amended (the “Securities Act”) makes it “unlawful for any person, directly or indirectly, to… offer to sell or offer to buy… any security, unless a registration statement has been filed as to such security.”  An offer to sell or offer to buy are broadly defined to include every attempt or offer to dispose of a security for value, including any effort to simulate investor interest in such security.

Moreover, the SEC considers all communications with the public as potential gunjumping violations.  A famous example is associated with the IPO of Google, Inc.  In a pre-IPO interview with founders Sergey Brin and Larry Page, published in Playboy magazine, Brin and Page made favorable comments about Google – of course.  The interview did not include any mention of the offering or the securities of the company.  Moreover, the statements appeared innocuous, including such generalities as “people use Google because they trust us.”

The SEC determined that the interview resulted in gunjumping and required Google to:  (1) revise its prospectus to include a risk factor warning that the Playboy interview may have violated Section 5; (2) include the full text of the Playboy article in the prospectus (thus subjecting its contents to the strict liability standards for the truth and accuracy of information filed with the SEC); and (3) address certain discrepancies between statistics in the article and in the prospectus.

In Google and several other cases, the SEC has found that gunjumping is any information that is not contained in the prospectus and that could stimulate investors’ interest.  In addition to requiring revisions to a prospectus, as a result of gunjumping, the SEC can require an Issuer to offer to buy back its already issued stock or to delay an offering to allow a cooling-off period, or can initiate enforcement proceedings seeking both injunctive and monetary penalties.

There are exceptions and safe harbors to the gunjumping prohibition.  Rule 135 of the Securities Act allows for limited notices of proposed offerings.  The notice must clearly indicate that it is not an offer to buy or sell securities.  The content of the notice is limited to: (i) the name of the Issuer; (ii) intention to make a public offering; (iii) amount and type of security and basic terms of the offering; (iv) anticipated timing of the offering; (v) whether the offering is limited to a certain class of investors (such as only accredited or only existing security holders); and (vi) any other required statement required by a certain state or foreign governmental body.

Rule 163A of the Securities Act provides a thirty (30)-day safe harbor for communications made at least 30 days prior to the filing of a registration statement and in which communications do not mention or refer to the proposed offering.

Rule 169 allows an Issuer to continue with the release of regular factual information in the ordinary course of business related to the goods and services of the company.  The communications cannot mention the offering or securities of the company and cannot contain forward looking statements regarding the company.

Rules 137, 138 and 139 address communications by or to broker-dealers.  Basically, communications and negotiations between a potential underwriter or participating broker-dealer and an Issuer, as long as they are confidential, will not be deemed gunjumping.

The Waiting or Quiet Period

The waiting period of an offering is the time following the filing of a registration statement with the SEC and its being declared effective.  Oral offers to sell and certain limited communications are allowed during this time, though no sales may be consummated until after the prospectus is declared effective.  Moreover, no communications may be made that go beyond the contents of the prospectus as set forth above.

Finally, the quiet period is the time following the effectiveness of a registration statement and is generally considered to be 30 days.  As investors may still be buying into an IPO for this period, Company communications are limited to the contents of the prospectus, updates filed with the SEC, and communications regarding products in the ordinary course of business.

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