Monday, March 28, 2011

SEC Proposes to Maintain Existing Security-Based Swap Reporting Requirements

As reported earlier by Schulte Roth, on March 17, 2011, the SEC proposed to readopt relevant portions of Rules 13d-3 and 16a-1. The action serves to preserve existing rules for reporting security-based swaps as beneficial ownership.

The SEC issued its proposed action in order to address the ambiguity of Dodd-Frank Section 766, which adds Section 13(o) to the Exchange Act. Section 766 stipulates that "a person shall be deemed to acquire beneficial ownership of an equity security based on the purchase or sale of a security-based swap, only to the extent that the Commission, by rule, determines… that [the transaction] provides incidents of ownership comparable to direct ownership of the equity security". Use of the word "only" might be misconstrued to mean that, without the SEC's judgment, security-based swaps would not amount to any beneficial ownership. The proposed rule clarifies that security-based swaps may still represent beneficial ownership without the SEC's rulemaking.

In light of the proposed rule, Schulte Roth clarifies that security-based swaps may confer beneficial ownership in the following instances: 

"(i) where a security-based swap, by its terms or otherwise, gives a person voting or investment power over the underlying security…;
(ii) where a security-based swap is used with the purpose or effect of divesting or preventing the vesting of beneficial ownership as part of a plan or scheme to evade the beneficial ownership reporting requirements…; and
(iii) where a security-based swap, by its terms or otherwise, gives a person the right to acquire the underlying security within 60 days or the persons holds such right to acquire with the purpose [or effect] of changing or influencing control of the issuer".

In the release, the SEC also states that its "staff is engaged in a separate project to develop proposals to modernize reporting under Exchange Act Sections 13(d) and 13(g)" (emphasis added). It is safe to assume that this statement is welcomed by Wachtell Lipton, which just a few weeks ago filed a petition to the SEC "requesting that the Commission initiate a rulemaking project regarding… beneficial ownership reporting rules". In an earlier post, we had mentioned that the corporate law firm is seeking to modernize Schedule 13(d) rules by broadening the definition of beneficial ownership, as well by changing timing requirements of the filing.

Activist investors' use of security-based swaps in so-called "stealth acquisitions" have come under sharp criticism by the law firm. While, for now, the SEC is likely to maintain the current beneficial ownership reporting requirements as it relates to security-based swaps, the regulatory environment concerning shareholder activism is still very much evolving.

To read the Schulte Roth alert, click here.
To read the SEC's proposed action, click here.
To read Wachtell Lipton's petition, click here.

Image Extracted from Schulte Roth's official website.

Posted by David Schatz