The concept of Rule 144A represents a pivotal legal provision that redefines the restrictions on trading privately placed securities. This provision, often referred to as a safe harbor, amends the stringent requirements outlined by Rule 144 under Section 5 of the Securities Act of 1933 enforced by the Securities and Exchange Commission (SEC).
Known as the Private Resales of Securities to Institutions, Rule 144A dramatically enhances the liquidity of private securities by enabling trades among qualified institutional buyers (QIBs). However, despite its advantages, some critics argue that it may open the door to fraudulent foreign offerings and limit the availability of securities to the general public.
Key Takeaways
- Rule 144A eases restrictions for the trading of privately placed securities among qualified institutional buyers without necessitating SEC registrations.
- Sophisticated institutional investors under this rule need less information and protection compared to individual investors.
- This rule shortens the holding periods required for reselling securities.
- Critics argue that Rule 144A lack transparency and does not clearly define what qualifies as a qualified institutional buyer.
- There are ongoing concerns that this rule could give unscrupulous overseas entities access to the U.S. market without thorough SEC scrutiny.
The Genesis of Rule 144A
Rule 144A emerged in 2012 as part of the Jumpstart Our Business Startups (JOBS) Act. It permits sales and exchanges of private securities to more sophisticated institutional investors, who are typically more equipped to handle complex investment models and do not need the same level of information protection as retail investors. The Securities Act mandates that securities issuers file formal registrations with the SEC and provide extensive documentation—the burden of which Rule 144A helps alleviate for these target investors.
Reporting companies must ensure compliance with their regular reporting minimums. In contrast, non-reporting companies, or non-issuers, need to publicly disclose basic information regarding the business to facilitate these transactions. Rule 144A streamlines the process, requiring issuers only provide necessary information, thus creating a more efficient market environment.
Mechanisms and Players
Qualified institutional buyers under Rule 144A include insurance companies or entities investing a minimum of $100 million in securities on behalf of others. Transactions must be managed by a registered broker or firm, with standard commission practices, and neither the broker nor the seller can solicit the sale.
Special Considerations for Compliance
Transactions involving an affiliate sale of over 5,000 shares or $50,000 within three months must be reported to the SEC using Form 144, providing transparency and compliance above these thresholds. For affiliates, volume restrictions cap the number of permissible transactions not exceeding 1% of a class’s outstanding shares over three months or the average reported volume over the previous four weeks preceding the sale notice on Form 144.
Rule 144A also relaxes regulations on the holding period for securities before resale to QIBs. Instead of the standard two-year holding period, reporting companies have a reduced minimum of six months, while non-reporting issuers have a one-year minimum holding period, starting from the purchase and fully paid date.
Addressing Criticisms and Market Concerns
Rule 144A successfully spurred non-SEC trading activity, raising concerns over trading shadow markets opaque to individual and some institutional investors alike. In response to transparency issues, the Financial Industry Regulatory Authority (FINRA) began reporting Rule 144A trades in the corporate debt market in 2014, aiding in market valuation and mark-to-market purposes.
The SEC outlined the qualifications underpinning the participation of qualified institutional buyers within Rule 144A trades in 2017, requiring participants to own and invest at least $100 million in securities of unrelated issuers on a discretionary basis.
Though Rule 144A fosters an efficient secondary market, there are perennial concerns about regulatory gaps facilitating fraud by foreign companies. Critics argue that it leverages a
Related Terms: qualified institutional buyers, liquid securities, Securities Act of 1933, reporting companies, non-reporting companies.
References
- Morrison Foerster. “FREQUENTLY ASKED QUESTIONS ABOUT RULE 144A”, Page 1.
- Morgan Lewis. “SEC ADOPTS AMENDMENTS TO RULE 506 AND RULE 144A TO PERMIT GENERAL SOLICITATION AND GENERAL ADVERTISING, AND PROPOSES ADDITIONAL RELATED REQUIREMENTS”.
- Dorsey. “RULE 144A, EXPLAINED”, Page 1.
- Dorsey. “RULE 144A, EXPLAINED”, Pages 1-2.
- Thomson Reuters Practical Law. “Resales of restricted and control securities in the US: Overview of Rule 144A”.
- Cornell Law School Legal Information Institute. “17 CFR § 230.144A - Private resales of securities to institutions”.
- U.S. Securities and Exchange Commission. “Rule 144: Selling Restricted and Control Securities”.
- Morrison Foerster. “FREQUENTLY ASKED QUESTIONS ABOUT RULE 144A”, Page 3.
- FINRA. “FINRA Brings 144A Corporate Debt Transactions Into the Light”.
- Freshfields Bruckhaus Deringer. “SEC issues interpretations relating to Rule 144A and Regulation S”.
- The Motley Fool. “How Rule 144A Created a Shadow Financial Market”.
