Certain U.S. Securities Law Changes Under the Dodd-Frank Reform Act 

publication 

Summer 2010 - (Securities Alert Summer 2010)

Securities Alert Summer 2010
U.S. President Obama signed the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act") into law on July 21, 2010.  Many of the initiatives directed at financial institutions, broker-dealers, credit rating agencies and enhanced proxy disclosure about executive compensation have received widespread news coverage. 

Change to Definition of "Accredited Investor"

One measure that has largely been overlooked in the press but could have significant implications to an issuer that is conducting or, in certain cases, has conducted, an unregistered securities offering in the U.S. pursuant to Rule 506 of Regulation D under the U.S. Securities Act of 1933, as amended (the "U.S. Securities Act"), is a change to the definition of "accredited investor" as it applies to natural persons.
 
Until the enactment of the Dodd-Frank Act, a natural person could qualify as an "accredited investor" under Rule 501(a)(5) of Regulation D under the U.S. Securities Act if his or her individual net worth, or joint net worth together with his or her spouse, exceeded US$1,000,000.  Section 413 of the Dodd-Frank Act directs the U.S. Securities and Exchange Commission (the "Commission") to "adjust any net worth standard for an accredited investor, as set forth in the Rules of the Commission under the Securities Act of 1933, so that the individual net worth of any natural person, or joint net worth with the spouse of that person, at the time of purchase, is more than $1,000,000 (as such amount is adjusted periodically by rule of the Commission), excluding the primary residence of such natural person…".  Section 413 of the Dodd-Frank Act makes it clear that this change takes effect immediately, and provides for no grandfathering or transitional period. 
 
One potential trap for issuers relates to warrants, options or other rights to acquire securities that were issued pursuant to an unregistered offering prior to July 21, 2010, and which contemplate exercise or conversion pursuant to the registration exemption provided for in Rule 506 of Regulation D by a holder who continues to qualify as an accredited investor.  Since the determination as to whether the holder of the warrants, options or other rights to acquire securities must be made at the time of exercise, the issuer will have to ensure that the holder's qualification as an accredited investor is re-evaluated at that time, in accordance with the then-current definition of accredited investor.  If the holder is a natural person who does not qualify for the income tests in Rule 501(a)(6) (which requires that the individual has had an individual income in excess of US$200,000 in each of the two most recent years or joint income with his or her spouse in excess of US$300,000 in each of those years, and that he or she has a reasonable expectation of reaching the same income level in the current year), the issuer will have to be alert to the more restrictive net worth test than that which would have been set forth in the original subscription documentation and the certificate(s), if any, representing the warrants, options or other securities.

Permanent Exemption From SOX 404 Auditor Attestation Report for Non-Accelerated Filers
 
Several times in the past, the Commission extended the date (the "Internal Control Attestation Report Compliance Date") by which an issuer that was neither a "large accelerated filer" nor an "accelerated filer" (collectively colloquially known as a "non-accelerated filer") had to commence filing auditor attestation reports on internal controls ("Attestation Reports") with their annual reports on Form 10-K or Form 20-F, in accordance with section 404(b) of the Sarbanes-Oxley Act of 2002 ("SOX").  Last year, the Commission extended the Internal Control Attestation Report Compliance Date so that Attestation Reports were not required for annual reports filed by non-accelerated filers for fiscal years ending before June 15, 2010.  (Generally, non-accelerated filers are issuers with a public float of less than US$75 million as of the last business day of their most recent second fiscal quarter.)
 
Section 989G of the Dodd-Frank Act permanently exempts non-accelerated filers from the Attestation Report filing requirement of SOX section 404(b).  In addition, it directs the Commission to conduct a study to determine how it could reduce the burden of complying with the Attestation Report requirement on companies whose market capitalization is between US$75 million and US$250 million, and to provide a report to Congress within nine months.  Section 989G of the Dodd-Frank Act goes on to provide, "The study shall also consider whether any such methods of reducing the compliance burden or a complete exemption for such companies from compliance with such section would encourage companies to list on exchanges in the United States in their initial public offerings."