In this age of providing full financial disclosure of quarterly and annual results to the investing public, an increasing number of smaller, public companies have decided to deregister with the Securities and Exchange Commission ("SEC). Deregistering exempts certain qualified public companies from publishing quarterly financial results and other extensive SEC filings and frees them from complying with the complex corporate governance requirements set forth in Sarbanes-Oxley.
Typically, corporations "go public" in order to take advantage of certain benefits permitted by the SEC. These benefits include; (1) enabling the company to raise additional capital by accessing the public markets, (2) publicizing the company to the public, (3) obtaining additional future financing if investor interest in the company will permit a secondary trading market in the corporation's securities, (4) providing executive officers directors and other controlling shareholders with an exit strategy and an open market in which to sell their shares at retirement, and (5) attracting and retaining highly qualified employees through offering stock options, bonuses or other incentives that have a defined market value.
While "going public" may be the ultimate panacea or goal for certain entrepreneurs and companies, businesses must be aware that "going public" comes with certain obligations that create additional expense and potential liability for nonconforming businesses. For example, public companies must disclose to shareholders information concerning the company's business operations, financial health and management, including any and all additional costs and legal obligations. Moreover, as a result of SEC disclosure obligations, companies should keep in mind the following drawbacks to "going public" including; (1) the loss of flexibility in controlling the company's business, particularly when certain actions require shareholder approval, (2) limitations on trading by management and major stockholders due to short-swing profit liability rules, (3) the availability of company information to competitors, and (4) the onerous expense of time and money that are involved with "going public."
In choosing to deregister with the SEC, certain companies have maintained that this action eliminates substantial costs, such as professional fees associated with the registration of its common stock; however, investors should take notice that this type of corporate action may substantially deteriorate the quality of their investments.
In the year 2003 alone, high profile companies such as The Sports Authority, Inc., USDATA Corporation, United Road Services, Telesoft Corp., and SmartDisk have all filed Form 15, the form that companies use to certify termination of registration of a class of security under Section 12(g) of the 1934 Act or as notice of suspension of the duty to file periodic reports under Sections 13 and 15(d) of the 1934 Act.
A company that wishes to suspend its reporting obligations under the Exchange Act must terminate registration of its securities with the SEC within 90 days after a U.S. company certifies to the SEC on Form 15 that:
Thereafter, upon filing the Form 15, the company's duty to file any reports required under Section 13(a) is suspended immediately. Should the SEC disallow the termination of registration because it determines that the facts do not support the certification, the company must file, within 60 days of the denial, all reports that would have been required had the Form 15 not been filed.
Be advised that just because a company has filed a Form 15 does not mean that it has been relieved of reporting requirements under other SEC rules. For example, listed companies may have additional reporting obligations under Exchange Act Rule 12g-4 which does not affect any reporting requirement arising under Exchange Act Section 15(d). Section 15(d) states that, if a company has filed a prior registration statement that has become effective, the company must file periodic reports with the SEC. But also note that Exchange Act Rule 12h-3 provides for the immediate suspension of a company's duty arising under Section 15(d) to file reports required by Section 13(a) upon filing of a Form 15.
A company that is considering deregistration of equity securities should be aware that certain transactions in connection with the going-private decision will subject it to additional one-time filing requirements. If a company subject to this rule goes private, it must file a Schedule 13E-3 with the SEC. Significantly, this Schedule requires a company to disclose the basis for the transaction as well as a statement as to its fairness to unaffiliated shareholders. Be aware that most Rule13e-3 transactions will trigger some other type of filing obligation under the current securities laws. If a going private transaction requires shareholder approval, for example, in addition to Schedule 13E-3, the company may be required to file a proxy or information statement with the SEC.
Not only must a company deregister with the SEC in order to go dark, it must also delist from the exchange on which its common stock trades. Currently, under NYSE Rule 500(a), to obtain voluntary NYSE delisting of its stock, a U.S. company must request the NYSE to remove its stock as a listed security and comply with the following procedures:
In contrast, under AMEX Rule 18 and NASD Marketplace Rule 4480(b), to obtain voluntary delisting, a company must request the exchange to delist its security. The request must state the reason for the delisting decision. The company must also send to the exchange a copy of Form 15 as filed with the SEC (discussed below). None of the exchanges currently requires shareholder approval for delisting.
Companies should consider other factors in evaluating whether to delist and deregister. For example, registration rights agreements and credit agreements may impose contractual obligations to continue filing SEC reports. The act of delisting also will affect stock options acquired by employees pursuant to employee plans. If a company deregisters its stock, employees who exercise options will receive restricted shares instead of freely tradable shares, and the company will need to find an exemption for the stock issuance on exercise (which exemption may not be available if too many employees participate in the plan or exercise options at once, triggering volume limitations or similar restrictions).
Alternatively, investors owning equity in such a company that is going dark must weigh the risks of suffering less liquidity for their shares as such a company would be considered to be closely held. Also these investors may have a more difficult time obtaining current financial information on the company. For example, in 1999 a company with registered stock was required to report a loan made by the company to its CEO of approximately $500,000. Last year, based on a proxy statement made by the company, directors of the company extended the term of the loan for another three years at a more favorable interest rate. If the company was not registered, it is unclear whether the company would have made such a disclosure to its stockholders.
Deregistering and delisting can offer benefits to smaller companies that are unable to foot the bill for increased reporting requirements enacted by the SEC. But a company considering such action must consider the detrimental affect that it will have on the company's stock price as well as the damage to the company's reputation by Wall Street and the investing public.
This article is reprinted with permission from the September 3, 2004 issue of the New York Law Journal. Copyright 2004. ALM Properties, Inc. Further duplication without permission is prohibited. All rights reserved.