Rule 506 is a frequently used exemption from the registration requirements of the 1933 Act and it is used by companies of all sizes, from closely-held start-ups to exchange-listed public companies. The inability to rely on Rule 506 can be a significant problem. To help comply with the new rule, companies are distributing Rule 506(d) questionnaires to covered persons, securities purchase agreements and other agreements are beginning to include representations and warranties regarding disqualifying events and D&O questionnaire are being updated.
The SEC recently granted a waiver to RBS Securities, Inc. from the prohibition against relying on Rule 506(d) that otherwise would have applied due to a judgment that was entered into against RBS Securities. This is the first waiver granted by the SEC regarding disqualifying events. The judgment permanently restrains and enjoins RBS Securities from violations of sections 17(a)(2) and (3) of the 1933 Act and requires that RBS Securities pay $80 million in disgorgement, $25 million in prejudgment interest and $48 million in penalties.
The facts surrounding the waiver are unique in that the following all occurred on the same day: the entry of the judgment, the request for relief and the granting of such request. I suspect that in deciding to consent to the judgment being entered against it, RBS Securities had a very good idea that its request for the waiver would be granted. In fact, in its request for relief to the SEC’s Division of Corporate Finance, RBS Securities stated that the SEC’s Division of Enforcement had informed RBS Securities that it does not object to SEC providing the requested waiver. It will be interesting to see if waivers are granted in the future that are not as orchestrated as the set of facts in the RBS Securities matter.
As a reminder, for purposes of Rule 506(d), “covered persons” include, among others:
- the issuer
- directors, executive officers, any other officers participating in the offering, general partners and managing members of the issuer
- beneficial owners of 20% or more of the issuer's outstanding voting equity
- any persons compensated for soliciting investors, any general partners and managing members of such compensated solicitors, and the directors, executive officers and any other officers participating in the offering of such compensated solicitors and their general partners and managing members
One of the (many) critiques of the rule is that the issuer is being “penalized” for acts beyond its control – such as if a 20% stockholder is involved in a disqualifying event.
The disqualifying events are relatively limited in scope and include:
- criminal convictions within 10 years before the proposed offering or court injunctions or restraining orders within five years before the proposed offering: (a) in connection with the purchase or sale of a security; (b) in connection with making a false SEC filing; or (c) arising out of the conduct of certain types of financial intermediaries
- final orders from state securities and other regulators that bar the person from: (a) associating with a regulated entity; (b) engaging in the business of securities, insurance or banking; or (c) engaging in savings association or credit union activities
- final orders from state securities and other regulators that are based on fraudulent, manipulative or deceptive conduct
- certain SEC disciplinary orders relating to brokers, dealers, municipal securities dealers, investment companies and investment advisers and their associated persons
- SEC cease-and-desist orders arising out of any scienter-based anti-fraud violation or violation of Section 5 of the 1933 Act
- suspension or expulsion from membership in a self-regulatory organization
- SEC stop orders and orders suspending a Regulation A exemption issued within five years before the proposed offering
- US Postal Service false representation orders issued within five years before the proposed offering