Yesterday, without first holding an open meeting, the SEC posted proposals related to changes in beneficial ownership reporting and changes to the whistleblower program. In the press release announcing the changes in beneficial ownership reporting, SEC Chair Gary Gensler described the amendments as an update designed to modernize reporting requirements for today’s markets, including reducing “information asymmetries,” and addressing “the timeliness of Schedule 13D and 13G filings.” Currently, according to Gensler, investors “can withhold market moving information from other shareholders for 10 days after crossing the 5 percent threshold before filing a Schedule 13D, which creates an information asymmetry between these investors and other shareholders. The filing of Schedule 13D can have a material impact on a company’s share price, so it is important that shareholders get that information sooner. The proposed amendments also would clarify when and how certain derivatives acquired with control intent count towards the 5 percent threshold, clarify group formation, and create related exemptions.” The fact sheet indicates that the current deadlines for filing these initial Schedules have not been updated since 1968 (Schedule 13D) and 1977 (Schedule 13G). A lot has changed since the debut of “Hair” on Broadway and the release of “Hey Jude”—but how come platform shoes are still a thing?—so perhaps a reassessment is in order. Here is the fact sheet, and here is the proposing release.
Under the SEC’s whistleblower program, the SEC may “make monetary awards to eligible individuals who voluntarily provide original information that leads to successful SEC enforcement actions resulting in monetary sanctions exceeding $1 million and certain successful related actions.” Awards must be in the range of 10% to 30% of the monetary sanctions collected. The two proposed amendments to the whistleblower program relate to “award claims for related actions that would be otherwise covered by an alternative whistleblower program,” and affirm the SEC’s “authority to consider the dollar amount of a potential award for the limited purpose of increasing an award but not to lower an award.” In the press release, Gensler said that, if adopted, the amendments “would help ensure that whistleblowers are both incentivized and appropriately rewarded for their efforts in reporting potential violations of the law to the Commission…. The first proposed rule change is designed to ensure that a whistleblower is not disadvantaged by another whistleblower program that would not give them as high an award as the SEC would offer. Under the second proposed rule change, the SEC could consider the dollar amounts of potential awards only to increase the whistleblower’s award. This would give whistleblowers additional comfort knowing that the SEC could consider the dollar amount of the award only in such cases.” Here is the fact sheet, and here is the proposing release.
Consistent with the apparently new comment period formula, the public comment period for each proposal will be open for 60 days following publication of the proposing release on the SEC’s website or 30 days following publication in the Federal Register, whichever period is longer.
Proposal regarding beneficial ownership reporting
In October last year, in a virtual interview by former SEC Commissioner and current NYU Professor Robert Jackson, Gensler was asked whether he favored accelerating the deadline for 13D beneficial ownership disclosure and whether the rule should cover derivatives. Gensler replied that he believed the rules should be updated as the deadline hadn’t been updated in over 50 years. The current timeframe might have been appropriate for the 1970s, but technology had changed a lot since then. Dodd-Frank authorized the SEC to shorten the window, and he had asked the staff to look at the issue. He noted that application to derivatives was also under consideration to improve transparency. (See this PubCo post.) Those directions to the staff have now come to fruition in the new proposal.
Under current rules, Reg 13D-G requires an investor who beneficially owns more than 5% of a covered class of equity securities to report the investor’s beneficial ownership by filing either a Schedule 13D or a Schedule 13G, depending on the nature of ownership and circumstances of acquisition. (It’s complicated.)
I plan to publish an update to this post with more detail about the proposed rules based on the proposing release at a later time, so stay tuned.
According to the fact sheet, the proposed amendments would:
- “Accelerate the filing deadlines for Schedules 13D and 13G beneficial ownership reports;
- Expand the application of Regulation 13D-G to certain derivative securities;
- Clarify the circumstances under which two or more persons have formed a ‘group’ that would be subject to beneficial ownership reporting obligations; and
- Require that Schedules 13D and 13G be filed using a structured, machine-readable data language.”
Filing deadlines for Schedule 13D. The proposed amendments would shorten the initial filing deadline for Schedule 13D from 10 days to five days and require amendments to be filed within one business day (as opposed to “promptly”).
Filing deadlines for Schedule 13G. Under the proposal, qualified institutional investors (brokers, banks, registered investment companies, etc.) and exempt investors (“persons holding beneficial ownership of more than 5% of a covered class at the end of the calendar year, but who have not made an acquisition of beneficial ownership subject to Section 13(d),” such as persons who acquired all their shares pre-IPO and persons who have not acquired more than 2% in 12 months) would no longer have 45 days after year-end to file an initial Schedule 13G; instead the initial filing deadline would be five business days after the end of the month in which the investor beneficially owned more than 5% of the covered class. For passive investors (beneficial owners of more than 5% but less than 20% of the covered class that were not acquired or held for the purpose or effect of changing or influencing the control of the issuer), the initial filing deadline would be accelerated from 10 days to five days.
For all Schedule 13G filers, amendments would be required to be filed within five business days after the month in which a material change occurred rather than 45 days after the year in which any change occurred. The proposed amendments would also “accelerate the amendment obligations for certain Schedule 13G filers upon exceeding 10 percent beneficial ownership or a 5 percent increase or decrease in beneficial ownership of a covered class, requiring that qualified institutional investors and passive investors file an amendment within five days and one business day, respectively.” But here’s a gift to ease your anxiety from these proposed changes: the filing cut-off for Schedules 13D and 13G would be extended from 5:30 p.m. to 10:00 p.m. Eastern time.
Derivatives. There may be circumstances under which a holder of a cash-settled derivative may seek to influence or control a company by pressuring a counterparty to vote a certain way or dispose of shares. Under proposed new Rule 13d-3(e), a holder of a cash-settled derivative security, other than a security-based swap, “will be deemed the beneficial owner of the reference equity securities if the derivative is held with the purpose or effect of changing or influencing the control of the issuer of the reference securities, or in connection with or as a participant in any transaction having such purpose or effect.” In addition, Item 6 of Schedule 13D would be amended to clarify the requirement “to disclose interests in all derivative securities (including cash-settled derivative securities) that use the issuer’s equity security as a reference security.”
Groups. The proposal attempts to clarify when a “group” is formed. Under the proposed amendments, formation of a group would include “‘tipper-tippee’ relationships in which a person shares non-public information about an upcoming Schedule 13D filing with another person who subsequently purchases the issuer’s securities based on that information.” The proposal would also add new exemptions to group formation, including “circumstances in which (1) investors communicate with one another or the issuer without the purpose or effect of changing or influencing control of the issuer and (2) investors and financial institutions enter into agreements governing the terms of derivative securities.”
Structured data. The proposal would require that Schedules 13D and 13G be filed using a structured, machine-readable data language, specifically “an XML-based language specific to Schedules 13D and 13G.”
Dissent of Commissioner Peirce. Commissioner Hester Peirce dissented. She questioned whether advances in technology really justified the the changes in deadlines. She maintained that the proposal
“fails to contend fully with the realities of today’s markets or the balance embodied in Section 13(d) of the Exchange Act….The Williams Act balanced shareholders’ interest in learning of potential changes in corporate control with the benefit of allowing the party seeking to engage in a change in control of the company to keep that information private…. Ten days is not a magic number. As Congress recognized when it authorized us to shorten the number of days, it might not be the right number. But to move from ten to five requires a justification, and the one included in the proposal is not compelling…. While the release acknowledges that there must be a balancing of interests between timely dissemination of the five percent ownership threshold and preserving an incentive structure for investors to seek change of control at under-performing companies, it summarily concludes that the proposed amendments will achieve the proper balance.”
The crux of the SEC’s justification, Peirce contends, “seems to be that shareholders need to have confidence that their trades are not being made based on stale information.” But is this information asymmetry really a problem? “We want to encourage investors to ferret out information and find undervalued companies. Indeed, information asymmetries in this sense—where investors have equal access to disclosure from the issuer and insiders, but come to different conclusions about the long term prospects of a company based on their respective due diligence—are a feature, not a bug, of our capital markets.”
In addition, she was dissatisfied with some of the other proposed changes, including the proposed expansion of the definition of beneficial ownership to cover certain cash-settled derivative securities, which she argued lacked “sufficient justification given that these securities do not convey ownership or voting rights.” She also contended that, in light of today’s activism, some of the exemptions to the definition of “group” might “swallow the rule.”
Proposed whistleblower program amendments
In September 2020, the SEC adopted a number of amendments to the whistleblower rules, some of which were quite controversial. (See this PubCo post.) In early August, SEC Chair Gary Gensler issued a statement indicating that he had directed the SEC staff to revisit the whistleblower rules, in particular, two of the amendments that had been adopted in 2020. Gensler observed that concerns had been raised, including by whistleblowers as well as by Commissioners Allison Herren Lee and Caroline Crenshaw, that those amendments “could discourage whistleblowers from coming forward.” One of the 2020 amendments at issue precluded the SEC from, in some cases, making an award to a whistleblower that is potentially also covered by an alternative, separate award program that “more appropriately applies” to the related action. The second 2020 amendment permitted the SEC to take into consideration the dollar amount of a potential award when making an award determination, allowing the SEC, as Gensler phrased it, “to lower an award because of the size of the award in absolute terms.” Gensler directed the staff to draft potential revisions to permit the SEC “to make awards for related actions that might otherwise be covered by an alternative whistleblower program that is not comparable to the SEC’s own program, and to clarify that the Commission will not lower an award based on its dollar amount.” The SEC issued a policy statement advising how the SEC would proceed in the interim. (See this PubCo post.) Peirce and then-Commissioner Elad Roisman were none too pleased with the SEC’s action then, questioning whether it might be part of a troubling pattern of unwinding actions taken by the last Administration. They made their views known in this statement.
And Peirce reiterates many of those same concerns in this dissenting statement. According to Peirce, “[a]bsent some pressing need to remedy inadvertent oversights, address unanticipated consequences, or deal with significant new factual developments, revisiting recently adopted rules subverts the regulatory consistency and certainty essential to well-functioning markets…. When one reads the proposal, it becomes apparent that, as then-Commissioner Roisman and I observed in June 2021, there is no new information that compels reopening the recently adopted rules.” The SEC was well aware, she said, “of other potentially relevant award programs…when it adopted the 2020 Amendments.” In addition, with regard to SEC discretion to lower amounts of awards, she was not persuaded that merely maintaining the authority to lower awards would create a misimpression that it is overused. Indeed, she contended, the very success of the program suggests that the program is functioning well. “In sum,” she concluded, “this proposal is a solution in search of a problem.”
According to the fact sheet, the proposed amendments to Exchange Act Rules 21F-3 and 6 would address “instances when a whistleblower from the SEC’s program receives an award from another, non-SEC, whistleblower program,” and affirms the SEC’s “authority to consider the dollar amount of a potential award for the limited purpose of increasing an award, but not to lower an award.”
Other related award. Under Exchange Act rules, a whistleblower who obtains an award for an SEC-covered action may also be eligible for another monetary award based on an action brought by other authorities. Under the proposal, the SEC could “make an award for a related action that might otherwise be covered by an alternative whistleblower program even where the alternative whistleblower program has the more direct or relevant connection to the related action in certain circumstances.” The proposal identifies several potential approaches.
SEC discretion. The proposal would affirm that the SEC is authorized to consider the dollar amount of a potential award solely to increase the amount of the award, but would eliminate the SEC’s authority to consider the dollar amount to decrease the award.