SEC Adopts Final Rule Allowing All Issuers to ‘Test the Waters’

September 30, 2019

The Securities and Exchange Commission voted on September 26 to adopt a new rule and related amendments under the Securities Act that expand the permissible use of testing-the-waters communications to enable any issuer, or any person authorized to act on their behalf, to make oral and written offers to qualified institutional buyers and institutional accredited investors before or after the filing of a registration statement to gauge investors’ interest in the offering.

In 2012, Congress passed the Jumpstart Our Business Startups Act (JOBS Act), which reformed many of the then existing rules for the newly created category of emerging growth companies (EGCs). In those reforms the JOBS Act significantly eased longstanding restrictions on “gun-jumping” under Section 5 of the Securities Act by permitting EGCs, or persons authorized to act on behalf of the EGCs, to make “testing the waters” communications before or after the filing of a registration statement to gauge investors’ interest in the offering.

Since the adoption of the JOBS Act, testing-the-waters communications have been used in a significant portion of EGC initial public offerings and covered follow-on offerings. Various groups had called for this option to be expanded to all issuers, and the new rule adopted by the SEC does just that.

Securities Act Rule 163B

Securities Act Rule 163B will permit any issuer, or any person authorized to act on its behalf, to engage in oral or written communications with potential investors that are, or are reasonably believed to be, qualified institutional buyers or institutional accredited investors, either prior to or following the filing of a registration statement, to determine whether such investors might have an interest in a contemplated registered securities offering. All issuers—including nonreporting issuers, EGCs, non-EGCs, well-known seasoned issuers, and investment companies (including registered investment companies and business development companies)—will be eligible to rely on the proposed rule.

The rule is nonexclusive, and an issuer may rely on other Securities Act communications rules or exemptions when determining how, when, and what to communicate related to a contemplated securities offering. Additionally, in connection with the adoption of Rule 163B, the SEC has revised the definition of “free writing prospectus” in Rule 405 to clarify that Rule 163B communications are not free writing prospectuses required to be filed with the Commission.

Issuers subject to Regulation Fair Disclosure (FD) will need to consider whether any information in a testing-the-waters communication, or the fact that the issuer is making an investor outreach, would trigger disclosure obligations under that regulation or whether an exemption would apply. Testing-the-waters communications that also include material nonpublic information could be subject to Regulation FD unless an exclusion applies.

The final rule differs from the proposal by removing the anti-evasion language originally proposed as Rule 163B(a)(2). Commenters believe and the SEC staff agreed that such language might have raised uncertainty and risked limiting the utility of the rule.

The rule will become effective 60 days after its publication in the Federal Register.


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