Rule 144A and Regulation D offer exemptions from federal securities registration requirements under the Securities Act of 1933. However, they apply to different situations, and overseas companies must follow distinct compliance procedures for each.
Regulation D compliance often involves creating a private placement memorandum (PPM). Rule 144A compliance comes into play later, specifically when a Regulation D investor wants to sell their securities without SEC registration. This 144A vs. Private Placement FAQs the key differences between Rule 144A resales and Regulation D private placements.
What is Rule 144A and How Does it Relate to Selling Restricted Securities?
Rule 144A is a Securities and Exchange Commission (SEC) regulation that permits certain qualified institutional buyers to resell securities without registering them with the SEC. This often involves the resale of securities initially acquired through a private placement under Regulation D (explained in more detail below).
As the SEC states, when you possess restricted and control securities, you need an exemption from registration to sell them publicly. Rule 144A provides such an exemption, allowing public resales if specific conditions are met.
The SEC defines "restricted securities" as those acquired in unregistered, private sales from either the issuing company or an affiliate of the issuer. "Control securities," on the other hand, are held by an affiliate of the issuing company. For Rule 144A purposes, affiliates include individuals like executives, directors, and major shareholders who have a controlling relationship with the issuer.
What Is a Regulation D Private Placement?
A Regulation D private placement is an unregistered securities offering. Regulation D provides exemptions from SEC registration requirements, allowing companies to issue securities privately if they meet specific criteria. While private placements can occur outside of Regulation D, most issuers utilize it due to the added legal advantages.
Instead of selling securities on a public exchange or over-the-counter (OTC) market, a private placement involves a private sale. Since registration is designed for investor protection, issuers conducting private placements must demonstrate that registration isn't necessary. Regulation D offers two primary avenues for this:
- Rule 504 Private Placements: This rule permits issuers to offer up to $10 million in private placements within a 12-month period to both accredited and non-accredited investors.
- Rule 506 Private Placements: This rule allows issuers to offer private placements to an unlimited number of accredited investors and up to 35 non-accredited investors, or to publicly advertise private placements for acquisition by accredited investors only.
Although there are no formal documentation requirements for private placements (though issuers must file Form D with the SEC after their first sale under Regulation D), issuers typically use a private placement memorandum (PPM) to outline the terms of their unregistered offerings.
What Distinguishes Rule 144A from Regulation D?
The key difference between Rule 144A resales and Regulation D private placements lies in who can conduct these transactions. Regulation D private placements are exclusively for securities issuers meeting the requirements of Rule 504 or Rule 506 for unregistered offerings.
Securities sold under Rule 144A, conversely, exclude issuers and can be conducted by various entities and individuals, including:
- Qualified institutional buyers (QIBs) of restricted securities; and
- Affiliates of issuers holding control securities.
Beyond this core distinction, numerous other technical and nuanced differences exist. These range from eligibility criteria for registration exemptions to the documentation required for these transactions and demonstrating compliance with federal securities laws.
How Does a Rule 144A Resale Operate?
To resell unregistered securities under Rule 144A, Qualified Institutional Buyers (QIBs) and affiliates must meet specific conditions. Satisfying these conditions creates a "safe harbor" from liability for the unregistered sale. These conditions are:
- Holding Period: For securities issued by a "reporting company," a six-month holding period is required. For non-reporting companies, the holding period is one year.
- Current Public Information: Adequate current public information about the issuing company must be available before the sale. For reporting companies, this typically means compliance with periodic reporting requirements under the Securities Exchange Act of 1934. For non-reporting companies, specific company information (business nature, officers and directors, financial statements) must be publicly available.
- Trading Volume (Affiliates Only): An affiliate's sales within any three-month period cannot exceed the greater of 1% of the outstanding shares of the same class being sold, or, if the class is listed on an exchange, the greater of 1% or the average reported weekly trading volume during the four weeks preceding the Form 144 filing.
- Ordinary Brokerage Transaction (Affiliates Only): Sales must be handled as routine trading transactions, with brokers receiving only normal commissions. Neither seller nor broker can solicit buy orders.
- Notice of Proposed Sale (Affiliates Only): A Form 144 notice must be filed with the SEC if the sale involves more than 5,000 shares or an aggregate dollar amount greater than $50,000 within any three-month period.
The last three conditions apply only to affiliates. If a QIB is also an affiliate, all Rule 144A conditions must be met. Importantly, the SEC notes that if the securities acquires are from a non-affiliate, the non-affiliate's holding period can be "tacked on" to the purchaser's holding period.
What's the Process for a Regulation D Private Placement?
A Regulation D private placement involves structuring an offering that complies with either Rule 504 or Rule 506. While not strictly mandated, preparing a Private Placement Memorandum (PPM) is generally part of the process.
A PPM is a disclosure document informing potential investors about the offering's nature, associated risks, potential conflicts of interest, and other material information relevant to their investment decision. The SEC requires issuers to provide specific information to sophisticated institutional investors, and the PPM has become the standard document for fulfilling these disclosure obligations.
Although using a PPM is typical for Regulation D private placements, it shouldn't be a generic, boilerplate document. Customizing PPMs to each specific unregistered equity securities and debt offering is essential to ensure they meet all applicable disclosure requirements and provide sufficient investor protection.
What Happens if I Don't Comply with Rule 144A or Regulation D?
Although Rule 144A and Regulation D have distinct requirements and applications, noncompliance carries similar risks under both. These risks include:
- Civil Investment Fraud Litigation: Conducting non-compliant unregistered securities offerings can expose issuers, QIBs, and affiliates to investment fraud allegations in civil lawsuits.
- SEC Investigations and Enforcement Action: Noncompliance can also lead to SEC investigations and enforcement actions. These actions may result in administrative penalties (e.g., barring from the securities industry), civil penalties (e.g., fines and restitution), and, in some cases, even criminal penalties (e.g., fines and imprisonment).
Because of these risks, a proactive compliance strategy is essential. Once an issuer, QIB, or affiliate facilitates fraudulent foreign offerings or unlawful unregistered securities offerings, rectifying the error may be impossible. Contact us for a complimentary consultation if you need more information about Rule 144A or Regulation D compliance.
Unlocking Private Capital by Understanding Rule 144A and Regulation D
Rule 144A and Regulation D provide exemptions from federal securities registration requirements, but their distinct purposes and requirements necessitate careful navigation. Regulation D governs the issuance of unregistered securities through private placements, often involving a Private Placement Memorandum (PPM). Rule 144A, on the other hand, makes it easier to resell restricted securities to Qualified Institutional Buyers (QIBs), typically after a Regulation D offering.
Understanding the nuances of each regulation, including eligibility criteria, documentation, and compliance obligations, is paramount. This FAQ has outlined the key differences, processes, and risks associated with both Rule 144A and Regulation D. However, given the complexities and potential consequences of non-compliance, consulting with an experienced securities attorney is highly recommended for anyone considering these types of transactions. Proactive legal counsel can help ensure compliance, mitigate risks, and facilitate a smooth and legally sound process.
