9/4/12

SEC Deregistration

Related Practices

Related Industries

Attorneys & Professionals

Shedding Some Light on Going Dark


By Anthony D. Weis
(Published in the Summer 2012 issue of The Bankers' Statement.)

On April 5, 2012, the Jumpstart Our Business Startups Act (JOBS Act) was signed into law.  The JOBS Act increased the threshold number of record shareholders of a class of equity securities that triggers registration and reporting requirements under Section 12(g) of the Securities Exchange Act of 1934 (Exchange Act).  For banks and bank holding companies (banks) with assets of more than $10 million, this threshold number is increased from 500 to 2,000. 

Additionally, the JOBS Act increased the threshold number of shareholders of record below which a bank reporting to the Securities and Exchange Commission (SEC) may suspend its reporting obligations.  Under the JOBS Act, a bank may now suspend its reporting obligations with the SEC (i.e., “deregister” or “go dark”) with regard to any class of securities that is held of record by fewer than 1,200 people.

As a result of the JOBS Act, a significant number of banks whose shares are thinly traded have already started the process (or announced their intentions) to suspend their reporting obligations under the Exchange Act, and many more are likely to do the same in the near future.1  For those banks that are eligible to deregister, the suspension of SEC filing requirements, including the requirement to file periodic reports (i.e., 10-Ks, 10-Qs and 8-Ks), proxy statements and Forms 3, 4 and 5,2  can be very enticing.  In particular, deregistration may result in a significant reduction in accounting, legal, insurance and/or compliance costs (including costs related to filing reports via EDGAR) for these banks.

However, prior to taking the steps necessary to suspend their reporting obligations under the Exchange Act, banks are well advised to carefully weigh all of the potential legal and practical implications of such deregistration. 

Eligibility for Deregistration – SEC Counting Rules

In order to determine whether a bank is eligible to deregister its shares under the Exchange Act, the bank must first accurately calculate the number of holders of record of its shares.  The SEC has established certain counting rules for this purpose.  Under these rules, shares are considered to be “held of record” by each person who is identified as the owner of the securities on the records of the issuer. 

Generally speaking, each separate “account” is considered to be one shareholder of record.  However, certain exceptions and special rules apply, including the following: 

In determining the number of shareholders of record, it is important to understand that different results may be reached depending upon the manner in which shares are held.  This is particularly true when counting shares held by a husband and wife.  If a husband and wife jointly own shares of a bank, they are counted as only one shareholder of record with regard to those shares.  However, a different result is reached if the husband and wife each individually own shares.  In that case, they would be counted as separate shareholders of record with respect to the shares that are individually owned.  In the case where the husband and wife each own shares individually and also own shares jointly as co-owners, the husband and wife would represent three shareholders of record – the husband individually would be counted as one shareholder, the wife individually would be counted as one shareholder, and the husband and wife jointly would be counted as one shareholder.

Because of the technical nature of the SEC counting rules, their application can become rather complex in certain situations.  As a result, banks are encouraged to consult their securities counsel when calculating their shareholders of record to ensure that the calculation is done in conformity with all applicable rules and regulations. 

Advantages and Disadvantages of Deregistration

The advantages of a bank suspending its reporting obligations under the Exchange Act are rather clear and easy to quantify.  These advantages include:

However, there are also a number of potential disadvantages that should be carefully considered.  These disadvantages include:

It is important to note that certain provisions of the securities laws will continue to apply even after deregistration is effective.  In particular, insiders of the bank will continue to be subject to the insider trading prohibitions under state and federal securities laws, and the anti-fraud standards of SEC Rule 10b-5 would still impose liability -- civil and criminal -- if someone with material, nonpublic information about the bank purchases or sells the bank’s securities without first fully disclosing such information (or provides (i.e., “tips”) the material, non-public information to someone else who buys or sells the bank’s securities). 

In addition to the foregoing, a bank should carefully consider its future capital needs when evaluating whether to deregister.  Once a bank has deregistered, it may become more difficult and/or costly to later raise capital through an offering of shares or to issue shares as consideration in an acquisition of another bank or bank holding company.

In the event that a bank deregisters and later decides to conduct a public offering of shares (whether to raise additional capital or as consideration in an acquisition), the bank would be required to prepare and file offering documents with the SEC at that time.  These offering documents would need to include all of the types of information that would have been required if the bank had been filing Forms 10-K, 10-Q and 8-K.  In addition, the bank may be required to prepare and file proxy materials that comply with SEC requirements.  While any such offering is in progress and through the end of the year in which the offering is completed, the bank would also be required to make filings under the Exchange Act, including Forms 10-K, 10-Q and 8-K.  

Conclusions

The JOBS Act significantly increases the threshold number of shareholders of record below which a public reporting company may suspend its reporting obligations under the Exchange Act.  For banks, this threshold number is now 1,200.

For many banks with thinly traded stock, the decision to deregister may appear, at first glance, to be a “no brainer.”  However, banks should carefully consider all of the potential advantages and disadvantages prior to deregistering with the SEC.  While the cost savings may initially appear to be significant, it is important for banks to go through the exercise of quantifying the cost savings.  Because banks are already highly regulated by state and federal banking regulators and subject to significant reporting obligations, the actual cost savings may prove to be less than anticipated. 

In addition, banks should carefully consider the impact of deregistration on the bank’s ability to raise additional capital in the future.  If it is likely that the bank may be raising capital in the near future, whether through a public offering of securities or as consideration in an acquisition of another financial institution, the cost savings and other benefits associated with deregistration may be outweighed by the increased effort and expense required in connection with the capital raise.


1 According to the American Banker, data provided by the OTC Markets indicates that 46% of the 413 banks currently trading on Nasdaq have fewer than 1,200 shareholders.  Alan Kline, Small Banks Rush to Leave SEC, AMERICAN BANKER, May 21, 2012, Vol. 177, Issue 78.

2 For a period of six months after deregistration becomes effective, an insider subject to Section 16 reporting obligations must continue to report transactions which occur within six months after a non-exempt opposite way transaction which occurred prior to the effective date of deregistration.  For example, if a director purchases shares of the bank 30 days prior to the effective date of deregistration, the director must report any sale of shares of the bank which occur within 60 days following the purchase even if the sale occurs after deregistration.  After deregistration, the shares of the bank will likely be quoted on the OTC Bulletin Board or another over-the-counter quotation system.  As a result, the bank would still likely be deemed to be “publicly traded” and, therefore, subject to the notice requirements of FINRA.  Thus, for example, the bank would be required to provide a notice to FINRA at least 10 days before the record date for any dividend in order to comply with the requirements of SEC Rule 10b-17.

3 After deregistration, the shares of the bank will likely be quoted on the OTC Bulletin Board or another over-the-counter quotation system.  As a result, the bank would still likely be deemed to be “publicly traded” and, therefore, subject to the notice requirements of FINRA.  Thus, for example, the bank would be required to provide a notice to FINRA at least 10 days before the record date for any dividend in order to comply with the requirements of SEC Rule 10b-17. 

This article is for general information purposes and should not be regarded as legal advice.