DELAWARE GEORGIA MARYLAND NORTH CAROLINA SOUTH CAROLINA VIRGINIA WASHINGTON, DC
SEC PROPOSES NEW EXCHANGE ACT REGISTRATION EXEMPTIONS FOR COMPENSATORY STOCK OPTIONS By: Jane Jeffries Jones July 19, 2007 The SEC recently issued new proposals that would exempt certain compensatory employee stock options from the registration requirements of the Securities Exchange Act of 1934, as amended.1 The proposals, if adopted, would amend Rule 12b-1 under the Exchange Act and should benefit (i) large private companies that grant options to 500 or more persons and (ii) public companies that have registered common stock underlying options on Form S-8. The proposals do not affect the registration requirements applicable to private and public companies under the Securities Act of 1933, as amended, or the application of the Exchange Act registration requirements to securities underlying options. The SEC's proposals are subject to comment and final rulemaking action by the SEC. Comments are due by September 10, 2007. This client alert addresses the key points of the new proposals. Background Under Section 12(g) of the Exchange Act, an issuer with 500 or more holders of record of a class of equity security and assets in excess of $10 million at the end of its most recent fiscal year must register that class of equity security, unless an Exchange Act registration exemption is available. Since stock options are treated as a separate class of equity security for Exchange Act purposes, a company with 500 or more option holders and more than $10 million in assets is required to register the class of options under the Exchange Act, unless an exemption applies. Although a separate exemption exists for many types of employee benefit plans (such as stock bonus, stock purchase, profit-sharing and other plans), large private employers with broad-based option grant programs have been forced to rely on fairly rigid SEC exemptive relief granted on a case-by-case basis or face registration. The SEC's new proposals are intended to give companies more certainty regarding the availability of an Exchange Act registration exemption and, as a result, afford companies more flexibility in the design of their stock option programs. The proposals for both non-reporting and reporting companies are limited to compensatory stock options issued under written compensatory stock option plans that are limited to employees, directors, consultants and advisors of the issuer, its parents and majority-owned subsidiaries of the issuer or its parents.2 The proposed exemption would not extend to other rights issued in connection with compensatory employee stock options, such as stock appreciation rights. Any such other rights would need to be evaluated separately to determine whether Section 12(g) registration would be required.
Exemption of Compensatory Employee Stock Options from Registration under Section 12(g) of the Securities Exchange Act of 1934, Exchange Act Release No. 34-56010 (July 5, 2007) (available at http://www.sec.gov/rules/proposed/2007/34-56010.pdf). These persons are the same group of persons covered by Rule 701 under the Securities Act. Rule 701 provides an exemption from the Securities Act (not Exchange Act) registration requirements for compensatory employee benefit plan offers by non-reporting companies.
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Proposed Exemption for Non-Reporting Companies The SEC's proposals would exempt non-reporting issuers from Exchange Act Section 12(g) registration for compensatory employee stock options issued under written stock option plans if certain conditions regarding permitted optionholders, transferability restrictions and information requirements (each as described below) are met. As noted above, the exemption does not cover the common stock or other securities underlying the options; companies would continue to have to apply the Exchange Act Section 12 registration requirements separately to the underlying class to determine if registration would be required. The proposals are intended to give private companies more certainty with regard to their option compensation programs and also to avoid having such issuers be subject to the registration and reporting requirements of the Exchange Act before they have public shareholders. The conditions generally are as follows:
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The issuer may not have a class of securities registered under Section 12 of the Exchange Act and may not be subject to the reporting requirements of Section 15(d) of the Exchange Act.3 The options must be issued under one or more written compensatory stock option plans limited to employees, directors, consultants and advisors of the issuer, its parents or majorityowned direct or indirect subsidiaries of the issuer or its parents. Transfer by the optionees or holders of underlying shares of the options, underlying shares and shares of the same class must be subject to specific restrictions. These restrictions must be contained in the option plan, option agreement, a stockholders or similar agreement or the company's articles of incorporation or bylaws. Current risk and financial information must be provided to optionees and holders of underlying shares that is of the same type as information currently required to be provided under Securities Act Rule 701 for sales in excess of $5 million during a 12-month period. Such persons also must also be provided access to the same types of corporate books and records that are made available to other shareholders.
Proposed Exemption for Reporting Issuers Reporting companies typically register shares subject to stock option plans with the SEC on Form S-8, but such registration statements usually do not relate to the options underlying the stock. To provide certainty to public companies that such options do not have to be separately registered for Exchange Act purposes, the proposals also would provide an Exchange Act registration exemption for compensatory employee stock options of reporting companies where the underlying stock has been registered under Exchange Act Section 12. The proposed exemption would only be available where the options were issued pursuant to one or more written compensatory stock option plans and where the class of persons eligible to receive or hold compensatory employee stock options under such option plans is limited to employees, directors, consultants and advisors of the issuer, its parents or majority-owned subsidiaries of the issuer or its parents. Conclusion; Additional Information The proposals, if adopted, would provide certainty to companies, particularly large private companies, regarding the availability of an Exchange Act registration exemption for compensatory stock option plans. However, if adopted, the proposals would also impose new restrictions on the design and terms of stock option programs (for instance, regarding required restrictions on transfer) since, for private companies, the new limitations would be required to be included in the stock plan, option agreement or other corporate documents.
The proposed exemption would terminate once the issuer became subject to the Exchange Act reporting requirements. Companies would have 60 days to register the class of options once they could no longer rely on the exemption.
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If you have any questions concerning the proposed rules, please contact either the Womble Carlyle attorney with whom you usually work or one of our Corporate and Securities attorneys listed here. Womble Carlyle client alerts are intended to provide general information about significant legal developments and should not be construed as legal advice regarding any specific facts and circumstances, nor should they be construed as advertisements for legal services. IRS CIRCULAR 230 NOTICE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (or in any attachment) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication (or in any attachment).
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