Self-Regulatory Organizations; Financial Industry Regulatory Authority, Inc.; Notice of Filing of Proposed Amendments to FINRA Rules 5122 (Private Placements of Securities Issued by Members) and 5123 (Private Placements of Securities) That Would Require Members To File Retail Communications Concerning Private Placement Offerings That Are Subject to Those Rules' Filing Requirements, 71120-71125 [2020-24629]
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71120
Federal Register / Vol. 85, No. 216 / Friday, November 6, 2020 / Notices
Electronic Comments
• Use the Commission’s internet
comment form (https://www.sec.gov/
rules/sro.shtml); or
• Send an email to rule-comments@
sec.gov. Please include File Number SR–
NYSEArca–2020–92 on the subject line.
Paper Comments
• Send paper comments in triplicate
to Secretary, Securities and Exchange
Commission, 100 F Street NE,
Washington, DC 20549–1090.
All submissions should refer to File
Number SR–NYSEArca–2020–92. This
file number should be included on the
subject line if email is used. To help the
Commission process and review your
comments more efficiently, please use
only one method. The Commission will
post all comments on the Commission’s
internet website (https://www.sec.gov/
rules/sro.shtml). Copies of the
submission, all subsequent
amendments, all written statements
with respect to the proposed rule
change that are filed with the
Commission, and all written
communications relating to the
proposed rule change between the
Commission and any person, other than
those that may be withheld from the
public in accordance with the
provisions of 5 U.S.C. 552, will be
available for website viewing and
printing in the Commission’s Public
Reference Room, 100 F Street NE,
Washington, DC 20549, on official
business days between the hours of
10:00 a.m. and 3:00 p.m. Copies of the
filing also will be available for
inspection and copying at the principal
office of the Exchange. All comments
received will be posted without change.
Persons submitting comments are
cautioned that we do not redact or edit
personal identifying information from
comment submissions. You should
submit only information that you wish
to make available publicly. All
submissions should refer to File
Number SR–NYSEArca–2020–92 and
should be submitted on or before
November 27, 2020.
For the Commission, by the Division of
Trading and Markets, pursuant to delegated
authority.10
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020–24633 Filed 11–5–20; 8:45 am]
BILLING CODE 8011–01–P
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–90302; File No. SR–FINRA–
2020–038]
Self-Regulatory Organizations;
Financial Industry Regulatory
Authority, Inc.; Notice of Filing of
Proposed Amendments to FINRA
Rules 5122 (Private Placements of
Securities Issued by Members) and
5123 (Private Placements of Securities)
That Would Require Members To File
Retail Communications Concerning
Private Placement Offerings That Are
Subject to Those Rules’ Filing
Requirements
November 2, 2020.
Pursuant to Section 19(b)(1) of the
Securities Exchange Act of 1934
(‘‘Act’’) 1 and Rule 19b–4 thereunder,2
notice is hereby given that on October
28, 2020, the Financial Industry
Regulatory Authority, Inc. (‘‘FINRA’’)
filed with the Securities and Exchange
Commission (‘‘SEC’’ or ‘‘Commission’’)
the proposed rule change as described
in Items I, II, and III below, which Items
have been prepared by FINRA. The
Commission is publishing this notice to
solicit comments on the proposed rule
change from interested persons.
I. Self-Regulatory Organization’s
Statement of the Terms of Substance of
the Proposed Rule Change
FINRA is proposing to amend FINRA
Rules 5122 (Private Placements of
Securities Issued by Members) and 5123
(Private Placements of Securities) that
would require members to file retail
communications concerning private
placement offerings that are subject to
those rules’ filing requirements.
The text of the proposed rule change
is available on FINRA’s website at
https://www.finra.org, at the principal
office of FINRA and at the
Commission’s Public Reference Room.
II. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
Change
In its filing with the Commission,
FINRA included statements concerning
the purpose of and basis for the
proposed rule change and discussed any
comments it received on the proposed
rule change. The text of these statements
may be examined at the places specified
in Item IV below. FINRA has prepared
summaries, set forth in sections A, B,
and C below, of the most significant
aspects of such statements.
1 15
10 17
CFR 200.30–3(a)(12).
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U.S.C. 78s(b)(1).
CFR 240.19b–4.
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A. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
Change
1. Purpose
FINRA Rules 5122 and 5123
Rule 5122 applies to private
placements of unregistered securities
issued by a member or a control entity 3
(‘‘member private offerings’’). The rule
requires the member or control entity to
provide prospective investors with a
private placement memorandum
(‘‘PPM’’), term sheet or other offering
document that discloses the intended
use of the offering proceeds, the offering
expenses and the amount of selling
compensation that will be paid to the
member and its associated persons.
The rule also requires a member to
file the PPM, term sheet or other
offering document with the FINRA
Corporate Financing Department (‘‘Corp
Fin’’) at or prior to the first time the
document is provided to any
prospective investor.4 Many member
private offerings are exempt from the
rule’s requirements, including among
others, offerings sold only to
institutional accounts, as defined in
FINRA Rule 4512(c),5 qualified
purchasers, as defined in the Investment
Company Act of 1940,6 and qualified
institutional buyers,7 as defined in Rule
144A under the Securities Act of 1933
(‘‘Securities Act’’).8
3 A ‘‘control entity’’ means any entity that
controls or is under common control with a
member, or that is controlled by a member or its
associated persons. See FINRA Rule 5122(a)(2).
Control means beneficial interest, as defined in
FINRA Rule 5130(i)(1), of more than 50 percent of
the outstanding voting shares of a corporation, or
the right to more than 50 percent of the
distributable profits or losses of a partnership or
other non-corporate legal entity. Control is
determined immediately after the closing of an
offering, and in the case of an offering with multiple
intended closings, immediately following each
closing. See FINRA Rule 5122(a)(3).
4 Rule 5122 also requires the filing of any
amendments to such documents within 10 days of
being provided to any investor or prospective
investor. See FINRA Rule 5122(b)(2).
5 Rule 4512(c) defines ‘‘institutional account’’ as
the account of:
(1) A bank, savings and loan association,
insurance company or registered investment
company;
(2) an investment adviser registered either with
the SEC under Section 203 of the Investment
Advisers Act or with a state securities commission
(or any agency or office performing like functions);
or
(3) any other person (whether a natural person,
corporation, partnership, trust or otherwise) with
total assets of at least $50 million.
6 See 15 U.S.C. 80a–2(a)(51).
7 See 17 CFR 230.144A(a)(1).
8 Rule 5122 exempts the following member
private offerings:
(1) Offerings sold solely to:
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Federal Register / Vol. 85, No. 216 / Friday, November 6, 2020 / Notices
Rule 5123 requires members to file
with FINRA any PPM, term sheet or
other offering document, including any
material amended versions thereof, used
in connection with a private placement
of securities within 15 calendar days of
the date of first sale. Rule 5123 exempts
private placements that are filed under
other FINRA Corporate Financing Rules,
as well as most of the same categories
of private placements that are exempt
from filing under Rule 5122.9 As a result
of these exemptions, both rules apply
(A) Institutional accounts, as defined in Rule
4512(c);
(B) qualified purchasers, as defined in Section
2(a)(51)(A) of the Investment Company Act;
(C) qualified institutional buyers, as defined in
Securities Act Rule 144A;
(D) investment companies, as defined in Section
3 of the Investment Company Act;
(E) an entity composed exclusively of qualified
institutional buyers, as defined in Securities Act
Rule 144A; and
(F) banks, as defined in Section 3(a)(2) of the
Securities Act;
(2) offerings of exempted securities, as defined in
Section 3(a)(12) of the Exchange Act;
(3) offerings made pursuant to Securities Act Rule
144A or Regulation S;
(4) offerings in which a member acts primarily in
a wholesaling capacity (i.e., it intends, as evidenced
by a selling agreement, to sell through its affiliate
broker-dealers, less than 20% of the securities in
the offering);
(5) offerings of exempt securities with short term
maturities under Section 3(a)(3) of the Securities
Act;
(6) offerings of subordinated loans under
Exchange Act Rule 15c3–1, Appendix D (see NASD
Notice to Members 02–32 (June 2002));
(7) offerings of ‘‘variable contracts’’, as defined in
FINRA Rule 2320(b);
(8) offerings of modified guaranteed annuity
contracts and modified guaranteed life insurance
policies, as referenced in FINRA Rule 5110(h)(2)(D);
(9) offerings of unregistered investment grade
rated debt and preferred securities;
(10) offerings to employees and affiliates of the
issuer or its control entities;
(11) offerings of securities issued in conversions,
stock splits and restructuring transactions that are
executed by an already existing investor without
the need for additional consideration or
investments on the part of the investor;
(12) offerings of securities of a commodity pool
operated by a commodity pool operator, as defined
under Section 1a(5) of the Commodity Exchange
Act;
(13) offerings of equity and credit derivatives,
including OTC options; provided that the derivative
is not based principally on the member or any of
its control entities; and
(14) offerings filed with Corp Fin under FINRA
Rules 2310, 5110 or Rule 5121.
9 See FINRA Rule 5123(b); see also note 8, supra.
In addition to the exemptions contained in Rule
5122, Rule 5123(b) exempts offerings sold by the
member or person associated with the member to
(a) employees and affiliates, as defined in Rule
5121, of the issuer; (b) knowledgeable employees as
defined in Investment Company Act Rule 3c–5; (c)
eligible contract participants, as defined in Section
3(a)(65) of the Exchange Act; and (d) accredited
investors described in Securities Act Rule 501(a)(1),
(2), (3), and (7); and exempts business combination
transactions as defined in Securities Act Rule
165(f), and standardized options as defined in
Securities Act Rule 238.
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predominately to private placements
sold to retail investors.
FINRA received 2,509 unique Rule
5122 and 5123 filings in 2019. FINRA
uses analytics to conduct a risk-based
review for each filing. This analysis of
an offering’s risk to investors and its
ability to identify potential rule
violations and other potential problems
begins with the information and
documents submitted. Members that sell
private placements may use a PPM or
term sheet alone, or may use a variety
of other offering documents in addition
to, or instead of, a PPM or term sheet.
Because members use a wide variety
of materials, Rules 5122 and 5123 do
not enumerate the types of information
that might be considered ‘‘offering
documents.’’ FINRA has stated
previously that an example of ‘‘other
offering document’’ is ‘‘[a]ny other type
of document that sets forth the terms of
the offering.’’ 10 The terms of an offering
include facts such as the amount of
proceeds that the issuer intends to raise,
the type of security, descriptions or
illustrations of the intended use of
proceeds, and explanations of tax
benefits or other information that would
be relevant to an investor when
deciding whether to make an
investment.
While Rules 5122 and 5123 do not
require retail communications governed
by Rule 2210 (Communications with the
Public) to be filed, many members file
these communications with their
required documents.11 Examples of
these retail communications can include
web pages that promote the offering,
slide presentations, pitch decks, onepage ‘‘teasers,’’ fact sheets, sales
brochures, executive summaries, and
investor packets. Corp Fin often
forwards these retail communications to
FINRA’s Advertising Regulation
Department (‘‘AdReg’’) for review.
Corp Fin staff triages the filings it
receives under Rules 5122 and 5123
using a variety of criteria and selects a
subset for further analysis and review
based on the relative risk of the offering.
In some cases, FINRA opens
investigations of particular offerings,
which may lead to follow-up
examinations by Member Supervision
staff, and potentially, referrals to the
Department of Enforcement.
10 See ‘‘Frequently Asked Questions (FAQ) About
Private Placements,’’ Question #10, available on
www.finra.org.
11 See Regulatory Notice 09–27 (May 2009),
which announced SEC approval of Rule 5122,
stated that the rule imposes no additional
requirements regarding the filing of advertisements
or sales materials. However, as noted, many firms
do in fact file retail communications concerning
private placements under Rules 5122 and 5123.
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71121
Advertising Regulation Review of
Private Placement Retail
Communications
In addition to reviewing private
placement retail communications that
are filed under Rules 5122 and 5123 and
referred by Corp Fin, AdReg reviews
private placement retail
communications that it receives through
one of four other channels: (i) New
member and voluntary filings with
AdReg; (ii) referrals from the Member
Supervision examination program and
other surveillance groups; (iii) AdReg
spot checks; and (iv) assistance in
Enforcement cases.
AdReg has observed that retail
communications that have been directly
filed by new members 12 or voluntarily
with AdReg for private placements raise
more compliance issues than those for
other products. Between January 1,
2017, and March 31, 2020, AdReg
reviewed 1,726 new member and
voluntary filings of private placement
retail communications. Of these filings,
41% required revisions to comply with
applicable standards, and 4% were so
noncompliant with the rules that FINRA
issued ‘‘do not use’’ (DNU) review
letters. In comparison, during this same
period, only 8% of overall AdReg filings
reviewed required revisions, and only
0.1% received a DNU letter.13
In 2018, AdReg conducted a spot
check of the private placement retail
communications provided to Corp Fin
in connection with filings under Rules
5122 and 5123 during the second and
third quarters of 2018. The review
revealed significant and pervasive
violations of Rule 2210; overall, 806 of
the 1,062 retail communications
reviewed (76%) did not comply with
Rule 2210.
The most common violation was the
inclusion of prohibited projections of
performance or unreasonable forecasts,
e.g., ‘‘Return 4–6x invested capital net
of fees’’ and ‘‘Management projects a
$100 million revenue stream can be
built in 5 years.’’ Numerous others
contained false or misleading
statements, e.g., ‘‘Safety of Principle’’
12 Rule 2210(c)(1)(A) requires new members to
file all widely-distributed retail communications
(such as publicly available websites) that promote
products or services of the firm during the first year
after the member’s broker-dealer membership with
FINRA is declared effective.
13 During the same period, AdReg analyzed 1,328
private placement retail communications that were
referred from Corp Fin, Member Supervision, or
other FINRA departments. Seventy-one percent
(71%) of these communications required revisions
to comply with applicable standards and 13%
resulted in a DNU letter. In contrast, 66% of all
communications referred by other FINRA staff were
determined to require revisions and 4% resulted in
a DNU letter.
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71122
Federal Register / Vol. 85, No. 216 / Friday, November 6, 2020 / Notices
[sic] and ‘‘UTILIZES AI & MACHINE
LEARNING TECHNOLOGY SIMILAR
TO THAT USED BY ONLINE GIANTS
SUCH AS FACEBOOK, NETFLIX,
AMAZON AND STITCH FIX.’’ Another
common issue was the failure to balance
promotional content with the key risks
associated with the investment, such as
a real estate offering touting the benefit
of purchasing properties leased by
‘‘investment grade’’ tenants without
discussing that such holdings do not
assure a profit or protect against loss.
Others failed to disclose general risks,
such as the speculative nature of the
securities and the lack of liquidity of the
investment.
Private placement retail
communications also feature
prominently in FINRA’s Enforcement
program. Since January 1, 2014, FINRA
has initiated 49 disciplinary actions
related to non-compliant retail
communications concerning private
placements. This number represents
21% of all actions involving private
placements.
not subject to the filing requirements in
Rules 5122 or 5123, such as sales
exclusively to institutional accounts.
Moreover, because Rules 5122 and 5123
do not impose any filing fees, members
would not be subject to higher fees
because of this additional filing
requirement.
FINRA anticipates that members
would be able to file most retail
communications at the same time and in
the same manner that they file their
PPMs, term sheets, and other offering
documents. The rules’ requirements that
material amendments to offering
documents must be filed also would
apply to retail communications.
If the Commission approves the
proposed rule change, FINRA will
announce the effective date of the
proposed rule change in a Regulatory
Notice to be published no later than 60
days following Commission approval.
The effective date will be no later than
180 days see publication of the
Regulatory Notice announcing
Commission approval.
Filing Proposal
Given the comparatively high rate of
non-compliance of private placement
retail communications, and the
increased risk of investor harm
associated with those communications,
FINRA proposes to amend Rules 5122
and 5123 to require such retail
communications to be filed, in addition
to the currently required PPMs, term
sheets, and other offering documents.
Rules 5122 and 5123 focus on the
private placements that raise the
greatest concerns—those sold to retail
investors, whether or not accredited.
FINRA proposes to limit the new filing
requirement to the same offerings; it
would not apply to any offerings that
are currently exempt from filing.14 A
member would be required to file with
FINRA such retail communications no
later than the date on which a filing is
required under Rules 5122 and 5123.15
The proposal would not require
members to file private placement retail
communications for offerings that are
2. Statutory Basis
FINRA believes that the proposed rule
change is consistent with the provisions
of Section 15A(b)(6) of the Act,16 which
requires, among other things, that
FINRA rules must be designed to
prevent fraudulent and manipulative
acts and practices, to promote just and
equitable principles of trade, and, in
general, to protect investors and the
public interest. FINRA believes that
requiring the filing of retail
communications under Rules 5122 and
5123 will improve members’
compliance and understanding of the
application of FINRA’s communications
with the public rules and reduce the
likelihood that retail investors would
receive false or misleading sales
material for private placements.17
14 See
supra notes 8 and 9.
15 As discussed above, Rule 5122 requires a
member subject to the rule to file the PPM, term
sheet or other offering document with FINRA at or
no later than the first time the document is
provided to a prospective investor. Any
amendments or exhibits to such offering documents
also must be filed with FINRA within 10 days of
being provided to any investor or prospective
investor. See Rule 5122(b)(2). Rule 5123 requires a
member subject to the rule to file with FINRA the
PPM, term sheet or other offering document,
including any materially amended versions thereof,
used in connection with the sale of securities
covered by the rule within 15 calendar days of the
date of first sale, or notify FINRA that no such
offering documents were used. See Rule 5123(a).
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B. Self-Regulatory Organization’s
Statement on Burden on Competition
FINRA does not believe that the
proposed rule change will result in any
burden on competition that is not
necessary or appropriate in furtherance
of the purposes of the Act.
Economic Impact Assessment
FINRA has undertaken an economic
impact assessment, as set forth below, to
analyze the regulatory need for the
proposed rule change, its potential
economic impacts, including
16 15
U.S.C. 78o–3(b)(6).
recently issued a Regulatory Notice
providing guidance under Rule 2210 to firms that
distribute retail communications concerning private
placements. See Regulatory Notice 20–21 (July 1,
2020).
17 FINRA
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Fmt 4703
Sfmt 4703
anticipated costs, benefits, and
competitive effects, relative to the
current baseline, and the alternatives
FINRA considered in assessing how best
to meet FINRA’s regulatory objectives.
Regulatory Need
As discussed above, FINRA has seen
significant problems with the retail
communications that have been
voluntarily filed under Rules 5122 and
5123. In addition, as noted above, the
2018 spot check revealed that 76% of
retail communications filed under Rules
5122 and 5123 during the spot check
review period involved significant
violations of Rule 2210.18 It is possible
that significant violations may be even
more prevalent among retail
communications that have not been
voluntarily filed or reviewed. Moreover,
high-risk retail communications
concerning private placements feature
prominently in FINRA’s Enforcement
program.19 These communications often
present false or misleading information
regarding the underlying offering, which
could result in significant losses to
investors and could undermine public
trust in the private placement markets.
The proposed amendments, therefore,
are intended to promote investor
protection and market integrity by
expanding FINRA’s oversight of highrisk retail communications concerning
private placements.
Economic Baseline
The economic baseline includes the
current regulation of retail
communications under Rule 2210 and
current regulation of specified private
placements under Rules 5122 and 5123.
All retail communications are required
to comply with the general, fair and
balanced standards detailed in Rule
2210; however, Rule 2210 generally
does not require members to file with
FINRA the materials they use to
communicate with retail investors
concerning private placements. Under
Rules 5122 and 5123, members are
required to file with FINRA any PPM,
18 Among the retail communications reviewed,
45% contained prohibited projections or
unreasonable forecasts; 44.6% failed to provide a
sound basis to evaluate the facts with respect to the
offering in that the benefits articulated in the
marketing materials were not balanced by key
specific risks associated with an investment or the
issuer; 39.9% failed to adequately disclose the
general risks associated with private placement
investments; 21.8% contained readily apparent
false or misleading statements or claims; and 7.4%
contained misleading references to FINRA, other
regulators, or the benefits of regulation generally.
19 As mentioned earlier, retail communications
concerning private placements resulted in 49
FINRA disciplinary actions since January 2014,
representing 21% of FINRA’s disciplinary actions
involving private placements during the period.
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term sheet, or other offering document
used in connection with specified
private placements, although these rules
do not currently require retail
communications governed by Rule 2210
to be filed. Therefore, firms currently
have no regulatory obligation to submit
these communications for review by
FINRA.
The economic baseline also includes
members’ existing practices under Rules
2210, 5122 and 5123. Currently, some
members submit retail communications
as part of their Rules 5122 and 5123
private placement filings with Corp Fin;
some members file these
communications through AdReg’s
filings review program under Rule 2210
either voluntarily or as new members;
and some members submit these
communications to both or neither of
these departments.
As discussed above, upon receiving
filings under Rules 5122 and 5123, Corp
Fin triages the filings to select a subset
for further review based on the relative
risk of the offering. Corp Fin notifies
AdReg when it receives retail
communications in connection with the
higher-risk offerings it assigns for
reviews. AdReg then conducts its own
triage program based on the relative risk
of these retail communications.
Once high-risk retail communications
are identified, AdReg requests Corp Fin
to refer them to AdReg and opens a
complex review matter to assess
whether the communications meet
applicable communication standards. If
apparent rule violations are identified,
AdReg will, as needed, provide an
analysis for an existing Corp Fin
investigation or contact the member
firm to explain the concerns, ask the
firm to remediate the communications,
and determine the extent of the
communications’ use. AdReg may
resolve the matter with informal
disciplinary action or, if severe
violations are identified, may refer the
matter to FINRA’s Department of
Enforcement.20
The existing regulatory procedure
concerning private placement retail
communications that are filed with
AdReg under Rule 2210 voluntarily or
by new members adopts a different
approach from the above. AdReg
conducts a review in response to each
retail communication filing and
provides a review letter indicating
whether the communication appears to
be consistent with the applicable
20 A similar procedure is followed when AdReg
receives referrals from the Member Supervision
examination program or other surveillance groups.
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standards, and if not, the bases for this
determination.21
FINRA has collected information for
assessing the specified private
placement market under Rules 5122 and
5123. On average, FINRA receives
approximately 2,400 new offering filings
annually, with approximately 10–15%
of the filings representing a duplicate
filing by separate firms with respect to
the same offering. As a reference, the
Regulation D data published by the
SEC’s Division of Economic and Risk
Analysis in August 2018 provided that
approximately 20,000 new offering
filings on average were submitted via
EDGAR each year from 2015 to 2017. Of
this total, roughly 4,000 (or 20%) of the
new offerings that SEC identified
involved ‘‘intermediaries’’ such as
brokers or finders, some of which may
not be FINRA members. Accordingly,
FINRA’s private placement review
program under Rules 5122 and 5123
accounts for approximately half of the
new offerings filed with the SEC that
involve intermediaries and
approximately 10% of all new offering
filings annually.
To assess how likely the specified
private placements use retail
communications, FINRA has analyzed
information pertaining to 1,327 offerings
filed with Corp Fin under Rules 5122
and 5123 during the second and third
quarters of 2018.22 Approximately 781
(or 59%) of the offerings did not include
retail communications as part of the
filing. There were 1,062 retail
communications submitted by 132
members for the remaining 546
offerings.23 The average (maximum)
number of retail communications
submitted per member among these
offerings was eight (260), respectively.
The average (maximum) number of
retail communications per offering was
approximately two (23) retail
communications.
To further assess the existing
regulatory procedure under Rules 5122
and 5123, FINRA collected review
information regarding the 708 private
placement filings with Corp Fin over the
period February 1, 2020 to April 17,
21 Unlike Corp Fin’s private placement review
program under Rules 5122 and 5123, filings through
AdReg’s filings review program under Rule 2210 are
subject to filing fees.
22 The information was collected by AdReg in the
2018 spot check. There were 2,269 filings inclusive
of amendments by 309 member firms related to the
1,327 offerings. Among them, 1,208 had projected
proceeds totaling $37.6B while projected proceeds
were unknown for other offerings.
23 Among the 546 offerings that included retail
communications, 524 of them had projected
proceeds totaling $10.8B with projected proceeds
unknown for the remaining offerings.
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71123
2020.24 Corp Fin identified 274 (or
38.7%) of filings that contained retail
communications during this period.
Among these 274 filings, 37 (or 13.5%)
were deemed by Corp Fin to be high
risk. AdReg triaged the retail
communications in these 37 filings and
determined that 14 represented likely
significant violations of Rule 2210 and
opened 14 complex review matters.
These 14 matters represented 5% of all
filings containing retail communications
under Rules 5122 and 5123 during this
period.25
Economic Impacts
The proposed rule change would
directly impact members that distribute
retail communications concerning
specified private placements by
requiring them to submit these
communications to Corp Fin at the time
they file the PPM, term sheet, or other
offering document. Such an impact
would be more pronounced for
members that have not been voluntarily
filing private placement retail
communications with Corp Fin or
AdReg. FINRA anticipates a
considerable increase in the number of
retail communications filed under Rules
5122 and 5123 as a result of the
proposal. As was found during the 2018
spot check, approximately 41% of the
offerings included retail
communications voluntarily submitted
concerning these offerings. If each
offering is associated with an average of
two retail communications, then the
number of retail communications could
be increased by 3,124 retail
communications annually, totaling
5,308 retail communications per year.
The estimate of two retail
communications per offering may
overstate or understate the true amount.
Note that the average of two retail
communications per offering found
during the spot check may understate
the true average if members did not
voluntarily file all retail
communications associated with these
offerings. Alternatively, the average
retail communications per offering
could be lower than two if there were
many offerings that did not submit any
retail communications because they did
not distribute any such
communications.
24 This sample is different from the previous
sample of the 2018 spot check: It is based on the
most recent period for which FINRA has reliable
data on its triage and review process.
25 FINRA recognizes that the percentage of retail
communications selected for complex review at any
point in time (including after the proposed rule
change) may deviate from 5%, as the time period
used for deriving the estimate might be too short to
draw reliable inferences.
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Federal Register / Vol. 85, No. 216 / Friday, November 6, 2020 / Notices
In developing the proposal, FINRA
staff does not expect it to have a
significant impact on AdReg’s existing
filings review program. Members will
continue to have the option (but not the
obligation) to file these communications
through AdReg’s filings review program
following the proposal.26
The primary benefit of the proposed
rule change would arise from FINRA’s
enhanced insight into and oversight of
retail communications concerning highrisk private placements.27 Specifically,
the proposed amendments would enable
FINRA to review all retail
communications concerning the
specified private placements through its
triage program and if warranted, open
cases for complex review, thereby
extending FINRA’s ability to potentially
uncover significant violations of Rule
2210. In addition, retail
communications that have not been
filed voluntarily with Corp Fin or
AdReg may have contained violations of
greater severity or presented novel
regulatory issues unknown to FINRA.
By allowing access to retail
communications concerning private
placements from all filing members, the
proposal would help FINRA staff
understand the scope and severity of
existing issues in a more accurate and
efficient manner, which would further
enhance FINRA’s surveillance and
enforcement program.28
The proposal likely would increase
members’ incentives to distribute retail
communications concerning private
placements that are fair and balanced
and deter them from presenting false or
misleading information that may cause
investor harm. The proposed change
may also likely increase issuers’
incentives to disclose the risks of
private placements in a fair and
balanced manner in connection with
retail communications, thereby
enhancing the capabilities of investors
and other related parties to assess these
risks as part of their investment
decisions.
FINRA believes that greater regulatory
oversight, together with changes in
members’ and issuers’ incentives, would
26 FINRA believes that some members will
continue to have incentives to file voluntarily retail
communications through AdReg’s filings review
program following the proposed amendments. For
instance, members and related parties may still
benefit from a review letter indicating the material
is consistent with applicable standards.
27 FINRA recognizes that the proposal would not
likely impact FINRA’s oversight of low-risk
offerings or low-risk retail communications as
defined by the current triage process.
28 Although FINRA does not anticipate immediate
changes to its existing triage programs, the
additional knowledge that FINRA would acquire
following the proposal could potentially help
FINRA refine its triage programs in the long run.
VerDate Sep<11>2014
19:00 Nov 05, 2020
Jkt 253001
help promote greater investor protection
and public trust in the private
placement markets. The benefit from
enhanced incentives and regulatory
oversight would more likely accrue with
respect to members that frequently file
private placements that include retail
communications. FINRA recognizes that
the proposal’s investor protection
benefits may be limited given that
members are required to file private
placement offerings within 15 calendar
days of the date of first sale under Rule
5123. (Rule 5122 requires member
private offerings to be filed at or prior
to the date of first sale.) The proposal’s
investor protection benefits also may
vary depending on how long the Corp
Fin triage process takes and how
quickly AdReg triages and reviews the
communications and the available
remedying tools.
FINRA believes that the proposal
would impose a minimal increase in
direct costs to members that have not
already been voluntarily filing private
placement retail communications with
Corp Fin. Specifically, the proposal
would require these members to file any
additional retail communications that
promote the offering at the time they file
the PPM or term sheet. Members also
would be required to file retail
communications subsequent to the
initial filing if they distribute new retail
communications promoting the offering
or make material changes to any
previously filed retail communications.
FINRA believes such increases in direct
costs would be minimal as Rules 5122
and 5123 do not impose filing fees, and
most filing members are already familiar
with the Corp Fin filing system.29
FINRA recognizes that members that
distribute high-risk retail
communications concerning private
placements may be subject to additional
regulatory review by FINRA as FINRA
anticipates an expansion in its complex
review program following the
proposal.30 FINRA believes the overall
increase in regulatory costs and
uncertainty to members associated with
29 FINRA believes that increases in direct costs
may be even lower for members that have been
voluntarily filing private placement retail
communications with AdReg because they may
already be familiar with the applicable standards
under Rule 2210. These members will also have the
option to file private placement retail
communications only with Corp Fin following the
rule proposal. This option could lead to a reduction
in the filing fee for these members. However,
should firms choose to file only with Corp Fin,
there will not be a guaranteed review or review
letter from FINRA.
30 FINRA recognizes that misidentifications of
high-risk matters (i.e., subjecting members that are
less likely to pose a high risk to investors to the
additional complex review) may induce unintended
indirect costs on these members.
PO 00000
Frm 00078
Fmt 4703
Sfmt 4703
the additional review would likely be
low because only a very small
percentage of retail communications
with the highest risk profile would be
subject to the review. FINRA does not
expect increases in direct and indirect
costs will deter firm entry or private
placement offerings or result in any
significant burden on competition that
is not necessary or appropriate in
furtherance of the purpose of the
Exchange Act.
Alternative Considered
FINRA considered proposing an
amendment to Rule 2210 that would
require members to submit private
placement retail communications
through AdReg’s filings review program.
AdReg would review all private
placement retail communications filed
under the alternative proposal. The
alternative, therefore, would enhance
FINRA’s oversight of both high-risk and
low-risk private placement retail
communications, leading to significant
improvement in members’ compliance
and understanding of applicable rules
and greater benefit from market integrity
and investor protection.
The alternative, however, would
impose higher costs on members for
several reasons. First, members would
be subject to filing fees under Rule 2210,
which would not apply to filings made
under Rules 5122 or 5123. Second,
members would have to file retail
communications and offering
documents separately with AdReg and
Corp Fin using different filing systems.
Third, all filing members would face
additional regulatory costs and
uncertainty while the review is
pending.31 FINRA is also concerned that
the alternative approach may divert
limited regulatory resources from highrisk matters. Overall, FINRA believes
that the current proposal would build
on the risk-based regulatory approach
for private placements thereby
promoting regulatory consistency and
impose lower costs to members than the
alternative FINRA has considered.
31 The filing requirements under Rules 5122 and
5123 are notice filings only and members do not
wait for approval from FINRA in connection with
a private placement. However, if FINRA asks
questions of the member in response to its filing,
the member may become concerned that there may
be a potential compliance issue with the private
placement or related documents. Similarly, the
filing requirement under Rule 2210 may not have
required the member to be issued a review letter
from FINRA before using a retail communication.
However, some members may wait until the letter
is received before using such communication.
E:\FR\FM\06NON1.SGM
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Federal Register / Vol. 85, No. 216 / Friday, November 6, 2020 / Notices
C. Self-Regulatory Organization’s
Statement on Comments on the
Proposed Rule Change Received From
Members, Participants, or Others
Written comments were neither
solicited nor received.
III. Date of Effectiveness of the
Proposed Rule Change and Timing for
Commission Action
Within 45 days of the date of
publication of this notice in the Federal
Register or within such longer period (i)
as the Commission may designate up to
90 days of such date if it finds such
longer period to be appropriate and
publishes its reasons for so finding or
(ii) as to which the self-regulatory
organization consents, the Commission
will:
(A) By order approve or disapprove
such proposed rule change, or
(B) institute proceedings to determine
whether the proposed rule change
should be disapproved.
BILLING CODE 8011–01–P
Interested persons are invited to
submit written data, views and
arguments concerning the foregoing,
including whether the proposed rule
change is consistent with the Act.
Comments may be submitted by any of
the following methods:
Electronic Comments
• Use the Commission’s internet
comment form (https://www.sec.gov/
rules/sro.shtml); or
• Send an email to rule-comments@
sec.gov. Please include File Number SR–
FINRA–2020–038 on the subject line.
Paper Comments
• Send paper comments in triplicate
to Secretary, Securities and Exchange
Commission, 100 F Street NE,
Washington, DC 20549–1090.
All submissions should refer to File
Number SR–FINRA–2020–038. This file
number should be included on the
subject line if email is used. To help the
Commission process and review your
comments more efficiently, please use
only one method. The Commission will
post all comments on the Commission’s
internet website (https://www.sec.gov/
rules/sro.shtml). Copies of the
submission, all subsequent
amendments, all written statements
with respect to the proposed rule
change that are filed with the
Commission, and all written
communications relating to the
proposed rule change between the
Commission and any person, other than
those that may be withheld from the
public in accordance with the
19:00 Nov 05, 2020
Jkt 253001
For the Commission, by the Division of
Trading and Markets, pursuant to delegated
authority.32
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020–24629 Filed 11–5–20; 8:45 am]
IV. Solicitation of Comments
VerDate Sep<11>2014
provisions of 5 U.S.C. 552, will be
available for website viewing and
printing in the Commission’s Public
Reference Room, 100 F Street NE,
Washington, DC 20549, on official
business days between the hours of 10
a.m. and 3 p.m. Copies of such filing
also will be available for inspection and
copying at the principal office of
FINRA. All comments received will be
posted without change. Persons
submitting comments are cautioned that
we do not redact or edit personal
identifying information from comment
submissions. You should submit only
information that you wish to make
available publicly. All submissions
should refer to File Number SR–FINRA–
2020–038 and should be submitted on
or before November 27, 2020.
[Release No. 34–90307; File No. SR–NYSE–
2020–88]
Self-Regulatory Organizations; New
York Stock Exchange LLC; Notice of
Filing and Immediate Effectiveness of
Proposed Rule Change To Amend its
Price List
November 2, 2020.
Pursuant to Section 19(b)(1) 1 of the
Securities Exchange Act of 1934 (the
‘‘Act’’) 2 and Rule 19b–4 thereunder,3
notice is hereby given that, on October
20, 2020, New York Stock Exchange
LLC (‘‘NYSE’’ or the ‘‘Exchange’’) filed
with the Securities and Exchange
Commission (the ‘‘Commission’’) the
proposed rule change as described in
Items I, II, and III below, which Items
have been prepared by the selfregulatory organization. The
Commission is publishing this notice to
solicit comments on the proposed rule
change from interested persons.
I. Self-Regulatory Organization’s
Statement of the Terms of Substance of
the Proposed Rule Change
The Exchange proposes to amend its
Price List to reduce the gross FOCUS fee
charged to member organizations,
effective January 1, 2021. The proposed
32 17
CFR 200.30–3(a)(12).
U.S.C. 78s(b)(1).
2 15 U.S.C. 78a.
3 17 CFR 240.19b–4.
1 15
Frm 00079
Fmt 4703
rule change is available on the
Exchange’s website at www.nyse.com, at
the principal office of the Exchange, and
at the Commission’s Public Reference
Room.
II. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
Change
In its filing with the Commission, the
self-regulatory organization included
statements concerning the purpose of,
and basis for, the proposed rule change
and discussed any comments it received
on the proposed rule change. The text
of those statements may be examined at
the places specified in Item IV below.
The Exchange has prepared summaries,
set forth in sections A, B, and C below,
of the most significant parts of such
statements.
A. Self-Regulatory Organization’s
Statement of the Purpose of, and the
Statutory Basis for, the Proposed Rule
Change
1. Purpose
SECURITIES AND EXCHANGE
COMMISSION
PO 00000
71125
Sfmt 4703
The Exchange proposes to amend its
Price List to reduce the gross FOCUS fee
from $0.12 per $1,000 Gross FOCUS
Revenue to $0.11 per $1,000 Gross
FOCUS Revenue, effective January 1,
2021.4
Background
Rule 129 provides that the Exchange’s
Board may, from time to time, impose
such charge or charges on members and
member organizations as it deems
appropriate to reimburse the Exchange,
in whole or in part, for regulatory
oversight services provided to the
membership by the Exchange.
Generally, the Exchange may only use
regulatory fees ‘‘to fund the legal,
regulatory and surveillance operations’’
of the Exchange.5
Consistent with the foregoing, the
Exchange currently charges each
member organization a monthly
regulatory fee of $0.12 per $1,000 of
gross revenue reported on its FOCUS
Report (‘‘Gross FOCUS Fee’’).6 Member
4 The Exchange proposes to immediately reflect
the proposed change in its Price List but not
implement the proposed rate change until January
1, 2021.
5 See Thirteenth Amended and Restated
Operating Agreement of New York Stock Exchange
LLC, Art. IV, Sec. 4.05, available at https://
www.nyse.com/publicdocs/nyse/regulation/nyse/
Thirteenth_Amended_and_Restated_Operating_
Agreement_of_New_York_Stock_Exchange_
LLC.pdf. The Exchange considers surveillance
operations of its member organizations part of
regulatory operations.
6 FOCUS is an acronym for Financial and
Operational Combined Uniform Single Report.
Continued
E:\FR\FM\06NON1.SGM
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]]>Agencies
[Federal Register Volume 85, Number 216 (Friday, November 6, 2020)]
[Notices]
[Pages 71120-71125]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-24629]
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-90302; File No. SR-FINRA-2020-038]
Self-Regulatory Organizations; Financial Industry Regulatory
Authority, Inc.; Notice of Filing of Proposed Amendments to FINRA Rules
5122 (Private Placements of Securities Issued by Members) and 5123
(Private Placements of Securities) That Would Require Members To File
Retail Communications Concerning Private Placement Offerings That Are
Subject to Those Rules' Filing Requirements
November 2, 2020.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that
on October 28, 2020, the Financial Industry Regulatory Authority, Inc.
(``FINRA'') filed with the Securities and Exchange Commission (``SEC''
or ``Commission'') the proposed rule change as described in Items I,
II, and III below, which Items have been prepared by FINRA. The
Commission is publishing this notice to solicit comments on the
proposed rule change from interested persons.
---------------------------------------------------------------------------
\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
---------------------------------------------------------------------------
I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
FINRA is proposing to amend FINRA Rules 5122 (Private Placements of
Securities Issued by Members) and 5123 (Private Placements of
Securities) that would require members to file retail communications
concerning private placement offerings that are subject to those rules'
filing requirements.
The text of the proposed rule change is available on FINRA's
website at https://www.finra.org, at the principal office of FINRA and
at the Commission's Public Reference Room.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, FINRA included statements
concerning the purpose of and basis for the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item IV below. FINRA has prepared summaries, set forth in sections A,
B, and C below, of the most significant aspects of such statements.
A. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
1. Purpose
FINRA Rules 5122 and 5123
Rule 5122 applies to private placements of unregistered securities
issued by a member or a control entity \3\ (``member private
offerings''). The rule requires the member or control entity to provide
prospective investors with a private placement memorandum (``PPM''),
term sheet or other offering document that discloses the intended use
of the offering proceeds, the offering expenses and the amount of
selling compensation that will be paid to the member and its associated
persons.
---------------------------------------------------------------------------
\3\ A ``control entity'' means any entity that controls or is
under common control with a member, or that is controlled by a
member or its associated persons. See FINRA Rule 5122(a)(2). Control
means beneficial interest, as defined in FINRA Rule 5130(i)(1), of
more than 50 percent of the outstanding voting shares of a
corporation, or the right to more than 50 percent of the
distributable profits or losses of a partnership or other non-
corporate legal entity. Control is determined immediately after the
closing of an offering, and in the case of an offering with multiple
intended closings, immediately following each closing. See FINRA
Rule 5122(a)(3).
---------------------------------------------------------------------------
The rule also requires a member to file the PPM, term sheet or
other offering document with the FINRA Corporate Financing Department
(``Corp Fin'') at or prior to the first time the document is provided
to any prospective investor.\4\ Many member private offerings are
exempt from the rule's requirements, including among others, offerings
sold only to institutional accounts, as defined in FINRA Rule
4512(c),\5\ qualified purchasers, as defined in the Investment Company
Act of 1940,\6\ and qualified institutional buyers,\7\ as defined in
Rule 144A under the Securities Act of 1933 (``Securities Act'').\8\
---------------------------------------------------------------------------
\4\ Rule 5122 also requires the filing of any amendments to such
documents within 10 days of being provided to any investor or
prospective investor. See FINRA Rule 5122(b)(2).
\5\ Rule 4512(c) defines ``institutional account'' as the
account of:
(1) A bank, savings and loan association, insurance company or
registered investment company;
(2) an investment adviser registered either with the SEC under
Section 203 of the Investment Advisers Act or with a state
securities commission (or any agency or office performing like
functions); or
(3) any other person (whether a natural person, corporation,
partnership, trust or otherwise) with total assets of at least $50
million.
\6\ See 15 U.S.C. 80a-2(a)(51).
\7\ See 17 CFR 230.144A(a)(1).
\8\ Rule 5122 exempts the following member private offerings:
(1) Offerings sold solely to:
(A) Institutional accounts, as defined in Rule 4512(c);
(B) qualified purchasers, as defined in Section 2(a)(51)(A) of
the Investment Company Act;
(C) qualified institutional buyers, as defined in Securities Act
Rule 144A;
(D) investment companies, as defined in Section 3 of the
Investment Company Act;
(E) an entity composed exclusively of qualified institutional
buyers, as defined in Securities Act Rule 144A; and
(F) banks, as defined in Section 3(a)(2) of the Securities Act;
(2) offerings of exempted securities, as defined in Section
3(a)(12) of the Exchange Act;
(3) offerings made pursuant to Securities Act Rule 144A or
Regulation S;
(4) offerings in which a member acts primarily in a wholesaling
capacity (i.e., it intends, as evidenced by a selling agreement, to
sell through its affiliate broker-dealers, less than 20% of the
securities in the offering);
(5) offerings of exempt securities with short term maturities
under Section 3(a)(3) of the Securities Act;
(6) offerings of subordinated loans under Exchange Act Rule
15c3-1, Appendix D (see NASD Notice to Members 02-32 (June 2002));
(7) offerings of ``variable contracts'', as defined in FINRA
Rule 2320(b);
(8) offerings of modified guaranteed annuity contracts and
modified guaranteed life insurance policies, as referenced in FINRA
Rule 5110(h)(2)(D);
(9) offerings of unregistered investment grade rated debt and
preferred securities;
(10) offerings to employees and affiliates of the issuer or its
control entities;
(11) offerings of securities issued in conversions, stock splits
and restructuring transactions that are executed by an already
existing investor without the need for additional consideration or
investments on the part of the investor;
(12) offerings of securities of a commodity pool operated by a
commodity pool operator, as defined under Section 1a(5) of the
Commodity Exchange Act;
(13) offerings of equity and credit derivatives, including OTC
options; provided that the derivative is not based principally on
the member or any of its control entities; and
(14) offerings filed with Corp Fin under FINRA Rules 2310, 5110
or Rule 5121.
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[[Page 71121]]
Rule 5123 requires members to file with FINRA any PPM, term sheet
or other offering document, including any material amended versions
thereof, used in connection with a private placement of securities
within 15 calendar days of the date of first sale. Rule 5123 exempts
private placements that are filed under other FINRA Corporate Financing
Rules, as well as most of the same categories of private placements
that are exempt from filing under Rule 5122.\9\ As a result of these
exemptions, both rules apply predominately to private placements sold
to retail investors.
---------------------------------------------------------------------------
\9\ See FINRA Rule 5123(b); see also note 8, supra. In addition
to the exemptions contained in Rule 5122, Rule 5123(b) exempts
offerings sold by the member or person associated with the member to
(a) employees and affiliates, as defined in Rule 5121, of the
issuer; (b) knowledgeable employees as defined in Investment Company
Act Rule 3c-5; (c) eligible contract participants, as defined in
Section 3(a)(65) of the Exchange Act; and (d) accredited investors
described in Securities Act Rule 501(a)(1), (2), (3), and (7); and
exempts business combination transactions as defined in Securities
Act Rule 165(f), and standardized options as defined in Securities
Act Rule 238.
---------------------------------------------------------------------------
FINRA received 2,509 unique Rule 5122 and 5123 filings in 2019.
FINRA uses analytics to conduct a risk-based review for each filing.
This analysis of an offering's risk to investors and its ability to
identify potential rule violations and other potential problems begins
with the information and documents submitted. Members that sell private
placements may use a PPM or term sheet alone, or may use a variety of
other offering documents in addition to, or instead of, a PPM or term
sheet.
Because members use a wide variety of materials, Rules 5122 and
5123 do not enumerate the types of information that might be considered
``offering documents.'' FINRA has stated previously that an example of
``other offering document'' is ``[a]ny other type of document that sets
forth the terms of the offering.'' \10\ The terms of an offering
include facts such as the amount of proceeds that the issuer intends to
raise, the type of security, descriptions or illustrations of the
intended use of proceeds, and explanations of tax benefits or other
information that would be relevant to an investor when deciding whether
to make an investment.
---------------------------------------------------------------------------
\10\ See ``Frequently Asked Questions (FAQ) About Private
Placements,'' Question #10, available on www.finra.org.
---------------------------------------------------------------------------
While Rules 5122 and 5123 do not require retail communications
governed by Rule 2210 (Communications with the Public) to be filed,
many members file these communications with their required
documents.\11\ Examples of these retail communications can include web
pages that promote the offering, slide presentations, pitch decks, one-
page ``teasers,'' fact sheets, sales brochures, executive summaries,
and investor packets. Corp Fin often forwards these retail
communications to FINRA's Advertising Regulation Department (``AdReg'')
for review.
---------------------------------------------------------------------------
\11\ See Regulatory Notice 09-27 (May 2009), which announced SEC
approval of Rule 5122, stated that the rule imposes no additional
requirements regarding the filing of advertisements or sales
materials. However, as noted, many firms do in fact file retail
communications concerning private placements under Rules 5122 and
5123.
---------------------------------------------------------------------------
Corp Fin staff triages the filings it receives under Rules 5122 and
5123 using a variety of criteria and selects a subset for further
analysis and review based on the relative risk of the offering. In some
cases, FINRA opens investigations of particular offerings, which may
lead to follow-up examinations by Member Supervision staff, and
potentially, referrals to the Department of Enforcement.
Advertising Regulation Review of Private Placement Retail
Communications
In addition to reviewing private placement retail communications
that are filed under Rules 5122 and 5123 and referred by Corp Fin,
AdReg reviews private placement retail communications that it receives
through one of four other channels: (i) New member and voluntary
filings with AdReg; (ii) referrals from the Member Supervision
examination program and other surveillance groups; (iii) AdReg spot
checks; and (iv) assistance in Enforcement cases.
AdReg has observed that retail communications that have been
directly filed by new members \12\ or voluntarily with AdReg for
private placements raise more compliance issues than those for other
products. Between January 1, 2017, and March 31, 2020, AdReg reviewed
1,726 new member and voluntary filings of private placement retail
communications. Of these filings, 41% required revisions to comply with
applicable standards, and 4% were so noncompliant with the rules that
FINRA issued ``do not use'' (DNU) review letters. In comparison, during
this same period, only 8% of overall AdReg filings reviewed required
revisions, and only 0.1% received a DNU letter.\13\
---------------------------------------------------------------------------
\12\ Rule 2210(c)(1)(A) requires new members to file all widely-
distributed retail communications (such as publicly available
websites) that promote products or services of the firm during the
first year after the member's broker-dealer membership with FINRA is
declared effective.
\13\ During the same period, AdReg analyzed 1,328 private
placement retail communications that were referred from Corp Fin,
Member Supervision, or other FINRA departments. Seventy-one percent
(71%) of these communications required revisions to comply with
applicable standards and 13% resulted in a DNU letter. In contrast,
66% of all communications referred by other FINRA staff were
determined to require revisions and 4% resulted in a DNU letter.
---------------------------------------------------------------------------
In 2018, AdReg conducted a spot check of the private placement
retail communications provided to Corp Fin in connection with filings
under Rules 5122 and 5123 during the second and third quarters of 2018.
The review revealed significant and pervasive violations of Rule 2210;
overall, 806 of the 1,062 retail communications reviewed (76%) did not
comply with Rule 2210.
The most common violation was the inclusion of prohibited
projections of performance or unreasonable forecasts, e.g., ``Return 4-
6x invested capital net of fees'' and ``Management projects a $100
million revenue stream can be built in 5 years.'' Numerous others
contained false or misleading statements, e.g., ``Safety of Principle''
[[Page 71122]]
[sic] and ``UTILIZES AI & MACHINE LEARNING TECHNOLOGY SIMILAR TO THAT
USED BY ONLINE GIANTS SUCH AS FACEBOOK, NETFLIX, AMAZON AND STITCH
FIX.'' Another common issue was the failure to balance promotional
content with the key risks associated with the investment, such as a
real estate offering touting the benefit of purchasing properties
leased by ``investment grade'' tenants without discussing that such
holdings do not assure a profit or protect against loss. Others failed
to disclose general risks, such as the speculative nature of the
securities and the lack of liquidity of the investment.
Private placement retail communications also feature prominently in
FINRA's Enforcement program. Since January 1, 2014, FINRA has initiated
49 disciplinary actions related to non-compliant retail communications
concerning private placements. This number represents 21% of all
actions involving private placements.
Filing Proposal
Given the comparatively high rate of non-compliance of private
placement retail communications, and the increased risk of investor
harm associated with those communications, FINRA proposes to amend
Rules 5122 and 5123 to require such retail communications to be filed,
in addition to the currently required PPMs, term sheets, and other
offering documents.
Rules 5122 and 5123 focus on the private placements that raise the
greatest concerns--those sold to retail investors, whether or not
accredited. FINRA proposes to limit the new filing requirement to the
same offerings; it would not apply to any offerings that are currently
exempt from filing.\14\ A member would be required to file with FINRA
such retail communications no later than the date on which a filing is
required under Rules 5122 and 5123.\15\ The proposal would not require
members to file private placement retail communications for offerings
that are not subject to the filing requirements in Rules 5122 or 5123,
such as sales exclusively to institutional accounts. Moreover, because
Rules 5122 and 5123 do not impose any filing fees, members would not be
subject to higher fees because of this additional filing requirement.
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\14\ See supra notes 8 and 9.
\15\ As discussed above, Rule 5122 requires a member subject to
the rule to file the PPM, term sheet or other offering document with
FINRA at or no later than the first time the document is provided to
a prospective investor. Any amendments or exhibits to such offering
documents also must be filed with FINRA within 10 days of being
provided to any investor or prospective investor. See Rule
5122(b)(2). Rule 5123 requires a member subject to the rule to file
with FINRA the PPM, term sheet or other offering document, including
any materially amended versions thereof, used in connection with the
sale of securities covered by the rule within 15 calendar days of
the date of first sale, or notify FINRA that no such offering
documents were used. See Rule 5123(a).
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FINRA anticipates that members would be able to file most retail
communications at the same time and in the same manner that they file
their PPMs, term sheets, and other offering documents. The rules'
requirements that material amendments to offering documents must be
filed also would apply to retail communications.
If the Commission approves the proposed rule change, FINRA will
announce the effective date of the proposed rule change in a Regulatory
Notice to be published no later than 60 days following Commission
approval. The effective date will be no later than 180 days see
publication of the Regulatory Notice announcing Commission approval.
2. Statutory Basis
FINRA believes that the proposed rule change is consistent with the
provisions of Section 15A(b)(6) of the Act,\16\ which requires, among
other things, that FINRA rules must be designed to prevent fraudulent
and manipulative acts and practices, to promote just and equitable
principles of trade, and, in general, to protect investors and the
public interest. FINRA believes that requiring the filing of retail
communications under Rules 5122 and 5123 will improve members'
compliance and understanding of the application of FINRA's
communications with the public rules and reduce the likelihood that
retail investors would receive false or misleading sales material for
private placements.\17\
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\16\ 15 U.S.C. 78o-3(b)(6).
\17\ FINRA recently issued a Regulatory Notice providing
guidance under Rule 2210 to firms that distribute retail
communications concerning private placements. See Regulatory Notice
20-21 (July 1, 2020).
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B. Self-Regulatory Organization's Statement on Burden on Competition
FINRA does not believe that the proposed rule change will result in
any burden on competition that is not necessary or appropriate in
furtherance of the purposes of the Act.
Economic Impact Assessment
FINRA has undertaken an economic impact assessment, as set forth
below, to analyze the regulatory need for the proposed rule change, its
potential economic impacts, including anticipated costs, benefits, and
competitive effects, relative to the current baseline, and the
alternatives FINRA considered in assessing how best to meet FINRA's
regulatory objectives.
Regulatory Need
As discussed above, FINRA has seen significant problems with the
retail communications that have been voluntarily filed under Rules 5122
and 5123. In addition, as noted above, the 2018 spot check revealed
that 76% of retail communications filed under Rules 5122 and 5123
during the spot check review period involved significant violations of
Rule 2210.\18\ It is possible that significant violations may be even
more prevalent among retail communications that have not been
voluntarily filed or reviewed. Moreover, high-risk retail
communications concerning private placements feature prominently in
FINRA's Enforcement program.\19\ These communications often present
false or misleading information regarding the underlying offering,
which could result in significant losses to investors and could
undermine public trust in the private placement markets. The proposed
amendments, therefore, are intended to promote investor protection and
market integrity by expanding FINRA's oversight of high-risk retail
communications concerning private placements.
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\18\ Among the retail communications reviewed, 45% contained
prohibited projections or unreasonable forecasts; 44.6% failed to
provide a sound basis to evaluate the facts with respect to the
offering in that the benefits articulated in the marketing materials
were not balanced by key specific risks associated with an
investment or the issuer; 39.9% failed to adequately disclose the
general risks associated with private placement investments; 21.8%
contained readily apparent false or misleading statements or claims;
and 7.4% contained misleading references to FINRA, other regulators,
or the benefits of regulation generally.
\19\ As mentioned earlier, retail communications concerning
private placements resulted in 49 FINRA disciplinary actions since
January 2014, representing 21% of FINRA's disciplinary actions
involving private placements during the period.
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Economic Baseline
The economic baseline includes the current regulation of retail
communications under Rule 2210 and current regulation of specified
private placements under Rules 5122 and 5123. All retail communications
are required to comply with the general, fair and balanced standards
detailed in Rule 2210; however, Rule 2210 generally does not require
members to file with FINRA the materials they use to communicate with
retail investors concerning private placements. Under Rules 5122 and
5123, members are required to file with FINRA any PPM,
[[Page 71123]]
term sheet, or other offering document used in connection with
specified private placements, although these rules do not currently
require retail communications governed by Rule 2210 to be filed.
Therefore, firms currently have no regulatory obligation to submit
these communications for review by FINRA.
The economic baseline also includes members' existing practices
under Rules 2210, 5122 and 5123. Currently, some members submit retail
communications as part of their Rules 5122 and 5123 private placement
filings with Corp Fin; some members file these communications through
AdReg's filings review program under Rule 2210 either voluntarily or as
new members; and some members submit these communications to both or
neither of these departments.
As discussed above, upon receiving filings under Rules 5122 and
5123, Corp Fin triages the filings to select a subset for further
review based on the relative risk of the offering. Corp Fin notifies
AdReg when it receives retail communications in connection with the
higher-risk offerings it assigns for reviews. AdReg then conducts its
own triage program based on the relative risk of these retail
communications.
Once high-risk retail communications are identified, AdReg requests
Corp Fin to refer them to AdReg and opens a complex review matter to
assess whether the communications meet applicable communication
standards. If apparent rule violations are identified, AdReg will, as
needed, provide an analysis for an existing Corp Fin investigation or
contact the member firm to explain the concerns, ask the firm to
remediate the communications, and determine the extent of the
communications' use. AdReg may resolve the matter with informal
disciplinary action or, if severe violations are identified, may refer
the matter to FINRA's Department of Enforcement.\20\
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\20\ A similar procedure is followed when AdReg receives
referrals from the Member Supervision examination program or other
surveillance groups.
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The existing regulatory procedure concerning private placement
retail communications that are filed with AdReg under Rule 2210
voluntarily or by new members adopts a different approach from the
above. AdReg conducts a review in response to each retail communication
filing and provides a review letter indicating whether the
communication appears to be consistent with the applicable standards,
and if not, the bases for this determination.\21\
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\21\ Unlike Corp Fin's private placement review program under
Rules 5122 and 5123, filings through AdReg's filings review program
under Rule 2210 are subject to filing fees.
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FINRA has collected information for assessing the specified private
placement market under Rules 5122 and 5123. On average, FINRA receives
approximately 2,400 new offering filings annually, with approximately
10-15% of the filings representing a duplicate filing by separate firms
with respect to the same offering. As a reference, the Regulation D
data published by the SEC's Division of Economic and Risk Analysis in
August 2018 provided that approximately 20,000 new offering filings on
average were submitted via EDGAR each year from 2015 to 2017. Of this
total, roughly 4,000 (or 20%) of the new offerings that SEC identified
involved ``intermediaries'' such as brokers or finders, some of which
may not be FINRA members. Accordingly, FINRA's private placement review
program under Rules 5122 and 5123 accounts for approximately half of
the new offerings filed with the SEC that involve intermediaries and
approximately 10% of all new offering filings annually.
To assess how likely the specified private placements use retail
communications, FINRA has analyzed information pertaining to 1,327
offerings filed with Corp Fin under Rules 5122 and 5123 during the
second and third quarters of 2018.\22\ Approximately 781 (or 59%) of
the offerings did not include retail communications as part of the
filing. There were 1,062 retail communications submitted by 132 members
for the remaining 546 offerings.\23\ The average (maximum) number of
retail communications submitted per member among these offerings was
eight (260), respectively. The average (maximum) number of retail
communications per offering was approximately two (23) retail
communications.
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\22\ The information was collected by AdReg in the 2018 spot
check. There were 2,269 filings inclusive of amendments by 309
member firms related to the 1,327 offerings. Among them, 1,208 had
projected proceeds totaling $37.6B while projected proceeds were
unknown for other offerings.
\23\ Among the 546 offerings that included retail
communications, 524 of them had projected proceeds totaling $10.8B
with projected proceeds unknown for the remaining offerings.
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To further assess the existing regulatory procedure under Rules
5122 and 5123, FINRA collected review information regarding the 708
private placement filings with Corp Fin over the period February 1,
2020 to April 17, 2020.\24\ Corp Fin identified 274 (or 38.7%) of
filings that contained retail communications during this period. Among
these 274 filings, 37 (or 13.5%) were deemed by Corp Fin to be high
risk. AdReg triaged the retail communications in these 37 filings and
determined that 14 represented likely significant violations of Rule
2210 and opened 14 complex review matters. These 14 matters represented
5% of all filings containing retail communications under Rules 5122 and
5123 during this period.\25\
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\24\ This sample is different from the previous sample of the
2018 spot check: It is based on the most recent period for which
FINRA has reliable data on its triage and review process.
\25\ FINRA recognizes that the percentage of retail
communications selected for complex review at any point in time
(including after the proposed rule change) may deviate from 5%, as
the time period used for deriving the estimate might be too short to
draw reliable inferences.
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Economic Impacts
The proposed rule change would directly impact members that
distribute retail communications concerning specified private
placements by requiring them to submit these communications to Corp Fin
at the time they file the PPM, term sheet, or other offering document.
Such an impact would be more pronounced for members that have not been
voluntarily filing private placement retail communications with Corp
Fin or AdReg. FINRA anticipates a considerable increase in the number
of retail communications filed under Rules 5122 and 5123 as a result of
the proposal. As was found during the 2018 spot check, approximately
41% of the offerings included retail communications voluntarily
submitted concerning these offerings. If each offering is associated
with an average of two retail communications, then the number of retail
communications could be increased by 3,124 retail communications
annually, totaling 5,308 retail communications per year.
The estimate of two retail communications per offering may
overstate or understate the true amount. Note that the average of two
retail communications per offering found during the spot check may
understate the true average if members did not voluntarily file all
retail communications associated with these offerings. Alternatively,
the average retail communications per offering could be lower than two
if there were many offerings that did not submit any retail
communications because they did not distribute any such communications.
[[Page 71124]]
In developing the proposal, FINRA staff does not expect it to have
a significant impact on AdReg's existing filings review program.
Members will continue to have the option (but not the obligation) to
file these communications through AdReg's filings review program
following the proposal.\26\
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\26\ FINRA believes that some members will continue to have
incentives to file voluntarily retail communications through AdReg's
filings review program following the proposed amendments. For
instance, members and related parties may still benefit from a
review letter indicating the material is consistent with applicable
standards.
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The primary benefit of the proposed rule change would arise from
FINRA's enhanced insight into and oversight of retail communications
concerning high-risk private placements.\27\ Specifically, the proposed
amendments would enable FINRA to review all retail communications
concerning the specified private placements through its triage program
and if warranted, open cases for complex review, thereby extending
FINRA's ability to potentially uncover significant violations of Rule
2210. In addition, retail communications that have not been filed
voluntarily with Corp Fin or AdReg may have contained violations of
greater severity or presented novel regulatory issues unknown to FINRA.
By allowing access to retail communications concerning private
placements from all filing members, the proposal would help FINRA staff
understand the scope and severity of existing issues in a more accurate
and efficient manner, which would further enhance FINRA's surveillance
and enforcement program.\28\
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\27\ FINRA recognizes that the proposal would not likely impact
FINRA's oversight of low-risk offerings or low-risk retail
communications as defined by the current triage process.
\28\ Although FINRA does not anticipate immediate changes to its
existing triage programs, the additional knowledge that FINRA would
acquire following the proposal could potentially help FINRA refine
its triage programs in the long run.
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The proposal likely would increase members' incentives to
distribute retail communications concerning private placements that are
fair and balanced and deter them from presenting false or misleading
information that may cause investor harm. The proposed change may also
likely increase issuers' incentives to disclose the risks of private
placements in a fair and balanced manner in connection with retail
communications, thereby enhancing the capabilities of investors and
other related parties to assess these risks as part of their investment
decisions.
FINRA believes that greater regulatory oversight, together with
changes in members' and issuers' incentives, would help promote greater
investor protection and public trust in the private placement markets.
The benefit from enhanced incentives and regulatory oversight would
more likely accrue with respect to members that frequently file private
placements that include retail communications. FINRA recognizes that
the proposal's investor protection benefits may be limited given that
members are required to file private placement offerings within 15
calendar days of the date of first sale under Rule 5123. (Rule 5122
requires member private offerings to be filed at or prior to the date
of first sale.) The proposal's investor protection benefits also may
vary depending on how long the Corp Fin triage process takes and how
quickly AdReg triages and reviews the communications and the available
remedying tools.
FINRA believes that the proposal would impose a minimal increase in
direct costs to members that have not already been voluntarily filing
private placement retail communications with Corp Fin. Specifically,
the proposal would require these members to file any additional retail
communications that promote the offering at the time they file the PPM
or term sheet. Members also would be required to file retail
communications subsequent to the initial filing if they distribute new
retail communications promoting the offering or make material changes
to any previously filed retail communications. FINRA believes such
increases in direct costs would be minimal as Rules 5122 and 5123 do
not impose filing fees, and most filing members are already familiar
with the Corp Fin filing system.\29\
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\29\ FINRA believes that increases in direct costs may be even
lower for members that have been voluntarily filing private
placement retail communications with AdReg because they may already
be familiar with the applicable standards under Rule 2210. These
members will also have the option to file private placement retail
communications only with Corp Fin following the rule proposal. This
option could lead to a reduction in the filing fee for these
members. However, should firms choose to file only with Corp Fin,
there will not be a guaranteed review or review letter from FINRA.
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FINRA recognizes that members that distribute high-risk retail
communications concerning private placements may be subject to
additional regulatory review by FINRA as FINRA anticipates an expansion
in its complex review program following the proposal.\30\ FINRA
believes the overall increase in regulatory costs and uncertainty to
members associated with the additional review would likely be low
because only a very small percentage of retail communications with the
highest risk profile would be subject to the review. FINRA does not
expect increases in direct and indirect costs will deter firm entry or
private placement offerings or result in any significant burden on
competition that is not necessary or appropriate in furtherance of the
purpose of the Exchange Act.
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\30\ FINRA recognizes that misidentifications of high-risk
matters (i.e., subjecting members that are less likely to pose a
high risk to investors to the additional complex review) may induce
unintended indirect costs on these members.
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Alternative Considered
FINRA considered proposing an amendment to Rule 2210 that would
require members to submit private placement retail communications
through AdReg's filings review program. AdReg would review all private
placement retail communications filed under the alternative proposal.
The alternative, therefore, would enhance FINRA's oversight of both
high-risk and low-risk private placement retail communications, leading
to significant improvement in members' compliance and understanding of
applicable rules and greater benefit from market integrity and investor
protection.
The alternative, however, would impose higher costs on members for
several reasons. First, members would be subject to filing fees under
Rule 2210, which would not apply to filings made under Rules 5122 or
5123. Second, members would have to file retail communications and
offering documents separately with AdReg and Corp Fin using different
filing systems. Third, all filing members would face additional
regulatory costs and uncertainty while the review is pending.\31\ FINRA
is also concerned that the alternative approach may divert limited
regulatory resources from high-risk matters. Overall, FINRA believes
that the current proposal would build on the risk-based regulatory
approach for private placements thereby promoting regulatory
consistency and impose lower costs to members than the alternative
FINRA has considered.
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\31\ The filing requirements under Rules 5122 and 5123 are
notice filings only and members do not wait for approval from FINRA
in connection with a private placement. However, if FINRA asks
questions of the member in response to its filing, the member may
become concerned that there may be a potential compliance issue with
the private placement or related documents. Similarly, the filing
requirement under Rule 2210 may not have required the member to be
issued a review letter from FINRA before using a retail
communication. However, some members may wait until the letter is
received before using such communication.
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[[Page 71125]]
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
Written comments were neither solicited nor received.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Within 45 days of the date of publication of this notice in the
Federal Register or within such longer period (i) as the Commission may
designate up to 90 days of such date if it finds such longer period to
be appropriate and publishes its reasons for so finding or (ii) as to
which the self-regulatory organization consents, the Commission will:
(A) By order approve or disapprove such proposed rule change, or
(B) institute proceedings to determine whether the proposed rule
change should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views and
arguments concerning the foregoing, including whether the proposed rule
change is consistent with the Act. Comments may be submitted by any of
the following methods:
Electronic Comments
Use the Commission's internet comment form (https://www.sec.gov/rules/sro.shtml); or
Send an email to [email protected]. Please include
File Number SR-FINRA-2020-038 on the subject line.
Paper Comments
Send paper comments in triplicate to Secretary, Securities
and Exchange Commission, 100 F Street NE, Washington, DC 20549-1090.
All submissions should refer to File Number SR-FINRA-2020-038. This
file number should be included on the subject line if email is used. To
help the Commission process and review your comments more efficiently,
please use only one method. The Commission will post all comments on
the Commission's internet website (https://www.sec.gov/rules/sro.shtml).
Copies of the submission, all subsequent amendments, all written
statements with respect to the proposed rule change that are filed with
the Commission, and all written communications relating to the proposed
rule change between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. 552, will be available for website viewing and printing in
the Commission's Public Reference Room, 100 F Street NE, Washington, DC
20549, on official business days between the hours of 10 a.m. and 3
p.m. Copies of such filing also will be available for inspection and
copying at the principal office of FINRA. All comments received will be
posted without change. Persons submitting comments are cautioned that
we do not redact or edit personal identifying information from comment
submissions. You should submit only information that you wish to make
available publicly. All submissions should refer to File Number SR-
FINRA-2020-038 and should be submitted on or before November 27, 2020.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\32\
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\32\ 17 CFR 200.30-3(a)(12).
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J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020-24629 Filed 11-5-20; 8:45 am]
BILLING CODE 8011-01-P
