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33-8565; 34-51500; IC-26828; File No SECURITIES AND EXCHANGE COMMISSION 17 CFR Parts 231, 241, and 271 [Release Nos. 33-8565; 34-51500; IC-26828; File No. S7-03-05] Commission Guidance Regarding Prohibited Conduct in Connection with IPO Allocations AGENCY: Securities and Exchange Commission. ACTION: Interpretation; solicitation of comment. SUMMARY: The Securities and Exchange Commission (Commission) is publishing this interpretive release with respect to prohibited conduct in connection with securities distributions, particularly with a focus on initial public offering (IPO) allocations. The Commission is soliciting comment on the issues discussed here. DATES: Effective Date: April 7, 2005. Comment Due Date: Comments should be received on or before June 7, 2005. ADDRESSES: Comments may be submitted by any of the following methods: Electronic comments: • Use the Commission’s Internet comment form (http://www.sec.gov/rules/interp.shtml); or • Send an e-mail to [email protected]. Please include File Number S7-03-05 on the subject line; or • Use the Federal eRulemaking Portal (http://www.regulations.gov). Follow the instructions for submitting comments. Paper comments: • Send paper comments in triplicate to Jonathan G. Katz, Secretary, Securities and Exchange Commission, 450 Fifth Street, NW, Washington, DC 20549-0609. All submissions should refer to File Number S7-03-05. This file number should be included on the subject line if e-mail is used. To help us process and review your comments more efficiently, please use only one method. The Commission will post all comments on the Commission’s Internet Web site (http://www.sec.gov/rules/interp.shtml). Comments are also available for public inspection and copying in the Commission’s Public Reference Room, 450 Fifth Street, NW, Washington, DC 20549. All comments received will be posted without change; we do not edit personal identifying information from submissions. You should submit only information that you wish to make available publicly. FOR FURTHER INFORMATION CONTACT: Any of the following attorneys in the Office of Trading Practices, Division of Market Regulation, Securities and Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549-1001, at (202) 942-0772: James Brigagliano, Assistant Director; Joan Collopy, Special Counsel; Elizabeth Sandoe, Special Counsel; Liza Orr, Special Counsel; or Elizabeth Marino, Attorney. EXECUTIVE SUMMARY: The purpose of this release is to provide guidance under Regulation M with respect to the process known as book-building, including the process for allocating shares in initial public offerings (“IPOs”). The Commission recently brought three enforcement cases alleging abuses in the offering process in contravention of Regulation M. Based on these cases, the Commission seeks to highlight certain prohibited activities that underwriters should avoid during restricted periods. These include: • Inducements to purchase in the form of tie-in agreements or other solicitations of aftermarket bids or purchases prior to the completion of the distribution. 2 • Communicating to customers that expressing an interest in buying shares in the immediate aftermarket (“aftermarket interest”) or immediate aftermarket buying would help them obtain allocations of hot IPOs. • Soliciting customers prior to the completion of the distribution regarding whether and at what price and in what quantity they intend to place immediate aftermarket orders for IPO stock. • Proposing aftermarket prices to customers or encouraging customers who provide aftermarket interest to increase the prices that they are willing to place orders in the immediate aftermarket. • Accepting or seeking expressions of interest from customers that they intend to purchase an amount of shares in the aftermarket equal to the size of their IPO allocation (“1 for 1”) or intend to bid for or purchase specific amounts of shares in the aftermarket that are pegged to the allocation amount without any reference to a fixed total position size. • Soliciting aftermarket orders from customers before all IPO shares are distributed or rewarding customers for aftermarket orders by allocating additional IPO shares to such customers. • Communicating to customers in connection with one offering that expressing an interest in the aftermarket or buying in the aftermarket would help them obtain IPO allocations of other hot IPOs. SUPPLEMENTARY INFORMATION: I. Introduction Solicitations or other attempts to induce aftermarket bids or purchases during a distribution undermine the integrity of the market as an independent pricing mechanism for the 3 offered securities by giving purchasers the impression that there is a scarcity of the offered securities. This improper conduct by underwriters of IPOs erodes investor confidence in the capital raising process. In recognition of the serious adverse impact of these activities, the Commission has adopted rules, most recently embodied in Regulation M, which prohibit these activities as a prophylactic matter.1 Attempts to induce aftermarket bids or purchases during a Regulation M restricted period, or a cooling-off period as it was known under its predecessor, Rule 10b-6, have always been prohibited under these rules.2 We first provided guidance under Rule 10b-6 concerning abusive practices in connection with IPO allocations in 1961.3 In 2000, the Division of Market Regulation staff reminded underwriters that restricted period solicitations and tie-in agreements for aftermarket purchases are prohibited conduct under Regulation M.4 Recent enforcement actions suggest that during the hot IPO market of the late 1990s and 2000, some underwriters and other market participants failed to comply with Regulation M or previous guidance. 5 As a 1 Regulation M (17 CFR 242.100-105) generally prohibits inducements of any transactions other than those necessary to conduct the offering. In the context of IPOs, the prohibition is generally discussed in terms of the “aftermarket,” i.e., trading after the distribution period is over. Regulation M is the successor to former Rules 10b-6, 10b-6A, 10b-7, 10b-8, and 10b-21, and includes the basic prohibitions of those rules. See Securities Exchange Act Release No. 38067 (December 20, 1996), 62 FR 520 (January 3, 1997) (Regulation M Adopting Release). Recently, the Commission published for comment proposed amendments to Regulation M. Securities Exchange Act Release No. 50831 (December 9, 2004), 69 FR 75774 (December 17, 2004) (Regulation M Proposing Release). See infra notes 6 and 11. 2 Regulation M defines the term restricted period in Rule 100(b) (17 CFR 242.100(b)). See infra note 11. 3 Securities Exchange Act Release No. 6536 (April 24, 1961) (stating that practice of distribution participants of IPOs making “allotments to their customers only if such customers agree to make comparable purchases in the open market after the issue is initially sold” violated Rule 10b-6). 4 Staff Legal Bulletin No. 10, “Prohibited Solicitations and ‘Tie-in’ Agreements for Aftermarket Purchases,” August 25, 2000. 5 See SEC v. J.P. Morgan Securities, Inc., No. 1:03CV02028 (ESH) (Complaint) (October 1, 2003). See also SEC v. Goldman Sachs Group, Inc., No. 05 SV 853 (SAS) (Complaint) (January 25, 2005); SEC v. Morgan Stanley & Co., Inc., No. 1:05 CV 00166 (HHK) (Complaint) (January 25, 2005). In “hot” IPOs, investor demand significantly exceeds the supply of securities in the offering and the stock trades at a premium in the immediate 4 result, we find it appropriate to remind distribution participants and their affiliated purchasers that attempting to induce aftermarket bids or purchases during a restricted period violates Regulation M. Such guidance is necessary at this time to forestall improper conduct while continuing to promote legitimate underwriting practices that will facilitate capital formation. II. Regulation M Prohibits Attempts to Induce Aftermarket Bids or Purchases As a prophylactic rule, Regulation M precludes activities that could influence artificially the market for an offered security.6 Specifically, Rule 1017 makes it unlawful for any distribution participant8 or its affiliated purchasers,9 “directly or indirectly, to bid for, purchase, or attempt to induce any person to bid for or purchase, a covered security”10 during the distribution’s restricted period.11 Like its predecessor, Rule 10b-6, Regulation M is intended “to aftermarket. See NYSE/NASD IPO Advisory Committee, Report and Recommendations (http://www.nasdr/com/pdf-text/ipo_report.pdf) (May 2003) (IPO Advisory Committee Report). 6 See Regulation M Adopting Release, supra note 1. On October 13, 2004, the Commission proposed amendments that would extend the scope of Regulation M. Regulation M Proposing Release, 69 FR 75774. The guidance provided in this release, which addresses misconduct that currently violates Regulation M, is consistent with those proposed amendments. 7 17 CFR 242.101(a). 8 Distribution participants include underwriters, prospective underwriters, brokers, dealers, or other persons who have agreed to participate or are participating in a distribution. 17 CFR 242.100(b). 9 Affiliated purchasers include, among others, persons acting, directly or indirectly, in concert with distribution participants, issuers, or selling security holders in connection with the acquisition or distribution of any covered security. 17 CFR 242.100(b). 10 A covered security is the security in distribution or any reference security. A reference security is any security into which the security in distribution may be converted.
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