On September 6, 2012, the Financial Industry Regulatory Authority, Inc. (FINRA) announced that FINRA Rule 5123 will become effective on December 3, 2012.1 The new rule requires a FINRA member (a Member Firm) that sells securities in certain private placements to file certain information with FINRA within 15 days following the date of first sale, subject to an extensive set of exemptions from the filing requirement (which includes private offerings to most types of institutional investors), as outlined below. As adopted, FINRA Rule 5123 represents a significant revision from the original proposal and the impact will be limited primarily to private placements involving individual accredited and non-accredited investors.

Background

As originally proposed in October 2011, Rule 5123 was intended to be an expansion of existing FINRA Rule 51222 and prescribed requirements for private placement offering documents for a significant number of private offerings. FINRA stated that these new requirements were intended as part of a “multi-pronged approach to enhance oversight and investor protection in private placements.”3 As initially proposed, the rule required an offering document (i.e., a private placement memorandum, term sheet, or other disclosure documentation relating to the offering) including disclosure of the intended use of proceeds, offering expenses and the amount of compensation that would be received by the Member Firm and its associated persons in the offering to be provided to each investor and filed with FINRA prior to providing it to potential investors. If an issuer did not intend to provide an offering document containing these required disclosures, the Member Firm would be required to provide its own disclosure document to investors consistent with the rule’s requirements. In addition, under the proposed rule, at least 85 percent of the offering proceeds were required to be actually used for the business purposes described in the offering document, rather than for any costs related to the offering, any commissions, or any other cash or non-cash sale incentives or discounts.

The Final Rule

As a result of substantial feedback from the industry, the final rule is significantly less burdensome than the initial proposal and includes an extensive list of exemptions. As approved, Rule 5123 requires that a Member Firm selling securities in a private placement file any offering documents distributed to potential investors with FINRA within 15 days following the date of first sale. Any material amendments to those originally filed documents must also be filed with FINRA. If no offering documents are used in connection with a particular offering, then the Member Firm need only indicate such absence in its FINRA filing. Each Member Firm that participates as a placement agent in the offering is responsible for filing under Rule 5123, but one Member Firm may be designated to file on behalf of the other participating Member Firms so long as all participating Member Firms are listed in the FINRA filing. The final rule contains neither the specific disclosures nor the use of proceeds requirements of the original proposal. All filings must be submitted electronically by Member Firms through the FINRA Firm Gateway. Offering documents filed with FINRA under this rule will not be approved or commented upon by FINRA. All information filed pursuant to the requirements of Rule 5123 will receive confidential treatment by FINRA.

Available Exemptions

Final Rule 5123 expands the list of exemptions to include offerings solely to one or more of the following purchasers:

  • Institutional accounts4
  • Qualified purchasers5
  • Qualified institutional buyers6
  • Investment companies and banks
  • Employees and affiliates7 of the issuer
  • Knowledgeable employees8
  • Eligible contract participants9
  • Institutional “accredited investors,”10 including certain banks, brokers, insurance companies, private business development companies, corporations, business trusts, certain partnerships and Internal Revenue Code Section 501(c)(3) organizations, and certain trusts, but not including natural persons.

Notably absent from this list is an exemption for offerings to an individual who qualifies as an accredited investor.11 If such persons do not otherwise qualify under one of the other available exemptions listed above (including, e.g., knowledgeable employees or qualified purchasers), then the offering will be subject to the filing requirements of Rule 5123.

Other types of exempt offerings under the Rule include:12

  • Offerings of exempted securities13
  • Offerings under Securities Act Rule 144A or Regulation S
  • Offerings of non-convertible debt or preferred securities that meet the transaction eligibility criteria for registering primary offerings of non-convertible securities on Forms S-3 and F-3
  • 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