The staff of the Securities and Exchange Commission’s Division of Corporation Finance recently released Compliance and Disclosure Interpretations regarding the application of Rule 13e-3 under the Securities Exchange Act of 1934 to “going private” transactions, which updated the SEC staff’s telephone interpretations. The updated interpretations are available at http://www.sec.gov/divisions/corpfin/guidance/13e-3-interps.htm.
Several types of transactions can result in a company converting to private ownership, such as a tender offer to buy the company’s shares, a merger or asset sale, or a reverse stock split. Rule 13e-3 requires that the company that is going private and each “affiliate” that are “engaged” in a going private transaction file a Schedule 13E-3 with the SEC and furnish the required disclosures directly to the company’s stockholders. Schedule 13E-3 involves more disclosure than what is called for in a proxy statement, including a discussion of the transaction’s purposes, any alternatives that the company considered and whether the transaction is fair to all stockholders.
The notable updated interpretations include:
Application of Rule 13e-3 to Transactions in Which Senior Management is Engaged
- Management Engagement. The interpretations confirmed that the members of the seller’s senior management are treated as “affiliates” of the seller and are subject to separate Rule 13e-3 obligations if they are deemed “engaged” in the transaction. They may be deemed to be “engaged” even though (i) management’s involvement in the negotiations is limited to the terms of each manager’s future employment with and/or equity participation in the surviving company and (ii) the seller’s board of directors appointed a special committee of outside directors to negotiate all other transaction terms. Factors considered in determining whether management is “engaged” include whether the seller’s management would hold a “material” amount of the surviving company’s equity, occupy board seats in addition to senior management positions or otherwise be in a position to “control” the surviving company. In this situation, where the seller’s management is essentially “on both sides” of the transaction, the buyer also may be deemed an “affiliate” and therefore required to file its own Schedule 13E-3.
- Management’s Equity Participation.
- Rule 13e-3 may apply where there is a general understanding that the seller’s senior management will receive equity in the surviving company, even though the equity terms have not been finalized and senior management has not been involved in the transaction negotiations.
- In a situation where the seller’s management generally understood they would be equity holders in the surviving company, a financial buyer also could be deemed an affiliate if it were deemed to be on both sides of the transaction. If the amount of management’s proposed equity participation is material, whereby the seller’s management would remain responsible for influencing the policy and direction of the seller, the financial buyer could be deemed in control of the seller before closing.
- Although the SEC’s staff used a 20 percent equity participation as an example for what would be a “material” equity participation by the seller’s management, they did not establish a threshold for what would be considered a “material” amount of management equity to trigger the Rule 13e-3 requirements. They also did not distinguish between new equity invested by management, rollover equity, equity grants or equity options with time and performance vesting conditions. Thus, Rule 13e-3 may apply to transactions involving management equity participation lower than the 20 percent cited in the hypothetical example and to rollover or contingent equity.
Application of Rule 13e-3 to Unaffiliated Strategic Buyers
Rule 13e-3 may apply even in transactions where a strategic buyer is unaffiliated with the seller if a “continuity of management” exists following the transaction. This could occur where the seller is to become a wholly owned subsidiary of the buyer with the seller’s management remaining intact. The factors considered to determine whether the parties are required to file a Schedule 13E-3 in such a transaction include (i) increases in management consideration; (ii) alterations in management’s executive agreements favorable to management; (iii) management’s equity participation in the surviving company; and (iv) management’s representation on the surviving company’s board.
Disclosure of Reports or Opinions of Financial Advisors
Rule 13e-3 transactions require detailed disclosure of written and oral “reports, opinions, appraisals and negotiations” that are materially related to the transaction. This may include reports or opinions that address matters other than the fairness of the consideration to be provided in the transaction. In addition, any limitations on the scope of the analyses imposed on the outside party providing the report must be detailed.