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Sanders Morris Investor Growth Conference 2006 Middle Market Investor Growth Conference Ellenoff Grossman & Schole LLP Primary Underwriter Liability on.

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Presentation on theme: "Sanders Morris Investor Growth Conference 2006 Middle Market Investor Growth Conference Ellenoff Grossman & Schole LLP Primary Underwriter Liability on."— Presentation transcript:

1 Sanders Morris Investor Growth Conference 2006 Middle Market Investor Growth Conference Ellenoff Grossman & Schole LLP Primary Underwriter Liability on PIPE Resale Registrations

2 2 About the Panelists Moderator: Douglas S. Ellenoff, a member of Ellenoff Grossman & Schole LLP, is a corporate and securities attorney with a specialty in business transactions and corporate financings. During his career, he has represented numerous broker-dealers (underwriters and placement agents), venture capital investor groups and many corporations involved in the capital formation and listing applications process. In the last few years, he has been involved in over 20 registered public offerings and over 100 private placements into public companies (PIPEs). He also provides counsel with regard to their respective ongoing regulatory and listings compliance. Mr. Ellenoff has represented public companies in connection with their initial public offerings, secondary public offerings, regulatory compliance as well as general corporate governance matters. Panelist: Brian C. Daughney, a member of Ellenoff Grossman & Schole LLP, is a corporate and securities attorney and has approximately 20 years experience representing broker-dealers, publicly traded and privately held corporations and other entities in various aspects of securities, corporate and commercial law. Mr. Daughney specializes in public and private finance, merger and acquisitions and general securities law and transactions. Mr. Daughney has represented public companies in connection with their initial public offerings, secondary public offerings, private placements (PIPE transactions), regulatory compliance as well as general corporate governance matters. He assists public company clients with compliance issues mandated by the Sarbanes-Oxley Act and related SEC, securities exchange and Nasdaq regulations. In addition, Mr. Daughney has extensive experience in assisting broker-dealer clients with their respective ongoing (SEC and NASD and State level) regulatory compliance matters. Prior, Mr. Daughney was a Partner at the law firm of Goldstein & DiGioia. Panelist: David Fine, Senior Legal Counsel Cornell Capital Partners, LP Prior to joining Cornell Capital Partners, David served as Senior Legal Counsel in the Enforcement Division of the Securities & Exchange Commission in New York from September 2000 to October 2004. While at the SEC, David participated in numerous investigations involving a range of securities law issues, including the practices of PIPE investors, issuers, and placement agents. David earned a BBA in Finance and Accounting from the University of Michigan and a JD degree from Fordham Law School. Ellenoff Grossman & Schole LLP

3 3 The Issue In the last 3 to 6 months the SEC has raised an issue in resale registration statements whether the resale should be viewed and treated as actually a primary offering by the issuer and not a resale offering by the selling shareholders. How does this issue arise? SEC comment letter issued to issuer after closing the PIPE and filing of the PIPE registration statement. NOT A RULE PROPOSAL OR RELEASE Sample SEC Comment: Given the nature and size of the transaction being registered, please advise us of the companys basis for determining that the transaction is appropriately characterized as a transaction that is eligible to be made on a shelf basis under Rule 415 (a)(1)(i). Subsequent SEC Comment: We note your response to comment 1. Considering [to] the size of this offering and the fact that it is your initial public offering, this offering appears to be a primary offering through [INVESTOR]. Please identify [INVESTOR] as an underwriter on the prospectus cover page. Also, you must set an offering price in your filing for the duration of the offering. Please include the information on the cover page, as required by Item 501(a)(9)(iv) of Regulation S-B. Ellenoff Grossman & Schole LLP

4 4 Overview of the Typical PIPE Registration Process Issuer will file on Form S-3 or S-1 or SB-2. PIPE terms usually require registration within 30 to 90 days of the underlying securities if a convertible security is issued in the PIPE. Issuer registers for resale by the PIPE investors any common stock and any common stock underlying convertible securities issued in the PIPE. SmallCap companies – those with less than $75 million market cap can only use Form S-3 for secondary resale registrations. No primary offerings on Form S-3 for those Issuers with less than a $75 million market cap or if listed on OTCBB or Pink Sheets. Also, the Issuer cannot be in default of debt since its last fiscal year end and must have been a reporting company for at least 12 months. If the Issuer is allowed to use Form S-3 for resales then the registration statement will be evergreen. As the Issuer files its Exchange Act reports, the S-3 is automatically updated. Ellenoff Grossman & Schole LLP

5 5 If the Issuer cannot use Form S-3 for primary offerings and the registration is deemed a primary offering, Form S-3 will be unavailable for the PIPE registration. This is important for investors because the likelihood of a black out period or a registration statement going stale is reduced or eliminated with a Form S-3. If the Issuer has to use an S-1 or SB-2 Registration format, it still would normally rely upon Rule 415 to allow continuous resales by selling shareholders. The SB-2 format does not stay evergreen – will have to be amended or supplemented. So how does the primary offering /underwriter issue impact the Registration Process? Can affect the ability to use certain registration statement forms, especially the difference between using a short form S-3 and requiring full blown S-1 or SB-2. Possible Result: If the SEC deems a registration to be a primary offering, and the Issuer is not eligible to use Form S-3, then the resales cannot be made under Rule 415. There is no ability for continuous resales. Ellenoff Grossman & Schole LLP Continued

6 6 Background of the Registration of the PIPE RULE 415 Rule 415 is one of the rules under which resale registration statements are filed by issuers on behalf of investors following PIPES. Designed in part to allow continuous offerings or shelf offerings by selling investors. Salient Provisions of Rule 415: (a) Securities may be registered for an offering to be made on a continuous or delayed basis in the future, provided, that: (1) The registration statement pertains only to: (i)Securities which are to be offered or sold solely by or on behalf of a person or persons other than the registrant, a subsidiary of the registrant or a person of which the registrant is a subsidiary; (ii) Securities which are to be issued upon the exercise of outstanding options, warrants or rights; (iii) Securities which are to be issued upon conversion of other outstanding securities. Ellenoff Grossman & Schole LLP

7 7 Historical SEC Positions Maybe this is not an entirely new Issue? JULY 1997 TELEPHONE INTERPRETATIONS Section D #5 As discussed in Release No. 33-6383 there are no presumptive underwriter standards under Rule 415. Thus, the determination whether a person is an underwriter with respect to a large amount of securities acquired in one or a series of offerings under the rule depends on the particular facts and circumstances. Section D # 10 An insurance company acquired 55% of the common stock of a company in a private transaction. It now holds these restricted securities as a reserve against claims. As the result of an annual state inspection, the insurance company has been questioned regarding the sufficiency of its reserves. In order to enhance the value of the restricted securities, it wishes to have them registered. Any registration statement filed for this purpose would be governed by Rule 415 because the insurance company does not intend to sell the securities immediately. Since the issuer would be deemed a subsidiary of the insurance company, it would unable to rely upon Rule 415(a)(1)(vi). Therefore, another paragraph of Rule 415 (a)(1) would have to be available. Ellenoff Grossman & Schole LLP

8 8 Section D # 29 Rule 415; Form S-3 It is important to identify whether a purported secondary offering is really a primary offering, i.e., the selling shareholders are actually underwriters selling on behalf of an issuer. Underwriter status may involve additional disclosure, including an acknowledgment of the seller's prospectus delivery requirements. In an offering involving Rule 415 or Form S-3, if the offering is deemed to be on behalf of the issuer, the Rule and Form in some cases will be unavailable (e.g., because of the Form S-3 "public float test for a primary offering, or because Rule 415 (a)(l)(i) is available for secondary offerings, but primary offerings must meet the requirements of one of the other subsections of Rule 415). The question of whether an Offering styled a secondary one is really on behalf of the issuer is a difficult factual one, not merely a question of who receives the proceeds. Considerations should be given to how long the selling shareholders have held the shares, the circumstances under which they received them, their relationship to the issuer, the amount of shares involved, whether the sellers are in the business of underwriting securities, and finally, whether under all the circumstances it appears that the seller is acting as a conduit for the issuer. (emphasis added) Ellenoff Grossman & Schole LLP

9 9 MARCH 1999 TELEPHONE INTERPRETATIONS 3S. Sections 5 and 4(2); Rule 416; Form S-3; S-K Items 507 and 508 (a) A company privately placed convertible securities in reliance on the exemption provided by Section 4(2). The company agreed to file a registration statement within two months after the private placement closing to register the resale of the common stock issuable on conversion of the convertible securities. The securities were convertible into common stock using a conversion ratio based on the company's common stock trading price at the time of conversion. Company counsel asked if it could use Form S-3 to register the resale of the common stock prior to conversion. (additional discussion removed). If the company satisfies the Form S-3 registrant eligibility requirements and the offering satisfies the Form's secondary offering requirements, the staff believes that the company may use Form S-3 to register, prior to the conversion, the resale of the common stock issuable upon conversion of the outstanding convertible securities. (additional discussion removed) Ellenoff Grossman & Schole LLP

10 10 (b) The company asked whether the answer to the above question is different if it has not yet issued some or all of the convertible securities prior to filing the registration statement for the resale of the common stock underlying all of the convertible securities. Unless the transaction involving the issuance of the convertible security meets the conditions under which a company may file a registration statement for resale of privately placed securities before their actual issuance (commonly known as a "PIPE," or private-investment, public-equity transaction, as discussed below), we would not view the registration for resale of the common stock underlying the unissued convertible security as a valid secondary offering. We instead would treat the transaction as an indirect offering by the issuer, and thus a primary offering, with the investor being identified in the registration statement as an "underwriter." The staff will object, in such circumstances, to use of the phrase "may be an underwriter." Instead, the disclosure in the registration statement must state that the investor "is an underwriter." ( additional discussion removed) Clearly, the private placement followed by a registration for resale is an acceptable transaction. Ellenoff Grossman & Schole LLP

11 11 Primary versus Secondary/ Resale Offering Look Primarily to the Language in Rule 415 Primary - Offering by registrant - Offering by a subsidiary of the registrant Secondary - other than the registrant Traditional Arguments Justifying Secondary/Resale Offering Who is the beneficiary of the proposed sale of securities being registered? Holder of securities of the Issuer What is the transaction being registered? Issuance of the securities or resale by the holder Ellenoff Grossman & Schole LLP

12 12 What is the relationship of the holder of the securities to the Issuer? other than the registrant or any subsidiary Is the holder an affiliate of the Issuer? (SEC has stated this is not a controlling factor in the analysis) Ownership level Control of Issuer Director Seats Covenants in PIPE documents (4.99% conversion prohibitions) What is the percentage of shares being registered and held by the holder(s) compared to the capitalization of the Issuer? How long has the PIPE Investor held the securities? Is the holder of the securities in the business of underwriting? Has the Issuer previously conducted a public offering? Is this a post shell company registration? Ellenoff Grossman & Schole LLP

13 13 Liability, Liability, Liability!!! Responsible for the registration statement contents Potential liability for all purchasers, including subsequent purchasers in the chain, not just the first sale into the market Increase due diligence requirements Affects ability to resell As reflected in SEC sample comments above, the SEC may require a defined offering period; may require set pricing Ellenoff Grossman & Schole LLP Impact of Underwriter Status

14 14 Possible Solutions Limitations on size of the PIPE to avoid large blocks being registered (private contractual limitation on conversion (i.e. 4.99%) or ownership level have not been accepted by the SEC). Limit the amount of shares to be registered in any given registration. Issuer or PIPE Investors retain an Underwriter for the resale registration. Ellenoff Grossman & Schole LLP

15 15 PIPE Practice Ellenoff Grossman & Schole LLP During the course of the last four years, Ellenoff Grossman & Schole LLP has been involved at various stages in over 125 PIPEs, representing over $375,000,000 of financings. At present, we have 10 securities professionals who are engaged in in our PIPEs practice. Recent PIPEs that we have been involved with include: Boulder Specialty ($246,000,000)* Amedia Networks, Inc. ($10,000,000) pSivida Limited ($20,000,000) Ambient Corporation ($10,000,000) World Waste Technologies, Inc. ($8,900,000) The Sagemark Companies, Ltd. ($7,500,000) AVP, Inc. ($5,000,000) Veridicom International, Inc. ($5,100,000) *pending closing Ellenoff Grossman & Schole LLP

16 16 About Ellenoff Grossman & Schole LLP Ellenoff Grossman & Schole LLP is a New York-based law firm with over 35 professionals offering its clients legal services in a broad range of business related matters. The Firm specializes in many areas of commercial law: Corporate, Securities, Broker-Dealer Regulations, Hedge Funds, Real Estate, Litigation, Tax and Estate Planning. The philosophy of the Firm is to provide the highest quality legal advice and counsel, dedicating consistent, personalized attention to each client at a reasonable price. CorporateSecuritiesBroker-Dealer RegulationsHedge FundsReal EstateLitigationTaxEstate Planning The Firm has nearly 20 securities professionals specializing in a range of activities, including: PIPEs Public Offerings (IPOs and Secondaries) Mergers and Acquisitions Exchange Act reporting (Form 10-Ks, 10-Qs and Proxies) NASD, AMEX, NASDAQ and OTC compliance Broker-dealer regulations Rule 144 transactions Section 16 compliance Douglas S. EllenoffAdam MimelesLeslie A. Martey Barry I. GrossmanMartin R. BringJoan Adler Brian C. DaughneyChristopher E. CelanoDebra M. Burg C. David SelengutMichael MiduraPhi H. D. Nguyen Lawrence A. RosenbloomSarah E. WilliamsBrian Lee Stuart NeuhauserAnnie Y. WongTamar Donikyan Eden RohrerSteven Saide

17 17 This information may answer some questions, but is not intended as a comprehensive analysis of the topic. In addition, this information should not be relied upon as the only source of information. This information is supplied from sources we believe to be reliable but we cannot guarantee its accuracy. This document and the information contained herein is confidential. This document has been furnished to you solely for your information and neither this document nor the information contained herein my be reproduced, disclosed or redistributed, in whole or in part, by mail, facsimile, electronic or computer transmission or by any other means to any other person, except with the prior written consent of the Ellenoff Grossman & Schole LLC. The material has been prepared or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. This presentation is made solely for the interest of friends and clients of Ellenoff Grossman & Schole LLP and should in no way be relied upon or construed as legal advice. For specific information on particular factual situations, an opinion of legal counsel should be sought. Ellenoff Grossman & Schole LLP

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