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FINRA has released a set of FAQs relating to its review of public offerings filed with FINRA’s Public Offering System, which replaced COBRADesk as FINRA’s online filing system in June of 2012.

The FAQs address a variety of topics, including underwriter compensation, exemptions from filing rules, filing fees and the filing process, and direct participation programs (DPPs) and real estate investment trusts (REITs).  You can find the entire set of FAQs here; this post focuses on underwriter compensation and related issues.

  • FINRA Rule 5110 provides that all items of value received by underwriters during the 180 day period preceding a public offering are deemed to be underwriting compensation, unless one of five exceptions set forth in Rule 5110(d) applies.  In the case of unregistered securities acquired by underwriters during the 180 day review period, the securities remain subject to the lock-up provisions in Rule 5110(g), which prohibit the transfer of the securities for a period of 180 days following commencement of the public offering.  However, in certain cases, FINRA has provided exemptive relief from the lock-up period under the 9600 series rules that allow FINRA members to petition FINRA for relief.  The FAQs set forth some of the facts and circumstances that FINRA considered in determining whether to grant exemptive relief from the lock-up period, namely, whether: 1) the acquisition of the securities was required in order to restructure the issuer’s capitalization for certain specified purposes; 2) the securities were registered and included in the underwritten public offering; and 3) the securities were acquired pursuant to an arrangement that was designed to benefit the issuer and was not proposed by the FINRA member.
  • A Right of First Refusal (ROFR) granted to an underwriter within the 180 day period prior to the commencement of a public offering is an item of value required to be included in the underwriter compensation calculations even if the ROFR is granted by means of an amendment to an advisory agreement that predated the 180 day review period.  Pursuant to Rule 5110(c)(3)(ix), the value of the ROFR is either the amount the issuer must pay the underwriter in order to waive or terminate the ROFR or, if no dollar amount has been agreed upon, 1% of the offering proceeds.
  • If an underwriter’s counsel fees and expenses are reimbursed by an issuer in connection with a public offering, they must be included in the calculation of compensation to the underwriter, although they need not be separately itemized – i.e., all fees and expenses of the underwriter that are reimbursed by the issuer can be aggregated for disclosure in the prospectus.  The offering proceeds table on the prospectus cover must include a cross reference to the Underwriting or Plan of Distribution sections if the underwriter’s compensation includes counsel fees and expenses paid or reimbursed by the issuer.
  • When a portion of underwriter compensation consists of an option, warrant, or convertible security, the specific terms of the instrument need not be disclosed in the prospectus.  FINRA will review the instrument to determine whether it meets the requirements of Rule 5110(f)(2)(H), which provides restrictions on the allowable terms, but the terms need not be disclosed in the prospectus.
  • FINRA has clarified that it has previously granted an exemption from the filing requirements of Rule 5110 and Rule 5121 (regarding offerings involving a conflict of interest) for offerings whether the issuer is a governmental sponsored entity and a conflict of interest exists because an affiliate of the underwriter owns more than 10% of the issuer.  FINRA notes that it granted the exemption in a situation in which the GSE is regulated, examined and supervised by the Farm Credit Administration and periodically audited by the U.S. Government Accountability Office.
  • In offerings involving a FINRA member’s own securities, a Qualified Independent Underwriter (meaning an underwriter that meets the requirements contained in Rule 5121(f)(12)) must be used.  Previously, FINRA had a program in which underwriters could qualify as a QIU by making an annual filing, but that program has been discontinued.  Currently, the issuer is required to represent in the Public Offering System that the QIU meets the requirements of Rule 5121(f)(12).

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