The SEC (Securities and Exchange Commission) voted unanimously on November 15, 2007 to cut the required holding period in half from twelve to six months for selling restricted and control securities.
This exciting change came into effect on February 15th, 2008. The change will bring a welcome relief to many smaller companies, because the shorter holding period is intended to lower the cost of capital and make it more accessible to those companies.
While this is exciting news for many and its effects will be far-reaching, the matter can be a bit confusing. Here is a brief overview.
What are Restricted or Control Securities?
A restricted security is paper certificate that proves ownership of a stock that was issued in an unregistered or private sale from a company or an affiliate of the company. Restricted securities are usually sold to investors or given as employee benefits.
Control securities are usually held by affiliates or shareholders of a company that have the power to direct the company. When the affiliate sells these control securities, they become restricted securities for the purchaser.
When a security is restricted, it will usually have a “restricted” legend stamped on it. This legend must be removed before the security can be sold to the public. To remove the legend, the conditions of Rule 144 must be met and the issuer’s approval given before a transfer agent, such as First American Stock, can legally remove it.
What is Rule 144?
Rule 144 is a Securities and Exchange Commission rule created under the Securities Act of 1933. This rule defines conditions that must be met prior to the sell of a restricted security. The rule stipulates the following five conditions:
1. The required holding period must be met (the reduced holding period is six months as opposed to one year).
2. There must be adequate current information about the issuing company, meaning that it is keeping up with its reporting requirements.
3. The trading volume formula is met. This formula stipulates that no more than 1% of a company’s outstanding shares can be sold in any 3-month period and that they must be less than 1% of the of the company’s average trading volume over the past month.
4. That routine trading conditions, which apply to all trades, have been met.
5. That Form 144 is filed with the SEC prior to selling more than 500 shares or shares worth more than $10,000 within a three-month period.
Restricted securities can also be sold, freely without the restrictions of Rule 144 after two years if the seller is not affiliated with the security issuer.
What difference will the changes to holding periods make?
The short answer is many. The shorter required holding period on restricted securities was intended to help smaller companies raise capital and to expand the availability capital, but the effects will reach beyond the small company spectrum.
According to John W. White, the Director of the SEC’s Division of Corporate finance, “The revisions to Rule 144 should make it more efficient for companies of all sizes to access private markets. In the coming months, we expect to recommend that the Commission finalize additional rules that will further promote capital formation by smaller companies.”
Essentially, the changes to Rule 144 will help an old rule keep up with the new market.
Julius Csurgo will answer any stocks related & Rule 144 questions.