The Securities and Exchange Commission recently finalized amendments to Rules 144 and 145 under the Securities Act of 1933, which will become effective on February 15, 2008. The amendments apply to securities acquired before or after February 15, 2008.

This Update provides a brief background on Rule 144 and Rule 145, summarizes the highlights of the SEC's amendments to those rules and provides practical guidance.

Background on Rule 144

The Securities Act requires that a sale of a security be registered with the SEC, unless the security or transaction qualifies for an exemption. Rule 144 provides an exemption from registration that permits holders of "restricted securities" to resell their securities in the public market if certain conditions are met. Rule 144 also applies to the public sale of any securities held by directors, executive officers and other "affiliates" of the issuer. Although holders of restricted stock and affiliates rely on Rule 144 as the primary exemption for resale of securities into the public market, the SEC designed Rule 144 as a safe-harbor rule and not as an exclusive basis on which these persons may resell securities.

Rule 144 Covers Restricted Securities and Control Securities. Rule 144 applies to two types of securities: "restricted" securities, which Rule 144 covers because of how they were acquired; and "control" securities, which Rule 144 covers because of who owns them. A security can be both a restricted and a control security. Because Rule 144 imposes a holding period only on restricted securities, understanding the differences between the two types is important.

• Restricted Securities. Restricted securities are securities acquired from an issuer, or an affiliate of an issuer, in a transaction or chain of transactions not involving a public offering.
• Control Securities. Control securities are any securities owned by any person who is an "affiliate" of the issuer. An "affiliate" is a person that controls, is controlled by or is under common control with the issuer. Although the SEC has not set a standard for determining whether a person is an "affiliate," "affiliates" generally include directors, executive officers and major shareholders that can exert influence over the company individually or in concert with others.

Basic Rule 144 Requirements. Persons who sell restricted or control securities without registration must comply with all applicable Rule 144 requirements. Rule 144 generally requires that restricted securities be held for a period of time before resale and imposes other conditions on resale of restricted or control securities, including the availability of current public information, limits on the amount of securities sold in any three‑month period, limitations on the method of sale and the requirement to file a Form 144 with the SEC to report the transaction.

Highlights of Amendments to Rule 144

Shorten to Six Months the Holding Period for Restricted Securities issued by "Reporting Issuers." The amendments shorten the holding period applicable to restricted securities of a "reporting issuer" from one year to six months. A "reporting issuer" is an issuer that is, and has been for at least 90 days immediately prior to the sale of the restricted securities, subject to the reporting requirements of the Securities Exchange Act of 1934. The amendments retain the one-year holding period for restricted securities of non-reporting issuers.

Significantly Reduce the Rule 144 Conditions Applicable to Non-Affiliates Only. Prior to the adoption of the amendments, all other Rule 144 requirements (current public information, volume limitations, manner of sale and Form 144 notice filing) generally applied to sales by both affiliates and non-affiliates. Under the Rule 144 amendments, sales of restricted securities by non-affiliates will not be subject to these other Rule 144 requirements after the applicable holding period is satisfied, with one exception: the "current public information" requirement will apply to sales of a reporting issuer's restricted securities until the securities have been held for one year. A non-affiliate must not have been an affiliate at the time of sale or at any time during the three months before the sale.

Retain Rule 144 Conditions Applicable to Affiliates. Affiliates of an issuer, however, must continue to comply with current public information, volume, manner of sale and filing requirements of Rule 144.

Comparison of Rule 144 Conditions Applicable to Affiliates and Non-Affiliates. The following table from the SEC's release summarizes the final conditions applicable to the resale under Rule 144 of restricted securities held by affiliates and non-affiliates:

Relax Conditions for Affiliate Resales of Debt Securities. The amendments eliminate the manner of sale requirements for resales by affiliates of "debt securities." Debt securities for Rule 144 purposes include, in addition to other types of non-convertible debt securities, non-participatory preferred stock and asset-backed securities.

The amendments also increase the volume limitations for sales by affiliates of debt securities. Under the amended rules, affiliates may resell debt securities in an amount that does not exceed ten percent of a tranche (or class when the securities are non-participatory preferred stock), when aggregated with all sales of securities of the same tranche (or class when the securities are non-participatory preferred stock) sold for the affiliates' account within the preceding three months.

Increase the Thresholds to Trigger Form 144 Filings by Affiliates. The amendments increase the thresholds to trigger a Form 144 filing requirement for sales by affiliates to sales in excess of 5,000 shares or $50,000 within a three-month period (prior thresholds were 500 shares or $10,000). The SEC noted in the adopting release that it expects to issue a separate release to provide affiliates greater flexibility in satisfying their Form 4 and Form 144 filing requirements.

Codify Several SEC Staff Interpretations Relating to Rule 144. In adopting the amendments, the SEC also codified several preexisting staff interpretations of Rule 144:

• Tacking for Holding Company Securities. If certain conditions are satisfied in connection with transactions solely to form a holding company, holders may include the period they held restricted securities of the predecessor company prior to the reorganization into a holding company in determining the holding period for restricted securities of the holding company received in the reorganization.
• Treatment of Exchanged Securities. Securities acquired from an issuer solely in exchange for other securities of the issuer are deemed to have been acquired at the same time as the securities surrendered for conversion or exchange, even if the securities surrendered were not convertible or exchangeable by their terms. If the surrendered securities originally did not permit cashless conversion or exchange by their terms, the holder and the issuer may amend the terms of the surrendered securities to permit cashless conversion or exercise. If the terms of the surrendered securities were amended and the holder provided consideration in connection with the amendment that did not consist solely of securities of the issuer, then the newly acquired securities are deemed to have been acquired at the same time as the amendment, so long as the newly acquired securities were acquired from the issuer solely in exchange for other securities of the issuer.
• Treatment of Securities Obtained on Cashless Exercise of Options or Warrants. Securities acquired from an issuer upon a cashless exercise of options or warrants are deemed to have been acquired at the same time as the options or warrants, even if the options or warrants exercised originally did not provide for cashless exercise by their terms. If the options or warrants originally did not permit cashless exercise by their terms, the holder and the issuer may amend the terms of the options or warrants to permit cashless exercise. If the terms of the options or warrants were amended and the holder provided consideration in connection with the amendment that did not consist solely of securities of the issuer, then the newly acquired securities are deemed to have been acquired at the same time as the amendment, so long as the exercise itself was cashless. If options or warrants are not purchased for cash or property and do not create an investment risk to the holder (e.g., employee stock options), the holder is not permitted to tack the holding period for the options or warrants to the holding period for the securities received upon exercise of the options or warrants.
• Sales by Pledgees No Longer Aggregated. A pledgee of securities may sell pledged securities without having to aggregate the sale with sales by other pledgees of the same securities from the pledgor, as long as there is no concerted action by those pledgees and the pledgees are not considered the same "person" under Rule 144(a)(2).
• Shell Company Securities. Rule 144 generally may not be relied on for the resale of securities initially issued by a current or former shell company, other than a business combination-related shell company. A shell company is one that has no or nominal operations and either: no or nominal assets; assets consisting solely of cash and cash equivalents; or assets consisting of any amount of cash and cash equivalents and nominal other assets. However, Rule 144 is available for the resale of securities of a shell company if the issuer is a former shell company and satisfies certain other conditions, including the condition that one year elapse from the date that the issuer initially files with the SEC the information required by Form 10 before any securities may be resold. The SEC does not mean for this codification to capture startup companies because the SEC does not believe that startup companies satisfy the condition of having no or nominal operations.

Form 144 Revised to Include Exchange Act Rule 10b5-1(c) Representation. Form 144 has been revised to require a representation that the filer "does not know any material adverse information in regard to the current and prospective operations of the issuer of the securities to be sold which has not been publicly disclosed" as of the date that the filer adopted a written trading plan or gave trading instructions that satisfied Exchange Act Rule 10b5-1(c).

Amendments to Rule 145 Restrict Presumptive Underwriter Doctrine

Rule 145 generally imposes registration requirements on mergers, consolidations, reclassifications of securities and transfers of assets that require a vote by shareholders and involve the issuance of shares to the voting shareholders, unless an exemption from registration is available.

Presumptive Underwriter Doctrine. The "presumptive underwriter doctrine" provides that any party, other than the issuer, to, or any person who is an affiliate of a party to, a Rule 145 transaction is deemed to be an underwriter with respect to public resales of securities received in the transaction that must comply with the resale requirements of Rule 145. The amendments limit the application of this doctrine to any party, other than the issuer, to a Rule 145 transaction "involving a shell company," other than a business combination-related shell company, including any party's affiliates. A "business combination shell company" is generally one either formed solely for the purpose of changing the corporate domicile of an entity or formed for the purpose of completing a business combination among one or more entities other than the shell company.

Additional Information

This Update is only intended to provide a general summary of the amendments. You can read the full text of the amendments at http://www.sec.gov/rules/final/2007/33-8869.pdf. You can find discussions of other recent cases, laws, regulations and rule proposals of interest on our website.