This article provides information regarding the essential impact of the Nasdaq 20% Rule for Shareholder Approval on private offerings approved by the SEC.

On September 26, 2018, NASDAQ amended SEC Rule 5635(d) concerning public companies to identify if a shareholder vote is required in order to approve a specific transaction which would lead to the issuance of 20 percent or more of the outstanding shares of stock.

Nevertheless, this said amendment didn’t change Rule 5635 entirely, which requires the shareholder approval for a specific transaction. Such transaction includes issuances that involve the acquisition of assets or stocks of another company, a change of control and an equity compensation which lead to 20% or more dilution. Before digging more about this latest improvement, you need to get to know a bit background of the said rule.

Overview of Old Nasdaq 20% Rule

Here’s a brief explanation of the said rule. So, when a particular company provides 20% or more of the equity in the offering which is priced below the market value of the security, the existing public market shareholders could be diluted significantly. In this case, the smaller holders of the company might be prohibited from participating in the offering once it is private.

In connection, the 20% NASDAQ Rule along with the NYSE Rule, is made to prevent such dilution through providing the shareholders with an opportunity of voting on the said offerings and also prior notice allowing them to sell the stock before the consummation of the offering.
Indeed, there might be little to no manipulation at the same time ensuring transparency to the investors regarding calculating the metric.

Take note that this revised rule only applies to the issuers that are listed on Nasdaq.

How about the revised rule?

Now, let’s talk about the revised rule. Well, under the amendments, the two things discussed above would be combined into a requirement wherein shareholder approval should be obtained before the “20% issuance” within a price that is less than its “minimum price.”

This 20% issuance refers to the transaction involving the issuance, sale or possible issuance of common stock either alone or together with sales by the directors, officers, and substantial shareholders equal to 20% or more of the common stock or the voting power outstanding prior to the issuance.

On the other hand, the minimum price refers to the price which is lower than the closing price directly preceding on the signing of the binding agreement. This also means the average closing price of the shared stock for the five trading days instantly preceding the signing of the agreement.

For a more precise understanding of the changes made to the said Nasdaq Rule, here’s the following:

Additional Five Trading Days Average Closing Price Metric

This revised regulation adds a new metric with regards to identifying whether a shareholder vote is needed which looks to the five-day average closing price. Nasdaq has stated that the said metric is useful since assessing the market value of specific security during a current time could be impractical in an unstable market.

Closing Price on Nasdaq vs. Closing Bid Price

Also, the rule looks to the closing price which is reflected on the site of Nasdaq than the prior metric of the closing bid price wherein a change is consistent due to the approach of other exchanges.

Lowered the Two Measures

This corrected rule needs a vote of shareholders once the offering price is less than its lower of the closing price and the average closing price. However, the old rule demands a shareholder vote once the offering was less than the greater of the book or market value.

Removal of Book Value Measure

The book value will not be used at all in identifying whether shareholder approval is required under this amended rule. The Nasdaq has noted that this book value was inappropriate since it is an accounting measure employing the historical costs of the assets than the current value along with other data which is incorporated in the market value.

Revisions on the References to the Private Placements

There is a revision on the title of the rule and the preamble as well replacing references to “private placements” with “transactions other than the public offerings” as for conforming to the language utilized in the Nasdaq Rule defining “public offering.”

Conclusion

Just months ago, amendments in the said rule were approved by the Securities and Exchange Commission. The said approval was considered effective immediately. With that, there will be an assurance of enhancing the capital formation at the same time of maintaining dilution protection to those shareholders. So, with this kind of rule being approved by SEC, no doubt there will be advantages, and maybe disadvantages on all parties involved.

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