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1 Free Sample Issue Subscribe Now! October 2005 Contents Is Financial Statement Insurance a Viable Alternative to the Not-so- Independent Audit? By Joshua Ronen It may be time to consider a completely different model for public company audits. The author offers a proposal that could benefit investors, public companies, and auditors. SEC Adopts Long-Awaited Securities Act Reform, Part II By Michael L. Hermsen This installment describes the significant changes in the public offering process, including the shelf offering rules, liability provisions, and prospectus delivery obligations. Investment Newsletters and Auto- Trading: Stretching the Boundaries of the Publisher s Exclusion By Mark D. Hunter The SEC is starting to take a careful look at investment newsletters that offer auto-trading services. The author argues that publishers of these newsletters should be regulated as investment advisers. SEC UPDATE: Transition Guidance for Securities Offering Reform, New Accelerated Filer Definition, and Delayed Compliance Deadlines By Katelin R. Oakley and Peter H. Schwartz Volume 9 / Number 5 Is Financial Statement Insurance a Viable Alternative to the Not-so-Independent Audit? by Joshua Ronen* The cascade of recent audit failures has given rise to the Sarbanes-Oxley Act and to an ever-growing commentary on corporate governance. A major theme of both the statute and the commentary is the role of gatekeepers and, in particular, of auditors. For example, in his book, Take on the Street, former SEC Chairman Arthur Levitt complains: More and more, it became clear that the auditors didn t want to do anything to rock the boat with clients, potentially jeopardizing their chief source of income. Consulting contracts were turning accounting firms into extensions of management even cheerleaders at times. Some firms even paid their auditors on how many non-audit services they sold to their clients. 1 The crisis of confidence created by the accounting scandals is clearly exacerbated by the failure of auditors to enforce accurate reporting of companies true performance. Many of the companies that failed spectacularly had clean audit opinions prior to their collapse. This damaged auditors reputations * (continued on page 3) Joshua Ronen ([email protected]) is a professor at the Stern School of Business at New York University. VOL. 9, NO. 5/ Wall Street Lawyer/ RM

2 SEC Update Transition Guidance for Securities Offering Reform, New Accelerated Filer Definition, and Delayed Compliance Deadlines by Katelin R. Oakley and Peter H. Schwartz* SEC Issues Securities Offering Reform Q&A On September 13, 2005, the staff of the Division of Corporation Finance of the Securities and Exchange Commission issued questions and answers 1 regarding the major revisions to the securities offering reform rules adopted by the SEC in June. 2 The following is a summary of the staff s guidance. Effective date. The staff clarified that the offering reform rules are effective as of December 1, Reliance on new communications rules. The offering reform rules include significant changes to the standards for permissible communication relating to a securities offering. Issuers and other offering participants may rely on the new and amended rules for communications that first occur on or after December 1, 2005, regardless of the date the offering commenced. Inclusion of amended undertakings. The offering reform rules amend Item 512 of Regulation S-K to include new undertakings. All registration statements, including any amendment to a registration statement, filed on or after December 1, 2005, must incorporate the amended undertakings, if applicable. Issuers are not required take action to include the undertakings with respect to (i) registration statements declared effective prior to December 1, or (ii) registration statements filed but not effective prior to December 1, unless the issuer elects for other purposes to file a pre-effective amendment after December 1. Conversion to an automatic shelf registration statement. Under the offering reform rules, well-known seasoned issuers are eligible to file immediately effective Forms S-3 and F-3 registering unspecified amounts of different specified types of securities for both primary and secondary offerings. An issuer cannot convert an existing shelf registration statement to an automatic shelf registration statement by filing a post-effective amendment. However, an issuer may transition a registered continuous offering (including unallocated shelf offerings, dividend reinvestment programs with direct stock purchase plans, and offerings by selling securityholders) onto an automatic shelf registration statement by including the offering on a newly-filed automatic shelf registration statement. Content of Rule 430B prospectus supplements. Subject to certain conditions, new Rule 430B allows certain seasoned issuers to make material amendments, including changes to the plan of distribution and identification of all or additional selling securityholders, to resale registration statements by prospectus supplement filed after December 1, When applicable, these prospectus supplements must comply with Rule 430B conditions regarding naming selling securityholders. At the market offerings. Under the amendments to Rule 415(a)(4), seasoned issuers can register an unlimited number of equity securities in an at the Katelin R. Oakley ([email protected]) is an associate, and Peter H. Schwartz ([email protected]) is a partner, in the law firm of Davis Graham & Stubbs LLP in Denver, Colorado. The authors gratefully acknowledge the assistance of Lansing A. Wallace *in the preparation of this article. VOL. 9, NO. 5/ Wall Street Lawyer/ RM 25

3 market offering without identifying an underwriter. An at the market offering is an offering of securities into an existing trading market at other than a fixed price. A seasoned issuer with an effective registration statement that contemplates at the market equity offerings may, after December 1, conduct such offerings in reliance on Rule 415(a)(4). A seasoned issuer with an effective registration statement that does not contemplate at the market offerings may conduct such offerings by amending its plan of distribution by prospectus supplement to provide for an at the market offering. Shelf-life of shelf registration statements. New Rule 415(a)(5) limits the sales of securities registered on a shelf registration statement to a threeyear period. This period will begin on December 1, 2005, for registration statements effective prior to that date, and as of the date of effectiveness for registration statements that become effective thereafter. Timing of compliance with new Form 10-K, 20-F, and 10- Q disclosures. The disclosure of risk factors, unresolved SEC comments, well-known seasoned issuer status, and voluntary filer status must be made in the issuer s Form 10-K, 10- KSB, or 20-F report for fiscal years ended on or after December 1, Required risk factor disclosure must be made in the issuer s first Form 10-Q following the first Form 10-K in which such disclosure is required to be made. SEC Proposes New Accelerated Filer Definition On September 22, 2005, the SEC proposed amendments to the periodic report filing deadlines and the Exchange Act Rule 12b-2 definition of an accelerated filer. 3 The proposals, if adopted, would divide companies that are currently accelerated filers into two categories: large accelerated filers and accelerated filers. The standards for these categories are as follows: Issues Definition Form 10-K Annual Report deadline Form 10-Q Quarterly Report deadline Revised exiting status Large Accelerated Filers Would include companies that have a public float of $700 million or more and meet the same other conditions that apply to accelerated filers Would become 60 Days 40 Days Would permit a large accelerated filer to exit large accelerated filer status once its public float has dropped below $75 million Accelerated Filers Would include companies that have at least $75 million but less than $700 million in public float 75 Days 40 Days Would permit an accelerated filer whose public float has dropped below $25 million to file an annual report on a nonaccelerated basis for the same fiscal year that the determination of public float is made 26 / Wall Street Lawyer/OCTOBER 2005

4 Comments on the proposed amendments are due October 31, SEC Delays Section 404 Effective Date for Non- Accelerated Filers On September 22, 2005, the SEC issued a final release extending for an additional year the compliance dates under the rules governing Section 404 internal control reporting requirements for companies that are not accelerated filers. 4 Under the new compliance schedule, a company (including a foreign private issuer) that is not an accelerated filer will begin to be required to comply with the Section 404 requirements for its first fiscal year ending on or after July 15, A foreign private issuer that is an accelerated filer and that files its annual reports on Form 20-F or Form 40-F must begin to comply with these requirements in the annual report for its first fiscal year ending on or after July 15, As part of the adopting release, the SEC solicited public comment on several questions about the application of the internal control reporting requirements, including questions regarding the amount of time and expense that companies that are not accelerated filers have incurred to date to prepare for compliance. Comments on these questions are due October 31, SEC Extends Compliance Date For Certain Broker- Dealers Deemed Not to Be Investment Advisers On September 12, 2005, the SEC extended the compliance date for the rule that identifies circumstances under which a broker-dealer s advice is not solely incidental to its brokerage business or to brokerage services provided to certain accounts and thus subjects the broker-dealer to the Investment Advisers Act of The SEC was responding to requests from the American Council of Life Insurers, the Securities Industry Association, and the Financial Services Institute, each of which filed a petition for rulemaking seeking an extension. In extending the compliance deadline, the Commission concluded that [w]hile we have concerns about the effect of the extension in delaying the anticipated benefits of the rule, in our judgment a limited extension of the compliance date is, on balance, appropriate. The SEC stated that it was not persuaded that a delay of up to an additional six months is necessary given that we already afforded broker-dealers approximately a six-month compliance period, and that these provisions will provide investors with important protections. On that basis, the SEC extended the compliance date from October 24, 2005, to January 31, W 1 Securities Offering Reform Transition Questions and Answers, available at < transitionfaq.htm>. 2 See SEC Release No (July 19, 2005), available at < rules/final/ pdf>. 3 See SEC Release No (Sept. 22, 2005), available at < rules/proposed/ pdf>. 4 See id. 5 See SEC Release No (Sept. 12, 2005), available at < rules/final/ pdf>. Letter From the Editors (continued from page 2) CFO must forfeit certain incentive compensation based on those incorrect financial statements. The provision does not specifically grant a private right of action, and in a case of first impression, the district court held that Congress did not intend to create an implied cause of action in Section 304. We will have more on both of these cases in a future issue. We also noted that the Supreme Court denied certiorari in Yuen v. SEC, which means that the Ninth Circuit opinion (discussed in the May 2005 issue of WALL STREET LAWYER) upholding the SEC s ability under Section 1103 of Sarbanes-Oxley to identify and freeze extraordinary payments to individuals under investigation will stand. W Lois Yurow & John F. Olson VOL. 9, NO. 5/ Wall Street Lawyer/ RM 27

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