Pepper Hamilton published a valuable memo yesterday by Brian Korn and Alexander D. Gonzalez about what the WSJ blog called the Securities and Exchange Commission's recent "crackdown" on violations of Rule 105 of Regulation M. Rule 105 generally prohibits the purchase of equity securities in a public offering when the purchaser has sold short the securities during the "restricted period" preceding the offering. The rule is designed to prevent market participants from exerting downward pressure on the pricing of secondary offerings and then benefiting from the depressed price by purchasing in those offerings.
The reminder about this enforcement action is valuable to deal lawyers because although the "sell side" restrictions of Regulation M (especially Rule 102) are familiar to lawyers who deal with underwritten offerings, the "buy side" (Rule 105) restrictions are less familiar. This is perhaps because representations and warranties and covenants related to Regulation M are a standard part of underwriting documents and registration rights agreements on the seller side (issuer and selling shareholders), but similar representations and covenants are less common on the buyer side.
A quick search of standard transactional clauses on Exemplify that mention Regulation M confirms this. All of the most common clauses dealing with Regulation M compliance are representations or covenants of the issuer and selling shareholders, rather than purchasers. Indeed, there are no standard clauses in EDGAR documents that address Rule 105 specifically, whereas there are dozens that address Rule 102 specifically. Most standard provisions simply deal with Regulation M as a whole in underwriting agreements or securities purchase agreements. Exemplify identifies the following paragraph as the single most common standard-form provision that mentions Regulation M, present in nearly 1000 securities purchase agreements:
Regulation M Compliance . The Company has not, and to its knowledge no one acting on its behalf has, (i) taken, directly or indirectly, any action designed to cause or to result in the stabilization or manipulation of the price of any security of the Company to facilitate the sale or resale of any of the Securities, (ii) sold, bid for, purchased, or, paid any compensation for soliciting purchases of, any of the Securities, or (iii) paid or agreed to pay to any Person any compensation for soliciting another to purchase any other securities of the Company, other than, in the case of clauses (ii) and (iii), compensation paid to the Company's placement agent in connection with the placement of the Securities.
This clause covers the sell-side of the securities purchase agreement, not Rule 105. Thus, Rule 105 can emerge as a blind spot in the typical deal lawyer's perspective because it is rarely addressed in sell-side deal documentation. Indeed, there is relatively little disclosure of Rule 105's restrictions in even in offering documents themselves (prospectuses, etc.), where one might think it would be valuable to warn prospective purchasers about the restrictions.
For those looking for an introduction to Rule 105, in addition to Pepper Hamilton's superb memo you should check out the SEC's small entity compliance guide on the subject.
UPDATE: Richards Kibbe & Orb also has a really valuable refresher memorandum by Scott C. Budlong and Michael D. Mann that anticipated the SEC enforcement activity and gives a more detailed summary of Rule 105.