The Situation: The Division of Trading and Markets (the "Division") of the U.S. Securities and Exchange Commission ("SEC") approved a proposed rule change by the New York Stock Exchange ("NYSE") to permit primary capital raising in connection with direct listings, while the Nasdaq Stock Market LLC ("Nasdaq") has submitted its own rule change proposal for this purpose to the SEC for approval. Following receipt of notice of a third party's intention to petition to review the Division's approval by delegated authority, the NYSE's rule has been stayed pending action by the SEC.
The Result: The stay of the approved NYSE rule represents the latest development in a long and winding path toward opening this much anticipated alternative to the traditional initial public offering ("IPO") process.
Looking Ahead: There continues to be a range of divergent views on the advantages and disadvantages of permitting primary capital raising in connection with direct listings. The notice of a third party's intention to petition for a review is not surprising in light of critiques that have been levelled against the structure by certain market participants, including assertions that the structure results in reduced shareholder protections relative to traditional underwritten offerings. The NYSE is expected to ask the SEC to move quickly to lift the stay on the rule.
On August 26, 2020, the Division, acting pursuant to delegated authority, approved a proposal by the NYSE to permit private companies to raise capital in connection with a direct listing on the NYSE, opening a much anticipated alternative to the traditional initial public offering process. Subsequently, on August 31, 2020, the SEC announced that it had received notice of a third party's intention to petition for the SEC to review the Division's approval by means of delegated authority. In accordance with SEC rules, the Division's approval has been automatically stayed until ordered otherwise by the SEC in connection with its evaluation of the petition.
For information about the pending NYSE direct listing rules, see our prior publication at the time they were initially proposed by the NYSE.
In addition, prior to these NYSE developments, on August 24, 2020, Nasdaq submitted to the SEC its own proposed rule changes to permit capital raising in direct listings on the Nasdaq Global Select Market. Nasdaq's proposal is subject to SEC approval.
Like the NYSE's pending proposal, Nasdaq's proposed rule changes would allow a private company seeking to list its securities to raise new capital without undertaking a traditional IPO process. While Nasdaq's proposed rule changes are in many respects similar to the pending NYSE rules, there are also important differences, which are highlighted in the table included in this Commentary. Nasdaq's current proposal would apply only to potential direct listings on Nasdaq's highest tier—the Global Select Market, although it is anticipated that Nasdaq would subsequently put forward corresponding proposals for its second- and third-tier markets—the Nasdaq Global Market and the Nasdaq Capital Market.
Nasdaq's proposal, which was submitted to the SEC on August 24, 2020, would allow a company seeking to raise capital through a direct listing on the Nasdaq to satisfy the market value requirement for Nasdaq's Global Select Market ($110 million of unrestricted publicly held stock, reduced to $100 million if coupled with at least $110 million in stockholders' equity) by looking to the company's pre-listing unrestricted publicly held shares, together with the market value of the primary shares being sold in the opening auction, and calculating market value using a per share price 20% below the lowest price disclosed in the registration statement for the offering. Under Nasdaq's proposal, this market value requirement would apply consistently regardless of the size of the primary offering component of the transaction. In contrast, NYSE's pending rules require a tiered market value requirement depending on whether at least $100 million of stock is sold in the primary offering.
Consistent with the NYSE's pending rule, Nasdaq's proposal would not provide any relief from other applicable listing standards, including distribution requirements relating to the number of total shareholders, including round lot holders, the total number of unrestricted publicly held shares, and the minimum initial price.
In addition, Nasdaq's proposal provides details regarding the procedures that would be applicable for primary offering direct listing auctions. Similar to the issuer direct offering order ("IDO Order") introduced in the NYSE's pending rules, Nasdaq's proposal provides for a new order type, referred to as a company direct listing order ("CDL Order"), to ensure proper execution of direct listings with capital raises. Certain key features of IDO Orders and CDL Orders, are noted below:
IDO Order (NYSE pending rules)
- "Limit" order with limit price equal to the low end of the price range specified in the registration statement
- Irrevocable and unmodifiable
- Auction price determined by designated market maker
- IDO Order and all better-priced sell orders must be satisfied at auction price
- Initial auction price must fall within the price range specified in the registration statement
CDL Order (Nasdaq proposed rules)
- "Market" order that must be executed at the price determined in Nasdaq's "halt cross" process
- Irrevocable and unmodifiable
- Halt cross may only proceed if released by issuer's financial advisor
- CDL Order and all better-priced orders must be executed in full at the price determined in the "halt cross"
- Initial "halt cross" price must be above the price that is 20% below the low end of the price range specified in the registration statement; no upper limit applies
Pending the SEC's review and affirmation of its previous approval of NYSE's rules for direct listings with capital raises, one of the most significant limitations facing companies considering direct listings has yet to be removed. Nasdaq's proposed rules for the Global Select Market further highlight market demand for potentially less expensive IPO alternatives, and it is expected that Nasdaq will subsequently propose analogous rule proposals to permit capital raising in connection with direct listings on the Nasdaq Global Market and the Nasdaq Capital Market. Companies considering a direct listing with a capital raise or a traditional initial public offering process should carefully consider the advantages and disadvantages of each approach with legal counsel and investment banking advisors.
Three Key Takeaways
- The NYSE and Nasdaq proposals demonstrate strong continued market interest in direct listings as a potential alternative to the traditional IPO process.
- The notice to the SEC of an intention to petition the approval of the NYSE rule (and the resulting stay) highlights continuing scrutiny and critique of the direct listing structure by certain market participants.
- If capital raising in a direct listing becomes available, companies considering an IPO should, in consultation with legal counsel and investment banking advisors, carefully evaluate which approach best serves the company's specific goals and needs.
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