[Federal Register Volume 85, Number 239 (Friday, December 11, 2020)]
[Proposed Rules]
[Pages 80232-80271]
[FR Doc No: 2020-26390]

Vol. 85

Friday,

No. 239

December 11, 2020

Part II

Securities and Exchange Commission

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17 CFR Parts 229, 230, and 239

Modernization of Rules and Forms for Compensatory Securities Offerings
and Sales; Proposed Rule

Federal Register / Vol. 85 , No. 239 / Friday, December 11, 2020 /
Proposed Rules

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SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 229, 230, and 239

[Release No. 33-10891; File No. S7-18-20]
RIN 3235-AM38

Modernization of Rules and Forms for Compensatory Securities
Offerings and Sales

AGENCY: Securities and Exchange Commission.

ACTION: Proposed rule.

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SUMMARY: The Securities and Exchange Commission (``Commission'') is
proposing for public comment amendments to Rule 701 under the
Securities Act of 1933 (the ``Securities Act''), which provides an
exemption from registration for securities issued by non-reporting
issuers pursuant to compensatory arrangements, and Form S-8, the
Securities Act registration statement for compensatory offerings by
reporting issuers. The amendments are designed to modernize the
exemption and registration statement in light of the significant
evolution in compensatory offerings since the Commission last
substantively amended these regulations, consistent with investor
protection.

DATES: Comments should be received on or before February 9, 2021.

ADDRESSES: Comments may be submitted by any of the following methods:

Electronic Comments

     Use the Commission's internet comment form (https://www.sec.gov/rules/proposed.shtml).

Paper Comments

     Send paper comments to Vanessa A. Countryman, Secretary,
Securities and Exchange Commission, 100 F Street NE, Washington, DC
20549-1090.
    All submissions should refer to File Number S7-18-20. To help us
process and review your comments more efficiently, please use only one
method. The Commission will post all comments on the Commission's
website (http://www.sec.gov/rules/proposed.shtml). Comments are also
available for website viewing and copying in the Commission's Public
Reference Room, 100 F Street NE, Washington, DC 20549, on official
business days between the hours of 10:00 a.m. and 3:00 p.m. All
comments received will be posted without change. Persons submitting
comments are cautioned that we do not redact or edit personal
identifying information from comment submissions. You should submit
only information that you wish to make available publicly.
    We or the staff may add studies, memoranda, or other substantive
items to the comment file during this rulemaking. A notification of the
inclusion in the comment file of any such materials will be made
available on our website. To ensure direct electronic receipt of such
notifications, sign up through the ``Stay Connected'' option at
www.sec.gov to receive notifications by email.

FOR FURTHER INFORMATION CONTACT: Anne M. Krauskopf, Senior Special
Counsel, or Lisa Krestynick, Special Counsel, Office of Chief Counsel,
Division of Corporation Finance, at<PHONE_NUMBER>.

SUPPLEMENTARY INFORMATION: We are proposing to amend 17 CFR 230.405
(``Rule 405''), 17 CFR 230.413 (``Rule 413''), 17 CFR 230.416 (``Rule
416''), 17 CFR 230.456 (``Rule 456''), 17 CFR 230.457 (``Rule 457''),
17 CFR 230.701 (``Rule 701''), and 17 CFR 239.16b (``Form S-8'') under
the Securities Act of 1933 \1\ (the ``Securities Act''), and 17 CFR
229.601 (``Item 601'') of Regulation S-K.
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    \1\ 15 U.S.C. 77a et seq.
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Table of Contents

I. Overview
II. Rule 701
    A. Disclosure Requirements
     1. The Disclosure Requirement for the Period Preceding the
Threshold Amount Being Exceeded
     2. Age of Financial Statements
     3. Financial Statement Content Requirements for Foreign Private
Issuers
     4. Alternative Valuation Disclosure
     5. Disclosure Requirements for Derivative Securities
     6. Disclosure Requirements Following Business Combination
Transactions
    B. Rule 701(d)
    C. Eligible Recipients
     1. Consultants and Advisors
     2. Former Employees
     3. Employees of Subsidiaries
III. Form S-8
    A. Addition of Plans and Securities or Classes of Securities to
Form S-8
     1. Addition of Plans to Form S-8
     2. Securities Allocation Among Incentive Plans
     3. Addition of Securities or Classes of Securities to Form S-8
    B. Fee Calculation and Fee Payments on Form S-8 for Defined
Contribution Plans
     1. Calculation of the Registration Fee Using the Aggregate
Offering Price
     2. New Fee Payment Method for Sales Pursuant to Defined
Contribution Plans
     3. Additional Requests for Comment on Counting the Shares
Registered on Form S-8 for Defined Contribution Plans
    C. Conforming Form S-8 to Rule 701
     1. Scope of ``Former Employee''
     2. Consultants and Advisors
    D. Conforming Form S-8 Instructions With Current IRS Plan Review
Practices
    E. Revisions to Item 1(f) of Form S-8; Tax Effects of Plan
Participation
    F. Additional Requests for Comment About Form S-8
     1. Plan Trustee Signatures on Form S-8
     2. Bridging the IPO Gap for Employee Stock Purchase Plans
IV. General Request for Comments
V. Economic Analysis
    A. Economic Baseline
     1. Rule 701
     2. Form S-8
    B. Benefits and Costs to Proposed Amendments to Rule 701 and
Form S-8
     1. Proposed Amendments to Rule 701(e)
     2. Proposed Amendments to Rule 701(d)
     3. Proposed Amendments to Rule 701(c) Eligible Participants
     4. Benefits and Costs to Proposed Amendments to Form S-8
    C. Anticipated Effects on Efficiency, Competition, and Capital
Formation
    D. Reasonable Alternatives
VI. Paperwork Reduction Act.
    A. Summary of the Collection of Information
    B. Summary of the Proposed Amendments' Effects on the
Collections of Information
    C. Incremental and Aggregate Burden and Cost Estimates for the
Proposed Amendments
    D. Request for Comment
VII. Initial Regulatory Flexibility Act Analysis
    A. Reasons for, and Objectives of, the Proposed Action
    B. Legal Basis
    C. Small Entities Subject to the Proposed Amendments
    D. Reporting, Recordkeeping and other Compliance Requirements
    E. Duplicative, Overlapping or Conflicting Federal Rules
    F. Significant Alternatives
    G. Request for Comments
VIII. Small Business Regulatory Enforcement Fairness Act
IX. Statutory Authority

I. Overview

    We are proposing amendments to Rule 701 and Form S-8 to modernize
the two principal means by which issuers grant securities to employees
in compensatory transactions.\2\ Every offer

and sale of securities must be registered, or rely on an exemption from
the registration requirements of Section 5 of the Securities Act.\3\
The Commission has long recognized that offers and sales of securities
as compensation present different issues than offers and sales of
securities by issuers that seek to raise capital.\4\ Among other
considerations, the Commission has recognized that the relationship
between the issuer and recipient of securities is often different in a
compensatory, rather than capital raising, transaction. The Commission
has thus provided a limited exemption from registration--Rule 701--for
certain compensatory securities transactions by non-reporting issuers
\5\ and a specialized form--Form S-8--for registering certain
compensatory securities transactions by reporting issuers. The proposed
amendments reflect changes in compensatory practices, including the
types of securities offered, and are intended to modernize and simplify
administrative requirements.
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    \2\ Rule 701 is available for compensatory transactions with
employees, directors, general partners, trustees (where the issuer
is a business trust), officers, or consultants and advisors, and
their family members who acquire such securities from such persons
through gifts or domestic relations orders. Offers and sales to
former employees, directors, general partners, trustees, officers,
consultants and advisors are exempted from registration by the rule
subject to specified conditions. Form S-8 is available for
compensatory transactions with ``employees,'' with the form defining
``employee'' as any employee, director, general partner, trustee
(where the registrant is a business trust), or officer. ``Employee''
also includes consultants and advisors, former employees, executors,
administrators or bene[filig]ciaries of the estates of deceased
employees, guardians or members of a committee for incompetent
former employees, or similar persons duly authorized by law to
administer the estate or assets of former employees, subject to
specified conditions. For purposes of both Rule 701 and Form S-8,
``employee'' includes insurance agents who are exclusive agents of
the issuer, its subsidiaries or parents, or derive more than 50% of
their annual income from those entities. See Rule 701(c) and General
Instructions A.1(a)(1)-(3) to Form S-8.
    \3\ 15 U.S.C. 77e.
    \4\ See, e.g., Notice of Proposed Form S-8, Release No. 33-3469-
X (Apr. 12, 1953) [18 FR 2182 (Apr. 17, 1953)] and Adoption of Form
S-8, Release No. 33-3480 (Jun. 16, 1953) [18 FR 3688 (Jun. 27,
1953)], each observing that the investment decision to be made by
the employee is of a different character than when securities are
offered for the purpose of raising capital.
    \5\ Only issuers that are not subject to the reporting
requirements of Section 13 or 15(d) of the Securities Exchange Act
of 1934 (15 U.S.C. 78m and 78o(d)) and are not investment companies
registered or required to be registered under the Investment Company
Act of 1940 (15 U.S.C. 80a-1 et seq.) are eligible to use Rule 701.
See Rule 701(b). As such, the use of the term ``non-reporting
issuer'' in this release means issuers that are not subject to the
reporting requirements of Section 13 or 15(d) of the Exchange Act,
and includes issuers subject to Rule 257 of Regulation A [17 CFR
230.257].
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    In July 2018, in connection with amending Rule 701,\6\ as mandated
by the Economic Growth, Regulatory Relief, and Consumer Protection
Act,\7\ the Commission sought comment on ways to modernize the Rule 701
exemption from registration, the Form S-8 registration statement, and
the relationship between these two regulations, consistent with
investor protection.\8\ In doing so, the Commission noted that
significant evolution has taken place in both the types of compensatory
offerings issuers make and the composition of the workforce since it
last substantively amended these regulations and sought to determine
whether and, if so, how the rules should be amended to address these
developments. The Concept Release stated that the Commission's
evaluation of any potential changes would focus on retaining the
compensatory purpose of Rule 701 and Form S-8 and preventing them from
being used for capital-raising purposes, consistent with the
Commission's investor protection mandate. The Concept Release also
solicited comment on how any possible rule or form amendments may
affect an issuer's decision to become a reporting issuer. The
Commission received many comment letters in response to the Concept
Release.\9\
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    \6\ Exempt Offerings Pursuant to Compensatory Arrangements,
Release No. 33-10520 (Jul.18, 2018) [83 FR 34940] (``2018 Rule 701
Adopting Release'').
    \7\ Public Law 115-174, 132 Stat. 1296 (2018). Section 507 of
the Act mandated that the Commission amend Rule 701 to increase from
$5 million to $10 million the aggregate sales price or amount of
securities sold during any consecutive 12-month period in excess of
which the issuer is required to deliver additional disclosures to
investors.
    \8\ Concept Release on Compensatory Securities Offerings and
Sales, Release No. 33-10521 (Jul. 18, 2018) [83 FR 34958] (``Concept
Release''). Unless otherwise noted, comments cited are to the
Concept Release and may be found at the following link: https://www.sec.gov/comments/s7-18-18/s71818.htm.
    \9\ See, e.g., letters from Airbnb, Inc. (``Airbnb''); American
Bar Association, Business Law Section, Federal Regulation of
Securities Committee (``ABA''); American Benefits Council
(``Council''); Sen. Sherrod Brown, United States Senator (``Senator
Brown''); Center for Capital Markets Competitiveness, U.S. Chamber
of Commerce (``Chamber''); Davis Polk & Wardwell (``Davis Polk'');
Ernest & Young LLP (``EY''); Indigo Ag, Inc. (``Indigo''); Rep.
Patrick McHenry, United States Representative (``Representative
McHenry''); National Association of Stock Plan Professionals
(``NASPP''); National Employment Law Project (``NELP''); Marie P.
Petion (``Petion''); Postmates (``Postmates''); Nick Reyes
(``Reyes''); Brian Sament (``Sament''); Shearman & Sterling LLP
(``Shearman''); John P. Stoelting (``Stoelting''); Sullivan &
Cromwell LLP (``Sullivan''); Uber Technologies, Inc. (``Uber'');
Rep. Maxine Waters, United States Representative (``Representative
Waters''); Zachor Legal Institute (``Zachor''); and Zionist Advocacy
Center (``Zionist'').
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    Among the Rule 701 topics covered by the Concept Release were the
Rule 701(d) exemptive conditions, including the 12-month sales caps,
and the Rule 701(e) disclosure requirements, including the timing and
manner of disclosure, and how those disclosure requirements apply to
derivative securities. Form S-8 topics covered by the Concept Release
included ways to reduce administrative burdens, such as by permitting
multiple plans to be registered on a single Form S-8, permitting fee
payment on a ``pay-as-you-go'' basis, and registering tax-qualified
plans based on a dollar amount rather than the number of shares issued.
The comments received on those topics and the Commission's related
proposed rule amendments are discussed in this release.
    Based, in part, on the consideration of feedback from commenters,
with respect to Rule 701 we propose to:\10\
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    \10\ The current version of Rule 701 was adopted pursuant to the
Commission's general exemptive authority under Section 28 of the
Securities Act. See Rule 701--Exempt Offerings Pursuant to
Compensatory Arrangements, Release No. 33-7645 (Feb. 25, 1999) [64
FR 11095 (Mar. 8, 1999)] (``1999 Adopting Release''). We believe the
proposed amendments to Rule 701 would modernize the exemption in
light of the significant evolution in compensatory offerings since
the Commission last substantively amended the rule, while
maintaining important investor protections. For this reason and the
reasons discussed below, we believe the proposed amendments to Rule
701, if adopted, would be necessary and appropriate in the public
interest and consistent with investor protections.
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     Revise the additional disclosure requirements for Rule 701
exempt transactions exceeding $10 million, including how the disclosure
threshold applies, the type of financial disclosure required, and the
frequency with which it must be updated;
     Revise the time at which such disclosure is required to be
delivered for derivative securities that do not involve a decision by
the recipient to exercise or convert in specified circumstances where
such derivative securities are granted to new hires;
     Raise two of the three alternative regulatory ceilings
that cap the overall amount of securities that a non-reporting issuer
may sell pursuant to the exemption during any consecutive 12-month
period; and
     Make the exemption available for offers and sales of
securities under a written compensatory benefit plan (or written
compensation contract) established by the issuer's subsidiaries,
whether or not majority-owned.
    With respect to Form S-8, we propose to:
     Implement improvements and clarifications to simplify
registration on the form, including:
    [cir] Clarifying the ability to add multiple plans to a single Form
S-8;
    [cir] Clarifying the ability to allocate securities among multiple
incentive plans on a single Form S-8;
    [cir] Permitting the addition of securities or classes of
securities by automatically effective post-effective amendment;
     Implement improvements to simplify share counting and fee
payments on the form, including:
    [cir] Requiring the registration of an aggregate offering amount of
securities for defined contribution plans;
    [cir] Implementing a new fee payment method for registration of
offers and

sales pursuant to defined contribution plans;
    [cir] Conforming Form S-8 instructions with current IRS plan review
practices; and
     Revise Item 1(f) of Form S-8 to eliminate the requirement
to describe the tax effects of plan participation on the issuer.
    With respect to both the Rule 701 exemption and the Form S-8
registration statement, we propose to:
     Extend consultant and advisor eligibility to entities
meeting specified ownership criteria designed to link the securities to
the performance of services; and
     Expand eligibility for former employees to specified post-
termination grants and former employees of acquired entities.
    To comply with current Federal Register formatting requirements, we
also propose a ministerial amendment to Rule 701 to remove the
Preliminary Notes and move their provisions without change to Rule
701(a). This change does not affect the purpose or effect of these
provisions.
    The Concept Release also discussed the scope of eligible plan
participants, including whether persons providing services in the so-
called ``gig economy'' should be eligible to receive securities
pursuant to Rule 701 and Form S-8. We are addressing these issues and
the comments received on these topics in a separate companion
release.\11\
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    \11\ Temporary Rules to Include Certain ``Platform Workers'' in
Compensatory Offerings Under Rule 701 and Form S-8, Release No. 33-
10892 (Nov. 24, 2020).
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    We discuss the proposed amendments below. We welcome feedback and
encourage interested parties to submit comments on any or all aspects
of the proposed amendments. When commenting, it would be most helpful
if you include the reasoning behind your position or recommendation.

II. Rule 701

A. Disclosure Requirements

    We are proposing to amend Rule 701(e) to revise the disclosure
requirements for transactions exceeding $10 million, including the age
of financial statements, and to allow issuers to provide alternative
valuation information in lieu of financial statements. In addition, we
are proposing to allow certain foreign private issuers \12\ to provide
financial statements using home country accounting standards if
financial statements prepared in accordance with generally accepted
accounting principles in the United States (``U.S. GAAP'') or
International Financial Reporting Standards as issued by the
International Accounting Standards Board (``IFRS'') are not otherwise
available. Finally, we propose to modify the timing requirement for
providing disclosure for certain derivative securities granted to new
hires in specified circumstances.
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    \12\ A ``foreign private issuer'' is defined in Rule 405 and 17
CFR 240.3b-4(c) [Exchange Act Rule 3b-4(c)] as a foreign issuer
other than a foreign government, except an issuer meeting the
following conditions as of the last business day of its most
recently completed second fiscal quarter: (i) More than 50 percent
of the outstanding voting securities of which are directly or
indirectly owned of record by residents of the United States; and
(ii) any of the following: (A) the majority of the executive
officers or directors are United States citizens or residents; (B)
more than 50 percent of the assets of the issuer are located in the
United States; or (C) the business of the issuer is administered
principally in the United States.
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    Rule 701(e) currently provides that an issuer must deliver to
investors a copy of the compensatory benefit plan or contract, as
applicable. In addition, if the aggregate sales price or amount of
securities sold during any consecutive 12-month period exceeds $10
million, the issuer must deliver the following additional disclosure to
investors a reasonable period of time before the date of sale:\13\
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    \13\ Rule 701(e).
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     A copy of the summary plan description required by ERISA
\14\ or a summary of the plan's material terms if it is not subject to
ERISA;
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    \14\ The Employee Retirement Income Security Act of 1974 (29
U.S.C. 1001 et seq.).
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     Information about the risks associated with investment in
the securities sold pursuant to the compensatory plan or compensation
contract; and
     Financial statements required to be furnished by Part F/S
of Form 1-A \15\ under 17 CFR 230.251 through 230.263 (``Regulation
A''). These financial statements must be as of a date no more than 180
days before the sale of securities relying on Rule 701.\16\
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    \15\ Form 1-A [17 CFR 239.90].
    \16\ Rule 701(e)(4).
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     Foreign private issuers must provide a reconciliation to
U.S. GAAP if their financial statements are not prepared in accordance
with U.S. GAAP or IFRS.
    This disclosure must be provided to investors a reasonable period
of time before the date of sale. For options and other derivative
securities, this requires the issuer to deliver disclosure a reasonable
period of time before the date of exercise or conversion.\17\ In
adopting Rule 701(e), the Commission made clear that if the required
disclosure has not been provided to all investors on a timely basis,
the issuer will lose the exemption for the entire offering.\18\
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    \17\ Rule 701(e)(6). As described in Section II.A.5, infra, for
options and other derivative securities, the issuer's obligation to
deliver Rule 701(e) disclosure is determined based on whether the
option or other derivative security was granted during a 12-month
period in which the disclosure threshold is exceeded. If the grant
occurred during such a period, the issuer must deliver the Rule
701(e) disclosure a reasonable period of time before the date of
exercise or conversion.
    \18\ In the 1999 Adopting Release at Section II.B, the
Commission, referencing the $5 million threshold that applied at the
time, stated: ``Where the formula permits sales in excess of $5
million during a 12-month period, and the issuer chooses to take
advantage of this increased amount, the new disclosure should be
provided to all investors before sale. This requirement will
obligate issuers to provide disclosure to all investors if the
issuer believes that sales will exceed the $5 million threshold in
the coming 12-month period. If disclosure has not been provided to
all investors before sale, the issuer will lose the exemption for
the entire offering when sales exceed the $5 million threshold.''
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1. The Disclosure Requirement for the Period Preceding the Threshold
Amount Being Exceeded
    We are proposing to revise Rule 701(e) to provide that, if the
aggregate sales price or amount of securities sold during any
consecutive 12-month period exceeds $10 million, the issuer must
deliver to investors the additional disclosure required by the rule
only with respect to those sales that exceed the rule's $10 million
threshold. One commenter who addressed the current rule characterized
the requirement that the disclosure be provided for all sales,
including those occurring before the threshold is exceeded, as
``largely unworkable'' and ``a trap for the unwary.'' \19\ The same
commenter recommended that there be a thirty-day ``grace period''
following the date when the threshold is exceeded, so that the issuer
would be required to provide disclosure only for future offers or sales
after the ``grace period.'' Another commenter suggested that crossing
the threshold should impact the exemption's availability only for: (1)
The securities issued that caused the threshold to be breached and for
which disclosure was not provided; and (2) any subsequent offerings in
the same 12-month period for which sufficient disclosure was not
provided.\20\ This commenter further expressed the view that treating
sales over $10 million separately from earlier sales would be
consistent with the current operation of Rule 504 of Regulation D.\21\
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    \19\ See letter from ABA.
    \20\ See letter from Sullivan.
    \21\ See Instruction to paragraph (b)(2) of Rule 504 (``If a
transaction under Sec.  230.504 fails to meet the limitation on the
aggregate offering price, it does not affect the availability of
this Sec.  230.504 for the other transactions considered in applying
such limitation. For example, if an issuer sold $10,000,000 of its
securities on June 1, 2021 under this Sec.  230.504 and an
additional $500,000 of its securities on December 1, 2021, this
Sec.  230.504 would not be available for the later sale, but would
still be applicable to the June 1, 2021 sale.'').

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    Currently, for issuers to be able to rely on Rule 701, they must
anticipate whether their compensatory sales could exceed $10 million at
the outset of a 12-month period. If an issuer does not anticipate
exceeding the $10 million threshold and, as a result, does not provide
disclosures to all investors, then that issuer cannot exceed the $10
million threshold without losing the exemption for all of the sales in
that 12-month period. We understand that the ``lookback'' aspect of the
requirement may make it unduly difficult for issuers to plan their
compensatory programs or respond efficiently to unforeseen situations,
such as where an issuer wants to offer equity compensation in
connection with an unanticipated opportunity to hire new employees.
    We are proposing to amend the rule to provide that the disclosure
required by Rule 701(e) be delivered to investors only with respect to
sales after the $10 million threshold is exceeded and not to require
after-the-fact disclosure for sales made in reliance on the rule during
the 12-month period before the threshold was exceeded.\22\ The
exemption would remain available for all sales that exceed the $10
million threshold during the 12-month period if the issuer provides the
required disclosure for those sales. We are not proposing to include a
``grace period'' between the point at which the $10 million threshold
is exceeded and the requirement to deliver the Rule 701(e) disclosure,
given that other amendments to Rule 701(e) proposed in this release
should make it easier for issuers to comply with the disclosure
delivery requirement.\23\
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    \22\ Proposed Rule 701(e).
    \23\ See Sections II.A.2-6, infra.
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    Request for Comment:
    1. Should the rule be amended, as proposed, to require additional
disclosure only for those sales during the 12-month period that exceed
the $10 million threshold? Are there circumstances in which issuers may
have trouble providing the information upon exceeding the threshold? If
so, how could those difficulties be addressed?
    2. Should there be a ``grace period'' between crossing the $10
million threshold and the requirement to provide additional disclosure
with respect to the sales exceeding the $10 million threshold? If so,
how long a period is appropriate? Would the other amendments proposed
in this release that make it easier for issuers to comply with Rule
701's disclosure delivery requirement mitigate the need for a grace
period?
    3. Alternatively, upon crossing the $10 million threshold, should
the issuer be required to provide the additional Rule 701(e) disclosure
on a retrospective basis to all investors who had previously been
granted or purchased securities during the 12-month period? Would such
after-the fact disclosure mitigate informational asymmetry between
investors who purchase before and investors who purchase after crossing
the $10 million threshold? If we impose such a requirement, should the
issuer lose the exemption for those earlier transactions if it fails to
retrospectively provide the disclosure? Should there be a ``grace
period'' between crossing the $10 million threshold and the requirement
to retrospectively provide the disclosure? If so, how long a period is
appropriate?
2. Age of Financial Statements
    We propose to conform the age of financial statement requirement
set forth in Rule 701(e) to the corresponding requirement in Part F/S
of Form 1-A. Rule 701(e) requires delivery of financial statements
required to be furnished by Part F/S of Form 1-A, which prescribes the
financial statements required for Regulation A Tier 1 and Tier 2
offerings. In Regulation A offerings, issuers generally must include
two years of consolidated balance sheets, statements of comprehensive
income, cash flows, and changes in stockholders' equity.\24\ Issuers
relying on Rule 701 may choose to provide financial statements that
comply with the requirements of either tier.\25\
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    \24\ Tier 2 offerings require audited financial statements. See
Part F/S of Form 1-A [17 CFR 239.90].
    \25\ Specifically, an issuer may elect to provide financial
statements that follow the requirements of either Tier 1 or Tier 2
Regulation A offerings without regard to whether the amount of sales
that occurred pursuant to Rule 701 during the time period
contemplated in Rule 701(e) would have required the issuer to follow
the Tier 2 financial statement requirements in a Regulation A
offering of the same amount. Rule 701 does not, and the proposals
would not, require an issuer utilizing Rule 701 that would be
subject to Tier 2 financial statement requirements to file with the
Commission the current and periodic reports required by Rule 257(b)
[17 CFR 230.257(b)].
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    Currently, the age of the financial statements must be as of a date
no more than 180 days before the date of sale of securities relying on
the Rule 701 exemption.\26\ This requirement, in effect, necessitates
financial statements to be prepared on a quarterly basis, and to be
completed within three months after the end of each quarter, in order
to keep current information available for delivery a reasonable time
before the date of sale so that sales may occur on an uninterrupted
basis. One commenter \27\ recommended requiring the financial statement
disclosure to be updated and provided only once per fiscal year, unless
a material event results in a material change to the issuer's
enterprise value or the value of the securities.\28\
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    \26\ See Rule 701(e)(4).
    \27\ See letter from ABA.
    \28\ This is generally the same timing that applies to updating
valuation disclosures under the IRS Section 409A regulations. See
Treas. Reg. Sec.  l.409A-l(b)(5)(iv)(B) (2017).
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    Moreover, under existing Rule 701, foreign private issuers are
required to provide financial information on the same schedule as
domestic issuers.\29\ Foreign private issuers, like domestic issuers,
may issue securities in reliance on Rule 701 throughout the year, which
could require them to update their financial statements more frequently
than required for registered offerings under Form 20-F.\30\ Commenters
expressed the view that non-reporting foreign private issuers should
not be obligated to prepare quarterly financial statements solely to
rely on Rule 701, but instead should be able to satisfy the
requirements of Rule 701 by providing investors financial statements
conforming to the requirements for annual financial statements in
reports on Form 20-F and interim financial statements within the
timeframe required by home country rules.\31\
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    \29\ See Rule 701(e). See also 1999 Adopting Release at Section
II.C.
    \30\ 17 CFR 249.220f. See Item 8.A.5 of Form 20-F.
    \31\ See letters from ABA, Davis Polk, and Shearman. In
particular, one commenter noted that foreign private issuers subject
to Exchange Act reporting requirements can use Form S-8 for
compensatory offerings without providing financial statements more
frequently than required by their home jurisdiction, which puts U.S.
employees of non-registered foreign private issuers at a
disadvantage compared to U.S. employees of registered foreign
private issuers. See letter from Davis Polk.
---------------------------------------------------------------------------

    We propose to amend Rule 701(e) to apply the age of financial
statement requirements of Form 1-A, Part F/S, paragraphs (b)(3) and (4)
at the time of sale.\32\ This proposal, which would apply to both
domestic and foreign issuers, would conform the Rule 701(e) financial
statement age requirements with those of Regulation A.\33\ Under the
proposal, financial statements must be available on at least a semi-
annual basis

and completed within three months after the end of the second and
fourth quarters. Issuers would no longer be required to prepare
financial statements quarterly in order for sales to be made
continuously pursuant to Rule 701. We believe the financial statement
updating requirements for Rule 701 compensatory offerings need not be
more stringent than those applicable to capital raising transactions
under Regulation A, which may be used by the same issuers. The proposal
also would be consistent with foreign private issuers' financial
statement updating requirements for registered offerings on Form 20-F,
thereby eliminating any disadvantage for non-reporting foreign private
issuers.
---------------------------------------------------------------------------

    \32\ Proposed Rule 701(e)(4)(i).
    \33\ See Part F/S of Form 1-A.
---------------------------------------------------------------------------

    Rule 12h-1(f) \34\ under the Securities Exchange Act of 1934 \35\
(``Exchange Act''), which exempts from Exchange Act Section 12(g)'s
registration requirements stock options issued under written
compensatory stock option plans by non-reporting issuers, includes, as
a condition to the exemption, the delivery of Rule 701(e) information
every six months with the financial statements that are not more than
180 days old. For ease of plan administration, we considered proposing
to amend the age of financial statements requirements of this rule to
remain consistent with those of Rule 701(e). However, it is unclear to
what extent non-reporting companies continue to rely on Rule 12h-1(f)
after the adoption of Exchange Act Rule 12g5-1(a)(8),\36\ which
excludes from the definition of ``held of record'' for purposes of
Section 12(g) certain securities held by persons who received them
pursuant to employee compensation plans. Accordingly, we request
comment below on whether we should rescind or adopt a conforming
amendment to Rule 12h-1(f).
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    \34\ 17 CFR 240.12h-1(f).
    \35\ 15 U.S.C 78a et seq.
    \36\ 17 CFR 240.12g5-1(a)(8). See discussion in Section II.C.1,
infra.
---------------------------------------------------------------------------

    Request for Comment:
    4. Would the proposed amendment to the age of financial statement
requirements ease the burden of compliance with Rule 701(e) in a manner
consistent with investor protection, both for domestic issuers and
foreign private issuers? Would a different age of financial statement
requirement better promote this objective? For example, should issuers
be required to update financial statements only once per fiscal year,
unless there is a material change to the issuer's enterprise value or
the value of the securities? Should issuers be permitted to rely on
either Tier 1 or Tier 2 financial statement requirements regardless of
the size of the offering, as proposed?
    5. Subsequent to the adoption of Exchange Act Rule 12g5-1(a)(8), to
what extent do non-reporting issuers rely on the Rule 12h-1(f)
exemption? If we amend Rule 701(e), should we also make conforming
amendments to the age of financial statement requirement under Rule
12h-1(f), assuming non-reporting issuers continue to rely on the rule?
If non-reporting issuers no longer rely on the exemption it provides,
should we rescind Rule 12h-1(f)?
3. Financial Statement Content Requirements for Foreign Private Issuers
    We propose to allow foreign private issuers that are eligible for
the exemption from Exchange Act registration provided by Exchange Act
Rule 12g3-2(b) \37\ to provide financial statements prepared in
accordance with home country accounting standards for purposes of Rule
701(e) disclosure without reconciliation to U.S. GAAP in certain
circumstances. Currently, all foreign private issuers relying on the
Rule 701 exemption must provide a reconciliation to U.S. GAAP if their
financial statements are not prepared in accordance with U.S. GAAP or
IFRS to satisfy their financial statement disclosure requirements under
Rule 701(e).\38\
---------------------------------------------------------------------------

    \37\ 17 CFR 230.12g3-2(b).
    \38\ See Rule 701(e)(4).
---------------------------------------------------------------------------

    The Concept Release requested comment on whether we should amend
any aspect of the Rule 701 financial statement requirements that apply
to foreign private issuers other than the timing requirements.\39\ A
few commenters addressed this topic. One commenter \40\ stated that the
financial statement reconciliation and the need to keep it current for
an ongoing plan is unduly costly and burdensome. Another commenter \41\
stated that Rule 701 should allow foreign private issuers to provide
financial statements audited under the International Standards on
Auditing (``ISAs'').
---------------------------------------------------------------------------

    \39\ See Concept Release at Section II.C.1.
    \40\ See letter from Shearman.
    \41\ See letter from EY.
---------------------------------------------------------------------------

    After consideration of the comments received, we propose to permit
foreign private issuers that are eligible for the exemption from
registration under Section 12(g) \42\ of the Exchange Act provided by
Exchange Act Rule 12g3-2(b) to provide financial statements prepared in
accordance with home country accounting standards to satisfy the
financial statement disclosure requirements of Rule 701(e) if financial
statements prepared in accordance with U.S. GAAP or IFRS are not
otherwise available.\43\ Consistent with the current requirements, all
other foreign private issuers would continue to be required to provide
a reconciliation to U.S. GAAP if their financial statements are not
prepared in accordance with U.S. GAAP or IFRS.
---------------------------------------------------------------------------

    \42\ 15 U.S.C. 78l(g).
    \43\ Proposed Rule 701(e)(4)(i).
---------------------------------------------------------------------------

    We believe it is appropriate to extend this relief to foreign
private issuers that are eligible for the exemption from registration
under Section 12(g) because, in other contexts, those issuers are
currently not required to provide a reconciliation to U.S. GAAP if
financial statements prepared in accordance with U.S. GAAP or IFRS are
not otherwise available. Specifically, to be eligible for the exemption
from registration under Rule 12g3-2(b), a foreign private issuer that
is not otherwise subject to Exchange Act reporting must maintain a
securities listing on one or more exchanges in a foreign jurisdiction
that constitutes the primary trading market for its securities and must
publish in English, on its website or through an electronic information
delivery system generally available to the public in its primary
trading market, information that satisfies specified public
dissemination and shareholder distribution requirements.\44\ The Rule
12g3-2(b) exemption allows a foreign private issuer to exceed the
registration thresholds of Section 12(g) and effectively have its
equity securities traded on a limited basis in the over-the-counter
market in the United States. The Commission determined that such
Section 12(g) exemptive relief was appropriate for a foreign private
issuer that has not sought a public market in the United States and
that makes available its non-U.S. disclosure documents.\45\ As a
foreign private issuer eligible for the exemption under Rule 12g3-2(b)
would not be seeking to create a public market for its securities in
the United States through its reliance on Rule 701, we believe that the
same level of disclosure would be appropriate.
---------------------------------------------------------------------------

    \44\ See the specific requirements of Exchange Act Rule 12g3-
2(b).
    \45\ See Exemption from Registration Under Section 12(g) of the
Securities Exchange Act of 1934 for Foreign Private Issuers, Release
No. 34-57350 (Feb. 19, 2008), citing Adoption of Rules Relating to
Foreign Securities, Release No. 34-8066 (Apr. 28, 1967).
---------------------------------------------------------------------------

    The proposal would not modify the disclosure requirements of Rule
701(e) to permit foreign private issuers to provide financial
statements audited under ISAs, as suggested by one

commenter, because such an approach would require us to conduct a
thorough evaluation of issuer financial statements audited in
accordance with ISAs, which is beyond the scope of this rulemaking.
Instead, the rule would continue to recognize only audits prepared in
accordance with U.S. generally accepted auditing standards or Public
Company Accounting Oversight Board auditing standards.
    Request for Comment:
    6. Should we permit foreign private issuers that are eligible for
the exemption from Exchange Act registration provided by Exchange Act
Rule 12g3-2(b) to provide financial statements prepared in accordance
with home country accounting standards without reconciliation to U.S.
GAAP, as proposed? Would such an accommodation provide financial
information that is consistent with investor protection?
    7. Should the proposal be expanded to apply to any foreign private
issuer with securities that are listed and traded in its home country,
without regard to Exchange Act Rule 12g3-2(b) eligibility?
Alternatively, if we do not expand the proposal to all foreign private
issuers with securities listed and traded in its home country, should
we amend Rule 701(e)(4) to allow issuers to present their financial
statements in accordance with other international financial reporting
standards, such as International Financial Reporting Standards as
adopted by the European Union, without requiring such issuers to
provide a reconciliation to U.S. GAAP?
4. Alternative Valuation Disclosure
    We propose to allow issuers to provide alternative valuation
information, specifically an independent valuation report of the
securities' fair market value as determined by an independent appraisal
consistent with the rules and regulations under Internal Revenue Code
Section 409A \46\ (a ``Section 409A independent valuation report''), in
lieu of financial statements, for purposes of Rule 701(e) disclosure.
The Concept Release solicited comment on whether we should allow
valuation information regarding the securities in lieu of, or in
addition to, financial statements. In particular, the Concept Release
asked what valuation method should be used for this purpose, and
whether ASC Topic 718 \47\ grant date fair value information or IRC
Section 409A valuation information would be informative.
---------------------------------------------------------------------------

    \46\ 26 U.S.C. 409A (``IRC Section 409A'').
    \47\ FASB ASC Topic 718.
---------------------------------------------------------------------------

    A few commenters recommended allowing issuers to provide valuation
information prepared for purposes of IRC Section 409A in lieu of U.S.
GAAP financials.\48\ These commenters stated that this information
would be a practical alternative to financial statement disclosure, as
it is subject to an existing regulatory scheme and has independent
economic significance. One of the commenters stated that it is less
costly to comply with IRC Section 409A than to produce than U.S. GAAP
financials.\49\ Another commenter stated that valuation information
would be more useful for an employee in evaluating an equity award than
early stage financial information and that many issuers already prepare
IRC Section 409A valuations to determine option exercise prices and tax
withholding.\50\ This commenter also stated that non-reporting issuers
would be more willing to disclose valuation information than U.S. GAAP
financial statements and observed that some issuers choose not to rely
on Rule 701 to avoid facing competitive risks from unauthorized release
of sensitive financial information.
---------------------------------------------------------------------------

    \48\ See letters from ABA and Sullivan.
    \49\ See letter from ABA.
    \50\ See letter from Sullivan.
---------------------------------------------------------------------------

    We propose amending Rule 701(e)(4) to permit, as an alternative to
financial statement disclosure, the use of a Section 409A independent
valuation report prepared in accordance with the rules and regulations
applicable to determining the fair market value of service recipient
stock for stock not readily tradable on an established securities
market.\51\ The proposed alternative would apply to all issuers other
than foreign private issuers eligible for the Rule 12g3-2(b) exemption.
We believe that permitting this alternative is appropriate because the
disclosure would be particularly helpful to employee investors in non-
reporting issuers, which typically do not have a significant trading
market from which to readily derive valuation information. To provide
employee investors with meaningful information that they can use to
assess the manner in which fair market value was derived, the
amendments would require the issuer to provide employees the entire
Section 409A independent valuation report provided to the issuer.\52\
As noted above,\53\ the applicable rules and regulations under IRC
Section 409A specify numerous factors to be taken into account in
determining the fair market value of securities not readily tradeable
on an established securities market, including but not limited to
recent arm's length transactions involving the sale or transfer of such
securities, and specifically provide that use of a valuation method is
not reasonable if such valuation method does not take into
consideration all available information material to the value of the
company. These rules are widely-used and have independent legal
significance under Federal tax law. We believe that a Section 409A
independent valuation report containing a rigorous analysis of the
factors considered in such a valuation would provide employee investors
with appropriate financial disclosure.
---------------------------------------------------------------------------

    \51\ Proposed Rule 701(e)(4)(ii). As provided in Treasury Reg.
1.409A-1(b)(5)(iv)(B)(1), in the case of service recipient stock
that is not readily tradable on an established securities market,
the fair market value of the stock as of a valuation date means a
value determined by the reasonable application of a reasonable
valuation method. For this purpose, a valuation is presumed to be a
reasonable valuation if the valuation is determined by an
independent appraisal that meets certain requirements. See Treasury
Reg. 1.409A-1(b)(5)(iv)(B)(2)(i). The determination whether a
valuation method is reasonable, or whether an application of a
valuation method is reasonable, is made based on the facts and
circumstances as of the valuation date. Factors to be considered
under a reasonable valuation method include, as applicable, the
value of tangible and intangible assets of the corporation, the
present value of anticipated future cash-flows of the corporation,
the market value of stock or equity interests in similar
corporations and other entities engaged in trades or businesses
substantially similar to those engaged in by the corporation the
stock of which is to be valued, the value of which can be readily
determined through nondiscretionary, objective means (such as
through trading prices on an established securities market or an
amount paid in an arm's length private transaction), recent arm's
length transactions involving the sale or transfer of such stock or
equity interests, and other relevant factors such as control
premiums or discounts for lack of marketability and whether the
valuation method is used for other purposes that have a material
economic effect on the service recipient, its stockholders, or its
creditors. The use of a valuation method is not reasonable if such
valuation method does not take into consideration in applying its
methodology all available information material to the value of the
corporation. Under the Treasury Regulation, the use of a value
previously calculated under a valuation method is not reasonable as
of a later date if such calculation fails to reflect information
available after the date of the calculation that may materially
affect the value of the corporation (for example, the resolution of
material litigation or the issuance of a patent).
    \52\ Proposed Rule 701(e)(4)(ii)(B).
    \53\ See n. 51, supra.
---------------------------------------------------------------------------

    To ensure appropriate investor protections, we are proposing
certain conditions on the use of a Section 409A independent valuation
report. First, the proposed amendments require an independent appraisal
that is consistent with the rules and regulations under Section 409A
applicable to determination of the fair market value of service
recipient stock for stock not

readily tradable on an established securities market. Those rules and
regulations call for an independent appraisal. The proposed amendments
would not permit reliance on other aspects of the Section 409A rules
that permit determination of fair value for tax purposes by other
means. This condition would have the effect of requiring an independent
party to prepare the appraisal and report to reduce potential risks
that may arise from an issuer providing its own valuation.\54\ Further,
in order to keep valuation information current, similar to Rule 701(e)
financial statement disclosure, the proposed amendments would require
the Section 409A independent valuation report to be as of a date that
is no more than six months before the sale of securities in reliance on
this exemption.\55\ This updating schedule would be comparable to the
proposed age of financial statement requirements for Rule 701(e).
---------------------------------------------------------------------------

    \54\ To meet the requirements of Treasury Reg. 1.409A-
1(b)(5)(iv)(B)(2)(i), the valuation must be determined by an
independent appraisal that meets the requirements of IRC Section
401(a)(28)(C) and the Treasury Regulations thereunder. For purposes
of IRC Section 401(a)(28)(C), the term ``independent appraiser''
means any appraiser meeting requirements similar to the requirements
of the Treasury Regulations prescribed under IRC Section 170(a)(1).
IRC Section 170(f)(11)(E) and Treasury Reg. 1.170A-17 define the
terms ``qualified appraisal'' and ``qualified appraiser.'' In order
to be a ``qualified appraisal,'' a valuation of property must be
made by a ``qualified appraiser.'' See IRS Publication 561, which
generally describes a ``qualified appraiser'' as a disinterested
person who has earned an appraisal designation from a generally
recognized professional appraiser organization or met specified
minimum educational requirements, and regularly prepare appraisals
for which he or she is paid.
    \55\ In contrast, the applicable Treasury Regulations provide
that use of a previously calculated valuation is not reasonable if
the value was calculated more than 12 months earlier than the date
for which the valuation is being used, or if the valuation fails to
reflect information available after the date of the calculation that
may materially affect the value of the corporation. Treasury Reg.
1.409A-1(b)(5)(iv)(B).
---------------------------------------------------------------------------

    We anticipate that providing the proposed valuation disclosure may
be less costly, particularly because it is likely the issuer is already
preparing such reports for purposes of complying with IRC Section 409A.
At the same time, as commenters suggested, valuation disclosure may be
as useful to an investor, if not more so, than financial statements in
the particular context of evaluating the value of an equity award
granted pursuant to Rule 701.
    Although most non-reporting issuers relying on Rule 701 are
unlikely to have a trading market of the necessary depth and liquidity
to justify using the IRC Section 409A valuation standard for stock
readily traded on an established securities market, foreign private
issuers eligible for the Rule 12g3-2(b) exemption may meet this
criterion. In particular, such an issuer must maintain a listing of a
class of securities on one or more exchanges in a foreign jurisdiction
that, either singly or together with the trading of the same class of
the issuer's securities in another foreign jurisdiction, constitutes
the primary trading market for those securities.\56\ For this reason,
the proposed amendments would allow Rule 12g3-2(b) eligible foreign
private issuers to provide alternative valuation disclosure prepared
consistent with the IRC Section 409A rules and regulations applicable
to determining the fair market value of stock readily tradeable on an
established securities market.\57\ To comply with this alternative
disclosure requirement, the eligible issuer would simply disclose the
fair market value of the stock on the most recent trading day preceding
the date of sale.\58\
---------------------------------------------------------------------------

    \56\ Exchange Act Rule 12g3-2(b)(1)(ii).
    \57\ Proposed Rule 701(e)(4)(ii)(A).
    \58\ For stock readily tradable on an established securities
market, the fair market value of the stock must be determined
``based upon the last sale before or the first sale after the grant,
the closing price on the trading day before or the trading day of
the grant, the arithmetic mean of the high and low prices on the
trading day before or the trading day of the grant, or any other
reasonable method using actual transactions in such stock as
reported by such market.'' See Treasury Reg. 1.409A-1(b)(5)(iv)(A).
For this purpose, stock is treated as ``readily tradable'' if it is
regularly quoted by brokers or dealers making a market in such
stock, and the term ``established securities market'' means an
established securities market within the meaning of Treasury Reg.
1.897-1(m). See Treasury Reg. 1.409A-1(b)(5)(vi)(G) and 1.409A-1(k).
Treasury Reg. 1.897-1(m) provides that the term ``established
securities market'' means ``(1) A national securities exchange which
is registered under section 6 of the Securities Exchange Act of 1934
(15 U.S.C. 78f), (2) A foreign national securities exchange which is
officially recognized, sanctioned, or supervised by governmental
authority, and (3) Any over-the-counter market. An over-the-counter
market is any market reflected by the existence of an interdealer
quotation system. An interdealer quotation system is any system of
general circulation to brokers and dealers which regularly
disseminates quotations of stocks and securities by identified
brokers or dealers, other than by quotation sheets which are
prepared and distributed by a broker or dealer in the regular course
of business and which contain only quotations of such broker or
dealer.''
---------------------------------------------------------------------------

    Request for Comment:
    8. Should we permit a Section 409A independent valuation report to
be provided in lieu of financial statement disclosures, as proposed?
Would the IRC Section 409A regulations for determining the fair market
value of stock not readily tradable on an established securities market
generate valuation information that is easy to understand and
appropriate to the financial disclosure needs of investors receiving
securities under Rule 701? Would such disclosure be an acceptable
alternative to financial statements prepared in accordance with U.S.
GAAP or IFRS, as applicable? Would this proposal provide meaningful
information to securities recipients while avoiding competitive risks
from unauthorized financial statement disclosure?
    9. Should we require, as proposed, that Section 409A independent
valuation reports be prepared pursuant to an independent appraisal for
Rule 701(e) disclosure purposes? Taken together, would the related
Treasury Regulations defining the terms ``independent appraiser,''
``qualified appraiser,'' and ``qualified appraisal'' provide adequate
guidance for purposes of satisfying this proposed requirement? If not,
should we provide further guidance? Would the proposed independence
requirement add significantly to preparation costs? How would those
costs compare to the costs of preparing the financial statements
required by the proposed amendments?
    10. As proposed, the Section 409A independent valuation reports
would need to be updated at six-month intervals. Would a different
interval be more appropriate to ensure that such valuation disclosures
provide appropriate information? If so, what interval should we
prescribe? Would the proposed updating schedule impose significant
costs? Would a less frequent updating schedule raise investor
protection concerns?
    11. More specifically, would the Section 409A updating schedule
imposed for tax purposes, calling for an independent valuation report
to be updated if it fails to reflect information that may materially
affect the value of the issuer and otherwise only once per fiscal year,
result in more frequently updated information than if the issuer
provides financial statement disclosure only on a semi-annual basis as
proposed? Would using the tax updating schedule for Rule 701(e)
purposes provide adequate investor protection?
    12. Should we require disclosure of the entire Section 409A
independent valuation report, as proposed? Would requiring disclosure
of the entire Section 409A independent valuation report result in
disclosure of competitively sensitive information? If so, how could we
modify the proposal to avoid this result while still providing
investors with appropriate disclosure? Are there particular contents of
the report that would be competitively sensitive and not meaningful to
investors?

    13. Is the proposed alternative valuation information based on IRC
Section 409A valuation standards for stock readily tradable on an
established securities market appropriate for Rule 12g3-2(b) eligible
foreign private issuers? From an investor protection standpoint, would
disclosure of the securities' fair market value alone be a sufficient
alternative to financial statement disclosure? Would disclosure of the
securities' fair market value provide any benefit considering the
securities are traded in an established trading market?
    14. Are there any other circumstances in which an issuer should be
able to provide the alternative valuation information based on market
price in accordance with the IRC Section 409A valuation standards for
stock readily tradable on an established securities market?
    15. Are there any other aspects of the Section 409A valuation
regulations that would be useful for purposes of Rule 701(e)
disclosure?
    16. Other than the independent valuation prescribed with respect to
IRC Section 409A, are there any other securities valuation methods that
would be appropriate to import into the Rule 701(e) disclosure
requirements?
5. Disclosure Requirements for Derivative Securities
    We propose to amend the date by which Rule 701(e) disclosure must
be provided for certain derivative securities. Specifically, for
derivative securities that do not involve a decision by the recipient
to exercise or convert, we propose to modify the date by which Rule
701(e) disclosure must be delivered for grants to new hires in
specified circumstances.
    Rule 701(e)(6) currently provides that if a sale involves a stock
option or another derivative security, the issuer must deliver
disclosure a reasonable period of time before the date of exercise or
conversion. Adopted in 1999, this rule contemplates derivative
securities where the sale of the underlying shares involves an
investment decision at the time of exercise or conversion.\59\
---------------------------------------------------------------------------

    \59\ See 1999 Release, which predates issuers' utilization of
restricted stock units and similar instruments for compensatory
awards.
---------------------------------------------------------------------------

    Since Rule 701(e) was initially adopted, compensatory programs have
developed that use derivative securities--such as restricted stock
units (``RSUs'') and performance stock units (``PSUs'')--that do not
require a decision to exercise or convert. Instead, when held to
maturity, these instruments settle automatically in the underlying
shares without need for any investment decision by the holder. In the
Concept Release, the Commission observed that, because such instruments
settle by their terms without action by the holder, the relevant
investment decision, if there is one, likely takes place at the date of
grant. Consequently, the issuer's obligation to provide Rule 701(e)
disclosure would apply a reasonable period of time before the date the
RSU or PSU award is granted.\60\
---------------------------------------------------------------------------

    \60\ See Concept Release at Section II.C.3.
---------------------------------------------------------------------------

    Commenters did not raise any concerns regarding the application of
the existing rule to options, stock appreciation rights, or convertible
securities. While commenters did not dispute the logic of the
Commission's date of sale analysis for RSUs and PSUs,\61\ they
questioned its practicability in the context of grants to new
hires.\62\ In particular, one commenter stated that providing financial
information to an individual who is considering whether to join the
issuer would result in an obligation to provide sensitive financial and
operational risk information before the individual starts
employment.\63\
---------------------------------------------------------------------------

    \61\ See letters from Chamber and Davis Polk.
    \62\ See letters from ABA and Chamber.
    \63\ See letter from ABA.
---------------------------------------------------------------------------

    To address these practical challenges, commenters suggested several
alternative approaches. One commenter suggested permitting issuers to
provide the required disclosure within 30 days after employment
commences.\64\ Another commenter recommended treating RSU settlement as
a conversion within the meaning of Rule 701(e)(6) on the date of
settlement, so that disclosure delivery would be required a reasonable
period of time before settlement.\65\
---------------------------------------------------------------------------

    \64\ See letter from Chamber.
    \65\ See letter from ABA.
---------------------------------------------------------------------------

    We propose revising Rule 701(e)(6) to clarify the distinction
between derivative securities that involve a decision to exercise or
convert, and those that do not.\66\ If the sale involves a stock option
or other derivative security that involves a decision to exercise or
convert, the issuer would continue to be required to deliver disclosure
a reasonable period of time before the date of exercise or conversion.
If the sale involves an RSU or other derivative security that does not
involve a decision to exercise or convert, the issuer generally would
continue to be required to deliver disclosure a reasonable period of
time before the date the RSU or similar derivative security is granted.
---------------------------------------------------------------------------

    \66\ Proposed Rule 701(e)(6)(i).
---------------------------------------------------------------------------

    We also propose to amend the rule's application to the grant of an
RSU or similar derivative security made in connection with the hire of
new employees. In such circumstances, the disclosure would be
considered delivered a reasonable period of time before the date of
sale if it is provided no later than 14 calendar days after the date
the person begins employment. In our view, providing an accommodation
for delivery 14 calendar days after commencing employment would provide
the issuer an opportunity to address confidentiality concerns while
providing the employee disclosure within an appropriate time period. In
any other circumstances, the issuer would be required to deliver the
disclosure a reasonable period of time before the date the RSU or
similar derivative security is granted. In any case, however, the
disclosure may be provided subject to appropriate confidentiality
conditions. We do not propose to treat RSU settlement the same as a
conversion because, unlike conversion, RSU settlement does not involve
an investment decision, and, as discussed above, the requirements of
Rule 701 contemplate disclosure delivery as part of an investment
decision.
    Request for Comment:
    17. Does the proposal sufficiently clarify the distinction between
derivative securities that involve a decision to exercise or convert
and those that do not with respect to the timing of the obligation to
deliver Rule 701(e) disclosure?
    18. Is there any basis for treating settlement of an RSU or PSU as
a conversion under the current rule, given that the holder does not
make any investment decision at the time of settlement? For example,
should the decision whether to settle tax obligations arising at
settlement by withholding shares be viewed as an investment decision?
    19. For new hires, is it appropriate to require delivery of Rule
701(e) disclosures within 14 calendar days after a recipient's
commencement of employment, as proposed? Would a shorter period, such
as seven calendar days, or longer period, such as 30 calendar days, be
more appropriate?
    20. Does the proposal adequately address issuer confidentiality
concerns in the context of new hires, in a manner consistent with
investor protection?
    21. Are there any circumstances in which the proposed new hire
accommodation should not apply, such

as where the grant of securities is individually negotiated?
    22. Should the proposed accommodation for new hires be available
only if the financial disclosure that will be provided consists of
financial statements, rather than the alternative proposed Section 409A
valuation disclosure? Does a Section 409A independent valuation report
raise the same concerns about disclosure of sensitive financial and
operational risk information?
    23. Are there any other categories of Rule 701 eligible
participants for whom the proposed accommodations should apply?
    24. Would it be helpful to amend Rule 701(e) to specify that
disclosure may be made either by physical or electronic delivery or by
written notice of the availability of the information on a website that
may be password-protected and of any password needed to access the
information? Would it be helpful for the rule to specifically permit
use of dedicated physical disclosure rooms that house the medium used
to convey the information required to be disclosed?
6. Disclosure Requirements Following Business Combination Transactions
    To clarify the application of Rule 701 to merged entities, we
propose to amend Rule 701(e) to address the application of the
exemption and its disclosure delivery obligations to acquired entity
derivative securities that the acquiring issuer assumes in a business
combination transaction.\67\
---------------------------------------------------------------------------

    \67\ Proposed Rule 701(e)(7).
---------------------------------------------------------------------------

    In some business combination transactions, outstanding derivative
securities issued by the acquired entity in compensatory transactions
will not be accelerated, but will instead be assumed by the acquiring
issuer. In these circumstances, shares of the acquiring issuer will be
issued upon the exercise or conversion of the derivative securities,
instead of those of the acquired entity. Under the proposal, as long as
the acquired entity complied with Rule 701 at the time it originally
granted the derivative securities, the exercise or conversion of those
derivative securities that are assumed by the acquiring issuer would be
exempt from registration, subject to the acquiring issuer's compliance,
where applicable, with Rule 701(e). For assumed derivative securities
for which the acquired entity was required to provide disclosure
pursuant to Rule 701(e) and where the derivative securities are
exercised or converted after completion of the business combination
transaction, the acquiring issuer would satisfy that disclosure
obligation by providing information meeting the requirements of Rule
701(e) consistent with the timing requirements of Rule 701(e)(6).\68\
In other words, if the acquired entity would have been required to
provide Rule 701(e) disclosure upon exercise or conversion of its
derivative securities, the acquiring issuer that assumes those
derivative securities would assume the obligation to provide Rule
701(e) disclosure upon their exercise or conversion.
---------------------------------------------------------------------------

    \68\ Proposed Rule 701(e)(7)(ii).
---------------------------------------------------------------------------

    Following completion of a business combination transaction, in
determining whether the amount of securities the acquiring issuer sold
during any consecutive 12-month period exceeds $10 million, the
acquiring issuer would consider only the securities that it sold in
reliance on Rule 701 during that period and would not be required to
include any securities sold by the acquired entity pursuant to the rule
during the same 12-month period.\69\ Because the acquiring issuer
presumably did not consider the acquired entity's Rule 701 sales
preceding the business combination transaction in planning its own Rule
701 transactions, taking them into account after the business
combination transaction could in some cases result in retroactive loss
of the exemption if the combined Rule 701 transactions exceed the $10
million threshold. We believe that this result would be unduly
restrictive and could create hurdles to potentially value-enhancing
business combinations.
---------------------------------------------------------------------------

    \69\ Proposed Rule 701(e)(7)(i).
---------------------------------------------------------------------------

    Request for Comment:
    25. Would the proposal addressing acquired entity derivative
securities assumed by an acquiring issuer sufficiently clarify the
exempt status of and disclosure obligations applicable to exercises and
conversions of those securities after completion of the business
combination transaction? Are any additional clarifications needed? For
example, is guidance needed to clarify who is the acquiring issuer in a
business combination transaction where the acquirer is not the same
entity for legal and accounting purposes?
    26. Following completion of a business combination transaction, in
determining whether the amount of securities the acquiring issuer sold
pursuant to Rule 701 during any consecutive 12-month period exceeds $10
million, should the acquiring entity be permitted to disregard the
securities that the acquired entity sold pursuant to the rule during
the same 12-month period, as proposed? Are there any circumstances in
which the acquiring entity should be required to take those acquired
entity securities into account for purposes of the $10 million
disclosure threshold, and how do these circumstances relate to investor
protection?

B. Rule 701(d)

    We propose to raise two of the three alternative regulatory
ceilings that cap the overall amount of securities that a non-reporting
issuer may sell pursuant to Rule 701 during any consecutive 12-month
period. Since 1999,\70\ the rule has provided that the amount of
securities that may be sold in reliance on the exemption during any
consecutive 12-month period is limited to the greatest of: \71\
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    \70\ See 1999 Adopting Release.
    \71\ Rule 701(d).
---------------------------------------------------------------------------

     $1 million;
     15% of the total assets of the issuer,\72\ measured at the
issuer's most recent balance sheet date; or
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    \72\ The relevant limit applies to the total assets of the
issuer's parent if the issuer is a wholly-owned subsidiary and the
securities represent obligations that the parent fully and
unconditionally guarantees.
---------------------------------------------------------------------------

     15% of the outstanding amount of the class of securities
being offered and sold in reliance on the rule, measured at the
issuer's most recent balance sheet date.

These measures apply on an aggregate basis, not plan-by-plan. For
securities underlying options, the aggregate sales price is determined
when the option grant is made, using the exercise price of the option,
without regard to when it becomes exercisable.\73\ For deferred
compensation plans, the calculation is made at the time of the
participant's irrevocable election to defer.\74\ There is no separate
limitation on the amount of securities that may be offered.
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    \73\ See Rule 701(d)(3)(i)-(ii).
    \74\ See Rule 701(d)(3)(ii).
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    In proposing the current rule, the Commission explained that the
purpose of a 12-month cap is to ``assur[e] that the exemption does not
provide a threshold that small issuers could use to raise substantial
capital from employees.'' \75\ The alternatives based on 15% of total
assets or 15% of the outstanding amount

of the class of securities were intended to increase the flexibility
and utility of the exemption.\76\ The $1 million alternative provides
an amount that any issuer can use, regardless of size.
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    \75\ See Employee Benefit and Compensation Contracts, Release
No. 33-6726 (July 30, 1987) [52 FR 29033 (Aug. 5, 1987)] (``Rule 701
Reproposing Release''). As originally adopted, the rule permitted
the amounts of securities offered and sold annually to be the
greatest of $500,000, 15% of total assets of the issuer, or 15% of
the outstanding securities of the class, subject to an absolute
limit of $5,000,000 derived from Securities Act Section 3(b). See
Compensatory Benefit Plans and Contracts, Release No. 33-6768 (Apr.
14, 1988) [53 FR 12918 (Apr. 20, 1988)] (``Rule 701 Adopting
Release'').
    \76\ See Rule 701 Adopting Release at Section I.A.(2).
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    The Concept Release solicited comment on whether there is a
continuing need for any annual regulatory ceiling for Rule 701
transactions, and whether investors would be harmed if the Commission
eliminated or raised the ceiling. One commenter stated that compliance
with Rule 701(d) imposes costly ongoing analysis and monitoring on
issuers without any clear benefit to them or their employees.\77\ A
different commenter recommended raising the $1 million limit to $2
million, to retain its utility for start-up issuers that have few
assets and may want to issue a large percentage of current equity to
first round employees.\78\ This commenter also recommended raising the
15% asset cap to 25%, as modern issuers rely increasingly on human
capital and are less asset-intensive. Another commenter recommended
providing relief in business combination transactions where the
acquirer assumes the target's employee benefit plans, resulting in the
combined enterprise exceeding the aggregate offering limitations in
Rule 701(d)(2), particularly in the first year following closing of the
transaction.\79\
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    \77\ See letter from ABA.
    \78\ See letter from Sullivan.
    \79\ See letter from Chamber.
---------------------------------------------------------------------------

    We continue to believe that the Rule 701(d) caps are useful in
curbing non-compensatory sales in reliance on the rule. Accordingly,
the proposal retains the general structure of Rule 701(d)(2), providing
that the aggregate sales price or amount of securities sold in reliance
on Rule 701 during any consecutive 12-month period must not exceed the
greatest of the three alternative ceilings. In light of the less asset-
intensive nature of contemporary businesses and the effects of
inflation since the adoption of these alternatives in 1999, we believe
that it could be beneficial to issuers and securities recipients to
raise two of the ceilings. As proposed, the asset cap would be raised
from 15% to 25% of the total assets of the issuer (or of the issuer's
parent if the issuer is a wholly-owned subsidiary and the securities
represent obligations that the parent fully and unconditionally
guarantees) measured at the issuer's most recent balance sheet date (if
no older than its last fiscal year end).\80\ The alternative $1 million
cap available to any issuer would be raised to $2 million.\81\ The
third alternative cap--15% of the outstanding amount of the class of
securities being offered and sold--would be retained with no changes.
The considerations that motivate us to propose raising the alternative
percentage of assets cap and the $1 million cap do not apply to the
percentage of outstanding securities cap, and we continue to believe
this cap is appropriate to prevent misuse of the exemption for capital-
raising purposes.
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    \80\ Proposed Rule 701(d)(2)(ii).
    \81\ Proposed Rule 701(d)(2)(i).
---------------------------------------------------------------------------

    To facilitate the operation of compensatory plans following a
merger or acquisition, we propose an amendment to provide that after
completion of a business combination transaction, to calculate
compliance with paragraph (d)(2) of this section, the acquiring issuer
may use a pro forma balance sheet that reflects the transaction or a
balance sheet for a date after the completion of the transaction that
reflects the total assets and outstanding securities of the combined
entity.\82\ Furthermore, in determining the amount of securities that
it may offer pursuant to Rule 701 following a business combination
transaction, as proposed, the acquiring issuer would not be required to
include the aggregate sales price and amount of securities for which
the acquired entity claimed the exemption during the same 12-month
period. We believe that these changes would remove hurdles to
potentially value-enhancing business combination transactions,
consistent with investor protection.
---------------------------------------------------------------------------

    \82\ Proposed Rule 701(d)(3)(v).
---------------------------------------------------------------------------

    Request for Comment:
    27. Do the two proposed sales cap increases appropriately adjust
the ceilings in a manner that benefits both issuers and securities
recipients, consistent with investor protection? Should either cap be
raised by a higher or lower amount? If so, what amount would be more
appropriate? Should either cap remain unchanged?
    28. Should we retain the current structure of Rule 701(d) with
three alternative sales caps? If not, how should the structure be
changed? In particular, do the caps further the goal of facilitating
only compensatory transactions in reliance on Rule 701? Are there
alternative provisions that would serve this purpose?
    29. Does the cap based on 15% of the outstanding amount of the
class of securities being offered and sold continue to play a useful
and effective role in Rule 701? Does it prevent issuers from improperly
relying on the rule to raise capital from employees? Have there been
changes in the marketplace, as discussed above for the two other
alternative caps, which suggest that this cap may inhibit beneficial
compensatory transactions? Should this cap be raised? If so, what would
be a more appropriate percentage?
    30. Does the proposal to permit use of a pro forma balance sheet,
or a balance sheet for a date after the completion of the business
combination transaction that reflects the total assets and outstanding
securities of the combined entity, meaningfully facilitate the
operation of compensatory plans following a business combination
transaction? Are any other changes necessary to achieve this objective?
    31. Should we amend Rule 701(d), as proposed, to provide that
following a business combination transaction, in determining the amount
of securities that it may offer pursuant to Rule 701, the acquiring
issuer need not include the aggregate sales price and amount of
securities for which the acquired entity claimed the exemption during
the same 12-month period?

C. Eligible Recipients

1. Consultants and Advisors
    We propose to extend Rule 701 consultant and advisor eligibility to
entities meeting specified ownership criteria designed to assure that
the securities compensate the performance of services. Currently,
consultants and advisors may participate in Rule 701 offerings only if:
     They are natural persons;
     They provide bona fide services to the issuer, its
parents, its majority-owned subsidiaries or majority-owned subsidiaries
of the issuer's parent; and
     The services are not in connection with the offer or sale
of securities in a capital-raising transaction, and do not directly or
indirectly promote or maintain a market for the issuer's
securities.\83\
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    \83\ Rule 701(c)(1). Where the consultant or advisor performs
services for the issuer through a wholly-owned corporate alter ego,
the issuer may contract with, and issue securities as compensation
to, that corporate entity. Cf., Registration of Securities on Form
S-8, Release No. 33-7646 (Feb. 25, 1999) [64 FR 11103 (Mar. 8,
1999)] at n. 20, (``1999 Form S-8 Adopting Release'') addressing
such a corporate alter ego in the Form S-8 context.
---------------------------------------------------------------------------

    Some commenters on the Concept Release addressed whether
participation should be limited to natural persons and corporate alter
egos, as currently permitted, or expanded to include entities. One
commenter noted that staff has not objected to treating personal
services businesses as corporate alter egos of natural persons with
respect to the ability to participate in Form S-8

offerings under existing employee, consultant and advisor categories,
where such businesses are wholly-owned by (or jointly owned with the
spouse of) the natural person who provides services to the issuer.\84\
The commenter suggested that we expand eligible corporate alter egos to
include entities wholly-owned by multiple natural person service
providers or the management of the entities. Other commenters noted
that service providers may be organized as entities in order to provide
legal benefits such as tax and estate planning and stated that these
providers should not have to choose between such benefits and receiving
equity compensation.\85\
---------------------------------------------------------------------------

    \84\ See letter from Davis Polk.
    \85\ See letters from Chamber and Indigo.
---------------------------------------------------------------------------

    While we acknowledge these points, we are concerned that opening up
Rule 701 eligibility to entities that are more broadly held than the
corporate alter ego of an individual consultant could undermine the
compensatory nature of the exemption by permitting securities to be
issued to passive investment vehicles rather than individuals who
perform services for the issuer. This concern is amplified by the fact
that a person who receives securities pursuant to the plan and
participant conditions of Rule 701(c) is not considered a holder of
record for purposes of Exchange Act Section 12(g) registration.
Specifically, Section 502 of the Jumpstart Our Business Startups Act
\86\ (``JOBS Act'') amended Exchange Act Section 12(g)(5) \87\ to
exclude from the definition of ``held of record,'' for purposes of
determining whether an issuer is required to register a class of equity
securities, securities that are held by persons who received them
pursuant to an ``employee compensation plan'' in transactions exempted
from the registration requirements of Section 5 of the Securities
Act.\88\ To implement this statutory amendment, the Commission amended
the definition of ``held of record'' in Exchange Act Rule 12g5-1 \89\
to exclude certain securities held by persons who received them
pursuant to employee compensation plans in a transaction exempt from,
or not subject to, the registration requirements of Section 5.\90\ This
amendment also established a non-exclusive safe harbor for determining
whether securities are ``held of record'' for purposes of registration
under Exchange Act Section 12(g), providing that an issuer may deem a
person to have received securities pursuant to an employee compensation
plan if the plan and the person who received the securities pursuant to
it met the plan and participant conditions of Rule 701(c). It is
therefore important in expanding eligible participants under Rule
701(c) not to include passive investment vehicles that properly should
be record holders for purposes of triggering Section 12(g) registration
and the protections of Exchange Act reporting.
---------------------------------------------------------------------------

    \86\ Sec. 502, 126 Stat. at 326. Section 501 of the JOBS Act
[Sec. 601, 126 Stat. at 325] amended Section 12(g)(1) of the
Exchange Act to require an issuer to register a class of equity
securities (other than exempted securities) within 120 days after
its fiscal year-end if, on the last day of its fiscal year, the
issuer has total assets of more than $10 million and the class of
equity securities is ``held of record'' by either (i) 2,000 persons,
or (ii) 500 persons who are not accredited investors. Section 601 of
the JOBS Act [Sec. 601, 126 Stat. at 326] further amended Exchange
Act Section 12(g)(1) to require an issuer that is a bank or bank
holding company, as defined in Section 2 of the Bank Holding Company
Act of 1956 [12 U.S.C. 1841], to register a class of equity
securities (other than exempted securities) within 120 days after
the last day of its first fiscal year ended after the effective date
of the JOBS Act, on which the issuer has total assets of more than
$10 million and the class of equity securities is ``held of record''
by 2,000 or more persons.
    \87\ 15 U.S.C. 78l(g)(5).
    \88\ This statutory exclusion applies solely for purposes of
determining whether an issuer is required to register a class of
equity securities under the Exchange Act and does not apply to a
determination of whether such registration may be terminated or
suspended.
    \89\ 17 CFR 240.12g5-1.
    \90\ See Changes to Exchange Act Registration Requirements to
Implement Title V and Title VI of the JOBS Act, Release No. 33-10075
(May 3, 2016) [81 FR 28689 (May 10, 2016)] (``JOBS Act Release''),
adopting Exchange Act Rule 12g5-1(a)(8).
---------------------------------------------------------------------------

    The proposed amendments seek to strike a balance between, on the
one hand, allowing service providers flexibility to obtain the legal
benefits of organizing as entities and, on the other hand, preventing
Rule 701 securities from being issued to passive investment vehicles
that would not be record holders, by expanding consultant or advisor
eligibility to an entity, subject to the following conditions:
     Substantially all of the activities of the entity involve
the performance of services; and
     Substantially all of the ownership interests in the entity
are held directly by:
    [cir] No more than 25 natural persons, of whom at least 50 percent
perform such services for the issuer through the entity;
    [cir] The estate of a natural person specified above; and
    [cir] Any natural person who acquired ownership interests in the
entity by reason of the death of a natural person specified above.\91\
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    \91\ Proposed Rule 701(c)(1)(iii). These conditions are loosely
modeled on, but have a different focus than, the Internal Revenue
Code definition of a ``qualified personal service corporation. See
26 U.S.C. 448(d)(2).
---------------------------------------------------------------------------

    The proposal seeks to expand eligibility for consultant entities
while helping to ensure that compensatory securities are issued only to
entities through which services are provided that are owned by those
service providers. We believe that the proposed conditions are
appropriate to help achieve this objective. In particular,
substantially all of the ownership interests would need to be held
directly by no more than 25 natural persons, at least 50 percent of
whom provide services to the issuer, and by the estates and heirs of
those natural persons. An entity that satisfies these conditions would
also--like a natural person--need to satisfy the existing requirements
for consultant and advisory eligibility by providing bona fide services
that are not in connection with the offer or sale of securities in a
capital-raising transaction and do not directly or indirectly promote
or maintain a market for the issuer's securities.\92\
---------------------------------------------------------------------------

    \92\ Rule 701(c)(1)(ii) and (iii), proposed to be re-designated
as Rule 701(c)(1)(i) and (ii), respectively.
---------------------------------------------------------------------------

    Request for Comment:
    32. Should we extend consultant and advisor eligibility to entities
meeting specified ownership criteria designed to link the securities to
the performance of services for the issuer, as proposed?
    33. Does the proposed standard for consultant and advisor entity
eligibility appropriately balance a consultant's needs to obtain the
legal benefits of entity organization with the rule's purpose to exempt
from Securities Act registration offerings of securities issued in
compensatory circumstances? \93\
---------------------------------------------------------------------------

    \93\ See Proposed Rule 701(a)(5), formerly Preliminary Note 5 to
Rule 701.
---------------------------------------------------------------------------

    34. The proposed standard would require that substantially all of
the ownership interests of the entity be held by no more than 25
natural persons, of whom at least 50 percent perform services for the
issuer through the entity, their estates, and natural persons who
acquired ownership interests due to their death. Are the proposed
conditions appropriate? Are there different or additional conditions we
should consider? Should the rule specify criteria defining what
``substantially all'' would mean for this purpose? For example, should
95 percent ownership be required to establish ``substantially all''?
\94\
---------------------------------------------------------------------------

    \94\ Regulation Reg. Sec. 1.448-1T(e)(5)(i)(D) defines
``substantially all'' as 95% or more for purposes of a ``personal
service corporation'' as defined in IRC Section 448(d)(2).
---------------------------------------------------------------------------

    35. To ensure that securities are issued to compensate persons who
provide services to the issuer and not to

passive investors, is it necessary to specify a maximum number of
natural person owners for an entity to be eligible, as proposed? Should
the number be larger or smaller? \95\ Should the entity's eligibility
to receive securities be conditioned on at least 50 percent of those
natural person owners performing services for the issuer, as proposed?
Should that percentage be larger or smaller?
---------------------------------------------------------------------------

    \95\ In this regard, we note that to qualify for S corporation
status, a corporation may have no more than 100 shareholders. See
generally IRC Sections 1361(a)(2) and 1361(b).
---------------------------------------------------------------------------

    36. To assure that a compensatory purpose is maintained, would it
be necessary to further restrict ownership by persons who acquire the
securities by reason of the death of a current or former service
provider to a two-year period beginning on the date of death, as in the
Internal Revenue Code definition of a qualified personal service
corporation?
    37. As noted above, a person who receives securities pursuant to
the plan and participant conditions of Rule 701(c) is not considered a
holder of record for purposes of Exchange Act Section 12(g)
registration. How should this provision influence the limitations we
place on those persons eligible to receive Rule 701 securities? Are any
other restrictions or conditions needed to ensure that Rule 12g5-
1(a)(8) excludes from the definition of held of record securities
received as compensation for services that the recipients provided to
the issuer?
2. Former Employees
    We are proposing to expand Rule 701 eligibility for former
employees to specified post-termination grants and to former employees
of acquired entities. Rule 701 currently exempts offers and sales to
former employees, directors, general partners, trustees, officers, or
consultants and advisors only if such persons were employed by or
providing services to the issuer at the time the securities were
offered.
    In response to the Concept Release, one commenter stated that Form
S-8 should be available to register new grants to former employees that
are made as compensation for prior service during the 12-month period
after retirement or termination.\96\ Another commenter suggested
expanding eligible participants to include former employees of an
acquired issuer that were granted equity awards in an acquisition in
exchange for securities issued as compensation while such former
employees were still employed by the acquired issuer.\97\
---------------------------------------------------------------------------

    \96\ See letter from Sullivan.
    \97\ See letter from Davis Polk.
---------------------------------------------------------------------------

    We believe that expanding Form S-8 eligibility to encompass former
employees as suggested by commenters could benefit both issuers and
securities recipients by facilitating compensatory transactions
consistent with the purposes of the form.\98\ We believe that this
rationale applies equally to Rule 701 and Form S-8. Accordingly, we
propose to expand the eligibility of former employees under Rule 701 to
include offers and sales to:
---------------------------------------------------------------------------

    \98\ See Section III.C.1, infra.
---------------------------------------------------------------------------

     Persons who were employed by or providing services to the
issuer, its parents, its subsidiaries, or subsidiaries of the issuer's
parent and who are issued securities after resignation, retirement, or
other termination as compensation for services rendered during a
performance period that ended within 12 months preceding such
termination; and
     former employees of an entity that was acquired by the
issuer if the securities are issued in substitution or exchange for
\99\ securities that were issued to the former employees of the
acquired entity on a compensatory basis while such persons were
employed by or providing services to the acquired entity.
---------------------------------------------------------------------------

    \99\ Consistent with Exchange Act Rule 12g5-1(a)(8)(i)(B), we
are using the language ``in substitution or exchange for'' to cover
the various methods by which issuer securities may be received in
place of acquired entity securities that were issued in compensatory
transactions, such as upon exercise or conversion of those
securities. See JOBS Act Release at Section III.B.3.
---------------------------------------------------------------------------

    The proposal also would define ``employee'' for purposes of Rule
701 to include executors, administrators, and beneficiaries of the
estates of deceased employees, guardians or members of a committee for
incompetent former employees, or similar persons duly authorized by law
to administer the estate or assets of former employees. This amendment
would conform to the corresponding provision relating to former
employee eligibility in Form S-8.\100\
---------------------------------------------------------------------------

    \100\ General Instruction A.1(a)(3) to Form S-8, which as
discussed in Section III.C.1, infra, would similarly be amended to
expand eligibility for former employees and former employees of an
entity acquired by the issuer.
---------------------------------------------------------------------------

    Request for Comment:
    38. Should we make Rule 701 available for new offers and sales to
former employees as compensation for their service while employed by
the issuer in the preceding 12 months, as proposed? Would expanding the
exemption in this way facilitate compensatory transactions consistent
with the purpose of the rule? To what extent do issuers grant awards on
such a retrospective basis? Does ``following resignation, retirement,
or other termination'' clearly describe the relationship of the award
to former employment? Should the rule specifically address any other
scenarios, such as expiration of the term of employment?
    39. Should Rule 701 be available to a former employee of an
acquired entity for securities substituted or exchanged for acquired
entity securities issued as compensation for the former employee's work
for the acquired entity, as proposed? Would this be consistent with the
underlying rationale that the Rule 701 exemption is available based on
the compensatory relationship with the issuer?
    40. Would amending the rule, as proposed, to extend eligibility to
executors, administrators, and beneficiaries of employees' estates and
others duly authorized by law to administer the estates or assets of
former employees facilitate the administration of compensatory plans
relying on the exemption? If not, how should this proposal be modified
to facilitate that objective?
3. Employees of Subsidiaries
    In an effort to harmonize Rule 701 and Form S-8, we also propose to
amend Rule 701(c) by substituting the term ``subsidiaries'' \101\ for
``majority-owned subsidiaries.'' The proposed amendment would make the
exemption available for offers and sales of securities under a written
compensatory benefit plan (or written compensation contract)
established by the issuer, its parents, its subsidiaries, or
subsidiaries of the issuer's parent.\102\ Like Form S-8, Rule 701 would
be available for the issuance of issuer securities to employees of its
subsidiaries, without regard to whether those subsidiaries are
majority-owned.\103\ We are not aware of

any reason to limit Rule 701 to employees of majority-owned
subsidiaries. Expanding Rule 701 eligibility in this manner could
facilitate the continued operation of compensation programs when non-
reporting issuers transition to reporting status and are only eligible
to use Form S-8 rather than Rule 701.
---------------------------------------------------------------------------

    \101\ Rule 405 defines ``subsidiary'' for purposes of the
Securities Act as an affiliate controlled by such person directly,
or indirectly through one or more intermediaries. Rule 405 defines
``control'' as the possession, direct or indirect, of the power to
direct or cause the direction of the management and policies of a
person, whether through the ownership of voting securities, by
contract, or otherwise.
    \102\ Under the proposal, ``subsidiary'' would replace
``majority-owned subsidiary'' in each place in Rule 701(c) where
``majority-owned subsidiary'' currently appears.
    \103\ The term ``majority-owned subsidiary'' is defined as a
subsidiary more than 50 percent of whose outstanding securities
representing the right, other than as affected by events of default,
to vote for the election of directors, is owned by the subsidiary's
parent and/or one or more of the parent's other majority-owned
subsidiaries. See Rule 405.
---------------------------------------------------------------------------

    By broadening the exemption to include all subsidiaries, as
defined, rather than only those that are majority-owned, the proposal
would, among other things, expand eligibility to subsidiaries
consolidated by the issuer as variable interest entities, such as
physicians employed by medical practices controlled by the issuer.\104\
---------------------------------------------------------------------------

    \104\ In the 1999 Adopting Release at Section at Section II.D,
n. 41, the Commission rejected a view expressed by the staff in
certain no-action letters that such physicians were eligible as
consultants or advisors in light of the narrower definition of
consultant or advisor adopted in that release. Under Financial
Accounting Standards Board Accounting Standards Codification
Subtopic 810-10, Consolidation--Overall, a medical practice is often
a variable interest entity. An issuer that has a controlling
financial interest in such a medical practice generally would
consolidate it. As a result, physicians employed by the medical
practice would become eligible as employees of the issuer's
subsidiary.
---------------------------------------------------------------------------

    Request for Comment:
    41. Should we harmonize the Rule 701 and Form S-8 eligibility
requirements by broadening the Rule 701 exemption to include all
subsidiaries, as proposed? Would the proposal facilitate a non-
reporting issuer's transition to reporting issuer status and its
subsequent registration of compensatory offerings on Form S-8?
    42. Unlike Form S-8, the Rule 701 exemption currently is available
to majority-owned subsidiaries of the issuer's parent rather than only
subsidiaries of the issuer itself.\105\ Should we amend Form S-8 to
further harmonize the scope of Rule 701 and Form S-8 by making Form S-8
available to employees of all subsidiaries of the issuer's parent? Are
there any other harmonizing amendments we should consider?
---------------------------------------------------------------------------

    \105\ See Form S-8, General Instruction A.1.(a).
---------------------------------------------------------------------------

    43. Are there any reasons not to extend Rule 701 eligibility to
persons employed by subsidiaries that are consolidated by the issuer as
variable interest entities? For example, are there any reasons not to
extend Rule 701 eligibility to physicians employed by medical practices
controlled by the issuer, based on their employment by a subsidiary of
the issuer?

III. Form S-8

    Form S-8 was originally adopted in 1953, as a simplified form for
the Securities Act registration of securities to be issued pursuant to
employee stock purchase plans.\106\ Form S-8 is available for the
registration of securities to be offered under any employee benefit
plan to an issuer's employees or employees of its subsidiaries or
parents.\107\ Registration on Form S-8 is used for many different types
of employee benefit plans, including Internal Revenue Code Section
401(k) plans and similar defined contribution retirement savings plans,
employee stock purchase plans, nonqualified deferred compensation
plans, and incentive plans that provide for issuance of options,
restricted stock, or RSUs. The form may be used by any issuer that is
subject, at the time of filing, to the reporting requirements of
Section 13 or 15(d) of the Exchange Act and has filed all reports
required during the preceding 12 months or such shorter period that it
was subject to those requirements.\108\ Form S-8 is not available for
shell companies.\109\
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    \106\ See generally Registration of Securities Offered Pursuant
to Employees Stock Purchase Plans, Release No. 33-3480 (June 16,
1953) [18 FR 3688 (June 27, 1953)].
    \107\ ``Employee benefit plan'' is defined in Securities Act
Rule 405.
    \108\ See Form S-8, General Instruction A.1.
    \109\ ``Shell company'' is defined in Securities Act Rule 405.
When a company ceases to be a shell company, by combining with a
formerly private operating business, General Instruction A.1 to Form
S-8 provides that it then becomes eligible to use Form S-8 60 days
following the filing of Form 10-equivalent information with the
Commission.
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    Over time, the Commission has made revisions to the Form S-8
requirements to simplify the use of the form and streamline the form's
requirements where such simplification is consistent with investor
protection.\110\ In the Concept Release, the Commission asked whether
Form S-8 registration is still necessary, and if so, how the Commission
could further streamline Form S-8 registration. Among other things, the
Concept Release solicited comment on the potential elimination of Form
S-8 in favor of allowing Exchange Act reporting issuers to use the Rule
701 exemption and whether Form S-8 incentivized issuers to remain
current in their Exchange Act reporting obligations. Commenters who
addressed this issue generally supported eliminating the form, while
expressing some reservations.\111\ One commenter stated that the
principal advantage of such an approach would be the elimination of
compliance costs associated with filing and maintaining an effective
Form S-8.\112\ A few other commenters indicated that keeping Form S-8
is not necessary to provide an incentive for reporting issuers to
remain current in their Exchange Act reporting obligations.\113\
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    \110\ See, e.g., 17 CFR 230.462(a) (allowing Form S-8 to go
effective automatically without review by the staff or other action
by the Commission); Item 3 and General Instruction G of Form S-8
(allowing the incorporation by reference of certain past and future
reports required to be filed by the issuer under Section 13 or 15(d)
under the Exchange Act); 17 CFR 230.428(a)(1) (providing an
abbreviated disclosure format that eliminated the need to file a
separate prospectus and permitting the delivery of regularly
prepared materials to advise employees about benefit plans to
satisfy prospectus delivery requirements); Rule 416(c) and Rule
457(h)(2) (providing for registration of an indeterminate amount of
plan interests and providing that there is no separate fee
calculation for registration of plan interests, respectively); and
General Instruction E to Form S-8 (providing a procedure for the
filing of a simplified registration statement covering additional
securities of the same class to be issued pursuant to the same
employee benefit plan).
    \111\ See letters from ABA, Davis Polk, and NASPP.
    \112\ See letter from ABA.
    \113\ See letters from NASPP and ABA.
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    At the same time, commenters noted a number of potential
disadvantages with eliminating Form S-8. One commenter stated that
reporting issuers would find it a significant disadvantage if failure
to register on Form S-8 would subject an issuance of employee benefit
plan shares to registration under state blue sky laws.\114\ A different
commenter stated that reporting issuers would not migrate to Rule 701
if securities issued under the exemption would be restricted
securities, as defined in Rule 144, and observed that, unlike Rule 701
offerings, securities issued as part of an offering registered on Form
S-8 are not ``restricted securities'' as defined in Rule 144.\115\
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    \114\ See letter from NASPP.
    \115\ See 17 CFR 230.144(a)(3)(ii) and letter from Chamber.
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    In evaluating this potential change, we considered these and other
disadvantages that would result from eliminating Form S-8 and allowing
reporting issuers to use Rule 701, such as:
     Employees' loss of the information required in Part I of
Form S-8 that is part of the prospectus that must be provided to them;
and
     Employees' potential loss of the protections provided by
Section 11 and, in some cases, Section 12(a)(2) liability in the case
of material misstatements or omissions.\116\
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    \116\ See 15 U.S.C. 77k and 77l(a)(2).
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    On balance, we believe that Form S-8 continues to provide a useful
and effective means of registering securities to be issued in
compensatory offerings under the Securities Act. Accordingly, we are
proposing amendments to the

form and related rules that maintain the current non-reporting issuer-
reporting issuer distinction between Rule 701 and Form S-8, but we are
proposing amendments to simplify the use of Form S-8. The proposed
amendments should significantly reduce the compliance burdens of filing
and maintaining an effective Form S-8, while retaining the protection
that registration under the Securities Act provides to investors.
Finally, we are proposing amendments that would harmonize the
requirements of Rule 701 and Form S-8.
    Request for Comment:
    44. Should we eliminate Form S-8? If so, what exemption or other
registration statement should the Commission replace it with? What
should the requirements and conditions of such exemption or
registration statement be? If such an approach were adopted, what other
steps should the Commission take to preserve companies' ability to
offer equity-based compensation to employees (e.g., preemption of state
blue sky laws) and to protect investors?

A. Addition of Plans and Securities or Classes of Securities to Form S-
8

1. Addition of Plans to Form S-8
    To maximize the utility of Form S-8 for legitimate compensatory
purposes, we are clarifying and proposing changes to our rules and to
Form S-8 to provide additional flexibility for compensatory offerings,
similar to provisions available to issuers in capital raising shelf
offerings. The Concept Release solicited comment on whether we should
permit an issuer to register on a single form the offers and sales
pursuant to all employee benefit plans that it sponsors. One commenter
stated that there is not currently an explicit requirement under Form
S-8 that only shares under a single employee benefit plan may be
registered on a specific registration statement but nonetheless
recommended that the Commission clarify this point in any amendments to
the form.\117\ Other commenters were generally supportive of permitting
offers and sales of securities pursuant to multiple plans to be
registered on a single Form S-8.\118\
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    \117\ See letter from ABA.
    \118\ See letters from Council, Davis Polk and NASPP.
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    We are clarifying that issuers may add additional plans to an
existing Form S-8. Specifically, issuers may file an automatically
effective post-effective amendment to a previously filed Form S-8 to
add employee benefit plans where the new plan does not require the
authorization and registration of additional securities for offer and
sale.\119\ For example, assume an issuer has an effective Form S-8 that
registers sales of common stock to be issued under the issuer's 2010
equity compensation plan and has recently adopted a new 2020 equity
compensation plan to replace the 2010 plan that does not authorize
additional securities. Upon effectiveness of the 2020 plan, no further
awards may be granted pursuant to the 2010 plan and any shares covered
by an award under the 2010 plan are now duly authorized for issuance
under the 2020 plan. In order to sell under the 2020 plan, the issuer
may register the securities to be offered and sold pursuant to the new
plan on a new Form S-8. Alternatively, under the current requirements
of Form S-8 or Rule 428,\120\ the issuer could file an automatically
effective post-effective amendment to the previously filed Form S-8 to
add employee benefit plans, such as the 2020 plan in the example. The
post-effective amendment to include the additional plan would be
required to disclose any material change in the plan of distribution,
including that a new plan is being added to an existing Form S-8.\121\
This post-effective amendment would need to describe how shares that
will not be issued under the previous plans may become authorized for
issuance under the current plans. The post-effective amendment also
must identify all covered plans on the cover page and describe, if
applicable, how the shares that were registered for previous offerings
on the Form S-8 pursuant to other plans have instead become authorized
for issuance under the newly added plan.\122\
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    \119\ After discussing these clarifications, we discuss the
proposed amendments regarding plans that authorize additional
securities in Section III.A.2, infra.
    \120\ 17 CFR 230.428.
    \121\ See 17 CFR 230.464 and Rule 456. Item 9 of Form S-8
requires an issuer to make the undertaking set forth in Item
512(a)(1)(iii) of Regulation S-K in a post-effective amendment. The
undertaking in Item 512(a)(1)(iii) states that the registrant will
include any material information with respect to the plan of
distribution not previously disclosed in the registration statement
or any material change to such information in the registration
statement to disclose a material change in the plan of distribution.
For example, in certain circumstances, a material change may be the
identification on the registration statement cover page of a new
plan that is being added to an already existing Form S-8.
    \122\ Id. This would include, for example, if the 2010 plan
included outstanding options that expired unexercised and the
underlying shares became authorized for issuance under the 2020
plan. Using other aspects of the proposed amendments, if necessary,
issuers would also be able to add securities to an existing Form S-8
as described below. See Section III.A.3, infra.
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    At the time of the filing of any post-effective amendment to Form
S-8, the issuer must continue to meet the requirements of the
form.\123\ The issuer would also add the signatures and file the
required opinions of counsel with the post-effective amendment. The
issuer would thereafter deliver or cause to be delivered in accordance
with Rule 428(b)(2)(i) the documents identified in Rule 428(a) as part
of the prospectus that describes the new plan.
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    \123\ See 17 CFR 230.464.
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    We believe that clarifying the ability to add plans to an existing
Form S-8 via an automatically effective post-effective amendment will
reduce the administrative burdens to the extent issuers previously
believed that the filing an entirely new Form S-8 for each new plan was
required. This approach also will help facilitate the use of a single
Form S-8 for all employee benefit plans, if the issuer chooses to do
so. In addition, it will reduce the problems associated with fee
transfers between multiple registration statements that have registered
ongoing offers and sales that cannot be terminated (e.g., outstanding
options that require continuous ongoing registration of the underlying
shares).\124\ Similar to permitting the allocation of securities
between plans on Form S-8, which we discuss below, we do not believe
that amendments to the current disclosure requirements of Form S-8 or
Rule 428 are required to implement the proposed clarification. We are
proposing, however, a minor modification to the cover page of Form S-8
to clarify that the full title of multiple plans may be listed.\125\
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    \124\ See Rule 457(p). Under current rules, the issuer may be
unable to avail itself of Rule 457(p) to transfer the fees
previously paid for plans on other Forms S-8 because Rule 457(p)
permits filing fees to be transferred only after the registered
offering has been completed or terminated or the registration
statement has been withdrawn. As a result, in our example, the
issuer would not be able to transfer the fees associated with any
remaining shares under the 2010 plan until it completes or
terminates the 2010 plan offering registered on the existing Form S-
8.
    \125\ See proposed amendments to the Cover Page of Form S-8.
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    Request for Comment:
    45. Is the clarification regarding the ability of issuers to
register offers and sales of securities pursuant to multiple plans on a
single Form S-8 sufficient, or is additional guidance needed? Should we
instead amend Form S-8 to prohibit issuers from adding plans to an
existing Form S-8?
    46. Would registering multiple plans on a single Form S-8 work well
in practice? For example, would registering incentive plans on the same
Form S-8 as a 401(k) plan or other defined contribution plan cause
administrative difficulties or investor

confusion? Would issuers use this feature principally to update and
refresh their incentive compensation plans?
    47. Are there additional or different disclosures that should be
required when a plan is added to an existing Form S-8?
2. Securities Allocation Among Incentive Plans
    In addition to clarifying the ability to add additional plans using
a post-effective amendment, as discussed in Section III.A.1 above, we
are clarifying that issuers are not required to allocate registered
securities among incentive plans and may use a single Form S-8 for
multiple incentive plans.\126\ Although we do not believe that
amendments to the current disclosure requirements of Form S-8 or Rule
428 are necessary to permit an issuer's use of a single Form S-8, we
are proposing several related clarifying amendments.\127\
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    \126\ We note that this clarification regarding allocation of
securities will not apply to defined contribution plans if the
amendments are adopted as proposed. Forms S-8 registering securities
to be offered and sold pursuant to defined contribution plans will
be deemed to have registered an indeterminate amount of securities
to be offered and sold pursuant to those plans. See Section III.B.1,
infra and Proposed Rule 416(d).
    \127\ See proposed changes to the Cover Page of Form S-8.
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    For issuers utilizing this flexibility, the initial registration
statement would be required to list the types of securities covered by
the registration statement and identify the plan or plans pursuant to
which the issuer intended to issue securities as of that date.\128\ The
full title of each plan would be required to be listed on the face of
the registration statement on the appropriate line.\129\ The Part I
information delivered pursuant to Rule 428 with respect to each plan
would be required to be specific to that plan. If any Part II
information relates specifically to one plan, the issuer would be
required to disclose that relationship clearly. The registration
statement would not need to assign or allocate the securities to
particular incentive plans. In this way, the form may be used to create
a pool of registered shares that may be issued under the issuer's
various incentive plans as necessary. However, issuers would need to
track their offers and sales of securities to ensure they have
sufficient capacity registered in order to fulfill the needs of the
various incentive plans identified on the form.
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    \128\ See id.
    \129\ Id.
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    In the Concept Release, the Commission solicited comment on whether
the ability to file a single Form S-8 with respect to multiple plans
and pay filing fees based on the aggregate dollar amount of securities
to be registered would effectively reduce administrative burdens.
Commenters were generally supportive of the Commission permitting the
use of a single Form S-8 to register securities to be issued under
multiple plans.\130\ One commenter stated that a single ``omnibus''
Form S-8 registration statement would reduce administrative burdens of
registering transactions for multiple plans.\131\ According to another
commenter, issuers find it to be a ``frustrating limitation'' that
currently the pools of securities registered for offer and sale
pursuant to separate plans on separate Forms S-8 cannot be used
interchangeably.\132\ Other commenters stated that while it may not be
practicable for issuers to include all plans in a single Form S-8, they
would benefit from combining at least some with similar
characteristics,\133\ with one of these commenters noting that 401(k)
plans are administered separately from long-term incentive plans.\134\
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    \130\ See letters from ABA, Council, Davis Polk, NASPP and
Shearman.
    \131\ See letter from ABA.
    \132\ See letter from NASPP.
    \133\ See letter from Davis Polk.
    \134\ See letter from NASPP.
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    We believe that clarifying the ability to use Form S-8 to create a
pool of registered shares that may be issued under the issuer's various
incentive plans will promote efficiency and flexibility because it will
eliminate any doubt about whether authorized but unissued shares under
a plan that expires would be immediately available for issuance under
another authorized plan.\135\ In addition, this clarification will
reduce administrative burdens for those issuers that now believe they
must use a separate Form S-8 for each plan. Specifically, issuers using