On December 22, 2020, the Securities and Exchange Commission approved the New York Stock Exchange’s proposed new direct listing rules to allow companies engaging in a direct listing to raise capital directly through a primary sale of shares, in addition to, or instead of, only facilitating sales of shares by existing shareholders, as previously permitted.
These direct listing rules, originally approved by the SEC on August 26, 2020, were discussed in detail in the August 31, 2020 edition of the Corporate & Financial Weekly Digest. However, after initially approving the direct listing rules, on August 31, 2020, the SEC stayed implementation of the rules following receipt of a letter issued by the Council of Institutional Investors (CII) pursuant to which CII stated its intention to petition for a review of the direct listing rules. CII’s objections were previously discussed in the September 4, 2020 edition of the Corporate & Financial Weekly Digest.
Following CII’s objection, the SEC conducted a de novo review of the direct listing proposal to determine whether the proposal was consistent with the Securities Exchange Act of 1934 (the Exchange Act) and the rules and regulations issued thereunder. The review found that the NYSE had met its burden to show that the proposed rule change was consistent with the Exchange Act, and, accordingly, the SEC approved the rules. In particular, the SEC noted that the proposal:
“will prevent fraudulent and manipulative acts and practices, promote just and equitable principles of trade, remove impediments to and perfect the mechanism of a free and open market and a national market system, and, in general, will protect investors and the public interest; and will not permit unfair discrimination between customers, issuers, brokers, or dealers.”
Under these new rules, the NYSE now recognizes two types of direct listings: (1) “Selling Shareholder Direct Floor Listings,” where a company lists shares on the NYSE in connection with the direct sale of shares by existing shareholders (consistent with NYSE’s prior rules); and (2) “Primary Direct Floor Listings,” where a company lists shares on the NYSE and sells shares itself in the opening auction on the first day of trading, either in addition to, or instead of, facilitating shares by selling shareholders.
As a result of the new rules, companies will now have a path to go public without engaging in a traditional initial public offering process. Rather than hiring underwriters to sell shares to a group of investors, a direct listing allows a company to go public by facilitating the sale of shares directly into the market upon the effectiveness of a registration statement filed with the SEC.
Two Democratic commissioners, Allison Herren Lee and Caroline A. Crenshaw, dissented to the approval of the new direct listing rules, in part out of concern that investor protection will suffer by removing traditional underwriters from the listing process. They noted that “underwriters provide an important independent check on the quality of the registration statement” and are incented to do their job well because underwriters may face liability under Sections 11 and 12 of the Securities Act for misstatements or omissions by the issuer in the registration statement. Financial advisors involved in a direct listing process will not have the same liability concerns and may not provide investors the same level of protection, they argued. Further, Commissioners Lee and Crenshaw argued that allowing primary direct listings could exacerbate existing challenges investors face in recovering losses from false or misleading statements by issuers in public offerings because of “traceability,” which is the legal doctrine requiring that investors be able to trace the shares they own to those actually sold by the issuer pursuant to the registration statement. In direct listings where issuers and selling shareholders are concurrently selling shares, and where, unlike in a traditional initial public offering (IPO), other investors may not be subject to lockup restrictions, the ability to trace shares back to an issuer, the dissenting commissioners argued, creates additional hurdles for investors seeking to bring claims against issuers for false or misleading statements.
On December 22, 2020, the Nasdaq Stock Market (Nasdaq) proposed updated rule changes to also facilitate primary direct listings that they described as “virtually identical” to that of the NYSE. The Staff of the Division of Trading and Markets of the SEC has indicated that it will expeditiously review the proposal, while accommodating a public comment process. However, given that Jay Clayton has resigned as chairman of the SEC, leaving only four commissioners (including two commissioners who opposed the expanded NYSE direct listing rules), and that the presidential administration is changing, it remains to be seen when, or whether, the Nasdaq proposal will be approved.
The full text of the SEC order approving the direct listing rules is available here.
A more fulsome description of the NYSE’s direct listing rules is available in the August 31, 2020 edition of the Corporate & Financial Weekly Digest.