October 2001
SEC Grants Relief for Repriced Stock Options
By Helen Bachman
The recent decline in the stock market has prompted some companies to reprice employee stock options that became out-of-the-money (i.e., the market price had become lower than the exercise price) in an effort to retain key employees. Some companies reprice employee stock options through an exchange offer, rather than a unilateral repricing of employee options. In an exchange offer, an employer offers to exchange outstanding out-of-the-money options for new options with a lower exercise price.
On March 21, 2001, the SEC Division of Corporation Finance issued an exemptive order granting exchange offers that meet certain conditions exemption from Rule 13e-4(f)(8)(i) (the “all holders” rule) and Rule 13e-4(f)(8)(ii) (the “best price” rule).
The new exemptive order permits issuers to make stock option exchange offers without extending tender offers to all security holders of a class at the same price. In addition, provided they comply with certain conditions, issuers making option exchange offers are no longer required to request no-action relief from the SEC staff.
Some Repricings Considered Tender Offers
The actual structure of these exchange offers varies based upon the compensation policies and practices of a company. The offers are generally structured so as not to meet the variable accounting rules for stock compensation under GAAP. Current GAAP on stock compensation includes FASB Interpretation 44, “Accounting for Certain Transactions Involving Stock Compensation,” and EITF 00-23, “Issues Related to the Accounting for Stock Compensation under APB Opinion 25, ‘Accounting for Stock Issued to Employees.’”
Public companies and their advisors should be aware that the SEC staff has taken the position that an employer’s offer to exchange stock options held by employees for repriced options constitutes a tender offer subject to Rule 13e-4 under the Securities Exchange Act of 1934. Generally, tender offers are offers, by either an issuer or third party, to security holders to acquire their shares, usually at a premium to the stock’s market price. New options or other securities offered in exchange for existing options are generally offered in reliance on an exemption from registration, although they could be registered under the Securities Act of 1933.
Issuer Tender Offers
Rule 13e-4 applies to tender offers by an issuer for its own equity securities, including stock options. The rule, which is designed to prevent abuses in connection with issuer tender offers, covers the disclosure of and manner in which the offers may be made. Issuers must disclose the essential features and significance of the exchange offer, including risks that the option holders should consider in deciding whether to accept the offer, as well as financial information about the issuer. Rule 13e-4 requires that an issuer file a Schedule TO (tender offer statement) with the SEC.
Issuer tender offers are subject to procedural requirements under Rule 13e-4(f). The “all holders” rule requires that an issuer make a tender offer to all holders of the security subject to the tender offer. The “best price” rule requires an issuer to make a tender offer at the same price to all holders of the security. Many employee stock option exchange offers do not meet these rules because they are not offered to all holders, not offered at the same price, or both. Issuers conducting employee stock option exchange offers often want to be able to treat option holders differently from other security holders in order to accomplish their compensation objectives.
Previously, issuers conducting exchange offers in connection with repricing stock options had to request a no-action letter from the SEC staff prior to the exemptive order in order to exempt them from the “all holders” and “best price” rules. The staff has granted exemptions from these rules when the option exchange offer did not raise a concern about discrimination among the security holders that these rules were intended to address.
SEC Exemptive Order
The SEC order grants an exemption from the “all holders” and “best price” rules for exchange offers of employee stock options that meet all of the following conditions:
This exemption eliminates the limitations that the “all holders” and “best price” rules place on an issuer’s ability to structure exchange offers to fit compensation policies and practices. The exemption is strictly limited to the circumstances described above. Registrants and their advisors should be aware that the anti-fraud and anti-manipulation provisions of the federal securities laws still apply.
Further Guidance
A copy of the SEC exemptive order, “Repricing,” is available at www.sec.gov/divisions/corpfin/repricing.htm. The Division of Corporation Finance also issued guidance on disclosure and processing issues relating to exchange offers in the form of an update to its “Current Issues and Rulemaking Projects,” available at www.sec.gov/divisions/corpfin.shtml. Tender offers generally require additional filings and disclosures. Determining whether an issuer’s stock option exchange constitutes a tender offer is a legal matter that should be discussed with legal counsel.
Editor:
Gary Illiano, CPA
Grant Thornton LLP
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