SEC Reopens Comment Period on Proposed Rule Amendments to Modernize Beneficial Ownership Reporting

On April 28, 2023, the Securities and Exchange Commission ("SEC") reopened the comment period for proposed amendments to modernize the rules governing beneficial ownership reporting under the Securities Exchange Act of 1934 ("Exchange Act") Sections 13(d) and 13(g), which were initially proposed on February 10, 2022.¹ As set forth in that initial proposal from 2022, the proposed amendments would:

• accelerate the filing deadlines for Schedules 13D and 13G beneficial ownership reports;
• include cash-settled derivative securities within the coverage of the Sections 13(d) and 13(g) rules;
• clarify the meaning of a Section 13(d)/(g) "group" subject to beneficial ownership reporting obligations;
• clarify that a person is required to disclose interests in all derivative securities (including securities-based swaps) that use the issuer's equity security as a reference security; and
• require the use of XBRL for filing Schedules 13D and 13G.

The reopened public comment period will remain open until June 27, 2023, or until 30 days after the date of publication of the reopening release in the Federal Register, whichever is later.  The staff of the SEC’s Division of Economic and Risk Analysis released a memorandum that provides supplemental data and analysis related to the proposed amendments’ economic effects.² In addition to further background and baseline data on Schedule 13D and 13G filings, the memo provides supplemental analyses on potential effects on activism that may result from the proposed change to the initial Schedule 13D filing deadline and additional analysis of potential harms to certain selling shareholders under the existing filing deadline.

Background

Exchange Act Sections 13(d) and 13(g) and the related SEC rules require that an investor who beneficially owns more than five percent of a class of voting equity securities registered under Section 12 of the Exchange Act ("covered securities") report such beneficial ownership and certain changes in such ownership by publicly filing either a Schedule 13D or a Schedule 13G. The SEC proposed amendments to these requirements because of its view that changes in the financial markets and technology warrant a reassessment of the filing deadlines for Schedule 13D and 13G and other aspects of the beneficial ownership rules to meet the needs of today's investors and other market participants.³

Accelerate Schedule 13D and 13G Filing Deadlines

The below chart summarizes the proposed changes to the Schedule 13D and 13G filing deadlines, which include accelerated timelines and more frequent amendment triggers.

Initial Filing and Amendment Filing Deadlines: The SEC proposed to shorten the deadlines for Schedule 13D and 13G filings, as it views the current deadlines as based on outdated assumptions about the time needed to prepare the filings and deliver them to the SEC prior to the advent of the internet and electronic filing. The SEC cited its belief that the current delay in reporting this material information may contribute to information asymmetries harmful to public investors, as Schedule 13D or 13G filers may acquire stock well in excess of the initial five percent threshold during the time leading to the deadline.⁷ The amendments are also intended to bring the Schedule 13D and 13G deadlines more in line with the Form 8-K reporting deadline for issuers (i.e., four business days after the trigger) and the Form 4 reporting deadlines for officers, directors and beneficial owners of more than 10 percent of a class of covered securities under Section 16 of the Exchange Act (i.e., two business days after the trigger).⁸

Amendment Triggering Events: The SEC proposed changing the “prompt” amendment requirement for Schedule 13Ds and 13Gs of passive investors to a more bright-line amendment requirement of one business day, due to the uncertainty behind the meaning of “prompt.” While the conventional understanding of this term is typically one to two business days after the trigger date, investors have long taken advantage of case law defining “prompt” as a flexible standard—as soon as reasonably practicable given the particular facts and circumstances—to gain more time to prepare amendments. The SEC does not believe that requiring amendments within a definitive period of one business day will put investors at a disadvantage. Additionally, in proposing the mandate that all Schedule 13G filers amend for “any material change,” the SEC argued that it was only codifying its established view that Schedule 13G contains an implicit materiality standard for amendments. 

Filing "Cut-off" Time: The SEC proposed moving the filing deadline to 10 p.m. ET in order to mitigate any administrative challenges from the accelerated Schedule 13D and 13G filing deadlines, citing possible difficulties for investors in time zones outside the US and institutional filers with complex business organizations that need time to compile the required information. 

Inclusion of "Cash-Settled" Derivative Securities Within the Coverage of Section 13(d) Beneficial Ownership

Rule 13d-3 of the Exchange Act provides the method to determine whether a person is a “beneficial owner” for purposes of Section 13(d) and 13(g). Holders of cash-settled derivatives are generally not considered beneficial owners under the current Rule 13d-3, unless there are extraneous facts and circumstances (e.g., arrangements whereby such holders can direct the voting of the referenced securities). The SEC proposed to add a new paragraph (e) under Rule 13d-3 to provide that a holder of a “cash-settled” derivative security, other than a security-based swap⁹ would be deemed the beneficial owner of the reference equity securities, if the derivative were held (i) with the purpose or effect of changing or influencing the control of the issuer of the reference securities, or (ii) in connection with or as a participant in any transaction having such purpose or effect. Under this proposed new rule, a holder of cash-settled derivatives could be a beneficial owner even if such holder has no explicit contractual right in voting or disposition of the underlying securities.

Under the proposed Rule 13d-3(e), a holder of a derivative security would be deemed to beneficially own the number of securities equal to the larger of (i) the number of securities referenced in the derivative security multiplied by the "delta" of the derivative security (i.e., the ratio comparing the change in value of the derivative security to the change in value of the underlying security), and (ii) the quotient of the notional amount of the derivative security and the most recent market price of the reference security, multiplied by the "delta" of the derivative security (as defined above). In connection with this calculation, the SEC would require a daily calculation and would only consider long positions (i.e., there will be no netting against short positions that would otherwise offset the long positions).

The SEC hopes the expansion to include cash-settled derivatives would provide greater transparency regarding persons with significant interests in an issuer. In particular, the SEC believes the expansion is consistent with the existing regime governing report of beneficial ownership by focusing on the purpose and effect of changing or influencing the control of the issuer. In the proposing release, the SEC noted several potential issues with the current rules. Currently, SEC rules only consider derivatives to confer beneficial ownership under Section 13(d), where they either (i) are settled “in kind” or (ii) confer a right to acquire covered securities within 60 days (assuming no material contingencies outside of the holder’s control). Additionally, under current rules, if a right to acquire covered securities has been acquired for the purpose or with the effect of changing or influencing control of the issuer, that person is treated as a beneficial owner of the underlying class, regardless of when the right is exercisable, exchangeable or convertible. By contrast, a holder of a derivative that provides only economic exposure to the underlying covered securities has generally not been considered a beneficial owner of such securities. 

In support of its proposed amended rules, the SEC cited the possibility that holders of derivatives could seek to influence the voting or disposition decisions of their derivative counterparties (e.g., dealers), who might be (and often are) holding the actual covered securities to hedge their exposure under the derivative. Even if the hedge positions (i.e., the actual shares) of the derivative’s counterparties are not voted, the mere fact of such shares not being voted could magnify the voting power that the holder of the derivatives has through its non-synthetic positions. Furthermore, the SEC noted that a holder of cash-settled derivatives could acquire its counterparty’s hedge positions through an amendment of, or arrangements outside, the derivative’s terms.

Requirement to Disclose Interests in All Derivative Securities in Schedule 13D

The proposed amendments would also revise Item 6 of Schedule 13D, which currently requires beneficial owners to "[d]escribe any contracts, arrangements, understandings or relationships (legal or otherwise) among the persons named in Item 2 [of Schedule 13D] and between such persons and any person with respect to any securities of the issuer." The proposed amendment would clarify that a person is required to disclose interests in all derivative securities (including but not limited to cash-settled derivative securities) that use the issuer's equity security as a reference security. Therefore, while security-based swaps would not count toward a person's "beneficial ownership" under the proposed rules, information concerning security-based swaps would be required to be disclosed in Item 6 of Schedule 13D.

Clarification of the Meaning of Section 13(d)/(g) Group

Meaning of “Group”: The SEC proposed rule amendments to clarify that forming a Section 13(d)/(g) group does not require an agreement, and instead only requires two or more persons to “act as” a group for the purpose of acquiring, holding or disposing of covered securities. Under Sections 13(d)(3) and (g)(3) of the Exchange Act, “when two or more persons act as a...group for purposes of acquiring, holding, or disposing of securities of an issuer,” the group is considered to be one filing person. If a group beneficially owns shares in excess of five percent of the class of covered securities, all members will be subject to Section 13(d) reporting requirements, even if any individual member beneficially owns less than five percentage of such class. In the SEC’s view, these amendments would make clear that the determination as to whether two or more persons are acting as a group does not depend solely on the presence of an express agreement and that, depending on the particular facts and circumstances, concerted actions by two or more persons for the purpose of acquiring, holding or disposing of securities of an issuer are sufficient to constitute the formation of a group.

The SEC believes its proposed clarification, while contradictory of certain case law on the topic, elevates substance over form, provides more guidance in a highly fact-specific area and is consistent with other Section 13(d)/(g) rules, which define beneficial ownership as arising from any "understanding," "relationship" or "arrangement." It also resolves a potential conflict between the relevant enacting statute (Sections 13(d)(3) and (g)(3) of the Exchange Act) and the corresponding SEC rule (Rule 13d-5, which requires an agreement for group formation). The SEC also makes clear in the proposing release that it does not believe current Rule 13d-5 provides the only definition of "group" status.

Tipper-Tippee “Groups”: Pursuant to the SEC’s proposed rule amendment, Section 13(d)/(g) “groups” would per se arise from “tipper-tippee” relationships, in which an investor (in practice, usually an activist looking to induce a change in or strengthen its relationships among the issuer’s voting base) shares non-public information about its upcoming Schedule 13D filing with another person, who then purchases the issuer’s securities based on that information. The SEC contends that near-term gains made by these other investors attributable to this asymmetric information may come at the expense of uninformed shareholders who sell at prices reflective of the status quo. The group would be deemed to have acquired beneficial ownership of the securities of the tippee with whom the tipper has communicated material information regarding its impending filing obligation on the earliest date on which the acquisition by the tippee of the information occurs. The proposed amendments would provide new exemptions to address circumstances, in which (1) investors communicate with one another or the issuer without the purpose or effect of changing or influencing control of the issuer¹⁰ and (2) investors and financial institutions enter into agreements governing the terms of derivative securities, without the purpose or effect of changing or influencing control of the issuer or in connection with or as a participant in any transaction having such purpose or effect. 

Post-Group-Formation Acquisitions by Group Members: The proposed amendments would also provide that a Section 13(d)/(g) group will be deemed to have acquired beneficial ownership of covered securities if, after the date of the group’s formation, any member of the group becomes the beneficial owner of additional covered securities. For instance, acquisitions by group members that collectively exceed two percent over a 12-month period would be attributable to the group, thereby resulting in the group becoming ineligible to file under Schedule 13G and triggering a Schedule 13D filing obligation for all group members.¹¹ The rules would not consider a Section 13(d)/(g) group to have “acquired” additional covered securities due only to an intragroup transfer (i.e., where one group member becomes the owner of additional covered securities sold to it by another group member).

Structured Data Requirements for Schedules 13D and 13G

To make it easier for investors and markets to access, compile and analyze information disclosed on Schedules 13D and 13G, the proposed amendments would require that these filings use a structured, machine-readable data language. This requirement would apply to all information disclosed on Schedules 13D and 13G.

The following White & Case team members authored this alert: Scott Levi, Laura Katherine Mann, Edward So and Danielle Herrick

_{1The proposed rule is available here. The SEC's press release regarding the reopening of the comment period is available here.
2 The memorandum is available here. 
3 The SEC's press release on the rule proposal is available here.
4 Qualified institutional investors (“QIIs”) are currently (and would under the proposed amendments continue to be) eligible to file Schedule 13G under Rule 13d-1(b), as they (i) have acquired the securities in the ordinary course of business, not with the purpose or effect of changing/influencing control of the issuer, and (ii) fit within an enumerated category of that rule (i.e., (a) registered broker dealers, registered investment advisers, registered investment companies, certain banks, certain insurance companies, employee benefit plans, certain savings associations or certain church plans, (b) non-US institutions that are the functional equivalent of any of the US investor categories in (a), (c) groups made up exclusively of investors specified in (a) and/or (b), and (d) parent holding companies or control persons that do not, directly or indirectly through any non-“QII” affiliates, hold more than one percent of a class of equity securities giving rise to a Schedule 13G filing). 
5 "Exempt investors" do not qualify as QIIs or passive investors, but are eligible to file Schedule 13G under Rule 13d-1(d), as either (i) their beneficial ownership of five percent of the class of covered securities predates the issuer's initial public offering or other registration of the securities under Section 12 of the Exchange Act (a status colloquially labeled "pre-IPO owners") or (ii) they became five percent beneficial owners of such securities due to a reduction in the number of such securities outstanding. An "exempt investor" is required to file a Schedule 13D if it acquires additional Section-12 registered voting equity securities that, when added to all other acquisitions during any rolling 12-month period immediately preceding the most recent acquisition, aggregate to more than two percent of the class outstanding.
6 “Passive investors” do not qualify as QIIs, but are eligible to file Schedule 13G under Rule 13d-1(c), as they (i) own less than 20 percent of the securities, and (ii) own the securities not with the purpose/effect of changing/influencing control of the issuer. 
7 The SEC considers this the case not only for Schedule 13D filers, but also for Schedule 13G filers. For instance, according to the SEC, with respect to exempt investors, many of whom have controlled the issuer before the IPO, the current requirement to amend only on an annual basis may render the Schedule 13G meaningless by the time it is filed.
8 All of these deadlines are still longer than the Form 144 filing deadline, which is the same day that the sale order triggering the Form 144 is placed. For more information, see our alert, "Reminder: Deadlines for Changes to Forms 4 and 5 Reporting and Electronic Filing of Form 144."
9 The SEC categorically excluded security-based swaps (as defined in Section 3(a)(68) of the Exchange Act) from this proposed Rule 13d-3(e) because those swaps are covered by a separate rulemaking recently proposed by the SEC. See Prohibition Against Fraud, Manipulation, or Deception in Connection with Security-Based Swaps; Prohibition against Undue Influence over Chief Compliance Officers; Position Reporting of Large Security-Based Swap Positions, Release No. 34-93784 (Dec. 15, 2021) available here.
10 The proposed exemption would be available only if such persons are not directly or indirectly obligated to take such actions (e.g., pursuant to the terms of a cooperation agreement or joint voting agreement).
11 The SEC believes that the proposed amendment “would make clear that acquisitions by group members that collectively exceed the 2% exemptive threshold over a 12-month period are attributable to the group, thereby resulting in the group becoming ineligible to report pursuant to Section 13(g) and triggering a filing obligation under Section 13(d)” (emphasis added), thus suggesting that the SEC may already believe that this is the current law. However, the SEC noted that in order to successfully claim under the current law that a group has lost its Schedule 13G filing status when one or more members acquires more than two percent in a 12-month period, the evidentiary burden on the SEC or private plaintiffs is quite high, as “the [SEC]…would have to establish that the group ‘became’ a beneficial owner of more shares and thus made an acquisition within the meaning of that rule.” The proposed amendment would, in the SEC’s words, “reduce [its] evidentiary burden.”} 

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