Rule 144 Resales - A Practical Outline
- October 12, 2009
- Written by Brian Lebrecht
Rule 144 of the Securities Act of 1933 allows investors who purchased restricted stock to sell that stock into the open market, subject to certain conditions. The purpose of this article is to summarize Rule 144, and to provide a practical outline for you to sell restricted stock that you may hold.
History of Rule 144
The Securities Act of 1933 (the “Securities Act”) requires all offers and sales of securities in interstate commerce to be either registered or have a valid exemption from registration. Rule 144 under the Securities Act creates a safe harbor for the sale of securities under the exemption provided for in Section 4(1) of the Securities Act. Section 4(1) provides an exemption for transactions by any person other than an issuer (the company), underwriter or dealer. Historically, Rule 144 has treated shares held by affiliates and non-affiliates different in terms of the amount of time each must hold the shares prior to qualifying to use Rule 144, whether the issuer was a reporting or non-reporting company (one year for reporting companies and two years for non-reporting companies) and certain volume limitations.
Rule 144 Amendments
Effective February 15, 2008, the SEC amended Rule 144. These amendments have been discussed in detail over the past year; but in a nutshell, affiliate shareholders are subject to the following in order to utilize Rule 144: (i) six month holding period if the shares are held in an Exchange Act reporting company, one year for a non-reporting company, (ii) the company must have current public information, (iii) volume limitations, and (iv) filing of a Form 144. For non-affiliate shareholders, they are subject to the following in order the utilize Rule 144 as a resale exemption: (i) six month holding period if the shares are held in an Exchange Act reporting company, one year for a non-reporting company, and (ii) if the shares are shares of an Exchange Act reporting company and the shareholder is attempting to sell after six months and less than one year, then the company must have current public information.
Rule 144 and Shell Companies
Additionally, under the amendments to Rule 144, the Rule is not available for the resale of securities initially issued by “(i) An issuer …. that has “(A) no or nominal operations; and (B) Either: (1) no or nominal operations; (2) assets consisting solely of cash and cash equivalents; or (3) assets consisting of any amount of cash and cash equivalents and nominal other assets; or (ii) an issuer that has been at any time previously an issuer described [above].” See Rule 144(i)(1).
However, an issuer can “cure” its shell status by meeting the following requirements if the company:
(1) is no longer a shell company as defined in Rule 144(i)(1);
(2) has filed all reports (other than Form 8-K reports) required under the Exchange Act for the preceding 12 months (or for a shorter period that the issuer was required to file such reports and materials); and
(3) has filed current “Form 10 information” with the Commission reflecting its status as an entity that is no longer an issuer described in Rule 144(i)(1), and at least one year has elapsed since the issuer filed that information with the Commission.
See Rule 144(i)(2).
The SEC has provided a summary of Rule 144 on its website.
Practical Steps to Selling Under Rule 144
Once you determine that you have satisfied the applicable holding period, and you decide that you want to prepare to sell your stock, here are the steps to follow. Note that it will take between 1 and 3 weeks for this to be processed before you will be able to sell your stock, so plan accordingly.
Step 1 – Identify and document your acquisition date. You will be asked to represent, and confirm with paperwork, the date you acquired the stock. For most purchasers, this can be done with a fully signed securities purchase agreement, and a copy of the check or wire instructions you used to pay for the shares. Note that the date of the agreement, together with the date of your payment, can be used even if the issuer took a period of time to issue your stock certificate.
Step 2 – Identify your broker. This is an important step, because not all brokers are equal when it comes to selling restricted stock. Generally speaking, a smaller brokerage firm is going to pay more attention to this paperwork process than a larger firm such as a Charles Schwab or Scottrade. In fact, it may be very difficult getting larger firms to even process Rule 144 requests for stock of OTCBB or Pink Sheet companies. However, the trade-off is cost. Whereas Scottrade advertises that they will do your trade for $7, a smaller broker will normally charge a commission of up to 5% of the value of the transaction. In addition, you should expect up to approximately $200 in processing and/or deposit fees.
Step 3 – Complete the Necessary Paperwork. Before you can sell your stock, the law firm for the issuer will need to write a legal opinion to the company’s transfer agent, telling them that you are in compliance with Rule 144; they can remove the restrictive legend from your stock certificate; and you may sell your shares. In order to issue this legal opinion, the law firm will want certain representations from you and from your broker. Your broker will have his own form of representation letter, and they normally look something like the forms on our website.
Your broker will submit the entire package to their compliance department, who will send it to the company’s transfer agent. The transfer agent will contact the company’s lawyer, and upon receipt of the legal opinion from the company’s law firm, the transfer agent will re-issue the stock certificate into the name of the broker’s clearing firm (for your benefit), and your broker will then notify you that the shares may be sold.
Step 4 – Follow Up. It is appropriate for you to follow-up with your broker after about a week to ensure that this process is moving forward.
Traps for the Unwary
There are more than a few traps for the unwary, but here are a couple that we see often.
Trap 1 – Waiting Too Late. Remember that this process takes from 1 to 3 weeks to complete. So don’t wait for the stock price to hit your goal, and then start the process, because the stock price may have moved by the time your shares are ready to sell. If you complete the process outlined above, and you don’t sell the stock within 90 days, your broker may ask you to update the representation letters, but that is a small price to pay compared to missing your target sell price.
Trap 2 – Selling Shares Short. Some brokers may allow you to sell the shares in your account before the process outline above is complete, based on the assumption that the paperwork will go smoothly and you will eventually be able to deliver the stock. In the meantime, your account will be “short” the number of shares you have sold. I advise against this, because there are too many things that could go wrong in the process, and then you’ll have to go into the market to buy the shares to satisfy your short position.