3.3 Grandfathering for Collateralized Securities
Under Regulation S-X, Rule
3-16, an issuer is required to provide the separate financial
statements of affiliates if (1) such affiliates’ securities collateralize the
issuer’s registered securities offering and (2) the bright-line “substantial portion
of the collateral”8 test is met. Historically, many registered offerings with collateral features
have been structured such that they avoid the requirement to provide separate
financial statements by including provisions that limit the amount of collateral to
less than a “substantial portion” (“collateral cutback provisions”). For example, if
an issuer includes a provision in a registered offering that automatically limits
the pledges of affiliates’ stock to less than 20 percent of the security’s principal
amount, such pledges would not exceed the substantial portion of collateral test,
and thus separate financial statements would not be required.
Since Rule 3-16 is explicitly cited in many agreements, eliminating
it could have had unintended consequences for existing collateral cutback
provisions. Instead, the SEC’s March 2020 final
rule retains the existing Rule 3-16 in its entirety and adds a
scope paragraph to clarify that Rule 3-16 will continue to apply to registered
collateralized securities that were outstanding before January 4, 2021, if no
separate financial statements have previously been provided for affiliates whose
securities have been pledged. The new scope paragraph is intended to permit existing
collateral cutback provisions to remain operable while allowing registrants that
previously provided separate financial statements in accordance with Rule 3-16 to
benefit from the amendments in Rule 13-02.
Footnotes
8
Rule 3-16(b) states that “securities of a person shall be
deemed to constitute a substantial portion of collateral if the aggregate
principal amount, par value, or book value of the securities as carried by
the registrant, or the market value of such securities, whichever is the
greatest, equals 20 percent or more of the principal amount of the secured
class of securities.”