WASHINGTON – While dealers and issuers said the Securities and Exchange Commission’s proposed material event disclosure amendments would be overly burdensome and result in unproductive data dumps, investors applauded the proposal and suggested it may not go far enough.

The market participants weighed in on the SEC’s proposal in comment letters that raised concerns about the legal justification for the proposal, the expected timeline for implementing the changes, and the vagueness of some provisions.

The proposal, which would create two new event notices under SEC Rule 15c2-12 on municipal disclosure, is designed to achieve a generally agreed upon goal in the muni market of helping investors and others obtain information about bank loans, private placements and other alternatives to publicly offered tax-exempt bonds that don't have to comply with disclosure requirements but may be key to an issuer's overall financial picture. Many market participants said the SEC’s proposal is too broad and overshoots that goal.

Leslie Norwood, managing director and associate general counsel with the Securities Industry and Financial Markets Association, said the proposal would likely result “in indiscriminate and mostly immaterial filings by issuers and obligated persons of documentation for a broad range of ordinary-course-of-business financial agreements, obligations, and judgments in order to avoid the time, uncertainty, and cost of assessing the necessity of an event notice.”

Leslie Norwood, managing director and associate general counsel with SIFMA, said the lack of guidance on materiality in the proposal will lead to problematic overdiscloure.
Leslie Norwood, managing director and associate general counsel with SIFMA
Leslie Norwood, managing director and associate general counsel with SIFMA, said the lack of guidance on materiality in the proposal will lead to problematic overdiscloure.

The Government Finance Officers Association similarly argued that the proposal would “be burdensome to issuers, add complication for investors and the general public, and ultimately increase costs to taxpayers and investors.”

“If the goal of this amendment is to provide quality information to investors (as opposed to sheer volume of information) then we believe the focus should be on improving investor access to information through improvement to EMMA and promoting existing resources on state and local governments’ publicly available websites, rather than having the SEC impose new unfunded mandates on state and local governments,” wrote Emily Brock, director of GFOA’s federal liaison center.

Dealers and issuers said the SEC shouldn’t move forward with the proposal in its current form, but added that, if it does, it should substantially narrow the proposal's scope and better define the key terms it uses.

The SEC would create a new material event notice category under which an issuer or borrower would have to file a notice if it incurs a financial obligation that is material or agrees to covenants, events of default, remedies, priority rights or similar terms "any of which affect securities holders, if material." Financial obligations are defined as "a debt obligation, lease, guarantee, derivative instrument or a monetary obligation resulting from a judicial, administrative or arbitration proceeding."

It would create another new material event category requiring a notice to be filed for certain actions or events related to the financial obligation that "reflect financial difficulties" such as a default, event of acceleration, termination event, or modification of terms.

Underwriters would have to reasonably determine that an issuer or borrower has agreed to provide notice of such events in its continuing disclosure agreement (CDA). The proposed amendments, if adopted, would apply to CDAs entered into in connection with primary offerings occurring on or after the compliance date for the amendments.

Many groups said the definition of a financial obligation is too broad. Bond Dealers of America, expressing a similar sentiment to SIFMA, GFOA, and other groups, said it believes the definition goes “far beyond” the kinds of competing debt that give rise to bondholder concerns.

“We believe that the definition of financial obligation conflates two distinct concerns of investors: concerns related to their relationship to bank debt v. ordinary financial and operating matters,” BDA wrote. “Operating leases, derivatives entered into in the ordinary course, trade guarantees, and a host of other activities of issuers and obligated persons do not represent competing debt and should be excluded from the definition of ‘financial obligation.’”

Most groups agreed that the definition of financial obligation should only encompass obligations that have parity with bond obligations.

However, some groups disagreed with that idea, saying the proposal is well crafted and may even need to be broadened further.

SIFMA’s asset management group, which wrote a separate, very different comment letter from Norwood’s, said it “believes that the additional disclosures in the proposed rule are generally proportionate and will provide great value to investors in the secondary market.”

The Investment Company Institute similarly said it supports the proposal but went further, saying it recommends the SEC broaden the proposal to require mandatory disclosure of any terms in connection with financial obligations that affect security holders.

“We also encourage the SEC to make the terms of all financial obligations, including the governing documents, part of the required disclosure under the new amendments,” ICI wrote. The group said it would prefer the proposal for the second material event notice to broaden the term “event” to include all defaults, accelerations, terminations, modifications, and not solely those that “reflect financial difficulties.”

ICI also asked that the SEC create three additional events under Rule 15c2-12 to cover: any event materially impacting the value of a bond; modifications to escrow agreements or escrows, or to any other agreement governing the security pledged to bondholders; and the disclosure of covenant compliance reports and periodic financial information disclosed to other creditors.

While SIFMA’s Asset Management Group differed from others on the desired scope of the rule, it echoed others’ calls for a more precise definition of materiality. Market participants have repeatedly called for the SEC to provide a definition of, or guidance on how to determine, materiality, but the SEC has consistently declined to do so, saying the determination is based on facts and circumstances. The Supreme Court ruled in TSC Industries, Inc. v. Northway, Inc. that a fact is material if there is a substantial likelihood that a reasonable investor would consider it important.

The National Association of Bond Lawyers said the materiality determination required in the first of the proposed new material events is not clear and will require “application of a time-consuming and uncertain facts and circumstances analysis to each … obligation and event, which will result in burdensome disclosure procedures.” The group added that the SEC’s Municipalities Continuing Disclosure Cooperation enforcement initiative, which focused on disclosure violations under 15c2-12, has raised fears among issuers and underwriters’ that they may be sanctioned for failing to disclose something they didn't consider to be material to investors that regulators determined was material.

Norwood said that participants’ MCDC experience “teaches that safety resides in over-disclosure.” The likely result of that fact “is the opposite of the commission’s intention: investors and other market participants will have to wade through mountains of documentation in search of material, relevant financial information,” Norwood wrote.

Dealers said they are concerned about how that expected over-disclosure will affect their due diligence obligations under SEC and Municipal Securities Rulemaking Board rules. They asked the SEC for guidance on how they can effectively comply with these requirements as well as whether underwriters can rely on the information issuers give them about financial obligations. If underwriters’ can't rely on issuers' disclosures, their jobs will be exceedingly difficult, the dealers said.

The SEC’s basis for the amendments also received pushback from groups, including NABL, which raised questions about its legal footing and said it wrongly uses SEC Form 8-K, a form used by public companies to notify investors of important events, as a template.

NABL noted that 15c2-12 was originally designed to prevent fraud in munis by enhancing timely access to issuers’ official statements. But the group said that the proposal does not provide “even a single example of securities fraud arising from a lack of public disclosure of any of the events specified in the proposed amendments.” The proposal may violate Congress’ exemption of municipal securities issuers from periodic and current reporting requirements, the lawyers' group added.

NABL asked that the SEC proposal exempt issuers with less than $16.5 million of outstanding bonds. It came up with the amount by taking the $10 million exemption in 15c2-12 as it was originally proposed and adjusting that for inflation.

Multiple groups also took issue with the proposed three-month implementation time period, arguing the market will need much more time to adjust to the requirements.

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