Some Underwriters Relying on Issuers' Disclosure Counsel for 10b-5 Letters

ORLANDO - To save costs, a number of underwriters are choosing to forgo having their counsel write so-called 10b-5 letters that certify there are no material omissions or misleading statements in the issuer's official statement for its municipal bonds. Instead, the underwriters are relying on such letters written by an issuer's disclosure counsel, bond lawyers meeting here said last week.

By not hiring counsel to write their own separate 10b-5 letters - as they normally would - the underwriters are outsourcing to the issuer's counsel one element of their due diligence and possibly creating a liability gap from the perspective of a plaintiff's lawyer or Securities and Exchange Commission enforcement staff, said several bond attorneys at the National Association of Bond Lawyers' Tax and Securities Law Institute who asked not to be named.

"The question is whether this affects the ability of the underwriter to form an affirmative defense to accusations of securities fraud," one attorney said.

Typically, a disclosure counsel will write a 10b-5 letter on behalf of the issuer and send a copy of it to the underwriter attached to a so-called reliance letter. The 10b-5 name refers to the section of the federal securities laws that prohibits a firm or individual from intentionally deceiving investors about securities.

The reliance letter says that the underwriter may rely on the 10b-5 letter as if it was written for the underwriter, but it cautions that receipt of the letter does not create an attorney-client relationship and that, had the disclosure counsel undertaken the due diligence review for the broker-dealer, it may have adopted different policies.

While the practice of underwriters relying on the reliance letters is not new, bond attorneys last week said they are beginning to see more underwriters go a step further by not asking their own counsel to write such letters, particularly on larger transactions.

The issue came up on Friday during a panel previewing the contents of the forthcoming third edition of the Roles of Disclosure Counsel. Attorneys said the practice is becoming more widespread as more issuers pay for disclosure counsel, who are primarily responsible for ensuring that the information in official documents is accurate and not misleading.

"The issuers who are paying for separate disclosure counsel are not inclined to pay the underwriter or reimburse the underwriter for the expense of having somebody else write the 10b-5 [letter]," said the attorney who asked not to be named. Though issuers do not typically pay for underwriters' counsel directly, the cost is usually covered through underwriter's discount at the time the bonds are sold.

The attorney noted that this is in contrast to the corporate world where attorneys for both the underwriter and the issuer both conduct their own due diligence and both file 10b-5 letters.

John McNally, a partner at Hawkins Delafield & Wood LLP in Washington and the project coordinator on the disclosure book, said that the book will go through the issues that this trend creates, without picking any sides. The book is due out before NABL's Bond Attorneys Workshop in October.

Meanwhile, on a separate panel, David Buchholtz of Brownstein Hyatt Farber Schreck LLP in Albuquerque said that the practice of underwriters not paying for their counsel to write their own 10b-5 letters "raises questions of what the role is of underwriters' counsel in the delivery of an opinion ... where another counsel has the primary responsibility for the preparation of the [offering] document."

"The underwriters don't want to pay [their] lawyer a lot of money, and yet at the same time they may have an obligation to have someone like that lawyer on their side so they can prove their due diligence defense," Buchholtz said.

At the very least, attorneys engaged as underwriters' counsel in such circumstances should have an engagement letter that clearly states their responsibilities so that there are no misunderstandings or if there are, that they're taken care of at the beginning of the transaction, he said.

Asked about the issue, Leslie Norwood, managing director and associate general counsel of the Securities Industry and Financial Markets Association, said the underwriter has an obligation to do due diligence in such transactions and can discharge that obligation by doing its own investigation as well as getting assistance from counsel.

"The letter from disclosure counsel is one piece of evidence of a reasonable and appropriate investigation by the underwriter and we feel it's completely appropriate for an underwriter to request that the opinion be addressed to the underwriter," she said.

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