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  Staff Interpretation Letter 2010-12
Identification Number 711
This is in response to your correspondence requesting certain exceptions from NASDAQ Rules. Specifically, the company is requesting an exception from NASDAQ’s shareholder approval requirements under Listing Rule 5635(f), as well as a related exception from the voting rights requirements of Listing Rule 5640 and IM-5640 (collectively, the “Voting Rights Rule”), both with respect to a proposed issuance of preferred stock (the “Preferred Stock”). The Acquirer would acquire the Preferred Stock in order to influence the outcome of an upcoming vote of the company’s shareholders to approve the proposed merger of the company with a wholly-owned subsidiary of the Acquirer (the “Acquisition”). The company is a bank holding company, and its primary subsidiary is a commercial bank (the “Bank”).  For the reasons described below, we are unable to grant the requested exceptions.
You stated that the financial condition of the Bank (and consequently the company) has severely deteriorated. The company has experienced substantial losses over the past two years and continues to project substantial losses on a going forward basis; the company’s and the Bank’s credit ratings have been downgraded by all rating agencies to “junk” status; the Bank is not in compliance with mandatory banking regulatory capital ratios; and the applicable federal banking regulators have instituted enforcement actions that make it necessary for the company to raise a significant amount of capital within a limited period of time. Failure to raise the necessary capital would result in additional regulatory actions, which could include seizure of the Bank. You indicated that the company’s attempts to raise the required capital have failed and that the company is left with no practical alternative to the Acquisition.
Pursuant to the Acquisition agreement, the company’s common shareholders would be able to elect to receive either cash or shares of the Acquirer’s common stock in exchange for their shares of the company’s common stock.  In addition, the United States Department of the Treasury has agreed to sell to the Acquirer, at a discount, company securities that the Treasury previously purchased as part of its Capital Purchase Program. The closing of the Acquisition is subject to the approval of the company’s shareholders, and it is contemplated by the parties that the Acquirer would have the ability to vote its newly acquired shares of Preferred Stock in favor of the Acquisition. The Preferred Stock would represent 39.9% of the voting power of the company. As consideration for the Preferred Stock, the company would receive 1,000 shares of the Acquirer’s common stock, which, based on current prices, has a value of approximately $70,000.
You indicated that the Acquirer sought the Preferred Stock as a way to reduce the uncertainty regarding the outcome of the company's shareholder vote on the Acquisition. You suggested that reducing the uncertainty surrounding the vote would also help address regulators’ and depositors’ concerns about the Bank. You advised that if the company does not receive the requested exceptions, the Acquirer would have the contractual right to terminate the agreement with the company and not proceed with the Acquisition.
Without the requested exceptions, the issuance of the Preferred Stock would require shareholder approval pursuant to Listing Rule 5635(b) because the issuance would result in a change of control and pursuant to Listing Rule 5635(d) because the issuance would exceed 20% of the pre-transaction voting power at a price less than the greater of book or market value. Additionally, without the requested exceptions, the issuance of the Preferred Stock would violate the Voting Rights Rule because the voting power of the Preferred Stock would be disproportionally high relative to the dollar value of the Acquirer’s investment.
Based on our review of the circumstances described in your correspondence, we have determined not to grant the requested exceptions. We have made this determination because we do not believe that the proposed issuance of the Preferred Stock meets the specific requirements of Listing Rule 5635(f), which you cited as the basis for your request.
Under Listing Rule 5635(f), the financial viability exception may be available “when a delay in securing stockholder approval would seriously jeopardize the financial viability of the enterprise” and certain other specified criteria are satisfied. Thus, in a typical situation, relief under this rule is granted in anticipation of a capital-raising transaction when a company might not survive financially if the transaction to provide the needed capital were to be delayed long enough to allow the company to hold a shareholder vote.
The facts here are fundamentally different. The company would need to solicit shareholder approval of the Acquisition and would not receive material new capital before such vote is held even if the financial viability exception were to be granted with respect to the Preferred Stock issuance. While the company may have presented a compelling case as to its financial distress, its financial position would not improve until the Acquisition closed because the company would raise only a nominal amount of capital through the issuance of the Preferred Stock.
Given these facts, we conclude that “the delay in securing stockholder approval” for the Preferred Stock would not by itself “jeopardize the financial viability of the company. [See Listing Rule 5635(f)]. This is the case because eliminating such a delay with respect to the Preferred Stock issuance would neither accelerate the availability of needed capital nor advance in time the proposed ultimate resolution of the company’s difficulties. At the same time, the understandable desire of the Acquirer to achieve greater certainty with respect to the outcome of the shareholder vote on the Acquisition or to influence such outcome is not an acceptable basis for an exception under Listing Rule 5635(f). Accordingly, it would not be appropriate to grant a financial viability exception on these facts, and issuing the Preferred Stock without obtaining shareholder approval would violate the Rules. For the same reasons, we do not believe it is appropriate to grant an exception to the Voting Rights Rules for the issuance of the Preferred Stock.
Publication Date*: 7/31/2012 Mailto Link Identification Number: 711
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