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Frequently Asked Questions
  Staff Interpretation Letter 2007-13  
Identification Number 789
This is in response to your correspondence regarding the applicability of Marketplace Listing Rule 4350(i)(1)(D)(ii) (the “Rule”) to the company’s issuance of securities to settle litigation (the “Settlement Transaction”) associated with a prior stock issuance (the “Prior Transaction”).
According to the information you provided, the Prior Transaction was a private placement of common stock (the “Common Shares”) to several investors, at a discount to the market value, along with warrants (the “Warrants”) exercisable for additional shares of common stock.  Shareholder approval of the Prior Transaction was not required under the Rule because: (i) the number of Common Shares was limited to less than 20% of the pre-transaction outstanding shares and (ii) and the Warrants were exercisable for not less than the greater of book or market value and were not exercisable until six months following closing.  The investors in the Prior Transaction did not include any officer, director, employee or consultant of the company.
The Prior Transaction closed approximately five months ago.  Approximately two months after that closing,  one of the investors in the Prior Transaction commenced litigation alleging that the company and eight of its officers and directors violated federal and state law by misrepresenting, and failing to disclose, certain material information regarding the company’s business and forecasted revenues in connection with the purchase of the securities in the Prior Transaction.  The complaint sought rescission of the Prior Transaction and both compensatory and punitive damages.  Subsequent to the filing of the complaint, the company was approached by other investors in the Prior Transaction, all of whom also sought damages or rescission.
To settle these claims, the company has reached agreements with the investors resulting in the Settlement Transaction, which will consist of: (i) a cash payment by the company to the investors; (ii) the issuance of notes (the “Notes”) convertible into common stock; and (iii) the cancellation of the Warrants.  Initially, the conversion price is such that the aggregate number of shares that could be issued in the conversion of the Notes would equal less than 20% of the pre-transaction outstanding shares.  In the event the company is in default of its obligations under the Notes, however, the conversion price would be reset to a specified discount to the then market price, and the aggregate issuance of common stock could exceed 20% of the pre-transaction outstanding shares (the “Reset Provision”).  The Notes specifically stipulate that any conversion is subject to the applicability of NASDAQ’s shareholder approval requirements.
Following our review of the information you provided, we have determined that the Settlement Transaction will not be aggregated with the Prior Transaction for purposes of the Rule because the Settlement Transaction was not expected at the time of the Prior Transaction, but instead arose as a result of subsequent legal action.  In addition, over five months have passed between the Prior Transaction and the settlement.  Nonetheless, please note that before the Notes could be converted into common stock, the company must obtain shareholder approval because the Reset Provision could result in the company being required to issue more than 20% of the pre-transaction outstanding shares at a discount.  However, because the Notes contain a provision requiring such approval before conversion, the company is not foreclosed from issuing the Notes before such approval is obtained.  Please note also that you have not asked us to, and we have not, reached a conclusion as to whether any other provision of Listing Rule 4350(i) would require shareholder approval of the Settlement Transaction.  For example, if the issuance could result in a change of control, shareholder approval would be required under Listing Rule 4350(i)(1)(B).
Publication Date*: 7/31/2012 Mailto Link Identification Number: 789
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