OTC Markets OTC Pink Disclosure Obligations
OTC Markets Group operates the world's largest electronic inter-dealer quotation system. Broker-dealers use it to trade unlisted securities. OTC Markets assigns issuers to one of three tiers based upon the level of disclosure provided.
The OTC Pink is used to categorize issuers who do not file reports with the Securities and Exchange Commission ("SEC").
The OTC Pink tier comprises three sub-categories: OTC Pink Current Information, Pink Limited Information, and Pink No Information.
Secondary trading of the securities of OTC Pink Sheet issuers is facilitated only between broker-dealers. They use OTC Link, OTC Markets' electronic trading platform.
Current SEC reporting companies and non-U.S. companies that are listed on a qualified foreign stock exchange automatically qualify for the OTC Pink Sheets Current Information tier. Issuers not reporting with the SEC must subscribe to the OTC Markets Disclosure and News Service to be quoted on the OTC Pink Sheets Current tier, and must also publicly file an initial Information and Disclosure Statement with a signed Attorney Letter Agreement by the issuer's SEC attorney.
While OTC Pink listing requirements are minimal, the OTC Markets has established specific disclosure requirements for companies quoted on the OTC Pink Current Information tier.
Issuers must file annual and quarterly disclosures ("Information and Disclosure Statements") as well as updates in order to maintain their assignment to the OTC Pink Current tier. Annual reports must be filed no later than 90 days after the end of each fiscal year and quarterly reports must be filed no later than 45 days after the end of each fiscal quarter.
Additionally, the issuer must file current information updates within 10 business days if:
♦ any of the information contained in a previously filed Information and Disclosure Statement becomes materially inaccurate or incomplete; and
♦ upon the occurrence of certain material events (described below).
Issuers are required to file annual reports 90 days after the end of each fiscal year, providing the following disclosures:
♦ General information about the issuer, including the name of the issuer and its predecessor, address of the issuer's principal executive offices, telephone, facsimile and website, jurisdiction and date of incorporation;
♦ Capital structure, including exact title and class of securities issued and outstanding, the number of shares in the public float, par value and a description of each class of outstanding securities, the number of shares or total amount of the securities issued and outstanding for each class of securities the issuer is authorized to issue;
♦ Name and contact information of the transfer agent;
♦ Nature of the issuer's business, the nature of products or services offered, and the nature and extent of the issuer's facilities;
♦ Material contracts and contracts that have a value of more than $120,000;
♦ The name of the chief executive officer, members of the board of directors, as well as control persons;
♦ Financial information for the issuer's most recent fiscal period and similar financial information for such part of the two preceding fiscal years as the issuer or its predecessor has been in existence;
♦ Information regarding persons or entities holding or with a right to hold 5% or more of any class of the issuer's securities;
♦ Service providers that advise the issuer on matters relating to the operations, business development and OTCMarkets disclosure and reporting requirements;
♦ Management's discussion and analysis or plan of operation; and
♦ Securities offerings including convertible securities and shares issued for services in the past two years, including the facts surrounding the offering, identity of the recipient, consideration paid and exemption from registration relied upon.
The issuer must also describe or attach material contracts, articles of incorporation and bylaws, a table showing any purchases of equity securities by the issuer or affiliated purchasers, and a certification stating that the issuer has disclosed the items set forth above.
Quarterly Reports are required to be filed 45 days after the end of each quarter and must include:
♦ Exact name of the issuer and the address of its principal executive offices;
♦ Shares outstanding at the end of the fiscal quarter;
♦ Interim financial statements;
♦ Management's discussion and analysis or plan of operation;
♦ Legal proceedings (to the extent not previously disclosed);
♦ Defaults upon senior securities (to the extent not previously disclosed); and
♦ Information that would otherwise need to be disclosed in a Current Update.
The issuer also needs to describe or attach any material contracts, articles of incorporation or bylaws, or amendments thereof, that have not been previously disclosed.
Current Reports must be filed within 10 days of any material event affecting the issuer, including:
♦ Sales of equity securities;
♦ Material modification to rights of security holders;
♦ Entry into or termination of a "Material Definitive Agreement" defined as an agreement made outside the ordinary course of business that provides for obligations that are material to and enforceable against the issuer, or rights that are material to the issuer and enforceable by the issuer against one or more other parties to the agreement, in each case whether or not subject to conditions;
♦ Completion of acquisition or disposition of assets including, but not limited to mergers and changes in control of the issuer;
♦ Creation of a direct financial obligation or an obligation under an off-balance sheet arrangement of an issuer and any triggering events that accelerate or increase a direct financial obligation or an obligation under an off-balance sheet arrangement;
♦ Costs associated with exit or disposal activities; material impairments;
♦ Changes in issuer's certifying accountant; non-reliance on previously issued financial statements or a related audit report or completed interim review;
♦ Departure of directors or principal officers; election of directors; appointment of principal officers; and
♦ Amendments to articles of incorporation or bylaws; change in fiscal year; amendments to the issuer's code of ethics, or waiver of a provision of the code of ethics.
Common Disclosure Failures
Issuers frequently overlook OTC Markets; requirement that issuers file informational updates within 10 business days of any event that causes any of the information contained in previously filed disclosures to become materially inaccurate or incomplete. The foregoing obligates issuers to provide updated disclosures when the information concerning its public float or issued and outstanding securities is materially changed if such change occurred after the period of the report. Consider the example of an issuer that files a quarterly report on April 1 for the period ending March 31, stating that its float is 1,000,000 shares. On April 15, the issuer enters into a convertible loan agreement, which upon conversion requires it to issue 200,000 shares. Based on this material issuance increase and the transaction itself, the issuer must amend its March 31 disclosures within ten days of filing under OTC Markets rules. Under Rule 10b-5 of the Securities Exchange Act of 1934 (discussed below), the issuer has an obligation to immediately amend its March 31 report immediately because the report omits a material fact that the issuer has an obligation to issue 200,000 shares, which upon issuance will represent more than 20% of reported public float. Failure to file this amended and updated disclosure would render the issuer's March 31 statement misleading, since the issuer did not disclose that the 1,000,000 shares in the float will be diluted by 20%. Even though the April 15 agreement was entered into after the March 31 report, the issuer has an obligation to update the report under both the OTC Markets disclosure requirements and 10b-5.
Rule 10b-5 is an anti-fraud provision of the 1934 Act, and as such it applies to all issuers, not only to fully reporting companies.
Unfortunately Pink Sheet issuers, as well as their attorneys, repeatedly fail to recognize that every public company must make adequate public information available to investors pursuant to Rule 10b-5, which prohibits making untrue statements of material fact as well as omitting material facts necessary to make the statements not misleading. For purposes of determining materiality, the standard employed is what a reasonable investor would consider important in making his investment decision, taking into account the totality of the circumstances. For instance, as stated above, Pink Sheet issuers have the unfortunate tendency to fail to make timely disclosure of material agreements that require the issuance of securities, often convertible notes or purported convertible debt. These types of agreements and related non-disclosures often become the subject of recent SEC scrutiny and enforcement cases.
The other two OTC Markets OTC Pink sub-categories are less desirable than Current Information over the long term because they allow the kind of limited disclosure that could result in Rule 10b-5 actions. Further because the disclosures required by these sub-categories do not comply with Rue 15c-211, market makers will not enter quotations of the securities of these issuers making it difficult for the issuer to establish active trading of its securities. Pink Limited Information is "designed for companies with financial reporting problems" or those in economic distress. These issuers must have submitted limited financial information to OTC Markets' Disclosure & News Service within the preceding six months, or have made a filing on EDGAR within the preceding six months.
The Pink No Information category is for companies that are unable or unwilling to provide disclosure of any kind to the public markets. They either provide no information to OTC Markets, or the information available is more than six months old. OTC Markets points out that this category includes "defunct companies that have ceased operations as well as 'dark' companies with questionable management and market disclosure practices."
The bottom line in the OTC Markets disclosure platform is that issuers would be wise to take the trouble to comply with the requirements of the Pink Current Information tier. If they and their attorneys fail to recognize and put into practice the transparency required to comply with 10b-5 and the OTC Markets disclosure requirements, the repercussions could be devastating to investors as well as the issuer, who could become the subject of SEC enforcement actions, SEC trading suspensions and DTC Chills and Global Locks of the company's stock.
For further information about this securities law blog post, please contact Brenda Hamilton, Securities Attorney at 101 Plaza Real S, Suite 202 N, Boca Raton, Florida, (561) 416-8956, by email at [email protected] or visit www.securitieslawyer101.com. This securities law blog post is provided as a general informational service to clients and friends of Hamilton & Associates Law Group and should not be construed as, and does not constitute, legal advice on any specific matter, nor does this message create an attorney-client relationship. Please note that the prior results discussed herein do not guarantee similar outcomes.
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