The rules related to direct listings continue to evolve, with the latest Nasdaq rule change being approved on December 2, 2022, although their utilization has been slow to gain traction. Despite the Exchange’s efforts to make the process more attractive and viable, based on a few articles on the subject, only 10 companies had gone public via direct listing as of December 31, 2021, and I could not find a single example of any others since that time. Moreover, and certainly due to the elevated listing standards and arduous process, each of the companies have been much more mature such as Spotify, Slack, Palantir and Coinbase.
In any event, both Nasdaq and the NYSE continue with an “if we build it they will come” approach. After multiple iterations with the SEC, both Nasdaq and the NYSE approved rules that allow a company to raise capital concurrently with a direct listing (see HERE). The very handy Nasdaq Initial Listing Guide now also includes the direct listing financial and liquidity requirements for the Nasdaq Global Market and Nasdaq Capital Market for quick reference.
Nasdaq’s newest rule amendment allows a company to sell shares in the opening auction on Nasdaq at a price outside of the range in their registration statement—up to 20% below and 80% above.
Background
Traditionally, in a direct listing process, a company completes one or more private offerings of its securities and then files a registration statement with the SEC to register the shares purchased by the private investors. Although a company can use a placement agent/broker-dealer to assist in the private offering, it is not necessary. For more on direct listings, including a summary of the easier process on OTC Markets, see HERE.
Most private offerings are conducted under Rule 506 of Regulation D and are limited to accredited investors only or very few unaccredited investors. As a reminder, Rule 506(b) allows offers and sales to an unlimited number of accredited investors and up to 35 unaccredited investors—provided, however, that if any unaccredited investors are included in the offering, certain delineated disclosures, including an audited balance sheet and financial statements, are provided to potential investors. Rule 506(b) prohibits the use of any general solicitation or advertising in association with the offering. Rule 506(c) requires that all sales be strictly made to accredited investors and adds a burden of verifying such accredited status to the issuing company. Rule 506(c) allows for general solicitation and advertising of the offering. For more on Rule 506, see HERE.
Early investors take a greater risk because there is no established secondary market or clear exit from the investment. Even where an investment is made in close proximity to an intended going public transaction, due to the higher risk, the private offering investors generally are able to buy shares at a lower valuation than the intended IPO price. The pre-IPO discount varies but can be as much as 20% to 30% and very early investors can make triple-digit returns in an IPO process, whether it be by direct listing or traditional routes.
The private offering, or private offerings, can occur over time. Prior to a public offering, most companies have completed multiple rounds of private offerings, starting with seed investors and usually through at least a series A and B round. Furthermore, most companies have offered options or direct equity participation to their officers, directors and employees. In a direct listing, a company can register all these shareholdings for resale in the initial public market.
Nasdaq Direct Listing Process with Capital Raise; Rule Amendment
On May 19, 2021, the SEC approved Nasdaq’s proposed rule change to permit direct listings with a concurrent capital raise without an underwriter. Nasdaq calls the process a “Direct Listing with a Capital Raise.” Soon after the SEC’s approval, Nasdaq proposed an amendment to the rule to revise the pricing parameters for new direct listings with a capital raise, which was granted by the SEC on December 2, 2022, after three attempts.
A company seeking to list securities on Nasdaq must meet minimum listing requirements, including specified financial, liquidity and corporate governance criteria. Nasdaq listing Rules IM-5315-1, IM-5405-1 and IM-5505-1 set forth the direct listing requirements for the Nasdaq’s Global Select, Global Market and Capital Market respectively. The Rules describe how the Exchange will calculate compliance with the initial listing standards related to the price of a security, including the bid price, market capitalization, the market value of listed securities and the market value of publicly held shares.
Listing Rule IM-5315-2 permits a company to list in connection with a primary offering in which the company will sell shares itself in the opening auction on the first of trading. A Direct Listing with a Capital Raise can only be accomplished in connection with a listing on Nasdaq’s Global Select market. The Direct Listing with a Capital Raise process amended Rule 4702 to add a new order type – i.e., the Company Direct Listing Order, which is used during the Nasdaq Halt Cross for the shares offered by the company in a Direct Listing with a Capital Raise. Finally, Rules 4120(c)(9), 4753(a)(3) and 4753(b)(2) establish requirements for disseminating information, establishing the opening price and initiating trading through the Nasdaq Halt Cross in a Direct Listing with a Capital Raise.
To qualify for a Direct Listing with a Capital Raise, the company’s unrestricted publicly held shares before the offering, plus the market value of the shares to be sold by the company in the direct listing, must be at least $110 million (or $100 million, if the company has stockholders’ equity of at least $110 million) (as opposed to the IPO value of $45 million), with the value of the unrestricted publicly held shares and the market value being calculated using a price per share equal to the lowest price of the price range established by the company in its S-1 registration statement. As discussed further below, it is this pricing provision that Nasdaq recently amended.
Officers, directors or owners of more than 10% of the company’s common stock prior to the opening auction may purchase shares sold by the company in the opening auction, provided that such purchases are not inconsistent with general anti-manipulation provisions, Regulation M, and other applicable securities laws. However, shares held by these insiders are not included in calculations of publicly held shares for purposes of exchange listing rules except that, with respect to a Direct Listing with a Capital Raise, all shares sold by the company in the offering and all shares held by public holders prior to the offering will be included in the calculation of publicly held shares, even if some of these shares are purchased by inside investors.
Of course, any company seeking to complete a Direct Listing with a Capital Raise must satisfy all other requirements for a listing on the Nasdaq Global Select market.
In considering the initial listing of a company in connection with a direct listing in general, Nasdaq will determine that such company has met the applicable Market Value of Unrestricted Publicly Held Shares requirements based on the lesser of: (i) an independent third-party valuation of the and (ii) the most recent trading price for the company’s common stock in a Private Placement Market where there has been sustained recent trading. For a security that has not had sustained recent trading in a Private Placement Market prior to listing, Nasdaq will determine that such Company has met the Market Value of Unrestricted Publicly Held Shares requirement if the Company satisfies the applicable Market Value of Unrestricted Publicly Held Shares requirement and provides a Valuation evidencing a Market Value of Publicly Held Shares of at least $250,000,000.
In a Direct Listing with a Capital Raise, the market is informed of the minimum price at which the company can sell shares as it is included in the company’s registration statement. Accordingly, in a Direct Listing with a Capital Raise, Nasdaq will calculate the value of shares, including those being sold by the company and those held by public shareholders immediately prior to the listing, using a price per share equal to the lowest price in the price range disclosed by the issuer in its registration statement. Nasdaq will use the same price per share in determining whether the company has met the applicable bid price and market capitalization requirements based on the same per share price.
As noted above, a Direct Listing with a Capital Raise would allow the company to sell shares in the opening auction on the first day of trading on the exchange. To effectuate this, Nasdaq Rule 4702 created a new order type called a Company Direct Listing Order (CDL Order). While there are many granular details about the CDL Order, the most important concept is that the CDL Order is a market order which is entered without a price so the price will be determined by the Nasdaq Halt Cross, in the opening auction (Rules 4120(c)(9), 4753(a)(3) and 4753(b)(2).
Prior to the December 2002 rule change, the CDL price was set such that it: (i) had to be at or above the lowest price and at or below the highest price of the price range set forth in the company’s S-1 registration statement; and (ii) the full quantity of the order (i.e., the total number of shares that the company seeks to sell in the Direct Listing with a Capital Raise) had to be sold within that price range.
The rule change modifies the pricing range limitation such that a Direct Listing with a Capital Raise can be executed in the Cross if: (i) the actual price calculated by the Nasdaq Halt Cross is at or above the price that is 20% below the lowest price of the disclosed price range; or (ii) the actual price calculated by the Nasdaq Halt Cross is at or below the price that is 80% above the highest price of the disclosed price range (the “80% Upside Limit”). For the Nasdaq Halt Cross to execute at a price outside of the disclosed price range, the company is required to publicly disclose and certify to Nasdaq that the company does not expect that such price would materially change the company’s previous disclosure in its effective registration statement and that its effective registration statement contains a sensitivity analysis explaining how the company’s plans would change if the actual proceeds from the offering are less than or exceed those from prices in the disclosed price range.
The Author
Laura Anthony, Esq.
Founding Partner
Anthony L.G., PLLC
A Corporate Law Firm
Securities attorney Laura Anthony and her experienced legal team provide ongoing corporate counsel to small and mid-size private companies, OTC and exchange traded public companies as well as private companies going public on the Nasdaq, NYSE American or over-the-counter market, such as the OTCQB and OTCQX. For more than two decades Anthony L.G., PLLC has served clients providing fast, personalized, cutting-edge legal service. The firm’s reputation and relationships provide invaluable resources to clients including introductions to investment bankers, broker-dealers, institutional investors and other strategic alliances. The firm’s focus includes, but is not limited to, compliance with the Securities Act of 1933 offer sale and registration requirements, including private placement transactions under Regulation D and Regulation S and PIPE Transactions, Regulation A/A+ offerings, as well as registration statements on Forms S-1, S-3, S-8 and merger registrations on Form S-4; compliance with the Securities Exchange Act of 1934, including registration on Form 10, reporting on Forms 10-Q, 10-K and 8-K, and 14C Information and 14A Proxy Statements; all forms of going public transactions; mergers and acquisitions including both reverse mergers and forward mergers; applications to and compliance with the corporate governance requirements of securities exchanges including Nasdaq and NYSE American; general corporate; and general contract and business transactions. Ms. Anthony and her firm represent both target and acquiring companies in merger and acquisition transactions, including the preparation of transaction documents such as merger agreements, share exchange agreements, stock purchase agreements, asset purchase agreements and reorganization agreements. The ALG legal team assists Pubcos in complying with the requirements of federal and state securities laws and SROs such as FINRA for 15c2-11 applications, corporate name changes, reverse and forward splits and changes of domicile. Ms. Anthony is also the author of SecuritiesLawBlog.com, the small-cap and middle market’s top source for industry news, and the producer and host of LawCast.com, Corporate Finance in Focus. In addition to many other major metropolitan areas, the firm currently represents clients in New York, Los Angeles, Miami, Boca Raton, West Palm Beach, Atlanta, Phoenix, Scottsdale, Charlotte, Cincinnati, Cleveland, Washington, D.C., Denver, Tampa, Detroit and Dallas.
Ms. Anthony is a member of various professional organizations including the Crowdfunding Professional Association (CfPA), Palm Beach County Bar Association, the Florida Bar Association, the American Bar Association and the ABA committees on Federal Securities Regulations and Private Equity and Venture Capital. She is a supporter of several community charities including siting on the board of directors of the American Red Cross for Palm Beach and Martin Counties, and providing financial support to the Susan Komen Foundation, Opportunity, Inc., New Hope Charities, the Society of the Four Arts, the Norton Museum of Art, Palm Beach County Zoo Society, the Kravis Center for the Performing Arts and several others.
Ms. Anthony is an honors graduate from Florida State University College of Law and has been practicing law since 1993.
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