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SEC Proposed Rules on Issuer Review of Assets in Offerings of Asset-Backed Securities

By | October 13, 2010

The SEC has proposed new requirements in order to implement Section 945 and a portion of Section 932 of the Dodd-Frank Act (Release No. 33-9150).   First, the SEC has proposed a new rule under the Securities Act of 1933 to require any issuer registering the offer and sale of an asset-backed security (ABS), to perform a review of the assets underlying the ABS.  The SEC also proposed new amendments to Item 1111 of Regulation AB that would require an ABS issuer to disclose the nature of its review of the assets and the findings and conclusions of the issuer’s review of the assets. If the issuer has engaged a third party for purposes of reviewing the assets, the SEC proposes to require that the issuer disclose the third-party’s findings and conclusions.  The SEC also proposed to require that an issuer or underwriter of an ABS offering file a new form to include certain disclosure relating to third-party due diligence providers, to implement Section 15E(s)(4)(A) of the Securities Exchange Act of 1934, a new provision added by Section 932 of the Dodd-Frank Act.

Required Issuer Review of Assets

The SEC proposed new Rule 193 under the Securities Act to require issuers of ABS to perform a review of the assets underlying registered ABS offerings.  This rule would implement Securities Act Section 7(d)(1), as added by Section 945 of the Dodd-Frank Act.  Rule 193 would not specify the level or type of review an issuer is required to perform.  The SEC expects that the issuer’s level and type of review of the assets may vary depending on the circumstances.  For example, the level or type of review may vary among different asset classes.  While proposed Rule 193 would not require a particular level or type of review, the SEC noted that, if adopted, required responsive disclosure would describe the level and type of review.  The SEC believes the disclosure requirements of the rule will give investors an ability to evaluate the level and adequacy of the issuer’s review of the assets.  If an issuer engages a third party for purposes of reviewing the pool assets, then an issuer may rely on the third-party’s review to satisfy its obligations under proposed Rule 193 provided the third party is named in the registration statement and consents to being named as an “expert” in accordance with Section 7 of the Securities Act and Rule 436 under the Securities Act.

Proposed Disclosure Requirements

Item 1111 of Regulation AB outlines several aspects of an ABS pool that the prospectus disclosure for ABS should cover. The SEC proposed amendments to Item 1111 to require disclosure regarding the nature of the issuer’s review of the assets under proposed Rule 193 and the findings and conclusions of the review. In addition, the SEC re-proposed amendments from its 2010 ABS Proposing Release to require disclosure regarding the composition of the pool as it relates to assets that do not meet disclosed underwriting standards, as the SEC believes this information would promote a better understanding of the impact of the review on the composition of the pool assets.  The SEC expects that this would include a description of the scope of the review, such as whether the issuer or a third party conducted a review of a sample of the assets or what kind of sampling technique was employed (i.e., random or adverse). This proposed requirement would implement Securities Act Section 7(d)(2), as added by the Dodd-Frank Act.

New Form ABS-15G

Section 932 of the Dodd-Frank Act amends Exchange Act Section 15E by adding, among other things, a new Section 15E(s)(4)(A) which sets forth the requirement that the issuer or underwriter of any ABS make publicly available the findings and conclusions of any third-party due diligence report obtained by the issuer or underwriter.  Unlike Securities Act Section 7(d), which is expressly limited to registered ABS offerings, the SEC believes that the requirements of Exchange Act Section 15E(s)(4)(A) were intended to apply to issuers and underwriters of both registered and unregistered offerings of ABS.  In this regard, the SEC noted that Section 941 of the Act amends Section 3(a) of the Exchange Act to add a definition of “asset-backed security” and that this definition includes asset-backed securities typically offered and sold in unregistered transactions. Further, unlike Section 945 of the Act, Section 932 does not refer to Section 7 of the Securities Act or registration statements filed under the Securities Act.

For registered ABS offerings, this disclosure, with respect to reports obtained by issuers, would be required to be provided in the prospectus as described above. In order to implement the disclosure requirement for unregistered offerings the SEC proposed new Rule 15Ga-2 under the Exchange Act.  Proposed Rule 15Ga-2 would require an issuer of Exchange Act-ABS to file a new Form ABS-15G to disclose the findings and conclusions of any third party engaged for purposes of performing a review obtained by an issuer with respect to unregistered transactions. Rule 15Ga-2 also would require an underwriter of Exchange Act-ABS to file Form ABS-15G with the same information for reports obtained by an underwriter in registered and unregistered transactions.  Proposed Form ABS-15G would be filed with the SEC on EDGAR.

The SEC recognizes that public disclosure of information relating to an unregistered offering could raise concerns regarding an issuer’s or underwriter’s reliance on the private offering exemptions and safe harbors under the Securities Act.  The SEC intends for Form ABS-15G to be used for both registered and unregistered ABS transactions (although, if the information has already been provided in a prospectus for a registered transaction, it need not be provided again in Form ABS-15G).  The SEC is of the view that issuers and underwriters can disclose information required by Rule 15Ga-2 without jeopardizing reliance on those exemptions and safe harbors, provided that the only information made publicly available is that which is required by the proposed rule, and the issuer does not otherwise use Form ABS-15G to offer or sell securities or in a manner that conditions the market for offers or sales of its securities.

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