What is a Section 4(a)(1) Legal Opinion?

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When the conditions of SEC Rule 144 cannot be not met, an experienced securities attorney like Matheau J. W.  Stout, Esq. can review documents to see if Shareholders can rely on the so called “4(a)(1½) exemption.”

Section 4(a)(1) legal opinions cite case law in order to provide an exemption from registration if a Shareholder is not an Issuer, Underwriter, or Dealer.

The minimum holding period under Section 4(a)(1) is 2 years.

Experienced Rule 144 and Section 4(a)(1) Securities Attorney

Shareholders can receive a no cost review of their documents by emailing them to OTC securities lawyer Matt Stout at mstout@otclawyers.com or by calling (410) 429-7076.

Section 4(a)(1) as an Alternative to Rule 144 for Shells

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Most shareholders holding restricted stock in OTC Markets companies use Rule 144 to clear and deposit that stock.  However, there are some circumstances when Rule 144 is not available.

Rule 144 is Not Available for Current Shell Companies

If an Issuer is currently a shell company, Rule 144 cannot be used to clear and sell restricted stock.  There are no exceptions to this if the public company is a shell today, but there are exceptions for former shells.

Former Shells May Only Use Rule 144 Under the Evergreen Rule

Under the so called “Evergreen Rule” a former shell company may use Rule 144 to clear restricted stock only under the following circumstances:

  1. The Issuer is a fully reporting SEC filer and subject to the reporting requirements of the Securities Exchange Act of 1934; and
  2. The SEC filer is current in all of its filings (i.e. not marked “delinquent”); and
  3. The Issuer has filed “Form 10” Information, including audited financials (which is already factored into its fully reporting SEC filer status); and
  4. One (1) Year has elapsed since the Issuer emerged from shell status.  This date is often found in a “Super 8-K” but could be confirmed using other SEC filings.

Section 4(a)(1) May Be Used if the Rule 144 Evergreen Rule is Not Met

So the Evergreen Rule says that former shells can only use Rule 144 if they are fully reporting SEC filers with audited financials and it has been more than Twelve (12) Months since the company ceased to be a shell.   What if the issuer is non reporting?

Current and Former Shells May use Section 4(a)(1) Instead of Rule 144

In those cases where the former shell is a non reporting Pink Sheet, or a so called “voluntary filer” which is technically not subject to the Exchange Act, an experienced securities lawyer can use a Section 4(a)(1) legal opinion (also known as a Section 4(1) or simply a 4-1 opinion).

Section 4(a)(1) Opinions Require a Minimum Two Year Holding Period

Unlike Rule 144, which requires a Six Month holding period for SEC filers and a One Year holding period for non reporting companies, Section 4(a)(1) requires a Two Year holding period.

Shareholder Must Not Be an Issuer, Underwriter, or Dealer Under Section 4(a)(1)

Section 4(a)(1) opinions cannot be drafted if the Shareholder is an Issuer, Underwriter or a Dealer.  What does this mean?   It basically deals with Affiliate Status and whether or not a Shareholder is a Control Person.   Another way to put this is that an experienced securities attorney will not draft a Section 4(a)(1) legal opinion for a Control Person or Affiliate of the Issuer.

Rule 144 and Section 4(a)(1) Lawyer Matt Stout Drafts Legal Opinions

Shareholders in OTC Markets companies can contact Rule 144 and Section 4-1 attorney Matt Stout for a no cost review of their certificate and supporting documentation at (410) 429-7076 or mstout@otclawyers.com.

 

What Are American Depositary Receipts?

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The stocks of most foreign companies that trade in the U.S. markets are traded as American Depositary Receipts (“ADRs”).

An ADR is basically a stock that trades in the United States representing a specified number of shares in a foreign corporation. ADRs are traded on US markets just like stock in domestic companies, and are issued and sponsored in the U.S. by a bank or brokerage.

An ADR represents one or more shares of foreign stock or a fraction of a share. If an investor owns an ADR, he or she has the right to obtain the foreign stock it represents.  However, most U.S. investors find it more convenient to own the ADR instead. The trading price of an ADR corresponds to the price of the foreign stock in its home country’s market, which is adjusted to the ratio of the ADRs to foreign company shares.

ADRs were introduced beginning in 1927 to make it easier for US investors to counter the the difficulties involved with purchasing foreign stock trading at different prices and currency values. To counter this inherent difficulty, U.S. banks purchase bulk lots of shares from the foreign company, and bundle the shares into ADRs for trading.

Will the SEC Intervene in a Dispute With an Issuer Over Restricted Stock?

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No, the SEC will not normally intervene to help a shareholder if a public company refuses to clear a restricted stock certificate.   Instead, to resolve a dispute, the shareholder needs a detailed Rule 144 or Section 4(1) legal opinion drafted by an experienced securities attorney.

According to the SEC, removing a restrictive legend is “solely in the discretion of the issuer” and that State law, rather than federal law, covers disputes over the removal of restrictive legends.

Even if a shareholder has technically met all the requirements of Rule 144, those shares cannot be sold on the public market until the restrictive legend is removed from the certificate.

Only the public company’s Transfer Agent can remove a restrictive legend. However, the Transfer Agent won’t remove the restrictive legend if the Issuer refuses.  Rule 144 legal opinions are addressed to the public company’s Transfer Agent, and cite specific documentation provided by the shareholder.

 

Exemptions from Registration for Restricted Securities

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In order for a shareholder to clear restricted stock and sell shares in OTC Markets public companies,  he or she must find an exemption from the SEC’s registration requirements.

Clearing Restricted Stock Using Rule 144

SEC Rule 144 provides the most common exemption from SEC registration of restricted securities.  Provided that the proper documentation showing the origin and history of the shares is produced, Rule 144 legal opinion can be provided if the Issuer is not a shell, and the holding period has been met.

Even affiliates (officers, directors, control persons owning greater than 10% of the issued and outstanding securities) can use Rule 144 to sell restricted stock under certain volume limitations.

Section 4(1) for Selling Stock in a Shell Company

Section 4(1) can be used under certain circumstances when Rule 144 does not apply, and where the shareholder is not an underwriter or dealer.   For example, whereas Rule 144 cannot be used to clear restricted stock if the Issuer is a shell company, “shell status” is not among the criteria of Section 4(1).  However, restricted stock must be at least Two (2) Years old for Section 4(1) to be considered, and affiliate stock cannot be cleared using Section 4(1).

3(a)(10) Provides an Exemption to SEC Registration

When a third-party creditor is willing to file a lawsuit against an OTC Markets public company, 3(a)(10) may provide an avenue for clearing restricted stock that would otherwise not be possible under Rule 144 or Section 4(1).  The debt must be bona fide (real and documented) and the creditor may not secretly be an affiliate.  The creditor may also not funnel money back to the Issuer from the proceeds of the sale of stock.

Under 3(a)(10), debt is typically exchanged for free trading common stock under conversion metrics agreed to by the Issuer in a Settlement Agreement.  The terms of this settlement must be heard in a Fairness Hearing, and a Court Order must ratify the settlement.

Shareholders with questions on clearing restricted stock can contact securities lawyer Matt Stout at (410) 429-7076 or mstout@otclawyers.com.

Does the Issued and Outstanding Matter When Selling Restricted Stock Under Rule 144?

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Yes, it does.  While drafting a restricted stock opinion using Rule 144, an experienced securities attorney like Matt Stout will review the Issuer’s profile at OTCMarkets.com.   The Company Info tab provides useful information such as the total issued and outstanding shares of common stock, which is essential information for Rule 144.

Under SEC Rule 144, a Shareholder must not own greater than ten (10%) percent of the Company’s issued and outstanding shares any class of stock.  Usually this will refer to common stock–both free trading and restricted stock. This applies to any Issuer, whether it is an OTC Bulletin Board (OTCBB), or an OTC Markets OTCQX, OTCQB, Pink Sheet or even an Issuer listed on a national exchange like NASDAQ or NYSE MKT.

If the Issuer is up to date in its OTC Markets filings, the issued and outstanding shares will be current, as well.   Depending on how recently the Issuer’s Transfer Agent updated its shareholder list, the information may be just a few days old, or it may date to the previous quarter or fiscal year end.

This information is cited in the Rule 144 opinion by securities lawyers since it can help demonstrate that a Shareholder is not an insider or “Affiliate” by virtue of owning more than 10% of the Issuer’s voting stock. If the Shareholder is classified as an Affiliate, there are trading volume limitations on the sale of Affiliate stock.

Shareholder with questions on clearing and selling restricted stock under Rule 144 can contact securities lawyer Matheau J. W. Stout, Esq. at (410) 429-7076 or mstout@otclawyers.com.

What is a Section 4(1) Legal Opinion for the Sale of Restricted Stock?

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Shareholders of restricted stock in over-the-counter Issuers soon become familiar with SEC Rule 144 since it is the most popular method by which a securities lawyer can help a Shareholder remove the restrictive legend from their shares.  However, there are some instances when Rule 144 cannot be used.

Rule 144 Holding Period for SEC Reporting Issuers

Rule 144 has a holding period requirement of six (6) months for shares in an SEC Reporting Company like an OTC Bulletin Board, OTCBB, and OTC Markets OTCQB and OTCQX.  This means that a Shareholder must have held the shares for that long before trying to sell under Rule 144.

Rule 144 Holding Period for Pink Sheets

The holding period under Rule 144 for shares in a Non Reporting Company such as an OTC Markets Pink Sheet Issuer is twelve (12) months.   So a Shareholder in a Pink Sheet must have held the shares for a year before using Rule 144 to clear the restricted stock.

Current Public Information Requirement Under Rule 144

Rule 144 also requires that the Issuer of the restricted stock provide “current public information” and this is where many Shareholders in OTC stock are prevented from removing the restrictive legends and selling their restricted stock.

Some companies fall behind in their filings and soon become Pink Sheet No Information (Pink Sheet Stop Sign) on OTC Markets.  This happens when an Issuer is more than a quarter behind in its SEC filings or the posting of its financials and disclosures on OTCMarkets.com.

Section 4(1) Can Be Used to Sell Restricted Stock in Pink Sheet Stop Signs

When an Issuer is a Pink Sheet Stop Sign, Rule 144 cannot be used to sell the restricted stock, even if the Shareholder is a Non Affiliate and the Shares have been held for greater than a year.   This is a problem for many Shareholders because it is difficult to persuade or force an Issuer to become current in its filings, especially in development stage public companies that may have little cash flow.

Holding Period Under Section 4(1)

For Shareholders that have held their restricted stock in a Pink Sheet Stop Sign for at least two (2) years, Section 4(1) may be available where Rule 144 is not.   This is because the elements of a Section 4(1) legal opinion are centered around the identity and role of the Shareholder, rather than the Issuer itself.

Shareholder Must Not Be an Underwriter, Broker or Dealer Under Section 4(1)

If the Shareholder can be shown not to be an Underwriter, or Broker, or Dealer, and if the origin and history of the Shares can be documented, an experienced securities attorney like Matt Stout can draft a Section 4(1) opinion.  These Section 4(1) opinions are often longer and more detailed than a standard Rule 144 opinion because they discuss case law in depth.

As always, the best policy is to provide a securities lawyer with a copy of the Shareholder’s restricted stock certificate, and as much of the underlying documentation as possible, including stock purchase agreement, promissory notes and debt conversion paperwork or consulting agreements, as applicable.

The more detail provided to the securities lawyer, the faster the restricted stock opinion can be researched and drafted, whether that is under Rule 144 or under the provisions of Section 4(1).   Securities lawyer Matheau J. W. Stout can be reached at (410) 429-7076 with questions on clearing restricted stock.

What are Control Securities under Rule 144?

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Under SEC Rule 144, Control Securities include restricted stock held by an Affiliate of the Issuer. An Affiliate is a person, such as an executive officer, a member of the company’s board of directors or large shareholder, owning greater than 10%.   These positions imply that the Affiliate is in a position of control with the issuer, and thus Affiliates are also sometimes called “Control Persons” when securities lawyers are analyzing restricted stock.

Control Person means that the Affiliate has the power to direct the management and policies of the Issuer.  This power can be derived through the ownership of 10% or more of the Issuer’s voting securities, by some contract or agreement with the Issuer, or otherwise.

When a Shareholder in an OTC Bulletin Board or OTC Markets Issuer purchases stock from a Control Person or Affiliate, they receive restricted stock.

What Are Restricted Securities?

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Rule 144(a)(3) discusses what criteria makes certain securities “restricted.”  Restricted securities include stock and debt instruments

  1. acquired in unregistered, private sales from the Issuer; or
  2. from an Affiliate, or Insider, of the issuer.

Investors usually receive restricted stock by subscribing to a PPM in private placement offerings such as Regulation D or “Reg D” 504, 505, and 506 offerings, employee benefit plans, and as compensation for consulting or advisory services.  Restricted securities are also often provided as consideration for providing capital to the Issuer.

When Shareholders of an OTC Bulletin Board or OTC Markets Issuer restrictive securities, the Transfer Agent has usually stamped the certificate with a “restrictive” or “restricted” legend. The legend puts the Shareholder on notice that the securities may not be resold until they are registered with the SEC or are exempt from the registration requirements (such as under Rule 144).

Removing Restricted Legend from Certificates Under Rule 144

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Shareholders of OTC Bulletin Board and OTC Markets OTCQX, OTCQB and Pink Sheets Issuers who purchase stock privately usually have stock certificates bearing a Rule 144 restricted legend.  The same is true when Shareholders receive stock in Over-the-counter microcap public companies in exchange for services, such as consulting.

This 144 legend tells the Transfer Agent and a prospective purchaser of the OTC stock that a legal opinion from an experienced securities attorney will be required before the securities can be sold under the provisions of SEC Rule 144.

The Process of Removing the 144 Legend

The process of removing the restricted or restrictive legend under SEC Rule 144 is straightforward for the Shareholder:

  1. The Shareholder contacts a securities lawyer and provides a copy of the certificate and all supporting documentation showing the origin and history of the restricted shares;
  2. The securities lawyer reviews the Shareholder’s documentation, and reviews the OTC Bulletin Board or OTC Markets Issuers filings at SEC.gov and OTCMarkets.com;
  3. If necessary, copies of agreements, letters from the Shareholder and/or Issuer, and board resolutions are requested to further document the transaction; and
  4. If the elements of Rule 144 are met, the securities lawyer drafts a Rule 144 opinion addressed to the transfer agent, citing each document and filing reviewed.

An Experienced Securities Attorney Can Help

Shareholders of OTCBB and Pink Sheets issuers can make the process of removing a restricted legend from 144 stock easier by contacting an experienced securities lawyer like Matt Stout at OTCLawyers.com or MJWStout.com.  If the requirements of SEC Rule 144 are clearly supported by the documents provided and the Issuer’s filings, a legal opinion can be issued promptly. Where information or documents are missing, a securities lawyer can work with the Shareholder, Issuer, Broker and Transfer Agent to confirm details and check facts.