It is customary to distinguish three basic methods of selling securities: at a fixed price, through an auction, and by forming a book of orders. We live in the era of the book-building method of selling securities, which is based on first collecting bids from investors (the book of orders), and then the issuer (underwriter) freely decides on the parameters of placing its securities (to whom, how many, and at what price). This article provides an analysis of current legislation from the standpoint of its regulation of the book-building method for selling securities and also gives a legal assessment of the placement of series 07 bonds by CJSC Factoring Company Eurocommerz (hereinafter – Eurocommerz bonds).
TWO PROCEDURES FOR CONCLUDING CONTRACTS
The Standards for the Issuance of Securities (hereinafter – the Standards) for the placement of securities by open subscription provide for two procedures for concluding contracts aimed at acquiring the placed securities:
The procedure for concluding contracts by inviting offers (proposals) possesses the characteristics of the book-building method for selling securities, as it presupposes the formation of a book of investor bids, based on which the issuer, at its own discretion, determines the placement parameters of the securities: to whom, and also – in relevant cases – how many and for how much to sell the securities. The Standards literally state the following on this matter: in such a case, the issuance resolution must contain an "indication that the response about acceptance of the offer (acceptance) is sent to persons determined by the issuer at its discretion from among the persons who made offers" (subclause "v", clause 6.2.1).
Regarding these two named methods of concluding contracts, the Standards establish an alternative approach and provide for the obligation to indicate in the securities issuance resolution either one or the other method. This approach in the Standards is fixed by stating that when placing securities at trades, the securities issuance resolution may, instead of the information provided for the procedure of concluding contracts by inviting offers (proposals), contain the name of the trade organizer on the securities market, as well as an indication that such trades are conducted in accordance with the rules of the trade organizer on the securities market (paragraph 7, clause 6.2.1).
Thus, the Standards provide that during the placement of securities by open subscription, two procedures for concluding contracts may be used, and these procedures can only be applied alternatively; the possibility for their simultaneous use is not provided for. From this point of view, the resolution on the issuance of Eurocommerz bonds does not contradict the Standards, as it provides for the conclusion of a contract only with the trade organizer of securities (clause 8.4 of the Issuance Resolution). Combining securities selling methods has great practical value, and in the future it is advisable to introduce amendments to the Standards that would allow for the application of different selling methods simultaneously for different tranches of placed securities.
PLACEMENT THROUGH A TRADE ORGANIZER
The Standards state that the securities issuance resolution may contain an indication that the placement of securities will be carried out through a trade organizer of securities according to its rules, which are registered in the established manner by the federal executive body for the securities market (paragraph 7, clause 6.2.1).
The currently effective trade rules provide for the possibility of placing bonds, including:
The presence in the trade organizer's rules of a technology for collecting bids from investors, which results in the formation of a consolidated register of bids, as well as the possibility of concluding transactions with investors in the negotiated trades mode (RPS), allows for the use of the idea of the book-building method when selling through a trade organizer. The issuance resolution for Eurocommerz bonds fully reproduces the book-building method by indicating the issuer's freedom to determine placement parameters (it is provided for by subclause V of clause 6.2.1 of the Standards). The issuance resolution for Eurocommerz bonds states the following: "Based on the analysis of the Consolidated Register of Bids, the Issuer determines the acquirers to whom it intends to sell the Bonds, as well as the number of Bonds it intends to sell to these acquirers, and transfers this information to the Underwriter."
It is evident that this way, the three main components of the book-building method were collected in one document and directly reflected in it: book formation, placement freedom, and addressed sale. All these attributes are based on the provisions of the Standards and the current rules of trade organizers, so there are no doubts regarding the legality of the book sale of securities through a trade organizer.
Thus, currently, the book-building method of selling securities can be used both when placing through a trade organizer and without its participation.
PREFERENCE IN ACQUIRING SECURITIES
According to the Securities Market Law, it is prohibited during the public placement or circulation of an issue of emission securities to establish an advantage in acquiring securities for some potential owners over others (Article 24). This provision raises the question of the legality of the book-building method of selling securities, which is based on the freedom of the issuer (underwriter) to determine the placement parameters of the securities.
A search for a similar norm in foreign legislation yielded nothing: such a rule exists nowhere. There are quite understandable reasons for the absence of such a prohibition; the fact is that with any method of placing securities, advantages for some potential owners over others are inherently established:
The difference of the book-building method here consists only in the volume of factors that serve as the basis for preferring one investor over another. The issuer's discretion under the book-building method allows it to consider not only the price and quantity of placed securities but also the investor's plans regarding the securities (speculation or long-term holding) and much more. In this sense, the position of the Civil Code should be recognized as more correct, which provides for shares that a public joint-stock company has the right to conduct an open subscription for shares it issues and their free sale on terms established by law and other legal acts (Article 97).
According to the meaning of securities legislation, the prohibition of the Securities Market Law on establishing advantages for some investors over others should be understood as meaning a prohibition on establishing unfounded and unfair advantages. And examples for such interpretation can be found from international experience. Indeed, there are court cases on this matter where placement with the provision of unfair advantages was challenged. For example, when shares were sold to acquaintances and relatives at a price dozens of times lower than the price at which the securities were placed to investors on the securities market. Here, an unequal position of securities buyers is knowingly created; moreover, market investors suffer losses in the amount of funds not received during the share issuance.
The prohibition on providing advantages in acquiring securities can also be interpreted as a prohibition on restricting participation in the placement of securities. For example, potential investors are prohibited from submitting bids or making offers to purchase securities. The so-called principle of democracy must operate, where investors must equally have the opportunity to compete for the acquisition of securities, although the fact of "victory" (purchase) already depends on the offer made and/or the choice of the issuer (underwriter). Both cases of the book-building method described above do not establish any restrictions for potential securities owners on submitting a bid (offer), therefore they do not contradict Article 24 of the Securities Market Law.
CONCLUSION
The strategy for the development of the Russian stock market involves building a world financial center, which presupposes the creation of developed regulation for the procedure of selling securities. We live in the era of the book-building sales method, therefore clear and understandable regulation must be created for it, both at the level of the Standards and at the level of the rules of trade organizers on the securities market.
TWO PROCEDURES FOR CONCLUDING CONTRACTS
The Standards for the Issuance of Securities (hereinafter – the Standards) for the placement of securities by open subscription provide for two procedures for concluding contracts aimed at acquiring the placed securities:
- Addressed invitation to an indefinite number of persons to make offers (proposals) for the acquisition of the placed securities (paragraph 2, clause 6.2.1);
- Placement of securities through a trade organizer, including at trades conducted by it (paragraph 7, clause 6.2.1).
The procedure for concluding contracts by inviting offers (proposals) possesses the characteristics of the book-building method for selling securities, as it presupposes the formation of a book of investor bids, based on which the issuer, at its own discretion, determines the placement parameters of the securities: to whom, and also – in relevant cases – how many and for how much to sell the securities. The Standards literally state the following on this matter: in such a case, the issuance resolution must contain an "indication that the response about acceptance of the offer (acceptance) is sent to persons determined by the issuer at its discretion from among the persons who made offers" (subclause "v", clause 6.2.1).
Regarding these two named methods of concluding contracts, the Standards establish an alternative approach and provide for the obligation to indicate in the securities issuance resolution either one or the other method. This approach in the Standards is fixed by stating that when placing securities at trades, the securities issuance resolution may, instead of the information provided for the procedure of concluding contracts by inviting offers (proposals), contain the name of the trade organizer on the securities market, as well as an indication that such trades are conducted in accordance with the rules of the trade organizer on the securities market (paragraph 7, clause 6.2.1).
Thus, the Standards provide that during the placement of securities by open subscription, two procedures for concluding contracts may be used, and these procedures can only be applied alternatively; the possibility for their simultaneous use is not provided for. From this point of view, the resolution on the issuance of Eurocommerz bonds does not contradict the Standards, as it provides for the conclusion of a contract only with the trade organizer of securities (clause 8.4 of the Issuance Resolution). Combining securities selling methods has great practical value, and in the future it is advisable to introduce amendments to the Standards that would allow for the application of different selling methods simultaneously for different tranches of placed securities.
PLACEMENT THROUGH A TRADE ORGANIZER
The Standards state that the securities issuance resolution may contain an indication that the placement of securities will be carried out through a trade organizer of securities according to its rules, which are registered in the established manner by the federal executive body for the securities market (paragraph 7, clause 6.2.1).
The currently effective trade rules provide for the possibility of placing bonds, including:
- In the form of conducting a competition to determine the coupon rate for the first coupon period;
- By collecting addressed bids from buyers to acquire bonds at a fixed price.
The presence in the trade organizer's rules of a technology for collecting bids from investors, which results in the formation of a consolidated register of bids, as well as the possibility of concluding transactions with investors in the negotiated trades mode (RPS), allows for the use of the idea of the book-building method when selling through a trade organizer. The issuance resolution for Eurocommerz bonds fully reproduces the book-building method by indicating the issuer's freedom to determine placement parameters (it is provided for by subclause V of clause 6.2.1 of the Standards). The issuance resolution for Eurocommerz bonds states the following: "Based on the analysis of the Consolidated Register of Bids, the Issuer determines the acquirers to whom it intends to sell the Bonds, as well as the number of Bonds it intends to sell to these acquirers, and transfers this information to the Underwriter."
It is evident that this way, the three main components of the book-building method were collected in one document and directly reflected in it: book formation, placement freedom, and addressed sale. All these attributes are based on the provisions of the Standards and the current rules of trade organizers, so there are no doubts regarding the legality of the book sale of securities through a trade organizer.
Thus, currently, the book-building method of selling securities can be used both when placing through a trade organizer and without its participation.
PREFERENCE IN ACQUIRING SECURITIES
According to the Securities Market Law, it is prohibited during the public placement or circulation of an issue of emission securities to establish an advantage in acquiring securities for some potential owners over others (Article 24). This provision raises the question of the legality of the book-building method of selling securities, which is based on the freedom of the issuer (underwriter) to determine the placement parameters of the securities.
A search for a similar norm in foreign legislation yielded nothing: such a rule exists nowhere. There are quite understandable reasons for the absence of such a prohibition; the fact is that with any method of placing securities, advantages for some potential owners over others are inherently established:
- With the fixed price method – the potential investor who submits a bid to purchase securities earlier gets the advantage (the advantage goes to the first in time);
- With the auction method – the potential investor who offers a higher price gets the advantage (or makes an offer within the cut-off price).
The difference of the book-building method here consists only in the volume of factors that serve as the basis for preferring one investor over another. The issuer's discretion under the book-building method allows it to consider not only the price and quantity of placed securities but also the investor's plans regarding the securities (speculation or long-term holding) and much more. In this sense, the position of the Civil Code should be recognized as more correct, which provides for shares that a public joint-stock company has the right to conduct an open subscription for shares it issues and their free sale on terms established by law and other legal acts (Article 97).
According to the meaning of securities legislation, the prohibition of the Securities Market Law on establishing advantages for some investors over others should be understood as meaning a prohibition on establishing unfounded and unfair advantages. And examples for such interpretation can be found from international experience. Indeed, there are court cases on this matter where placement with the provision of unfair advantages was challenged. For example, when shares were sold to acquaintances and relatives at a price dozens of times lower than the price at which the securities were placed to investors on the securities market. Here, an unequal position of securities buyers is knowingly created; moreover, market investors suffer losses in the amount of funds not received during the share issuance.
The prohibition on providing advantages in acquiring securities can also be interpreted as a prohibition on restricting participation in the placement of securities. For example, potential investors are prohibited from submitting bids or making offers to purchase securities. The so-called principle of democracy must operate, where investors must equally have the opportunity to compete for the acquisition of securities, although the fact of "victory" (purchase) already depends on the offer made and/or the choice of the issuer (underwriter). Both cases of the book-building method described above do not establish any restrictions for potential securities owners on submitting a bid (offer), therefore they do not contradict Article 24 of the Securities Market Law.
CONCLUSION
The strategy for the development of the Russian stock market involves building a world financial center, which presupposes the creation of developed regulation for the procedure of selling securities. We live in the era of the book-building sales method, therefore clear and understandable regulation must be created for it, both at the level of the Standards and at the level of the rules of trade organizers on the securities market.