The National Association of Bond Lawyers has released a paper designed to provide issuers considering whether to participate in the Securities and Exchange Commission's Municipalities Continuing Disclosure Cooperation Initiative with an analytical framework to decide whether they made material misstatements about their continuing disclosure compliance.
The NABL paper attempts to clearly present the distinct questions a muni issuer or borrower faces under the program. The MCDC allows both issuers and underwriters to get favorable settlement terms if they voluntarily report, for any bonds issued in the last five years, any time they misled investors about their compliance with their continuing disclosure obligations.
But there has been confusion over what the SEC considers "material" misstatements for purposes of the program, an issue NABL's paper seeks to address.
The SEC's Rule 15c2-12 requires an underwriter to contract to receive a final official statement, defined to include a description of any instances in the previous five years in which the issuer or borrower that promised to provide annual financial information and notices of material events failed to comply in all material respects.
Issuers have been including in their bond documents phrases which duplicate the language of that rule, saying that they have been complying "in all material respects" with their obligations. Materiality has been defined by the courts to mean something a reasonable investor would want to know before making an investment decision,
There are two distinct materiality questions that an issuer has to analyze to determine whether a recent OS contains a "material misstatement" eligible for self-reporting under the MCDC, the NABL paper explains.
One is whether an issuer makes a misstatement if it says in its OS that it has complied in all material respects with its continuing disclosure obligations when there has been some noncompliance. The second is whether the misstatement would be material to investors.
Certain disclosure failures will clearly result in misstatements if the issuer has included in its OS the language that it has been in material compliance for the past five years, the NABL paper notes. But other failures may be so minor that the language would not result in a misstatement.
"It also is generally accepted by experienced practitioners that certain other failures to comply with the terms of the previous continuing disclosure undertakings would not be considered failures to comply in all material respects," the paper states. "An example would be a delay in filing a particular annual report by a few days."
Only after establishing that a misstatement occurred in a bond offering can issuers properly analyze whether that misstatement was material, NABL's paper continues.
The question of materiality will depend on the facts and circumstances of each case, but could include analysis of such things as how important the withheld disclosures were, whether that information was publicly available elsewhere, the reason for the failure, and other considerations.
Former NABL president John McNally, a partner with Hawkins & Delafield, led a team of several experienced bond lawyers in producing the paper.
