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Capital Markets Union in Europe edited by Busch, Danny; Avgouleas, Emilios; Ferrarini, Guido (1st March 2018)

Part IV Raising Capital on the Capital Markets, 11 Modernizing the Prospectus Directive

Bas de Jong, Tomas Arons

From: Capital Markets Union in Europe

Edited By: Danny Busch, Emilios Avgouleas, Guido Ferrarini

From: Oxford Legal Research Library (http://olrl.ouplaw.com). (c) Oxford University Press, 2015. All Rights Reserved. Subscriber: null; date: 30 May 2020

Prospectus Directive — Financial regulation

(p. 237) 11  Modernizing the Prospectus Directive

I.  Introduction

11.01  On 16 May 2017 the Council adopted1 the Prospectus Regulation.2 This Regulation repeals the Prospectus Directive.3,4 The prospectus rules are an important part of the Capital Markets Union (CMU), and will in large part apply from 21 July 2019.5,6 In this CMU, companies will be able to raise money on capital markets more easily and at lower cost.7 Traditionally, companies in Europe have been financed by banks.8

11.02  The publication of a prospectus is required to raise money on capital markets in order to increase companies’ equity. It is an essential document for investors on capital markets and it is the initial step by companies to tap into capital markets.9 The European Commission is concerned that companies in the US are able to raise three times more capital than companies in Europe.10 The European prospectus rules are a costly barrier, (p. 238) especially for small companies. In practice, a prospectus consists of hundreds of pages and is costly because of the necessary involvement of professionals like accountants and solicitors.11 The new rules seek to achieve the initial purpose of the prospectus: to enhance investor protection and market efficiency.12 These rules are laid down in a Regulation and hence are directly applicable without implementation in the respective Member States’ legislations.

11.03  The EU has been able to adopt the new prospectus rules regardless of the looming Brexit (ie the UK leaving the EU). When we finished this chapter, it was still uncertain how ‘hard’ or ‘soft’ a possible Brexit will become. For the subject of prospectus rules, it is relevant whether the UK will leave the EU single market. If it does, British companies will lose their ‘passporting rights’.13 This means that a prospectus approved in the UK by the supervisory authority will in principle no longer provide a ‘passport’ for raising capital in EU Member States without further review. It remains to be seen whether a trade deal between the UK and the EU during Brexit ‘divorce’ negotiations can provide the finance industry with elements of current single market arrangements. The legal concept of ‘equivalence’ of regulatory regimes might accord the UK a certain degree of access to Europe in the future.14 Regarding the prospectus rules that will apply in the UK, the UK government has expressed an intention to import all existing EU rules into British law and to only gradually abolish unwanted rules (European Union (Withdrawal) Bill) after Brexit.15 This means that the new prospectus rules will also apply in the UK.

11.04  In this chapter we analyse the reforms of the prospectus rules enacted in the new Prospectus Regulation.16 First of all we provide the background and purposes of the Regulation. Consequently, we address the extension of the exceptions to and exemptions of the duty to publish a prospectus (para III.1), the special regime for small and medium-sized companies (SMEs) (para III.2), the reduction of the burden for secondary issues (para III.3), the special regime for frequent issuers (para III.4), the increased relevance of the prospectus for investors (para III.5), and finally the publication of and access point for EU prospectuses (para III.6).

(p. 239) II.  Background and Purposes of the Reformed Prospectus Rules

1.  Difficulties in the Prospectus Directive

11.05  The initial Prospectus Directive was based on maximum harmonization. It entered into force in 2005 and was evaluated in 2009. The evaluation resulted in a modification in 2010.17 Its purpose was to reduce the administrative burden. Consequently, a renewed investigation was held regarding the functioning of the prospectus rules. The European Commission held a public (online) consultation from February until May 2015, national supervisors were consulted via the European Securities and Markets Authority (ESMA), expert meetings were organized in Brussels, and position papers received. These initiatives resulted in an Impact Assessment. In this Impact Assessment the European Commission provided the background to the proposal to reform the prospectus rules.

11.06  In its Impact Assessment,18 the European Commission explains the necessity of this reform with the following problem tree (Figure 11.1) with drivers, problems, and consequences.

Figure 11.1  European Commission Impact Assessment ‘Problem Tree’

Source: SWD (2015) 0255 final—2015/0268 (COD), <http://eur-lex.europa.eu>, © European Union, 1998–2017

11.07  The applicable prospectus rules are not sufficiently flexible and accurate for some types of securities. By way of example the European Commission mentions the unsuccessful ‘proportionate disclosure’ regime adopted by the modification in 2010 (simpler disclosure (p. 240) regime for SMEs).19 There is also broad support for a simplification of the disclosure regime and a removal of the arbitrary EUR 100,000 threshold for disclosure purposes. There is an over reliance on the EUR 100,000 exemption which leads to reduced investment choice for investors. The removal of the EUR 100,000 threshold—which did not make it into the final version of the Regulation—is perceived as a meaningful tool to increase participation of retail and high net worth investors in the EU corporate bond market. Insufficient differentiation of the requirements between specific situations and issuers and insufficient proportionality led to two problems: higher administrative burdens and reduced market access for SMEs. European companies, especially SMEs, are strongly dependent on bank financing. Only 20 per cent or less of its capital is provided by capital markets. Of course, this varies between the Member States; traditionally northwestern European countries have larger and deeper capital markets than other parts of the EU.

11.08  In the online public consultation, respondents deem the compliance costs too high. A rough estimate is that a prospectus costs EUR 1 million for an average equity issue, and a quarter of that for a non-equity issue. Prospectuses and summaries are long. The legal fees involved are 40 per cent of total costs. Therefore the preparation and approval of a prospectus is a lengthy, costly, complex process. This is especially so for SMEs because the largest part is fixed costs not varying according to the size of the capital issue. These costs are therefore relatively burdensome for smaller issues.

11.09  Somewhat paradoxically these detailed prospectus rules do not provide adequate investor protection. The aim to inform investors adequately is undermined by the fact that a lengthy prospectus is primarily intended as a shield to the issuer’s liability. Moreover, the Prospectus Directive is implemented in different ways in the Member States. Member States treat issues of securities not subject to the Prospectus Directive differently. An example is the withdrawal right of investors.20 In some Member States these rights exist extensively, in other Member States these are non-existent. This uncertainty regarding the level of investor protection results in lower cross-border investment offerings.21 From the public consultation an almost unanimous unease about the currently applicable rules on the prospectus summary can be construed. This summary is deemed too lengthy, unpractical, and too comprehensive.

11.10  Finally, the European Commission draws attention to the inadequate level of harmonization of the Prospectus Directive and the inadequate relation between the prospectus rules and the other EU legislation. An example is the different rules applicable in Member States regarding the exempted issues with a nominal value of less than EUR 5 million. The result is a different application of prospectus rules within the EU. The process of approval by the competent authorities in the different Member States varies.22 The inadequate relation with other EU legislation is exemplified by the inconsistencies of the prospectus rules with (p. 241) the Markets in Financial Instruments Directive (MiFID II)23 and overlapping rules in the PRIIPS Regulation.24 As a consequence of this inadequate harmonization different financing conditions between Member States exist. The European Commission observes a lot of variation in the level of capital market development within the EU. It is remarkable that some Member States, such as the Netherlands, have relatively larger capital markets than even the US. The European Commission concludes that it is possible to create the right conditions to enhance capital market development.25

2.  Aims

11.11  The new prospectus rules intend to deal with the aforementioned problems. This reform pursues a simple goal: provide all types of issuers with disclosure rules which are tailored to their specific needs while making the prospectus a more relevant tool for informing potential investors. In consequence, the Prospectus Regulation puts special emphasis on four groups of issuers: (1) issuers already listed on a regulated market or an SME growth market, which want to raise additional capital by means of a secondary issuance, (2) SMEs, (3) frequent issuers of all types of securities, and (4) issuers of non-equity securities. It also intends to further incentivize the use of the cross-border ‘passport’ for approved prospectuses, which was introduced by the Prospectus Directive.26

11.12  The Prospectus Regulation aims at (i) reducing the administrative burden of drawing up of prospectus for all issuers, in particular for SMEs, frequent issuers of securities, and secondary issuances; (ii) making the prospectus a more relevant disclosure tool for potential investors, especially in SMEs; and (iii) achieving more convergence between the EU prospectus and other EU disclosure rules. This reform’s purpose is in line with the purpose of the CMU, i.e. to strengthen the role of market-based finance in the European economy. A key objective of the CMU is notably to facilitate raising money on capital markets. Capital markets offer access to a wide set of funding providers and provide an exit opportunity for private equity and business angels, which invest in companies at an earlier stage of their development.

3.  Revision to a regulation

11.13  It is noticeable that the prospectus rules are laid down in a regulation instead of a directive. This is in line with the development of European financial law, for example the market abuse rules.27 The currently applicable detailed prospectus rules are laid down in a regulation.28 The European Commission draws attention to the fact that a regulation (p. 242) solves the implementation problems and thereby enhances the integration of the European internal market. In this way the purpose of the CMU, to dilute divergences and fragmentation, can be achieved. The European Commission also aims to enable more cross-border private investment, to offer investors and savers additional opportunities to put their money to work more effectively, and to remove barriers to cross-border investment for issuers. By harmonizing the rules, issuers and investors alike no longer have to consider the different rules applicable. Hence, the costs of cross-border investment will be reduced.

III.  Most Important Modifications

1.  Modifications of the exemptions to the duty to publish a prospectus

11.14  On the basis of the currently applicable Prospectus Directive, offerings of securities with a total consideration of EUR 5 million or more are subject to the European duty to publish a prospectus. Member States are also free to impose such a duty for an offering of less than EUR 5 million.29

11.15  Under the new regime,30 no (European) harmonized prospectus is required for offerings of securities with a total consideration of less than EUR 1 million.31 This exemption is a recognition of the disproportionate nature of the significant costs involved with such a small offering to the public (less than EUR 1 million). SMEs in particular will benefit from this exemption. However, Member States retain the possibility to impose adequate rules for such issues provided these rules do not constitute a disproportionate or unnecessary burden.

11.16  The Prospectus Regulation contains an option for Member States to set a threshold higher than EUR 1 million below which offers of securities to the public are still exempted from the prospectus requirement. However, the total consideration of each such offer in the EU should be less than EUR 8 million, calculated over a period of twelve months.32 This exemption can moreover only be applied to offerings which are not subject to the requirement to notify the receiving Member State.33 The threshold of EUR 8 million is an increase in comparison with the current maximum threshold of EUR 5 million for exemptions, but it is only optional. There was discussion about this Member State option until the final stages of negotiations.34 There were concerns that the threshold was too high and ineffective for small Member States, and that the Member State option could lead to fragmentation and divergences in the EU market for prospectuses.35

(p. 243) 11.17  For the sake of comparison, in the US an issue of securities is not exempted where the aggregate amount at which such issue is offered to the public exceeds $5 million.36 As from 1996 the SEC also has the general power to exempt offers for an amount that exceeds $5 million.37 Until now, the SEC has not used this general power to grant exemptions.38 The exemptions are extended as a result of the Jumpstart Our Business Startups (JOBS) Act of 2012. This Act seeks to improve the financing opportunities for small companies and to increase the market participation of smaller investors.39 On the basis of the JOBS Act of 2012 in 2015 the SEC granted exemptions to registration requirements for offerings of securities for an amount between $20 million and $50 million in a period of twelve months. The offeror is required to disclose an offering circular.40 This exemption has similar characteristics as the special regime for SMEs under the Prospectus Regulation (para III.2 hereafter).

11.18  The Prospectus Regulation retains the current exemption for offerings to fewer than 150 (legal) persons. In earlier drafts, this exemption was extended to offerings to fewer than 350 (legal) persons per Member State and in total fewer than 4000 (legal) persons in the entire EU. Also retained is the exemption of offerings with a nominal value per unit of at least EUR 100,000,41 although this exemption was repealed in earlier drafts of the Regulation (see para 2.1 for the background of this repeal).

11.19  The Prospectus Regulation contains an extension of the exemption for admissions to trading on a regulated market. The rules do not apply to securities fungible with securities already admitted to trading on the same regulated market, provided that they represent, over a period of twelve months, less than 20 per cent of the number of securities already admitted to trading on the same regulated market.42 In the Prospectus Directive this was 10 per cent.43 The exemption of shares resulting from the conversion or exchange of other securities or from the exercise of the rights conferred by other securities, where the resulting shares are of the same class as the shares already admitted to trading on the same regulated market, is limited under the new regime. The new extra provision is that the resulting shares represent, over a period of twelve months, less than 20 per cent of the number of shares of the same class already admitted to trading on the same regulated market.44

2.  Special regime for small and medium-sized companies

11.20  The Prospectus Regulation provides for a special disclosure regime for SMEs.45 SMEs are companies, which, according to their last annual or consolidated accounts, meet at least two of the following three criteria: an average number of employees during the financial (p. 244) year of less than 250, a total balance sheet not exceeding EUR 43,000,000, and an annual net turnover not exceeding EUR 50,000,000; or SMEs as defined in MiFID II.46 The simplified prospectus these companies have to disclose is called an ‘EU Growth Prospectus’.47

11.21  SMEs, other issuers whose securities are traded or are to be traded on an SME growth market, provided that those issuers had an average market capitalization of less than EUR 500,000,000 on the basis of end-year quotes for the previous three calendar years48 and other issuers where the offer of securities to the public is of a total consideration in the Union that does not exceed EUR 20,000,000 calculated over a period of twelve months, and provided that such issuers have no securities traded on a multilateral trading facility (MTF) and have an average number of employees during the previous financial year of up to 499,49 may choose to draw up an EU Growth Prospectus under the proportionate disclosure regime.50 Offerors of securities issued by these first two categories of issuers enjoy the same advantage of the simplified EU Growth Prospectus.51 These four categories have to publish a document in a standardized format, written in a simple language, and which is easy for issuers to complete. It shall consist of a specific summary based on Article 7, a specific registration document, and a specific securities note.52 On the basis of Article 15(3), the European Commission shall adopt delegated acts to supplement this Regulation by specifying the reduced content and standardized format and sequence for the EU Growth Prospectus as well as the reduced content and standardized format of the specific summary.53 When specifying the reduced content and standardized format and sequence of the EU Growth Prospectus the Commission shall calibrate the requirements to focus on: (a) the information that is material and relevant for investors when making an investment decision; (b) the need to ensure proportionality between the size of the company and the cost of producing a prospectus. Those delegated acts shall be adopted eighteen months after entry into force of the Regulation.54

11.22  US securities law contains a regime for smaller reporting companies as well.55 A smaller reporting company has a public equity float of less than $75 million, or if this cannot be calculated, annual revenues less than $50 million.56 There are lighter disclosure requirements for smaller reporting companies that draw up a prospectus.57 These entail, inter alia, the following:

  • •  the company can provide a shorter explanation, especially regarding executive compensation;

  • (p. 245) •  the company only needs to disclose audited financial statements of the last two instead of three financial years; and

  • •  the company need not have an auditor statement about internal control of the financial statements in accordance with section 404(b) of the Sarbanes-Oxley Act.

In addition to the regime above, the JOBS Act from 2012 is relevant. This Act offers ‘emerging growth companies’ the possibility to offer their securities publicly under the condition that only ‘accredited investors’ can invest.58 Moreover, the Act contains rules to facilitate crowdfunding, open to both accredited and non-accredited investors.59 We already mentioned the statutory exemptions for offers up to $20 and $50 million (para III.1).

11.23  A first conclusion from a comparative perspective is that both European and US securities law respect the needs of smaller and growth companies by providing exemptions, although there are some differences in the relevant thresholds and further rules. Unlike in the US, a specific crowdfunding regime is not yet available at the European level.60 A second conclusion is that it is yet unclear how the exemptions for European SMEs will be implemented. Ultimately six months after entry into force of the Regulation, this should become clear. The US regulations can provide inspiration here. For smaller reporting companies, exemptions deal with the explanation of executive compensation, the number of audited financial statements, and the auditor statement about the internal controls of the board over the company. This raises the question whether the European exemptions should be developed in connection with the European transparency and accounting rules,61 as the US exemptions deal with these matters.

3.  Simplified disclosure regime for secondary issuances

11.24  The Prospectus Regulation contains another simplified disclosure regime for secondary issuances.62 Its purpose is to provide more flexibility and less paperwork for companies who want to raise capital more than once at the capital markets. Currently, an average of 70 per cent of all equity prospectuses approved in 2013 and 2014 corresponded to secondary issuances (about 700 out of 935 prospectuses).63

11.25  The facility for secondary issuances is available for:64

  1. (a)  issuers whose securities have been admitted to trading on a regulated market or an SME growth market65 continuously for at least the last eighteen months and who issue securities fungible with existing securities which have been previously issued;

  2. (p. 246) (b)  issuers whose equity securities have been admitted to trading on a regulated market or an SME growth market continuously for at least the last eighteen months and who issue non-equity securities;

  3. (c)  offerors of securities admitted to trading on a regulated market or an SME growth market continuously for at least the last eighteen months.

11.26  Under the simplified disclosure regime, it is possible to use a simplified prospectus. This shall consist of a summary;66 a specific registration document, which may be used by persons referred to under (a), (b), and (c); and a specific securities note which may be used by persons referred to under (a) and (c).

11.27  Regarding the contents of a simplified prospectus, the Regulation provides that it needs to contain only the relevant reduced information which is necessary to enable investors to understand the issuance. Specifically, the information needs to address (a) the prospects of the issuer and the significant changes in the business and the financial position of the issuer and the guarantor that have occurred since the end of the last financial year, if any; (b) the rights attaching to the securities; and (c) the reasons for the issuance and its impact on the issuer.67 The simplified prospectus shall be written and presented in an easily analysable, concise, and comprehensible form and shall enable investors to make an informed investment decision. It shall also take into account the periodic and ad hoc information that has already been disclosed to the public pursuant to the Transparency Directive and the Market Abuse Regulation. For the sake of comparison, the US short-form registration allows issuers to refer in the prospectus to financial reports filed under the Securities Exchange Act 1934. This prevents overlap in the provision of information to investors.68 The European and North American rules are comparable in this respect. According to the Prospectus Regulation, the European Commission shall adopt delegated acts to specify the reduced information to be included in the schedules applicable under the simplified disclosure regime.69

4.  Special regime for frequent issuers

11.28  A base prospectus may be drawn up as a single document (standalone prospectus) or as separate documents, according to the Prospectus Regulation. If the base prospectus consists of different documents, the documents can be approved at different moments in time. This is a useful facility for ‘frequent issuers’.70 Briefly stated, the Regulation allows them to draw up a universal registration document (URD)71 with basic information on the company, and to supplement this document with a securities note and summary when securities are offered to the public or admitted to trading on a regulated market.72 In that case, (p. 247) the securities note and the summary shall be subject to a separate approval. This offers flexibility as the production of a securities nota and summary is less time-consuming than drawing up a full standalone prospectus.

11.29  For frequent issuers, there is a fast track regime for acquiring approval within five working days.73 The rationale is that the competent supervisory authority has been able to approve the URD in an earlier stage, so that less time is needed for approval of the securities note and summary.74

11.30  The URD is meant to promote efficiency and flexibility. It is possible for issuers to fulfil their periodic disclosure requirements (based on the Transparency Directive) by integrating the yearly and half-yearly financial reports in the URD.75 According to the Commission, this prevents overlapping requirements and unnecessary burdens, while relevant information for investors is concentrated in a single document that is updated at least on a yearly basis.76 Under the current Prospectus Directive, it is also possible to choose a base prospectus with securities note. Not only is the scope of this possibility extended and the term for approval shortened from ten to five working days, but in particular the possibility to fulfil periodic disclosure requirements in the URD is new.

11.31  In the US, such a system of shelf registration is already in place. However, as of 2005 US securities law also has a special regime for well-known seasoned issuers (WKSIs). WKSIs are a sort of super class77 of large, seasoned issuers78 that can benefit from automatic shelf registration. This guarantees a WKSI immediate access to the market whenever it deems conditions to be favourable, uninterrupted by any period of SEC review.79 Specifically, a WKSI is permitted to register unspecified amounts of different types of securities, on a registration statement that becomes immediately effective upon filing (and will remain effective for three years).80

(p. 248) 5.  Increasing the relevance of the prospectus for investors

11.32  For many investors, the prospectus is not the most important source of information when taking investment decisions.81 The prospectus summary is usually quite long, and uses technical legal terms. This makes the summary difficult to read for average investors. For issuers, drawing up a summary results in additional costs. Hence, the European legislator opts for a different approach in the Prospectus Regulation. The new rules for the summary now closely mirror the rules for the essential information document as described in the PRIIPs Regulation.82 The summary has a maximum length of seven83 pages in A4-format (the current Prospectus Directive uses a limit of fifteen pages or seven per cent of the length of the prospectus, whichever is longer), and should be presented and laid out in a way that is easy to read, using characters of readable size.84 The liability rules regarding misleading statements in the summary remain unchanged compared to the Prospectus Directive of 2003. This means that civil liability can only arise if the summary is misleading or inconsistent when read together with other parts of the prospectus.85

11.33  Regarding the contents of the summary, the Prospectus Regulation contains several rules. The summary shall be made up of four sections: (a) an introduction containing warnings;86 (b) key information on the issuer, the offeror, or the person asking for admission to trading on a regulated market;87 (c) key information on the securities;88 and (d) key information on the offer itself and/or the admission to trading.89 For each of these parts, the Regulation describes general guidelines, but issuers are free to develop short explanations and to select essential information. For securities within the scope of the PRIIPs Regulation, the issuer can replace the ‘securities’ part of the summary with the contents of the essential information document. The prohibition on incorporating information by (p. 249) reference in the summary (as prescribed by the Prospectus Directive), is maintained to prevent the summary becoming a collection of hyperlinks and cross-references.90

11.34  The Prospectus Regulation contains more detailed rules than the current Prospectus Directive on the description and number of risk factors in the prospectus.91 The risk factors featured in a prospectus shall be limited to risks which are specific to the issuer and/or to the securities and which are material for taking an informed investment decision, as corroborated by the content of the registration document and the securities note. When drawing up the prospectus, the issuer shall assess the materiality of the risk factors based on the probability of their occurrence and the expected magnitude of their negative impact. The assessment may also be disclosed using a qualitative scale of low, medium, or high. Risk factors shall be presented in a limited number of categories depending on their nature. In each category the most material risk factors shall be mentioned first. The maximum number of risk factors in the summary is fifteen.92 This requires issuers to make (hard) choices about which factors to include in the summary and is likely to lead to discussions with supervisory authorities.

11.35  Issuers and underwriters may struggle with these new rules on risk factors in the short run, and liability risks associated with the description of risks may be higher than under the current rules. The most interesting case is that a risk factor is not included in the prospectus summary, but materializes quickly after publication of the prospectus nevertheless. With hindsight, an investor (organization) could file a damages claim based on the allegation that the prospectus summary was misleading in conjunction with the prospectus. Issuers could defend against such a claim using different arguments. One would be to point to the higher relevance of other risk factors (from an ex ante perspective) that were mentioned in the summary and prospectus. In addition, in certain cases the omission in the summary could have been the result of discussions with the supervisory authority, which may serve as a justification in certain jurisdictions. Liability may also be avoided if the issuer can invoke a justification ground in national tort law, namely that it would have opted to include the risk factor in the summary, but could not do so because it was obeying a statutory requirement.93

11.36  The Prospectus Regulation empowers the Commission to adopt delegated acts, specifying criteria for the assessment of the specificity and materiality of risk factors and for the presentation of risk factors across categories. Such criteria could ease concerns about the new rules on risk factors.

6.  Publication process and access point for EU prospectuses

11.37  The Prospectus Regulation contains more detailed rules than the Prospectus Directive on the publication process. Once approved, the prospectus shall be made available to the public by the issuer, the offeror, or the person asking for admission to trading on a regulated (p. 250) market at a reasonable time in advance of, and at the latest at the beginning of, the offer to the public or the admission to trading of the securities involved.94 In the case of an IPO of a class of shares that is admitted to trading on a regulated market for the first time, the prospectus shall be made available at least six working days before the end of the offer. The Prospectus Regulation contains prescriptive rules on what is sufficiently ‘public’.95

11.38  With the entry into force of the Prospectus Regulation, ESMA will for the first time provide the free service of online access to all approved prospectuses in the EEA.96 Investors will benefit from this, because they have all information about companies with listed securities in one portal. Hopefully, this portal will be more accessible that the SEC’s EDGAR database in the US.

IV.  General Comments on the Prospectus Regulation: The Problem of the Information Paradigm

11.39  The most fundamental criticism on the (proposal for a) Prospectus Regulation has been articulated by Enriques.97 He doubts whether the proposals to reduce administrative burdens and to make the prospectus more retail investor friendly touch the heart of the problem. The European legislator still clings to the idea that a high degree of investor protection can be achieved by disclosure of detailed information that needs prior approval by a supervisory authority. Particularly for consumer investors, there is quite strong scientific evidence that they are unable to make better investment decisions by processing available information about an issuer.98

11.40  As a more cost-efficient alternative, Enriques proposes the following framework for IPOs and secondary offerings:

  1. 1.  a requirement that the price of the offer to the public will be no higher than the price set for the offering reserved to institutional investors should be introduced (it is currently just a best practice within the EU);

  2. 2.  required disclosures should cover the kind of information that securities analysts find relevant rather than working out the information needs of a mythological non-professional prospectus reader;

  3. 3.  unlike in the current framework and in the Commission’s proposal for a Prospectus Regulation, there should be no need to: (a) mandate the inclusion in the prospectus of a summary, let alone for detailing its scope, length and contents; (b) prescribe which risk factors should be highlighted and which should be omitted; (c) lay out detailed rules on how to publish the prospectus; (d) impose any language requirement for prospectuses.

(p. 251) 11.41  The third proposal in particular would reduce administrative burdens without any disadvantages for the intended readers of the prospectus. Finally, Enriques proposes a controversial step of moving away from imposing itemized disclosure and securities regulators’ pre-approval of the prospectus, based on the argument that in IPO markets there is little role to play for these regulatory tools. If insufficient information is disclosed, the securities on offer can only be sold at a discount. In case of offers directly to the investing public (without a listing), Enriques argues for maintaining the current regime as an entry barrier so that fraudulent behaviour is discouraged. Where securities are offered solely via banks, he proposes to model the disclosure rules on the existing EU rules on key information documents for PRIIPs. An alternative would be a shorter document describing the characteristics and risks attached to the financial instrument. The document’s focus should be on the investment features that are relevant to assess whether the selling intermediary has violated conduct of business regulations, such as the suitability rule or rules on conflicts of interest, and thereby has mis-sold the financial product.

11.42  We agree with Enriques that information disclosure is not a perfect instrument to achieve better investor decisions and investor protection. The ‘information paradigm’—stipulating that more disclosure leads to better investment decisions and hence investor protection—has been criticized in the scientific community. Arguably, disclosure of information via a prospectus provides a basis for investor protection, but it is necessary to think about additions and alternatives. In his Belgian PhD thesis, Van Dcyk has suggested that the information paradigm could be replaced by an intermediation paradigm.99 This means that retail investors would be obliged to be advised by a financial intermediary. The intermediary is liable for violation of written or unwritten duties of care vis-à-vis his client. This option has the obvious disadvantage of increasing the costs of investing, as advice is not given for free. We believe it is necessary to create effective investor protection via liability rules. Balanced rules for the collective redress of investment losses—taking into account both the interests of issuers and investors—would be desirable. There is a danger that liability rules that are too favourable for investors lead companies to avoid becoming or remaining listed.

11.43  We do not favour moving away from imposing itemized disclosure and securities regulators’ pre-approval of the prospectus, as suggested by Enriques. He may rely too much on perfectly functioning information markets. It would probably also be unwise to rely on an incentive for intermediaries and issuers to avoid civil liability. Moreover, the length and complexity of the language in a prospectus is driven by liability risks for the issuer and banks. To prevent an accusation of misrepresentation, they will write a lengthy prospectus. The American legislator also uses detailed provisions about the information that is to be provided. The URD and possibility of incorporation by reference only aims to simplify issuances and prevent duplication of information.

11.44  Regarding the information needs of investors, it is not really clear what the difference would be between the information needs of a ‘mythological’ non-professional investor and a professional investor. We also do not favour abolition of the mandatory prospectus summary. The public consultation on the European prospectus regime showed market support (p. 252) for such a summary. Moreover, the maximum of seven pages will not increase the costs that much, compared to the apparent need of the market for this summary.

V.  Final Remarks

11.45  The Prospectus Regulation has two main goals: reducing administrative burdens for different types of issuers, and increasing the relevance of the prospectus. Moreover, the Regulation aims to improve the alignment of the European disclosure rules.

11.46  The expansion of exemptions of the prospectus obligation, and the simplified disclosure regimes for SMEs, secondary issuances, and frequent issuers will contribute to the aim of reducing administrative burdens. Their main features are comparable to existing facilities in US securities law.

11.47  The goal of increasing the relevance of the prospectus as a source of information will only be achieved to a limited degree. The information paradigm—meaning that more or better information will lead to better investment decisions and protection—is criticized. There is no real solution in the Prospectus Regulation for the problems associated with the information paradigm. However, it has to be admitted that such solutions are not easy. US securities law also clings to the paradigm, possibly as there is not a good alternative. We think that balanced rules on civil liability and collective redress are important to protect investors on the one hand, and not make tapping into the capital markets unattractive for issuers on the other hand. In this area, improvements are possible in Europe, as Merritt Fox argues in chapter 13 of this book.100


*  Professor Dr Bas J de Jong is Professor of capital markets law, affiliated to the Institute for Financial Law, part of the Business and Law Research Centre, Radboud University Nijmegen. Professor Dr Tomas MC Arons is Professor of Financial Law and Collective Redress, Utrecht University.

1  2015/0268 (COD).

2  Council Regulation (EU) 2017/1129 on the prospectus to be published when securities are offered to the public or admitted to trading [2017] OJ L168/12 (Prospectus Regulation).

3  Council Directive 2003/71/EC on the prospectus to be published when securities are offered to the public or admitted to trading [2003] OJ L345/64 (Prospectus Directive), last amended by Council Directive 2010/73/EU [2010] OJ L327/1.

4  Article 46 Prospectus Regulation.

5  Article 49 Prospectus Regulation. Some parts of the Regulation will apply at an earlier date. The exemptions of the duty to publish a prospectus for small offerings in Arts 1(3) and 3(2) will apply from 21 July 2018, and the exemptions for certain securities admitted to trading on a regulated market from 20 July 2017. On these exemptions, see section III.1.

6  Communication from the Commission to the European Parliament, the Council, the European Economic and Social Committee and the Committee of the Regions on the Mid-Term Review of the Capital Markets Union Action Plan, COM (2017) 292 final 5.

7  See Commission Staff Working Document, SWD (2017) 224 final 18.

8  ibid 36.

9  Speech of former Commissioner Hill at the publication of the proposal (30 November 2015).

10  To put the Commission’s focus on US capital markets into perspective, it should be noted that the US is becoming ‘de-equitized’. See Maureen Farrell, ‘America’s Roster of Public Companies Is Shrinking Before Our Eyes’ The Wall Street Journal (6 January 2017 online), which reports that after the financial crisis, the equity market has become bifurcated, with a private option available to select investors and a public one that is more of a last resort for companies. The number of US-listed companies has declined by more than 3,000 since peaking at 9,113 in 1997, according to a study by the University of Chicago cited by the Wall Street Journal. Several causes are mentioned. As a result of low interest rates, big investment funds seeking higher returns are showering private companies with cash. Companies are also leaving the stock market through mergers and acquisitions. Finally, there is a lack of perceived benefits of going public, whereas the dangers are evident (inter alia, having an investor base that clamours for short-term stock gains and being forced to disclose information that could be useful to competitors).

11  See ‘Float Like a Butterfly’ The Economist (22 October 2016).

12  cf recital 7 Prospectus Regulation. See section II below.

13  See ‘Lost Passports’ The Economist (20 January 2017).

14  See Art 29 Prospectus Regulation on offers of securities to the public or admission to trading on a regulated market made under a prospectus drawn up in accordance with the laws of a third country. The UK would become such a third country after a ‘hard’ or ‘clean’ Brexit.

15  For the Bill, see <https://services.parliament.uk/bills/2017-19/europeanunionwithdrawal.html> accessed 24 October 2017.

16  See also Jelle Dinant, ‘Een nieuwe prospectusregime, het voorstel van de Europese Commissie nader bezien’ [2016] Tijdschrift voor Financieel Recht 449–57.

17  Directive 2010/73/EU of the European Parliament and of the Council of 24 November 2010 amending Directives 2003/71/EC on the prospectus to be published when securities are offered to the public or admitted to trading and 2004/109/EC on the harmonisation of transparency requirements in relation to information about issuers whose securities are admitted to trading on a regulated market [2010] OJ L327/1. See also Directive 2010/78/EU of the European Parliament and of the Council of 24 November 2010 amending Directives 98/26/EC, 2002/87/EC, 2003/6/EC, 2003/41/EC, 2003/71/EC, 2004/39/EC, 2004/109/EC, 2005/60/EC, 2006/48/EC, 2006/49/EC, and 2009/65/EC in respect of the powers of the European Supervisory Authority (European Banking Authority), the European Supervisory Authority (European Insurance and Occupational Pensions Authority) and the European Supervisory Authority (European Securities and Markets Authority) [2010] OJ L331/120.

18  See SWD (2015) 255 final (30 November 2015).

19  See the European Commission fact sheet ‘Revamping the Prospectus, the Gateway to European Capital Markets’ (30 November 2015) <http://europa.eu/rapid/press-release_MEMO-15-6198_en.htm> accessed 23 June 2017.

20  See Art 16(2) Prospectus Directive.

21  See Case C-359/12 Timmel v Aviso Zeta AG [2013] ECLI:EU:C:2014:325, Opinion of AG Sharpston ECLI:EU:C:2013:783, paras 48–59.

22  No new harmonizing measures concerning the supervision of prospectuses are introduced. ESMA is granted no new supervisory powers. See Financial Memorandum to COM (2015) 583 final 107.

23  MiFID II is not consistent with the definition of ‘companies with reduced market capitalisation’ in the Prospectus Directive. Under the Prospectus Directive the maximum market capitalization is EUR 100 million (Art 2(1)(t) Prospectus Directive as amended by Art 1(2) Directive 2010/73/EU [2010] OJ L327/1). Under the MiFID II regime the maximum market capitalization is EUR 200 million (Art 4 lid 1 sub 13 Council Directive 2014/65/EU [2014] OJ L173/349).

24  See Council Regulation (EU) 1286/2014 on key information documents for packaged retail and insurance-based investment products (PRIIPs) [2014] OJ L352/1.

25  The Impact Assessment does not indicate the factors related to the development of capital markets and to what extent these are related to the EU prospectus regime.

26  See COM (2015) 583 final 3.

27  Council Regulation (EU) 596/2014 on market abuse [2014] OJ L173/1 (Market Abuse Regulation) and Council Directive 2014/57/EU on criminal sanctions for market abuse [2014] OJ L173/179 (Market Abuse Directive).

28  See Council Regulation (EC) 809/2004 implementing Directive 2003/71/EC of the European Parliament and of the Council as regards information contained in prospectuses as well as the format, incorporation by reference and publication of such prospectuses and dissemination of advertisements [2004] OJ L149/3 and subsequent modifications.

29  See Art 1(2)(h) Prospectus Directive. Currently, seventeen Member States require a prospectus for issues not exceeding EUR 5 million.

30  Article 1(3) Prospectus Regulation.

31  The exemption to offerings with a total consideration not exceeding EUR 100,000 as provided in the Prospectus Directive (Art 3(2)(e)) has become senseless.

32  Article 3(2) Prospectus Regulation.

33  Article 3(2)(a) in conjunction with Art 25 and recital 13 of the preamble to the Prospectus Regulation.

34  The European Commission first proposed a threshold of EUR 10 million, the European Parliament lowered it to EUR 5 million, and then a compromise was reached at the level of EUR 8 million.

35  According to Elif Härkönen, ‘Crowdfunding and the Small Offering Exemption in European and US Prospectus Regulation: Striking a Balance Between Investor Protection and Access to Capital’ (2017) 14 ECFR 130, it is unlikely that Member States will opt for a more harmonized approach as a result of the changes in the voluntary threshold range (now from EUR 1-8 million). Therefore, concerns about forum shopping and cross-border impediments to access financing will continue to exist.

36  Section 3(b)(1) Securities Act 1933.

37  Section 28 Securities Act 1933. cf Thomas Lee Hazen, The Law of Securities Regulation (West 2009) para 4.16[1].

38  cf Regulation A for public offerings, on which Hazen (n 37) para 4.16 ff; SEC Regulation D (Rules 404, 405, 406).

39  See s 3(b)(2) Securities Act 1933; SEC Regulation A, Small Capital Company Formation Act (title IV).

40  See <www.sec.gov/spotlight/jobs-act.shtml> accessed 1 August 2017.

41  Article 1(4)(c) Prospectus Regulation.

42  Article 1(5)(a) Prospectus Regulation.

43  Article 4(2)(a) Prospectus Directive 2003.

44  Article 1(5)(b) Prospectus Regulation.

45  Article 15 Prospectus Regulation.

46  Article 4(1)(13) of Directive 2014/65/EU, see Art 2 Prospectus Regulation.

47  Article 15(1) Prospectus Regulation.

48  Article 15(1)(b) Prospectus Regulation.

49  Article 15(1)(c) Prospectus Regulation.

50  Article 15(1)(c) Prospectus Regulation.

51  Article 15(1)(d) Prospectus Regulation.

52  The required information depends on the size and age of the respective company.

53  On 6 July 2017, ESMA published draft technical advice on the content and format of the EU Growth Prospectus. See <http://www.esma.europa.eu> accessed 13 November 2017.

54  Article 15(2) Prospectus Regulation.

55  See eg Hazen (n 37) para 3.4[4][D]; Louis Loss, Joel Seligman, and Troy A Paredes, Fundamentals of Securities Regulation, vol 1 (6th edn, Kluwer Law & Business 2011) 533–34. A smaller reporting company is defined in Item 10(f)(1) of Regulation S-K.

56  In June 2016, the SEC proposed to raise the relevant thresholds to promote capital formation and reduce compliance costs for smaller companies while maintaining important investor protections. The public equity float threshold would be raised to $250 million, and the revenues threshold to $100 million.

57  These requirements are in SEC Regulation S-K, under the heading ‘smaller reporting companies’, and in Art 8 of SEC Regulation S-X.

58  Title II of the Act (Access to Capital for Job Creators).

59  See title III of the Act (Crowdfunding). In 2016, the SEC adopted implementing rules.

60  The European Parliament invites the Commission to strive for regulation and harmonization in this area, see consideration 12a of the preamble to the proposal for a Prospectus Regulation of 15 September 2016. On the inadequacy of EU law in this respect, see Härkönen (n 35).

61  See the Council Directive 2013/34/EU on the annual financial statements, consolidated financial statements and related reports of certain types of undertakings [2013] OJ L182/19. Article 3 of this Directive contains thresholds of categories of companies and groups (small, medium-sized, and large). See also Council Directive 2004/109/EC on the harmonisation of transparency requirements in relation to information about issuers whose securities are admitted to trading on a regulated market [2004] OJ L390/38 and the amending Council Directive 2013/50/EU [2013] OJ L294/13 with exemptions for small and medium-sized companies. Finally, we mention the IAS-Regulation 1606/2002 [2002] OJ L243/1.

62  Article 14.

63  See the Impact Assessment (n 18) 26.

64  Article 14(1) Prospectus Regulation.

65  As defined in Art 2(1)(w) Prospectus Regulation, by reference to Art 4(1)(12) of Council Directive 2014/65/EU [2014] OJ L173/349 (MiFID II).

66  In accordance with Art 7 of the Prospectus Regulation.

67  Article 14(2) Prospectus Regulation.

68  Eduardo Vidal and Jan JH Joosten, United States Securities Regulation: a Guidebook for International Companies (Globe Law and Business 2011) 51–53.

69  Article 14(3) Prospectus Regulation, which gives some specific guidance on the contents of the schedules.

70  For the requirements of this status, see Art 9(11) Prospectus Regulation. Briefly stated, it concerns issuers that draw up a universal registration statement every financial year. The URD needs to be approved by the supervisor, unless URDs for each financial year have been approved for two consecutive years. In that case, subsequent URDs may be filed without prior approval. See Art 9(2).

71  This document describes the company’s organization, business, financial position, earnings and prospects, governance, and shareholding structure. See Art 9 Prospectus Regulation.

72  See Art 10 Prospectus Regulation.

73  Article 20(6) Prospectus Regulation.

74  See the Commission fact sheet (n 19).

75  Article 9(12) Prospectus Regulation.

76  See the Commission fact sheet (n 19) and ‘Proposal for a Regulation of the European Parliament and of the Council on the prospectus to be published when securities are offered to the public or admitted to trading’ COM (2015) 583 final 18. There are concerns that incorporating annual and semi-annual financial reports in a URD will make the information less accessible to investors. Information can be spread in the URD, the URD can be updated at any time without this being clear for investors, and raises questions about the auditor’s statement. See letter from Dutch institutional investor organization Eumedion of 4 February 2016.

77  This term is derived from Jan Paul Franx, “Shelf registration” onder de Europese Prospectusrichtlijn en in de VS: wat betekent het voor issuers en underwriters?’ [2005] Tijdschrift voor Financieel Recht 48–59.

78  According to Securities Act Rule 405, a WKSI is an issuer that meets the registrant requirements of Form S-3 or Form F-3 and either has a worldwide market value of its outstanding voting and non-voting common equity held by non-affiliates of $700 million or more or has issued in the last three years at least $1 billion aggregate principal amount of non-convertible securities, other than common equity, in primary offerings for cash, not exchange, registered under the Securities Act. In addition, the issuer may not be an ineligible issuer. The thresholds were adopted by the SEC after finding that, in 2004, such issuers represented 30 per cent of listed issuers, but 95 per cent of US equity market capitalization and 96 per cent of total debt raised in registered offerings. Also, these issuers were followed by on average twelve sell-side securities analysts, suggesting that their securities trade in an efficient market.

79  John C Coffee, Hillary A Sale, and Todd Henderson, Securities Regulation. Cases and Materials (13th edn, Foundation Press 2015) 169.

80  ibid.

81  Other sources of information, such as Morningstar and Bloomberg, are often considered more relevant for picking stocks.

82  Consideration 32 of the preamble (‘Where securities fall under the scope of both this Regulation and Regulation (EU) No 1286/2014, full reuse of the contents of the key information document should be permitted in the summary in order to minimise compliance costs and administrative burden for issuers.’).

83  Article 7(3) Prospectus Regulation.

84  Article 7(3) Prospectus Regulation.

85  Article 11(2) Prospectus Regulation.

86  See Art 7(5), describing the warnings that: (a) the summary should be read as an introduction to the prospectus; (b) any decision to invest in the securities should be based on consideration of the prospectus as a whole by the investor; (c) where applicable, that the investor can lose all or part of the invested capital and, where the investor’s liability is not limited to the amount of the investment, a warning that the investor can lose more than the invested capital and the extent of such potential loss; (d) where a claim relating to the information contained in a prospectus is brought before a court, the plaintiff investor might, under the national legislation of the Member States, have to bear the costs of translating the prospectus before the legal proceedings are initiated; (e) civil liability attaches only to those persons who have tabled the summary including any translation thereof, but only where the summary is misleading, inaccurate, or inconsistent when read together with the other parts of the prospectus, or where it does not provide, when read together with the other parts of the prospectus, key information in order to aid investors when considering whether to invest in such securities.

87  Article 7(6) Prospectus Regulation. The summary shall contain a brief description of no more than fifteen of the most material risk factors specific to the issuer contained in the prospectus. In previous versions of the proposal, the maximum number of risk factors was lower.

88  Article 7(7) Prospectus Regulation.

89  Article 7(8) Prospectus Regulation.

90  Article 7(11) Prospectus Regulation.

91  See Art 16 Prospectus Regulation.

92  Article 7(7) and 7(10) Prospectus Regulation.

93  Dutch tort law acknowledges a justification for otherwise tortious behaviour if it was carried out to comply with a statutory requirement. See Art 6:162(2) Dutch Civil Code and Arthur S Hartkamp and Carla H Sieburgh, Mr. C. Assers Handleiding tot de beoefening van het Nederlands Burgerlijk Recht. 6. Verbintenissenrecht. Deel IV. De verbintenis uit de wet (Wolters Kluwer 2015) para 92.

94  Article 21(1) Prospectus Regulation.

95  Article 21(2–4) Prospectus Regulation.

96  Article 21(6) Prospectus Regulation.

98  Luca Enriques refers to Niamh Moloney, How to Protect Investors (CUP 2010) 291–96 for a summary of the evidence. According to Enriques, policymakers should recognize that disclosure obligations fulfil different roles in different contexts, referring to John Armour, Dan Awrey, Paul Davies, Luca Enriques, Jeffrey N Gordon, Colin Mayer, and Jennifer Payne, Principles of Financial Regulation (OUP 2016).

99  Tom van Dyck, ‘De Geharmoniseerde Prospectusplicht, Kritische analyse van de geharmoniseerde prospectusplicht in de Prospectusrichtlijn 2003/71/EG en haar omzettingswetten in België, Nederland, Frankrijk, het Verenigd Koninkrijk en Duitsland’ (PhD thesis KU Leuven, Die Keure 2010) para 89.

100  As Professor Wymeersch suggested during a CMU conference in January 2017 in Amsterdam, a categorization of liability cases could be useful in exploring areas for improvement.