What Does "Reflect Financial Difficulties" Mean To You?

On Monday, the Securities and Exchange Commission announced that it had adopted amendments "to improve municipal securities disclosure".  Specifically, the SEC amended Exchange Act Rule 15c2-12 which requires brokers, dealers, and municipal securities dealers that are acting as underwriters in primary offerings of municipal securities to reasonably determine that the issuer or obligated person has agreed to provide to the Municipal Securities Rulemaking Board timely notice of certain events.  The amended rule will add the following two events to this list:

  • Incurrence of a financial obligation of the issuer or obligated person, if material, or agreement to covenants, events of default, remedies, priority rights, or other similar terms of a financial obligation of the issuer or obligated person, any of which affect security holders, if material; and
  • Default, event of acceleration, termination event, modification of terms, or other similar events under the terms of the financial obligation of the issuer or obligated person, any of which reflect financial difficulties.

When the amendments were proposed, I commented:

"The term 'financial difficulties' should be defined in Rule 15c2-12.  Although the term is used in current Rule 15c2-12, I disagree with the proposing release's assertion that 'market participants should be familiar with the concept as it relates to the operation of Rule 15c2-12'.  I am not aware of any case law or SEC guidance interpreting the term. The term itself is extremely vague and open ended. Thus, issuers and their legal counsel can only guess as to what may constitute a 'financial difficulty' within the meaning of the rule."

A similar comment was submitted by others, including the American Bankers Association.  While acknowledging these comments, the SEC did not agree.  Bizarrely, the SEC took the position that "additional guidance on the term would be difficult to provide".  In effect, the SEC is saying "It's too difficult for us to figure out, but we'll be sure to let you know if we think you didn't get it right".