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To require that investors are provided with material info concerning securities offered for public sale; and 2. To Prevent misrepresentation deceit, and other fraud in the same of securities 3. Accomplished via disclosure primarily in registration statement • Registration intended to provide adequate and accurate disclosure of material facts concerning the company and the securities it proposes to sell B. Securities Exchange Act of 1934 (Order and Disclosure in After-Market) 1. Effect • Extended the disclosure doctrine of investor protection to securities listed and registered for public trading on national securities exchanges • Also applies to over the counter market if company has more than $10M in assets and more than 500 investors 2. Corporate Reporting • Must file a registration statement with the exchange and the SEC 3. Proxy Solicitations • Governs soliciting proxies • Solicitations whether by management or shareholder groups must disclose all material facts concerning matters on which holders are asked to vote • Holders must be given an opportunity to vote “yes” or “no” on each item 4. Tender Offer Solicitations • Reporting and disclosure provisions extended to situations where control of a company is sought through a tender offer or other planned stock acquisition of over 5% of a company’s equity security 5. Insider Trading • Prohibitions are designed to curb misuse of material confidential information not available to the general public 6. Regulation of brokers and dealers C. State Blue Sky Laws 1. Analogous to the ’33 and ’34 Act 2. Preempted by federal legislation (sometimes)
D. Sources of Federal Securities Law 1. Statutes at Large (more legit than USC) but most people rely on BNA, CCH etc. 2. SEC rules and other pronouncements 3. Policy and interpretative releases 4. Staff Legal Bulletins 5. Interpretive and No-Action Letters E. How Securities Are Marketed and Sold 1. Private/Small Entities a. Form sole proprietorship, partnerships (general, limited, limited liability), limited liability corporation b. Unique contractual relationships c. Methods by which securities get to public and trade in aftermarket (1) Distribution process in which capital is raised by issuer through placement of security (2) Aftermarket secondary market where not capital is raised for the corporation 2. Public/Large Entities a. Form some are limited partnerships, but most are corporations b. Standard contractual relationships c. Methods to get securities to public and trade in after-market (1) Distribution • Issuers approached by a “lead” underwriter (like banks) who would act as an agent for an underwriting group, typically a lead underwriter will approach issuer and then assemble the group • Lead underwriter interfaces between issuer and underwriting group • All members of underwriter group are responsible for contacting dealers • Underwriters sell to dealers who in turn sell to the public (2) After-Market public trading securities among itself (price does not directly effect company but effects price at which they can later sell to public) F. Context of 1933 Act Registration 1. Underwriters a. General Definition function of helping a company or one or more of its major shareholders, sell securities to the public through an offering registered under the Securities Act b. Firm Commitment Underwriting underwriter purchases securities from a company at an agreed price and then attempts to sell to public for a profit (risk on underwriter)
2. 3. 4.
Best Efforts Underwriting underwriter agrees to use its best efforts to sell an agreed amount of securities to the public, risk remains with issuer, done primarily with small underwriters d. Standby Underwriting used in “rights offerings”, company directly offers its existing security holders the right to purchase additional securities at a given price and the uw agrees to purchase from the company any securities that are offered to the security holders but not purchased by them Dealers • Refers to a firm when it buys and sells securities for its own account (takes and gives title) Brokers • Refers to a firm when it buys or sells as an intermediary for a customer rather than taking or giving title itself Investment Banking • Usually handles the underwriting business • Comparison with commercial bankers who make loans and hold depositor’s funds because Glass-Stegall Act revoked, commercial banks can not have affiliates who underwrite (but are not suppose to use depositors funds) • Functions: a. assisting companies in the sale of securities, almost always in large amounts to private purchasers such as insurance companies b. finding acquisition partners for companies that wish to acquire or be acquired by others c. giving financial advice of various sorts Secondary Market a. Process for getting securities on exchanges (1) List will contact desired exchanges and sell them on the exchange • Need to satisfy certain requirements – disclosure • Very stringent/rigorous requirements, the more prestigious the exchange is (2) Once list privileges are granted, can contact members of the exchange (3) Function if willing buyer and seller, can contact members of the exchange Exchange Vocabulary a. Specialist Post – if want to sale a security that is specialists; subject to certain exchanges’ regulations, subject to SEC approval, need to maintain an orderly market • Function matching unless an unorderly market – then specialist may be required to purchase/sell Over the Counter Vocabulary a. Market Maker dealer than functions in the trading market by maintaining an inventory of a particular company’s securities and
Types of Regulations (1) Merit-Based requires state officials to read info and determine its suitability of securities • Not used much anymore except for in “problem markets” (2) Disclosure-Based will require filing of basic business information (federal securities laws) (3) Notice-Based just need to send notice that will sell or trade b.holding itself open. Self Regulated Organization • Both market makers and brokers are regulated under the 1934 Act and are required to be members of an SRO • Has rules and regulations regarding conduct of brokers and deals that are subject to SEC approval • Self-funded • NASD is an SRO 8. Regulation subject to rigorous regulation by SEC pursuant to 1934 Act c. Broker agent who acts on their client’s account c. Process • Buyer goes to brokerage – brokerage will communicate that desire to a floor trader – member or floor trader will go to a specialist post • Seller will contact her broker about purchasing – seller’s broker will communicate to a floor trader – they will go to specialist post and hopefully transaction takes place • Specialists perform matching function 9. Preemption Law of 1988 forced state regulation into a notice based system for most areas 4 . Exchange a. now we have electronic bulletin boards • Market Maker regularly advertised self as willing to buy or sell x security and usually lots of mm’s per security b. on a continuing basis. as willing to buy and sell those securities b. do the transaction with them?????? 10. Form physical location b. Process • Buyer goes to broker and broker goes to mm • Seller goes to broker and broker goes to mm • Mm lacks the matching function. Over-The-Counter a. State Blue Sky Regulation a. Form everything except selling/buying of securities not listed on an exchange • Pink Sheets advertisements.
liquidity for present S/H. registrar fees. Size of Deal for Underwriters 5 . Selection factors for agent underwriter • Reputation and ability to distribute • Ability to advise • Ability to provide financial services following the offering • After market performance of the security • Experience in the company’s industry 13.c. Typically done by a specialist in a law firm in a large financial center 11. When • Company’s earning and financial performance • Size of company b. printing costs. accounting fees. indemnity insurance) • Additional obligations of public companies • Market expectations • Loss of control • Higher estate tax valuation 12. Timing of Going Public and selection of underwriter a. employee incentives. shares may have greater value • Future capital on more favorable terms • Prestige b.$10M • Only want to sell 25% of the company • Logical price is 2.3M • $10M is value of corp. legal fees. registration and Blue Sky fees. Situation 2 a. Reasons for Going Public a. Advantages • New capital • Obtain negotiability – acquisition of companies. • giving up 33% of company c.5M b/c not is likely to pay $10M for 25% control of something that is worth $10M • Decide they are willing to sell $3. Disadvantages • Expense of going public (underwriter’s fees – 7-10% of public offering price. Scenario • Product specialized computers with specialized software • Corporation has two shareholders • Want to raise capital b. Interests • Size of company .$10 million + ultimate sales price • How much do you want to raise .
. Relevant Provisions • §5(b) B. . to offer to sell or offer to buy through the use or medium of any prospectus or otherwise any security.• • I. no sales) a. Related Issues • What is a sale §2(a)(3) 2. unless a registration statement has been filed as to such security . Relevant Provisions • §§5(a). Post Effective Period a. Pre-Filing Period Prohibitions 1. §5(c) no offers a. Pre-Filing Period (Basic Rule no offers. or • To carry any such security for the purpose of sale or for delivery after sale b.(b)(1) 3. General Vocabulary and Applicable Statutes 1. Relevant Provisions • §§5(a). Waiting Period a. it shall be unlawful for any person. Definition • Period after registration statement becomes effective b. directly or indirectly – • To sell such security through the use or medium of any prospectus or otherwise. Basic Meaning • Prohibits the sale of securities unless a registration statement has become effective (at the end of the waiting period) and no sale or delivery for purposes of sale before the effective date c. Definition • Period after registration statement has been filed but has not become effective b. §5(a) no sales a. .(c) 2. Statutory Language • Unless a registration statement is in effect as to a security. 6 . Big Underwriters-$5M+ deals only Regional underwriters will take smaller dals 1933 Act Registration A. . Definition • Period before registration statement is filed b. Statutory Language • It shall be unlawful for any person .
What is an Offer? a. 3844 • A public sales campaign is only unlawful when it involves an offer as defined in the Act • General attempts to stir up market interest can be an offer even if do not mention actual offer before filing • “priming the pump” • “gun jumping” • Example 1 underwriter sent brochure describing in glowing possibilities of market. clearly was the first step in a sales campaign to effect a public sale of a security violation 7 . a security or interest in security. As a result. Conditioning the Market (1)Generally • In the pre-filing period. it is not legally possible to begin a public offering or initiate a public sales campaign (2)Securities Act Release No.c. Related Issues • What is an offer §2(a)(3) • Rule 135 safe harbor from definition of “offer • SEC releases 3844 and 5180 3. it is not possible to avoid the “no offer to sell” prohibition of §5© by phrasing an offer in terms of a solicitation of an offer to buy c. no reference to issuer. Offer to buy • The solicitation of an offer to buy is considered an offer to sell. Section 2(a)(3) a (1) Statutory Language • The term “offer to sell”. security or particular financing. General Interpretation • Definition read broadly and includes things that may not have been considered an offer at common law including conditioning the market for the securities to be sold d. Basic Meaning • Cannot offer before filing a registration statement d. contained name of underwriter • Intent was to stimulate interest. “offer for sale”. for value • Not a complete definition b/c says “shall include” b. or solicitation of an offer to buy. or “offer” shall include every attempt or offer to dispose of.
projections. and opinions. by arousing and stimulating investor and dealer interest in the securities . 5180 (1971) (a) Publicity • While a publicly held company may not legally initiate publicity that is for the purpose of facilitating the sale of securities a business as usual general publicity effort probably does not run afoul of §5(c) (b) When information is requested by shareholders • Factual information should be provided • Responses involving predictions. and mentioned the names of the two managing underwriters • Did not directly offer to sell any securities (b) Holding • Publicity of this type and in this situation must be presumed to set in motion or to be a part of the distribution process and therefore involved an offer to sell or a solicitation of a n offer to buy • Such release and publicity was of a character calculated. decided to give into to interested customers etc. Rhoades & Co. related the company’s development plans in general. then the company began filing out a registration statement • Scheduling of speech had not been arranged in contemplation of a public offering • No violation but printed copies should not be received by a wider audience or given out at speech • (3) In Re Carl M Loeb. forecasts. . outlined the proposed securities offering. but info was misleading violation • Example 6 President at co.Example 4 underwriter distributed to NASD members company info. was asked a year in advance to give a speech about company and industry.. to set in motion the process of distribution (4)Securities Act Release No. (1959) (a) Background • Underwriters put out press release before reg. stmt. . filed • Described the property involved. issuer and prospects. concerning value are not acceptable (c) Generally 8 .
(b) SEC Response • During the period that an issuer is in registration. etc. brokers. Exceptions to Definition of “Offer” (1)§2(a)(3) (a) Statutory Language • Offer shall not include preliminary negotiations or agreements between and issuer (or agent) and any underwriter or among underwriters who are or are to be in privity of contract with an issuer (b) Effect • Exception is limited to underwriters – does not cover dealers • Company can find an underwriter in pre-filing period • Managing underwriter can talk to other securities firms to gauge their interest in joining underwriting syndicate • Managing underwriter cannot begin to assemble the dealer group at all (2) Rule 135 Notice of Certain Proposed Offerings (a) Statutory Language 9 . 5180 • Activities may give rise to “priming the market” argument especially when issuer starts them right before registration process begins (these issuers should stop). issuer need not stop activities • Activities desirable b/c have eventual effect of conveying useful information to investing public • Type of information should still conform with No. but issuers who have a history of doing this would generally seem to have a sound basis for refuting a “gun-jumping” inference e. • Want to know if should stop this when start registration stmt.• New advertising campaign might raise questions especially when it is presented in media that seem calculated to reach investors rather than merely customers • Lawyer needs to focus on the real reason for a particular action (5)Interpretive Letter Request and Response (a) Companies Activities • Initiate and maintain periodic meetings with securities analysts.
but if friend then telephones for more info probably have the jurisdictional means b/c offeror reasonably could have foreseen the use of the telephone by the offeree 10 . and basic terms of the securities. Jurisdictional Means • Language in §5(a) and §5(c) • “means or instruments of transportation or communication in interstate commerce or of the mails” • Interpretation • Very broad • Any use of the telephone satisfies the requirement • If offer at the country club. any purchase of securities or any other thing. a notice given by an issuer that is proposes to make a public offering of securities to be registered under the Act shall not be deemed to offer any securities for sale if: (1)notice says that offering will be made only by means of a prospectus. or as a bonus on account of. an offer exists. but the issue or transfer upon the exercise of such right shall be deemed a sale of the security • The underlying security does not have to be registered originally when the conversion or exercise cannot occur immediately. amount. shall be conclusively presumed to constitute a part of the subject of such purchase and to have been offered and sold for value (2) Options • Options/convertible securities/warrants shall not be deemed to be an offer or sale. anticipated time of offering. brief statement of the manner and purpose of the offering without naming the underwriters f. but rather can only tae place at some point in the future • At the time the conversion or exercise can occur. probably not satisfied. amount of offering. Special Situations (1) §2(a)(3) • Any security given or delivered with. and the filing of a registration statement or the availability of a registration exemption is required g.• For purposes of §5. and (2)Contains no more than the following additional language: • Name of issuer • Title.
• If take money in anticipation for subsequent sale. or communication. letter. §5(b)(1) no prospectus unless a §10 prospectus a. written or by radio or 11 .C. circular. they went beyond the permissible scope of the Act. Prospectus Definition (§2(a)(10)) (1) Statutory Language • “Any prospectus. to carry or transmit any prospectus relating to any security with respect to which a registration statement has been filed under this title. . this is a sale within definition and will be a violation should return money promptly or say do not intend to apply to sale of stock until some even and they don’t get any priority then possibly okay 2. notice. §5(a) no sales or deliveries a. statutory language • Unlawful for any person . b. Defining a Sale (1) Statutory Definition (§2(a)(3)) (not complete definition) • “the term ‘sale’ or ‘sell’ shall include every contract of sale or disposition of a security or interest in a security for value” • read liberally (2) Significance of Including “contract of sale” • In the waiting period. . Prohibits no sales and no deliveries b. Waiting Period 1. certain offers may be made. When an offer is accepted a contracts is created and §5(b)(1) is violated b/c a sale has occurred • Cure offerors should condition their offers in such a way that they cannot be accepted until the registration statement is effective (3) In Re Franklin. Meyer & Barnett (a) Background • Salesmen accepted checks sent by customers in payment for offered shares • Sales sold other securities for customers and held the proceeds for application against the purchase price of the offered shares (b) Holding • Salesmen accepted orders for stock during the waiting period • Although they initially invited indications of interest in the form of checks and the proceeds of the sale of other securities. unless such prospectus meets the requirements of section 10. advertisement.
television. which offers any security for sale or confirms the sale of any security” • Basically a written offer or a confirmation of sale (but because §5(a) prohibits sales during the waiting period. but same danger when talking live that someone will transcribe • If transcription instigated by offeror writing • If instigated by oferee not writing 12 . or any means of graphic communication (b)Oral Announcement by President that if in writing would be a Prospectus • When a reporter incorporates the announcement in an article. telephone or cable when the request was justified in terms of the restricted character of the recipients and the limitations on their ability to record and retransmit the information received (f) Email • Constitutes a writing • Notion is that if it is a graphic thing it could be broadly disseminated to those who do not directly communicate with offeror (therefore cannot tell his credibility) • If cannot be saved or printed. SEC regards as an oral communication (g)Voicemail • There is a danger that it will be written down and disseminated. the president has made an offer that is written • President caused the writing and that is enough to make the offer one that is by means of a prospectus (c) Answers to Press Inquiries (d)Calling Customer with Offer (e) SEC “no action” responses • SEC has taken “no action” positions with respect to certain transmissions by various broadcast mechanisms (including satellite. lithographed. not concerned with affirmations of sales) (2) Offers • If something is not an offer (use analysis from above) then it is not a prospectus and will not violate §5(b)(1) • Remember Rule 135 which deems something to not be an offer (3) “Written or By Radio or Television” (a) Definition of Write (§2(a)(9)) • Printed.
(d) can be done • (a) may include and will not be a prospectus • (b) is stuff included in (a) must put the stuff in (b) • Must include disclosures in (b) unless have (c)(i) or (c)(ii) (6) Rule 134a • Highly specialized rule providing that certain written material relating to standardized option are not deemed a prospectus (7) Rule 135 (detailed in pre-filing period) (a) Statutory Language • Certain notices “by an issuer that it proposes to make a public offering of securities to be registered under the Act shall not be deemed to offer any securities for sale” (b) Possible Application • Thrust of rule is toward the pre-filing period • “proposes to make a public offering” once file a registration statement you really are no longer proposing a public offering • “to be registered” technically securities are still to be registered during the waiting period but term may be used in a somewhat loser sense • Usually it does not matter because can use Rule 134 (8) Possible Impact of Gustafson v.(4) Exceptions (§2(a)(10)(b)) • Things above will not be a prospectus if it states (1) from whom a written prospectus meeting the requirements of section 10 may be obtained. and if its terms are followed. and does not more than (2) identify the security (3) state the price thereof (4) state by whom orders will be executed (5) contain other info as SEC deemed necessary in the public interest and for the protection of investors (5) Rule 134 Communications deemed not a prospectus (1) Basic Idea • If communication complies with this rule then it will not be a prospectus (2) Basic Structure • (a) can be done if (b) is done. Alloyd (See chapter 8) • Defines a prospectus as a document used in a public offering to sell a security by an issuer or controlling shareholder 13 . but (b) does not have to be done if either (c)(I) or (c)(ii) is done.
or after the filing of any amendment. Preliminary Prospectus Delivery Requirements Rule 460 and Acceleration (1) Needed in order to “accelerate” Sec.c. but SEC will accelerate. (b)Done through Rules 430 and 431 (c) Rule 430 Preliminary Prospectus (i) Basic Idea • Allows the use during the waiting period of a preliminary prospectus (ii) Requirements • Will meet the requirements of §10 for purposes only of §5(b)(1) if contains substantially the information required by §10(a) except does not have to include information on offering price. dealer discounts/commissions. 14 .” with some exceptions (b) a prospectus does not comply with this when it contains blanks where required information is to be added by amendment (c) it may be possible for the prospectus as originally filed to comply with Section 10(a). or other matters dependent upon the offering price (d) Rule 431 Summary Prospectus (1)Basic Idea • Allows the use of “summary prospectuses” in waiting period • If prepared and filed with registration statement it is deemed to be a prospectus permitted under section 10(b) (2)Requirements • Page 126 of Supplement d. 4968 • Why acceleration needed Act provides that a registration statement becomes effective twenty days after filing. call prices. Act. Rel. underwriting discounts/commissions. amount of proceeds. conversion rates. No. Section 10 Prospectus (1)Section 10(a) Prospectus (a) prospectus “shall contain the information contained in the registration statement. but usually certain information is unknown (so usually Section 10(a) prospectus is not available in the waiting period) (2)Section 10(b) Prospectus (a) Gives SEC authority to permit the use of a prospectus that omits or summarizes information required by Section 10(a).
the rules require an affirmative act on part of issuer to get it in the hands of underwriters. 15 . • Can do if customer agrees to this in advance and it will count as sending preliminary prospectus D.• Under Rule 460 will not accelerate the effective date of a registration statement unless distributed to underwriters and dealers who it is reasonably anticipated will be invited to participate in the distribution • If issuer is not s. Section 5(b)(1) no prospectus unless §10 prospectus a.t. requires underwriters and dealers to deliver copy to any person who is expected to receive a confirmation of sale at least 48 hours prior to the mailing of such confirmation • Required underwriters and dealers to take reasonable steps to furnish copies of the preliminary to any person who makes a written request for a copy. Post-Effective Period 1. What is a prospectus? • See Waiting Period analysis • If something is considered a prospectus it must also meet the requirements of Section 10. reporting requirements of §13 or §15(d) of ’34 Act SEC will consider whether they have taken reasonable steps to furnish them to those persons who may reasonably be expected to be purchasers of securities • If it is inaccurate or inadequate acceleration will be deferred until SEC assured correcting material has been distributed (2) Rule 15c2-8 • If do not do these things it constitutes a deceptive act or practice under Exchange Act Section 15(c)(2) • When offerings made by issuers that are not subject to the reporting requirements of Exchange Act. • Requires underwriters and dealers to furnish copies to salesmen (3) Posting on website • While this provides access. Statutory Language • Cannot use a prospectus unless it is a Section 10 prospectus • Usually only a final prospectus called for by Section 10 will satisfy b. Underwriter must furnish enough copies to dealers to get them to customers. dealers etc.
Securities and confirmations of sale can be delivered if accompanied or preceded by a final prospectus. . certificate representing security • In security definition. to carry . when accompanied or preceded by a final prospectus d. Sales may be made (5(a)(1) no longer applies) f. . e. What is a delivery? (1) What is meant by security? • Security vs. Offers may continue to be made under exception (b) to section 2(a)(10) and under Rules 134 and 134a. • Summary prospectus can never fulfill this requirement b. Written offers may be made by means of the final prospectus c. Written offers can be made by free writing. Section 5(b) and Defective Prospectuses a. Exception When a communication is not a prospectus • A communication is not deemed a prospectus when it is accompanied or preceded by a Section 10(a) prospectus • “Free Writing” term used to describe communications allowed by this exception 2. What prospectus must be used? (1) In the post effective period the only prospectus that satisfies the requirements of Section 10 is the final prospectus call for by Section 10(a). General Information 16 . . 75) 3.such security for the purpose of sale or for delivery after sale. (2) When can you use Summary Prospectus? Rule 431 • Can never be used as a §10(a) prospectus for purposes of §5(b)(2) d. Oral offers can be made (§5(c) does not apply anymore) except in the case of a registration statement that is the subject of a stop order or of a public proceeding instituted before the effective date b. What can now be done? a. 4. unless accompanied or preceded by a Section 10(a) (final) prospectus. referring to actual security and not evidence of interest in a security (2) So even though cannot actually deliver a security must still send prospectus when send certificate representing security (pg. .c. Section 5(b)(2) no sales unless accompanied or preceded by §10(a) prospectus a. Statutory Language • It is unlawful for any person .
Final Prospectus Delivery Requirements a. certificate representing security • In security definition. Rule 15c2-8 (1) final prospectus’ are to be furnished to sales personnel and to other persons on written request. SEC v. d. 75) b. 5. §5(b)(2) requires prospectus be delivered with a security (1)What is meant by security? • Security vs. • Therefore. Dealers Section 4(3) (1)General Rule • Must deliver final prospectus when they sell securities that have been registered within the previous forty or ninety days regardless of how may time the securities have changed hands in the trading markets (2)Specific Times • 40 days applies when the issuer of security has previously registers other securities under the Securities Act (baseline rule) 17 .• Section 5(b)(1) allows the use of a prospectus that meets the requirements of Section 10 • Section 5(b)(2) requires that a Section 10(a) prospectus accompany or precede the delivery of a security b. which did not meet the requirements. because the prospectus was not a §10(a) prospectus they violated §5(b)(2) b/c delivered securities for sale accompanied by a prospectus. Confirmations of Sale (1)underwriters and dealers usually deliver to customer written confirmations of sale when agree to buy (2)§2(a)(10) defines a written confirmation as a prospectus (3)Because this is a prospectus it must meet the requirements of §10 c. and if not they are considered a fraudulent etc. Manor Nursing Centers (1972) (also applies in waiting period) • A prospectus does not meet the requirements of §10(a) if the information required to be disclosed is materially false or misleading. referring to actual security and not evidence of interest in a security (2)So even though cannot actually deliver a security must still send prospectus when send certificate representing security (pg.
Made Public . to the extent that such exemption is necessary or appropriate in the public interest. Registration Process 1. or transaction . . Signers of Registration Statement • Each issuer.t. When Prospectus Defective or False or Misleading 2 Ways to Correct a. How to Register (Section 6) a. . SEC General Exemptive Authority (§28) • SEC may conditionally or unconditionally exempt any person. security. under Rule 424(b) send or file ten copies of the new form of prospectus with SEC before it is used (when small corrections) 7. Effectiveness • Registration statement is only effective for those securities proposed to be offered in the statement d. . s.§6(d) 18 . and is consistent with the protection of investors E. won’t take place unless sent with certified bank check or cash for fee e. issuer may file a post-effective amendment (amended prospectus or supplement to prospectus b.§6(c) • Filing takes place when it is received • But. . still has to deliver prospectus (Rule 174) • 6.25 days (Rule 174) if security will be authorized to trade on NASDAQ immediately upon issuance (automated quotation system) • 90 days if securities of the issuer have not previously been sold pursuant to an earlier effective registration statement (1st public offering) • No delivery requirement if security issued by co. Security may be registered by filing a registration statement (in triplicate) with the SEC b. comptroller or principal accounting officer. principal financial officer. majority of board of directors or persons performing similar function • Everyone who signs is subject to liability under §11 for any material misstatement or omission c. reporting requirements of Exchange Act prior to the filing of the registration statement to which the prospectus relates • When must always deliver If dealer decides to hold onto some shares and sells a few months later at market price. When Effective . from any provision . the principal executive officer.
Schedule A • Must contain info requested in this form and accompanying documents b.§7 a.• Information in statement is made public (very hard to keep it confidential) 2. Power to Investigate . Power to Issue Stop Order . Information required in registration statement . SEC Powers in Registration Process a. Power to Issue Refusal Order .§8(e) (1)SEC has power to examine it order to determine whether a stop order should be issued (2) Effect Under §5(c) makes it unlawful to offer to sell securities while the statement is under examination under this section (also unlawful when subject to a stop or refusal order) (3)If SEC begins the examination after effectiveness. Stop Order v. Refusal Order • Refusals are rarely used b/c requirements are tougher than stop order and stop orders may be used in the place of refusal orders 19 . Changes • SEC has authority to add or subtract information requirements c. can still make offers (unless effectiveness is suspended) b.§8(b) (1) SEC can issue an order prior to the effective date of registration refusing to permit the statement to become effective until it is amended (2) Standard • Can issue when on its face incomplete or inaccurate in any material respect d. Forms 3.§8(d) (1) SEC has power to issue a stop order suspending the effectiveness of the registration statement • Can be issued before or after the effectiveness and may even be issued long after all securities covered by statement have been sold (2) Standard • If statement includes any untrue statements of a material fact or omits to state any material fact required to be stated or necessary to make the statements already in it not misleading c.
issuers and underwriters want to control date of effectiveness to get most beneficial date • Therefore. (2)Holding • A court may compel the SEC to make a determination within a reasonable time whether to notice a hearing on the issuance of a stop order under section 8(d) where the SEC has ordered an examination under section 8(e) prior to the effective date of a registration and the determination whether a stop order should issue has unreasonably delayed • If unreasonable time Court can order SEC to hold hearing and decide whether the issue a stop order 4. Section 8(a) When Reg. Delaying Language and Acceleration Process a. the twenty day waiting period starts over again b. Why Acceleration is Needed • Usually registration statement needs to have added to in information that cannot be determined twenty days in advance (when amend start 20 days all over again) • In addition. Avoiding Automatic Effectiveness (1)Must amend registration statement before twenty day period runs (2)Rule 473 • Issuer may include a paragraph on cover of registration statement that effects its continuing amendment • Keeps 20 days constantly starting over again until it is removed (after removed acceleration is requested) d.e. Las Vegas Hawaiian v. but cannot make any offers • During this period LV cannot make any offers • Issue whether §8(e) can be utilized by SEC to delay indefinitely the sale of securities under an effective registration statement. Acceleration 20 . SEC (1979) (1)Background • SEC initiates a §8(e) investigation prior to effectiveness and just sits on it • Registration statement becomes effective. Becomes Effective • Registration statements are effective twenty days after filed or earlier if SEC allows • If issuer files an amendment. getting around automatic effectiveness and 20 day waiting period after amendment is a necessity c. Stmt.
only have to comply with the statute and SEC cannot force you to do undertakings 5.$75M) d. directors and other controlling the issuer being indemnified by the issuer for liability (says against public policy and therefore unenforceable) • Whether the SEC is making an investigation of the issuer etc pursuant to and Acts administered by SEC (3) Phoenix Steel • Undertakings are only required if want acceleration • If willing to wait twenty days.(1) General SEC Power • Because issuer wants to accelerate and SEC has power to do or not to grant it. Form SB-1 and SB-2 • Easier forms for smaller issuers • Requirements of financial statements are more easily met 21 . Registration Statement Forms a. Form S-3 • Need ’34 Act history and public float of certain amount (certain amount of equity security in non-affiliates . Form S-1 • General. catch all form that is used when no other form authorized or prescribed • Most extensive disclosure b. Form S-2 • To use must meet certain tests (issuer must have filed Exchange Act reports for a specified number of months (have some ’34 Act reporting history). is uses the threat of denial to force actions not required by the statute (2) Rule 461 Undertakings (a) General Effect • Contains a list of factors SEC will consider in deciding acceleration requests • Some are required generally while others are price of registration (b) Considerations • Whether a preliminary prospectus was delivered during the waiting period • Indemnification SEC disfavors officers. and its most recent history must be free of defaults on indebtedness and missed preferred stock dividends) • Registration statement will be a combo of spelled out disclosures and incorporation by reference of information from Exchange Act sources c.
no multiple negatives F. active voice. Effect • Make registration statements more simplistic and less time consuming • Shelf Registration allows issuer to incorporate ’34 Act disclosure by those already filed but also those that they will file in the future (SR would be almost impossible without it) 8. Rule 415 Shelf Registration • Allows the registration of securities that are to be offered on a continuous or delayed basis • Companies that meet the requirements for use of Form S3 are essentially allowed to use this as they please • ’34 Act company can do and others can also do in specific transactions 7. Rules.• SB-2 available for offering of securities for cash by a “small buiness issuer” which is a co.. Disclosure Requirements (Chapter 4B and 4C) 1. Regulation C – Rule 408 • “in addition in info expressly required . Regulations. Plain English Requirement – Rule 421(d) • Issuers must prepare the front and back cover pages of prospectuses. In Re Universal Camera Corp. that has annual revenues of less than $25M • SB-1 available for small business issuers for offerings up to $10M for cash within 12 months 6. there shall be added such further material information as necessary to make required statements not misleading” • basically anything material must be disclosed 9. other than an investment co. no legal jargon etc. Integrated Disclosure a. bullet lists for complex material. and Industry Guides a. in plain english • Must comply with six basic plain english principles (short sentences. Shelf Registration a. as well as the summary and risk factors sections. . Regulation S-K • General repository of disclosure requirements (S-B for small businesses) b. definite concrete everyday words. (1945) 22 . General Rule • Securities may generally not be registered unless there is an intention to offer them in the proximate future (§6(a)) b. Meaning • If can use S-2 or S-3 can incorporate by reference information contained in their ’34 Act disclosure b.
a. Background • Omitted facts regarding the financial structure of deal (transfer of money from old investors to new investors) • Touched only lightly on competitive conditions b. Holding • Must be able to provide support for every assertion • Avoid vagueness and too much optimism • Disclosure should be plainly understandable to the ordinary investor (even if enough information there for expert to figure something out, this is not enough) • Must spell out full implications of offering including dilution (dilution may not be a deal killer b/c future earnings may justify paying more) 2. In Re Texas Glass Manufacturing Corp. (1958) a. Issue • Determine whether a stop order should issue material fact? b. Holding • Standard of Materiality SEC does list some things but does not talk about crimes previously committed. If not listed follow generic materiality standard (would a reasonable investor find it important in deciding whether to buy) • Management Integrity and honesty generally courts say investors don’t care and therefore not material • When dealing with risk factor disclosure, consider what public wants to know and possible impact of dilution when list too much. 3. Why have disclosure requirement v. merit regulation a. Issues of Paternalism b. Existence of other ways to regulate merits (state blue sky laws) c. Special Interest Legislation (lobbying effects Congress) d. Enforcement Costs very time consuming and maybe less effective e. Government competence someone is SEC rather than Congress may prevent an industry from getting started b/c feel too risky 4. Why require disclosure? a. More efficient way of providing information b. If do not require it, those who want it will have to get it with separate negotiation and bargaining if make mandatory it is available with extra costs and bargaining c. Who then uses it? • For the small investor, hard to understand. Even if can understand, by the time they do everyone else has read it
and market already reflects actual worth. Small investor cannot beat the market. • Institutional investors use it but do not solely rely on it, also call co. Prospectus is superficial and does not give info on future plans that will effect future value. • Hard to produce something that is useful by big investors but good also for small investors. d. Why have it at all then? • Hard to get rid of • Investor confidence people think SEC is encouraging truthful and complete disclosure 5. Efficient Capital Market Hypothesis a. Weak Form • “random walk theory” the price of a security yesterday does not say anything about the price of the security today or tomorrow (market will react to new information) b. Semi-Strong Form • Market immediately reacts and incorporates all publicly available information • Market price of a security at any time has been affected by all of the publicly available information • Small investors, therefore, cannot beat the market c. Strong Form • Market immediately reacts to all information, public or private • Price of security affected by public and inside information so that even insiders cannot make money with their inside information • Even insider trading effects market price putting security in right direction II. Definition of a Security A. Statutory Definition (Section 2(a)) Is it specifically listed? • Unless the context otherwise requires: • The term security means any note, stock, treasury stock, bond, debenture, evidence of indebtedness, certificate of interest . . . investment contract, voting-trust certificate . . . or in general any interest or instrument commonly known as a security or any certificate of interest or participation in . . . any of the foregoing. 2. Investment Contract 1. SEC v. W.J. Howey Co. (1946) a. Background • Orange groves were divided and sold in rows of trees – sold land and service contract
• Company set up trees and harvested etc. • When buy land, 85% enter into service contract with a sibling company (relationship between land and service co. is irrelevant) • When buy land, could not use as you please, had to grow trees b. Holding • This is an investment contract therefore, a security • Investment Contract Test whether the scheme involves an investment of money in a common enterprise with profits to come solely from the efforts of others • Four Elements (1) investment of money (2) common enterprise (3) expectation of profit (4) solely from the efforts of others • Quoted Rationale • They are offering an opportunity to contribute money and to share in the profits of a large citrus fruit enterprise managed and partly owned by respondent. . . . The offered tracts gain utility as citrus groves only when cultivated and developed as component parts of a larger area. A common enterprise managed by respondents or third parties with adequate personnel and equipment is therefore essential if the investors are to achieve their paramount aim of return on their investments • Ct held that the Ks sold by Howey were securities b/c it was part of common scheme b/c each tract had no individual purpose, purchased w/ expectation of profit (not in anticipation of moving to FL), primarily from efforts of others b/c out of state purchasers could not water themselves. c. Distinguished from selling entire farm coupled with management services • Power of investor may be a distinguishing factor • When buy entire farm more control (can fire manager or build on land) • Page 130 d. Diamond Seller Hypothetical (1) Background • Buy diamond and diamond dealer keeps them • Dealer says diamonds will go up in value (2) Analysis • Not an investment contract
not a security • This does not mean you can get around securities laws by paying out in things in kind (if pay in oranges may still be in it for a profit and will still be a security) • Two additional arguments by plaintiff (1) Deductibility for tax purposes • Rejected b/c “no basis in law for the view that the payment of interest with deduction constitutes income or profits” 26 . the dealer is not putting in effort. as is it what its name implies? • Characteristics of a security/stock • Dividends contingent upon an apportionment of profits • Negotiable • Can be pledged or hypothecated • Confer voting rights in proportion to the number owned • Can appreciate in value • Expectation of Profit • Means either capital appreciation resulting from the development of the initial investment or a participation in earnings resulting from the use of investor’s funds (investor attracted solely by the prospects of a return on his investment) • When purchaser is motivated by desire to use or consume. 2. The rise in price is due to purely market forces.• Even though investing money with expectation of profit. Expectation of Profit (Forman) a. Background • People in need of housing were offered shares of stock entitling them to state subsidized nonprofit housing • Stock nontransferable and when sold back bought at original offer price • Project leased commercial space to third parties with any income derived to be used to reduce the rent on the housing units b. Court’s Decision Not a security • Use of name “stock” was not determinative “form should be disregarded for substance and the emphasis should be on economic reality” • Does is have the characteristics congress intended for a security? • If the item is specifically listed.
but does have to be valuable consideration • Expectation of Profit from Common Enterprise • Expectation of profit must stem from use of investor’s funds 27 .• Any homeowner can do this • Deductions from tax shelters may be considered profit in lower courts (2) Discounted Rental Charge • Benefit cannot be liquidated into cash • Does not result from managerial efforts of others but rather state subsidies that could not be liquidated into cash profits and efforts of others are to be linked • Dissent argued that economists say reduction in expenditure is not any different from payment (3) Rent Reduction From Leasing Space • If there is any income derived from this. Background • Truck driver thought he had pension plan but did not b/c did not have 20 years of continuous service • Employer contributed into the fund. Court’s Decision Not a security • Investment of Money • Requires some volition on part of person making the investment • To constitute a security must give up some tangible and definable consideration in return for an interest that had substantially the characteristics of a security • Pension plan was an insignificant part of his compensation package and could not be segregated from non-investment interests • Economic reality dictated he was working for his livelihood and not to make an investment • Court rejected argument that employer contributions constituted his investment • No relationship between contributions to the fund and employee’s potential benefits • Those who work 20 years get same as those who work 40 • Does not have to be actual money. it is far too speculative and insubstantial to bring the entire transaction within the Securities Laws • Not primary motivation for entering co-op 3. Expectation of Profit (Daniel) a. not employee b.
Court’s Decision (1)Koscot satisfies common enterprise prong b/c the investors fortunes are linked to promoter’s efforts and fortunes in the common scheme (2)Investment of Money • While first tier does not invest money they have the potential to move up and 2/3 in scheme do invest money (3)Common Enterprise • Definition one in which the fortunes of the investor are interwoven with and dependent upon the efforts and success of those seeking the investment or of third parties • Critical Factor not the similtude or coincidence of investor input. second tier invests money. gets higher discount to sell to tier one or public. plan was involuntary noncontributory plan • If characteristics change may be a security • If plan were contributory there may be the specific allocation necessary for investment of money • If higher percentage of fund came from the good management of the pool of funds rather than employer than may be a security (2) Alternative Regulatory Scheme • If one exists may resolve doubts against coverage by federal securities laws (3) Ask about third point from class • 4. Three Incidental Points (1) Nature of Plan • Here.Profit must be substantial and nonspeculative if highly speculative or insubstantial then not profit • Primary source of pension payments was from employer’s contribution rather than someone’s managerial efforts • Vesting of pension depended on how long he worked not on financial health of the plan c. third tier has a higher investment/distributorship b. but rather the uniformity of impact of the promoter’s efforts 28 . Common Enterprise (Koscot) a. Background • Classic pyramid scheme that emphasizes attracting additional advisors and supervisors while existing participants take commissions on what new members pay to move up the pyramid. • Fist tier sells cosmetics.
the single investor’s funds must be related to the funds or efforts of the promoter • Strict requires that fortunes of the investor be linked to the fortunes of some other party (like profit sharing) • Broad requires only that the fortunes of the investor be liked to the efforts of another wsdparty (promoters effort must have an effect on investor’s fortune) • Horizontal intermingling of fortunes of multiple investors (interests must be similarly effected by scheme) • Individual Discretionary Account investor puts money on account and allows broker discretion in trading • Horizontal No multiple investors. not managerial • 29 .Vertical intermingling of investor and promoter interests. those essential managerial efforts which affect the failure or success of the enterprise” test goes from solely from the efforts of other to “from the essential managerial or entrepreneurial efforts of others” • Test satisfied b/c role of investors at these meetings were little more than a perfunctory one • Act of consummating sale is ministerial. but if % of profit met (4)Which Definition of Common Enterprise is accepted by courts? (a) all take horizontal (b) if take broad vertical will accept all (c) if take strict will also take horizontal but not broad vertical (5) Solely From Efforts of Others • Functional rather than literal approach • “whether the efforts made by those other than the investor are the undeniably significant ones. if paid a flat fee not met b/c fortunes of investor and promoter are not intermingled. fortune not related to other investors • Vertical Broad giving broker discretion on trading so his efforts will effect the investor’s fortune (whether he picks good stocks) • Criticism merely reiterates solely from efforts of others requirement b/c compensation of broker not tied to how investor is doing??? • Vertical Strict depends on the compensation scheme.
Member is a limited liability company • Have characteristics of both partnership and corporation h. Limited Partners in a Limited Partnership • A limited partner has limited liability because he refrains from managerial control • It will pass as a security as a matter of law b/c no managing on part of investor and relies on efforts of general partner to make money • Passes on investment of money b/c have to buy into partnership e. General partners interest in a limited liability partnership • Still will turn on ability to participate and control • Will probably have control and therefore not a security g.• Policy rationale was to avoid promoters avoidance of securities laws by requiring menial efforts on part of investor • Holding limited to those schemes in which promoters retain immediate control over the essential managerial conduct of an enterprise and where the investor’s realization of profits is inextricably tied to the success of the promotional scheme c. Other examples in notes 30 . Distinguishing a Franchise • A franchisee is a person who invests in a restaurant and pays for the right to use the name • If the franchisee (investor) has a lot of control not a security • But some arrangements are so restrictive that investor has no managerial control and these would be a security • Must look to individual contracts discretion over operations d. may be a security • Circuit Split some say not a security (but did not consider when agreement restricts control) and some look at reasonable expectation of parties with respect to realistic participation (protecting those who have a legal right to participate but chose not to) f. General Partner in a General Partnership • Typically not a security b/c partners as investors will put in a lot of effort • But if agreement says you have no control and this is reality.
Court’s Decision • Since agreements provided for the repayment of deposits received they were securities c. Evidence of Indebedness 1. Court’s Decision • Not a security • Evidence of indebtedness does not encompass all writings which represent an obligation on part of the writer to do something for the holder • It embraces only such documents as promissory notes which on their fact establish a primary obligation to pay the holders thereof a sum of money 2. Background • Tucker sold car franchises requiring $25 deposit per car b. Background • D is forging airline tickets • Got tickets belonging to someone else. In Re Tucker Corp. United States v.5. Life Partners a. (1947) a. Consistency b/w Jones and Tucker: can be established by looking at protecting investors. Jones (1971) a. there simply is not on-going common enterprise involved when profit depends entirely upon the death of insured. Background • LP in viatical settlement industry • Markets fractional interests in insurance policies on the lives of the terminally ill • Responsible for screening the insureds and for collecting and disbursing insurance proceeds b. Buyers of airline tickets wouldn’t be worried about repayment b/c they expect to use their ticket whereas franchise buyers may be more aware of repayment 31 . which requires no effort on part of promoter 3. and validated tickets to be used by third parties b. Court’s Decision • Not a security does not meet solely from efforts of others prong • Efforts have to at least occur after purchase of investment • Efforts before investment are not irrelevant but by themselves will not suffice • Possible different outcome if get money from investors and then find terminally ill people to do screening • Absent one entrpreneurial post purchase service.
e. 32 . notes) 1. Holding Not a security • COD of a national bank is issued by an institution that is well regulated and is federally insured • Not a security b/c of contextual factors • B/c it is regulated elsewhere. b. Unless the Context Otherwise Required Additional Federal Regulatory Scheme (Marine Bank) a. Holding rejects sale of business doctrine (is a security) • If something is called stock and possesses all of the characteristics. plainly within the statutory definition • Howey test is used to determine if something is an investment contract not whether it fits within any examples in statute • Stock is a specific category of a security provable by its characteristics. it will be deemed a security • Not need to look beyond the characteristics of the instrument to the economic reality of Howey test • Cases following economic reality involved instruments difficult to characterize as a security • Here have stock. Court’s Decision • Test whether an instrument is an evidence of indebtedness is essentially the same as whether an instrument is a promissory note 4. 2.obligations. Bankers Trust (1996) a. Background • Whether the sale of all of the stock of a company is a sale of securities. do not need protection of securities laws also • If foreign regulatory scheme. not a security • If state regulatory scheme. Tucker did not require primary obligation to repay on face. Procter & Gamble v. will still be a security Sale of a Business (Landreth) a. not economic reality • Holding does not extend to other categories specifically named (i. 3. Background • Interest rate swap b. Background • Whether a certificate of deposit issued by a national bank was a security b.
Promissory Notes (Reves) a. Holding • Not bound by legal formality. holder sued auditors b. Stock issued pursuant to alternative regulatory scheme (ERISA) • This is a clear case of a security • People expect security laws to apply • Fact that it is governed also by ERISA will not change its classification as a security • Argument concerning alternative regulatory schemes more applies to catch all phrases (investment K.Policy opposite rule would make it very difficult to figure out if something is a security (parties will not know ahead of time whether the register) • c. can take into account the economies of the transaction • Lamberth does not apply to notes b/c note is a broad term • General Test • Note is presumed to be a security • Presumption may be rebutted only be a showing that a note bears a strong resemblance (in terms of four identified factors) to one of the enumerated categories on list (things on list are not securities) • If not sufficiently similar to an item on the list. Background • Issued promissory notes payable on demand that were uncollateralzed and uninsured but paid a variable rate • Marketed as a investment program • When went bankrupt. the decision whether another category should be added is to be made by examining the same four factors • Categories Listed as not being securities • Commercial type things • Note delivered in consumer financing • Note secured by a mortgage on a home • Note evidencing a character loan to a bank customer • Factors (1)Assess motivations that would prompt a reasonable seller and buyer to enter into the transaction • If seller’s purpose is to raise money for general business use or finance substantial project and buyer interested in note primarily for profit security 33 . evidence of indebtedness) 3.
not a security • Motivation is an investment in a business enterprise rather than a purely commercial or consumer transaction • While not traded on an exchange. or advance commercial or consumer purpose not a security (2)Examine “plan of distribution” to determine if there is a common trading for speculation or investment • If traded. Application of Test to Demand Note Is a security (1)Called a note so it is presumed to be one (2)This presumption not rebutted • Does not closely resemble any of the family resemblance examples (3)Applying four factors. to correct cash flow difficulties. more likely you need protection and more likely a security (3)Examine Reasonable expectations of the investing public • May be considered a security if investing public believes that it is even if not a security under the analytical framework (4)Examine whether some factor significantly reduces the risk of the instrument making Securities Acts unnecessary • Another regulatory scheme • c.If note exchanged to facilitate purchase and sale of minor asset or consumer good. they are offered and sold to broad segment of public (all that is needed to establish “common trading”) • Security fundamental essence is being an investment and notes here were advertised as a great investment opportunity (public expectations) • No risk reducing factor – would escape federal regulation if act does not apply • Court rejected argument that instant liquidity makes them not a security • Stock on exchange just as liquid • Liquidity does not eliminate risk altogether What is a security? FLOW CHART Is it specifically named? security NO Yes is it the investment security yes the name suggests? NO 34 .
solely from efforts of others (solely means primarily – Koscot and Life Partners ltd – must be post-sale effort) is it an evidence of indebtedness? 1. a primary obligation to repay 3. merger. General • Acquisition by means of a stock for stock tender offer is a sale • Sale occurs when parties become bound by the contract 2. expectation of profit – Forman 4. Judicial – at minimum.Daniel 2. See also NOTES NO Not a security IF DEEMED A SECURITY. Statutory Language • Sale shall include every contract of sale or disposition of a security for value 2. Applicable Rules and Statutes a. SEC literal interp 2. or transfers of assets is deemed to involve a sale of purposes of transaction • Effect is to require registration of the securities to be issued unless exemption 35 . common enterprise (horiz or strict/broad vert commonality and NO Life Partners – entrepreneurial operation) 3. General 1. Value Aspect • Gift is not a sale (not kind of value contemplated by definition • Pledges are typically a sale (pledges to secure a loan) B. Definition of a Sale A. Acquisitions 1.Is it an investment contract? HOWEY 1. invest $ (specific allocation for valuable consid) . MAKE SURE THE CONTEXT DOES NOT NEGATE III. consolidations. Rule 145 (a) • The submission to a vote of security holders of a proposal for certain reclassification of securities.
need a vote by both sets of shareholders resulting in merged company b. Rule 145(a)(3)(A) • Mechanics • Company B transfers all assets to Company A and A issues shares to Company B 36 . Mechanics • After a vote on merger.Rule 153a Definition of “precede by a prospectus” • Have to deliver a prospectus before shareholders vote on the combination (before used in context that have to deliver before a sale) c. Merger a. Cash for Stock • Company A goes directly to Company B’s shareholders and offers them cash for their shares • When A offers cash for stock A is not selling a security b/c they are offering cash (not a security) • Do not have to register b. Voting by Shareholders When two companies consolidate. Holding • Company A’s shareholders do not vote so there is not sale as to them (per “such shareholder” language in rule) • But there is a sale as to shareholders of Company B 6. Sale of Substantially All Assets a. sale 5. Stock for Stock • Company A offers own shares in exchange for shares from B’s shareholders • Now A is selling a security and will have to register • Nothing in Rule 145 tells you this b/c SEC never held the position that it was not a sale 4. Tender Offers a. Rule 145(b) Communications not deemed to be a prospectus • Rule 145(b)(1) lists those things that can be in a written communication without it being a prospectus and therefore not an offer for sale involved in §5 b. 3. Company B is out of existence and their shareholders now hold shares in Company A b. Consolidations a. Rule 145(a)(2) Sale occurs when there is submitted for the vote or consent of such security holders a plan or agreement for • Mergers or Consolidations securities of one corporation will become or be exchanged for securities of any other person (unless done to change issuers domicile) • Because both vote.
General • In a spin-off a corporation takes stock that it owns in another corporation and distributes this stock to its shareholders as a dividend • When the corporation engaging in a spin-off is publicly held. the spun-off corporation becomes publicly held also • Some shareholders will want to sell their shares. 4982 (1969) a. Spin-Offs 1. Permutation of a spin-off • Publicly help co. but within one year board votes to do it anyway d. and a trading market will develop • Those who purchase will not have benefit of registration disclosure 2. Rule 145(a)(3)(c) • Transfer of assets is still a sale even if shareholders can’t vote on plan with results above. Securities Act Release No. for minimal consideration and then distributes some of those shares to its own shareholders • Those shareholders will begin to sell in open market 37 . acquires partial ownership of private co.• Company A is now partly owned by Company B • Company B then liquidates and only Company A exists with shareholders of itself and Company B • Holding • Result is same as when merger • This is a sale Rule 145(a)(3)(A) sale when transfer of assets of such corporation in consideration of the issuance of securities of such other person if “such plan or agreement provides for dissolution of the corporation whose security holders are voting or consenting b. Rule 145(a)(3)(D) • Transfer of assets is a sale if transfer is part of a preexisting plan for distribution that is not disclosed to shareholders (even if done years later still a sale if part of pre-existing plan) C. Rule 145(a)(3)(B) • Mechanics • Company B transfers all assets to Company A and A issues shares to Company B • Company A is now partly owned by Company B • Company B does not dissolve but distributes A’s shares as dividends • Holding • This is a sale c.
SEC Position • This type of spin-off cannot be done without registration • Spin-off is a sale • “When the shares are issued to the publicly owned or acquiring co. will keep shares and later sell for profit • Public co. Benefits • Private co. Registration not necessary if all of the following are met: • Spin-off is pro rata to the parent company’s shareholders • The recipients of the spun-off securities provide no consideration • The parent provides to its shareholders and the public adequate information about the spin-off and about the company being spun-off • The parent has a valid business purpose for the spin-off • If the parent spins off “restricted securities” it has held the securities for at least two years 5. Is a sale b. may be an underwriter as a person “who purchased from an issuer with a view to distribution of a security” • Because involves an underwriter must be registered 3. to general public • Because of creation in market. Definition of sale • Disposition of a security for value b. a sale takes place and if shares are then distributed to shareholders of acquiring co. SEC v. Datronics Engineers (1973) “For Value” Requirement a. Where is value in a spin-off? • Market for the stock is created by its transfer from shareholders of acquiring co.• No business purpose except for benefit of spin-off b. Not all spin-offs are sales b. that co. Staff Bulletin a. Costs • Losers are those who buy share w/o benefit of disclosure d. takes company public with little cash outlay and retains ownership • Public co. Form of value in agreement 38 . value goes up and acquiring company can then sell the shares it retains for a higher value 4. gets something for nothing c. Free Stock Offers a.
Exempted From What • Provision of the Securities Act do not apply to the securities enumerated “except as expressly provided” • Section 17 and Section 12(a)(2) still apply c. it must also consider in addition to the protection of investors. Meaning • Specific types of transactions are exempted • When purchaser of security here wants to resell have to find own exemption b. Securities Exempted • Government securities • Securities issued by religious.IV. Section 3 Exempted Securities a. never have to be registered b. Exempted from what • Registration requirements of section 5 do not apply to the transactions covered • All other sections of the Securities Act do apply 2. Section 4 Exempted Transactions a. Three Important exempt transactions: (1)Securities exchanged with existing security holders (2)Securities issued under a plan of exchange approved by a court or other governmental authority (3)Securities issued in an intrastate transaction e. whether 39 . ’33 Act Exemptions A. Meaning • The provisions of “this title” do not apply to certain kinds of securities • Regardless of whose hands they fall into and the frequency of sale. Section 3(b) (1) Language • SEC may add any other securities to those exempted by Section 3 when it finds that registration is not necessary in the public interest and for the protection of investors by reason of the small amount involved or the limited character of the public offering • These will be transaction exemptions only (2) Dollar Limit $5M (3) Mandatory Considerations • Whenever SEC has to determine whether an action is necessary or appropriate in the public interest. educational or charitable organization • Interests in a railroad equipment trust d. Statutory Scheme 1.
Defining a Private Placement Ralston Purina Co. Other powers • Allows the SEC to raise the dollar limit of exemptive rules previously adopted under Section 3(b) B. Issue 40 .the action will promote efficiency competition. Exempted Securities • It does not matter how often they are traded. Private Placement Exemption §4(2) (Only the initial transaction exempted) 1. Background • Sold stock to employees without registering • Employees had to initiate sale • Wide variety of people in varying positions bought stock • Claimed only sold to key employees for sale to all would definitely be public b. security. Exempted Transactions a. Section 28 General Exemptive Authority a. or by whom. he must find another transaction exemption or the securities have to be registered 4. or any class or classes of person from any provision of the Act so long as the exemptions necessary or appropriate in the public interest and is consistent with the protection of investors” • Remember additional §2(b) considerations b. and capital formation (4) Rules and Regulations Promulgated Under • Regulation A • Rule 504 • Rule 505 • Rule 701 (employee benefit plans) • Rule CE (issuers in California) 3. Exempted Transactions • They are only exempt from registering for that specific transaction • If a buyer in an exempted transaction wishes to resell. a. Exempted Securities v. or transaction. Language • SEC has power to “exempt any person. Language • The provisions of Section 5 shall not apply to transactions by an issuer not involving any public offering • Only available to issuers 2. they never have to be registered b.
Number of offerees is not conclusive • Number of offerees is relevant only to the question whether they have the requisite association with and knowledge of the issuer which make the exemption available e. Defining a Private Placement Securities Release 4552 a. Holding Public Offering • Burden of Proof • Burden of proof is on the person who wants the protection of an exemption • There is no bright line numbers test • “the statute would seem to apply to a public offering whether to a few or many” • Numbers still relevant b/c have to show test is met to each offered the more there are the harder it is to show • The Test • Applicability of the exemption should turn on whether the particular class of persons affected needs the protection of the Act • Can the offerees fend for themselves? • Do they know the questions to ask and smart enough to know what to do with the information • Did the offerees have access to the kind of information which registration would disclose? • Do not have to have access to “the” information that would be available in a registered offering • An offering to only executive officers would be entitled to the exemption 3. One Bad Apple Doctrine • Inclusion of one offeree that does not meet the test (fend for themselves and access to kind of info) ruins the existence of the exemption • Not available even if caught early and does not buy • Example sell to four executives and one janitor c. c. Public Advertising • Inconsistent with private placement • Do not know who offerees are and whether they have information and can fend for themselves d. Focus on Offerees as well as purchasers • Focus is on the offerees of securities rather than purchaser b. “Coming to Rest” 41 .• Whether the sale to employees is a public offering or private placement.
viewed as a whole. Integration of Offerings (1) Issue whether what purports to be a single offering should be combined with one of more other purportedly separate offerings (2) Effect when offerings are integrated in that way. employment relationship. the larger offering. must meet the requirements of an exemption or all the securities must be registered (3) Factors (a) different offerings are part of a single plan of financing (b)the offerings involve issuance of the same class of security (c) offerings are made at or about the same time (d)same type of consideration is to be received (e) offerings are made for the same general purpose 4. painstaking and detailed the disclosure is. likely violation d. pre-existing business relationship (4)Manner of Disclosure • The more careful. Defining a Private Placement Circuit Courts (page 181) 5. friendship. Defining a Private Placement ABA Position Paper a.• SEC considers the offering to continue until the offered securities have come to rest in the hands of persons who are not “merely conduits for a wider distribution” • If the purchasers do in fact acquire the securities with a view to public distribution. should have a representative (3)Personal relationship to issuer or promotion • Family ties. Offeree Qualification Can be qualified in several ways: (1) Ability to understand the risk sophistication (2) Ability to assume the investment risk wealth • But if completely no knowledge about business matters. the more readily one may find that a particular offeree is able to understand the risk (5)Economic Bargaining Power • Concept that is essentially shorthand for describing institutional and some other types of professional investors (6)Offeree representative principle 42 . the seller assumes the risk of possible violation of registration requirements • Mere acceptance of them telling you won’t sell it is not enough • Put legend on security and issue stop-transfer orders may work • If sell to someone known to buy and sell quickly rather than for investment.
b. business. Intrastate Offerings §3(a)(11) 1. h. g. Statutory Language 43 . property and management Manner of offering How to locate the qualified people: • Offering should be made through direct communications with qualified offerees or their representatives • All forms of general advertising and mass media circulation should be avoided Absence of redistribution • 1st tier purchasers should not immediately redistribute the shares or it would turn it inot a public offering • A legend is not required although it would be helpful. Safe Harbor Rule 506 • Safe harbor under §4(2) • But still can go naked under the statute and statute remains important • Fallback when other exemptions tried and failed • Sometimes no doubt about private nature and don’t need the safe harbor • Requirements more easily satisfied by chance C. results of operations. The absence of one does not make the exemption unavailable One Bad Apple What happens when one offeree is not qualified: • ABA says in some situations one bad apple will not ruin the availability of the exemption • Courts reject this and say will always ruin exemption Advertising • All forms of general advertising and mass media circulation should be avoided Significance of Factors • These are only minimum standards used to help predict a court decision • When planning should set standards higher Number of Offerees • Always has been some relationship between the number of offerees considered acceptable and the level of the offerees sophistication • But they feel counsel should feel comfortable if selling to all institutional investors even if 100 of them 6. c. f. • Idea is that sophistication may be imputed to an offeree Availability of information • Adequate to give basic information concerning the issuers financial condition. e. d.
where the issuer of such security is a person resident and doing business within. Interpretation Securities Release 4434 a.Any security which is a part of an issue offered and sold only to persons resident within a single State or Territory. Coming to Rest • The shares must come to rest with residents for the exemption to be available • Issuer. or if a corporation is incorporated by and doing business within such State or Territory 2. General Considerations • Only exempt purely local offerings those by in-state issuers to in-state residents from registration requirements • Good for local business • No concern with the recipients ability to understand anything and fend for himself • Interpreted narrowly and strictly • Must look to both offerees and purchasers can’t even offer to one non-resident • No $ limit on amount that may be raised 3. underwriters and dealers must help ensure there are no resales to non-residents • How long must residents hold them until they have been deemed to come to rest with them? • Ask to determine the purchasers intentions of the shares to make sure they are being bought for investment purposes 44 . “Issue” Concept • Entire issue of securities must be offered and sold exclusively to residents of the state in question • One Bad Apple an offer to a single non-resident which is considered part of the intrastate issue will render the exemption unavailable to the entire offering • Integration • Whether an offering is “part of an issue” is determined by integration principles trying to determine if issue in question is part of an offering previously made or proposed to be made • What constitutes an issue Question of integration • Are the offerings part of a single plan of financing • Do the offerings involve issuance of the same class of security • Are the offerings made at or about the same time • Is the same type of consideration to be received • Are the offerings made for the same general purpose • b.
Re-sales • Any offers or sales to a nonresident in connection with the distribution of the issue would destroy the exemption as to all securities which are part of that issue (including those sold to residents and regardless of whether sales are made directly to nonresidents or sold to them by residents) • Securities may be sold to nonresidents when the securities had in fact come to rest in the hands of resident investors f. Doing Business Within the State • Issuer must have substantial operational activities in the state of incorporation • Not met by having only bookkeeping. Background • After an offer and sale to the public (all residents) a majority of the proceeds were shifted to a different state because of the merger b. Busch v. records etc. in state • Substantial amount of the proceeds from the offering must be used in state • Exemption should not be used for series of corporations organized in different states where there is in fact and purpose a single business enterprise or financial venture d. Holding 45 . Residence • Mere presence is not sufficient • SEC at one time construed it to mean domicile in the conflict of laws sense (Louis Loss article) e.• Place limits on transfer of shares subject to an attorney saying that they can sell and exemption will remain intact c. Carpenter (1987) a. Effect of Exemption Being Lost • SEC threatens injunction if offering continued without registration • Registration statement disclose a contingent liability under §12(1) of shares already sold • Insists issuer offer rescission to persons who already bought 4. Use of Facilities of Interstate Commerce • Exemption is not dependent upon the absence of use of these g.
Doing Business Interpretation Securities Release 5450 • Principal or predominant business must be conducted in the state • Substantially all of the proceeds must be used in the local area C. the intent to invest proceeds elsewhere may suffice to defeat a claim of exemption 5. books.(1) Coming to Rest (she says this confuses the issue) • “if an issuer makes a prima facie showing that securities initially were sold only to state residents. regardless of the purchasers’ holding period. unless the other party produces some evidence to the contrary” • The initial seller of the securities has the burden of showing that the sales were made to residents only • The plaintiff then has the burden of producing some contrary evidence • General Standard for Coming to Rest • Person must be purchasing for investment and not with a view to further distribution or for purposes of resale (2) Doing Business • Refers to income producing activity • Issuer must conduct a predominant amount of that activity within his home state • Means more than maintaining an office. if can get summary judgment on the coming to rest issue. may still qualify for exemption • If company is being set up. Rule 147 Safe Harbor for Intrastate Offerings 1. Integration • Issue does not include offers or sales made more than six months before or more than six months after any offers or sales made under the rule • Two offerings will not be considered one if they are six months apart 2. Doing Business • 80% of the revenues and assets of the company are located within the state • 80% of the proceeds from the offering are to be used in the state 3. Residence 46 . and records in one state • When a corporation is being set up and it intends to use proceeds in one state. but then intentions are genuinely changed and proceeds go elsewhere.
Investor Qualifications • None required d. Notice of Sales • Five copies of Form D must be filed with SEC within 15 days after the first sale • Failure to file will not cause the issuer to lose the exemption but may jeopardize the chance of using a future Regulation D exemption i. Aggregate Offering Price • Limited to $1M in a twelve month period • All §3(b) exempt offerings within the prior 12 months are aggregated together b. Limitations on Manner of Offering • None f.• Principal residence (can be a resident of more than one state. Information Requirements • None j. Limitations on Resale • No restrictions • Rule 144 is not applicable here g. Number of Investors/Purchasers • Unlimited c. but principal residence is where you spend more time) • If a corporation. Rule 504 (Under §3(b) power) a. Integration Safe Harbor 47 . Coming to Rest • Shares have come to rest when they have been held by initial purchaser for nine months • After this the resident can sell to a nonresident 5. may be outside the parameters of the rule and of §3(a)(11) if what is being financed is in effect a single business enterprise D. even if in technical compliance. residence is where its principal office is 4. Issuer Qualifications • No Exchange Act reporting companies • No blank-check or investment companies h. Sales Commissions • Permitted e. Regulation D 1. Technical Compliance May Not Be Enough • If in technical compliance with rule but offering is part of a plan or scheme by such person to make interstate offers or sales of securities then exemption not available • Any plan or scheme that involves a series of offerings by affiliated organizations in various states.
not offerees • Accredited Investor any bank. Number of Investors/Purchasers • Can sell to 35 purchasers plus an unlimited number of accredited investors • Focus on purchasers. natural person with net income of $200. Notice of Sales • Five copies of Form D must be filed with SEC within 15 days after the first sale • Failure to file will not cause the issuer to lose the exemption but may jeopardize the chance of using a future Regulation D exemption i. SEC won’t integrate Rule 506 (Under §4(2)) 48 3. Sales Commissions • Permitted e. trust with assets of more than $5M c. director executive officer or general partner of the issuer.000 in two most recent years. SEC won’t integrate 2. Investment Company. Limitations on Resale • Restrictions on resale under Rule 144 • Rule 144 is not applicable here g. Issuer Qualifications • Exchange Act reporting companies may use it • No investment companies or issuers disqualified under Regulation A h. Information Requirements • If purchased solely by accredited investors. . no information required • If purchased by non-accredited investors See Chart j. Integration Safe Harbor • If offer is more than 6 months before or after. Aggregate Offering Price • Limited to $5M in a twelve month period • All §3(b) exempt offerings within the prior 12 months are aggregated together b. Rule 505 (Under §3(b) power) a. natural person with net worth of $1M. Limitations on Manner of Offering • No General Solicitations Permitted f.• If offer is more than 6 months before or after.000 or joint income of $300. savings and loan. Investor Qualifications • None required d.
Rule 508 • In certain circumstances.a. Limitations on Manner of Offering • No General Solicitations Permitted f. Notice of Sales • Five copies of Form D must be filed with SEC within 15 days after the first sale • Failure to file will not cause the issuer to lose the exemption but may jeopardize the chance of using a future Regulation D exemption i. trust with assets of more than $5M c. natural person with net income of $200. not offerees • Accredited Investor any bank. Integration Safe Harbor • If offer is more than 6 months before or after. an insignificant deviation from requirements will not result in the loss of exemption if there is a good faith and reasonable attempt by the issuer to comply with the Rule 5. Interpretation Securities Release 6455 49 . no information required • If purchased by non-accredited investors See Chart j. Aggregate Offering Price • Unlimited b/c under §4(2) b. Limitations on Resale • Restrictions on resale under Rule 144 • Rule 144 is not applicable here g. Investment Company. Number of Investors/Purchasers • Can sell to 35 purchasers plus an unlimited number of accredited investors • Focus on purchasers. Issuer Qualifications • None h. SEC won’t integrate 4. savings and loan.000 in two most recent years. director executive officer or general partner of the issuer.000 or joint income of $300. Information Requirements • If purchased solely by accredited investors. Sales Commissions • Permitted e. Investor Qualifications • Purchaser must be sophisticated (alone or with representative) • Accredited investors are presumed to be sophisticated d. natural person with net worth of $1M.
7 months since public offering and Rule 506 safe harbor is used to make a private offering • aggregation is not a problem • Integration these are six months apart so deemed to not be integrated c. all of the equity owners must also be an accredited investor • Executive officer the executive officer of a parent of the Regulation D issuer that performs a policy making function for the subsidiary is an executive officer of the subsidiary b.a. Counting Purchasers Rule 501(e) • If an accredited purchaser lives with his cousin and both are buying both are excluded • Partnership shall count as one purchaser and issuer does not have to consider the sophistication of each individual partner 6. General Rules • Offerings under §3(b) (Rules 504 and 505) have to be aggregated if within a twelve month period to make sure fall within dollar limitation • Integration safe harbor is six months before and after b. make sales to them. and then decide to sell to non-accredited investors issuer must deliver a complete disclosure document to all investors and agree to return the funds of those who have already bought if do this will not lose exemption c. 3 months since public offering and Rule 506 safe harbor is used to make a private offering • Problem with integration. SEC might find that the public and private offering are part of the same offering and require that the 2nd be registered also • Have to look at factors to determine if they will be integrated 50 . Accredited Investors Rule 501(a) • An investor is accredited if he falls into one of the enumerated categories at the time of the sale of securities to that person • For a company to be an accredited investor. Aggregation and Integration Problems a. Disclosure to potential investors • An issuer may provide a summary of information followed up by a complete disclosure document if does not obscure material information • When relying on Rule 505 if initially plan to only sell to accredited investors.
net worth. Regulation A (Section 3(b) exemption so $ amount can change) 1. Effect • Exemption from registration requirements of the securities act • Mini registration with offering statement that must be filed • Used less frequently now due to simplified registration forms 2. by oral and written communications to potential buyers that are designed to gauge interest in the offering F. Limitations • Money raised is limited to amount specified in §3(b) ($5M) • Issuer must file the required notice with the SEC 3. only other §3(b) exemptions get aggregated (so do not have to aggregate public and private offerings) e. • But. Who Cannot Use • ’34 Act reporting companies cannot use • when exempt securities from registration do so to help small businesses • ’34 act companies are not intended beneficiaries • must be a US or Canadian company • cann have run afoul of specified laws in the past 4. knowledge. Testing the Waters Allowed • Issuer may test the waters before filing of an offering statement. Statutory Language • The provisions of section 5 shall not apply to transactions involving offers or sales by an issuer solely to one or more accredited investors 2.7 months since public offering and Rule 505 is used to make the 2nd offering • Rule 505 has a $5M aggregate limit. E. and 51 . such as banks and insurance companies and any person who on the basis of such factors as financial sophistication.5M of that may be sold by security holders 3. Accredited Investor • Includes certain institutions. Use 505 to make 2nd offering and 7 months later use Rule 504 to make another offer • Aggregation is a problem • For Rule 504 only get $1M less any other §3(b) exemptions within prior 12 months d. and $1. Section 4(6) 1. Dollar Limit • Only $5M of securities may be sold in a 12 month period.
Statutory Language 52 . Dollar limit (that can be changed by SEC) • Enacted under power of §3(b) so dollar limit can be adjusted by SEC V. Only Issuer May Register • Security holders can. California Exemption 2.000 jointly with ones spouse) G. $5M Ceiling on amount raised 3. so long as more than 50% of the non-CA issuer’s voting securities are hold of record by persons having addresses in California 4. Regulation of Resales of Securities A. any resales or delivery after resale of such security would be a violation of §5 2. and sales in that state. Not available to Exchange Act reporting companies or investment companies 2. Violation of Section 5 • Applicable in the context of re-sales • Unless a registration statement is in effect or there is an exception for the security. payroll. bargain for registration rights (right to compel the issuer to register for purpose of resale) or Piggy Back Rights (if issuer registers some securities they will also register their securities for resale) 3. Section 4(1) a.000 in each of the two most recent years (or $300. For companies who wish to sell stock to their employees 3. When Shares Never Registered • Purchaser must find an exemption to re-sell their shares • §3(a)(11) is available for use for re-sales (intrastate offering) • Rule 147 is only available for use by the issuer 4. Must satisfy requirement of 25102 of CA code H. Introduction 1. Limited to California Issuers • Limited to CA issuers and non-CA issuers that have more than 50% of their property. Rule 701 1. Regulation CE 1.experience in financial matters or amount of assets under management qualifies under rules • Rule 215 for natural persons if net worth with one’s spouse of more than $1M or net income of more than $200. however.
What Control Can Be • Unexercised ability to control is control • Control Group you are a control person if you are a member of a group that controls 2. or dealer b. buying. selling. of the power to direct or cause the direction of management and policies of a person whether through the ownership of securities c. directly or indirectly as an agent. Dealer • Any person who engages either for all or part of his time. Amount of Securities Needed • 10% equity is a good rule of thumb • will be considered an affiliate d. or principal. Control and Restricted Securities 1. Control Securities • Securities owned by a person who is an affiliate of the issuer • Affiliate • Person that directly or indirectly through one or more intermediaries controls or is controlled by or is under common control with the person specified b.• The provisions of section 5 shall not apply to transactions by any person other than an issuer. Restricted Securities a. or otherwise dealing or trading in securities issued by another person d. Securities acquired directly or indirectly from the issuer or from an affiliate of an issuer. Underwriter (1)Generally • Any person who purchased from an issuer with a view to distribution • Any person who offers or sells for an issuer in connection with a distribution (2)Definition of Issuer • Includes control persons • So someone who buys from a control person with a view to distribution is an underwriter B. in a transaction or chain of transactions not involving any public offering 53 . Control Person • Term control means the possession. Control a. underwriter. broker. Issuer • Every person who issues or proposes to issue any security c. in the business of offering. direct or indirect.
Sales of Control Securities 1. Exemptions • Underwriter No exemptions • Dealer The provisions of Section 5 do not apply to transactions by a dealer who is not longer acting as an underwriter with some exception • Ordinary investor can sell their shares through a dealer • Broker The provisions of Section 5 do not apply to brokers’ transactions executed upon customers’ orders on any exchange or in the over-the-counter market but not the solicitations of such orders and not if brokers is also acting as an underwriter 54 . Meaning of Distribution • Synonymous with public offering 4. Securities acquired from an issuer that are subject to the resale limitations of Rule 502(d) under Reg. Fungibility • If a person owns both restricted and non-restricted securities of the same class and from the same issuer. D or rule 701(c) • Includes securities purchased directly from an issuer in a ny transaction under rule 505 and 506 c. the non-restricted securities take on the taint of the restricted status C. Definition of Underwriter • Any person who has purchased from an issuer or an affiliate of the issuer with a view to distribution • Any person who offers or sells for an issuer or an affiliate of the issuer in connection with a distribution • Issuer includes control persons 2.• Covers a security that at one point were sold by the issuer under a §4(2) non public offering exemption • Covers a security sold under §4(6) (sale to only accredited investors) b. Effect • If you buy from a control person with a view to distribution you are an underwriter and cannot claim the §4(1) exemption • If you sell shares of a control person in connection with a distribution you are an underwriter and cannot claim the §4(1) exemption • If a securities firm handles the sale as a dealer (buys the securities themselves with the idea of reselling them) may be considered to have “purchased from an issuer with a view to distribution” makes them an underwriter 3.
(1946) a. 55 . through underwriters. Holding • The brokers provided outlets for the stock of issuers (control persons) with a view to distribution (large amounts of stock) and thus were underwriters and §4(1) not available • Controlling persons tried to argue that they fall into the §4(1) exemption b/c they are not issuers. underwriters or dealers and if brokers can do this that they should be able to do it also • One. the brokers did not know they were doing this • Two. are intended to be subject to registration • Cannot get around this when going through a broker United States v. In Re Ira Haupt & Co. Background • A broker sold on behalf of a major shareholder (control person) a substantial number of shares over the course of a few months b. §4(1) is not available and cannot rely on §4(4) when also an underwriter • Not available here because public distributions by controlling persons. even though control persons not in plain language of statute can still be liable • §4(1) is available for transactions not distributions 6. Background • Control persons sold large amounts of stock through brokers without telling brokers what they were doing b. but it will not allow a flood • A distribution comprises the entire process by which in the course of a public offering the block of securities is dispersed and ultimately comes to rest (2) Can the Broker avail himself the §4(4) Broker’s exemption? No • Exemption allows a person brokering that does not actually solicit from the other side to get an exemption • Because he is also an underwriter. Wolfson (1968) a. Holding (1) Was the Broker an Underwriter? Yes • Underwriter Any person who offers or sells for an issuer or an affiliate of the issuer in connection with a distribution • Here the broker sold for an issuer (control persons are issuers) in connection with a distribution • Distribution? Yes • SEC is willing to allow control securities to trickle into the market.5.
then you will be okay b/c no one is an underwriter and then control persons are not selling through an underwriter c. Sale of Restricted Securities 1. the control persons were engaging in a transaction by an underwriter and were also captured by the rule. Therefore.• The brokers were underwriters. Summary • Control persons can cause problems for brokers • Control persons can cause problems for themselves by selling through underwriters D. Sherwood 56 . • Control persons who sell or offer to sell through underwriters can’t get §4(1) exemption • Brokers allowed to have §4(4) exemption b/c there were unaware that their customer’s part of the transaction is not exempt • Those who offer or sell for control persons are underwriters unless they do so unknowingly • If what is going on is not a distribution. 2. Holding Period United States v. General • Restricted securities should be sold under Rule 144 • But they do not have to be and may be re-sold outside the rule by going naked under §4(1) • When doing this SEC interpretations are important • Small unrelated purchaser of 1% of the stock Can they turn around the next day after buying and resell in a private offering security? • Problem view towards distribution • A person who purchases securities in a private placement and then resells in a public trading market is an underwriter if she purchased with a view to distribution (as an underwriter they cannot use §4(1)) • Issuers often place resale restrictions on privately places securities to avoid having the issuance converted into a public distribution subject to registration • Main Issue What is meant by purchasing with a view to distribution? • How long a holding period is required to avoid the problem? • No holding period removes the taint of an underwriter status from someone who has purchased with a distribution in mind.
Putting Legends On Stock a. In determining whether someone purchased with a view to distribution the purchaser will want to show bought for investment which can be indicated by the holding period before resale b. Rule 144 Persons Deemed Not to Be Engaged in a Distribution and Therefore Not Underwriters 1. but some courts endorse and allow it to save someone who did not register • Courts will allow it to shorten the acceptable holding period 4. Argument planned to hold for investment but due to a change in circumstances had to sell b/c needed the money b. when purchase from issuer the issuer wants to establish not involved in a distribution so it will restrict the sale of the stock b. Categories of Requirements a. General • Way for holders of restricted securities or control persons to sell their shares compliance with the Rule secures a §4(a) exemption • The rule defines what is not a distribution and therefore when a person is not an underwriter • All sales must follow the amount. SEC seems to indicate in no-action letters that a three year holding period would be better • Staff freely granted no-action letters when restricted securities were held for three years. manner and notice requirements below 2. When purchase directly from the issuer if hold for two years then bought with no view to distribution unless other evidence to the contrary • Two years became the standard minimum safe holding period c. also for purchasers benefit b/c if they take the security with legend it should they planned on holding them for investment • this means no view to distribution and therefore not an underwriter when eventually resell E. SEC looks very dimly on this and won’t accept. Current Public Information • Must be publicly available specified current information concerning the issuer 57 . but not as likely to do so when only held for two 3.a. Change in Circumstances Doctrine a.
• ’34 Act company has sufficient information available to satisfy • many companies will therefore register voluntarily so can use this rule • may also increase price due to liquidity b/c there will be enough information to use this rule Holding Period for Restricted Securities • One year • For a non-affiliate a two year holding period means you are home free Limitation on amount of securities sold • Greater of • 1% of the class of securities outstanding. trust fund) owning and investing on a discretionary basis at least $100 Million in securities of issuers that are not affiliated with the entity c. c. investment company. Private Re-sales Rule 144A 1. employee benefit plan. Security must be non-fungible with a publicly traded market (whatever that means????) d.00 3. Modest information required to be delivered to purchasers • Issuer may have to provide information through contract with purchaser • Creation of after market for security that will not get back to the public f. were of the same class of securities listed on a national securities or NASDAQ 58 . Available only for re-sale (not for issuers) b.b. or • average weekly trading volume of the class of securities during the preceding four weeks Manner of Sale • Must be sold in a broker’s transaction or directly to a market maker • Not face to face transactions Notice of sale • Seller must file a notice of sale with the SEC unless sales during a three month period do not exceed 500 shares or a total sales price of $10. e. Requirements for safe harbor (144A) a. d. Purchaser must be a “Qualified Institutional Buyer” • Means certain entities (insurance company. Not available for the resale of securities • That at the time of their issuance. Make Flow Chart F.
If satisfy rules you are deemed not to be engaged in a distribution the therefore will not be underwriters 3. Staff Letter (page 237) H. Introduction 1. so it will not be a distribution. and • Cannot be made an underwriter by actions of the purchaser • This means selling only to those who can meet the requirements for purchasing in a private placement • Make sure purchasers can’t resell in a non-exempt transaction b/c that would destroy exemption that supported earlier sales • Purchaser must agree to contractual restriction restricting the sale 5. Structure to ensure • Seller is not an underwriter. ’33 Act Liability A. Rule 145(c) Persons and Parties Deemed to be Underwriters b. since distribution is same as public offering. Generally • If you are not an underwriter and you resell a security you will be exempt under §4(1). Rule 145(d) Resale Provisions for Persons and Parties Deemed Underwriters I.• That were issued by one of the enumerated types of companies that are or are required to be registered under the Investment Company Act G. one way to not be an underwriter is to buy w/o a view to distribution. when you sell in a private resale there is not distribution. Going naked under Section 4 ½ Private Re-sales 1. Deemed Underwriter under Rule 145 (ASK) a. Criminal Liability 59 . Trying to make the sale not a public offering. so no one will be an underwriter (and get §4(1) exemption) 4. you are not an underwriter and you get exempted under §4(1) • The exemption has the character of a §4(2) exemption but is a §4(1) exemption b/c by definition it involves no transaction by an underwriter • Offers and sales are not made in a public offering – No distribution – No underwriter – no registration • Must be sure that seller did not originally purchase with a view to a distribution and is not acting for an issuer (b/c then will be an underwriter) 2. Rework Situation 7 VI.
United States v. SEC does not have the power to bring criminal actions • §20 SEC can formally investigate • §20(a) can bring action seeking injunctive relief 60 .000 fine • 2. or deceitful conduct. SEC no authority to bring aiding and abetting actions under the Securities act or its rules • Under the Exchange Act can bring aiding and abetting actions for violations of those rules (Section 20) 3. but not as to the knowledge that the instrument used is a security • Do not have to show D knew of §17. Civil Liability to private parties • §11 private right of action for damages based on a material misrepresentation in a registration statement • §12(a)(1) private right of action to rescind deal that had violation of §5 • §12(a)(2) private right of action to rescind for material misrepresentation from prospectus (§17) B. SEC Administrative Action • Does not require a finding of intention to violate the law • Sufficient that registrants be shown to have known what they were doing b. or what he was doing is legally “fraud” or knew they were selling a security • Just have to that he was aware that what he was saying was untrue or fraudulent in the general sense 2. Effect of Jurisdictional Means • Each separate use of these means is a separate violation 3.§5 “Unless a registration statement is in effect as to a security. Brown (9th Cir. Criminal and Other Governmental Actions 1. 1978) • Government is required to prove specific intent only as it relates to the action constitution the fraudulent. Section 20(d) ask a district court to imposed a penalty c. it shall be unlawful” • §17 broad anti-fraud provision • §24 willful violation of the act is punishable by imprisonment and $10. misleading. Civil Actions Brought by Government a. Meaning of Willful under §24 a. SEC Power over Criminal and Civil Violations a. Section 8A issue cease and desist orders b.
Civil Actions • §8A can bring actions seeking civil penalties and to issue cease and desist orders • §20(d) power to seek civil penalties • penalty varies with culpability and risk to public of violations • $5. Civil Liability Section 11 1. Damages 61 . Plaintiff’s Case • Proper plaintiff • Proper defendant • Material Misrepresentation of omission • May have to show reliance (12 month earning statement available) b. General Issues a. Statutory Language • If part of the registration statement when it became effective contained an untrue statement of a material fact or omits to state a material fact required to be stated therein or necessary to make the statements no therein misleading . may sue.000 for others • but penalty can be as high as gain to violator as a result of the violation • Rule 9 can reduce amount for small entities • SEC can bring aiding and abetting action under Exchange Act for violation of its rules.500-$110. Defenses Available • Culpability .§20(b) transmit evidence to attorney general who may then institute the necessary criminal proceedings • b. .§11(e) • Bespeaks caution doctrine • Statute of limitations §13 • P knew about omission or misstatement • Rebut part of P’s case • §27A and Rule 175 safe harbor for forward looking statements b. Court’s Power • §20(e) prohibit a person who has violated §17(a)(1) from acting as an officer or director of a company that has securities registered under §12 C. .000-$550.Due diligence defense • Resign and squeal • Lack of loss causation to reduce damages . 2.000 for individual • $55. but not under the Securities Act c.
CEO. Culpability • Varies by jurisdiction c. Every Person who Signed the Registration statement • Includes the issuer.• • • Calculated under §11(e) Joint and several liability §11(f) Proportionate liability for outside directors . Accountants and people whose profession allow them to put their name on the registration statement as having prepared it or certified part of it • If prepare. purchaser of a registered security may sue under §11 irrespective of whether he or she purchased the security in the registered offering or later in the trading markets b. but name does not appear in it as having written a portion. Damages 4. CFO. Causation • Transaction general causation (reliance) • Loss causation prove that but for the D’s wrong P would not have incurred the injury d. Material Misrepresentation b. then no liability • If named and part attributed to you. Every director at the time of filing c. may be liable (but only responsible for part you prepared and certified) • If law firm named. Material Misrepresentation a. firm liable but not specifically an individual attorney 6. Proper Plaintiff a. Every underwriter with respect to such security d. Section 13 must bring suit before statute of limitations run • One year after discovery of untrue statement or one year after discovery should have been made by the exercise of reasonable diligence 5.§21D(f) 3. Objective Standard • For number figures 10% is a good ball park figure (if assets misstated by 10%) 62 . Proper Defendant Section 11(a) a. Common Law of Misrepresentation a. UW b. Material • Substantial likelihood that a reasonable investor would attach importance in determining whether the purchase the security registered b.
“Expertised” Portion Non Expertiesd Portion • • b. General Doctrine • Inclusion of sufficient cautionary statements in a prospectus renders misrepresentations and omissions contained therein immaterial • If D’s make the risk adequately clear. then something that would ordinarily be material is immaterial • Need to be abundant and meaningful b. Bespeaks Caution Doctrine (Taj Mahal Litigation) a. and hedge the statement with cautionary language. there is no liability c. Effect • Because the statement is not material. Safe Harbor §27A • Safe harbor for certain forward looking statements that are accompanied by cautionary statements meeting the section’s requirements Due Diligence Defense (BarChris) a.7. What is a reasonable investigation (1) D’s position is a factor in determining what is a reasonable investigation (2) CEO 63 . and in fact did believe that statement was true D had no reason to believe they were not true • • • Non-Expert Least Required Ignorance is sufficient No reasonable ground to believe. Limitations on Use • Due diligence is required for historical facts (can’t make an assertion and then say might be wrong • Some courts have limited doctrine to forward looking statements e. and did not believe that statement untrue D after reasonable investigation had reasonable grounds to believe and in fact did believe that statement was true 8. Generally • P does not have to prove culpability • But D can show lack of culpability as a defense to liability • Not available to the issuer • Expert D after reasonable investigation had reasonable grounds to believe. Vague and Blanket Disclaimers do not suffice d.
review six drafts of registration statement and saw nothing suspicious with the knowledge he had • No duty to make specific inquiries of company’s management as long as prospectus consistent with his knowledge which he had reasonable acquired as a director. and accountants • Due Diligence established d. Things Issuer’s Counsel and Underwriter’s Counsel Should Do • Information is the registration statement should be verified • Issuer and affairs must be examined to try and uncover what must be added to the statement to prevent it from containing a material omission • If question arises as to the adequacy of disclosure. have to do a reasonable investigation and make sure that the numbers they are using are correct (6) Audited Portion • Non-experts can rely on experts • Experts must show they reasonably investigated where numbers came from (7) Non-Expertized Portion • Everyone (but the auditors) should have verified claims by the managers • Cannot rely on management’s statements of how things are c. attended meetings. involved in decision. Weinberger v.• Because aware of all relevant facts cannot believe there were no untrue statements or material omissions • No due diligence defense (3) Outside Directors • Not a reasonable investigation to not read the registration statement and not know what they were signing (4) Underwriters • Should have verified any claims made by managers (5) Auditors • No liability for the non-expertized portions • For the expertized part they prepared. an independent check of the facts is required 64 . reviewed financials. Also given comfort b/c info was reviewed by underwriters. counsel. Jackson • Court permitted outside director to rely on reasonable representations of management provided his own conduct was reasonable under the circumstances • Director was familiar with operations.
must show reliance on untrue statement • Defense D is entitled to show lack of loss causation as a defense • Show loss in value due to something other than the material misrepresentation D. Civil Liability §12(a)(1) 65 . Damages a. Loss Causation • P does not have to prove loss causation (just purchased the stock under untrue registration statement) • After time P may have to show reliance on untrue statement • If purchase after issuer publishes an earnings statement covering 12 after registration statement effective. §11(b)(1) Resign and Squeal Defense • Once D finds out about the misrepresentation. Section 11 (e) • Damages are calculated by the difference between the offering price in the registered offering and the value of the securities at the time of the suit (or the price at which the P disposed of them earlier) b. he resigns and tells the SEC all before the registration statement becomes effective 9. Underwriter • No underwriter can be held responsible for damages in excess of the aggregate public offering price of the securities underwritten by it c. Causation a. Section 11(f) • Proper Defendants are jointly and severally liable • If a D is held liable he can get contribution from any person who would have been held liable if sued • Outside Directors • Liability determined by §21D(f) • Can only hold outside directors jointly and severally liable if prove they knowingly committed a violation of the securities laws • If cannot show this strict liability still applies but they will only have proportionate liability liable solely for the portion of the judgment that corresponds to the percentage of responsibility of that covered person • Show how much he contributed to the damage 10.e.
Dahl (1988) • Definite liability for person who passes title (privity) • “seller” also extends to person who successfully solicits the purchase. motivated at least in part by a desire to serve his own financial interest or those of the securities owner” • important to protect investors at solicitation stage • willing to put liability on agent of real seller b/c they usually do the bad act • construed the same for purposes of §12(a)(2) 3. Unclean Hands Defense (Fuller) • If can show person trying to rescind is just as guilty as D court will have sympathy • So even though a technical violation there is a possible unclean hands defense c. Effect • P does not have to show cause. or culpability • Strict liability provision to discourage violations of registration provisions b.1. damages. Plaintiff must be an ACTUAL purchaser b. Proper Defendant (1) purchaser may not recover from an issuer or any other seller unless there is a direct link between the purchaser and the seller • if buy from an intermediate seller. must sue that seller and not the issuer • the intermediate seller can then turn around and sue the seller that they bought from (2) Pinter v. D has offered or sold in violation of §5 a. Curing occurrence of bad act (Diskin) • D sent an illegal written offer (sent offer without prospectus) and later sent a proper final prospectus after registration statement became effective • Strict Liability Provision with no opportunity to cure by sending prospectus later • Once D messes up under §5. Statutory Language • “Any person who offers or sells a security in violation of §5 shall be liable to the person purchasing such security from him [and get recission of the sale]” • liability flows when unregistered securities are offered or sold without an available exemption 2. Plaintiffs Case a. Statute of Limitations is a Defense d. purchaser can get out of the deal 66 .
. allow for a cooling off period and start all over again • Also. Generally • Material misrepresentation in a prospectus or in an oral communication relating to a prospectus b. Statutory Language • Any person who offers or sells a security by means of a prospectus or oral communication which includes a untrue statement of a material fact or omits to state a fact (the purchaser not knowing of such untruth or omission) . Civil Liability §12(a)(2) 1. there was a misrepresentation of companies financial position and want rescission (3) Holding • Word “prospectus” is a term of art referring to a document that describes a public offering of securities by an issuer or controlling shareholder. Proper Defendant • Same as in §12(a)(1) • Either transferor of title or solicitor with a financial interest (Pinter) 5. Proper Plaintiff • Someone who purchased the securities (can’t be a mere offeree) 4. Government Securities are Exempt 3. (2) Facts • Sole shareholders or Alloyd sold their stock to an investor group • Group claimed that in the contract for sale. • The contract of sale. Defining Prospectus (1) Issue • Whether the right to rescission extends to a private. Definition of the Bad Act (Gustafson) a. and who shall not sustain the burden of proof that he did not know. and its recitations were not held out to the public and were not a prospectus as the term is used in the ’33 Act • Because the communication (contract for sale) was not a prospectus. and in the exercise of reasonable care could not have known is liable” 2.Advice once mess up stop the deal. one bad apple will ruin all offers in the entire offering so will have to stop all offers • E. §12(a)(2) is not activated • Intent of Congress and design of statute require that §12(a)(2) liability be limited to public offerings 67 . . secondary transaction on the theory that recitations in the purchase agreement are part of a prospectus.
Loss Causation • D can reduce damages if can show the loss in value is due to something other than his material misstatement or omission • This only applies to §12(a)(2) and not §12(a)(1) 68 . P can’t win if knew of misstatement of omission? • P bears the burden of pleading and proving that they did not know about the misrepresentation or omission (not sure about this) • P can’t win if he knew about them 7. and in the exercise of reasonable care could not have known of the material misstatement or omission (2) Similarity with Due Diligence Defense (Nuveen) • Exercise of reasonable care equated with due diligence and reasonable investigation under §11 • There should be no liability under §12(a)(2) when a D could escape liability under §11 • Someone who falls under the specifically tailored liability provisions of §11 should not be subjected to different rules under more general liability provision b. Statute of Limitations §13 • One year of discovery of misstatement or omission or after its discovery should have been made by the exercise of reasonable diligence – OR • Three years after sale 8. §5 Prospectus Post-Gustafson • seems that only formal offers associated with public offerings come under the definition • that would mean that those offering letters and circulars that were previously held to be prospectuses are not prospectuses 6. Knowledge (1)But D can defeat a claim by showing that he did not know.• Contract for sale is not a prospectus b/c was not the prospectus described in §10 and filed in a registered public offering (4) Dissent • Looked at definition of prospectus in §2(a)(10) and determined that a contract for sale fit (5) Effect of Narrow Construction • Restricts the scope of §5 and allows more activity in the waiting period which prohibits prospectus unless it is a §10 prospectus c. Defenses for Defendant a.
But under §12(a)(2) a misrepresentation is subject to some defenses • Defense of reasonable care • Congress intended this to be a defense to a misstatement in the prospectus. you are liable to those you purchase from you under §12(a)(1) c. e. will charge you with knowledge you would have had if they had done reasonable investigation 3. 1957) • Term given a broad definition • Control organizer of company. or in connection with an agreement has these things controls any person liable under §11 or §12 b. and officers c. “every person who. Back to Manor Nursing a. Requirements for D to fall under exception • If knew or reasonable should have known you are liable • Some courts say if don’t try to monitor.c. Statute of limitations . V. If you violate §5.P. f. Section 15 1. d. Easily includes major shareholders. Holding of Manor Nursing If prospectus has a mistake or misstatement then it cannot be a §10 prospectus • Because it is not a §10 prospectus they violate §5 b. Statutory Language • Anyone who controls a person liable under §11 or 12 is jointly and severally liable to the same extent as the controlled person (express private right of action) • Exception controlling person had not knowledge of or reasonable grounds to believe in the existence of fact by reason of which the liability of the controlled person is alleged to exist 2.. but the bootstrapping logic of Manor Nursing makes someone liable for a misstatement under §12(a)(1) with no defense F. signed stock certificates.§13 Unclean Hands D can rebut P’s case Bespeaks caution g. §27A safe harbor for forward looking statements 9. Who is a control person? a. Stadia Oil v. presided over board meetings where sale discussed • Control will be determined by looking at characteristics from other cases that found control • Cautionary tale do not have to own 90% of stock to be a control person 69 . one of three directors. by or through stock ownership. Whellis (10th Cir. agency. directors. or otherwise.
or course of business which operates or would operate as a fraud or deceit upon the purchaser 2. Others require a lack of culpability to be raised by the defendant as an affirmative defense G. Cort Factors (implied right of action) a. Issue • Is there a private right of action under §17(a)? NO c. or artifice to defraud. Is it consistent with the underlying purpose of the legislative scheme to imply a remedy for the P? d. to obtain money or property by means of untrue statement of a material fact or any omission c. scheme. Is the plaintiff of the class for whose especial benefit the statute was enacted? b. Holding • Court applied the Cort factors • P must establish that Congress intended to imply a private right or at least that it is consistent with the legislative scheme • Failure to satisfy these two factors is determinative even if show you were in class meant to be benefited • Court will not find a private right of action if Congress did not intend one even if P is the intended beneficiary and not state law implication • Congress did not intend a private right of action under §17(a) d. to employ any device. Statutory Language Unlawful in the offer or sale of any securities a. Is this subject matter traditionally relegated to state law. must not have wanted one 70 . Washington Public Power Supply System (1987) a. in an area basically the concern of the states? 3. Some courts require a showing of culpability by the P b. Is there any indication of legislative intent to give a private right of action? c.4. Role of Culpability a. practice. Arguments to be made (1) When Congress wanted a private damages remedy. Section 17(a) and Implied Private Rights of Action 1. or b. it knew how to do it and it did so expressly (§11 and §12) • If it knew how to do it and did not do it here. Background • Company defaulted on bonds bought by the P’s • Could not sue under §11 b/c were not required to be register and can’t sue under §12(a)(2) b/c does not apply to government securities b. to engage in any transaction.
Context a. Indemnification and Contribution 1. Contribution §11(f) a.(2) Prevailing Legal Context • If provision is construed consistently in one way and Congress amends statute and leaves it alone seen as an affirmation that they intended that interpretation • Cannot infer this when the views among the courts is split (3) Who was intended to benefit from the statute? • Enacted to protect investors or issuers or who? (4) Remedy at State Law • If there is a remedy at state law. §11 (only apply in public offerings) • So not as much overlap as court may have thought b/c §17 only applies in private offerings H. But. Contribution when one person is held liable and others who are guilty are not initially sued. the person who is sued and required to pay under joint and several liability will go to other wrongdoers and get money for their part in violation b. Indemnification one party agrees to hold the other party harmless and pay any damages they must pay 2. Statutory Language 71 . Difference a. Most courts have concluded that there is not a private right of action under §17 b. this cuts against a finding of a private remedy in federal law (5) Legislative Intent • Look to legislative history and committee reports (6) Consistent with Legislative Scheme • The presence of express civil remedies within the same statute militates against a finding of Congressional intent to imply further remedies • Express private rights have bells and whistles that would not be present in implied private right (get out of procedural limitations like statute of limitations (§13) • Would implying a private right be superfluous? • Presumption that a remedy was deliberately omitted from a statute is strongest wen Congress has enacted a comprehensive legislative scheme including an integrated system of procedures for enforcement 4. ripe for review after Gustafson • Case cut back drastically on coverage of §12(a)(2).
• Grants right of contribution to any person liable under the section if the person they are seeking contribution from would have been liable to make the same payment • Cannot seek contribution under this section from person who is not guilty of fraudulent misrepresentation b. Caveats 72 . Liability of Outside Directors • Proportionate liability of section 21D(g) apply c. 1969) (1) Issue • Whether an underwriter may be indemnified by an issuer for liabilities arising out of misstatements in an offering circular of which the underwriter had actual knowledge. Commission’s General Exemptive Authority . SEC Position • Indemnification is against public policy • Any provision granting indemnification is unenforceable b. Holding underwriter cannot be indemnified • Court emphasizes that this is a situation when underwriter has committed a sin graver than ordinary negligence • But must remember that SEC always thinks it is against PP and court cites to SEC as one of its reasons for not allowing it here • To tolerate indemnity would encourage flouting the policy of act – well established that one cannot insure himself against his own reckless. Statutory Language • SEC may conditionally or unconditionally exempt any person. Globus v. Also available under §17(a) and §12 and Exchange Act Rule 10b-5 3. Indemnification a. Law Research Services (7th Cir.§36 1. security. or transaction from any provision or provisions of this title or of any rule or regulations thereunder 2. or criminal misconduct • SEC views indemnification as against public policy • Liabilities are there to promote enforcement and deter negligence indemnification cuts against this policy (3) Some courts refuse to enforce indemnification irrespective of culpability • Lawyers are cautious to include them • Some courts also hold that there is no private right of action for indemnification under either Act (2) VII. Registration under ’34 Act and Reporting Requirements A. willful.
to effect any transaction on a national securities exchange unless the a registration is effective b. competition. Voluntary Registration . and capital formation at any time it is required to consider or determine whether an action is necessary or appropriate in the public interest B.§12(g) • Act contemplates voluntary registration • Why voluntarily register? • Interlinks with ’33 and ’34 • Make dealer prospectus delivery requirements easier • Take advantage of abbreviated filing form (start ’34 history) 3.§12 (Registration Requirements for Securities) a. and consistent with the protection of investors • Authority of the SEC does not extend to Exchange Act §15C which relates to government securities brokers and dealers 3. An issuer must register when the securities are to be traded on a stock exchange • §12(a) It is unlawful for any broker etc. Must register is meet certain tests §12(g) (1)Equity securities are held by at least 500-750 people.• Any exemption must be necessary and appropriate in the public interest. §12(g)(4) • to de-register have to have fewer than 300 record holders (even if you voluntarily registered) b. §3(f) – relevant factors in rulemaking and regulations • when the SEC must consider whether the action will promote efficiency. Terminating Registration a. Who must register . Rule 12g-4 (liberalized standard) 73 . Nasdaq • NASD requires securities traded on Nasdaq to be registered under Section 12 (SEC considers this voluntary registration) 2. Registration and Periodic Reporting 1. and (2)Issuer has total assets exceeding $10M • Rule 12g-1 raised amount using authority under §12(h) (3) Issuer must make filing required within 120 days after end of first fiscal year on the last day of which it meets these requirements but remember §15(d) c.
e. register the common but not the preferred) • What difference does it make? • Reporting of shareholders is tied to certain classes and only shareholders of certain classes have to report • Some shareholders do not want to have to register (and will force co.• To de-register need less than 300 holders or have less than 500 AND total assets have not exceeded $10M on last day of three most recent years 4. Reporting 1. only have to register the class that fits the test (i. Forms to Register 1. Form 10 • Different from ’33 Act forms so registration under ’34 Act does not also constitute registration under the ’33 Act 2. to sell them stock that does not have to be registered – why see multiple classes of preferred stock) C. Determining How Many Shareholders You Have a. §13(a) two types of filings required 74 . Hypothetical #2 • $10M is assets with 600 common S/H and 300 preferred • Now have to register • But. .§12(g)(5) • Class shall include all securities of an issuer which are of substantially similar character and holders of which enjoy substantially similar rights and privileges c. §12(g)(4) • Have requisite assets and “a class of equity security held of record by five hundred . . Definition of “class” . Regulation S-K • Adopted under both acts (so form 10 will say “provide the information called for in line x of Reg. S-K) D. Hypothetical #1 • Issuer has requisite assets and 400 common S/H and 200 preferred S/H – do they have to register? NO • Common and preferred stock have different characteristics and will not be considered to be in the same class. • Do not have to add 400 and 200 together so do not have a equity class of more than 500 holders d. “ b. Form 10-SB • For small business issuers • Easier financial statements 3.
Form 10-Q (quarterly report) • Contains non-audited financial statements 4. resignation of a director over certain types of agreements E. 10-Q. Explanation from class • If file registration statement under the ’33 Act have to file Form 10-K.a. Timing of Filings and §15(d) 1. Registering is not the only way to become subject to Exchange Act reporting requirements b. §15(d) requires that a company that has registered securities under the ’33 Act is subject to §13 reporting • these are the companies that typically meet §12(g)’s requirement to register but they then have 120 days to register and start reporting • this forces then to star registering immediately upon the effectiveness of the registration statement (even if have not registered under §12 of Exchange Act yet) • if a company is reporting only because of §15(d) (i. Other Explanation a. maintain financial records in “reasonable detail” to reflect accurately company transactions. Form 10-K (annual report) • Same information as S-1 in ’33 Act for most part • Incorporated by reference in S-2 and S-3 3. changes in auditors. Form 8-K • Events that are important. if happen. §15(d) was enacted as a timing issue • §15(d) will require earlier compliance with filings than normal under the ’34 Act • periodic reporting must begin immediately upon the effectiveness of a ’33 Act registration statement 2. filings of such annual and quarterly reports as the SEC requires irrespective of the updating requirement 2. it does not meet the requirements of §12(g)) and has fewer than 300 shareholders it may discontinue reporting after 1 year) F. and 75 . filings of such information and documents as the SEC requires to keep current the information provided at the time of registration b. and 8-K • While most people who file under ’33 Act will fall under §12(g) of ’34 Act and have to file them anyway. Record-Keeping §13(b)(2)-(3) 1. may require filing this form immediately and not waiting until next quarterly report • Changes in who controls company. Requirements §13(b)(2) a.e.
In Re Penn Central Securities Litigation (1974) a. but there is an express private right of action under §18 • There is a case that holds private right of action under §12 when issuer does not register at all 2. Background • Is there an implied right of action under §12 for misrepresentation and omissions of material facts? b. Statutory language • Any person who willfully and knowingly makes a statement . . [in a filed document] . but no person shall be subject to imprisonment under this section for the violation if he proves that he had no knowledge of such rule or regulation 2. Section 32 (Penalties) 1. which was false or misleading with respect to any material fact . put into place internal accounting controls sufficient to provide “reasonable assurances” of internal accountability and proper accounting 2. SEC said that inadvertent record keeping mistakes will not give rise to enforcement proceedings and to be subject to enforcement the company has to be aware or reasonably have known about the mistakes d.b. . . Cramer v. Holding 76 . Open ended nature made provisions very controversial and brought fears of administrative overreaching c. Knowing knew there was a rule that made it illegal to do that they did H. Exemptions §13(b)(3) • Exempted from these requirements when act in cooperation with certain federal officials in connection with matters concerning national security – provide cover for clandestine operations 3. Issue • If there an implied private right of action under §13? b. Enacted under the Foreign Corrupt Practices Act in response to “corporate Watergate corporations making questionable payments b. Problems under §13(b)(2) a. Private Right of Actions under §12 and §13 1. . Willful did it on purpose 3. Act now reads “reasonable assurances” and “reasonable detail” mean such level of detail and degree of assurance as would satisfy prudent officials in the conduct of their own affairs G. General Telephone (1977) a. . Holding • No implied private right of action under §12. .
Statutory Language • Unlawful for securities firms. banks and other exercising fiduciary powers to violate the SEC’s proxy rules in respect of registered and certain other securities that are carried for the account of a customer b.• • No private right of action under §13 P’s are avoiding §18 b/c not attractive (1) no one succeeds in court under it (2) purchaser/seller requirement (cannot argue would have purchased) (3) reliance requirement • “eyeball reliance” had to have actually read report yourself rather than just relying on information or advice (4) loss causation • misrepresentation cause the diminution in value to the investor (5) D has a good faith and no knowledge defense • So if negligent. Section 14 (a) • Gives the SEC the power to pass rules • Gives rules passed the force of law 4. not liable as long as in good faith (6) Costs and attorneys fees can be assessed against either party VIII. consents or other authorizations in connection with a meeting. Section 14(c) a. Section 14(b) a. Proxy statements and cards • Proxy statement what is voted on • Proxy card instrument employed to vote on statement 3.(g) • Does not cover purely §15(d) filers 2. Language • If management does not solicit proxies. Proxy Regulation A. Regulatory Scheme 1. Effect • Makes sure beneficial owners get proxies and decide what action to take 5. Who Covered • Securities that are registered under §12(b). Effect • Companies that do not need to solicit proxies must still provide shareholders with adequate disclosure 77 . the Company still must file equivalent materials with the SEC and send them to the shareholders to keep the shareholders informed b.
6. Regulation 14A • Instructions for the preparation, filing and provision to security holders of proxy materials • Schedule 14A details information that must be included
Distribution of Proxy Statement Rule 14a-6 a. Requirements (1)When company is having mundane annual meeting • Proxy statement and form of proxy must be filed with or mailed for filing to SEC not later than the date they are first used (2)If not a mundane meeting • Proxy statement and proxy card must be filed with SEC ten days before they are used b. If proxy statement sent by management in connection with an annual meeting, must be preceded or accompanied by an annual report What Communications are governed by Proxy Rules Any Solicitation a. Proxy Statement b. Proxy Forms c. Any other communications to security holders under circumstances reasonable calculated to result in procurement, withholding or revocation of a proxy • Very broad definition What Communications are Excluded by the Proxy Rules Not a Solicitation: a. Public communications by shareholders as to how they intend to vote and their reasons for their decision • Allows shareholders to discuss corporate matters among themselves • Especially helpful for institutional investors b. Activities that would constitute solicitations, so long as the shareholders or other people involved: • Are not affiliated with management • Do not have an individual interest in the proposal to which the solicitation relates • Do not seek proxy authority • Do not provide anyone proxy or other forms, such as consents, relating to voting c. De Minimis Exception • A shareholder can solicit less than ten shareholders and not be subject to proxy rules
10. Who is subject to proxy rules a. Everyone who seeks proxy authority b. Solicitation conducted by management • If in connection with an annual meeting, proxy must be accompanied or preceded by an annual report • Also must follow filing requirements from above c. Solicitations of shareholders by shareholders Rule 14a-8 • Too expensive for the security holder to do alone unless big institutional investor • Rule 14a-8 • Requires management to include in its proxy statement proposals made by security holders, along with supporting statements (up to 500 words) when certain conditions are met • Requirements for shareholder timeliness, amount of securities held, subject of proposal (can’t violate law, can’t be about ordinary business operations of the issuer, can’t relate to an election of an office) • If management wants to exclude, it must make a filing with SEC stating its reasons for not including it (no-action letter) B. False or Misleading Statements 1. Statutory Language Rule 14a-9 • No solicitation . . . shall be made by means of any proxy statement . . . that is false or misleading with respect to any material fact, or which omits to state any material fact. • §14 gives the SEC power to make rules dealing with proxies and gives those rules the power of law (but the statute itself does not prohibit fraud) 2. Potential Problems a. Criminal Liability §32 (1) Statutory Language • Any person who willfully violates any provision of this title or any rule or regulation thereunder . . . or any person who willfully and knowingly makes any statement in any application or document required to be filed . . . which statement was false or misleading with respect to any material fact . . . can get prison or fine • But no person shall be subject to imprisonment for the violation of any rule or regulation if he proves that he had no knowledge of such rule or regulation (2) Standard of Fault • Misrepresentations in filings willful and knowing
Knowing must know of statute or rule accused of violating • All other sections only have to show willful • No imprisonment if can show lack of knowledge b. SEC enforcement c. Express Private Rights of action under §18 for filed documents d. Implied Private rights of action • Available for solicited shareholders • Usually not available for proxy contestants • All others apply Cort
3. Proper Plaintiff a. Shareholder whose vote was solicited • Will be a proper plaintiff (Borak) • Mean to be protected by statute and rule b. Possible Competitor (3rd party) claiming merging cos. Are being misleading • Not a proper plaintiff • “When a plaintiff’s claim arises from its role as a proxy contestant, it does not have standing to sue” (Royal Business Group) c. Other potential plaintiffs • Probably none must determine if they were the intended beneficiary of statute 4. General Issues a. P must prove • Proper P • Proper D • Material misrepresentation • Causation (essential link doctrine) • Degree of fault (varies depending on circuit) • Loss causation b. Defenses Available • Rebut P’s case • Safe harbor for forward looking statements §21E • Bespeaks caution c. Damages • Limitations - §21D(e) • Proportionate Liability - §21D(f) • P must prove them 5. Proper Defendant a. Anyone who does the bad act • “one who send a proxy solicitation that contains a material misrepresentation or omission of a material fact”
did not do Bad Act. If they do no solicit. Electric Auto-Lite) a. not that it would have changed their vote • Fact significantly altered the total mix of information available • Rationale for Standard purpose of the rule is to ensure disclosures by corporate manage in order to enable shareholders to make an informed choice c. General Background • Statement must be material • There is an explicit duty to correct statements which may become misleading b.b. Definition of Materiality (TSC Industries) • Material substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote • Showing that fact would have assumed actual significance in the deliberations of the reasonable shareholder. The Bad Act Material Misrepresentation or Omission a. Establishing Causation 81 . Statements of Belief (Virginia Bankshares) • Opinions of directors are material where they suggest something about the underlying subject matter • “we do not substantially narrow the cause of action by requiring a plaintiff to demonstrate something false or misleading in what the statement expressly or impliedly declared about its subject” • If they do not mislead as to underlying subject matter not actionable • Disbelief or undisclosed motivation standing alone is insufficient to satisfy the element of fact that must be established under §14(a) • A misstatement of opinion is hardd to prove d. Anyone engaging in solicitation subject to §14(a) rule. but remember some are exempted c. Additional Considerations • Bespeaks Caution Doctrine Applies • Can render statement immaterial if in document with sufficient cautionary language • Safe Harbor §21E • Forward looking proxy statements in proxy materials are covered by this if follow requirements and not excluded 7. and not a proper D 6. Causation Required (Mills v.
D avoided have to deal with shareholders exercising one of those options • These alternatives are not available for all P’s in this situation d. threaten to seek them to force D to improve its offer. Causation When Management Has Enough Shares (Virginia Bankshares) (1) Issue • Whether causation can be demonstrated by a member of a class of minority shareholders whose votes are not required by law or corporate bylaw to authorize the transaction giving rise to the claim (2) Holding • P argues link existed and was essential b/c vote need for public relations and good will • Court rejects majority had enough votes to push merger through (this was not an essential reason to solicit proxies) • 82 . rather than the particular defect in the solicitation materials. a judicial appraisal for the merger’s merits could be substituted for the actual and informed vote of the stockholders • This test will avoid the impracticalities of determining of how may votes were affected • P does not have to show reliance c. Causation When Management Has Enough Shares Without Shareholders (Cole) • Issue Whether causation could be shown where the management controls a sufficient number of shares to approve the transaction without any votes from the minority • Holding • Solicitation of proxies was not required by any law (ASK ABOUT THIS AND DISTINCTIN W/VA) • Plaintiffs had three options seek appraisal rights. proxy solicitation was an essential link” • By lulling shareholders into thinking this was a good merger. was an essential link in the accomplishment of the transaction b. Rationale for Standard • If D could defend by showing the merger was fair.Where there has been a finding of materiality a shareholder has made a sufficient showing of causal relationship between the violation and the injury for which he seeks to redress if he proves that the proxy solicitation itself. seek to enjoin the merger • “in view of these three alternatives to accepting the offer.
Supreme Court would not endorse state right????? e. §21D(b)(4) • “In any private action arising under the Exchange Act the plaintiff shall have the burden of proving that the act or omission of the defendant alleged to violate the Act caused the loss for which the plaintiff seeks to recover” 9. Typically required under Rule 14a-9 b. Applies To: 83 . did not want to turn statute into questions of hypothetical causes of action issues would be hazy. What is it? • Forms the link between the wrong complained of and the fact that the plaintiff has been damaged by the wrong • Plaintiff must show that he suffered a loss because of the proxy solicitation c. Limitations on Damages §21D(e) a. do not have to show reliance on the misstatements 8. Loss Causation (not much case law b/c cases come up at injunction stage) a.• Theory would expand the class of plaintiffs who can bring suit (Congress did not intend this) • Under Blue Chips. reliable evidence would seldom exist • P argues shareholder vote resulted in loss of self dealing cause of action • Court does not decide question b/c no indication that proxy solicitation resulted in any such loss • If information not adequately disclosed favorable minority vote induced by the solicitation would not suffice to render the merger invulnerable to later attack on the ground of conflict (must have informed voting to protect merger from later attack) (3) Remains of Cole • Cole not overridden b/c there vote was required by law (not sure) • Here not bylaw or law required the vote of shareholders and proxy solicitation involved • Gabaldon speculates that if Cole had to deal with loss of state right. Type of Causation Involved in These Cases Transaction Causation • If show statement material and an essential link.
Two Possible Degrees of Fault • Negligence P is not required to establish any evil motive or reckless disregard of the facts by D (very broad standard of fault) • Scienter P must show a knowing misrepresentation of reckless disregard of the truth (very hard standard of fault to prove) 3. they are not required to establish any evil motive or even reckless disregard of the facts negligence sufficient • Rationale • Rule 14a-9 is distinguishable from Rule 10b-5 84 .• Private actions where the plaintiff seeks to establish damages by reference to the market price of a security b. Gerstle v. but Gabaldon says if apply strict Cort factors may come out a different way • Courts are inclined to be more permissive with outsiders (directors and accountants) then with insiders (issuer and directors) 2. General Background • Never decided by the Supreme Court • Courts have gone both ways some say negligence is enough while others require scienter (strict liability has not been decided • Rule is very plaintiff friendly people who do this should be liable. Degree of Fault Required 1. Limit • Damages cannot exceed the difference between the plaintiff’s purchase or sale price and the mean trading price • Mean Trading Price price during the 90 day period beginning on the day on which the information correcting the misstatement or omission that is the basis for the action is disseminated to the market C. Gamble Skogmo (Negligence is sufficient) (1) Background • Minority shareholders are bringing suit • Proxy sent to them contained an inadequate disclosure of profits from sale of advertising plants and plans to sell the plants (2) Holding • Where the plaintiffs represent the very class who were asked to approve a merger on the basis of a misleading proxy statement and are seeking compensation from the beneficiary who is responsible for the preparation of the statement.
Standard Knitting Mills (Must show scienter) (1) Background • Outside accounting firm made a negligent error in failing to point out in proxy statement sent to shareholders that restrictions on dividends applied to preferred as well as common stock (2) Holding • Standard is scienter have to know of misstatement was false/misleading or have a reckless indifference to the truth • Rationale for higher standard • Accountant will not benefit form the misrepresentation (lack of motive) • Accountants prepare financial statements daily and the potential liability for relatively minor mistakes would be huge under a negligence standard D. as determined under §21D 85 . Damages 1. negligence is sufficient for person who supplies false information to another with intent to influence transaction • Court did not have to decide if strict liability should be imposed • Here the D was at least negligent so court does not have to decide if liable without any culpability 4. §21D(g) Private Actions Under the Exchange Act • D generally is liable solely for the portion of a judgment that corresponds to the percentage of responsibility of that D. the disclosures are mandatory • Under tort liability. P can get damages or an injunction • P typically seeks an injunction courts often inquire into the fairness of a completed transaction on which shareholders voted and impose damages the effectively reformulate the terms of the transaction • When seeking damages P must prove damages have to show both transaction and loss causation (discussed above) 2. Adams v.• 10b-5 requires scienter but legislative mandate is to regulate manipulative and deceptive devices • here more concerned with protection of outsider whose proxy is being solicited (consistent with legislative scheme) • Rule 10b-5 tries to encourage companies to release information if can be liable on lower negligence standard may not do it • Here.
Cash Tender Offers • Target’s shareholders are offered cash in exchange for their shares • Williams Act applies • ’33 Act does not apply b/c not offering stock • Rule 145 of ’33 Act does not apply B. Context Two Types of Tender Offers 1. SEC. Reporting Requirements • §13(d) contains a list of what must be disclosed • But SEC has added to the list 86 . Requirement • A person who owns beneficially more than five percent of a class of equity security registered under the Exchange Act to provide certain information to the issuer. Williams Act 1. Scope • Not limited to tender offers anyone who gets 5% must file • Only applies to equity securities. Purpose of Act • Intended to level the playing field for the target and the acquirer • Prevent shareholders from giving up their shares without adequate disclosure 2. not debt c. Tender Offer Regulation A. Section 13(d) a. Stock Tender Offers • Acquiring company offers its securities in exchange for shares in the target • Williams Act applies • Always been subject to registration requirements of ’33 Act b/c offering stock • Do not have to worry about Rule 145 (only applies to collective decision making) 2.• D is liable for damages jointly and severally only when the trier of fact specifically determines that the D knowingly committed a violation of the securities laws (can only be liable for everything if knew committing violation) • D has a right of contribution based on proportionate liability IX. and each exchange on which the security is traded within 10 days after the acquisition of securities that trigger reporting requirement b.
or to effect any other major change in its structure 3. Timing of Disclosure • Main disclosure document must be filed with the SEC not later than the time the tender offer is announced • All other documents must be filed by the time they are first used • Copies of all filings must be sent to the issuer not later than the time they are first published or sent to shareholders c. Statutory Language • It is unlawful for any person to make a tender offer for and Exchange Act registered equity security if success in the offer would result in ownership of more than five percent of the class unless certain filings are made b. to sell its assets. basic information concerning potential tender offerors • Number of shares beneficially owned • Source of funds used to purchase the shares • If purpose of the purchase of shares is to acquire control • Any plans to liquidate the issuer. to engage in a merger. Substantive Regulation regulate terms of TO by disclosure (1) Withdrawal Right • Rule 14d-7 securities deposited in response to a tender offer can be withdrawn at any time during the entire period of the TO • Easy rescission for security holders who change their minds • Protection against having securities tied up indefinitely while a tender offeror waits to receive desired number of shares 87 . Section 13(e) • SEC has power to regulate repurchases by issuers of their own equity securities 4. Section 14(d) a.• • • Regulation 13D-G details the disclosure requirements • Schedule 13D Duty to file amendments • Must file upon the occurrence of material changes in the disclosed information Information that must be disclosed • Designed to give mgt.
otherwise than at a meeting of security holders. and prescribe means reasonably designed to prevent.• Actual statute only provides for withdrawal within seven days after original tender offer. . or to engage in any fraudulent. pro rata and best price) b. or manipulative acts or practices in connection with any tender offer . Section 14(f) a. 88 . Application • Applies to tender offers for any security (not just registered equity securities) 6. Disclosures required when: • Majority of directors are to be filled. by rules and regulations define. . Statutory Language • “It shall be unlawful for any person to make any untrue statement of material fact or omit to state any material fact . a tender offeror must purchase tendered securities pro rata according to the number of securities tendered at any time during the period of the tender offer • Helps avoid pressure security holders may feel to tender quickly and without adequate thought • Protects small holders from being ignored • Actual statute only requires pro rata purchasing from those tendering during the first ten days the offer is open (3) Best Price Rule • When a tender offeror increases the tender offer price after some holders have tendered. deceptive. statute requires that all tendering security holders must be paid the higher price Section 14(e) Anti-Fraud Provision a. . deceptive or manipulative” • This is how SEC had power to pass substantive regulations above (withdrawal. such acts and practices as are fraudulent. Trigger • Filling of vacant directorships by sitting directors • After an acquisition subject to regulation under Williams Act 5. . and after sixty days have elapsed following this date (2) Pro Rata Purchasing • Rule 14d-8 when a tender offer is for less than all the securities of a class. following an acquisition of securities that is subject to the requirements of §13(d) or §14(d) • Disclose to SEC and security holders b. .” • “The SEC shall for purposes of this subsection.
. 1978) a. Tender offer exists when there is: (1)a publicly announced intention by the purchaser to acquire a substantial block of stock of the target company for purposes of acquiring control thereof.D. Mass. 1985) 89 4. Fuqua Investment (D. Not defined by statute or SEC regulation or rule • SEC wants to maintain flexibility • Courts have own formulations factors used overlap and may not matter which approach you apply 2.Y. AND (2)a subsequent rapid acquisition by the purchaser of large blocks of stock through open market and privately negotiated purchases b.N. Limitations on Test • Only relates to specialized situations that do not fit the mold of classic tender offers c. 1979) a. SCM Corp. Carter Hawley Hale Stores (9th Cir.C. Wellman v. 1985) • All eight of the Wellman factors do not have to be present in a particular situation before it is recognized as a tender offer • Rather. S-G Securities v. SEC v. Rejected by Ninth Circuit • Test is vague and difficult to apply • Offers little guidance to the issuer as to when his conduct will come within the ambit of a SEC rule Hanson Trust PLC v. (2nd Cir. What is a Tender Offer 1. Dickinson (S. often subject ot a fixed maximum number to be purchased (6) offer open only a limited period of time (7) offeree subject to pressure to sell his stock (8) public announcements of a purchasing program concerning the target company precede or accompany rapid accumulation of large amounts of the target company’s securities b. Eight Factors suggested by SEC as characteristic of a Tender Offer (1) active and widespread solicitation of public shareholders for the shares of an issuer (2) solicitation made for a substantial percentage of the issuer’s stock (3) offer to purchase made at a premium over the prevailing market price (4) terms of the offer are firm rather than negotiable (5) offer contingent on the tender of a fixed number of share. the provide some guidance as to the traditional indicia of a tender offer 3.
Holding Not a tender offer (1) Rejected Wellman 8 factor test • Although many of the factors are relevant. Section 21C • Can issue a cease and desist order 2. Section 13(d) Who May Bring Suit 1. Background • Cash tender offer by HT – counter proposal by SCM – HT then increased price – SCM increased price and added a crown jewel • HT then terminated tender offer and made private purchases b. Justice Department • Can seek a criminal indictment when it believes willfulness was involved in a breach 90 . SEC a. court does not want to have a mandatory litmus test • Court said that a solicitation may constitute a tender offer even though some of the 8 factors are missing OR may not be a TO even though many of the factors are present (2) Test Look to statutory purpose • Tender Offer If viewing the transaction in light of the totality of circumstances.a. there appears to be a likelihood that unless the pre-acquisition filing strictures of that statute are followed there will be a substantial risk that solicitees will lack information needed to make a carefully considered appraisal of the proposal put before them • Looks at whether the purpose of the TO regulations would be furthered if applied would the offerees lack information needed to make a careful appraisal of the proposal without the pre-acquisition filings (3) Application of Test Not a tender offer • Few number of sellers • All buyers were sophisticated • No pressure to sell except by forces of the market place • No widespread advance publicity • Not at a substantial premium • Offers not made contingent on getting certain number of shares • No time limit within which he would only make the purchases D. Section 21 • Can bring an enforcement action in a district court seeking an injunction b.
1983) (1) Issue • Whether there is an implied private right of action for an issuer corporation to seek injunctive relief under §13(d) of ’34 Act (2) Holding implied right of action exists • Cort Factors Analysis • Congressional intent is particularly important • When Congress does a significant amendment and leaves intact provision where federal courts have implied a private cause of action. Private Plaintiff a. Proper D under §13(d) 1. Indiana National Corp. The acquiring person or group who own more than 5% and don’t file or make defective filings 91 . 1985) • Held a target company does have standing to sue when seeking corrective disclosure rather than divestiture E. Culverhouse (11th Cir. Rich (7th Cir. Other Holdings (1) Some district courts and one circuit court say no private right (2) Liberty National Insurance v. evidence was that Congress had affirmatively intended to preserve that remedy • Application Congress intended a private right • • Statute on which this was modeled had a private right of action • Act has been amended twice and Congress did not overturn precedent holding a private right of action • SC had assumed one was available to issuer corporations • Only holding that can make disclosure requirements effective filing is only sent to SEC and issuer c. Charter (11th Cir. v. Anyone who violates §13(d) 2.) • Plaintiff sought divestiture of its shares that were owned by D • Held Congress did not intend a private right of action • 1st amendment to statute too soon after passage to affirm precedent • 2nd amendment did not permit an unambiguous inference of legislative intent to preserve a judicially recognized issuer right of action (3) Florida Commercial Banks v. Context • Major issue is whether an issuer can sue a shareholder who have violated disclosure requirements by failing to file Schedule 13D or filed a defective one b.3.
do not have to file 2. such syndicate or group shall be deemed a “person” for the purposes of §13(d) • The Milsteins separately held more than 5% but the only question is whether the syndicate acquired those shares after the effective date of the Williams Act • Voting control of stock is the only relevant element of beneficial ownership • The syndicate gained beneficial control of the stock after its formation which was after the effective date of the Act • Individuals acquired stock before effective date of Act then groups formed representing more than 5% of stock with an eye towards control after the effective date this constitutes acquiring stocks under §13(d) • House and Senate reports support this group is deemed to have become the beneficial owners of more than 5% at the time they agreed to work together • Should have filed a Schedule 13D within 10 days of forming the syndicate and “acquiring” the shares c. Group Acquiring More Than 5% GAF Corp. holding. the are a group • Mere conversations are not enough • Beyond that to forming a plan will place you under §13(d) • If form group with not enough shares. Broad Reading of Statute • If a group collectively owns more than 5% of stock and talk about the future. or disposing or securities of an issuer. Holding • Section 13(d)(3) when two or more persons act as a partnership or other group for the purpose of acquiring. Background • The Milsteins’s owned more than 5% of GAF’s preferred stock and some time after the effective date of the Williams Act they agreed to act as a syndicate to seize control of GAF • Filed a Schedule 13D and each time denied an intention to accumulate additional shares but continued to acquire GAF’s common stock b. a. Background • D bought more than 5% of stock and did not file 13D because was unaware of requirement 92 . Milstein a. v. Mosinee Paper Corp.F. Irreparable Harm Rondeau v. Substantive Section 13(d) Issues 1.
but if damages not adequate equity will try to make you whole • Danger of recurrence? • Not likely that he will do it again • Persons who allegedly sold at an unfairly depressed price have an adequate remedy by way of action for damages.• After getting a letter from company. thus negating the basis for equitable relief • No irreparable harm found • Has enough shares. Section 14(e) Who may sue? Proper P? 1. Holding • Court does not address issue of standing. Generally • Shareholders can sue • Target corporations can sue tender offerors when they seek an injunction • Potential acquirer in suit for damages in NOT a proper P • For all others argue by analogy 2. consulted an attorney and immediately filed one • His bought stock b/c though it was a good investment and may gain control and change management b. but a target almost always has standing (but may be dependent on remedy sought) • In order to get an injunction under §13(d) a plaintiff must prove irreparable harm • While issuer will have standing not every little violation will give rise to an injunction • Injunctive relief is a remedy based on having irreparable harm and inadequacy of legal remedies • An action for damages is better. Application • §14(e) applies to tender offers for any security not just registered equity securities 3. Chris-Craft Industries (SC 1977) a. Piper v. Scope of Holding • Not necessarily binding under §14(e) equitable considerations may be different and have different purposes for the statute G. Issue • Whether a showing of irreparable harm is necessary for a private litigant to obtain injunctive relief in a suit under §13(d). c. but has not launched an assault or any tender offer in the works d. Issue 93 .
7. (2nd Cir.• Is an unsuccessful tender offeror a proper P to sue the target company or a competing offeror for damages? No b. Culverhouse (11th Cir. Holding (1)Tender offeror suing in its capacity as a takeover bidder does not have standing to sue for damages under §14(e) (2) Rationale • Purpose of the Williams Act is to insure that public shareholders who are confronted by a cash tender offer for their stock will not be required to respond without adequate information • Nothing in legislative history suggests Congress contemplated a private cause of action for damages by one of several contending offerors against a successful bidder • Application of Cort Factors • Act was passed for benefit of shareholders • Inconsistent with legislative scheme to allow unsuccessful bidder to get damages • No legislative intent • State cause of action present • Even though SEC has practical constraints recognized in other cases. 1985) • Target company has standing to sue under §14(e) when seeking corrective disclosures rather than divestiture of stock in the plaintiff owned by the defendant 6. Lewis v. Issue 94 . but slips lightly over question of legislative intent • Limited precedential value 5. Charter (11th Cir. 1969) • Target corporation can sue tender offerors when they seek an injunction • Shareholders of the target also have the right to sue tender offerors when they seek an injunciton • Williams Act was intended to protect shareholders confronted with a tender offer • Clearly they have standing 4. International Controls Corp. 1984) • Held target does not have right to bring an injunction under §14(e) • Analyzes Cort. 1980) a. McGraw (2nd Cir. Florida Commercial Banks v. institutional limitations alone do not lead to the conclusion that any interested party in a tender offer should have a cause of action for damages against a competing bidder Liberty National Insurance v. Electronic Specialty v.
such acts and practices as are fraudulent. such statements may be made “in connection with a tender offer” as required by §14(e) H. Statutory Language • “It shall be unlawful for any person to make any untrue statement of a material fact or omit to state any fact . deceptive. . Conduct Proscribed by Section 14(e) 1. or manipulative” 2.• Whether shareholders may maintain a cause of action for damaged under the Williams Act where they concede that no tender offer has been made to them. Holding No Implied Right of Action • P’s concede that no tender offer took place and no shareholder was in a position to tender his shares at the stated price • Statements must be made “in connection with a tender offer” as required by §14(e) • Purpose of §14(e) • Protect investors • Ensure won’t be required to respond without adequate information • One element of a cause of action is a showing that there was a misrepresentation upon which the target corporation’s shareholders relied • There cannot be any reliance here b/c no opportunity to tender shares • Shareholders have no cause of action b/c they could not have relied on the statements made because they were not made “in connection with a tender offer” • No reliance was even possible so to presume reliance (as do in other sections of the Act) would be illogical • Scope of Holding • Statements made on eve of tender offer by target or offeror may be covered • If offer becomes effective and reliance demonstrated or presumed. deceptive or manipulative acts in connection with a tender offer” • “The SEC shall by rules and regulations define and prescribe means reasonably designed to prevent. Early Case Law • Sixth Circuit had found that a defendant could be held liable for conduct that was manipulative even when the conduct did not contain an element of misstatement or nondisclosure 95 . or to engage in any fraudulent. . b.
§14(e) has not been violated • Congress relied primarily on disclosure to implement the purpose of the Williams Act • Court is not interested in fairness and substance this is a disclosure statute • Must have a disclosure related effect • Nowhere in the legislative history is there the slightest suggestion that this serves any purpose other than disclosure • Lack of disclosure in 2nd tender offer regarding golden parachute • The nondisclosure must have a causal relationship to plaintiff’s alleged injuries • Plaintiff is complaining that she was injured by first tender offer. no untrue statement or omission) • D made one tender offer and then withdrew • Substituted with new tender offer at same price but reduced number of shares and a golden parachute • P claims this was manipulative b/c stirred up interest through first tender offer and then withdrew b. Third. and Eighth Circuits had issued opinions with the opposite conclusions 3. artificially affect the price of the takeover target’s stock • P believes can have a violation of §14(e) without any allegation of nondisclosure (i. or manipulative acts or practices” to include acts which. Burlington Inc. Schreiber v. Background • P reads the phrase “fraudulent. and the nondisclosure took place during the second tender offer • Just because a technical violation may not lead to recovery • Must have misrepresentation/nondisclosure and just because there is a violation does not mean you have a private right need cause and suing for the right remedy 96 . (1985) a. although fully disclosed. deceptive.e.• Second. Holding • “manipulative” acts under §14(e) require misrepresentation or nondisclosure • Manipulative connotes “conduct designed to deceive or defraud investors by controlling or artificially affecting the price of securities” • Without misrepresentation of nondisclosure.
as is required in a Rule 10b-5 case 3. practice.I. . Holding • Under §14(e). . or artifice to defraud (b)to make any untrue statement of a material fact or to omit to state a material fact necessary to make that which was said not misleading (c) to engage in any act. Rule 14e-3 1. Origin 97 . Rule’s Language • “it shall constitute a fraudulent. SEC’s Power to Enact US v. or course of business which operates to would operate as a fraud or deceit upon any person in connection with the purchase or sale of any security b. Background • Straightforward misappropriation of information case involving a lawyer who worked for a law firm that represented a bidder b. or manipulative act or practice within the meaning of §14(e) for any person who is in possession of material information relating to such tender offer which information he knows or has reason to know is non-public and which his knows or has reason to know has been acquired directly or indirectly form certain people . nonpublic information in the tender offer context X. Fraud in the Purchase or Sale of Securities §10(b) and Rule 10b-5 A. Rule 10b-5 a. Overview 1. not themselves fraudulent under the common law or §10(b). scheme. Language • It shall be unlawful for any person. How Violated • Can be violated without the existence of a related violation of a fiduciary or other such duty. SEC may prohibit acts. this qualifies under §14(e) as a means reasonably designed to prevent fraudulent trading on material. to purchase or sell or cause to be purchased or sold any of such securities” • also illegal for insiders to tip others with material information about tender offers 2. directly or indirectly to (a) to employ any device. deceptive. if the prohibition is reasonably designed to prevent acts and practices that are fraudulent • As applied to this type of case. O’Hagan a.
• Drafted by combining numbered subdivision of Securities Act §17(a) together with Exchange Act §10(b) c. Why Needed? • Section 10(b) only makes it unlawful to use any manipulative or deceptive device in contravention of such rules and regulations as the SEC may prescribe as necessary or appropriate • Statute does not make any acts unlawful.) • Blue Chips Insider Trading • Cady • Texas Gulf Sulfur • Chiarella • • Affiliate Ute (face to face) Shapiro (presume reliance in open market) 2. Holding (Insider Trading Tipper/Tipee) (1) Obligation • An insider with non-public material information has (a) a duty to disclose the information or (b) refrain from trading (2) Who is under this obligation? 98 . if violated. it just allows the SEC to make rules that. (1961) a. Classifications of Violations (1) Misleading Statement (including statements which require a speaker to say more to make it not misleading) • Rule 10b-5(b) (2) Insider Trading Including Tippers and Tipees • Rule 10b-5(a) & (c) (3) Market and Other Manipulation • Rule 10b-5(a) & (c) • Usually done by market professionals e. will be unlawful d. Organization of Cases Misleading Basic Definition • Texas Gulf Sulfur • Superintendent of Insurance • Brown v. In Re Cady Roberts & Co. Ivie • Ernst/Aaron Private Plaintiff • Basic (in market trans. Issue • What are the duties of a broker after receiving non-public information as to a company’s dividend policy from a director who is employed by the same brokerage firm? b.
directly or indirectly. to information intended to be available only for a corporate purpose and not for the personal benefit of anyone. SEC v.Traditional corporate insiders officers. Holding (1) Introduction • Rule 10b-5 is based in policy on the justifiable expectation of the securities marketplace that all investors trading on impersonal exchanges have relatively equal access to material information • Essence of Rule is that anyone who. Texas Gulf Sulphur Co. controlling stockholders • “Any person” who (a) has access. directors. to information intended to be available only for a corporate purpose and not for the personal benefit of anyone may not take advantage of such information knowing it is unavailable to those with whom he is dealing • People who come up with own theories on company can trade on that information if developed for own purpose (2)Material Inside Information • Whether facts are material within Rule 10b-5 when the facts relate to a particular even and are undisclosed by those persons who are knowledgeable thereof will depend at any given time upon a balancing of both the indicated probability that the event will occur and the 99 . trading for his own account in the securities of a corporation has access. (1968) a. Background • D was mining for minerals and found stuff it knew was good but downplayed importance of finding • D did not want to increase the stock price and wanted to figure out other land to buy (but court is interested in what they were doing not motivation for doing it) • Concern is not over silence but rather the downplaying of the importance of the discovery (misleading) b. directly or indirectly. and (b) the inherent unfairness involved where a party takes advantage of such information knowing it is unavailable to those with whom he is dealing (3) Rationale for Rule • Purpose of the law is to give equal access to info • Violates notion of equal access and unfair if have intended for corporate affairs to be used to gain an advantage in the market • This is why trading on insider information is fraud or deceit • 3.
• Corporations or persons responsible for the issuance of the misleading statement does not have to engage in related securities transactions to violate the law • Duty to Avoid Misleading Statements applies to any person whose statement may be relied upon by a reasonable 100 . all insider activity must await dissemination of the promised official announcement (4) May Insiders Accept Stock Options Without Disclosing Material Information to the Issuer? • Because top managers were under a duty before accepting stock options to disclose any material information to the Board issuing the options • Lower tier insiders assumed superiors had told board issue of their liability undecided (may or may not have to disclose • Rationale Board did not have material information that insiders had when issued options and therefore the insiders were trading at information disadvantage (5)In Connection With Requirement • Argument D relies on holding below that release produced no unusual market action and in absence of intent to affect the market it was not issued in connection with the purchase or sale of any security • General Rule speaker of misrepresentation does not have to purchase of sell just reasonably expected that it will be relied upon by a reasonable investor to be “in connection with the purchase or sale of a security” • Phrase “in connection with the purchase or sale of any security” intended only that the device employed be of a sort that would cause reasonable investors to rely thereon and in so relying cause them to purchase or sell a corporation’s securities.anticipated magnitude of the event in light of the totality of company activity • Take both into account so if don’t know if something will happen will not always have to disclose (3)When May Insiders Act? • Before insiders may act upon material information. such information must have been effectively disclosed in a manner sufficient to insure its availability to the investing public • Must have effective dissemination • Mere pres reliease does not mean have this • Where a formal announcement to the entire financial news media had been promised in a prior official release known to the media.
investor (person making the statement does not have to buy and sell in connection with …) • Do not have to be buying or selling a security to be liable if a reasonable investor would rely on what you said B. not necessarily caused sale of security 3. Background • Insurance company sold the stock of one of its subsidiaries to D • Through a series of transactions D raised funds to pay for the stock by causing the corporation they purchased to sell bonds it owned and by misappropriating the proceeds from the sale of the bonds • The board of directors thought is was replacing Treasury bonds with CD’s and still had that money c. Superintendent of Insurance v. Holding (1) Section 10(b) outlaws the use “in connection with the purchase or sale” of any security of “any manipulative or deceptive device or contrivance” (2) Company was injured as an investor thought a deceptive device which deprived it of any compensation for the sale of it valuable block of securities. “In Connection With” Requirement 1. Type of Case • Element of the bad act (not private P) • Misleading case (not insider trading) b. (1971) a. 1981) a. Ivie and Lightsey were the only three shareholders in a close corporation • In ’76 entered into a buy-sell agreement that required shareholders to sell stock back at book value • This agreement was unenforceable 101 . Brown v. Bankers Life & Casualty Co. Ivie (5th Cir. the conduct prohibited by the rule must be “in connection with the purchase or sale of a security” 2. Background • Brown. (3) Congress by §10(b) did not seek to regulate transactions which constitute no more than internal corporate mismanagement (4) Company suffered an injury as a result of deceptive practices touching its sale of securities as an investor (5) Touch Test deceptive practices touched sale of security. Generally • To be subject to Rule 10b-5.
but only that the transaction involving the sale touch the transaction involving the defendant’s fraud c. Background • Santa Fe controlled 95% of Kirby’s stock 102 . Ketchum v. “In Connection With” and Corporate Mismanagement Santa Fe v.• Ivie and Lightsey wanted to get rid of Brown so they had him sign another agreement telling him that it was necessary to effectuate a change in insurance companies • Seven days later they fired Brown b. Green (1977) a. Holding • “In Connection With” requirement was met more direct causal connection between fraud and sale of security • D’s could oust P at any time but had to lie to him to get him to sign the agreement to sell his stock back at termination of employment • D’s fraud caused P to sign agreement saying he would sell stock back at termination terminated seven days later sale of stock required due to agreement that was fraudulently obtained 4. 1977) (1) Background • P alleged ousted from corporation due to D’s misrepresentations • P had to sell his stock back at less than fair value due to stock retirement agreement (2) Holding • “In Connection With” requirement is not met fraud too remote to the sale of the security • D did not as an integral part of their scheme induce P to enter into the agreement • Objective of D’s fraud was to expel P from corporation in order to gain control resulting sale of security was an indirect consequence of P’s expulsion • Agreement had been in place over seven years prior to the alleged fraud d. Rules • A necessary element of Rule10b-5 offense is that the fraud or deceit be in connection with the sale of a security • Concept is flexibly applied but requires that there be a nexus between the fraud and the securities sale • Plaintiff need not establish a direct or close relationship between the fraudulent transaction and the purchase or sale. Green (3rd Cir.
Ernst & Ernst v. Fault Required 1. Hochfelder (1976) a. Holding No Violation • In order to have a violation of Rule 10b-5 must be an allegation of fraud. deceit of manipulation that is meant to mislead investors • Manipulation is a term of art when used in connection with securities markets refers to practices that are intended to mislead investors by artificially affecting market activity • §10(b) did not seek to regulate transactions which constitute not more than internal corporate mismanagement • shareholders only alleged that they were treated unfairly not that they were mislead • had all the relevant information • also element of causation misrepresentation did not cause alleged injury b/c did not seek appraisal rights C. Background • Accounting firm prepared annual reports of First Securities • P invested with FS and their money directly transferred to president of firm rather than to escrow accounts as he had promised b.• Wanted to merge with Kirby doing a short form merger requiring vote of parent’s board and payment to minority shareholders • Minority stockholders do not have to approve but have appraisal rights (did not exercise these rights) • Appraisal by Santa Fe priced the stock at $125/share and minority shareholders were given $150/share minority says worth $772/share and offering price was misleading b. Holding (private P case) (1)Scienter is required to be liable under §10(b) and Rule 10b-5 • Mere negligence is insufficient • Must show intentional conduct or lower courts also say recklessness • Applies to all sections of Rule 10b-5 even though it seems some can be violated with negligence must be read in light of §10(b) and not §17 of ’33 Act (2) Rationale • Words “manipulative or deceptive” used in conjunction with “device or contrivance” strongly 103 .
Aaron v. Is recklessness sufficient by itself to constitute scienter? • Most courts have found that recklessness constitutes scienter. Persons Subject to Trading Constraints 1. Target b.suggest that section was intended to proscribe knowing or intentional misconduct 2. Court Interpretation • Most courts say that just changing the pleading requirement • But perhaps Congress was trying to reject 2nd Circuits reckless standard D. Is scienter required to be proved in an enforcement action by the SEC? • Yes b. Holding not liable • One who fails to disclose material information prior to the consummation of a transaction commits fraud only when he is under a duty to do so • Duty arises only when one party has information that the other party is entitled to know because of a fiduciary or similar relation of trust and confidence between them 104 . Statutory Language • Congress changed the pleading requirements for private P’s and it is unclear whether they meant to change the degree of fault required • “private P must state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind” b. Background • Employee of a financial printing company that printed documents relating to planned tender offers purchased shares in target companies before the tender offers were announced publicly • Sold shares at a profit after announcements cause the market price to rise • Acquirer Printer Shareholders Chiarella. Possible Complication for Private Plaintiff Section 21D a. SEC (1980) a. but the story is a changing one 3. US (1980) Tipee Duty a. Chiarella v.
partner or employee . Announced Misappropriation Theory • D breached a duty to a acquiring corporation when he acted upon information that he obtained by virtue of his position as an employee of a printer employed by the corporation • The breach of this duty is said to support a conviction under §10(b) for fraud perpetrated upon both the acquiring corporation and the sellers d. . or manipulative act for any other person who is in possession of material information relating to such tender offer which information he knows or has reason to know is nonpublic which he knows or has reason to know has been acquired directly or indirectly from (1) offering person (2) issuer of securities sought by such tender offer or (3) any officer. . to purchase of sell securities . director. O’Hagan (1997) Fiduciary Duty to Acquirer a. issuer or employees illegal • Controversial because puts liability on people who supreme court refused to hold responsible • On facts of O’Hagan SEC had power to do this • 2. Holding D Liable (1) Classical Theory • Corporate insider who owes a fiduciary duty to the shareholders trades with those shareholders with confidential information by reason of their position with corporation 105 . . no info on earning power • Duty arises from access is rejected now it is access plus • Chiarella would have a duty to the acquirer as a temporary insider c. deceptive. United States v. unless information publicly disclosed • Makes trading on non-public information from acquirer.Not a corporate insider (for target) got no confidential info from target. SEC response Rule 14e-3 • It shall constitute a fraudulent. Background • D is partner in a law firm representing Grand Met in a tender offer for Pillsbury • D bought shares and sold after tender offer announced Acquirer (Grand Met) Shareholders Law Firm Target (Pillsbury) D Partner b.
SEC (1983) Tipee Liability a. self-serving use of a principal’s information to purchase or sell securities in breach of a duty of loyalty and confidentiality defrauds the principal of the exclusive use of that information • Effect of Disclosure to the Principal • Full disclosure forecloses liability under this theory • Because deception involve feigning fidelity to the source of info.• Applies to not only to officers etc. and others who temporarily become fiduciaries of a corporation • Does not apply here b/c D does not owe the shareholders of the target (people he bought shares from) any fiduciary duty (2) Misappropriation Theory • Outlaws trading on the basis of nonpublic information by a corporate “outsider” in breach of a duty owned not to a trading party. if he discloses to the source that he plans to trade on the nonpublic info no violation (may be duty of loyalty violation) • “In connection with the purchase or sale of a security” Requirement • fraud takes place not when he gets information but when he uses it to buy or sell securities • theory does not apply when defraud bank into giving you a loan and then use proceeds to buy a security • proceeds have value apart form their use in a securities transaction • fraud complete as soon as money obtained c. Dirks v. accountants etc. but also to attorneys. Application to a Thief • Sneak thieves are not covered under misappropriation theory • Only those who owe a fiduciary duty to target or acquirer are covered 3. but to the source of the information • Fiduciary’s undisclosed. Background • Insider gave D information trying to expose fraud • D interviewed employees and tried to get Wall Street Journal to expose fraud • D talked with others about fraud and these people sold their shares 106 .
or some special circumstance a company may disclose material information or not as suits its purposes • What circumstances trigger a disclosure requirement 2. Basic Inc. General Background • So long as a publicly held company is not trading in its own securities there is not general duty that requires it to disclose material inside information • In the absence of an explicit mandate in a given situation. from the disclosure (3) Overall test absent some personal gain by the insider. Levinson (1988) a. Holding How tippee acquires the duty to refrain from trading on inside information (1) D is only in breach of duty if info passed to him was in breach of insider’s duty (2) Whether a disclosure is a breach of duty whether the insider will personally benefit. there has been no breach of duty to the stockholders. v. Holding • Duty to disclose is not absolute and depends on materiality • Material an omitted fact is material if there is a substantial likelihood that a reasonable stockholder would consider it important in deciding how to vote • Under circumstances with respect to contingent or speculative information or events. directly or indirectly. materiality will depend at any given time upon a balancing of both the indicated probability that 107 .b. Issuer’s Duty to Disclose 1. and absent a breach by the insider there is no derivative breach (4)Determining whether someone benefits • Focus on objective criteria • Pecuniary gain or reputational gain that will translate into future earnings • Relationship between the insider and the recipient that suggests a quid pro quo from the recipient or an intention to benefit the particular recipient • Insider makes a gift of confidential information to a trading relative or friend resembles trading by insider himself followed by a gift of the profits to the recipient 5. Background • Company was in pre-merger negotiations and over a course of two years denied this three times b.
possible corporate developments. 7.the even will occur and the anticipated magnitude of the even in light of the totality of company activity • Probability need to look to indicia of interest in the transaction at the highest corporate levels • Courts have found pre-merger negotiations material before but court will not hold as a matter of law they are material • Silence • Whenever an issuer responds to an inquiry concerning rumors. or any other matter. Generally • Standing purchaser/seller requirement 108 . unless the controlling person acted in good faith and did not directly or indirectly induce the act or acts constituting the violation or cause of action No aiding and abetting liability in private actions (First Interstate Bank of Denver) • Not a bad act when private P involved under §10(b) • Court’s reasoning was broad enough to cover SEC actions as well 3. Section 20 Liabilities of Controlling Persons and Persons who Aid and Abet • Controlling persons are jointly and severally liable for any violation of the Exchange Act or its rules committed by the company or other person they control. unusual market activity. Section 20 Aiding and Abetting • Any uncertainty as to whether SEC could bring aiding and abetting action was cleared up when congress passed • Said SEC and DOJ has authority to bring actions for aiding and abetting the violation of any Exchange Act or any of its rules and regulations 2. Private Plaintiffs Must Show 1. Aiding and Abetting 1. the statement must be materially accurate and complete • If an issue wishes to avoid disclosure it can do so by responding “No Comment” • Must be sure silence is what it is communicating if issuer always denies rumors that are false but says “No Comment” when rumors are true then this is not silence and company cannot be misleading • Corporation can be silent even if something is material 6.
Generally (from review) • Non-disclosure cases • Face to face transaction Ute presumption • Open market Shapiro/Fredrich split • Misleading cases • Public arena Basic presumption of fraud on the market • Face to Fact no presumption and P must prove reliance b. Merril Lynch (2nd Cir. Affiliated Ute v. Transaction Causation a.• Reliance and transaction causation • Loss Causation • Obligation to show damages • Private right does exist • Degree of fault required and Section 21D may change for private P 2. 109 . US (1972) nondisclosure (1) Background • Face to face dealings between officers of a bank who engaged in stock transactions with members of the UTE tribe • Allegations were about the failure of the bank officers to disclose material information (2) Holding • Plaintiff has a rebuttable presumption of reliance if allegation is of material nondisclosure in a face to face transaction Shapiro v. 1974) nondisclosure (1) Background • Allegations of insider trading by persons in the open market • Nondisclosure in the open market • People who did not sell their shares bought suit alleging that they would have sold at a higher price had they known the information (that earnings were going down) (2) Holding D liable • Extends Affiliated Ute presumption to nondisclosure on the open market • All the plaintiff has to show is D engaged in bad act of nondisclosure. and court will presume reliance and causation • D owned a duty not only to the purchasers of the actual shares sold by D but to all person who during the same period purchased stock in the open market without c.
knowledge of the material inside information which was in the possession of defendants • Requisite element of causation in fact has been established by the admitted withholding by defendants of material insider information which they were under an obligation to disclose reasonable investor might have considered it important in making their decision to purchase stock d. and thus indirectly on the truth of the representations 110 e. Barrack (9th Cir. . Bradford (6th Cir. 1976) nondisclosure (1) Background • D bought shares on tip and sold for profit • Case is about nondisclosure in the open market • P did not buy or sell from D. but you must also show how their acts caused your injury (3) Created Circuit Split • Shapiro presumes reliance and causation from D making trades in the open market without disclosing material inside information • Fridrich says you must show that their trade caused your harm or harm on the market • ASK ABOUT THIS Blackie v. but claimed D did the bad act and they should be able to recover • P did not even buy on same day or month (2) Holding • D’s conduct caused no injury to plaintiffs • Disagree with Shapiro saying that it is the act of trading without disclosing material inside information which causes plaintiffs’ injury • Bad act only occurs when trade is made if D does not disclose but he also does not trade then no bad act • Must share their trade caused your harm or effected the market • Reliance does not necessarily mean causation you can rely on the fact that market reflects all public information and those who are trading are not at an informational advantage. 1975) misstatements • Fraud on the market theory presumption of reliance arises in a misstatement case even in the absence of any proof that a plaintiff relied individually on a defendant’s misstatement • Theory rationale purchaser relies generally on the supposition that the market is validly set and that no unsuspected manipulation has artificially inflated the price. Fridrich v.
Basic Inc. 111 . Levinson (1988) misstatements (1) Background • Basic made three public statements over a two year period denying that it was engaged in merger negotiations • This was untrue • Later it then said it had been approaches by another company about a possible merger • P is a former shareholder who sold their stock after Basic’s first public statement and before trading was stopped on account of the merger • P does not claim that they read or heard the denials.e. Potential Plaintiffs who are barred under this rule (1) Potential purchasers and sellers 4.underlying the stock price – whether he is aware of it or not. Loss Causation §21D(b)(4) • “in any private action arising under the Exchange Act. General Rule • §10(b) and Rule 10b-5 on proscribe fraud “in connection with the purchase or sale of securities” • the plaintiffs class in a Rule 10b-5 action is limited to actual purchasers and sellers b. the plaintiff shall have the burden of proving that the act or omission of the defendant alleged to violate the Act caused the loss for which the plaintiff seeks to recover damages” Standing and “Purchaser-Seller” Requirement Blue Chips (1975) a. to pay taxes) • Market makers were privy to the truth about the merger discussions (market price would not be affected by D’s misrepresentations 3. the price he pays reflects material misrepresentations f. v. but rather that the denials effected the market price and they sold at that lower market price (2) Holding • Adopts the fraud on the market theory presume that D relied on stock being properly priced in the market on truthful information • Accept presumption that people who trade shares relied on the integrity of the price set by the market and because D’s material misrepresentations that the price had been fraudulently depressed • Presumption can be rebutted show that this reliance did not cause the injury • P would have sold stock anyway (i.
creditors and perhaps others related to an issuer who suffered loss in the value of their investment due to corporate or insider activities in connection with purchase or sale c. Section 16(a) • Requires beneficial owners of more than 10% of any class of equity security that is registered under the Exchange Act. Effect of this case • Put breaks on Rule 10b-5 litigation d. Section 16(b) • (a) any profit (b) by any person subject to the reporting requirements of §16(a). to file reports with the SEC and relevant securities exchanges • Owners of exactly ten percent are not subject to the section • Have 10 days to file a report • Not criminal provision 2. Application to the SEC • SEC does not have to prove anyone bought or sold • All they have to show is whether there is a misrepresentation or the bad act XI. Defining “within less than six months” • Interpreted literally • If purchase and then sell exactly 6 months later not covered by §16(b) • 1/1/00 – 7/1/00 not covered 112 . Statutory Language 1. (e) of any nonexempt security of an issuer that has an equity security registered under the Exchange Act • shall inure to and be recoverable by the issuer 3. and officers and directors of issuers of such securities. or sale and purchase (d) within any period of less than six months. (c) realized on any purchase and sale.• These people will allege that they decided not to purchase because of an unduly gloomy representation or the omission of favorable material which made the issuer appear to be a less favorable investment • Burden on D would be too great if a P can sit on the sidelines and waits to see what will happen and then decide to sue if favorable to him will just say if only I would have known I would have purchased (2) Actual shareholders who allege that they decided not to sell because of an unduly rosy representation or a failure to disclose unfavorable material (3) Shareholders. Exchange Act Section 16 A.
Defined • Legal concept that can be used to bring within coverage of §16(b) a person or firm who although not a director. officer or greater than 10% holder has his interest in a corporation represented by a person who sits on the board of directors C. thus triggering §16(b) short swing trading liability if the purchase can be matched with an appropriate sale within less than 6 months B. or the sale and purchase” 2. Definition of Director §3(a)(7) • Any director of a corporation or any person performing similar functions with respect to any organization whether incorporated or unincorporated b. Persons Liable 1. Deputization a. Issue in Reliance Electric Co.If purchase and then sell within 6 months not covered by §16(b) • 1/100 – 6/30/00 not covered • If purchase and then sell within less than 6 months covered by §16(b) • 1/1/00 – 6/29/00 covered and must disgorge • 4. Exception • When the security was purchased in good faith in connection with a debt previously contracted (not covered) 5. Issue in Provident Securities • Whether a person purchasing securities that put his holdings above the 10% level is a beneficial owner at the time of the purchase so that he must account for profits realized on a sale of those securities with six months • Purchase that increase ownership above 10% do not count for section 16(b) purposes 3. a. Timing of Purchases and Sales 1. Provision on Issue of Timing • “This subsection shall not be construed to cover any transaction where a 10% plus beneficial owner was not such both at the time of the purchase and sale. Background 113 . Definition of Officer Rule 16a-1(f) • Page 506 of book 2. Titles a. Derivatives • Grant of a derivative security is deemed to be a purchase of the underlying equity security.
each within six months of original purchase • First sale reduced the owner’s interest to 9.000 114 . Holding • Trade that takes you under 10% does count (so must disgorge profit from first sale) • However. Problems for Clarification a. 1990 buy 1000 shares for $50/share 1/1/00 buy 1000 shares for $10/share 3/1/00 sell 1000 shares for $20/share • even if you can prove the shares you sold in march of 2000 were the shares you purchased in 1990 you still have to give company profits • securities are fungible • any buy and sell within six months must disgorge profits $10.2% of stock sold all stock in two transactions.000 b. 1990 buy 1000 shares for $50/share 1/1/00 sell 1000 shares for $10/share 3/1/00 buy 1000 shares for $20/share • order in which you buy and sell is irrelevant • because you bought and sold within six months must disgorge profits $10. when he sold the second batch he did not own more than 10% was not a beneficial owner of more than 10% at the time of purchase and the time of sale he can keep profits • Look at ownership at time transaction initiated that is when you will have information others may not have 4.• Owner of 13.96% and second he sold out entirely b.
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