SECURITIES REGULATION SHORT OUTLINE I. Background: 3 approaches used for regulation: o After the fact fraud can be detected and filed. o Want full disclosure in advance through registration o Merit regulation—government decides when an issue is in the public interest. Focus is disclosure and anti-fraud 34 Act o Regulates trading markets and secondary stock o Anti fraud regulation Forman – when the stock determines the quality of your apartment you are getting a sales contract. Not a security Edwards – investment in payphones where you expect profits is a security Life Partner – when invest in life insurance of AIDs patients you are not relying on the managerial efforts of others. B. Associational Formalities Stock—explicitly listed in statute – but that’s not dispositive. Landreth – doesn’t matter that fails Howey. It is in the plain language of the statute. o Looks for: transferable, voting rights, dividends o Right to recover divs contingent on apportionment of profits negotiability o Ability to pledged or hypothecated o Conferring of voting rights in proportion to the number of shares owned Purchase all the shares of stock sale of security Purchase all the assets not a sale of security o Apply Landreth and then Howey Partnerships – use Howey General – practical control issues; normally not a security unless (Williams): o PA eliminates investor control o Inexperienced have no idea what is going on o Promoter has unique skills Limited – usually a security o BUT Steinhardt – when P had veto power gave him control. Thus fails Howey. o Sophistication of the investor. LLCs Manager-managed less control; more like a security Member-managed control; probably a security II. WHAT IS A SECURITY 33 Act: § 2(a)(1) 34 Act: § 3(a)(10) How to apply: Look first to the statute to see if it falls within the list: o Note, stock, bond, investment contract, any interest or instrument commonly known as a security. “Unless the context otherwise requires” A. Stock/Investment Contracts Risk Capital test: see how risky the investment is. If risky security Four Part Howey test. (speculation immaterial) Investing Money o $ or any form of bargained form of consideration Common Enterprise o Horizontal—when there are investors investing with you (pooling) o Vertical Broad: promoter increases the value of the investor’s money Strict: promoter must share in the financial risk. His interests are tied to the investors Expectation of Profit o Reasonable expectation on the front end. Solely (mainly) from the profit of others o Investor can participate but, results are tied to the expectations of the investors efforts o Profit is not gleaned from society as a whole (gold example) Applications of Howey Marine Bank—when you have use of the land not a security – here there was a unique deal between consumer and investor C. Real Estate as Security General Rule NOT A SECURITY Investing Money? Common Enterprise? o Horizontal – rental pool? o Strict vertical – you and rental agent split proceeds of renting out condo o Broad vertical – rental agent helps despite compensation Expectation of Profit? o Buying RE as investment or for consumption From the profit of others? o By the efforts of others or are you managing? o Buying land and managing contract may be a security Hocking – go though Howey test and Williams test. 1 SECURITIES REGULATION SHORT OUTLINE Franchise is not a security that’s from your efforts not others. How to read the market: Weak Efficient Market Theory – cannot predict future by past prices Semi-Strong Efficient Market Theory – market prices reflect public information Strong Efficient Market Theory – market prices reflect ALL information. Lessons on market efficiency: Markets have no memory Trust mkt prices. TAKEAWAY: securities laws are based on the assumption that disclosure of information is a good thing. Information is the best way to protect an investor. D. Notes as Securities 1. Family Resemblance Test a. Presumption that all Notes are Securties but can be rebutted by: b. Does it look like those that have been held to NOT be a security, i.e. is this an investment or a transaction: i. Consumer financing ii. Mortgage on home iii. Short-term note secured by lien iv. Character loan to bank customer v. Short-term note secured by an assigned of recievables vi. Open account debt c. Not on list Family Resemblance Test – [if you pass the test then you are a security] i. Motivation for Transaction 1. purpose of investment to raise money ii. Plan of distribution of the instrument 1. trading on a secondary market or broad distribution? iii. Reasonable expectations of the investing public iv. Risk reducing factors? 1. i.e. collateral; regulatory agency, etc. 2. 9 month exemption? a. Any note with a maturity of less than 9 months b. Usually only held to apply to commercial paper i. High quality instruments to fund current operations and sold only to highly sophisticated investors. 3. Some circuits use the Risk capital test 4. Test applied a. Reves – Security if (1) sold in an effort to raise capital; (2) offered notes to a broad distribution; (3) public reasonable perceives the notes as securities; (4) notes are uncollateralized and uninsured. b. Wallenbrock – when provide money to buy into the accounts recievables it is a security when the object is to make money with a broad distribution and there is no secured rate i. Financial derivatives are seen as high risk. III. THE PUBLIC OFFERING A. Forms and Issuers o S-1 is for an unseasoned issuer. Requires most info o S-3 for seasoned issuers – have you been reporting for 12 months and are you up to date AND: companies that are largely held with a lot of outstanding stock already Offer must be for cash Stock is already in the hands of non-affiliates in excess of $75 million OR primary offerings of nonconvertible investment grade securities OR Transactions involving secondary offerings on big exchange OR if you’re a WKSI Have 1 million in debt float and 700 million in equity Regulation S-K – describes disclosures on forms S-1 and S-3 o Have to give terms. Item 501(c) o Identify risk factors. Item 503 (c) o Must be in plain English. Rule 421(d) o Need to disclosure financial statements and balance sheets. Item 301 and 302 o Trends and developments. Item 303. B. SEC Actions Timing: Registration is effective 20 days after filing. o Clock starts over after any amendment o SEC determines acceleration (Rule 460) o § 8 (a) says that the security is effective whenever SEC signs off. Enforcement o Refusal order (8b) – material submitted on its face is insufficient o Stop order (8d) – material appears to be false o SEC can investigate and that suspends the effectiveness of the amendment (8e) II. MARKETS AND THEIR EFFICIENCY 2 SECURITIES REGULATION SHORT OUTLINE o o What you get from SEC o “bed bug” letter o Customary review o Cursory review o C. TIMING REQUIREMENTS § 5 – prohibits the use of the mails, wires, or other means of interstate commerce to sell or to offer to sell unregistered securities – registered with effective. 1. Quiet Period. § 5(a) no sales Step one: § 5(c) unlawful to make an “offer to sell” unless registration statement is filed; does not include: o sale between underwriter and issuer o discussions between lead underwriter and syndicate o §4(1) transactions o Face to Face intrastate transactions Step Two: Safe Harbors for Permissible Communication Rule 135 – can disclose intent to make public offering – the amount, type of security, manner and purpose of offering. o Bare bones statement. o Publicity that is within the normal conduct of business. o Can continue with 10K, and needed financial disclosures o Cannot name underwriters or security price o May post on website if within the ordinary course of business o Loeb – publicity may constitute an offer to sell. MUST be publicity that is within the normal conduct of business. 1. CAN’T CONDITION THE MKT. Rule 163A – 30-Day Brightline Exclusion o Applies to all issuers. Not UW or dealers. o Can’t mention issue directly. o Try to prevent repeats of communication. Rule 163 – WKSIs can engage in unrestricted oral and written offers before the registration statement is filed. o Only for issuers o Written offers must be filed and there must be a legend Rule 168 – announcements by reporting issuers engaged in regular release of factual business info – that is forward looking o Only issuers o Must have released this sort of info before o No detail about the offer unless permitted under 134 or 135. Rule 169 –non-reporting issuers o Can report factual but NOT forward looking info. No info about the offer Customers and suppliers (non-investors) must be intended audience. Must have released this information before. Research Reports – Third Party Information o Rule 137 – non participating-brokers can issue a report 1. can’t participate in distribution 2. can’t be paid by broker/dealer/UW/issuer 3. reports are in the regular course 4. can’t issue and then participate. o Rule 138 – talking about debt, common or preferred or nonconvertible stock 1. Broker or dealer must have previously publish/distribute in reg. course of business 2. Must be reporting issuer o Rule 139 – (non)/participating broker or dealer can publish recommendations regarding 1. must be on S-3 or F-3 companies 2. has other earlier regular reports Focus report: o regular research program Industry report: o with no special prominence o no more favorable than a previous recommendation Step Three: Traditional approach – if you fail the safe harbor, ask: in registration? Condition the market? 2. Waiting Period -- § 5(b) General Rule: No sales efforts unless there is a prospectus and the registration is filed. o only prospectuses complying with § 10 [final prospectus] qualify BUT §10(b) allows the SEC to come up with rules for documents that will satisfy §5(b) Red herring – need to put red disclaimer that says document is not an offer. Permitted Communications Rules 168, 169, 135, 137, 138, 139 still apply Can make sales ORALLY o Road Shows 433(d)(8) Videotapes – 3 SECURITIES REGULATION SHORT OUTLINE Indicate where prospectus is available o 433(d) Filing requirements—when you must file: FWP reflects information provided by the issuer Supplementary material prepared by non-issuer dependant on the breadth of circulation Describe final terms of securities o 433(e)(1) – website = FWP Reporting or non-reporting co Hyperlinks—envelope theory Exception: not FWP if historical info about the issuer in sep. section of website. o 433(f) – Media Press conference okay File resulting news stories w/SEC w/in 4 bus. days. If issuer prepares, pays, or gives consideration for preparation of communication this is FWP and must satisfy Rule 433. 3. Post-Effective Period Two ways for RS to become effective: Traditional: issuer submit a pricing amendment, and request approval Rule 480(B): can go effective without pricing, and have that added in 15 days. o not a FWP if it’s a real-time presentation to a live audience o Can use visual aides. FWP if prerecorded – need specific legends o [file if offering equity security; non-reporting co; and has not made at least one version of the rd show publicly available] Can do anything that is in the normal course of business and continued filings (10Q, 10K) Preliminary Prospectus—Rule 430 o Same information as the final prospectus except omits: offering price, UW, dealer compensation, amount of proceeds, conversion rates, call prices, and other matters dependant on offering price. Rule 134—Tombstone and Identifying statements o Tombstone Ad: if it states from whom a written prospectus meeting the requirements of section 10 may be obtained and, in addition, does no more than identify the security, state the price thereof and state by whom orders can be executed. o 134(d) Identifying Statements – expand tombstone. can distribute a customer card that must be distributed with a preliminary prospectus – need disclaimers (book buildings) Free Writing per Rule 433 o Def: information circulating that is not contained in the registration statement o Prospectuses that satisfy requirements of section 10, and therefore requirements of 5(b) o Must include legend o WKSI and seasoned issuers File registration no preliminary prospectus required to be delivered. Just notify recipient of URL for SEC website o Non-Seasoned issuers File registration statement and preliminary prospectus Need disclaimers and legends Need security price range Must distribute prelim. Prospectus Can be satisfied via hyperlink – 433(e)(2) o Include legend Delivery Obligations Rule 172(a) for brokers/dealers/UW: o written confirmations and allocation notices don’t need to be accompanied or preceded by final prospectus. Final prospectus = term sheet plus preliminary prospectus o Only requirement is file with SEC o Applies until allotments are sold o HOWEVER For UWs: Rule 15(c)2-8 – deliver prelim prospectus to buyers at least 48 hrs before sending confirmation of sale. Rule 172(b) When securities are delivered o NO obligation to forward final prospectus if file with SEC Rule 173 – file a notice of registration indicating that RS has been filed and final PS would be sent absent an excuse o 173(e) this is NOT FWP. o Should be submitted within 2 days of the completion of the offering Communications / Writings 4 SECURITIES REGULATION SHORT OUTLINE FW Exception -- § 2(a)(10) o Broader than during waiting period o Can write what you want if you accompany with legend and filing requirement o If non-reporting iss. Must be proceeded by or accompanied by a final prospectus (or hyperlink) Secondary Markets o § 4(3)A-B Have to deliver final prospectus when: (a) resale within 40 days of when sales began or (b) re-sale within 40 days – 90 days of registration statement effective (c) transactions that are part of an unsold allotment o Rule 174 exception to 4(3) requirement. Do not have to deliver prospectus within the 40 or 90 day period if the issuer was a reporting company For non-reporting co No prospectus delivery requirement by dealers beginning 25 days after offering date if security is listed on nat’l exchange o Broker dealer exceptions: 4(4) – exempts brokers who undergo a transaction on an exchange ordered by a customer. No prospectus requirements. o Rule 153 Excuses dealer from delivering prospectus in a dealer to dealer transaction on an exchange or trading facility Have to register the amount reasonably expected to sell within 2 years Have to issue within 3 years o Have to file with SEC within 2 days after you take down. Available for all kinds of companies, but requirements are more stringent the less you report. Promise or Undertaking to update shelf registration so RS not stale (Rule 415 (a)(3)(Item 512a of Regulation S-K) o Have to update RS for fundamental changes Can use a prospectus for 9 months. o Amend for material changes. o Have to update registration after 3 years WKSI o Can register unspecified amounts of different specified types of securities o Can add additional classes o Everything becomes automatic and effective immediately. o Base RS will just be incorporated by reference to ’34 act filing. Issues with shelf registration is that UW still have to perform due diligence. V. UPDATING/CORRECTING R.S. Rule 430 B authorizes omission Prospectus does not meet the requirements of § 10(a) if information disclosed is false/misleading (Manor) and thus violates § 5. 12(a)(2) if prospectus is misleading, buyers have a claim to get their money back Post-Effective Amendments RULE: must amend when there is a MATERIAL change o Apply a sticker when there is an addition o Amend RS when information has substituted. SEC can then take action; refusal order; stop order; cease and desist order; §5 investigation. o SEC must determine within a reasonable time whether it will issue a stop order (Las Vegas Development Co.) o Can disregard amendments made after stop order is issued (Columbia General) Withdrawal o Rule 477 need SEC’s permission Duration of Section 5’s requirements Issuer o As long as offering security to public UW or dealer o Prospectus requirements as long as their allotment or subscription in the distribution is unsold. IV. SHELF REGISTRATION Rule 415 (a)(1)(x) – Requirements: Must list on the registration statement what you will be offering and then amend if there are any changes. Who can offer: o S-1 companies – can offer pursuant to 415(a)(i)(ix) o S-3 companies – can offer pursuant to 415(a)(x) o WKSI – pursuant to instruction on From S3. Trading Practice Rules Rule 102 and 101 M prohibit trading during the “restricted period” which would result in an unfair manipulation of the price. o Large Companies (average daily trading value > 100k, and equal to or > 25 M in float) 5 SECURITIES REGULATION SHORT OUTLINE Non-reporting company: Not with SafeHarbor, but under Regulation S: o “directed selling efforts” does not include information that is printed in a foreign country that might reach the US in a limited way Website? Okay as long as you put a prominent disclaimer to ensure no US res AND password protect the information. Can’t buy or sell one business day before the person becomes a participant OR before the security’s price is determined Period ends at the end of participation. o Small Companies Begins 5 days before they become a participant or before $ is determined o Huge companies (average daily trading value 1 million and float of 150 million No requirements Exceptions o Unsolicited orders – Rule 101(b)(5) o Purchasers from UW syndicate o De minimus purchases o Stabilization – Rule 104 of Reguation M Can purchase during the offering to keep price at the market level Can’t bid higher than the lower of the issue price or the last independent price of the mkt before issuance. (if issue at 25, but the last trade before you priced it was at 22, you can only stabilize up to 22). o Step One: To Register in U.S. have to belong to one of the following category. Start with 1 and then move down. The higher the category, the more hoops, the more danger of flow back to the U.S. Category 1 -- 903(b)(1) o Qualifications: Foreign issue with no “Substantial US Market Interest” OR Equity – if greater than 20% of trading in US and no foreign country has more than 55% of trading market Debt – not satisfied if more than 300 US owners and more than $1B held by US owners AND > 20% of debt is held by US owners Foreign issuer offers Debt of Equity in ONE foreign country OR US issuer offers Debt (not stock) directed at only ONE foreign country Issues backed by full faith and credit of foreign gov. Employee benefit plan in another country Restrictions – just General 903 restrictions Transaction restrictions o None – can sell to US citizens so long as outside of US VI. INTERNATIONAL PUBLIC OFFERINGS Regulation S Rule 901 o No need to register offers and sales that occur outside of US o Offshore offerings don’t apply the 33 Act. o Antifraud provisions do apply. Rule 902 – definitions Rule 903 General: Needs to be an offshore transaction o The buyer is outside of the US or the security is on a foreign exchange o Look to residence of buy No directed selling efforts in the US o Can’t condition US market Press Conferences? o Rule 135(e) – Free press, if you a foreign issuer and press conference is in a foreign country, and any materials have disclaimers and security offering will not occur solely in US Only foreign issuer reports allowed o Notice published in U.S. Rule 135(c) Only tombstones and only if a reporting issuer Can have a tombstone ad in a U.S. publication if the circulation 20% in the U.S. Category 2 – 903(b)(2) Qualifications o Debt offering by non-reporting foreign issuer o Equity offering by Reporting foreign issuer [Basically all reporting companies, except for domestic foreign companies offering equity – are in Category 2 if subst. US mkt interest and directed to more than one foreign country] Restrictions – same as general 903 Transaction Restrictions 6 SECURITIES REGULATION SHORT OUTLINE o o Can’t sell to US person for 40 days after the start of the offering in primary distribution Various offering restrictions: Representations that you will not sell to US people AND Disclaimers about not selling to US people AND Confirmations sent to buyers saying that you cannot resell to US people Effects the total mix of info., i.e. effects market price of the securities. Issuer’s Defense: Truth on the Market o If the company’s stock price already reflects all information on the mkt, a lie will not be able to affect the total mix of information. o Even if false statements are made truth may still be found in the mkt. Only protecting reasonable investor not naïve invest (Wielgos) Puffery -- Typically not material unless they are opining on something they know to be false (Eisenstadt) Forward Looking Statements: o Companies must do projected under the MD&A o P must show that predictions lack reasonable basis o D can protect themselves by making specific, meaningful, substantive, and tailored cautionary statements in their registration statement. Can’t be boilerplate Statutory Safe Harbor – PSLRA (§27A of ’33 Act; § 21E of ’34 Act). o Applies to: Forward looking statements – written or oral. Reporting companies only Not okay for major events like IPO, tender offers, going private o Safe Harbor Provisions – Forward looking statement that’s accompanied by meaningful cautionary language Immaterial or puffing Liars -- Plaintiff doesn’t have to prove you knew it was false if there was meaningful language Disjunctive rule. o Asher -- if you don’t update your cautionary statements then its going to look more boilerplate. Duty to Disclose o Common law fraud: no duty o Securities Law Must refrain from false statements You MUST disclose things that would make previous statements not misleading o Disclose if material – Rule 408—catch all for material facts. Must disclose present events/facts if contrary to what is out there now. Disclose something that would alter the perception of health of the company. o Category 3 – 903(b)(3) Qualifications: o Everything not in 1 or 2, i.e – o All equity by domestic non/reporting US issuers o Debt offering by non-reporting nondomestic issuers (unless direct at a single country other than US) o Equity offerings by non-reporting foreign issuers (unless direct at one foreign country or no substantial US market/interest) Same general 903 Restrictions Transaction Restrictions: o Debt : Same as Category 1 and 2, plus use temp certificate until they can verify they are not US persons o Equity: can’t resell for one year. Purchaser must cert non-US person Step Two: Offerings Falling outside of Regulation S (Banque) Conduct and effect test o Conduct resulted in shares directed at US interest violating normal background rules of a foreign issue and buyer VII. MATERIALITY Substantial likelihood test: substantially likely that a reasonable, objective person would have found it important – Elements: o Just needs to alter the “total mix of information” Can’t bury facts. o Objective person can be sophisticated or not. o Reliance on the information o Duty to disclose Anti-fraud law Changes in the RS Test for Speculative Information (Basic) o Magnitude + Probability = Disclosure Required o Still has to pass substantial likelihood test Market Test – o Reasonable investor would find it important 7 SECURITIES REGULATION SHORT OUTLINE CEO’s misconduct is material – integrity of management should be disclose (Franchard) Item 401 requirements for disclosure of management’s integrity and experience Should disclose if directors are just rubber stamping (W.R.Grace) Can’t be a bad citizen Money loss not important – integrity is what counts (Schlitz Brewing) S-K 406 must disclose if not company code of ethics Pending lawsuits should be disclosed (Item 103) if a big deal o doesn’t matter if judgment reached lawsuits against officers and directors (401(f)) o criminal disclose if pending o civil disclose if comes to judgment. required unless reasonable ground to know something’s up. Experts on their own expertized material Have to do your own investigation and get information Have a due diligence requirement PLUS reason to believe in truth Experts on other experts’ expertized materials reasonable reliance is a defense Who’s an expert? Sliding scale – the more of a background the more likely you’ll be an expert. Or look for certified work. IX. EXEMPT TRANSACTIONS Must find an exemption at each stage of the sale watch the resale Exempt from filing requirements of § 5 Not exempt from fraud A. Intrastate offerings §3(a)(11) Elements: o ISSUE o Sold to a resident within a single state AND o By someone who resides in the same state VIII. LIABILITY Under 33 act: § 11 Under 34 act: 10b-5 Step TWO: Common Law Issue Scope: Integration problem (common law) [note: WANT them to integrate] o Part of a single plan of financing o Issuance of the same class of securities o Made at or about the same time (rule of thumb within 1 year) o Same type of consideration received o Made for the same general purpose Resident of single state or territory All the people offered the security must be in the same state. If you advertise out of state you have to have disclaimers. Residency = domicile Come to rest in the State No clear time in the common low – can just flip them about of state. Issuer has to be a resident of that state Person: domiciled in the state Corporation: incorporated AND doing business in that same state o Structure of transaction that matters o Mail order catalogue that ships out of state is still doing business in the state where it receives orders. Section 11 Standing o Anyone that purchased the securities pursuant to registration o Liability created by material false statements or omissions of fact o No reliance (causation) necessary – unless more than a year has passed. Damages o Difference between price paid and the price sold at now. Who’s liable? o Everyone who signed the registration statement found in § 6(a) Defenses o Everyone – if the plaintiff knew at the time the statements were false and bought anyway issuer’s only defense. o Due Diligence Non-experts on non-expertized material no liability if after reasonable investigation there were reasonable grounds to believe and did believe it was true. Non-experts on expertized material no due diligence 8 SECURITIES REGULATION SHORT OUTLINE (IF you Intrastate you must Integrate (except for certain occasions with Reg A) Step ONE: Rule 147 Safe Harbor No substantial compliance Integration o Cannot offer another issue before or after 6 months (integrates with all other types of offers—Reg D, except for Reg A) o Watch out can integrate with 506 Issuer o Need to be incorporated in the state o 80% of gross revenue from state o 80% of assets in the state AND o 80% of proceeds need to be used in that state. o [Note: can round up between the percentages] Residence of purchasers/offerees o Person principal residence o Corporation principal office Advertising – should have disclaimers. Came to rest in the state o When not resold out of state within 9 months of the completion of the issue. Limit re-sales with legends; stop transfer instructions, etc. o Can resell in the state o Reoffers do not destroy the exemption. No civic limitations on resale just keep within the exemption. 3. Integration (155 Safe Harbor) You can shift a private offering to a registered offering by waiting 30 days (if you have not sold a security) Under 155(b) – you don’t have to wait the 30 days if you offered was only to accredited or sophisticated investors Under 155(c) – you can shift from registered offering to private after 30 days from withdrawal, as long as you described the unregistered nature of the offering and any material changes that occurred after the RS was filed Otherwise do the 5 factor test; 152 additional safe harbor between private placement subsequent registered offering C. Reg D Offerings (Not an Exclusive Election) RULE 504 505 506 Max Size $1 Million $5 Million $No Limit Max # of Unlimited 35 + 35 + Purchase unlimited unlimited rs Accredite Accredited d Disclosur No, except if Yes, if Yes, if e state nonnonObligations regulations accredited accredited investors investors are are involved involved WHO CAN USE: Do No No Yes, for investors However nonhave to be if you accredited Sophistic want to investors ated qualify for May have an a accredited representa investor tive. there are requireme nts. Can No Yes Yes reporting companies use? Restriction Sometimes-Yes Yes on Resale many times it depends on the State requirementu sually yes Restriction Sometimesus Strong Strong on General ually yes B. Private Offerings § 4(2) Exempts “transactions by an issuer not involving any public offering” No substantial compliance defense. Rule 506 offering is a private offering 1. Private Burden is on the issuer to show: o Number of offerees and their relationship to each other and to the issuer No bright line number o The number of units offered Smaller is more likely to be private o The size of the offering ($$$) o The manner of the offering Face to face v. general advertising Personal contacts v. initiated by an investor 2. Sophisticated (Ralston) Need both Access to Information o Information that would be in the registration statement & (some 5th Cir. courts say OR) Sophistication o Investment professionals; experienced business people; assisted by lawyers and accountants o Not just high education and no business experience Sliding scale (Doran) 9 SECURITIES REGULATION SHORT OUTLINE Advertising and Solicitation s Limited to worthy people? (Bad Boy) Add’l, stricter State Regulation s permitted? No Yes No Yes Yes No o DisclosuresFile Reg D form o Who has to disclose: 504 not necessary 505, 506 if sell to non-accredited investors. o Requirements: Reporting company information by incorporation Information to be furnished per rule 502(b) Based on size of offering. Anything over 7.5 mil must be in registration form. o Filing requirement Need to file Reg D statement w/in 15 days of start of offer. Integration – Rule 502(a) – applies to ALL 3 o If ANY SECURITY IS OFFERED within 6 months BEFORE OR AFTER offering integration o If within 6 months: five factor test o 506 gets integrated but not aggregated o (EVERYTHING INCLUDING MONEY) Aggregation o 504/505 Look 12 MONTHS BEFORE and is a rolling clock Reg A and securities that violate § 5 can aggregate o 506 no limit o Limited by price of the offering Cash Property (fair mkt value) o ONLY MONEY is Aggregated Accredited Investors – 501(a) o Under 505, 506 can have infinite number of accredited invests. If someone lies they’re estopped Anyone who is, or the issuer reasonably believes is (Dumb luck is okay): Financial institution 10 Pension plans Venture capital firms Corporations with $ 5 M in Assets and other organizations Insiders of issuer (officer/director- policy maker not policy follower) Natural person with net worth in excess of $1 million Limited to 35 non-accredited. Must be sophisticated – have to have a reasonable believe which means checking into each person: Level of education Jobs or positions they had Training in finance or business Prior investments Investment portfolio Purchaser representatives – Rule 501(h) (1) can use a rep to say you’re sophisticated, but cannot be: o Affiliate, director, officer, or employee of issuer, or beneficial owner of 10% or more of any closs of equity securities, UNLESS Relative by blood, marriage, adoption (2) need to acknowledge in writing (3) must disclose any relationship with the issuer. Corporation can hire a purchasing agent for you careful because investor can later argue that their interests were not represented; must disclose relationship Limited number (35) -- Don’t count 501 (e): Family or relatives that live in same house Your company that you and family in same house that have combined ownership of more than 50% PS/Corp. count as one – unless formed specifically to buy shares SECURITIES REGULATION SHORT OUTLINE If all corp.’s SHers are accredited investors. Substantial Compliance – Rule 508 o Exemption not lost if: (0 non-accredited originally, no-disclosures given, but 1 person claiming to be accredited lied) 1. The failure did not pertain to a protection for the other people 2. Was insignificant with respect to the offering as a whole a. Significant would be: general solicitations; going over the maximum amount; having more than 35 unaccredited investors purchase a 505, 506; forget to file form 3. Good faith reasonable attempt to comply with rules Limits o Resale – 502(d) – can’t resell unless they are registered. Do investigation on buyers Written disclaimer to each purchaser Place notice on certificates o No General Solicitations – must have previously existing relationship No Matter whether they are accredited(Kenman Corp) Can use investment banks that prequalify people BUT then have to wait 45 days No newsletters 502(c) – have to see how involved issuer is (paying for it; giving information) Internet – okay, but protect the information o Duty to Disclose – Should still follow. OK if you follow Rule 135(c) or are completing 10Q Injunction: If there is an injunction, 507(a) says you must go back to §4(2) Aggregation Problems only when: 504 and 505, Reg A and Reg A’s, Reg A then Reg D 12 months D. Regulation A Offerings Mini-Registration offering only for non-reporting small companies Only for U.S. and Candadian No bad boys o Exemption fails if: those involved in the issuance w/in the last 5 years did securities fraud or w/in last 10 years were convicted of crime. o BUT can get a waiver from the SEC 11 Not restricted resell immediately General Solicitations okay. Different terms o Registration statement = offering statement No sale until offering statement is qualified. o Prospectus = offering circular Aggregation Rules (only with other Reg A offerings) o Cannot exceed $5 million in 12 months. i.e. looking for another Regulation A offering in the previous 12 months. o Secondary offerings officers also want to sell some of their stock in the offering Limited to $1.5 million and counts toward total. Integration – 251(c) o Safe Harbor: offerings and sale made in reliance with regulation A will not be integrated with: Any prior offerings or sales (including Reg D) OR Subsequent offers or sales that are: Registered made in reliance of rule 701 (EE plans) part of employee benefit plan reliance of Regulation S made more than six months after the completion of a regulation A offering 6 month time period after o if fail safe harbor 5 factors Test the Waters o Before filing can make a solicitation o Can be by ads or broadcasts o Need legends and disclaimers saying not an offer to sell; must file with SEC prior to soliciting if-- substantive or material changes (if y ou fail to submit does not give money back, but does give SEC the right to suspend) o Failure to submit ads/broadcast to SEC could result in stop order o Can switch to a registered offering Rule 254(d) – Intention must be bona fide Must wait 30 days o Abandoning the offering – 254(d) Abandon if you want -- Can do full offering after 30 days If you want to do a Reg D should probably wait 6 months to make sure it won’t integrate. After Filing: you cannot test the water. Substantial Compliance SECURITIES REGULATION SHORT OUTLINE o Rule 260 – no loss in exemption if: Issuer acted in good faith Deviation was insignificant in relation to the offering as a whole Requirement not observed was not intended to protect the purchaser If resale is consistent with original exemption o Applies to affiliates and nonaffiliates Control person purchases registered securities can resell to Ralston people (4½ exemption). UW #1 -- Helper of issuer/control person + distribution o Control persons are not protected by their investment intent. Care about purchasers investment intent o Going to re-issue shares, they need to register them or find an exemption o Chinese Consolidated (deemed to help the issuer and there was a distribution—even though not agents or formally related to the Chinese government) o Wolfson o If buyer purchases from you, they become UW #3. X. SECONDARY DISTRIBUTIONS At each stage you need to either register or you need to find an exemption. Broad categories: o Distributions registration is needed o Mkt Trading does not need to be registered If you buy on the open mkt and want to resell – you’re fine without registering. A. Common Law Interpretations Step one: find an exemption or register Step two—potential exemption/problem: §4(1) says a transaction by anyone other than an issuer, underwriter, or dealer are exempt from §5. Step three – are you an underwriter: o Part one: Helpers for the issuer or control person OR Purchase from issuer or control with intent to resell OR If you have investment intent you are not an UW Participate directly or indirectly in purchasing them o AND Part two: Part of a distribution. Control person? o Control of policies, officers, power to control company o Authority to compel people to sign a registration statement. o 10% holding in most companies, but can be as little as 2% o What can a control person do: Resell through original exemption 4 ½ exemption – looks like Ralston Sell yourself to people on street corner Use 144 Safe harbor! Distribution? o Not a distribution: Resale by nonaffiliated/non-control person of stock purchased in a registered offering If unregistered: Not a control person and securities come to rest UW #2 – Purchase from Issuer or C.P with intent to resell What constitutes intent? o CL unsure – time is an indicator o There is a change in circumstances defense – however this has to be convincing and specific. Lenders who use shares as collateral: o Depends on the likeliness of default o Will make the lender an indirect participant, i.e. UW #3. o What can lender do: Can sell to a sophisticated person with access and not violate 4(2) Don’t sell at all. UW #3 – indirectly or directly participate in #1 or #2 DO FIRST Rule 144 SAFE HARBOR General safe harbor that says not a distribution IF: Make disclosures Sell in broker transaction Honor volume limits Honor holding period Qualify for non-affiliate 1 year exception. Does not honor change in circumstances theory. Covered Security? 144(a)(3) Non-public offering Reg D Reg S 12 SECURITIES REGULATION SHORT OUTLINE [Note intra-state securities are not covered] o OR has to be an Affiliate Covered company? 144(c) Reporting company for 90 days and current reports [rationale: want lots of information about company to make this less risky] Non-reporting company that has disclosed information akin to that of a reporting company. 144(2) Transactions that fall under safe harbor: Sales by non-control person of restricted stock Sales by control persons and their brokers of restricted stock Sales by control persons (through brokers) of unrestricted stock Holding Period for Restricted Securities for reporting issuers Required holding period 6 months. o From the original issuance – when you got from the issuer or the affiliate. Affiliate = someone the issuer has control over. Non affiliate = 6 months w/ information requirements, or just wait 1 year with no requirements Holding Period for Restricted Securities for NON reporting issuers Required holding period ONE YEAR. For Unrestricted Securities No Holding period, but all other restrictions apply For affiliate, be aware of 16b Special issues: o If you borrow money to purchase: Starts when you pay it off, OR Time relates back to when you purchased the stock IF: 1. Full recourse loan AND 2. with collateral other than the security, AND 3. the debt is fully paid before the resale. Rationale: want to have the original purchaser to have assumed all the risk. o Stock split – deemed to hold all stock from the original date. o Pledged securities If pledgor is nonaffiliated – when pledgor defaults, the bank has to wait 1 yr after pledgor got securities from issuer or affiliate. If pledgor is affiliate/control person, bank can tack on time that pledgor held securities 1. No tacking if pledged without recourse o Gifts From Non-affiliate – go back to when it initially purchased If affiliate – unclear 1. Can tack on the time the donor held it. 2. Still subject to volume limitations Volume Limits: Greater of: o 1% of outstanding shares OR o Average weekly trading in any three month period. Aggregation limits: o Add in pledges by sellers (i.e. pledges to a bank) o Gifts Exception: Non-affiliate has no volume limits Manner of Sale: Must be done in Broker transactions o Can only execute transactions of unsolicited orders o Allowed to contact other brokers to find customers for the sale. o Duty to make sure this is not stock dumping. Can give quote to other intra dealers 144(j) – not the only way you can resell securities but that this is what SEC prefers. 13 144 safe harbor Affiliate or behalf of one Non-affiliate (and has not been one for the previous three months) Restricted securities of Reporting issuers >6 months holding w/ information, volume , manner of sale for equity securities restrictions and filing of form 144 >6 months holding, information requirement >1 year, no requirements Restricted Securities of Non-Reporting Issuers >1 year holding w/ >1 year holding, information, no requirements volume , manner of sale for equity securities restrictions and filing of form 144 Unrestricted securities No holding requirements w/ information, volume , manner of sale for equity SECURITIES REGULATION SHORT OUTLINE securities and filing 144 If an affiliate wants to sell, he may sell to: 1. QIB: 144A 2. Ralston People: 4 ½ but must otherwise be unrestricted 3. Open Market: 144 The affiliate does not violate 4(1) if: 1. Street Corner 2. Pursuant to the Exemption through which they obtained the security QIB Requirements o Financial Institutions with 100M plus assets plus $25 audited net worth in their latest published annual financial statement o Broker-Dealers just have to have more than 10M in assets o Corporations or Partnerships with 100M o Resale of a Security to a QIB, o Inform buyer they are being sold pursuant to 144A, o Can’t be the same class of security as on the national exchange (normally debt securities, not equity), o Seller and Buyer have to be able to get specific info from buyer, and o Seller can’t be the original issuer 4(1½) Exemption Step 1: See if the securities is restricted for a reason other than being owned by a control person Step 2: Sell to a Ralston person (sophisticated w/access) If you can’t sell through4(1½), try 144 or 144A 14