Final exam - securities and insider trading Flashcards
The origin of securities law
blue sky laws - state laws that protect investors from speculative schemes
Ways to value a company
- Based on value of assets (or assets minus liabilities)
- But problem is that we either need to include good will (like reputation – but need methodology for doing that) or exclude it (but then we may get inaccurate estimate). - Based on multiple of current sales/earnings, using some other corporation as a baseline
- Look at transactions of shares or entire businesses in other similar companies. Value is proportional to some financial measure within an industry.
- E.g. know of other auto dealership with X earnings sold for X dollars. Earnings 10% of value.
Even companies in the same line of business may not have the same ratio of value to earnings.
- Issue – may focus too much on the present - Present discounted value of net profits – discounted cash flow method
- Reflects time value of money of interest rates
- Estimate profits in each future year and then discount each year’s profits to the presents
- Least objective – many uncertainties (new product, economic environment)
Efficient Capital Markets Hypothesis
Weak form efficiency: current price reflects all information on historical prices. Past information incorporated into current price
Semi-strong form efficiency: current price reflects historical information and current public information. Everything company has released to public
Strong form efficiency: current price also reflects private information – insider trading
Securities Act of 1933
Regulates primary market
Requires transactional disclosure
not review of merits
applies to any public sale of securities, whether registered or not
Securities and Exchange Act of 1934
Regulates secondary market
creates SEC
Disclosure - periodic, once/class, annual, quarterly, episodic
applies only to registered companies
Securities in cases
Robinson - investment contract and stock
“commonly known as a security” = investment contract
After registering/filing with the SEC…
SEC examines adequacy of disclosure
From time of filing until statement becomes effective, offers are permitted. Issuer often gets advance approval for statement sent to SEC without price, then asks SEC to approve it again once the price is set.
From time registration statement becomes effective:
selling is allowed, but the prospectus must be delivered to those offered the securities before sale is completed
Exemption for private offerings - is it private?
Balancing test:
- number of offerees and relationship to issuer (25 or less normally; knowledge and sophistication)
- number of units
- size of offering
- manner of offering (no solicitation or public advertising)
Securities Act § 11
liability for misrepresentations in registration statement:
Does not apply to transactions exempt from registration
liability if “any part of the registration statement, when such part became effective, contained an untrue statement of a material fact or omitted to state a material fact required to be stated therein or necessary to make the statements therein not misleading…”
NO NEED TO SHOW RELIANCE, CAUSATION, OR SCIENTER
D must show that conduct did not cause P’s damages
Liable parties under Securities Act § 11
Anyone who signed registration statement:
1. Issuer = strictly liable, principal executive officers, and majority of directors must sign
2. Every person named in reg. stat. as about to become a director
3. Every expert named as having prepared or certified any part of the statement, or having prepared any report or valuation used in connection with the statement
4. Every underwriter
Securities Act § 12
only public offering
Liability for offering or selling a security in violation of the registration process. Usually strict unless exempt:
(a)(1) – strict liability for offers & sales in violation of § 5 (registration process – failure to deliver prospectus, violation of gun jumping rules) - main remedy is rescission. does not apply when exempt from registration.
Liability for: (a)(2) - misrepresentations in prospectus/oral sales communication
i. No need to prove reliance
ii. Defendants who conduct reasonable investigation cannot be held liable (DUE DILIGENCE)
Exempted securities/transactions
securities: offers up to $5 million
transactions: by someone other than issuer, underwriter, dealer; by issuer not involving public offering.
Elements of Rule 10b-5 violation
JTMRCS
jurisdictional nexus - interstate commerce
transactional nexus - “in connection with purchase or sale of any security”
materiality - “whether substantial likelihood that reasonable shareholder would consider the fact important”
reliance
causation
- transaction - but for the misrepresentation, would have purchased/sold?
- loss - whether the misrepresentation caused the loss - battle of experts
scienter - intent to deceive/manipulate/defraud - reckless disregard is generally sufficient
Secondary liability - scienter
No secondary liability for aiding and abetting violations (see Central Bank of Denver)
Evolution of insider trading common law v. trading with shareholder
Used to be that officers and directors may trade with shareholders without disclosing material information
Special circumstances rule: duty to disclose when special circumstances - highly material, concealed insider identity, active fraud, especially vulnerable P
Minority (or not): insiders have duty to fully disclose material information whenever they purchase shares from shareholder
