Securities Regulation Flashcards
a. Market Order
i. A customer order to a broker to purchase or sell a security at the best available price according to the market
b. Limit Order
i. The Broker is not to execute the trade until the shares reach or surpass the prices specified by the broker’s customer
a. The Securities Act of 1933
i. Sought to remedy billions of dollars lost on floating securities by discovery or registration of Securities
b. The Securities Exchange Act of 1934
i. The Exchange Act is a laundry list of problems for which Congress articulated neither the means nor the end objective. Instead, Congress, through §4 of the Act, created the SEC and delegated to it the task of grappling with the problem areas
ii. Three types of companies are required to make continuous disclosure (1) companies that have a class of securities listed on a national securities exchange (§12(b)) (2) companies that have assets in excess of $10 million and that have a class of equity securities held by at least 2k record holders (§12(g)) and companies that have filed a ’33 Act registration statement that has become effective (§15(d)
iii. In its quest for facilitating investor decision making, since 2009 the SEC has required filings to be pursuant to its Interactive Data Electronic Applications (IDEA), by which information is “tagged” by reporting companies so that users can thereafter sort information according to pretagged codes; The most significant of the compelled reports is the annual Form 10-k which is required to include extensive description of the company’s business, audited financial statements for the fiscal year, and management’s discussion and analysis of the position and performance of the company
c. Federal Regulations Beyond Disclosure: The Sarbanes-Oxley Act of 2002 and Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010
i. The Sarbanes-Oxley Act of 2002 was enacted following the Enron accounting scandals of 2002. The Act provided many regulations of U.S. Capital markets including broad prescriptions for corporate governance, rules of professional conduct for lawyers, and regulations for loans to corporate officers
ii. The Dodd-Frank Act of 2010 was enacted following the 2008 financial crisis. Dodd-Frank contains numerous provisions that impact the scope and content of US securities laws
d. The Regulation of Investment Advisers and Investment Companies
i. The Investment Company Act of 1940 and the Investment Advisers Act of 1940 were the culmination of a comprehensive four-year SEC investigation of investment companies
ii. Investment companies are companies formed for the purpose of buying, selling and holding a portfolio of securities for investment, rather than for control purposes
iii. By these Acts, companies are required to register under the Securities Act when they engage in a public offering of their securities
e. The Organizational Structure of the SEC
i. The SEC is administered by five commissioners appointed by the President to five-year terms.
ii. The SEC operates through four principal divisions (1) The Division of Corporation Finance (2) The Division of Trading Markets (3) The Division of Investment Management (4) The Division of Enforcement
f. The Mediums Through Which the SEC Speaks
i. Extensive guidance is provided through SEC releases (press releases), which accompany the proposal, adoption or modification of rules
ii. The Commission’s positions are also presented in private litigation through amicus briefs the staff files on important issues
iii. Guidance is also provided through the SEC’s website in its “Compliance and Disclosure Interpretations.”
g. Critical Perspectives of the SEC
i. Much criticism of the SEC comes from the perspective that the SEC has over-regulated issuer and trader requirements such as disclosure policies to the detriment of cost justification and allocative efficiency
ii. Some economist complain that SEC regulation does not really serve the public good but rather maximizes the political support of the agency
iii. The SEC’s disinclination to adopt bright-line rules leads to an increase of fraud
iv. Regulators who are former attorneys have a bias toward complex regulation and personal economics self-interest
h. Judging SEC Rulemaking
i. The Rulemaking authority the SEC enjoys is subject the statutory mandate that “the commission shall…consider, in addition to the protection of investors, whether the action will promote efficiency, competition, and capital formation
ii. In the wake of Business Roundtable, The SEC provided guidance to staff calling for future rulemaking to include the following four elements (1) a statement of the need for proposed action (2) a definition of a baseline against which to measure the likelihood of economic consequences of the proposed regulation (3) the identification of alternative approaches, and (4) an evaluation of the benefits and costs, both quantitative and qualitative, of the proposed action and the main alternatives identified in the analysis
a. Blue Sky Laws
i. State securities laws were intended to curb promoters who would sell interests which had no more substance than “so many feet of blue sky.”
ii. An important difference between the federal and state approaches to securities regulations is that the former is exclusively disclosure oriented, whereas many state jurisdictions include within their Blue Sky laws a so-called merit regulation standard whereby qualification depends on convincing the state blue sky administrator of the substantive merits of the offering
iii. The lack of uniformity among the states is a problem, if not a nightmare, for the attorney “blue skying” an offering that will be made in several states; As a result, the National Conference of Commissioners on Uniform State Law promulgated the Uniform Securities Act. However, neither NY, nor CA, have adopted the USA
Self-Regulatory Organizations (SROs)
i. Industry sponsored groups that cooperate with the regulatory efforts of the SEC
ii. Currently, there are four types of SROs embraced by the exchange act (1) The National Securities Exchanges (2) the National Securities Association (3) registered Clearing Agencies and (4) the Municipal Securities Rulemaking Board (MSRB)
iii. The Financial Industry Regulatory Authority (FINRA) is a National Securities Association and is the largest of the SROs; FINRA oversees the operation of the over-the-counter market and establishes rules for its efficient and fair operation
The definition of a security
i. “If the context otherwise requires,” which has provided an important basis for the exercise of judicial discretion concerning the proper scope of the securities laws.
ii. The laundry list of examples includes notes, stock, bonds, debentures, certificates of deposit, investment contracts, and certificates of interest (the list of examples enumerated has led to much confusion and debate
Securities and Exchange Commission v. W.J. Howey Co (1946)
Π (The SEC) sued Δ (W.J. Howey and Howe-in-the-hills) arguing that Δ’s sales of land, warranty deeds, and service contracts together constituted an investment K under the Securities Act and investment Ks are subject to registration requirements. Accordingly, Π sues Δ to restrain them from using the mails and instrumentalities of interstate commerce in the offer and sale of unregistered and non-exempt securities in violation of §5(a) of the Act*29-30
SCOTUS notes that Howey sold small tracts of its fruit orchards and then offered to tend to the citrus trees and harvest them under 10 year contracts whereby the Br forsook all rights to market the crops but receives a share of the net profits based upon a check made at the time of picking; SCOTUS also notes that most of the purchasers were out of state residents that lacked knowledge and skill necessary to cultivate citrus trees; SCOTUS notes that the lower courts held that the deeds and service contracts were separate transactions and T4 did not qualify as an Investment Contract; SCOTUS points out that over time Investment Co ntracts came to mean a contract or scheme for the placing of money in a way intended to secure profit from its employment and this meaning had crystalized prior to the passage of the Securities Act*30
SCOTUS HOLDS that an Investment K for the purpose of the Securities Act means a K, transaction or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter or third party. Furthermore, an offer for an Investment K is still a regulable as a security even if the offer is not accepted. HERE, Δ offers an opportunity to contribute money and share in profits of a large citrus fruit enterprise managed and owned by Δ. Moreover, the purchasers have no interest in occupying the land and the tracts of land individually are so small they would not have much economic value. CONSEQUENTLY, the offering and selling of orchard plots is an investment K. *31-32
United Housing Foundation, Inc. v. Forman (1975)
Π (Residents of Co-Op City) sued Δ (River bay Cooperative Housing Corporation, the owner and operater of the land and buildings constituting co-op city) arguing the shares Δ required tenants to purchase to make a deposit on an apartment were securities and T4 when Δ falsely represented that it would bear all subsequent cost increases, including the cost of inflation, Δ violated SA §17(a) and SEA §10(b)*35
SCOTUS notes that just because a contract labels a share a stock, that doesn’t mean that the share is a security. SCOTUS notes furthermore that the purpose of the securities acts was to regulate the enterprise system (the sales of securities to raise capital for profit-making purposes) in order to protect the interest of investors. *36
SCOTUS HOLDS that the defining feature of a security is the presence of an investment in a common venture premised on a reasonable expectation of profits to be derived from the entrepreneurial or managerial efforts of others. SCOTUS HOLDS that profits are the capital appreciation resulting from the development of the initial investment, or a participation in earnings resulting from the use of the investor’s funds. SCOTUS HOLDS that profit or income that might come by consuming the direct benefit of a share purchase like greater living convinces in a co-op housing are too speculative to qualify as profits from investments. HERE, the investors were solely attracted by the prospect of acquiring a place to live or consume a direct benefit derived from purchasing the share and not in receiving profits from the investments. CONSEQUENTLY, the shares Δ required tenants to purchase as deposit on the apartment were not securities for purposes of the Securities Acts*37-38
