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Securities Regulation
South Texas College of Law Houston
Leahy, Joseph K.

Topic 1
·         Goal of these fed securities laws
o    Disclosure of corp info to investors
·         Do not pass on quality of securities
·         TEST –
o    Is this financial instrument a “security” ?
o    Is this security exempt from registration?
o    Was it sold in an exempt transaction?
o    What must be done to register the security?
·         Definition 2(a)(I) of Securities Act:
o    Is both concrete and ambiguous (“stock,” “bond” etc
o    Additional language both broadens (investment K)
o    And narrows the concrete terms.
·         “Unless context requires otherwise” – stock could not be a security
Topic 2  – Investment K
·         Howey Test –
o     investment of money,
o    In a common enterprise “commonality”
o    With expectation of profit
o    “Solely” by the efforts of others
·         Really primarily by the efforts of the promoter
·         *primarily by the managerial efforts of the promoter (even if the investor does a lot of ministerial work)
§  If both are the brains – like franchise then not a security
·         Koscot –
o    Clarifies the “efforts of others prong”
o    Who is the brains of the operation?
o    Commonality? – is vertical alone enough? Yes (however, some courts will say no)
·         Horizontal – focuses on relationship btw investors in the scheme
§  Do the investors share profits and losses?
§  Are the investors' funds pooled?
§  ALONE – all courts say is enough
·         Vertical – focuses on relationship btw a single investor and the promoter
§  Are their fortunes – good or bad – tied together?
·         Two types:
·         Narrow – fortunes of promoter & investor are tied
·         Broad – fortunes of investor tied to efforts of promoter
§  ONLY some circs think ALONE is enough like Koscot
·         Life Partners: efforts of others element
o    Majority: viatical settlement is not a security
o    Promoter's post purchase efforts are ministerial
o    Promoters pre purchase efforts are not critical so “viatical settlements” not an investment K/
·         Roulette analogy: fate not the promoter determines whether or not these investments succeed of fail
o    Majority view follows dissent VS is a security
·         Promoters efforts are critical to success here
§  Horse racing analogy: the investment's success depends entirely on “picking ponies” to bet on.
o    Common enterprise element
·         Remember the two questions we ask for horizontal commonality
§  Are the investors interdependent? (is there shared profits and losses, and are funds pooled bc they need to be)
·         Pooling has to be essential to the scheme, not mere happenstance or coincidence.
·         Edwards:
o    To qualify as “profit” return can be fixed and guaranteed, as well as variable and uncertain.
·         Forman: when is stock not a security? (co-op “stocks”)
o    When stock in question had none of the traditional characteristics of stock…
·         Traditional characteristics of stock:
§  Right to dividends (if declared by board)
§  Negotiable
§  Can be pledged/hypothecated
§  Voting rights = pro rata (typically 1 vote per share)
§  Can appreciate it value
o    Then it is consumption, not an investment. (not expecting a profit)
o    HYPOS –
·         What if tenants could sell their interests for a profit? A private co-op?
§  If profit motive is purely incidental to purchase of residential housing. Look at primary motive – generally consumption.
·         Another “stock” that isn't a security.
§  Green bay packers are owned by the city – can buy a ceremonial share.
·         Interest in a country club… can get a stock but own that stock to use the country club — like the co-op.
·         Grenader –
o    Followed Forman for co-op “stock” which has some of the characteristics of traditional stock.
·         Primary motivation for buying “stock” was still consumption even if stock could appreciate
·         Daniel –
o    Non contributory compulsory pension plan not an investment K udner howey
o    But contributory voluntary plans are securities
·         Un
·         Unincorporated entities GP
o    As a factual matter, Gp are rarely a security because
·         All P by statute have equal right to participate in the management
o    LP
·         Limited P are typically passive investors and have no right to manage the firm
·         Modern statutes do not require this however, so it will depend on the facts. Based on the agreement
o    GP exceptions
·         A GP is a security if
§  The investor can establish she has no power to control the partnership due to:
·         The agreement btw the partners
·         Inexperience and/or ignorance
·         Dependence on promoter's unique skills
o    LP exceptions
·         A LP is not a security if
§  The investor has more control over the business than is typical for passive investors
·         Steinhardt
·         Ct con

ut maybe yes if among regular investors!
·         Swaps
o    Exchanges of cash flows (fixed for floating)
·         Person borrows at a floating rate and pay the bank to get a fixed rate.
o    Previously explicitly exempted
·         Dodd-Frank securitiy based swaps are secrties and regulated by the SEC
·         Securities Act §5 is strict liability
o    Exemptions are strictly construed (except if exemption explicitly says otherwise.
·         Types of Exemptions
o    Two general types of exemptions
·         Exempt securities (mainly in §3(a))
§  Exempt by their very nature – therefore they are always exempt.
·         Transaction exemptions (mainly 4(a))
§  Exempt only due to status as part of a transaction that is exempt. – therefore, they are not exempt upon re-sale unless there is another trans exemption
·         Exempt securities
o    Found mainly in §3(a)(2)-(8)
o    Eg stocks issued or guaranteed by a bank, treasury bills, municipal bonds, etc
o    Types of securities for which Congress did not wish to require additional disclosure
o    Bc there is some reason to trust the issuer
o    The issuer is already highly regulated, a bank, a non for profit or govt entity
·         Issuer – why it matters
o     1933 act5  which requires registration of securities that are offered and sold applies to any person, so everyone involved in a sale of securities is technically required to comply w §5
o    But §4(1) exempts from §5 all persons other than issuers, underwriters and dealers
·         This exemptions allows us to trade in securities
·         Only issuers, underwriter and dealers exemptions 
·         Issuer definition
o    1933 act 2(a)(4):
·         Every person who issues …any security
·         Issuer is mostly narrow and obvious ask:
§  What entity's name is on the security?
§  An interest in what entity is being sold?
§  What entity receives the money (from the initial sale of the securities to the public)?