Securities Regulation Outline

I. Introduction
Area is governed by two statutes:
The Securities Act of 1933: enacted in reponse to the 29 crash, policy of disclosure regulation, requires registration of securities

Securities Exchange Act of 1934: deals with regulation of security excachanges
Once you have registered under the 33 Act you have continuing regulation under the 34 Act
Seeks to insure fair play and orderly securities markets by prohibiting certain types of activities and by setting forth rules regarding the operation of markets and their participants

The two acts have different purposes, the 33 Act is concerned with the info assemetry between founders and investors so ensures that the Founder disclose to the market. 34 no concern about info assmetry

SEC- administers the federal securities laws and issue rules and regulations to provide protection for investors. Independent commission, with 5 members serve staggered 5 year terms. No more than 3 members of the same party

In administering the securities statutes, the Commission issues a large number of rules and pronouncements:
Releases: a type of pronouncement in which the Commission interprets rules and statutes that have been brought to their attention, do not have force of law but are given that effect as a practical matter
No-action letter: is only binding upon the person to whom the letter is issued – if action recommended is taken then the SEC will recommend to the Commission that no action be taken – however this does not preclude someone else in Commission from taking action
Note: one reason for the ’29 crash was that shares were overvalued because investors did not have a lot of info on the companies – this is why the emphasis of the ’33 Act is on disclosure
Financial info is the big component of the disclosure requirement. The info is disclosed through a registration statement. The most prominent form is the S-1. The prospectus is contained in the registration statement.

Capital Markets
Place to raise money for business to fund their project. After the companyseeks out all of their loans they will still need money to raise capital
– So they approach lots of people for a small amount each and do this through a capital market.
– Core problem in a capital market system is the distance between the investor and the person asking for money
o Law is to insure that the information between the investor and the investment is true
o Federal securities law is a series of law that protect investors when investing in distant enterprises

Ways to Raise Capital: common stock, preferred stock (profits and extra rights – ie no profits for 6 months but get control) Loan/Debt – annual payment
The bond market is actually a much larger market because people like the annual payment
Stock market receives more attention because of the large upside of the money

Capital is very liquid more so then any other aspect of business à labor
Only restrictions are local regulation and personal preference,

How to Raise Capital
Primary market, firm raising stock directly approaches investors… IPO, $ investor pays goes to the firm, regulated by the 33 Act
Secondary Market investor to investor,company that actually issed the stock gets nothing… regulated by the 34 Act. Without the secondary market, it would be unable to unload the stock quickly and would be a serious negative

To buy stock… go to a broker, broker becomes the intermediary. If the broker has stock to give he becomes a dealer
Broker goes to buy stock on the NYSE

Present Value Discount Valuation
Need a way to turn future earnings into todays value

PDV = (cash flow/ (1+discount rate)) number of years

(10 million/1 =.05)2 = 9.07 million
There fore 10 million today equals 9.07 million in two years

Types of Information
Inside Informationcash flow, future projects, managers
What incentives is there for the firm to disclose? Fimr wants disclosure to entice investment. But problems may arise when managers don’t want to disclose.. might not be able to trust all of the info from insude the firm so we mandate disclosure
Firm won’t want to disclose if they have no credibility, disclosing won’t change
No need to reaise capital, not seling securities
Firm is the worst in its industry
Anti-liability is insufficient to enduce disclosure
Outside Information events outside of the firm can effect the firms value. Competition goes bankrupt, loan market

Why have Mandatory Disclosure
– coordination problem: different firms produce info differently, need to be able to compare firms and if firms give infor in different standard then comparision is too hard
– Agency cost: D.O. don’t ant to disclosre and reason to believe that everything won’t be disclosed
– Positive Externalities: disclosure will benefit other entities other than the firm, competitors gain from inside infor
– Depucaltive Information Research; prevents each analysis from uncovering the same information over and over again

ECMH- in an efficient market, current prices will always and fully reflect all information about the stock being traded
Weak- $ of stock reflects the historical information- price will only change in response to new info
Semi-Strong- $ of stock reflects not only the historical info but also all current public information, market prices moves faster than you do
Strong Price- includes all information whether publicly available or not
In the US it is believed that the market is semi-strong and reflects all past and current information

Going Public
“Going public” is the transformation of a closely held corporation to one in which the general public has a proprietary interest
– A company goes public by selling its securities (primary offering) or by having present shareholders sell their securities to the public (secondary offering)
– Both offerings are accomplished by means of a registration statement filed with the SEC pursuant to the ‘33 Act
Investment banking: term used to encompass such functions as acting as underwriter, dealer, broker, or market maker (see text p.29)
Underwriting: the function of helping a company, or one or more of its major shareholders, sell securities to the public through an offering under the Securities Act
Firm Commitment underwriting: underwriter purchase securities from a company at an agreed price and then attempts to resell securities to the public.
Best efforts underwriting: underwriter agrees to use its best efforts to sell an agreed amount of securities to the public
Standby underwriting: company directly offers its existing security holders the right to purchase additional securities at a given price

If a company decides to go public, the management goes to investment bankers who agree to underwrite the stock offering – that is to buy all the public shares at a set price and resell them to the general public, hopefully at a profit. The underwriters help the company prepare a prospectus, a detailed analysis of the companies financial history, its products and services, and management’s background and experience

The primary reason for going public is too obtain new capital. Other reasons include:
· Obtaining negotiability for securities
· Obtaining future capital on more favorable terms
· Prestige

Disadvantages of going public include:
· Expenses
· Additional disclosure obligations
· Market expectations may deter a company from making long-term investment decisions
· Loss of control
· Higher estate tax valuation

Some Definitions:
Dealer: refers to a firm when it buys and sells securities for its own account
Broker: refers to a firm when it buys and sells as an intermediary for a customer
Secondary market: market in which securities that have been bought and sold are traded – brokers and dealers make the trades in this market
Transfer agents: individuals who keep track of the stock ownership record – who owns what and how much

II. Public Offerings

A. Cost of Going Public- first step generally is to restructure the corporation to prepare for the intial public offering, reincor