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Securities Regulation
University of North Carolina School of Law
Hazen, Thomas Lee

Securities Regulation


Spring 2015


I. Introduction

a. Act of 1933 (Securities Act or 1933 Act)

i. 1933 Act: governs public offerings of securitiesàOnce the offering is over, this act does not cover.

b. Securities Exchange Act of 1934

i. covers all transactions in publicly traded securities and some transactions in NOT publicly traded securities (e.g. 10b5 = any securities transaction in interstate commerce) à see for research (where 10b-5 kicks in, any implications)

1. Public Disclosure

a. Once public offering happens, subject to disclosures (The K’s and Q’s)

b. 12(a) and (g) – cover companies that have to disclose

2. Market Regulation Provisions

c. Must register under ’34 Act:

i. Securities/Brokers Dealers:

ii. National Securities Exchanges:

iii. Transfer Agents

iv. Clearing Agencies

v. Government Securities

vi. Municipal Securities

d. Trust Indenture Act of 1939

i. Whenever corporate bonds issued, must be in compliance with this act

ii. UNLIKE other laws: not limited to disclosure

1. Regulates the merits

2. Bonds m

3. Just contain certain things in their indenture (debenture is actually note/obligation)

4. *Still have to comply with ’33 act if going to be offered

e. 1940 Investment Company Act

i. Types of Investment Companies (invest in securities of other companies)

1. Mutual Funds

2. Non-bank money mrkt funds

a. Money mrkt funds issued in $1 shares

b. Interest rate varies (today .02%_

c. SEC just adopted controversial rules allowing money mrkt funds to “Break the Buck” in extreme circumstances and become less like bank accounts

d. Managed not by investment company, but by separate and registered investment advisor

f. 1940 Investment Advisor Act

i. Regulated:

1. Fund Managers

2. Professionals that sell investment advice

a. NOT stock brokers (some are both brokers and advisors)

b. Important exemption: Broker Dealers rendering advice as such

i. Difference in broker-dealer recommendation is that these are security specific and transaction specific

ii. Investment Advisor: just selling his knowledge, so regulated under this act

g. SIPIC: the FDIC of investment funds. It deals with broker-dealer insolvency.

1. If your broker dealer goes bankrupt, this is your insurance like FDIC

h. Sarbanes-Oxley Act

i. In some ways, a seventh securities Act

ii. For the most part, amended or expanded existing provisions of securities laws

i. Dodd Frank Act

i. Mostly Bank/Financial Institution reg, but amended ’34 and ’33 act

j. Jobs Act

i. Facilitates Capital raising for small businesses

k. 1990 Preemption

i. If offered under 1933 Act, States CANNOT impose other disclosure or merit analysis

ii. National Securities Markets Improvement Act

iii. For some exempt transactions (under 33), they are preempted as well

iv. Leaves States with:

1. Authority to require registration for SOME exempt public offerings

2. Can STILL go after fraud

3. After 96, states get more authority to regulate broker-dealers

II. Self-Regulatory Organization

a. The National Association of Securities Dealers USED to be the regulater (NASD)

b. The NASD regulatory merged with Financial Industry Regulatory Authority (FINRA)

c. All Exchanges are self-regulator (e.g. NYSE has its own regulation)

i. ALL regulatory rules subject to SEC approval

ii. Criticism

1. Letting the broker-dealers be self-regulatory is like fox guarding the henhouse

III. SEC Rulemaking Authority


i. Federal Statute

ii. Procedural Rules

iii. Rules from delegated power (e.g. 14a from §14 of ’34 Act)

b. Delegated Rulmaking – have the effect of law

c. Interpretive Rulemaking – SEC says what the law is

i. Sub-category: Safe-Harbor Rules: we as SEC are passing rule to say if you do A, B, and C, we will not prosecute you

1. A way to be exempt under the statute

d. SEC Announcements

i. Release: look at proposing release and the adopting release

1. Will tell you what and why they adopted

ii. Interpretive Releases

e. Resolving disputes between companies or individuals

i. Commodities Exchange Act has way under CFTC to make Reparations: SEC DOES NOT RESOLVE PRIVATE DISPUTES, unlike CFTC


a. Statute: definitions in ’33 and ’34 substantially the same (other than treatment of NOTES; they are identical). The definition is very broad:

Securities Act of 1933

SEC. 2. (a) DEFINITIONS.—When used in this title, unless the context otherwise requires—

(1) The term ‘‘security’’ means any note, stock, treasury stock, security future, security-based swap, bond, debenture, evidence of indebtedness, certificate of interest or participation in any profit-sharing agreement, collateral-trust certificate, preorganization certificate or subscription, transferable share, investment contract, voting-trust certificate, certificate of de- posit for a security, fractional undivided interest in oil, gas, or other mineral rights, any put, call, straddle, option, or privilege on any security, certificate of deposit, or group or index of securities (including any interest therein or based on the value thereof), or any put, call, straddle, option, or privilege entered into on a national securities exchange relating to foreign currency, or, in general, any interest or instrument commonly known as a ‘‘security’’, or any certificate of interest or participation in, temporary or interim certificate for, receipt for, guarantee of, or warrant or right to subscribe to or purchase, any of the foregoing.

b. Consequences of Having Security:

i. Subject tot anti-fraud provisions of ’33 and ’34 Act

1. e.g. 10b-5 gives federal remedy to DOJ in criminal and civil proceedings for fraud in connection with purchase/sale of securities

2. Bigger Implication: § 5: unlawful for any person to sell security unless registered on § 5 (some exemptions, §§ 3 and 4, exist)

a. Failure to register under § 5 is a crime

b. SEC can pursue (i.e. Howey Case)

c. Creates Private Right of Action for recision of any sale made under § 5 (see 12(a)(1))*d

V. Investment Contracts

a. SEC v. CM Joiner Leasing Corp: sets precedent for Investment K as security (package as security SEC claiming it is a security). Holding: this is an investment contract because you are tying together an inseparable package. Unless registered under § 5, you violated the law

a. Facts: D offering a package: oil and gas drilling operations – undivided oil and gas interest is like a partnership where each investor has % interest in profits (undivided like partnership). Had to pay for svcs with the real estate.

b. SEC v. Howey Co.

a. Facts: The Howey Company is offering a land sale contract and service contract (not sold sepearably) to interested investors. The plots of land, which are indistinguishable, were subdivided and represent a number of trees. Investors participate in pooling and sharing of profits. Marketed as land interest,


5. Expectations of Profit: EARS (Enhanced Automobile Reveivables) were not securities because they yielded a specified interest payment rather than dividends tied to profitability

g. Real Estate Interests as Securities: The fact that real estate is marketed as a profitable security DOES NOT make it a security (combing Howey, Forman, and Heritage USA cases). The profit must be a significant, primary investment incentive.

i. United Housing Foundation, Inc. v. Forman, 421 U.S. 837 (1975)

1. Holding: Use of income derived from leasing of commercial facilities within the common areas of a cooperative housing projct to reduce tenant rental costs was too speculative and insubstantial to qualify as a profit expectation under the Howey test.

ii. Sec. Act Rel. No. 5347 (Jan. 4, 1973)

1. Offering of condo units in conjunction with any of these arrangements is securitiy:

a. Conodos with rental agreements (or other service) offered and sold with emphasis on economic benefits to purchaser derive from managerial efforts of promoter or third party arranged for by promotor, from rental of units

b. Offering of participation in rental pool arrangement; and

c. The offering of a rental or similar arrangement whereby purchaser must hold unit available for rental for any part of the user, must use an exclusive rental agent, or is otherwise materially restricted in his occupancy or rental of his unit

iii. Hocking v. Dubois, 885 F.2d 1449 (9th Cir.1989)

1. Depending on facts, arrangement whereby condo had optional rental pool arrangement maintained by manager of development COULD be security

iv. Teague v. Bakker, 35 F.3d 978 (4th Cir.1994)

1. Time share interest (PTL) in hotel that was marketed with emphasis on profit potential, with specific calculations of true value compared to purchase price, enhanced by commercial activities of the PTL facilities, and resulting from managerial efforts of others MAY be a security.

a. ***Result: on remand, trial judge instructed jury that to be security, the investment incentive must be primary attraction to investors (See Teague v. Baker, 139 F.3d 892 (4th Cir.1998) (affirming lower courts requirement of investment incentive as primary attraction)

h. Fixed Return

i. SEC v. Edwards, 540 U.S. 389 (2004)

1. Holding: an investment scheme promising a fixed rate of return can be an “investment contract” and thus a “security” subject to the federal securities law.

2. Reasoning: securities laws are consumer protection laws built on “blue sky” laws of states. These laws meant to protect from claims of profit in the sense of income or return, including dividens, other periodic payments, or increased value of investment

a. NO NEED to distinguish between promises of fixed returns and promises of variable returns

b. Promises of fixed returns have been used to attract more vulnerable investors (older, or less sophisticated)