Securities

Wealth (W) = Labor (L) + Capital (C)

i. This class is a study of capital; the raising, the regulation, and the way government treats capital.
1. Capital is what makes the economy function.

The Acts:

i. The Securities Act of 1933, as amended
ii. The Securities Exchange Act of 1934, as amended
iii. Investment Company Act of 1940
iv. Investment Advisers Act of 1940

The Commissions

i. The Securities and Exchange Commission ("SEC").

Broker:

someone who puts two people together in privity contract and charges commission; ex. real estate broker who takes commission for sale of a house
1. NYSE is a broker market
a. Example: when Goldman and Morgan facilitate a trade on behalf of clients at NYSE

Dealer:

someone who buys, takes into inventory and tries to resell at markup; ex. car dealer who buys a car, fixes it up and sells at markup.
1. NASDAQ is dealer market
a. Example: Microsoft traded on NASDAQ; when want to sell you call Merrill and Merrill buys th

History of Capital Markets:

i. In Europe, capital was traditionally owned and finance was provided by merchant families (e.g., Rothchilds)
1. Merchant Bankers: people who put their own money up (like PE - wealthy ppl/families). Investment Bankers: find capital and put users of capit

Common Stock

emerged as a means of sharing the risk for trading opportunities with the Americas, for which there was an underdeveloped insurance market.
1. Stocks spread the risk of failure among investors (inventory on the ship called the ships stock - capitalism is

In 1862, the Civil War forced the United States to shift to capital structures

1. Lincoln couldn't get funds from merchant families or from other European countries.
2. Sec. Treasury Chase went to "Ma & Pa America" with Government Bonds.
a. Bonds are securities; civilians bought bonds and received interest.
b. The Confederacy tried

The Great Depression

1. In 1929, the Dow was at 800; it did not hit that level again until 1954.
2. Roosevelt was forced to take drastic steps to fix the system.
a. FDIC insures bank deposits up to $250,000. This restored trust in the banks.
b. From 1932 to 1974, it was illeg

What is a Security?
A. '33 Act � 2(a)(1) - defines a security

i. "Unless context otherwise requires, any note, stock, treasury stock, security future, security-based swap, bond, debenture, evidence of indebtedness, certificate of interest or participation note, stock, bond, debenture, in any profit-sharing agreement

Important question is what is an Investment Contract

a. If the thing is a security, it is subject to the vast amounts of regulation; if not it is free from regulation.
b. You cannot offer or sell a security in the US without complying with the '33 Act (specifically Section 5) important question of what is a

The Howey Test
i. Seminal Case: SEC v. W.J. Howey Co., SCOTUS, 1946 [29]:

In its petition for certiorari review, the SEC challenged the denial of its request for an injunction in the SEC's action alleging violations of � 5(a) of the Securities Act of 1933. The act in question involved the sale and leaseback of orange groves in

Howey was in the orange business.

Howey approached investors and offered to sell rows of groves in fee simple absolute. Howey then offered to maintain the plants, collect the fruit, and sell the oranges on the owners' behalf for a fee. The remaining profit would go to the investors. The S

The Supreme Court found that Howey was selling a security and established a multi-part test: Howey Test: An Investment contract is formed when 1. There is an investment of money in 2. A common enterprise 3. When the profits come from the efforts of others

i. The investment of money (money = anything of value i.e. gold);
ii. In a common enterprise (commonality);
iii. Where the results/success depend on the efforts of others (passivity).
1. The investors are passive.

Application to Howey:

had an investment of money (bought the orange tree) - common enterprise (all oranges went in one vat) and all the profits came from Howey, the investors and nothing to do with it. Capitalism is when you let someone else do all the work.

Jalil: These three principles define the capitalist system. Defined capitalist system in 3 prongs. Capitalist invests money and puts money to work - the profits depend on the efforts of others.

i. When dealing with a novelty, always apply the Howey Test.
ii. Hypo: Are tokens issued in an ICO securities under the Howey Test?

Exceptions to Howey
i. If there is a better, more focused, legislative approach, let that approach handle the issue.

1. If another regulatory regime specifically targets that instrument, is not a security. Daniels
a. E.g., Teamsters v. Daniels, 1979: Daniels wanted to make a 10(b)5 argument, but because his pension was governed by ERISA, the court said it wasn't a secur

The Uniqueness Exception:

If an arrangement is so unique in that it can only apply/is available to a small limited number of people, it is not a security (the only people who could have done the transaction are these 2 people - only of interest to these people). Novelty is irrelav

Involved 2 important concepts

a. Dealt with new instrument: certificate of deposit (CD) Court (correctly) held that it was not a security.
b. Main Issue: Picarillos and Weavers were farmers. They had a bid falling out, their business deal collapsed, they sued each other. Part of the c

First Prong: The Investment of Money
i. United Housing Foundation, Inc. v. Forman

, SCOTUS, 1975 [36]: Co-op shareholders brought suit against the management contending that the assignment of an increase in construction costs to respondents by state sponsored parties collaborating in construction of a large cooperative public housing p

Clarifies the Howey Test: "The touchstone 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.

a. The name of the capital scheme is irrelevant.
b. There must be a true intent for a capitalistic transaction

Establishes The Economic Reality Test: (look at the economic reality of what is going on - the court isn't constrained by definitions).
a. Two-Prong Test:

i. Am I truly investing my money in a capitalistic context? OR my notes don't have this as a prong
1. The Co-op member was not investing his money; He was buying a coop. He received his money back when he sold his shares back. There was no intent to inves

Jaguar Hypo: Jaguar wants to sell a car it is manufacturing but needs to raise money. Tells Group A, Jaguar lovers, "put in $80,000 today, wait 3 years, and pay remaining balance of $500,000 later to receive car with projected market value of $1.6 million

1. Group A: No
a. Expectation is to use/consume (economic reality test), so fails first prong of Howey
2. Group B: Yes
a. Expectation is profit, not to use/consume the Jaguar
i. Uniqueness does not apply; While the cars may be unique and individually numb

Second Prong: Common Enterprises (commonality)

i. What is a "Common Enterprise?"
1. Circuit Split
a. Horizontal Commonality
b. Vertical Commonality

Horizontal Commonality

1. All investors rise and fall together, have the same common fate, invest in the same enterprise (everyone is in the same boat) - just like Howey: Everyone's oranges were mixed together
2. Problem: What if there is only one investor?
a. Judge Posner (SEC

Vertical Commonality

1. Requires commonality (a common interest) among the promoter (i.e., issuer) and the investor.
a. Look at relationship between investors and manager.
2. Two Types:
a. Broad Vertical Commonality
i. Requires some nexus of interest between investor and mana

SEC v. Edwards, SCOTUS, 2004 [42]:

Under the sale and leaseback agreements, purchasers of payphones received fixed monthly amounts and the seller operated and maintained the payphones and collected coin revenues from the payphones. The seller contended that the agreements were not investme

Third Prong: Efforts of Others

i. Not a strict test
1. So long as success depends predominantly on efforts of others, the prong is met.
ii. "Solely" has been written out of the Howey Test. See SEC v. Koscot.
iii. What about stock owned by a manager?
1. Hypo: Joe's Autobody. Small busin

Is Equity a Security?

1. General Partnership vs. Limited Partnerships

General Partnership

i. State partnership law governs. General Partners each own a percentage of the business and all have legal right to bind the business. All partners are 100% liable for the debts of the partnership.
1. General Partner interest is usually not a security be

Limited Partnership

i. State partnership law governs. Two classes of partners: general partner and limited partners. General Partner manages business; Limited Partners have no interest in management and are passive, just like corporate stockholders
1. Limited Partner interes

Limited Liability Company (LLC)

a. Whether LLC membership interest is a security is ad hoc. See United States v. Leonard, 2d Cir., 2008 [56]
i. LLC is like a hybrid: limited liability of corporation pass-through tax treatment of partnership. Manager manages and investors are members.
b.

Corporations

a. State corporate law expressly provides that stockholders do not have management power.
i. By virtue of statutory definition, corporate stock is a security - common SH has few manage rights
1. Even if the CEO or manager of the company owns the stock, it

Timing Requirement didn't mention in class

1. Efforts of others must come after investment
a. E.g., AIDs case.
i. Terminally ill person makes an investor his beneficiary in exchange for an immediate discounted lump sum. This is not an investment contract and therefore not a security because at the

The Sale of Business Doctrine - Now Defunct (no longer exists)

1. Landreth Timber Co. v. Landreth, SCOTUS, 1985 [52]: Respondents sawmill owners possessed all of the stock of their lumber business. Petitioner buyer acquired all of respondents' stock after their sawmill was heavily damaged. The acquisition proved to b

Defines common stock as

(i) the right to receive dividends contingent upon an apportionment of profits; (ii) negotiability; (iii) the ability to be pledged or hypothecated; (iv) the conferring of voting rights in proportion to the number of shares owned; and (v) the capacity to

Automatic Application of Securities Laws - Can status as a security be elective? No.

i. '33 Act � 14
1. "Any condition, stipulation, or provision binding any person acquiring any security to waive compliance with any provision of this title or of the rules and regulations of the Commission shall be void"= cant waive being a security
a. Ca

Debt Instruments

i. Securities are either equity or debt.
1. Equity: connotes ownership (common stock, preferred stock)
ii. Debt: promise to pay back money. There are three kinds of debt instruments:
1. Notes: Short-term maturity (1-3 years). Issuant is called a note.
2.

Are Notes Securities?

1. Despite plain language of � 2(a)(1), not all notes, debentures, bonds are securities Reves (just like not all stock is)
a. 99% of the time debentures & bonds are securities. But notes are not always securities
b. Reves: 2 types of notes: commercial not

Commercial Notes:

Debt for the purpose of services short term assets (see above). Notes of a very short duration, under a year, 30/90d: notes which businesses use to finance short term assets, generally accounts receivable and inventory are not securities
1. Are Not Securi

Investment Notes:

all notes that are not commercial notes. Are Securities

Use the Reves Family Resemblance Test: (factors) - in class said not to worry about

i. Motivation of Parties
1. If commercial finance agreement: Commercial
2. If investment arrangement: Investment
ii. Meant to be Traded/Plan of Distribution?
1. If cannot be traded: Commercial
2. If can be traded: Investment
iii. Reasonable Expectations o

Securitization:

turning assets into securities - because meets the "efforts of others" prong.
1. Scotch hypo: takes 12 years to ferment so people invest in a scotch trust where it matures after 12 years and get paid. This is turning scotch into a security.
2. 2008 meltdo

The Securities Act of 1933
I. Introduction to the Act
A. Historical Context

i. Ma & Pa America lost all their money in the Crash of 1929 and were afraid to make any more investments. Consumers had lost all trust in the markets because of the "wild west" behaviors of corporations in the 1920s - mostly in the form of scams. This br

Types of Offerings:

i. Primary Offerings: every time an issuer issues securities it's a primary offering - offering by the issuer itself.
1. Initial Public Offering: The first time the security is offered on an exchange.
2. Any offering after the IPO done by the issuer is st

The 33 Act is all about Disclosure:

i. '33 Act is all about Section 5. Everything else is commentary.
1. � 5(c): "It shall be unlawful for any person . . . to offer to sell or offer to buy through the use or medium of any prospectus or otherwise any security, unless a registration statement

The Registration Statement

i. The "Registration Statement" is a disclosure statement. Nothing gets registered; there is no registry!
1. The words "to register" does not appear in the '33 Act.
ii. The Registration Statement is made up of two parts:
1. The Prospectus: A sales brochur

How to file the registration statement:

1. The SEC asks questions to issuers to fill out in prose. It is not a fill-in-the-blank form. It's a narrative.
a. The Forms:
i. S-1: Default form
1. A series of questions that issuer must respond to in prose. Must disclose everything investor needs to k

Jumping the Gun:

1. The timeline of issuing a security:
a. Senior Management decides to issue securities. This initiates the Pre-Filing Period. �5(c) refers to this
i. Counsel and Accountants begin preparing the forms for filing with the SEC.
b. The S-1 is filed with the

It is unlawful to go around promoting the company conditioning the market to buy the stock during the Pre-Filing Period.
i. Some securities lawyers call this period the quiet period.

1. Jalil: That's wrong, the SEC never requires you to be quiet. Instead, you must be consistent ("The Consistent Period"). Otherwise, the SEC will view it as a disguised offer (a violation of 5(c)).
I. If you normally put out press releases about products

Rule 135: Notice of Proposed Registered Offerings

1. Intended to make it easier for issuers to comply with the requirements of � 5(c)
2. If issuer says certain things, and only certain things (see below), those things will be deemed not to be an offer.
I. Can disclose its intent to make a public offering

Notice Must Contain:

I. Legend: The notice includes a statement to the effect that it does not constitute an offer of any securities for sale; and
II. Limited Content: No more than the following information:
I. Issuer's name; title, amount, and basic terms of securities offer

Materiality
i. Truth v. Misleading

a. The prospectus does not need be true; the SEC standard requires that the Prospectus is not materially misleading.
i. Example: A phone manufacturer in the 1970s wanted to include a statement by the UN that China would need $20B in new phones in the next

Materiality Standard

1. A fact is material if there is a substantial likelihood that a reasonable investor would consider it important in deciding whether to invest. See TSC Industries, Inc. v. Northway, Inc., SCOTUS, 1976.
a. This is an objective standard (reasonable person

Buried Disclosure
1. A buried disclosure is no disclosure at all.

a. E.g., Cannot bury news that government cancelled contracts with issuer on p. 92 of the prospectus.
2. Must give prominence to the most material information
a. In both expression and position

Prospective/Speculative Information

1. Companies must include information about major and probable events in their prospectus.
2. Use the Probability/Magnitude Test:
a. Balances the probability of something happening with magnitude of its impact
i. On a scale of 1-100, what's the probabilit

Judicial Notice

1. There are some things that are so obvious that, even though they are material, they do not need to be disclosed.
a. Example: The prices of stocks can go down after the IPO.
i. This information does not need to be included in the prospectus.
2. Wieglos

Exempt Offerings

i. Not every offering from an issuer must go through the whole � 5 disclosure process.
1. � 3 - Exempted Securities
2. This includes some exempt transactions.
a. E.g., Could be common stock, but it's the way its sold that exempts it from � 5.

Intrastate Offering Exemption:

1. � 3(a)(11): "Any security which is a part of an issue offered and sold only to persons resident within a single State or Territory, where the issuer of such security is a person resident and doing business within or, if a corporation, incorporated by a

Dual Test:

a. Offerees must be residents and doing business of 1 state
b. Issuer must be domiciled within such state; and
c. Issuer must be doing business within such state.
i. These terms are defined in Rule 147.

Rule 147
a. In-State Issuer:

i. For purposes of � 3(a)(11), issuer shall be deemed to be a resident of a state if it is incorporated under the law of that state and has its principle place of business in the state.
ii. For purposes of � 3(a)(11), issuer shall be deemed to be doing bu

In-State Offerees:

i. Individual's in-state residence can be established by actual principal residence.
ii. Six Month Rule
1. Purchasers cannot sell the security out-of-state for six months.
I. Why? Example: Joe from Joe's Autobody has a friend in NJ. He wants to buy stock.

Rule 147A:

a. An issuer may do an intrastate offering in the state where it's incorporated OR where it has its principal place of business. The issuer may make offers out of state (i.e., through the internet), so long as all of the purchasers are residents of the sa

The Non-Public Offering Exemption

1. � 4(a)(2): The provisions of section 5 shall not apply to transactions by an issuer not involving any public offering.
a. From 1933 until 1953, the SEC took the position that this involved any offering to less than 35 people.
b. Seminal Case: SEC v. Ra

Three Requirements of � (4)(a)(2):

i. Financially sophisticated investors
1. Question of fact
2. What's your investing history?
3. Do you manage a portfolio?
4. Can you read a balance sheet? Income Statement?
ii. No general solicitation
1. Cannot have even one financially unsophisticated o

Information (Disclosure or Effective Access)

1. Financial sophistication is irrelevant if investors lack disclosures/access to information to which to apply their financial sophistication
2. Two ways to satisfy:
I. Disclosure through a Private Placement Memorandum (PPM)
I. Does not have to contain a

Regulation D

1. Regulations v. Rules: A regulation is a series of related rules.
2. � 3(b)(1): The SEC has authority to exempt any offering from � 5 so long as that offering does not exceed $5M.
a. Under this authority, the SEC promulgated Regulation D. This Regulatio

Regulation D is made up of 7 rules (505 was eliminated in October 2016):

a. Rule 501 - Definitions and Terms:
i. Accredited Investor:
1. Banks, insurance companies, registered broker/dealers, investment companies and mutual funds;
2. Certain pension funds;
3. A trust or partnership or company having at least $5,000,000 in asse

Rule 502 - General conditions.

These are general conditions applicable to Regulation D transactions as indicated in each Rule.
i. (a) Integration. This is a "safe harbor" that says that offerings made 6 months before or 6 months after the Regulation D offering will not be integrated. O

Five Tests for Integration (each test is non-dispositive):

I. Were the offerings part of a single plan of financing?
II. Were the offerings involving the same class of securities?
III. Were the sales made on or about the same time?
IV. Was the same type of consideration received?
V. Were the sales for the same pu

(b) Disclosure:

1. Whether or not disclosure is necessary is indicated in the Rule.
I. If disclosure is required, the following rules must be followed:
I. if the issuer is not a "reporting company" (a company that is not public) the issuer must give the investor the same

Rule 503 - Form D.

i. When a Regulation D offering or sale is made the issuer shall file a notice with the SEC no later than 15 days after the first sale.
1. The Form is 4 pages.

Rule 504 - Exemption from registration for offerings under $5,000,000.

i. Not available to issuers that are reporting companies (publicly traded companies) or investment companies (e.g., Fidelity)
ii. To qualify for 504, must meet the limitations of (a)(c), & (d) of the General Conditions (Rule 502), and the total offering p

Rule 506 - Exemption from registration for offers and sales without regard to the dollar amount of the offering.

i. "Offers/sales that meet requirements in (b) shall be deemed exempt under � 4(a)(2)."
ii. This is sometimes referred to as a PIPE (Public Investment in a Public Entity).
iii. 506(b).
1. Conditions:
I. Must comply with Rule 502 (including disclosure)
I.

506(c).

1. Provides issuers an alternative way to do Rule 506 offering
2. Issuer may generally solicit (using newspaper, internet advertising, billboards, etc.) so long as two requirements are met:
I. All purchasers are Accredited Investors
II. Issuer must take r

Rule 507 - Bad Boy/Girl Provision.

i. Certain issuers who have gotten in trouble with the SEC for failing to file a Form D may not use Rule 504 or Rule 506.

Rule 508 - Insignificant deviations from a term of Regulation D, not fatal.

i. This states that any insignificant or immaterial deviation from the strict compliance of Regulation D does not necessarily mean Regulation D is still not available for a given offering.
ii. SEC wants investors to use Reg D enforces leniently

Crowdfunding ("Capital Raising Online While Deterring Fraud and Unethical Non-Disclosure")
1. Definition:

The collective effort of a large number of individuals who pool their resources to support a third party's effort to achieve a stated goal or to engage in defined activity.
a. The SEC had to amend � 4 to account for crowdfunding and to protect Ma & Pa Ame

� 3(b)(2) - Additional Issues Exemption

1. Conditions:
a. Aggregate offering amount does not exceed $5,000,000 in previous 12-month period
b. Securities may be offered and sold to the PUBLIC
c. Securities shall not be restricted securities
i. No resale restriction
d. Civil liability provision i

Regulation A (Sometimes Referred to as Regulation A+ or The Mini-Registration)

1. Adopted by SEC under its � 3(b)(2) power.
2. Not often used.
3. Creates a non-restricted security, see infra.

Regulation S - International Public Offerings

1. The '33 Act only applies to the sale or offer of securities in the United States.

To determine whether a sale or offer of securities occurred outside the U.S.:

a. Offshore Transaction (Foreign); and
i. Offshore Transactions occur where the buy order comes from outside the United States.
ii. If an offer is made by a foreign company to a group of American Citizens (service-persons, consulate workers) outside of th

There are no directed selling efforts in the United States.

i. This includes conditioning the United States market.
1. Including advertisements, in print, or on the internet.
ii. General Circulation: Any publication that is either (1) printed primarily for distribution in US, OR (2) has 15,000 or more subscribers

Other Restrictions:
a. Initial investors must maintain ownership of the investment for a period of time depending on a classification.
i. Avoids sham transactions supra.

b. Tier One: Non US issuers of securities where there is no substantial U.S. market interest.
i. Least restrictive. Only need to satisfy offshore transaction and no directed selling efforts
c. Tier Two: Some U.S. market interest (e.g., Siemens).
i. Take r

Secondary Distributions
A. Introduction

i. Any time an issuer sells securities directly to Ma & Pa America, that is Primary Offering.
1. This includes IPOs.
ii. Any time an offering comes from a person who must concern himself with � 5 and is not an issuer, that is a Secondary Offering.
1. Thes

Who Counts as an Underwriter?

1. If purchased from an issuer with view to invest; not an underwriter.
a. Because there is no "view to distribution."
b. Rearview Mirror Test: The SEC looks back at what has/has not happened to determine whether a person is an underwriter
i. The test con

If purchased from an issuer with view to distribute to public; underwriter.

a. This includes distribution to one's neighbor (so long as they are an unsophisticated investor).

If purchased from a broker with view to distribute to public; not an underwriter.

a. Because the securities were not purchased from an issuer.
i. If you purchase from a broker, you're effectively purchasing from the "public"
ii. No such thing as "public-to-public" distribution.
4. Underwriter could be an affiliate, insider, or control

Who Counts as an Issuer?
1. � 2(a)(11) expands the definition of issuer to include affiliates, insiders, or Control Persons.

a. Control Person: Every director, officer, or controlling stockholder bright-line
i. For others, it is fact-specific.
ii. Some hedge funds, after purchasing a controlling amount of stock, send the Board a No Control Letter. These letters indicate that t

A control person cannot resell unless he complies with � 5 or has an exemption. See United States v. Wolfson ,2d Cir., 1968 [357]. Thus, all company stocks in the hands of a control person are Restricted Securities, even if the stock has been held for lon

a. E.g., If Bill Gates wants to sell Microsoft stock that he purchased through valid � 5 offering, he must have Microsoft file a registration statement just for his sale or use exemption. This is because only the issuer files a registration statement.
i.

In an exempted transaction (e.g., � 4(a)(2), Rule 504, Rule 506, or Reg S), underwriters CANNOT resell to the public because the issuer has not complied with � 5 disclosure, so no disclosure of who the underwriters are.

I. Therefore, these securities are RESTRICTED and not freely alienable
II. To resell, the Underwriter must either:
I. Cause issuer to file registration statement under � 5 to disclose underwriter's secondary offering; or
II. Find another exemption under w

Determining if a stock is free trading:

1. How did the individual get the stock?
a. Exemption (e.g., under 506)? Needs to be registered unless it's been longer than a year.
2. When did they acquire it?
3. How long has it been consistently held?
a. If longer than a year, then it is free trading

Safe Harbors
i. Rule 144

1. This is the Reg. D of secondary offerings. Like Reg. D, Rule 144 does double duty.
a. Regulates the resale of two categories of securities:
i. Restricted Securities (see infra).
ii. Control Securities: Securities held by control person, regardless of h

Rules for Restricted Securities (Non-Affiliates):

a. Under the '34 Act, issuers whose securities are traded on national markets must make periodic filings with the SEC. These are Reporting Issuers
i. Reporting Issuers: Publicly traded companies.
1. Reporting Issuers need to be reporting company for at le

Holders of Restricted Securities who are Non-Control Persons:

i. No sale for the first 6 months.
ii. From 6 months to 12 months, can only sell if the issuer is current on all '34 reports (supra).
iii. After one year, all restrictions fall away.
c. Holders of Restricted Securities in Non-Reporting Companies
i. Can't

Rules for Restricted Securities (Affiliates):

a. Control Persons:
i. If control person bought shares through:
ii. Rule 506: Restricted Security
1. Cannot sell for 6 months;
iii. Open Market: restricted security
1. No hold period;
b. Company must be current in their '34 filings;
c. Volume Limitation:

Rules for Non-Reporting Issuers (Affiliates):

a. Rule 15c 2-11: Allows non-reporting company to sell if the company makes a voluntary disclosure. Once this disclosure is made, affiliates may sell their restricted securities if:
i. The company is current in their filings;
ii. The restricted securities

Rule 144A
1. Completely unrelated to Rule 144.

2. Allows institutional investors (Qualified Institutional Buyers, "QIBs") to sell securities to other QIBs without being considered underwriters.
a. But, the securities they trade cannot be traded on the exchanges, e.g., common stock.
i. See � 144A(b), (

For Value Transactions
A. Origin:

i. Pursuant to � 5 of the '33 Act, it shall be unlawful for any person . . . to offer to sell or offer to buy through the use or medium of any prospectus or otherwise any security

What is a Sale?

i. Any disposition of securities for value.
1. Value is established whenever the company receives a benefit.
a. Example: A company wanted to go public without disclosure, so they issued 1B of their 10B shares for free on the internet. They then filed a di

Spinoffs & For Value Transactions

i. Spinoff: When a company "spins off" one of its businesses to became an independent company.
1. Example: Acme has a bunch of assets, including holdings in Pet Food companies. Acme wants to dispose of this asset from its holding pool. It creates a subsid

Exchange Offers & For Value Transaction

i. � 3(a)(9): Allows an issuer to exchange one security for another without � 5 disclosure. This exemption is included in the Act.
1. Example: a company wants to exchange a $10M debenture with an 8% yield for $100 shares of common stock. This is how compa

Potential for Integration

a. Issuer must be careful that integration does not blow prong one of the exemption (that the requirement that exchange is exclusively with existing security holders).
i. E.g., If issuer offer equity in exchange for outstanding debentures and around the s

Exempt Securities
A. Introduction:

i. Section 3 of the '33 Act provides exemptions to the rules � 5 for certain types of securities or transactions.
1. Transaction Examples: � 3(a)(9), 3(a)(11).
B. Types:
i. Government Securities - � 3(a)(2)
1. Securities issued by the U.S. Government are

There are two types of debt issued by Governments:

a. General Obligation Bonds ("G.O. Bonds"):
i. Backed by the State/Municipality's full faith and credit power (taxing power).
1. Automatically exempt to � 5 rules.
b. Industrial Development Bond ("I.D. Bonds"):
i. Used to finance public housing, bridges,

Commercial Paper - � 3(a)(3)

1. Has nothing to do with Commercial Notes in Reeves. Instead, the exemption applies only to Commercial Paper.
a. Commercial Paper: An unsecured promissory note with a short-term fixed maturity date, usually less than 9 months.
i. Commercial paper is issu

Religious/Educational/Benevolent/Fraternal/Charitable Organizations - � 3(a)(4)

1. Example: The Catholic Church, Knights of Columbus, Rotary Club
a. These players can sell bonds and debentures without disclosure.

Savings and Loans Institution Securities - � 3(a)(5)

1. Securities issued by a savings and loan institution, building and loan association, cooperative bank, etc., supervised by a state of federal authority are exempt from � 5
a. Rationale: These are heavily regulated by banking authorities, so they are exe

Railroads - � 3(a)(6)

1. Railroad equipment and trust interest
a. Rationale: The largest lobby in the '30s were railroads.

Bankruptcy Trustees - � 3(a)(7)

1. Rationale: Bankruptcy Court is already regulated..

Insurance Policies - � 3(a)(8)

1. Insurance is already regulated.

Banks Securities - � 3(a)(12)

1. Banks are already regulated.

Religious Structures/Plans - � 3(a)(13)

1. Congress doesn't want to get involved with religious organizations.

Liability Under the '33 Act
A. Pre-33 Act

i. Prior to the 33 Act, Plaintiffs had to prove Common Law Fraud.
1. Elements of Fraud:
a. Misstatement
b. Scienter: The Defendant intended to defraud.
c. Privity: The statement was made to the plaintiff.
d. Reliance
e. Causation: The misstatement caused

Under the 33 Act
i. Section 11 - Civil Liabilities on Account of False Registration Statement:

1. The Statute:
a. "In case any part of the registration statement, when such part became effective, contained an untrue statement [misleading] of a material fact or omitted to state a material fact required to be stated therein or necessary to make the s

Persons Who May Be Sued:

a. Every Person who signed the Registration Statement
i. This includes the Issuer themselves, the CEO (personally), CFO (personally), Chief Accounting Officer, Directors.
1. Issuer cannot indemnify directors and officers for liability under � 11(a)
I. But

Defense:
a. The Due Diligence Defense:

i. No Liability if the Defendant, other than the Issuer, can prove that he has conducted a reasonable investigation, had reasonable grounds to believe, and did believe that at the time the misstatements or omissions became effective, the prospectus was no

What constitutes a Reasonable Investigation?
1. It depends. See � 11(c).

I. Experts:
I. Bright Line Rule
II. Held to the Industry Standard, even if the expert turned out to be wrong.
III. Example: If industry requires petrochemical geologist to check sonar at every 8 feet, but the expert checked only at every 100 feet, then no

Two-Step Process:

1. Must investigate; and
I. Often, each person keeps copious notes of what research and investigation they did regarding the accuracy of the prospectus.
2. Have no reason to doubt the accuracy of the registration statement.

Damages - � 11(e)

a. "May seek damages that represent difference between the amount paid for the security, not exceeding the amount at the time the security was offered; and:
i. Value at the time the suit was brought; or
1. Value is not necessarily price. Gives plaintiff c

Privity
a. Must have Daisy Chain Privity.

i. If you can positively prove (e.g., forensic analysis) that the shares you own are exactly the same shares that A bought from the issuer/underwriter, then you may sue.
1. In an IPO, this is easy; there are no other shares on the market.
I. Example: If X

Joint & Several Liability - � 11(f)

a. Each defendant is 100% responsible for the entire judgment amount
i. Exception: Outside Directors
1. Outside Directors have proportional liability. Why? SEC encourages outside directors.
b. Each defendant may attempt to recover contribution from other

Section 12 - Civil Liabilities in Connection with Prospectus and Communications

1. Any person who offers or sells a security in violation of � 5 shall be liable for rescission to the buyer. See � 12(a)1-2.
a. Rescission: The Buyer is entitled to the amount paid for the security.
2. In any � 12 action, if the Defendant believed the in

Blown Exemption Example:

a. Intrastate offering where buyer sells too soon. Issuer didn't do anything wrong�the buyer blew it. Plaintiff could still get rescission under � 12.
4. Negative Causation: If the Defendant can prove that the stock price went down for reasons other than

Seminal Case: Gustafson v. Alloyd Co., SCOTUS, 1995:

a. The term "prospectus" in � 12(a)(2) applies only to � 5 offerings, rather than any written communication or private agreement as � 2(a)(10) clearly defines
i. Limited � 12's applicability to � 5 offerings, so that '33 Act contains two successive sectio

Congress attempted to fix the decision of Gustafson, through amendment of � 3(b)(2):

a. � 3(b)(2) says "civil liability provision in � 12(a)(2) shall apply to sales under � 3 - Exempted Securities.

Section 17: Fraudulent Interstate Transactions

1. The Statute:
a. "It shall be unlawful for any person in the offer or sale of any securities to employ any device, scheme, or artifice to defraud; to obtain money or property by means of any untrue statement of material fact; or to engage in any transac

The Securities Exchange Act of 1934:

I. Introduction to the Act
A. Background
i. The '34 Act is a regulatory statute; the '33 Act is a consumer protection statute.
1. Section 2: Transactions in securities commonly conducted in securities exchanges and over-the-counter markets are affected wi

Other Sections of the Act

i. Section 7 - Margin Requirements
1. The only section of the '34 Act that is not regulated by the SEC; instead this section is regulated by the Federal Reserve.
2. What is Margin?
a. Margin: Amount borrowed.

Buying on Margin (aka Leveraged Buying):

borrowing money from a broker to finance a purchase of securities.
i. Brokers do this to get increased sales commissions
ii. Investors do this to make more profit on volume.
1. Example: Investor buys puts $10 of his own money and borrows $90 from a broker

Right now, the maximum margin percentage is 50%

a. Margin Percentage: The maximum amount that a brokerage can lend to an investor.
i. In the example above, the investor's margin percentage was 90%.
ii. This number is set by the Federal Reserve.
b. Provides sufficient cushion so that if stock starts to

Short-Selling:

a. Borrowing stock from someone who owns it and then selling it; betting on a decrease in price
i. Ex: I borrow 100 shares and sell at $10/share. Stock drops to $8/share. Now, when you give the value of the stocks back to the lender, you only owe them $80

Section 9 - Prohibition on Manipulation of Security Prices

1. � 9(a): It shall be unlawful to create false appearance of active trading in a security.
a. Every transaction must be a bona fide arm's length transaction
i. No Pump-and-Dumps
1. Pump & Dump: Two buyers coordinate the buying and selling of shares to ar

Section 12 - Registration Requirements for Securities (Reporting Companies)

1. 12(a): It is unlawful for any broker, dealer, or exchange member to effect transactions on a national securities exchange in a class of securities that are not registered
i. An issuer who wishes to create an aftermarket for its securities must register

Who is required to register? / Who is a Reporting Company?

a. Either:
i. Any company whose stock is traded on a stock exchange; OR
ii. � 12(g): Any issuer with
1. 2,000 or more shareholders (or more than 500 non-accredited investors); and
2. $10,000,000 or more in assets s
a. If these conditions are met, then the

How do you register?

a. If issuer is doing a � 5 offering and files an S-1, that S-1 can serve as registration under � 12
b. If not, the issuer must use Form 10k.

Section 13 - Requirements for Reporting Companies (Periodical and Other Reports)

1. � 13(a): Every issuer with a class of securities registered under � 12 shall file periodic reports with the SEC
a. These reports provide public disclosure
i. Securities Laws all about disclosure.

The Forms:

a. Form 10-K: Annual report (looks a lot like S-1)
i. Very detailed
ii. Requires audited financials
b. Form 10-Q: Quarterly report
i. Does not require audited financials
c. Form 8-K: Monthly report
i. Usually short; for material events

� 13(d): Every person who acquires 5% or more of a class of securities registered under � 12 must, within 10 days, file a Schedule 13D with the SEC
a. Investor must disclose:

i. His background, identity, residence, and citizenship
ii. Where he got the money to purchase
iii. The investor's intentions
1. Seeking a board seat? Seeking control?
b. Purpose: American people have a right to know who owns the industrial base.
4. Note:

Section 14 - Proxies and Tender Offers

1. � 14(a): Any proxy solicited with regard to a security registered under � 12 must comply with proxy rules, these rules include supplying a proxy statement and disclosure.
a. Proxy: Agent legally authorized to act on behalf of another party without disc

Section 15

1. � 15(d): Any issuer who discloses under � 5 of the '33 Act, but does not trade on the exchange, they must continue to file disclosures for one year. Once that year is over, they can go "dark."
a. This applies even if the stock is not traded anywhere an

Section 16 - Directors, Officers, and Principal Stockholders
1. � 16(a) - Sarbanes-Oxley Act

a. Every officer, director, or 10% or more shareholder who owns securities in a class of securities registered under � 12 must file electronically with SEC within 48 hours every time the director, officer, or shareholder buys or sells a single security of

� 16(b) - Short-Swing Profit Rule

a. Any officer, director, or 10% or more shareholder who buys and sells or sells and buys a security of a class of securities registered under � 12 within 6 months, and makes a profit, must surrender that profit to the company
i. If the company doesn't co

Liability Under the Act
A. SEC Rule 10b-5

i. Section 10(b) of the '34 Act makes it illegal to violate the Rule set forth by the SEC.
1. The SEC adopted Rule 10b-5.
ii. The Rule:
1. It shall be unlawful for any person:
a. to employ any device, scheme, or artifice to defraud;
b. to make any untrue

SEC v. Texas Gulf Sulfur, 2d. Cir., 1968:

Mining company mined industrial minerals. Stock was trading at $10. Rumor began circulating that company found major deposit of industrial minerals in Northern Canada and the stock climbed. Over the weekend, the President of the company put out press rele

10b-5 v. Common Law Fraud v. � 11 Chart

Common Law � 12 � 11 Rule 10b-5
Misstatement X X X X
Privity X X X -
Scienter X - - X
Reliance X - - X
Causation X - - X
Damages X X X X

Scienter Under 10b-5

1. Need intent to defraud in connection with a security.
a. Negligence is not enough, but recklessness is an option.

Reliance Under 10b-5

1. Can use the Fraud on the Market theory.
a. Fraud on the Market Theory: Presumes reliance because all buyers and sellers rely on the market, and any misstatement is factored into the price.
2. But defendant can use negative causation to rebut Fraud on t

Private Securities Litigation Reform Act of 1995 ("PSLRA")

1. Congress thought plaintiffs' bar was abusing Rule 10b-5.
a. Adopted PSLRA to cut back on securities fraud cases
2. Requirements:
a. Plaintiffs must plead with specificity exactly which statements were misleading; and
b. Plaintiffs must show that the Mi

Whom can you sue?

1. Primary violators and secondary violators;
a. Primary violator: "the bank robber" - intended to rob a bank
b. Secondary violator: "the getaway driver" - intended to assist in the robbery
2. Not aiders and abettors. "the shmoe who held the door open for

Insider Trading aka Trading on Non-Public Information

i. Insider trading is not a statutory crime. Instead, it is a judicially-created doctrine based on SEC Rule 10b-5. The SEC just made it up.
1. Still needs to show of materiality, scienter, reliance, causation, and damages.

Seminal Case:

Chiarella v. United States, SCOUTS, 1980: The Government charged Chiarella with insider trading and securities fraud for trading on non-public information. Chiarella, a printer, had access to merger documents and bought stock in the target corporation bef

The But-For/On the Basis of Test

1. If the fiduciary can prove that he would have traded anyway, and that the trade was not on the basis of the material nonpublic information, there is no breach of fiduciary duty. See SEC v. Adler, 11th Cir., 1998.
a. Adler said he was going to buy a tru

Rule 10b-5(1)

1. As a result of the Adler decision, the SEC adopted Rule 10b-5(1).
a. Under the Rule, the SEC will assume that an insider's trade was on the basis of material nonpublic information unless, before learning of the material nonpublic information, the insid

The Misappropriation Theory

1. "The duty of trust and confidence"
a. A person commits fraud "in connection with" a securities transaction, and thereby violates �10(b) and Rule 10b-5, when he misappropriates confidential information for securities trading purposes in breach of a duty

Rule 10b-5(2)

1. After Carpenter & O'Hagan, the SEC adopted Rule 10b-5(2). The Rule lays out 3 scenarios where trading on material, nonpublic information would constitute breach of a duty of trust and confidence under the misappropriation theory:
a. Whenever a person a

Tippee & Tipper Liability.

1. The most common form of insider trading is not where the insider themselves trades on information, but instead tells someone else this information who then trades on this information.
a. Tipper: the person who gives the information
b. Tippee: the perso

Remote Tippees

a. When the information moves from tipper to tippee to tippee(A) to tippee(B) to tippee(C), etc., the tippee may not trade if he knows (1) the source of the information and (2) that there was breach of the tipper's fiduciary duty.
b. Anyone in the line of

Regulation FD

1. Dirks left us in a bit of a quandary�SEC has always encouraged communications between issuers and shareholders. But how do you ensure that the communication is fair?
2. SEC issued Reg FD. The Regulation targets practice of selective disclosure by estab

The Regulation says:

a. Whenever an issuer discloses any material nonpublic information to a brokerage firm, investment analyst, investment company, large stockholder, etc., the issuer shall:
i. In the case of intentional disclosure, make simultaneous public disclosure
1. Exa

Rule 14e-3 - Special Rule Regarding Tender Offers

1. Any person who receives material nonpublic information about a tender offer cannot trade on it.
a. Doesn't matter whether the information was overheard on a plane or if it was found by a stranger on a train. This a direct bar to trading.
2. This is sec

Questions to Ask When A Client Needs Advice About a Trade:

1. Is the information material?
2. Are you a fiduciary/ What is your position?
3. If yes, do you have a trading plan?
4. Is this sale/purchase being made pursuant to that plan?
5. Did you receive the information in a relationship of confidence?
6. Were yo

Enforcement of the Act
A. Jurisdiction

i. The SEC does not have jurisdiction to criminally prosecute, even though the federal securities laws are criminal statutes. Only the Department of Justice can bring criminal actions on the US's behalf
1. Instead, the SEC must recommend to DOJ Criminal D

The Informal Investigation

i. Once SEC staff believes a potential violation of federal securities laws, it conducts an informal investigation
1. Staff makes general inquiries and request documents, testimony, communications
a. E.g., they send out questionnaires
2. SEC does not have

The Formal Investigation

i. Once a formal investigation has begun, the SEC obtains the subpoena power.

Formal Action

i. At conclusion of Formal Investigation, Staff may determine that no more action is necessary or that a civil and/or criminal action should be initiated
1. Staff must recommend to the Commission to initiate an enforcement action; cannot do this alone
ii.

Ethical Obligations of Lawyers

i. SEC v. National Student Marketing, D.D.C., 1978
1. Facts: Acquiring company was to acquire NSM. At closing, accountant would not give acquiring company a cold comfort letter (a letter affirming that the accounting firm has no reason to believe that the

SEC Rule 205

1. Mandated by The Sarbanes-Oxley Act of 2002, � 307
a. Congressional reaction to the Enron scandal, whose counsel did not question Enron's practice of setting up unusually high number of offshore subsidiaries (as tax havens) that turned out to be hiding

Reporting Up - Mandatory Action:

a. "If an attorney becomes aware of evidence of a material violation by the issuer or by any officer, director, employee, or agent of the issuer, the attorney shall report such evidence to the Chief Legal Officer"
b. Chief Legal Officer shall cause inquir

Reporting Out - Discretionary Action:

a. An attorney practicing securities law may reveal to the SEC, without client's consent, confidential information attorney reasonably believes necessary: (i) to prevent client from committing material violation; (ii) to prevent client from committing per

Junior Associates are not immune

a. "A subordinate attorney shall comply with this part notwithstanding that subordinate attorney acted at the direction of or under the supervision of another person.

Other Regulations
I. Sarbanes Oxley Act of 2002
A. History

i. Congress passed the act in reaction to the perceived abuse by WorldCom and Enron in the early 2000s.
1. Passed the Senate 99-0; one senator didn't show up to the vote.
ii. The Act attempted to solve the problem of the failure of lawyers (supra) and acc

The Public Company Accounting Oversight Board ("PCAOB")

i. Established by the Act, the Board oversees and licenses accountants who audit public companies (reporting companies). The Act also establishes auditing standards, ethics standards, and other quality control standards.
1. The Act requires a second partn

Auditor Independence center of the legislation

i. Any firm that is doing the annual audit work for a company can only do an independent audit
1. Cannot do any other consulting work for the company (i.e., no bundling of accounting and consulting services).
ii. Management cannot hire, fire, or set the c

Management Requirements

i. Requires every CEO and CFO to personally certify, under criminal sanctions, that (1) they reviewed and read every SEC filing; (2) that based off their knowledge of the facts, they have to certify that the report does not contain any untrue statements o

Other Assorted Requirements
i. Prohibition of Loans to Corporate Officers:

Reporting companies cannot make loans to Corporate Officers.
1. Loans to buy stock manipulation of stocks/earnings to ensure that price increases

Mandatory Disgorgement of Ill-Gotten Funds:

CEOs and CFOs who make bonuses by misleading the public must disgorge ill-gotten funds within 12 months.
1. This includes bonuses awarded from [fraudulently] meeting company budget goals.

Mandatory Adoption of a Code of Ethics:

This code is reviewable by the SEC

Mandatory Reporting of all Material "Off-Balance Sheet Transactions":

Reporting Companies must report all material off-balance sheet transactions, even if not required under GAAP.

Reporting Companies Must Disclose Material Developments on a Real-Time Basis:

Cannot wait until upcoming 10-K, 10-Q, or monthly 8-A.
1. Makes additional 8-K press releases a reporting requirement

Analyst Requirements

i. Analyst: An expert on a given industry or company
1. People really listen to analysts; CEOs and CFOs take their calls
2. Companies used to tie business opportunities to favorable analyst reports
ii. Analysts who Write Analyst Reports Must be Free from

Establishment of Securities Fraud Crime

i. 20 Year Sentence for violation of Securities laws (each count)
ii. $1M fine.

Statute of Limitations

i. Statute of Limitations for '34 Act is 2/5:
1. 2 years from personal discovery of '34 Act violation, and in any event, 5 years from occurrence of '34 Act violation.

Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010

A. History
i. Following the 2008 Financial Crisis, Congress passed Dodd-Frank to prevent another near-collapse.

Financial Stability Oversight Council ("FSOC")

i. The FSOC serves as an oversight over all financial regulatory agencies:
1. Chaired by the Secretary of the Treasury.
2. Voting members are heads of Treasury, Federal Reserve, Office of Comptroller of Currency, Securities and Exchange Commission, Commod

Purpose:

1. To identify risks regarding interconnectivity of the financial system.
a. Examples of Interconnectivity:
i. Rise in interstate banking (used to be local)
ii. Repeal of Glass-Steagall (combination of banks & securities firms)
2. To respond to emerging t

The Volcker Rule

i. Named after Paul Volcker, former head of the Federal Reserve Board ('79-'87)

Prohibitions:

1. Prohibits commercial banking entities from trading securities with depositors' money
2. Prohibits commercial banking entities from engaging in proprietary trading
3. Prohibits commercial banking entities from acquiring interests in hedge funds

Problem addressed:

1. Diverting dollars that can be used for loans and mortgages that would benefit the economy is a problem
a. Secondary market trading does not really help the economy
2. The commercial bank world should not be connected with the investment/securities worl

Troubled Asset Relief Program (TARP)

i. Saved AIG, which had sold credit protection to institutional investors, from worthless mortgage-backed securities on investors' balance sheets
1. If there are no willing buyers, the asset value is zero!
ii. TARP was basically the federal government ste

The Investment Company Act of 1940 (The '40 Act)
A. Background

i. The 1929 Crash was caused, in part, by Investment Pools.
1. After the 1930s, they "rebranded" as Mutual Funds.
i. Mutual Fund: professionally managed investment fund that pools money from many investors to purchase securities; e.g., Fidelity, Vanguard,

Regulation of "Investment Companies"
i. What is an Investment Company?

1. � 3(a)(1): Any issuer which:
a. (A) is or holds itself out as being engaged primarily . . . in the business of investing, reinvesting, or trading in securities or
i. Subjective Test
1. "Holds itself out": Advertises as an Investment company.
b. (B) is

Exemptions:
1. Objective Test Exemptions

a. Operating Company Exemption
i. If you really, really, really are an operating company (not some sham)
b. Holding Company Exemption
i. Any issuer primarily engaged directly or through a wholly-owned subsidiary or subsidiaries, in a business other than t

Other Exemptions

a. The De Minimis Exemption - � 3(c)(1)
i. Any issuer: (1) whose outstanding securities are owned by 100 persons or less and (2) is not making or does not make a public offering of its securities is not an Investment Company
1. Designed by Congress to pre

Qualified Purchaser Exemption - � 3(c)(7)

i. Any issuer, (1) the outstanding securities of which are owned exclusively by persons who, at the time of acquisition, were "Qualified Purchasers,"("QP"s) and (2) which does not make a public offering, is not an Investment Company
1. Qualified Purchaser

Regulation of Investment Companies

i. � 7 of the Act requires Investment Companies to register with the SEC
1. Need $100,000 in capital on Day 1 before you can even apply.
a. Note: This # hasn't changed since 1940.
2. The rules of registration are laid out in � 8.
a. Forward-Looking Statem

Types of Investment Companies

i. Unit Investment Trusts ("UIT"):
1. A trust with a trustee (sponsor) who manages a Static Portfolio.
a. Static Portfolio: The prospectus tells the public exactly what securities in which the trust invests in and the trust may not deviate from those secu

Open End Management Companies

1. A plain "vanilla" Mutual Fund.
a. The Fund manages its assets and is free to trade at any time�The Fund manages the portfolio on a real-time basis.
2. Like UITs, Management Companies must allow investors to redeem at any time. But this forces the Fund

Close End Management Companies

1. Manages portfolio on a real time basis, but may not issue redeemable securities.
a. This allows the Fund to take longer-term positions.
b. Investors can "get out" of a close-end fund by simply selling in the after-market for close end funds.
i. Prices

How Investment Companies Work & Their Regulation under The Act

i. The Investment Company is a publicly traded company.
ii. The Company sets up different funds (e.g., energy, bio-chem, healthcare, long-term cap, etc.).
1. Each fund has its own � 5 Prospectus.
2. The funds are legal fictions
a. They each have a Board a

Registered Investment Companies cannot sell short. See � 12.

1. Cf. Hedge funds.

Registered Investment Companies cannot buy on margin. See � 12.

1. Pre-1929, investment pools were leveraged up to 90%. This caused issues when lenders issued margin calls because investment pools would have to liquidate their positions, putting downward pressure on the market, leading to even more margin calls.
2. Cf

The Investment Advisers Act of 1940 - The Advisers Act

A. Who is an Adviser?
i. � 2(a)(11): Anyone who gets paid to give advice, directly or through publications, on investing in or purchasing securities, or who gets paid to issue analyses on securities
1. Exceptions:
a. Banks
b. Lawyers, Accountants, Enginee

Regulation of Advisers

i. Advisers must register with the SEC as a registered Adviser. (Fill in ADV form) See � 203(a).
1. Upon registration the Adviser becomes a Registered Investment Advisor ("RIA").
a. RIAs cannot charge performance fees (generally speaking, see Dodd-Frank r

Qualified Client/Private Client

a. Someone who has a net worth of $2.1M (exclusive of primary residence), or
b. Someone who is investing $1,000,000 with the RIA or the Fund
i. In HF world, it basically guaranteed that all NEW investors must be qualified clients so that under 3(c)(1) the

Self-Dealing Protections

1. RIAs cannot buy or sell from clients
2. RIAs cannot give advice that solely benefits the RIA
3. RIA must provide full disclosure of their holdings
4. The Advisers Act includes language resembling 10b-5 (to target fraud)
5. All investment contracts must

State Blue Sky Regulations
A. Background

i. Every state has its own securities laws.
ii. The term "blue sky" stems from a Kansas case; the Judge said "securities were backed by nothing more tangible than the clear, blue sky"
iii. Prior to NSMIA, to do a � 5 public offering, you'd have to comply

Merit Review:

i. SEC lacks this authority.
1. Only authority SEC has is to require a complete and full disclosure (good, bad and ugly)
2. SEC has no authority to block a registration statement
ii. But if a state does not like a security, it can decline to allow the com

National Securities Markets Improvements Act of 1996 (NSMIA)

i. Created new definition called "Covered Securities"
1. Covered Securities: Securities whose Federal Regulation preempts state securities laws.
a. Securities listed on NYSE, NASDAQ, or other national exchange
b. Securities issued by Registered Investment