2. What is meant by the term securities? What is meant by the term securities? What are the two major statutes regulating the securities industry? What are the two major statutes regulating the securities industry? What is insider trading? Why is it prohibited? What is insider trading? Why is it prohibited? What are some of the features of state securities laws?  What are some of the features of state securities laws?  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 2

3. What certification requirements does the Sarbanes-Oxley Act impose on corporate executives? What certification requirements does the Sarbanes-Oxley Act impose on corporate executives? © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 3

4. Federal securities laws are designed to protect investors from deceptive, unfair and manipulative practices when buying or selling securities. Federal securities laws are designed to protect investors from deceptive, unfair and manipulative practices when buying or selling securities. Securities are instruments such as corporate stock or limited partnership interests that evidence ownership or debt. Securities are instruments such as corporate stock or limited partnership interests that evidence ownership or debt. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 4

5. Securities Act of 1933 regulates solicitation, buying and selling of securities: stocks and bonds. Securities Act of 1933 regulates solicitation, buying and selling of securities: stocks and bonds. What is a Security?  What is a Security?  – 1. Instruments and interests commonly known as securities, such as preferred and common stocks, treasury stocks, bonds, debentures, and stock warrants. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 5

6. What is a Security? (cont’d). What is a Security? (cont’d). – 2. Any interests in commonly known as securities, such as stock options, puts, calls, or other types of privilege on a security or on the right to purchase a security or a group of securities in a national security exchange.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 6

7. What is a Security? (cont’d). What is a Security? (cont’d). – 3. Notes, instruments, or other evidence of indebtedness, including certificates of interest in a profit- sharing agreement and certificates of deposit. – 4. Any fractional undivided interest in oil, gas, or other mineral rights.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 7

8. What is a Security? (cont’d). What is a Security? (cont’d). – 5. Investment contracts, which include interests in limited partnerships and other investment schemes.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 8

9. What is a Security? (cont’d). What is a Security? (cont’d). – In SEC v. Howey (1946), the U.S. Supreme Court held that a security exists in any transaction in which a person: (1) invests (2) in a common enterprise (3) reasonably expecting profits (4) derived primarily from others’ managerial or entrepreneurial efforts. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 9

10. Registration Statement. Registration Statement. – Unless exempt, an offering must be registered before offered to the public. – Issuing corporation must file a registration statement and prospectus with the SEC. Prospectus is later distributed to investors. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 10

11. Registration Statement (cont’d). Registration Statement (cont’d). – Contents: 1. The securities being offered for sale, including their relationship to the registrant’s other capital securities. 2. The corporation’s properties and business (including a financial statement certified by an independent public accounting firm).  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 11

12. Registration Statement (continued). Registration Statement (continued). – Contents: 3. The management of the corporation, including all benefits, and any interests of directors or officers in any material transactions with the corporation must be disclosed. 4. How the corporation intends to use the proceeds of the sale. 5. Any pending lawsuits or special risk factors. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 12

13. Registration Statement (continued). Registration Statement (continued). – Registration Process. Waiting Period: securities can be offered but not sold. All issuers can distribute a red herring prospectus, advertise with a tombstone ad, and a free-writing prospectus. Posteffective Period: securities can now be sold. Registration Process Review. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 13

14. Registration Statement (cont’d). Registration Statement (cont’d). – Registration Process. Restrictions Relaxed for Well-Known Seasoned Issuers (WKSI). In 2005, SEC revised the registration process and created new categories of issuers based on size and market presence. WKSI’s have issued $1 billion in securities during last 3 years, or $700 million outstanding stock in public hands. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 14

15. Exempt Securities and Transactions. Exempt Securities and Transactions. – Regulation A Offerings. Up to $5 million in any twelve-month period is exempt from registration. Issuer must file a notice with SEC and offering circular. Companies can “test the waters” without actually selling an securities. Can sell online. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 15

16. Exempt Securities and Transactions. Exempt Securities and Transactions. – Regulation D Offerings. Rule 504: up to $1M during 12 months to accredited investors only. Rule 505: up to $5M during 12 months to both accredited and unaccredited investors. – Private Placement. Rule 506 unlimited if no general solicitation and notice to SEC. Max of 35 unaccredited investors. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 16

17. Exempt Securities and Transactions. Exempt Securities and Transactions. – Resales. Generally, most securities can be resold without registration. Rule 144: Rule 505 or 506 securities trigger registration requirements unless the sale complies with all of Rule 144’s conditions. Rule 144A: allows sale only to a qualified institutional buyer. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 17

18. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 18

19. Violations of the 1933 Act. Violations of the 1933 Act. – Intentional or negligent defrauding of investors by misrepresenting or omitting material information in the registration statement or prospectus. Criminal Penalties. Civil Sanctions. Defenses.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 19

20. Violations of the 1933 Act (cont’d). Violations of the 1933 Act (cont’d). – Defenses: Statement left out was not material; Plaintiff knew about fraud and purchased stock; Registrant believed statements were true. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 20

21. Provides for registration of securities exchanges, brokers, dealers, and national securities exchanges and associations. Provides for registration of securities exchanges, brokers, dealers, and national securities exchanges and associations. – Applies to companies with $10 million in assets and 500 or more shareholders.. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 21

22. Section 10(b), SEC Rule 10b-5, and Insider Trading. Section 10(b), SEC Rule 10b-5, and Insider Trading. – Section 10(b) prohibits use of any manipulative or deceptive device or contrivance in violation of SEC rules and regulations. – SEC Rule 10b(5) prohibits fraud in connection with the purchase or sale of any security.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 22

23. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Applicability of SEC Rule 10b(5). Virtually all cases concerning the trading of securities, whether on exchanges, OTC, or private.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 23

24. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Insider Trading. Goal of 10(b) and 10b-5 is to prevent purchase or sale of securities on basis of information that is not available to the public. Applies to corporate directors, officers, and others with “inside” information. Applies to anyone who has access to or receives nonpublic information. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 24

25. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Disclosure Under SEC Rule 10b-5: Any material omission or misrepresentation in connection with the sale or purchase of security may violate Section 10(b) or SEC Rule 10b-5. Examples of materials facts in disclosure: Fraudulent trading by broker.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 25

26. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Disclosure Under SEC Rule 10b-5: Dividend Change. Contract for sale of corporate assets. New discovery, process, or product. Significant change in firms financial condition. Potential litigation against the company.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 26

27. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Disclosure Under SEC Rule 10b-5: SEC v. Texas Gulf Sulphur Co. CASE 37.1 SEC v. Texas Gulf Sulphur Co. (1968). Who were the insiders in this case and what should they have done differently? © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 27

28. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Private Securities Litigation Reform Act: provides a “safe harbor” for publicly- held companies making forward- looking statements. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 28

29. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Outsiders and SEC Rule 10b-5. CASE 37.2 Stonebridge Investment Partners, LLC v. Scientific Atlanta, Inc. (2008). What element of the plaintiffs case was lacking? Tipper/Tippee Theory--insider’s fiduciary duty must be breached.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 29

30. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Outsiders and SEC Rule 10b-5. Misappropriation Theory -- one wrongfully obtains inside info and trades on it. Courts still require fiduciary duty be breached, e.g., to employer. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 30

31. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Insider Reporting and Trading – Section 16(b). Requires recapture of all short-swing profits by insiders (those owning 10% of equities) to corporation. Applies to stocks, warrants, options, and securities. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 31

32. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Regulation of Proxy Statements. Section 14(1) of the 1934 Act regulates the sale of proxies from shareholders of Section 12 companies. Remedies for violations include injunctions to damages. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 32

33. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Violations of the 1934 Act. Scienter or intent is required to prove civil or criminal penalties under 10(b) and Rule 10b-5. Violator must have had intent to defraud (false statements or wrongfully failed to disclose material facts).  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 33

34. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Violations of the 1934 Act (cont’d). Gebhart v. SEC CASE 37.3 Gebhart v. SEC (2010). What factors did the court analyze to determine if scienter was present? Criminal Penalties.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 34

35. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Violations of the 1934 Act (cont’d). Criminal Penalties. – 10(b) and Rule 10b-5, a person faces $5 million and 20 years in prison, $25 million for partnership or corporation. – Sarbanes-Oxley provides for 25 years in prison if willful.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 35

36. Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). Section 10(b), SEC Rule 10b-5, and Insider Trading (cont’d). – Violations of the 1934 Act (cont’d). Civil Sanctions. Both SEC and Private Parties Can Bring Actions Against Violators under the Insider Trading and Securities Fraud Enforcement Act. Private parties may bring action for violations of 10(b) and Rule 10b-5. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 36

37. State securities laws are called “blue sky” laws. State securities laws are called “blue sky” laws. Requirements: Issuers must comply with federal and state securities laws and states do not allow the same exemptions as federal government. Requirements: Issuers must comply with federal and state securities laws and states do not allow the same exemptions as federal government. Concurrent Regulation: Uniform Securities Act has been adopted in part by many states. Concurrent Regulation: Uniform Securities Act has been adopted in part by many states. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 37

38. Relationship between a corporation and its shareholders. Relationship between a corporation and its shareholders. Attempts at Alignment between Officers and Shareholders. Attempts at Alignment between Officers and Shareholders. – Stock Options? © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 38

39. Corporate Governance and Corporate Law. Corporate Governance and Corporate Law. – Board of Directors: responsible to ensure all corporate officers are operating in best interests of shareholders. – Compensation Committee: assess performance and design fair compensation systems. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 39

40. Corporate Governance and Corporate Law. Corporate Governance and Corporate Law. – Sarbanes-Oxley Act of 2002. Attempts to increase corporate accountability by imposing strict disclosure requirements and harsh penalties for securities violations.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 40

41. Corporate Governance and Corporate Law (cont’d). Corporate Governance and Corporate Law (cont’d). – Sarbanes-Oxley Act of 2002. More Internal Controls and Accountability: Direct federal corporate governance requirements. High-level managers must maintain internal controls and disclosures. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 41

42. Corporate Governance and Corporate Law (cont’d). Corporate Governance and Corporate Law (cont’d). – Sarbanes-Oxley Act of 2002 (cont’d). Certification and Monitoring Requirements. Section 906 of Sarb-Ox requires chief executive officers and chief financial officers certify that information in the corporate financial statements complies with Sarb-Ox.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 42

43. Corporate Governance and Corporate Law (cont’d). Corporate Governance and Corporate Law (cont’d). – Sarbanes-Oxley Act of 2002 (cont’d). Certification and Monitoring Requirements. Requires independent auditor report except for smaller companies of less than $75 million market capitalization (2010 exemption). © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 43

44. The SEC is aggressively prosecuting internet fraud using traditional laws. The SEC is aggressively prosecuting internet fraud using traditional laws. Investment Scams. Investment Scams. Online Investment Newsletters and Forums.  Online Investment Newsletters and Forums.  © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 44

45. Ponzi Schemes. (e.g., Bernard Madoff). Ponzi Schemes. (e.g., Bernard Madoff). – Offshore Fraud. – “Risk-Free” Fraud.  Hacking into Online Stock Accounts. Hacking into Online Stock Accounts. – Hackers leave software at public terminals that records keystrokes. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 45