U.S and Trans-Border Securities Regulation

U.S and Trans-Border 

Securities Regulation 

Boston University School of Law 

Executive LL.M. - International Business Law 

July/August 2013 

Michael Krebs 

JD, Boston University School of Law 1985 

Senior Partner, Nutter, McClennen & Fish, LLP, Boston, MA 

Tel. 617.439.2288 email: mkrebs@nutter.com 

(c) 2013 Michael K. Krebs 

All Rights Reserved

Course Objective 

General survey of primary U.S. securities laws and the domestic 

and trans-border business contexts in which they are relevant. 

Particular emphasis will be placed on 

Securities Act of 1933 (the “Securities Act”) 

Securities Exchange Act of 1934 (the “Exchange Act”), 

Role of the Securities Exchange Commission (the “SEC”), 

Impact of the Sarbanes-Oxley Act of 2002, 

Impact of 2010 Dodd-Frank Act 

Impact of 2012 JOBS Act 


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Executive LL.M. in International Business Law 

Session 1 – July 22, 2013 


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Session 1 Agenda 

Overarching concepts 

Securities Act overview 

Definition of a “security” 

Securities exempt from §5 

registration requirements 


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Overarching concepts 

1) “Issuer” or “Registrant” 

2) “Interstate commerce” 

3) “Materiality” 

4) “GAAP” (vs. “IFRS”) 


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“Issuer” and “Registrant” 

“Issuer” is the company or other 

entity that issues securities 

“Registrant” is an issuer that has 

filed a registration statement with 

the SEC (pronounced “S-É-C”) 


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Interstate Commerce 

Within U.S.? 

In offshore transactions? 

Reg. S 

F 3 or “F-cubed” 


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Interstate Commerce (cont’d) 

Underlying the Federal securities laws is the concept that the 

U.S. Congress may regulate securities matters only to the 

extent that they involve “interstate commerce.” 

For example, the registration requirement under Section 5 of 

the Securities Act is predicated on 

[making] use of any means or instruments of transportation or 

communication in interstate commerce or of the mails to sell 

such security . . . or [carrying or causing] to be carried through 

the mails or in interstate commerce, by any means or 

instruments of transportation, any such security for the 

purpose of sale or for delivery after sale. 


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Similarly, the anti-fraud provisions in Section 17 of 

the Securities Act and in Section 10(b) of the 

Exchange Act require an interstate commerce 

nexus. 

Liability under Section 10(b), for example, is 

predicated on the 

“use of any means or instrumentality of interstate 

commerce or of the mails, or of any facility of any 

national securities exchange. . . .” 


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Reg. S (Securities Act Rules 901-905) 

Rule 901: 

For the purposes only of section 5 of the Act , the 

terms offer, offer to sell, sell, sale, and offer to buy 

shall be deemed to include offers and sales that 

occur within the United States and shall be deemed 

not to include offers and sales that occur outside the 

United States. 


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Reg. S (Securities Act Rules 901-905) 

Rule 902(h): 

Definition of “offshore transaction” 


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F 3 or “F-cubed” 

Issuer is foreign 

Plaintiffs are foreign 

Fraudulent purchase or sale of securities 

occurred in foreign country 


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F3 or “F-cubed” (cont’d) 

In the 2010 Morrison v. National Australian Bank 

decision, the Supreme Court reasoned: 

It is a rare case of prohibited extraterritorial application 

that lacks all contact with United States territory. The 

Exchange Act’s focus is not on the place where the 

deception originated, but on purchases and sales of 

securities in the United States. Section 10(b) applies 

only to transactions in securities listed on domestic 

exchanges and domestic transactions in other 

securities” [emphasis added] 


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Materiality 

An omitted fact will be deemed material if the fact 

“would have assumed actual significance in the 

deliberations of the reasonable shareholder. Put 

another way, there must be a substantial likelihood 

that the disclosure of the omitted fact would have 

been viewed by the reasonable investor as having 

significantly altered the "total mix" of 

information made available.” 

TSC v. Northway (1976) 


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Materiality (cont’d) 

Basic v. Levinson (1988) 

Claim based upon misleading statement 

regarding ongoing merger discussions. 

Supreme Court adopts 

magnitude/probability test for materiality. 

Court endorsed “no comment” protocol. 


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Matrixx Initiatives v. Siracusano (2011) 

Matrixx, a drug company, argued that “adverse 

event reports that do not reveal a statistically 

significant increased risk of adverse events from 

product use are [never] material information.” 

The Supreme Court declined to adopt the 

categorical statistical significance test. 


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Matrixx Initiatives (2011) (cont’d) 

“The mere existence of reports of adverse events—which says 

nothing in and of itself about whether the drug is causing the 

adverse events—will not satisfy [the 10b-5 pleading standard]. 

Something more is needed, but that something more is not 

limited to statistical significance and can come from the 

source, content, and context of the reports. This contextual 

inquiry may reveal in some cases that reasonable investors 

would have viewed reports of adverse events as material 

even though the reports did not provide statistically 

significant evidence of a causal link” [emphasis added] 


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GAAP (vs. IFRS) 

GAAP – “Generally Accepted Accounting 

Principles” 

As interpreted by SEC and FASB 

(Financial Accounting Standards Board) 

Extremely important to issuer SEC filings 


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IFRS – “International Financial Reporting Standards” 

In 2008, SEC proposed a “roadmap” for the potential use in SEC 

filings of financial statements prepared in accordance IFRS. 

In 2010, SEC requested public comment on three specific topics 

related to its ongoing consideration of incorporating IFRS into 

financial reporting system for U.S. issuers known as 

“convergence”. 

November 2011 SEC released a staff study titled “A Comparison 

of U.S. GAAP and IFRS” 

July 13, 2012, the staff of the SEC's Office of the Chief 

Accountant published its final report (the “2013 Staff report") on 

its IFRS Work Plan. 


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IFRS – Continued 


The 2013 Staff report does not include a final policy decision, or 

even a recommendation, as to whether IFRS should be 

incorporated into the US financial reporting system, or how such 

incorporation should occur. 

The 2013 Staff report indicates that IFRS is generally perceived 

to be of high quality. However, it notes that there are areas where 

gaps remain, and inconsistencies exist in the application of IFRS 

globally. 

The Staff also believes that improvements can be made to the 

IFRS interpretative process and the enforcement and 

coordination activities of regulators across territories. 


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Securities Act Overview 

How would you describe the 

Securities Act to a foreign 

colleague who is unfamiliar with 

U.S. securities laws? 


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(cont’d) 

Core Principles: 

1. Each and every offer and sale of a 

security – whether by an issuer or by a 

previous purchaser of that security – must 

be registered with the SEC, unless either 

the security or the particular transaction 

(i.e., an “offer” and “sale”) specifically is 

exempt by statute or regulation from 

registration. 


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(cont’d) 


2. If a transaction is to be registered with the 

SEC, the issuer – and ONLY the issuer – 

must file the registration statement with the 

SEC. 


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(cont’d) 


3. If a transaction is registered with the SEC, 

the issuer has an affirmative obligation to 

disclose in the registration statement all 

information regarding the issuer and the 

security that is “material” to that investment 

decision. 


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(cont’d) 

More specifically: 

Securities Act primarily regulates 

“distributions” (i.e., public offerings) of 

securities by an “issuer” 

Also applies to offers and sales that are 

not public offerings 


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(cont’d) 

Establishes “prospectus” and “registration 

statement” as key disclosure documents 

Prospectus, which is a subpart of the registration 

statement, includes material information regarding 

Issuer's properties and business; 

Security offered for sale; 

Issuer’s management and principal shareholders; 

Issuer’s financial statements, as audited and 

“certified” by issuer’s independent accountants; and 

Material risks associated with issuer and security 


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(cont’d) 

Securities Act imposes accountability 

through administrative, civil and potentially 

criminal liability for: 

Failure to register sale of securities 

when required 

Materially false or misleading 

statements in a registration 

statement or prospectus 


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Key Provisions of the 

Securities Act of 1933 

Section 5 – Registration requirements 

Section 2 – Definition of “security” 

Section 3 – Securities exempt from Section 2 

definition 

Section 4 – Transactions exempt from Section 5 

registration 

Sections 11, 12, 17 and 24 – Civil/Criminal 

Liability 


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Section 5 

§5(c) It is unlawful … to offer to sell or 

offer to buy … any “security,” 

unless a registration statement has 

been filed as to such security. 

§5(a) It is unlawful to sell a “security,” 

unless a registration statement is 

“in effect” as to such security. 


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Section 2(a)(1) 

§2(a)(1) - "security" means any [promissory] 

note, stock… bond… evidence of 

indebtedness … investment contract… any 

put, call, … option, on any security… or, in 

general, any interest or instrument commonly 

known as a "security”… or warrant or right to 

subscribe to or purchase … any of the 

foregoing. 

(c) 2005-2010 Michael K. Krebs. All 

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Stocks 

Key Components of §2(a)(1) 

Promissory Notes/Bonds 

Options 

Index or Group of Securities 

“Investment Contracts” 


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Section 3(a) 

§3(a) contains a lengthy list of securities not 

covered by the definition in §2(a)(1) and 

therefore not covered by the provisions of the 

Securities Act (except the anti-fraud 

provisions of §17). 


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Section 4 

§4 exempts some transactions from the §5 

registration requirements, including: 

§4(a)(1) – Transactions by a person other than an Issuer, 

Underwriter, or Dealer. 

§4(a)(2) – Transactions by an issuer not involving a 

“public offering” – the so-called “private placement” 

exemption 

Portions of §3(a) also exempt certain transactions from the 

§5 registration requirements. See, e.g., §3(a)(9); §3(a)(10); 

§3(a)(11) 


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Civil and Criminal Liabilities 

§11 – Creates civil liability for false or misleading registration 

statements and provides for the award of damages 

§12 – Allows rescission of an offer or sale in violation of §5 or 

through the use of a materially false or misleading 

prospectus 

§17 – Makes it unlawful for any person to make fraudulent 

offer or sale of a security (applies even to exempt 

securities) 

§24 – Provides criminal fines and prison terms for securities 

law violations 


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What is a “Security”? 

Very broadly defined. Includes: 

Equity investments, such as common or preferred stock, 

issued by a business enterprise, whether organized as a 

corporation, limited liability company, or limited 

partnership (LLCs and LPs – but not corporations – 

analyzed under “investment contract” test) 

Often includes debt instruments, such as a bond or 

promissory note issued by a business enterprise or by a 

state, municipality or quasi-governmental entity, and 

Includes interests in a pool of stocks or bonds, such as 

shares of a mutual fund 


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Promissory Notes 

When is a promissory note not 

considered a security for purposes 

of the Securities Act? 


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Section 2(a) of the ’33 Act 

§2(a) – DEFINITIONS.—When used in this 

title [i.e., the Securities Act], unless 

the context otherwise requires— 

(1) The term "security" means any note… 


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Section 2(a)(1) defines a “security” to 

include “any note” 

Interpretative issue: 

Does “any” mean “every”? 


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Many extensions of credit do not have the 

typical attributes of an investment so . . . 

“the context otherwise requires” that 

some promissory notes not be treated as a 

security for purposes of the Securities Act. 


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“Unless the context otherwise 

requires…” 

Provides an important basis for judicial discretion 

concerning the proper scope of the securities laws: 

Is every promissory “note” really a security? 

What “profit sharing agreements” are securities? 

Are general partnership interests securities? Limited 

partnership interests? Limited liability companies? 

Should distinctions be drawn between the stock of 

publicly held and that of a closely held corporation 

(i.e., one the is not publicly traded)? 


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Reves v. Ernst & Young, 

494 U.S. 56 (1990) 

Supreme Court establishes the “family 

resemblance” test for determining whether or not a 

promissory note is a security. 

Every note is presumed to be a security, unless it 

falls into a category of instruments that are not 

securities. 

Notes used in consumer lending, notes secured by a 

mortgage on a home, and short-term notes secured 

by the assignment of accounts receivable are in the 

“family” of nonsecurities. 


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Loan Participation Interests 

Could a loan participation interest 

be considered a security for 

purposes of the Securities Act? 

[Consider Module 2 Discussion Question] 


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Promissory notes to several lender banks 

“It is well-settled that certificates 

evidencing loans by commercial banks to 

their customers for use in the customers' 

current operations are not securities.” 

Security Pacific Bank (2 nd Cir. 1992) 


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“However, . . . a [loan] participation might in 

some circumstances be considered a security even 

where the instrument itself is not . . . .” 

Who are the participants? 

What are the purposes of the purchasers or 

participants? 

What are the promotional bases used in 

marketing the loan notes? 


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“While banks are subjected to risks of 

misinformation, their ability to verify 

representations and take supervisory and 

corrective actions places them in a 

significantly different posture than the 

investors sought to be protected through the 

securities acts.” 

Western Bank & Trust v. Kotz, 532 F.2d 1252 

(9th Cir. 1976) quoted approvingly in Security 

Pacific Bank dissent. 


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“Potential purchasers were not presented 

with one loan and asked if they wanted to 

participate in it, but were solicited, often on 

a daily basis, and offered a range of 

investment options involving different 

issuers with different maturities and interest 

rates.” 

Security Pacific Bank dissent 


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Has any court adopted the arguments 

made in the Security Pacific Bank 

dissent? 


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Pollack v. Laidlaw Holdings, 27 F.3d 808 (2d Cir. 1994) 

The 2 nd Circuit reversed District’s Court’s dismissal, concluding that under the 

Reves factors the mortgage participations purchased and sold by Laidlaw 

Holdings were "securities" under federal securities law. 

In examining the Reves factors, the Court took particular interest in 

distinguishing BancoEspanol. The Laidlaw court found that the defendant was 

raising funds for its general business activities of making and servicing 

mortgages. The court also explained that the marketing scheme in 

BancoEspanol was more analogous to a group of highly sophisticated 

commercial entities engaging in short-term commercial financing arrangements 

than to the securities markets. In Laidlaw, by contrast, the trial court found that 

the purchasers of these mortgage instruments were unsophisticated, passive 

investors who had simply placed their money in discretionary accounts with 

instructions to make conservative investments. 


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In April 1997 the federal banking regulators issued an 

“Interagency Statement on Sales of 100% Loan 

Participations.” 

Citing Banco Espanol, the regulators emphasized that 

the court cautioned that the holding was specific to the 

facts of the case and that even if an underlying 

instrument is not a security, the manner in which 

participations in that instrument are used, pooled or 

marketed might establish that such participations are 

securities. 


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Investment Contracts 

What is an “investment contract” 

for purposes of the Securities Act? 


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Howey Test for Investment 

Contracts as a “Security” 

In Howey, the Supreme Court defined an 

“investment contract” as any transaction in 

which 

1) a person invests money, 

2) in a common enterprise, and 

3) is led to expect profits, 

4) solely from the efforts of others. 


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Howey Test – Up Close 

1. Investment: The investment, which can be cash or noncash 

consideration, is expected to produce income or profit; the investor is not 

buying a consumable commodity or service. 

2. Commonality: Multiple investors have interrelated interests in a 

common scheme – horizontal commonality. For some courts, it is 

sufficient to have vertical commonality – a single investor has a common 

interest with the manager of his investment. 

3. Profits: The expected return must come from earnings of the enterprise, 

not merely additional contributions, and this return must be the principal 

motivation for the investment. 

4. Efforts of others: Investor’s efforts in the common enterprise may 

contribute to profits, but the efforts of the managers must be predominant; 

the investors must be mostly passive. 


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Howey Test – Applied: 

SEC v. ETS Payphones et al. 

What did the 11 th Circuit rule and why? 

Do you agree with the decision? 


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SEC v. ETS Payphones et al. 

11 th Circuit ruled that contractual payphone 

arrangement was NOT a security, because: 

Howey test requires that an investment contract 

either provide for capital appreciation or a 

participation in earnings, and thus excludes 

schemes offering a fixed rate of return. 

Howey’s requirement that return on investment be 

"derived solely from the efforts of others" was not 

satisfied when purchasers had a contractual 

entitlement to return. 


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SEC v. Edwards 

What does SEC v. Edwards teach us 

about the “investment contract” test? 


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SEC v. Edwards 

In 2004, Supreme Court unanimously reversed the 11 th Circuit, 

ruling that the contractual arrangement of the ETS Payphones 

structure was a “security,” because 

The term “profits" is used in Howey in the sense of 

income or return, and includes dividends, other periodic 

payments, or increased value of investment, and 

Howey test does not distinguish between a promise of 

fixed return and promise of variable return. That investors 

have bargained for fixed return on investment does not 

mean the return is not also expected to come “solely from 

efforts of others.” 


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The Reves Test compared to the Howey 

Test 

Reves 

1. Motivation of seller and 

buyer. 

2. Plan of distribution. 

3. Reasonable expectations 

of investing public. 

4. Other factors reduce risk. 


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Howey 

1. Investment of Money 

2. In a Common 

Enterprise 

3. With an expectation 

of profit from the 

efforts of others

Howey vs. Reves 

The two tests can be viewed as two ends of 

the same filter. Howey allows items into the 

“security” box, while Reves allows items not 

to be characterized as securities and therefore 

to pass out of the “security” box. 

For public policy reasons, the Howey filter is 

the more porous filter, allowing more in than 

the Reves filter allows out. 


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Partnership and LLC Interests 

Involves a particular application of the Howey test: 

Investor’s efforts in common enterprise may contribute to 

profits, but efforts of the managers must be predominant. 

Courts will look at the totality of circumstances 

surrounding the transaction, and not simply accept a literal 

reading of the written agreement between the parties. 

Courts will look at actual involvement contemplated by 

parties, evidence of such involvement (or lack of 

involvement), and anything else that can be gleaned from 

factual circumstances surrounding the investment. 


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Partnership and LLC Interests 

Interests of general partners typically are 

not securities, but interests of limited 

partners typically are. 

Interests in LLCs may be securities 

depending on circumstances. 


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Common Stock 

Under what circumstances, if any, is 

common stock not considered a 

security for purposes of the 

Securities Act? 

Why not analyze common stock as 

an LLC interest? 


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Stock in Closely Held 

Businesses 

The Supreme Court has emphasized that 

definition of a security must reflect “economic 

reality.” 

In some instances, transactions in corporate 

stock involve – in “economic reality” – the 

transfer of small business assets from one 

owner/manager to another owner/manager, 

neither of whom is expecting profits “solely 

from the efforts of others.” 


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Stock in Closely Held 

Businesses 

Prior to 1985, under the “sale of business” doctrine, lower 

courts looked to the Howey test’s emphasis on 

management to conclude that sale of a majority equity 

interest passes complete control to purchaser, who should 

be viewed as an entrepreneur, not an investor. 

Landreth Timber Co. v. Landreth, 471 U.S. 681 (1985), 

resolved the issue with a literal interpretation of Section 

2. In a sale of “stock,” the Supreme Court refused to 

consider the “economic substance” of the transaction or to 

assume that federal securities laws apply only to passive 

investors. 


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Compare Reves with Landreth 

Why did the Supreme Court in the subsequent 

Reves decision not take a literal approach? 

Why did the Supreme Court in Landreth not rely on 

introductory clause (i.e., “unless the context 

otherwise requires”)? 

Is the Supreme Court’s treatment of bank 

certificates of deposit consistent with Landreth? 


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Guarantees as Securities 

§2(a)1- “The term "security" “means … 

any…guarantee of…any of the foregoing” 

Guarantors are treated as issuers only if 

guarantees are incorporated into securities being 

distributed to investors. 

In other words, if guarantee and security are 

“bundled,” then guarantor is an issuer of a 

security. 


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Swap Agreements 

Note that prior to the 2010 Dodd-Frank Act, the 

definition of "security" in section 2(a)(1) did not 

include either of the following: 

any non-security-based swap agreement (as 

defined in the Gramm-Leach-Bliley Act); or 

any security-based swap agreement (as defined in 

the Gramm-Leach-Bliley Act). 

The Dodd-Frank Act completely changed the scheme 

for the regulation of swaps. 


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Dodd-Frank Act 

(July 2010) 

Changes to Securities Act include 

Adding “security-based swap” to definition of 

“security” 

Providing that any offer or sale of a securitybased 

swap by or on behalf of an issuer of the 

referenced securities constitutes a contract for 

the sale or offer of the sale of the referenced 

securities, and subjects the security-based swap 

to registration requirements of Securities Act 


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§3(a) of the Securities Act 

Creates exemptions for certain 

instruments that, based upon a strict 

reading of §2(a)(1), would 

otherwise be considered securities 


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Examples? 


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Government Securities §3(a)2 

“Any security issued or guaranteed by the United States 

or … by any State of the United States, or by any 

political subdivision of a State…, or by any public 

instrumentality of one or more States . . . .” 

Federal government 

State governments 

“Political subdivision” (e.g., a city) 

“Public instrumentality” (e.g., public agency, such as 

a regional water authority or a turnpike authority) 


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Important Caveat - §17(c) 

SEC. 17. FRAUDULENT INTERSTATE TRANSACTIONS 

(a) It shall be unlawful for any person in the offer or 

sale of any securities . . . by the use of any means or instruments of . . . 

interstate commerce or by use of the mails, directly or indirectly— 

(1) to employ any device, scheme, or artifice to defraud, or 

(2) to obtain money or property by means of any untrue statement 

of a material fact or any omission to state a material fact 

necessary in order to make the statements made, in light of the 

circumstances under which they were made, not misleading; 

* * * 

(c) The exemptions provided in section 3 shall not apply to the 

provisions of this section. 


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Important Caveat – Rule 10b-5 

Recent SEC Enforcement Action 

On May 6, 2013, the SEC charged the City of Harrisburg, PA with securities fraud for its 

misleading public statements when its financial condition was deteriorating and financial 

information available to municipal bond investors was either incomplete or outdated. 

In a related SEC “Report of Investigation”, the SEC notes that public officials should be 

mindful that their written or oral public statements may affect the “total mix of 

information available to investors” and that this could result in anti-fraud liability under 

the federal securities laws for the public officials making such statements if they are 

materially misleading or omit material information. 

The report said that public officials should consider adopting policies and procedures that 

are reasonably designed to result in accurate, timely, and complete public disclosures; 

identifying those persons involved in the disclosure process; evaluating other public 

disclosures including financial information made by the municipal issuer; and assuring 

that responsible individuals receive adequate training about their obligations under the 

federal securities laws. 


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Commercial Paper -- §3(a)3 

“Any note, draft, bill of exchange, or banker's 

acceptance which arises out of a current 

transaction or the proceeds of which have 

been or are to be used for current transactions, 

and which has a maturity at the time of 

issuance of not exceeding nine months, 

exclusive of days of grace, or any renewal 

thereof the maturity of which is likewise 

limited.” (Emphasis added.) 


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Exempt Bank Securities 

§3(a)2 “any security issued or guaranteed by 

any bank” 

§3(a)5 “Any security issued… by a savings and 

loan association, cooperative bank, or 

similar institution, which is 

supervised and examined by State or 

Federal authority having supervision over 

any such institution…” 


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Exempt Bank Securities (cont’d) 

Two important caveats: 

1. Federal or state bank regulators may 

impose requirements similar to ’33 

Act. 

2. Exemption does not apply to securities 

issued by a bank holding company, 

savings and loan holding company, 

etc. 


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Session 1 – What is a Security 

for Purposes of the Securities Act? 

Study Problem 1.1 

Pennypincher and 14 of her closest (but not very wealthy) friends from all over 

New England want to organize a commercial bank under Massachusetts law. 

Pennypincher and her friends do not want to bear all the risk of forming the new 

bank. 

Instead, they recruit 10 wealthy friends to share the expenses, including the cost 

of preparing regulatory applications for FDIC and Massachusetts approvals. 

Together they will contribute $1 million. 

If and when the bank opens for business, the bank will exchange common stock 

for the $1 million at a price per share equal to 90% of the price paid in the $10 

million offering. If the bank does not open, the balance of the $1 million, if 

any, remaining after expenses will be returned. 

Would the $1 million investment in connection with the bank’s organization be 

subject to §5 of the Securities Act? 


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Limits on Bank Securities 

Exemption 

Important: §3(a)2 and §3(a)5 do not 

apply to the pre-organization 

investment in Study Problem 1.1 

because investment is not contingent 

upon receipt of regulatory approvals 

and commencement of a banking 

business 


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Session 2 – June 26, 2012 


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Private Placements §4(2), §3(b) 


• Regulation D – primarily Rules 506 and 504 

• Accredited investor test – Rule 501(a) 

• General conditions – Rule 502 

“Crowdfunding” 

Equity awards to employees of privately held companies – 

Rule 701 

Exchange offers – §3(a)(9) 

Intrastate offerings – §3(a)(11), Rule 147 

Reg. S 


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But first, some context 

When does an “offer” occur? 

What is a “sale” of a security? 

What are the implications of 

registering a sale of a security 

with the SEC? 


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Basic Principle Underlying 

the Securities Act of 1933 

Unless an exemption is available, 

Each and every offer or sale of a security 

must be registered with the SEC, and 

In the registration statement (which 

includes the prospectus), all information 

material to that investment decision must 

be disclosed. 


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What is an “offer”? 

2(a)(3) –"offer to sell", "offer for sale", or 

"offer" 

Includes every attempt or offer to dispose of, or 

solicitation of an offer to buy, a security or 

interest in a security, for value. 

Exception: “preliminary negotiations or 

agreements between an issuer . . . and any 

underwriter . . . .” 


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What is a “sale”? 

§ 2(a)(3) –"sale" or "sell" 

Every contract of sale or disposition of 

a security or interest in a security, for 

value. 


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Special Situations – Rule 145 

Mergers, Sale of Assets, Reclassifications of Securities 

Original SEC “no sale” theory 

Superseded by Rule 145: an offer, offer to sell, offer for 

sale, or sale occurs when there is submitted to 

security holders for a vote or consent a plan or 

agreement pursuant to which such holders are required 

to make an investment decision, whether to accept a 

new or different security in exchange for their existing 

security 


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Special Situations – Spin Offs 

Policy Consideration: 

Legitimate dividend vs. problematic distribution 

Legal Issue: 

Is disposition “for value” within the meaning of §2(a)(3)? 

SEC position is that lack of monetary consideration for 

the shares does not mean that the disposition was not for 

value. 


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Considerations: 


Spin Offs (cont’d) 

Legitimate business purpose? 

Adequacy of public information about the spun off 

securities and their issuer? 

Do parent shareholders provide consideration for the 

spun-off shares? 

Is spin-off pro-rata to the parent shareholders? 

If the parent spins-off “restricted securities,” has it held 

those securities for at least two years? 


All Rights Reserved


Special Situation – Free Stock 

Phenomenon of early Internet era 

Legal Issue: Similar to Spin Off 

SEC takes the position that a “gift” of stock is a sale “for 

value” when the purpose of the “gift” is to advance the 

donor's economic objectives rather than to make a gift for 

simple reasons of generosity. 

Attracting additional people to the web site. 

Increasing advertising revenue 

Generating general interest in the company and its brand 


All Rights Reserved

Back to Basics . . . 


Each and every offer or sale of a security 

must be registered with the SEC, and 

In the registration statement (which 


material to that investment decision must be 

disclosed. 


Rights Reserved.

Implications of SEC 

registration? 

What are the implications of 

registering a sale of a security 

with the SEC, especially an 

IPO? 


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What does “registration” entail? 

1. Preparation of registration statement 

For companies that are not WKSIs or other 

publicly traded companies, registration will 

entail 

Significant expense (typically >$500,000) 

Significant delay (typically > four months) 

Public disclosures that may benefit 

competitors 


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Lessons from Facebook IPO 


Example of delay (not atypical) 

Facebook probably began working on 

IPO in late 2011 

Facebook first filed with SEC on 

February 1, 2012 

Facebook completed IPO on May 17, 

2012 


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What does “registration” 

entail? (cont’d) 


2. Potential ’33 Act Liability 

Potential strict liability for issuer for 

materially false or misleading 

registration statement 

Potential liability for directors and 

certain executive officers 


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Lessons from Facebook IPO 


Example of litigation (atypical) 

According to media reports, various civil 

lawsuits have been filed against Facebook, 

Mark Zuckerberg and underwriters 

At least one such lawsuit alleges that the 

defendants concealed a weakened growth 

forecast prior to the IPO 


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What does “registration” 

entail? (cont’d) 



3. Subsequent ’34 Act Reporting 

Audited annual financial statements 

Audit of internal controls (for larger 

companies) 

Quarterly and periodic reporting 


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Exempt Transactions 

How do “start-ups” and other small 

companies raise capital if they wish to 

avoid the time and expense of an IPO? 

Do mature companies raise capital other 

than in a registered public offering? 

(To be discussed in subsequent session) 


All Rights Reserved

Basic Principle Underlying the 


“Unless an exemption is available, . . .” 

Some exemptions focus on the type of 

security being offered – Refer to Session 1 

Other exemptions focus on the nature of the 

transaction in which the offer and sale is to 

occur. 


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Private placements – 


All Rights Reserved 

4(2) and Rule 506; 

Certain small offerings – 3(b), 4(6) (and 

Rules 504 and 505), Reg. CE, Rule 701; 

Intrastate offerings – 

Exchanges by the issuer – 

Fairness Hearings – 

 

3(a)(11) and Rule 147; 

3(a)(10); 

3(a)(9); 

4(1) and Rule 144 – IUD (i.e., sales not by an 

Issuer, Underwriter or Dealer) 

Reg. S

Rule 506 


JOBS Act Changes 

More flexibility in communicating 

regarding private placement 

“Crowdfunding” 

Regulations not issued yet 


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Our Focus in Session 2 

Private placements – 



4(2) and Rule 506 

Certain small offerings – 3(b), 4(6) (and Rules 504 

and 505), “crowdfunding” and Reg. CE, Rule 701 

Intrastate offerings – 

Exchanges by the issuer – 


3(a)(11) and Rule 147 

3(a)(10) 

3(a)(9) 

Secondary trading – 4(1) and Rules 144 (i.e., sales not 

by an Issuer, Underwriter or Dealer) (this will be 

covered in a later Session) 

Reg. S (this will be covered in a later Session)

Exempt Transactions – 

Key Principle #1 

Securities offered and sold in an exempt 

transaction do not thereby become exempt 

securities. 

For each and every subsequent “offer”/ 

“sale” of those securities, seller must either 

register the offer/sale with SEC or then 

qualify for an exemption from registration. 


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Session 2 – Exempt Transactions 

Funding Start-Ups 

Study Problem No. 2.1 

BeanTown Biosystems, Inc. sells 10,000 shares of common 

stock for $600,000 to the parents of the company’s four 

founders, who are recent graduates from BC, BU, Harvard 

and MIT, respectively. 

In total, four parents will own in total 40% of Biosystems 

immediately after the investment. Each founder will own 

15%. 

Must Biosystems register under 5 of the Securities Act the 

sale of stock to the founders’ parents? 


All Rights Reserved




Two months after the parents’ investment, BeanTown 

Biosystems, Inc. files a patent for medical diagnostic 

device. 

Very Confident VC Investment Fund wants to invest 

$4.5 million cash in Biosystems in exchange for 

Series A preferred stock, representing a 40% equity 

interest in Biosystems after the investment. 

Must Biosystems register under 5 of the Securities 

Act the sale of the Series A Preferred Stock to Very 

Confident? 


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4(2) – 

Private Placements 

transactions by an issuer not 

involving any public offering 


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Private Placements 

Interpretative issue: 

What is a “public offering” 

within the meaning of 



4(2)?

4(2) Analysis 

1953 Ralston Purina Supreme Court Decision: 

Burden is on the issuer 

Offeree must be able to fend for himself 

Access to the “kind of information which registration 

under 5 would disclose” 

1962 SEC Release No. 4,552: 

“Coming to Rest” – Restrictions on transfer 

Integration – Five factors 


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4(2) Analysis (cont’d) 

1975 ABA Position Paper: 

Offeree qualification (i.e., offeree must be able 

to fend for himself) 

Access to information material to investment 

decision 

Manner of offering (i.e., no public advertising) 

Safeguards against redistribution (i.e., “coming 

to rest”) 


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Private Placements – 

Regulation D 

1982 SEC Adopts Regulatory “Safe Harbor” 

Regulation D (Limited Offers) 

Rule 501 (Categories of accredited investors) 

Rule 502 (General conditions to be met) 

BUT remember JOBS Act 

Rule 506 (Sales without regard to offering size) 

Rule 505 (Offerings not exceeding $5 million) 

Rule 504 (Offerings not exceeding $1 million) 


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General conditions to be met – Rule 502 

No integration problem – Rule 502(a) 

Required disclosure, if any, provided – Rule 502(b) 

No general solicitation or general advertising – Rule 502(c) 

But keep in mind JOBS Act Change (see next slide) 

Limitations on resale – Rule 502(d) 

Notice of sale – Rule 503 

Must file Form D with the SEC no later than 15 calendar days 

after the first sale of securities in the offering 

No disqualification – Rule 507 


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Regulation D – 

Important JOBS Act Change 

JOBS Act limits prohibition on general solicitation or 

general advertising – Rule 502(c) 

JOBS Act requires the SEC, not later than July 4, 2012, to 

revise Regulation D to provide that prohibitions against 

general solicitation or general advertising contained in 

Rule 502(c) shall not apply to offers and sales of securities 

made pursuant to Rule 506 provided that all purchasers 

of the securities are accredited investors. 


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Accredited investor test – “Rules of Thumb” 

Entities: 

Total assets > $5 million and not formed for the 

purpose of the investment 

Individuals: 

Income for last two years – and expected income for 

current year – is > $200,000 ($300,000 married 

couple) 

Net worth – excluding equity in primary residence – 

> $1,000,000 (with or without spouse) 


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How many investors may 

purchase securities in a Reg. D 

offering? 


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Practice points in dealing with non-accredited 

investors 

Rules 506 and 505 seem to cap at 35 the number of 

investors in an offering 

But Rule 501(e), which has special counting rules, 

excludes accredited investors from that 35 investor 

limit 

Beware: the inclusion of even one non-accredited 

investor triggers the information disclosure rules 

for 506 and 505 offerings. Rule 502(b)(1). 


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“Crowdfunding” §4(6) 

JOBS Act added §4(6) to the Securities Act 

Exempts from registration securities sold by a closely held 

company raising up to $1 million within any given 12‐month 

period, provided that: 

1. The amount purchased by an investor in the transaction 

does not exceed the maximum investment amount (see 

subsequent slide); 

2. The transaction is conducted through a broker or “funding 

portal;” and 

3. The private company provides certain descriptive 

information to the funding portal and the SEC. 


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“Crowdfunding” – Investor Cap 

During any 12-month period, the aggregate amount sold to any 

investor by an issuer, including in reliance on §4(6), may 

not exceed — 

(1) Greater of $2,000 or 5 percent of the annual income or net 

worth of such investor, as applicable, if either the annual 

income or the net worth of the investor is less than $100,000; 

and 

(2) 10 percent of the annual income or net worth of such 

investor, as applicable, not to exceed a maximum aggregate 

amount sold of $100,000, if either the annual income or net 

worth of the investor is equal to or more than $100,000 


All Rights Reserved

Crowdfunding Portal 

A funding portal is defined as a crowdfunding intermediary that does 

not: 

1. offer investment advice or recommendations; 

2. solicit purchases, sales, or offers to buy securities offered or 

displayed on its website or portal; 

3. compensate employees, agents, or others persons for such 

solicitation or based on the sale of securities displayed or 

referenced on its website or portal; 

4. hold, manage, possess, or otherwise handle investor funds or 

securities; or 

5. engage in such other activities as the SEC, by rule, determines 

appropriate. 


All Rights Reserved




BeanTown Biosystems, Inc. sells 10,000 shares of common 

stock for $600,000 to the parents of the company’s four 

founders, who are recent graduates from BC, BU, Harvard 

and MIT, respectively. 

In total, four parents will own in total 40% of Biosystems 

immediately after the investment. Each founder will own 

15%. 

Must Biosystems register under 5 of the Securities Act 

the sale of stock to the founders’ parents? 


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Study Problem No. 2.1 – Analysis 

Biosystems’s sale of stock to founders’ parents would 

be exempt from registration. 

Rule 504 (< $1 million) or 4(2) 

Size and nature of investor group would likely not 

raise concern under 4(2) 

One would expect that the parents would have 

access to all material information 

Investor “sophistication” (or “purchaser 

representative”) not required under Rule 504 


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Study Problem No. 2.1 – Analysis (cont’d) 

Rule 504 (< $1 million) (relies on Section 3(b) of Securities Act) 

Biosystems does not fall within one of the categories of issuers that 

may not use Rule 504. Those excluded issuers include: 

Issuer subject to Exchange Act reporting requirements of section 

13 or 15(d); 

Investment companies; or 

Development stage company that either has no specific business 

plan or purpose or has indicated that its business plan is to engage 

in a merger or acquisition with an unidentified company or 

companies, or other entity or person 

Investor “sophistication” (or “purchaser representative”) not required 

under Rule 504 

Issuer not required to furnish specific information under Rule 504. 

See Rule 502(b)(1). 


All Rights Reserved




Either 

4(2) or Rule 504 Require Resale Restrictions 

See, for example, Rule 502(d): 

The issuer shall exercise reasonable care to assure that purchasers of securities are not 

underwriters within the meaning of Section 2(a)(11), which reasonable care may be 

demonstrated by: 

Reasonable inquiry to determine if purchaser is acquiring securities for himself or 

for other persons [this usually is satisfied by an investor representation in 

purchase agreement; see sample purchase agreement]; 

Written disclosure to each purchaser prior to sale that securities have not been 

registered under the Act and, therefore, cannot be resold unless they are registered 

under the Act or unless an exemption from registration is available [this usually is 

satisfied by an investor representation in purchase agreement whereby investor 

acknowledges that she understands these restrictions]; and 

Placement of a legend on the certificate or other document that evidences securities, 

stating that securities have not been registered under the Act and setting forth or 

referring to restrictions on transferability and sale of the securities [see slide with 

sample restrictive legend].” 


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Sample Subscription 

Agreement 

In a private placement, the agreement whereby the investor 

agrees to purchase, and the issuer agrees to sell, the 

restricted securities sometimes is referred to as the 

“subscription agreement.” 

Excerpts from a model subscription agreement for a private 

placement by a limited liability company (LLC) is posted 

on the course Web site under the Session 2 reading 

materials. 

The highlighted sections are the investor representations 

intended to satisfy Rule 502(d). 


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Sample Restrictive Legend 

THE SHARES REPRESENTED BY THIS CERTIFICATE HAVE 

NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 

1933, AS AMENDED, OR QUALIFIED UNDER ANY STATE 

SECURITIES LAWS. THE SECURITIES MAY NOT BE 

OFFERED, SOLD, TRANSFERRED OR OTHERWISE 

DISPOSED OF WITHOUT SUCH REGISTRATION OR THE 

DELIVERY TO THE CORPORATION OF WRITTEN NOTICE 

AND, IF REQUESTED BY THE CORPORATION, AN OPINION 

OF COUNSEL, REASONABLY SATISFACTORY TO THE 

CORPORATION, THAT AN EXEMPTION FROM 

REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS 

AMENDED, AND FROM QUALIFICATION UNDER SUCH 

STATE SECURITIES LAW IS THEN AVAILABLE. 


All Rights Reserved




Two months after the parents’ investment, BeanTown 

Biosystems, Inc. files a patent for medical diagnostic 

device. 

Very Confident VC Investment Fund wants to invest 

$4.5 million cash in Biosystems in exchange for 

Series A preferred stock, representing a 40% equity 

interest in Biosystems after the investment. 

Must Biosystems register under 5 of the 

Securities Act the sale of the Series A Preferred 

Stock to Very Confident? 


All Rights Reserved




Biosystems’s sale of stock to Very Confident VC Investment Fund 

would be exempt from registration. 

Rule 506 or Rule 505 (< $5 million) or 

4(2) 

Facts suggest investor is both “accredited” and “sophisticated” 

Such an investor would likely not raise a concern under 4(2) 

Also, Rules 505 and 506 could be used: 

Issuer not required to furnish specific information to 

accredited investor. See Rule 502(b)(1). 

Facts do not indicate any impermissible “general 

solicitation or general advertising.” See Rule 502(c). 

No integration with $600,000 investment by parents 

Either 4(2), Rule 505 or Rule 506 require resale restrictions 


All Rights Reserved

Excerpts from Sample Venture 

Capital Purchase Agreement 

In the venture capital context, the agreement whereby the 

investor agrees to purchase, and the issuer agrees to sell, 

the restricted securities is sometimes referred to as a “stock 

purchase agreement.” 

Excerpts from a model stock purchase agreement for an 

initial round of venture capital investment is posted on the 

course Web site under the Session 2 reading materials. 

The highlighted sections are the investor representations 

intended to satisfy Rule 502(d). 


All Rights Reserved




Assume BeanTown Biosystems does not obtain funding from Very Confident. 

Five months after the parents invest $600,000, 28 friends of the Biosystems 

founders want to invest a total of $4.6 million in Biosystems common stock. 

Each of those friends is very knowledgeable about Biosystems’s technology, but 

only four have had significant financial success. None has had any prior 

involvement with Biosystems. 

Each of the four financially successful investors intends to invest $1,000,000; 

each of the other 24 investors plans to invest $25,000. 

Could Biosystems structure the investment to avoid registration under 5 

of the Securities Act? If so, how? Do you need additional information? 

What if another 10 friends of modest means want to invest $10,000 each as part 

of the same offering? What if one of the $1 million investors was identified 

by a “finder.” 


All Rights Reserved




Biosystems could structure the investment to avoid registration under 

of the Securities Act, possibly with some changes. 

4(2) vs. Rule 506 vs. Rule 505 

Size and nature of investor group raises concern under 

Cannot have more than 35 non-accredited investors under either Rule 505 or Rule 

506 

For non-accredited investors, investor “sophistication” (or “purchaser 

representative”) required under 506(b)(2)(ii) . . . If not possible, consider Rule 

505 

BUT Rule 505 raises “integration” concerns with the parents’ investment five 

months earlier . . . 

ALSO substantial disclosure would be required because of non-accredited 

investors (Rule 502(b) for both Rules 505 and 506) . . . so consider whether 

burden is warranted for the $600,000 of incremental financing from nonaccredited 

investors 

Adding another 10 presumably non-accredited investors would preclude reliance 

on Rule 506. 



4(2) 

5




Important: Biosystem’s reliance on Rule 506 would 

provide ancillary benefits under state securities laws 

(also known as “blue sky” laws) as a result of the 

National Securities Markets Improvement Act of 1996 

("NSMIA"), which amended Section 18 of the 

Securities Act. [See next slide re NSMIA] 

Adding another 10 investors would preclude reliance 

on Rule 506, if, as it seems they are non-accredited. 

Biosystems’s use of a finder could cause many 

complications [See subsequent slide] 


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A Few Words About NSMIA 

NSMIA, which is codified in Section 18 of the Securities 

Act, creates a class of securities - referred to as "covered 

securities" - the offer and sale of which are no longer 

subject to state securities law registration requirements. 

Covered securities include: securities listed (or approved 

for listing) on the NYSE and NASDAQ; certain securities 

exempt under Section 3(a) of the Act (including 

government or municipal securities, bank securities and 

commercial paper); and securities exempt from 

registration under the Act if sold in transactions 

complying with Rule 506 of Regulation D. 


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A Few More Words About NSMIA 

As a result of NSMIA, states may no longer require the registration 

of covered securities. 

States may, as permitted under NSMIA, require filings and the 

payment of fees for offers and sales in their state of covered 

securities other than those which are listed. 

Additionally, since NSMIA only preempts state securities 

registration requirements, broker-dealer and agent/salesperson 

registration requirements (applicable to individuals engaged in the 

offer and sale of covered securities) must still be examined to 

determine whether action is required to be taken in connection with a 

particular offering or transaction. 

Although NSMIA preempts state securities registration requirements, 

NSMIA preserves the right of the states to investigate and prosecute 

fraud. 


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A Few Words About “Finders” 

Finders, mergers and acquisitions advisors and institutional 

private placement practitioners often are collectively referred to 

as Private Placement Broker-Dealers (“PPBDs”). 

Many finders and other PPBDs are not registered with the SEC 

as “broker-dealers.” 

The SEC takes the position that a finder or other PPBD whose 

compensation for participation in the transaction depends upon 

the amount or outcome of the transaction – which the SEC 

refers to as “transaction-based compensation” – is acting as a 

broker and therefore should register as such. 

The SEC and the states frequently bring enforcement actions 

against unlicensed PPBDs. 


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A Few More Words About “Finders” 

Why should an issuer care if a PPBD is an unregistered broker? 

Issuers must disclose on Form D payments to brokers and finders. 

Under state law, payment of a commission to an unregistered broker 

may preclude a state exemption if Rule 506 is not used and therefore 

NSMIA preemption does not apply. 

Depending on the nature of the finder’s marketing efforts, the activities 

may constitute general solicitation. 

Commentators have argued that if an unregistered PPBD engaged in a 

sale of a security to an investor, that investor may be able to “void” or 

rescind the investment contract because Section 29(b) of the Exchange 

Act provides that contracts in violation of that Act are void. 

Good secondary source: Report and Recommendation of the Task Force on 

Private Placement Broker- Dealers, 60 Business Lawyer 959 (May 2005). 


All Rights Reserved


Mergers Involving Emerging Companies 


[Assume transaction in Problem 2.2 did occur but the transaction in Problem 2.3 did not.] 

Five months after Very Confident’s $4.5 million investment, Biosystems wants to acquire 

Great Genome Solutions, Inc. a biotech company located in northern California. Genome is 60 

percent controlled by two friends of Biosystems’s founders. 

Biosystems will acquire Genome by merging a newly formed Biosystems subsidiary with and 

into Genome, resulting in Genome becoming a wholly owned subsidiary of Biosystems (this is 

a conventional merger structure known as a “reverse triangular merger”). Genome 

stockholders will receive only shares of Biosystems common stock (assuming none exercises 

appraisal rights under applicable state corporate law). 

In addition to Genome’s founders, it has 20 other stockholders, some of whom are employees 

and others are relatives of the founders. Aside from the founders, none of Genome’s 

stockholders is very sophisticated regarding corporate finance matters. The founders would 

enter into a customary voting agreement, agreeing to vote their shares in favor of the merger. 

Must Biosystems file a registration statement with the SEC in order to acquire Genome? 

Assume the acquisition is valued at $3.5 million? What if Genome is valued at $7.0 

million? What if Genome has 60 stockholders and most are not Genome employees? 


All Rights Reserved




Biosystems’s issuance of stock to Genome stockholders need 

not be registered under 5 of the Securities Act, because 

Biosystems’s common stock clearly is a “security” under 

the Act and is not an exempt security under 3(a). 

The merger will involve a “sale” of a security under the 

Act (since 1972). 

2(a)(3) – “Sale” includes every . . . disposition of a 

security for value” 

See Rule 145 – especially the Preliminary Note 

Voting agreement by control stockholders does not change 

analysis. 


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Study Problem No. 2.4 – Analysis (Cont’d) 

Biosystems’s issuance of stock to Genome stockholders in the merger could qualify 

as an exempt transaction. 

4(2) vs. Rule 506 vs. Rule 505 

Size and nature of stockholder group raises concerns about relying solely on 

4(2) 

Merger will not raise “integration” concerns under Rule 505 with recent $4.5 

million Very Confident investment, because 

The two transactions were not part of a single plan of financing 

Biosystems received very different consideration in each (Genome stock 

vs. cash) 

Transaction would involve less than 35 non-accredited investors, so either 

Rule 505 or 506 is possible 

Investor “sophistication” (or purchaser representative) not required under 505 

but would be required under 506(b)(2)(ii) 

Rule 505 exemption therefore probably is the best alternative if acquisition is 

valued at $3.5 million 


All Rights Reserved



Study Problem No. 2.4 – Analysis (Cont’d) 

If Genome is valued at $7.0 million? 

Biosystems would rely on Rule 506 (not Rule 505) 

Investor “sophistication” (or purchaser representative) is 

required under 506(b)(2)(ii) 

What if Genome has 60 stockholders and most are not 

Genome employees? 

Rule 506 available if not more than 35 non-accredited 

investors, and 

Unsophisticated investors need a purchaser representative 

under 506(b)(2)(ii) or, alternatively, Biosystems might 

consider a 3(a)(10) “fairness hearing” in California 

© 2012 Michael K. Krebs 

All Rights Reserved


3(a)(10) 

©2012 Michael K. Krebs 


3(a)(10) 

any security . . . issued in exchange for one or more 

bona fide outstanding securities… after a hearing upon 

the fairness of such terms and conditions … by any 

court, or by any official or agency of the United States, 

or by any State or Territorial banking or insurance 

commission or other governmental authority expressly 

authorized by law to grant such approval 

Additional guidance provided in SEC Staff Legal 

Bulletin regarding 3(a)(10) (not required reading)


Emerging Companies and Warrants 


[Assume Genome acquisition occurred valued at $3.5 million] 

In the year following the Great Genome acquisition, BeanTown Biosystems’s 

business expands significantly, and it wants to borrow $1 million each from Very 

Confident and the two Genome founders. 

The promissory notes evidencing the borrowing will be secured by a lien on all of 

Biosystems’s No’s tangible and intangible assets and payable in three years or, if 

earlier, upon the completion of an IPO of Biosystems. 

Each lender will receive a warrant to purchase from Biosystems 100,000 shares of 

Biosystems common stock at a price per share of $10, which is 25% above the $8 

price at which Biosystems common stock was valued in the Genome acquisition. 

The warrant expires in ten years and is exercisable only after 12 months or upon the 

completion of an IPO, whichever is earlier. The warrant includes a customary “net 

exercise” provision. 

Are the notes securities? Are the warrants securities? Must Biosystems file a 

registration statement with the SEC in connection with this financing? 


All Rights Reserved




The notes are not securities. See 2(a)(1) and Reves v. Ernst & Young - “Unless the context 

otherwise requires” in preamble to § 2(a). 

Reves: family resemblance test. 

• Every “note” is presumed to be security unless it bears a strong resemblance (in terms 

of four factors) to one of the categories of instruments listed by the court that are not 

securities. 

• Plan of distribution is not to general public; note is secured by all-assets lien, reducing 

the risks to note holders; and therefore better view is that Very Confident and 

Genome’s two founders thought they were making a commercial loan, not 

purchasing a security. 

• Short-term note secured by assets of a small business is an example cited in Reves of 

a promissory note that is not a security 

• Therefore, the Biosystems promissory notes are more analogous to category of loans 

issued to commercial banks in a conventional lending transactions and do not fall 

within statutory definition of "notes" that are "securities." 


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The warrants clearly are securities. 

See § 2(a)(1): “warrant” to purchase stock is specifically 

identified as a security 

The offer and sale of the warrants likely is exempt under 

any of several exemptions, including Rule 506. 

Size and nature of warrant holder group may justify 

reliance solely on §4(2). 

Therefore, Biosystems does not have to file a registration 

statement in connection with the $3 million borrowing or the 

warrants. 


All Rights Reserved


Emerging Companies/Employee Stock Awards 


[Assume Genome acquisition occurred ] 

BeanTown Biosystems’s main office is in Massachusetts and 

some development work will take place in at the former 

Genome facility in California. 

Biosystems has 40 employees and would like to offer them 

stock options as an inducement for them to accept less cash 

compensation than they would earn at many other companies. 

None of the employees qualifies as an accredited investor. 

Must Biosystems register under §5 of the Securities Act the 

grant of the options? What about the sale of stock upon 

exercise of the options? What if Biosystems had not 

acquired Genome? 


All Rights Reserved

Intrastate Offerings – 

and Rule 147 

Resale restrictions 



3(a)(11) 

For nine months after the offering is complete, purchasers may 

not resell securities to any non-resident of the state 

Offering size 

No maximum offering amount 

Pitfalls for the unwary 

Many 

Exemption not available if any purchaser, or any offeree!!, is 

not a resident of the state 

Restrictions on use of an underwriter not located in the state


Emerging Companies/Employee Stock Awards 


Biosystems will likely not be required to register under 5 of the 

Securities Act the offer or sale of the stock options to the employees. 

 

4(2) may be available BUT rather risky given size of group 

Rule 504 might be available 

 

3(a)(11)/Rule 147 not available if grants made to employees 

who live in California 

MOST IMPORTANT – Rule 701 will likely be available. 

Rule 701 will also exempt the issuance of Biosystems stock 

upon the exercise of the option. 


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Rule 701 

Rule 701 (Benefit Plans/Contracts Relating to 

Compensation) 

Only for issuers that do not file periodic reports with 

SEC under Exchange Act 

Must be a written compensatory benefit plan (or written 

compensation contract) 

Only for sales to insiders or near-insiders, such as 

directors, officers, employees, and consultants or other 

advisors 

BUT . . . aggregate annual sales limits . . . See Rule 

701(d)(2) 


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Rule 701 (cont’d) 

Rule 701(d): 

No limit on offers 

Aggregate sales price during any consecutive 12month 

period must not exceed the greatest of the 

following: 

$1,000,000; 

15% of the total assets; 

15% of the outstanding amount of the class of 

securities being offered. 


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Rule 701 (cont’d) 

Value of options for 701 purposes is 

based upon option exercise price 

No integration with other offerings 

Limited disclosure required unless 

amount during any 12-month period 

exceeds $5 million 


All Rights Reserved


Google Pre-IPO Private Placements 

SEC Form S-1, Part II, Item 15. Recent Sales of Unregistered 

Securities 

Furnish information required by Item 701 of Regulation S-K 

SEC Reg. S-K Item 701: 

Furnish the following information as to all securities sold by registrant 

within the past three years which were not registered under Securities 

Act. 

Include sales of reacquired securities, as well as new issues, securities 

issued in exchange for property, services, or other securities 

Indicate the section of Securities Act or SEC rule under which 

exemption from registration was claimed and state briefly facts relied 

upon to make exemption available 


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Session 2 – Private Placements 


Google April 2004 Form S-1, Part II, Item 15. Recent Sales of 

Unregistered Securities: 

The following sets forth information regarding securities sold by the 

registrant since January 1, 2001. 

1. In January 2001, Google sold 9,000 shares of Series C preferred stock 

for cash consideration of $21,083 to an accredited investor. 

* * * 

5. Since January 2001, the registrant has issued to directors, officers, 

employees and consultants options to purchase 63,230,957 shares of 

common stock with an aggregate exercise price of $118,292,482, and 

has issued 42,013,513 shares of common stock for an aggregate 

purchase price of $27,123,241 upon exercise of such options. 


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Google April 2004 Form S-1, Part II, Item 15. Recent Sales of 

Unregistered Securities: 

“Except as noted below, the issuance of securities described above 

were deemed to be exempt from registration under the Securities 

Act in reliance on Section 4(2) . . . as transactions by an issuer not 

involving any public offering. The recipients of securities in each 

such transaction represented their intention to acquire the securities 

for investment only and not with a view to or for sale in connection 

with any distribution thereof and appropriate legends were affixed 

to the share certificates and other instruments issued in such 

transactions. The sale of these securities were made without 

general solicitation or advertising.” 


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Google July 2004 Amendment No. 4 to Form S-1, Part II, Item 15. 

Recent Sales of Unregistered Securities: 

“The option grants and stock issuances described in paragraph 5 above include the issuance 

of 37,099,623 options and 23,702,819 shares of our common stock that may not have been 

exempt from registration or qualification requirements under federal or state securities laws, 

and we have not registered or qualified all of these shares under these laws. Consequently, 

certain of the options we granted and the shares issued upon exercise of these options may 

have been issued in violation of federal or state securities laws, or both, and may be subject 

to rescission. In order to address this issue, we intend to make a rescission offer soon after 

the effective date of this offering to all holders of any outstanding options and shares 

subject to rescission, pursuant to which we will offer to repurchase these options and shares 

then outstanding from the holder. If our rescission offer is accepted by all offerees, we 

could be required to make an aggregate payment to the holders of these options and shares 

of up to approximately $25.9 million, which includes statutory interest. There are no 

assurances that we will not be subject to penalties or fines relating to these issuances. We 

believe our anticipated rescission offer could provide us with additional meritorious 

defenses against any future claims relating to these shares.” 


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Rule 701 and JOBS Act 

§501 of JOBS Act amended §12(g)(1)(A) of Exchange 

Act to increase “holder of record” threshold to 

2,000 persons, or 

500 persons who are not accredited investors 

BUT §502 of JOBS Act provides that employees who 

receive securities in an exempt offering, which would 

include a 701 offering, are excluded from both “holder of 

record” tests. 

If these provisions had been in effect, would Facebook 

have gone public? 


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June/July 2012 

Michael Krebs 





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Session 3 – June 27, 2012 


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Planning for an Initial Public Offering or IPO – 

Understanding the “gun jumping” rules 

What is a “WKSI”? How are the gun jumping rules different 

for a WKSI? 

What are the other categories of issuers under the Securities 

Act? How are the gun jumping rules different for them? 

How does the JOBS Act change the gun jumping rules? 

Civil and Criminal Liability under the Securities Act 


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Basic Principles Underlying the 



1. Every offer or sale of a security must be 

registered with the SEC under § 5 of the 

Securities Act, and 

2. In the registration statement (which 



be disclosed. 


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Planning for an IPO 

Restrictions on communications during 

“registration”? 

• When is a company deemed to be “in registration”? 

• What is an “offer”? 

• What is a “prospectus”? 

• What are the restrictions on company 

communications while it is in registration? 


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Section 5 Rubric 

Three distinct phases of “registration” 

Pre-Filing 

Waiting Period 

Post-Effective 

(c) 2012 Michael K. Krebs. All 

Rights Reserved.

Section 5 Rubric 

5(c) It is unlawful to offer to sell a “security” before a 

registration statement is on file with the SEC with 

respect to such transaction. 

5(b)(1) It is unlawful to make use of a prospectus relating to 

a transaction for which a registration statement has 

been filed unless the prospectus meets the 

requirements of 10(a). 

5(a) It is unlawful to sell a security unless a registration 

statement is “in effect” [i.e., has been declared 

effective] with respect to such transaction. 


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What constitutes an “offer”? 

The “Gun Jumping” Doctrine 

But first, some context! 


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Session 3 – What Can Be Done During 

“Registration”? 


Two years after its formation, BeanTown Biosystems’s prototype medical 

diagnostic device is receiving rave reviews in beta testing, and Biosystems 

launches a publicity campaign aimed at building market demand for its product 

and begins planning for the construction of a $75 million manufacturing facility 

that would allow Biosystems to meet anticipated demand for the diagnostic 

device and accelerate its ongoing research and development efforts. 

The Biosystems board approves the recommendation of the company’s four 

founders, Rachel, Monica, Phoebe and Emma, that should Biosystems should 

“go public” by selling $100 million of common stock in an underwritten 

offering and use the proceeds to fund its manufacturing facility, to accelerate 

R&D, and to provide additional working capital for raw material and inventory. 

Might the marketing campaign create problems under the Securities Act for the 

proposed public offering if the campaign began 25 days before the registration 

statement was filed? What if it began 45 days before? 


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Study Problem 3.1 — Pre Dec. 1, ’05 Analysis 

Biosystems will likely be considered to be in the “pre-filing” stage of a 

“registration,” because its board has determined to sell securities in a 

registered offering (even though the facts do not indicate whether it has 

selected a lead underwriter), but it has not filed a registrations statement. 

So, Section 5(c) applies. 

Whether the marketing campaign constitutes an “offer” in violation of 

Section 5(c) depends upon how the campaign is conducted. 

Biosystems should not engage in conduct that conditions the market (i.e., 

arouses public interest in the company or the securities of the company) 

by initiating publicity when in registration, but it may continue to 

advertise products and services. 

For pre-December 1, 2005 analysis, See Securities Act Release No. 5180 

(August 16, 1971). 


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Study Problem 3.1 — Pre-Dec. 1 ’05 Analysis 

Ordinary and customary advertisements aimed at 

building market demand for Biosystems’s product 

would not likely violate Section 5. 

By comparison, forward-looking valuation information 

– especially a prediction, projection, forecast, estimate 

or opinion concerning, among other things, sales and 

earnings and value of Biosystem’s securities – may be 

considered to be conditioning the market, and therefore 

deemed to be an “offer” in violation of Section 5(c). 


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Session 3 –What Can Be Done During 



Same facts as Study Problem 3.1. 

To coincide with the most important annual trade show in the medical device 

industry that will begin around the time Biosystems plans to file its IPO registration 

statement, Biosystems dramatically steps up its marketing campaign, extolling what 

it characterizes as the “revolutionary” virtues of the diagnostic device. 

Contemporaneously, the four founders give extensive interviews with various 

technology and business magazines covering the trade show. 

Might Biosystems’s trade show-related activity create problems under the Securities 

Act for the proposed public offering if the trade show activity occurs after 

Biosystems chooses its lead underwriter but before it files its IPO registration 

statement? 

What if the interviews were given 35 days before Biosystems files its registration 

statement but published only 5 days before the registration statement was filed? 

What if the trade show occurred, or the interviews were published, after the 

registration statement was filed but before it was declared effective? 


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Study Problem 3.2 — Pre-Dec. 1, ’05 Analysis 

Whether the trade-show activity violates 

Section 5 depends upon how and when it is 

conducted. 

If trade-show activity occurred before S-1 

filing, Biosystems must be concerned about 

whether its activities may be conditioning the 

market for its IPO, and thus constitute a prefiling 

“offer” in violation of Section 5(c). 


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As regards trade show appearances and interviews published 

after the registration statement is filed, Biosystems must consider 

whether any statement made or material distributed in 

connection with the trade show, including any article that results 

from the interviews, may be deemed to be a “prospectus.” 

See Rule 134 (for post-filing, non-prospectus 

communications) 

See Google Inc. August 18, 2004 Prospectus: “Risk Factors – 

Risks Related to Our Offering” (1st paragraph) (p. 21); and 

See Excerpt from Lexar Media, Inc.'s August 18, 2000 Post 

Effective Amendment (Risk of Illegal Prospectus) 


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Statements about future possibilities of the company 

may be deemed a prospectus that does not satisfy the 

requirements of Section 10. 

Important facts are that Biosystems 

“dramatically” increased its marketing campaign 

and characterized its product as “revolutionary”. 


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Session 3 – What Can Be Done During Registration”? 


(Applying 2005 Offering Reforms) 

Two years after its formation . . . Biosystems launches a publicity 

campaign aimed at building market demand for its product and 

begins planning for the construction of a $75 million 

manufacturing facility . . . . 

The Biosystems board approves the recommendation of the 

company’s four founders . . . that should Biosystems “go public”. 

. . 

Might the marketing campaign create problems under the 

Securities Act for the proposed public offering if the campaign 

began 25 days before the registration statement was filed? What 

if it began 45 days before? 


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Study Problem 3.1 — Post Dec. 1, ’05 Analysis 

Effective December 1, 2005, the SEC’s “Offering Reform” 

Regulations (the “2005 Offering Reforms”) provide a “safe 

harbor” regarding pre-registration publicity 

The 2005 Offering Reforms involve three main areas: 

Communications related to registered securities offerings; 

Registration and other procedures in the offering and 

capital formation processes; and 

Delivery of information to investors, including delivery 

through access and notice, and timeliness of that delivery. 


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Session 3 – What Can Be Done During “Registration”? 


Under Rule 163A, communications of any type by all issuers 

more than 30 days prior to filing a registration statement are 

not considered prohibited “gun-jumping” offers but only if 

the communication does not reference a registered securities 

offering, and 

reasonable steps are taken to prevent distribution or 

republication of the communication during the 30-day period 

prior to filing the registration statement. 

Such communications are excluded from the definition of “offer” 

for purposes of Section 5(c). 

NB. Rule 163A is a non-exclusive safe harbor. 


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For example, an IPO issuer may participate in industry 

conferences and similar events held more than 30 days before 

filing of the registration statement without gun-jumping 

concerns, so long as no registered securities offering is 

discussed. 

BUT safe harbor is available only to issuer and persons acting 

on behalf of an issuer. 

Safe harbor is not available to underwriters or dealers. Thus, it 

is not available to assist underwriters or dealers in testing the 

waters for the offering. 


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(Applying 2005 Offering Reforms) 

To coincide with the most important annual trade show in the medical device industry 

that will begin around the time of the S-1 filing, BeanTown Biosystems dramatically 

steps up its marketing campaign, extolling what it characterizes as the “revolutionary” 

virtues of the diagnostic device, and the four founders give extensive interviews with 

various technology and business magazines covering the trade show. 

Might Biosystems’s trade show-related activity create problems under the Securities 

Act for the proposed public offering if the trade show activity occurred after 

Biosystems chose its lead underwriter but before it filed its registration statement? 

What if the interviews were given 35 days before Biosystems files its registration 

statement but published only 5 days before the registration statement was filed? 

What if the trade show occurred, or the interviews were published, after the 

registration statement was filed but before it was declared effective? 


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What if the interviews were given 35 days before 

Biosystems files its registration statement but published 

only 5 days before the registration statement was filed? 

Under 2005 Offering Reforms, during the 30 days 

before the registration statement is filed, the IPO issuer 

will be in a “quiet period.” 

However, as was the case prior to the 2005 Offering 

Reforms, the issuer is permitted to make a very limited 

announcement of its intention to conduct a registered 

offering of securities, without naming any underwriters. 

Rule 135. 


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In addition, in reliance on the non-exclusive safe harbor under Rule 169, 

IPO issuers may continue publishing, during 30-day quiet period and at any 

other time during the offering, factual business information intended to 

be used by persons other than in their capacity as investors or potential 

investors. 

Fact that a customer or other person to whom a factual business 

communication is made may be a potential investor does not affect the 

availability of the safe harbor. 

The manner and timing of the communication must be similar to the 

issuer’s historic practice. 

The same issuer employees who have historically been responsible for 

providing information to customers and suppliers must make the 

communications for which safe harbor protection is sought. 


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Even if the safe harbor in Rule 169 is not available, the issuer 

retains the ability available prior to the 2005 Reforms to rely on a 

facts and circumstances analysis in addressing the question of 

whether a communication is an offer. 

The safe harbor for factual business information excludes 

information released as part of the offering activities in the 

registered offering. 

For example, the safe harbor is not available for a copy of a 

prior press release that originally had been regularly released 

in accordance with the safe harbor but later is specifically 

provided to investors or potential investors as part of offering 

activities. 


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June 30, 2010 – Forbes Magazine reported: 

In January 2010, General Motors Vice Chairman Bob Lutz told Forbes that a 

2010 IPO was a possibility, but only after a laundry list of criteria were checked 

off, including turning a profit, generating solid cash flow and having a 

compelling story to tell investors. 

August 5, 2010 – Bloomberg Businessweek reported: 

The White House’s senior advisor to the Task Force on the Auto Industry said 

that he believed it was likely that General Motors would have an initial public 

offering sometime in 2010 . . . . [The U.S. government then owned a majority 

interest in GM.] 

Ron Bloom, speaking at an auto industry conference . . . said the U.S. 

government would unwind its stakes in the automakers “as soon as is 

practicable,” echoing a comment made by President Obama. 

Do the comments of Mr. Lutz or Mr. Bloom raise any issue under the Securities Act? 


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On August 16, 2010 – Bloomberg reported: 

Wall Street banks led by JPMorgan Chase & Co. and Morgan Stanley stand to make 

a combined $120 million on General Motors Co.’s initial public offering. If it 

weren’t for Goldman Sachs Group Inc., they could have made four times as much. 

In a pitch to the U.S. Treasury in May, Goldman Sachs offered to accept a fee of 

0.75 percent, according to people with direct knowledge of the matter. That’s a 

fraction of the 3 percent banks typically charge on the largest IPOs and well below 

the 2 percent offered by Bank of America Corp. and other banks that presented to 

Treasury, said the people, speaking anonymously because the matter is private. 

GM filed the registration statement for its IPO on August 18, 2010. 

Does the reporting on the proposed underwriting terms for the expected GM IPO raise 

any issue under the Securities Act? 


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What is a “WKSI”? How are the gun jumping rules 

different for a WKSI? 

What are the other categories of issuers under the Securities 

Act? How are the gun jumping rules different for them? 

How did the JOBS Act change the gun jumping rules? 



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How are the rules different 

for a WKSI? 

An extremely important aspect of the SEC’s 

2005 Offering Reforms was the introduction 

of special class of issuers designated: 

“Well known seasoned issuers” or “WKSIs” 


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for a WKSI? 

What is a “WKSI”? - See Rule 405 

Meets all requirements of General Instruction I.A. 

of Form S–3 or Form F–3 [see subsequent slide] 

and either: 

(1) As of a date within 60 days of “determination 

date,” has a worldwide market value of its 

outstanding voting and non-voting common equity 

held by non-affiliates of $700 million or more; or 


All Rights Reserved


for a WKSI? 

What is a “WKSI”? - See Rule 405 

Alternative Test: 

(2) As of a date within 60 days of determination 

date, has issued in the last three years at least 

$1 billion aggregate principal amount of nonconvertible 

securities, other than common equity, 

in primary offerings for cash registered under the 

Act 


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WSKI S-3 Eligibility 

Why does S-3 eligibility matter? 

What is the public policy rationale for 

treating WKSIs differently? 


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WSKI S-3 Eligibility 

General Instruction I.A. of Form S–3 requires: 

1. Registrant is organized under laws of U.S. or any 

state, etc. and has its principal business operations in 

U.S. or its territories. 

2. Registrant has a class of securities registered pursuant 

to Section 12(b) of the Exchange Act or a class of 

equity securities registered pursuant to Section 12(g) 

of the Exchange Act or is required to file reports 

pursuant to Section 15(d) of the Exchange Act. 


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WSKI S-3 Eligibility (cont’d) 

3. Registrant has been subject to the requirements of Section 

12 or 15(d) of the Exchange Act and has filed all the 

material required to be filed pursuant to Section 13, 14 or 

15(d) for a period of at least twelve calendar months 

immediately preceding the filing of the registration 

statement. 

4. Registrant has filed in a timely manner all reports 

required to be filed during the twelve calendar months 

and any portion of a month immediately preceding 

filing of registration statement, other than certain 8-K 

filings. 


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WSKI S-3 Eligibility (cont’d) 

5. Neither the registrant nor any of its consolidated or 

unconsolidated subsidiaries has, since the end of the last 

fiscal year for which certified financial statements of the 

registrant and its consolidated subsidiaries were included 

in a report filed pursuant to Section 13(a) or 15(d) of the 

Exchange Act: (a) failed to pay any dividend or sinking 

fund installment on preferred stock; or (b) defaulted (i) 

on any installment or installments on indebtedness for 

borrowed money, or (ii) on any rental on one or more 

long term leases, which defaults in the aggregate are 

material to the financial position of the registrant. 


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for a WKSI? 

Section 5 framework for WKSIs 

WKSI may file “automatic shelf registration 

statement” on Form S–3 or Form F–3. 

Rule 405 

Automatic shelf registration statement is 

immediately effective upon filing with the 

SEC. Rule 462(e) 


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for a WKSI? 

Gun jumping rules do not apply to WKSIs! 

Rule 163: 

In an offering by or on behalf of WKSI that will be 

or is at the time intended to be registered under the 

Securities Act, an offer by or on behalf of such 

issuer is exempt from the prohibitions in § 5(c) 

on offers before a registration statement has been 

filed, provided conditions of Rule 163 are satisfied. 


All Rights Reserved




What is a “WKSI”? How are the gun jumping rules different 

for a WKSI? 

What are the other categories of issuers under the 

Securities Act? How are the gun jumping rules 

different for them? 

How did the JOBS Act change the gun jumping rules? 



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Other Categories of Issuers 

under Securities Act 

Four basic categories of issuers (prior to JOBS Act): 

1. WKSIs 

2. Issuers that are not WKSIs but still file periodic reports 

(10-Ks, 10-Qs, 8-Ks) with the SEC under the Exchange 

Act, usually because the issuer previously conducted a 

public offering of securities or has securities listed on an 

exchange; 

3. Foreign private issuers (which may also qualify as 

WKSIs); and 

4. Issuers that do not file periodic reports with the SEC. 


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Another Category of Issuers – 

Emerging Growth Company 

JOBS Act adds a fifth over-arching category: 

The "emerging growth company" is able to take 

advantage of new scaled disclosure, governance and 

accounting requirements. 

An "emerging growth company" (EGC) is an issuer 

that, for its most recently completed fiscal year, had 

total annual gross revenues of less than $1 billion. 


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Emerging Growth Companies 

An issuer's status as an EGC will continue until the earliest of the 

following: 

The last day of the issuer's fiscal year during which its gross 

revenues ≥ $1 billion; 

The last day of the issuer's fiscal year following the fifth 

anniversary of its IPO; 

The date on which the issuer has, during the previous three-year 

period, issued > $1 billion in non-convertible debt; or 

The date on which the issuer is deemed to be a "large accelerated 

filer," which generally is comparable to a WKSI. 


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How are gun jumping rules different for 

“reporting companies” that are not 

WKSIs? 

For non-WKSI reporting companies and 

certain foreign private issuers: 

Rule 168 permits the regular release or 

dissemination of communications containing 

factual business information or forwardlooking 

information, if the other conditions of 

Rule 168 are satisfied. 


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What is a Foreign Private Issuer? 

A foreign issuer (other than a foreign government) except an issuer 

meeting the following conditions: 

(i) > 50 percent of the outstanding voting securities of such issuer are 

directly or indirectly owned of record by residents of the United 

States; and 

(ii) Any of the following: 

(A) Majority of issuer’s executive officers or directors are U.S. 

citizens or residents; 

(B) >50 percent of issuer’s assets are located in U.S.; or 

(C) The issuer’s business is administered principally in U.S.. 


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Effective in January 2008, the SEC amended 

the eligibility requirements for the use of Form 

S-3 and Form F-3 registration statements. 

Previously, an issuer could use S-3 only if it 

had a “float” of $75 million or more. (The 

term “float” means the aggregate market value 

of the voting and non-voting common equity 

held by non-affiliates of the issuer.) 


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Current S-3 Eligibility: If Float ≥ $75 million 

If issuer has a “float” of $75 million or more 

and satisfies other S-3 eligibility criteria: 

Issuer can sell an unlimited amount of 

securities under an S-3 registration statement. 


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Current S-3 Eligibility: If Float < $75 million 

If issuer has a “float” of less than $75 million, the issuer 

can use S-3 if the issuer: 

1. Satisfies the other S-3 eligibility criteria; 

2. Has a class of common equity securities listed on a 

national securities exchange; and 

3. Does not sell more than the equivalent of one-third 

of its public float in primary offerings over any 

period of 12 calendar months. 


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How are gun jumping rules different for 

EGCs after the JOBS Act? 

“Test the Waters” Communications 

During the quiet period, non-WKSIs that meet 

the criteria for EGCs may discuss a possible 

offering of securities to institutions that are 

accredited investors (which includes Qualified 

Institutional Buyers or “QIBs”). 

Communications may occur prior to or after 

filing a registration statement 


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EGCs – “Test the Waters” Communications 

The JOBS Act added Section 5(d): 

An ECG or any person authorized to act on behalf of 

an ECG may engage in oral or written 

communications with potential investors that are 

qualified institutional buyers or institutions that are 

accredited investors, to determine whether such 

investors might have an interest in a contemplated 

securities offering, either prior to or following the date 

of filing of a registration statement, subject to the 

requirement of Section 5(b)(2). 


All Rights Reserved


Overview of Restrictions on Communications 

The following is a summary of the restrictions on 

communications while an issuer is “in registration:” 

1. Well-known seasoned issuers (“WKSIs”) are permitted to 

engage at any time in oral and written communications, 

including use at any time of a free writing prospectus, 

subject to enumerated conditions (including, in specified 

cases, filing with SEC). 

2. All reporting issuers are permitted, at any time, to continue 

to publish regularly released factual business information 

and forward-looking information under Rule 168. 


All Rights Reserved



3. Non-reporting issuers are permitted, at any time, to 

continue to publish regularly released factual business 

information that is intended for use by persons other than 

in their capacity as investors or potential investors under 

new Rule 169. 

4. ECGs are permitted to engage in “test the water” 

communications with QIBs and institutional accredited 

investors per new §5(d) 


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5. Other communications by non-WKSI issuers (i.e., 

communications not sanctioned by new §5(d) ) made 

more than 30 days before filing a registration statement 

are not prohibited offers so long as they do not reference 

a securities offering that is or will be the subject of a 

registration statement. 

6. All issuers and offering participants are permitted to use 

“free writing prospectuses” after the filing of the 

registration statement, subject to enumerated conditions 

(including, in specified cases, filing with SEC). 


All Rights Reserved



7. Procedural matters, such as communications about the 

schedule for an offering or about account-opening 

procedures, are excluded from the definition of 

“prospectus.” 

8. Exemptions for research reports are expanded. Importantly, 

the JOBS Act amended the definition of “offer” in §2(3) to 

exclude broker-dealer research reports about any ECG. 


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More about research report exemption 

The JOBS Act amended the definition of “offer” in §2(3) to 

provide: 

The publication or distribution by a broker or dealer of a 

research report about an [ECG] that is the subject of a 

proposed public offering of the common equity securities of 

such [ECG] pursuant to a registration statement that the issuer 

proposes to file, or has filed, or that is effective shall be 

deemed for purposes of §2(10) and §5(c) not to constitute an 

offer for sale or offer to sell a security, even if the broker or 

dealer is participating or will participate in the registered 

offering of the securities of the issuer. 


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Planning for an Initial Public Offering or IPO 

What is a “WKSI”? How are these rules different for a 

WKSI? 

What are the other categories of issuers under the 


Civil and Criminal Liability under the Securities 

Act 


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The “Elephant in the Corner” – 

Liability under the Securities Act and 

How it Shape the Registration Statement 

• What typically gives rise to liability? Who may be liable? 

• What is the “due diligence defense,” when is it available, 

and who may assert it? 

• Who is a “control person” and when might they be 

vicariously liable for the acts of others? 

• What gives rise to aiding and abetting claims? How did 

Dodd-Frank change scope of “aiding and abetting” 

liability? 

• When is indemnification or contribution permitted? 


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What typically gives rise to 

liability? Who may be liable? 

Three principal types of civil liability 

under the Securities Act: 

1. Rescission rights under §12(a)(1) 

2. Strict liability for registration 

statements under §11. 

3. Prospectus liability under §12(a)(2) 


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Rescission rights under 


Strict liability: No scienter, reliance, causation 

Sales of unregistered securities; illegal offer 

Consideration paid (i.e., rescission) or damages if 

security previously sold 

Rescission right is effectively a “put” right 

1. Investor may recover only if in privity with person 

(i.e., “seller”) who violated §12(a)(1) BUT Pinter 

case defines seller broadly. 

2. Statute of limitations – three years. §13 


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Rescission rights under 


Persons liable: 

Party who passed title, or 

Any person who solicited the purchaser if 

person was motivated by 

his own financial interests or 

those of the securities owner 

Pinter v. Dahl 


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Strict liability under Section 11 

Strict liability for materially false or misleading 

statements in registration statement: 

Strict liability: Plaintiff does not have to prove 

Reliance (some exceptions) 

Scienter (some exceptions) 

Causation 

Joint and several liability 

Scope? 


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Section 11 Liability (cont’d) 

What statements are covered? 

Any materially false or misleading statement included 

(or deemed to be included) in an effective registration 

statement 

Includes definitive prospectus filed after registration 

statement is declared effective 

Does not include “free writing prospectus” (See SEC 

Rule 433(d)(1) – “The free writing prospectus filed 

for purposes of this section will not be filed as part of 

the registration statement . . . .”) 


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Section 11 Plaintiffs 

Who may sue under § 11: 

Anyone who purchased part of securities covered by 


Whether or not purchased in initial distribution or 

“after-market” 

But must be able to “trace” shares back to 


But not purchaser of shares outstanding prior to the 

offering (i.e., shares that can not be traced) 

Not sellers who were motivated by misleadingly 

pessimistic information in registration statement 


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Section 11 Defendants 

What categories of persons are 

subject to § 11 strict liability? 

What is the public policy rationale 

for exposing them to strict 

liability? 


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Section 11 Defendants 

Scope of joint and several liability: 

Issuer 

CEO, CFO, CAO 

Directors at time of filing (whether or not 

signatories to registration statement) 

All underwriters 

All experts who consent to inclusion of their 

opinion (but only as to information certified 

by expert) 


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Section 11 Defenses 

Due diligence 

Not for issuer; extremely limited for executive officers. 

Discussed in subsequent slides. 

Negative causation 

Defendant proves that plaintiff’s damages actually resulted 

from factors other than the materially false or misleading 

statement in the registration statement 

Statute of limitations 

One year after “discovery” of materially false or misleading 

statement BUT not later than three years after there is a bona 

fide offering of the security to the public in that transaction 


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Section 11 Defenses (cont’d) 

Outside director is proportionately liable 

Unless there is a finding that director knowingly 

violated the securities law §11(f)(2)(A) 

No liability for forward-looking statement 

For existing SEC reporting companies only 


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Section 11 Defenses (cont’d) 

Reliance must be shown if security purchased 

after issuer releases earnings report covering 

a period of at least twelve months beginning 

after the effective date of the registration 

statement – § 11(a) 

BUT investor need not actually have read the 

registration statement to prove reliance. It would 

be sufficient if investor relied on secondary 

sources that repeated the materially false or 

misleading statement 


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Section 11 Due Diligence Defense 

What is the “due diligence” defense? 

When is it available? 

Who may assert it? 

What is the public policy rationale for 

the defense? 


All Rights Reserved

Section 11 Due Diligence 

Defense (cont’d) 

Rule 176 (rather vague) 

Two leading cases: 

BarChris Construction (1968) 

WorldCom (2004) 


All Rights Reserved

BarChris 



The greater the involvement of a defendant, and the more 

senior the defendant’s position with the issuer, the more 

due diligence a court expects 

Underwriters conducting a due diligence investigation 

must obtain corroborating evidence and not rely merely on 

statements from the issuer’s executives or counsel 

“Trust, but verify.” (Russian proverb famously quoted by 

U.S. President Ronald Regan) 


All Rights Reserved

WorldCom 



1. What constitutes a red flag? 

Question of fact 

For example, any information causing an 

underwriter to lose confidence in the 

accuracy of any portion of a registration 

statement, including “expertized” audited 

financials. 


All Rights Reserved



WorldCom (cont’d) 

1. What constitutes a red flag? (cont’d) 

Deeper inquiry – including retention of 

accountants – may be warranted by discovery of 

“aggressive or unusual accounting strategies 

regarding significant issues.” 

In a competitive industry, any meaningful 

superiority of one company over another in any 

financial category could raise a red flag. 


All Rights Reserved




2. Must underwriters retain their own accounting 

experts to investigate the accuracy of financial 

statements? 

WorldCom opinion disclaims any such requirement, 

yet acknowledges that underwriters may wish to 

retain accountants as a matter of prudence. 

Underwriters may also, or alternatively, include on 

the due diligence team personnel with accounting 

backgrounds. 


All Rights Reserved




3. “Comfort letter” insufficient by itself to 

establish a due diligence defense and thus 

will need supplementation. 

Consider: if that supplementation is effectively 

a mini-audit, conducted on a quarterly basis, 

then the mini-audit may simply supplant, rather 

than supplement, the comfort letter. 


All Rights Reserved




4. How can underwriters document their 

diligence? 

If you are an underwriter, you want the 

document to memorialize beyond doubt 

that you participated fully in all phases of 

diligence. 


All Rights Reserved




5. Nature of Due Diligence Calls, Especially 

in Shelf Registration Context 

WorldCom court excoriated the underwriters 

for asking too few and too general questions, 

for passively accepting conclusory and nonresponsive 

answers, and for failing to ask 

tough follow-up questions. 


All Rights Reserved




6. After WorldCom, how should co-managing 

underwriters (i.e., non-lead underwriters) 

participate in diligence? 

Until WorldCom, non-lead members of underwriting 

syndicate often did not participate in diligence and 

simply relied on diligence performed by the lead. 

Post-WorldCom, the non-lead underwriter who remains 

uninvolved in the diligence investigation – for example, 

by relying on the lead, who in turn relies on the auditor – 

has a double risk of losing its diligence defense. 


All Rights Reserved

What about Section 12(a)(2)? 

Establishes liability for: 

An offer/sale of a security by means of a 

prospectus or oral communication, which 

includes a materially false or misleading 

statement of a material fact, if the defendant does 

not sustain the burden of proof that he did not 

know, and in the exercise of reasonable care 

could not have known, of such untruth or 

omission 


All Rights Reserved

Was Gustafson v. Alloyd Co. 

correctly decided? 

According to the dissent in Gustafson: 

Commentators writing shortly after passage of the Securities Act understood §12(2) 

to cover resales and private sales, as well as public offerings. Felix Frankfurter, 

organizer of the team that drafted the statute, firmly stated this view: The Securities 

Act “seeks to terminate the facilities of the mails and of interstate commerce for 

dishonest or unfair dealings in the sale of all private or foreign government 

securities, new or old” (emphasis added). 

Most subsequent commentators have agreed that §12(2), like §17(a), is not confined 

to public offerings. 

“Every Court of Appeals to consider the issue ruled that private placements are 

subject to §12(2).” See, e.g., Pacific Dunlop Holdings Inc. v. Allen & Co. Inc., 993 

F. 2d 578 (1993)(the inclusion of the term "communication" in the Act's definition 

of prospectus meant that the term prospectus was defined "very broadly" to include 

all written communications that offered the sale of a security). 


All Rights Reserved

Was Gustafson v. Alloyd Co. 

correctly decided? 

513 U.S. 561 (1995) – Majority: 

“In light of the care that Congress took to justify the imposition of liability 

without proof of either fraud or reliance on "those whose moral 

responsibility to the public is particularly heavy” – the "originators of 

securities“ – we can not conclude that Congress would have extended that 

liability to every private or secondary sale without a whisper of 

explanation.” 

“In sum, the word ‘prospectus’ is a term of art referring to a document 

that describes a public offering of securities by an issuer or controlling 

shareholder. The contract of sale, and its recitations, were not held out 

to the public and were not a prospectus as the term is used in the 1933 

Act.” 

Compare with 1985 Landreth Timber decision. 


All Rights Reserved

Gustafson v. Alloyd Co. (cont’d) 

Dissent (Ginsburg, with Breyer joining) : 

“The Court presents impressive policy reasons for its construction, but 

drafting history and the longstanding scholarly and judicial understanding of 

§12(2) caution against judicial resistance to the statute's defining text. I 

would leave any alteration to Congress.” 

“The House Conference Report, which explains the Act in its final form, 

describes §12(2) in broad terms, and nowhere suggests that the provision is 

limited to public offerings: 

‘The House bill (sec. 12) imposes civil liability for using the mails or the facilities of 

interstate commerce to sell securities (including securities exempt, under section 3, from 

other provisions of the bill) by means of representations which are untrue or are 

misleading by reason of omissions of material facts.’ 

“In light of the text, drafting history, and longstanding scholarly and judicial 

understanding of §12(2), I conclude that §12(2) applies to a private resale of 

securities.” 


All Rights Reserved

When might control persons be 

vicariously liable for acts of others? 

Affiliates = Control Persons 

See § 15 of Securities Act 

See p. 117 of Soderquist 


All Rights Reserved

“Aiding and Abetting” 

Liability under Securities Act 

Evolution of theories of liability for 

secondary parties (accountants, 

lawyers, etc.) 

Central Bank of Denver (1994) 

Stoneridge Investment Partners 

(2008) 

Pacific Investment Co. v. Mayer 

Brown LLP (7 th Cir. April 27, 2010) 


All Rights Reserved

“Aiding and Abetting” (cont’d) 

Central Bank of Denver (1994) 

Private plaintiff may not maintain aiding and 

abetting suit under Exchange Act 10(b) 

Per Supreme Court: 10(b) prohibits only 

making of a material misstatement (or 

omission) or commission of a manipulative 

act, and does not reach those who aid and abet 

a violation. 


All Rights Reserved


Stoneridge Investment Partners (2008) 

Vendors and customers could not be 

liable as primary actors under 10(b) 

under so-called “scheme” liability 

theory. 


All Rights Reserved


Pacific Investment Co. v. Mayer Brown LLP 

(7 th Cir. April 27, 2010) 

“After Stoneridge, it is somewhat unclear how . . . 

deceptive conduct of a secondary actor could be 

communicated to the public and yet remain 

‘deceptive.’ ” 

The mere fact that the ultimate result of a secondary 

actor's deceptive course of conduct is 

communicated to the public through a company's 

financial statements is insufficient to show reliance 

on the secondary actor's own deceptive conduct. 


All Rights Reserved


How did Dodd-Frank change the scope of 

liability for “aiding and abetting” claims? 

Dodd-Frank establishes a more modest 

“recklessness” standard of proof for SEC aiding 

and abetting claims. 

In 1995, Private Securities Litigation Reform 

Act gave SEC the right to bring claims for 

aiding and abetting violations of the Securities 

Exchange Act of 1934 but required “knowing” 

misconduct. 

©-2012 Michael K. Krebs 

All Rights Reserved


How did Dodd-Frank change the scope of 

liability for “aiding and abetting” claims? 

(cont’d) 

Since PSLRA was passed, several courts have held 

that actual knowledge must be shown for aiding and 

abetting liability, and that recklessness is 

insufficient. 

With passage of Dodd-Frank Act, mere 

“recklessness” will be sufficient to establish the 

requisite state of mind for SEC aiding and abetting 

claims. 


All Rights Reserved

Indemnification or Contribution 


SEC position against indemnification 


All Rights Reserved



SEC requires the following statement in each 

registration statement filed under the ’33 Act: 

“Insofar as indemnification for liabilities arising 

under the Securities Act of 1933 may be 

permitted to directors, officers and controlling 

persons of the registrant . . . , the registrant has 

been advised that in the opinion of the Securities 

and Exchange Commission such indemnification 

is against public policy as expressed in the Act 

and is, therefore, unenforceable. “ 


All Rights Reserved



SEC position against indemnification (cont’d) 

“In the event that a claim for indemnification against such 

liabilities (other than the payment by the registrant of 

expenses incurred or paid by a director, officer or 

controlling person of the registrant in the successful 

defense of any action, suit or proceeding) is asserted . . . in 

connection with the securities being registered, the 

registrant will, unless in the opinion of its counsel the 

matter has been settled by controlling precedent, submit to 

a court of appropriate jurisdiction the question whether 

such indemnification by it is against public policy as 

expressed in the Act and will be governed by the final 

adjudication of such issue.” 


All Rights Reserved

Criminal Liability 

Under the Securities Act 

Criminal liability -- 

24: 

What constitutes willfulness? 


All Rights Reserved

Litigation concerning violations 

of law in IPOs of late ’90s 

Please note: 

The following slides regarding the 

so-call “Initial Public Offering 

Securities Litigation” and related 

antitrust litigation are optional 

background material. 



Litigation concerning violations 

of law in IPOs of late ’90s 

During the dot-com boom of the late 1990s, the stock of 

many technology and telecommunications companies 

were publicly launched in high-stakes IPOs. 

The so-call “Initial Public Offering Securities 

Litigation” consisted of 309 class actions filed 

throughout 2001, involving more than 300 IPOs 

marketed between 1998 and 2000. The cases were 

coordinated before U.S. District Court Judge Shira A. 

Scheindlin in the Southern District of New York. 

The case is formally known as “In re Initial Public 

Offering Securities Litigation.” 


All Rights Reserved

IPO Securities Litigation 

(cont’d) 

Plaintiffs: investors who purchased high-tech 

companies’ stock in after-market of IPOs 

Defendants: 55 IPO underwriters, 300 issuing 

companies, individual company directors and 

officers 

Alleged misconduct 

Tie-in agreements/laddering 

Undisclosed Compensation 

Improper use of analysts to inflate stock prices 

& analyst conflicts of interest 


All Rights Reserved


(cont’d) 

Specifically, plaintiff alleged three fraudulent 

devices used by the underwriters. 

First, they allege that the underwriters 

conditioned allocations of shares at the offer 

price on agreements to purchase shares in the 

aftermarket (the "Tie-in Agreements"). 


All Rights Reserved


(cont’d) 

Specifically, plaintiff alleged three fraudulent devices used 

by the underwriters. 

Second, they allege that the underwriters also required 

customers who received allocations of shares at the 

offer price to pay three forms of "Undisclosed 

Compensation" to the underwriters: (1) paying inflated 

brokerage commissions, (2) paying commissions on 

churned transactions in unrelated securities, and (3) 

purchasing other unwanted securities from the 

underwriters. 


All Rights Reserved


(cont’d) 

Specifically, plaintiff alleged three fraudulent devices used by the 

underwriters. 

Third, Plaintiffs allege that underwriters used their analysts 

in several improper ways: (1) setting unrealistic price targets, 

(2) promising a "hot" analyst to an issuer in exchange for 

underwriting the IPO, (3) tying analyst compensation to 

performance of the investment banking division, (4) allowing 

analysts to own shares of stocks they were touting, and (5) 

failing to disclose these conflicts of interest. 

Plaintiffs also alleged that underwriters facilitated receipt of 

quick profits by insiders of defendant issuers and that the 

issuers "participated in and benefitted from" the underwriters' 

misconduct. 


All Rights Reserved


Alleged Securities Law Violations 

Section 11 of the Securities Act 

Failure to disclose tie-in agreements and compensation 

arrangements in the registration statement 

Derivative liability under §15 for directors 

Section 10(b) of the Exchange Act 

Engaging in manipulative or deceptive practices as part 

of a scheme to defraud investors 

False or misleading statements concerning publicly 

traded securities 

Derivative liability under §20(a) for directors 


All Rights Reserved


Refusal to Certify Plaintiffs as a Class 

In October 2004, Judge Scheindlin issued an 

order granting in part and denying in part the 

Plaintiffs' motions for class certification in the 

six focus cases. 

On appeal, the Second Circuit reversed, denying 

class certification. Miles v. Merrill Lynch & Co. 

(In re Initial Public Offering Securities 

Litigation), 471 F.3d 24 (2d Cir. 2006) 


All Rights Reserved


Refusal to Certify Plaintiffs as a Class 

Individual questions predominated over 

common questions as to: 

Reliance on misrepresentations 

Class could not rely on fraud-on-the-market doctrine 

because market for IPO shares is not efficient 

Knowledge of the misrepresentations 

Exclusion from class based on payment of 

undisclosed compensation to underwriter 


All Rights Reserved


2009 Settlement 

After a long period of mediation the 

parties reached a $586 million cash 

settlement. 

Investment banks and issuers denied 

wrongdoing. 

Important: FINRA Rule 5131 now 

prohibits certain preferential 

allocations of “new issues” 


All Rights Reserved

Please note: 

IPO Antitrust Case 

The following slides regarding the 

related antitrust litigation are 

optional background material. 



Related Antitrust Case 

Contemporaneously with the In re Initial Public 

Offering Litigation, another putative (i.e., 

proposed) class action was filed in the U.S. 

District Court for the Southern District of New 

York by investors who purchased shares of 

stock in certain technology related companies 

through IPOs or in the aftermarket immediately 

following IPOs during the late 1990s. 


All Rights Reserved

Related Antitrust Case 

The complaint charged ten investment banks, 

including Morgan Stanley, Goldman Sachs, 

Lehman Brothers, Credit Suisse First Boston, 

and JPMorgan Chase, along with a number of 

institutional investors, with conspiring illegally 

to artificially inflate the aftermarket prices of 

some 900 internet and technology stocks sold in 

those IPOs. 

The plaintiffs sought treble (i.e., triple) damages 

under federal antitrust laws. 


All Rights Reserved

Alleged Antitrust Law 

Violations 

Sherman Act, Clayton Act and Robinson-Patman 

Act 

Unlawful agreement by underwriters to refuse to 

sell shares unless investors agreed to: 

Buy additional shares at escalating prices 

Pay high commissions on subsequent purchases 

Purchase other less desirable securities from 

underwriter 


All Rights Reserved

U.S. Supreme Court Rules 

Securities Laws Preclude Antitrust 

Claims 

In June 2007, the U.S. Supreme Court ruled in 

Credit Suisse First Boston v. Glen Billing (“IPO 

Antitrust Litigation”) that certain long-standing 

securities industry practices in the issuance of 

IPOs are impliedly immune from antitrust 

challenges on the ground that the regulation of 

such conduct is within the sole purview of the 

securities laws and the SEC. 


All Rights Reserved



Claims 

The Court ruled that no antitrust liability could arise 

from: 

(1) “laddering” agreements whereby investors 

were required to promise to place bids in the aftermarket 

at prices above the IPO price; 

(2) “tying” arrangements whereby investors 

commit to purchase other, less attractive securities; and 

(3) other allegedly excessive commissions, 

including for the purchase of an issuer’s shares in 

follow-up or secondary public offerings (for which the 

underwriters would earn underwriting discounts). 


All Rights Reserved



Claims 

Court looked at 4 factors in determining “clear 

repugnancy” between antitrust laws and securities law: 

Efforts to jointly sell and market IPO securities is central to 

functioning of well-regulated market 

SEC maintained authority to enforce all challenged activity 

Evidence that SEC actively exercised that authority 

Fine line separating permissible from impermissible activity 

best drawn by those with expertise in securities 


All Rights Reserved





June/July 2012 

Michael Krebs 





All Rights Reserved





Session 4 

July 25, 2013


How does a company register its IPO? 



2

Case Studies 

LinkedIn – November 16, 2011 IPO 

Facebook – May 17, 2012 IPO 

bluebird bio, Inc. – June 24, 2013 IPO 

Noodles & Company – June 28, 2013 IPO 

Grana y Montero Corp. – July 24, 2013 IPO 



3

Basic Principles Underlying the 






2. In the registration statement (which includes 

the prospectus), all information regarding 

the issuer and the security that is material to 

that investment decision must be disclosed.

Understanding SEC 

Disclosure Regime for IPOs 

How did Facebook and the other case 

study companies know what to 

disclose in their IPO registration 

statement? 



5



What disclosure does the Securities 

Act itself specify? 



6



Not Important: 

§ 7 and Schedule A of the Securities Act 

EXCEPT: See § 7(a)(2) regarding financial 

statements 



7



Very Important: 

SEC Form S-1 (or F-1) 

SEC Regulation S-K 

SEC Regulation S-X 

SEC “Industry Guides” (if applicable) 

SEC Regulation C (Rules 400 et seq.) 



8



Regulation C (Rules 400 et seq.), especially: 

Rule 421(d) (“plain English” rules) 

Rule 408 (additional material information) 

Rule 418 (SEC authority to request 

“supplemental” information) 



9



But first, some context! 

Prior to JOBS Act 



10

Session 4 

Life Cycle of a Typical IPO 

1. Company tentatively decides to raise capital 

2. Company, after consultation with counsel, 

concludes than none of the exemptions from § 5 

registration will likely be available 

3. Company counsel advises management regarding 

compliance with “gun jumping” rules 



11

Session 4 

Life Cycle of a Typical IPO 

4. Company contacts one or more investment 

banking firms to ascertain interest in acting as 

managing underwriter or co-managing 

underwriter in public offering 

5. Company selects one or more managing 

underwriters and may issue press release, 

especially if company is publicly traded. 



12

Session 4 

Life Cycle of a Typical IPO (cont’d) 

6. Managing underwriter, underwriter’s counsel and company 

counsel conduct due diligence review of company’s 

business, financial condition, results of operations, and 

prospects, including interviews with senior management 

7. Company and company counsel prepare registration 

statement (including underlying prospectus) in collaboration 

with managing underwriter, underwriter’s counsel 

NB. Company’s independent accountants are involved 

but typically keep their distance from the prospectus 

drafting but review in connection with their “comfort 

letter” due diligence 



13

Session 4 


8. Managing underwriter has preliminary discussions with other 

members of underwriting “syndicate” (those underwriters who 

will be parties to the underwriting agreement and therefore in 

“privity” of contract with the company) 

Prior to JOBS Act, underwriters did NOT have discussions 

at this stage with “dealers” who often will purchase stock 

directly from the underwriters in the offering 

NB. JOBS Act – namely, §5(d) – allows written or oral 

“test the waters” communications with “qualified 

institutional buyers [QIBs] or institutions that are 

accredited investors” 



14

Session 4 


9. Managing underwriter has preliminary discussions with 

company’s independent registered public accounting firm 

regarding scope of “comfort” letter that accounting firm will 

provide with respect to financial data in prospectus that is derived 

from company’s financial statements. The comfort letter will be a 

part of due diligence defense for §11 and §12(a)(2) purposes. 

10. Company files registration statement with SEC electronically 

via EDGAR system. The registration statement includes a 

“delaying amendment.” More about that later. 

11. Company typically issues a press release. If so, the Company 

likely would uses the safe harbor in Rule 134, so press release is 

not a prospectus 



15

Session 4 


12. The SEC’s Division of Corporation Finance (or “Corp 

Fin”) reviews all IPO registration statements. Corp Fin 

assigns accounting and non-accounting reviewers from 

one of 12 Offices organized by industry. (In a non-IPO, 

Corp Fin makes a threshold decision whether to review 

registration statement.) See 

http://sec.gov/divisions/corpfin/cffilingreview.htm for the 

SEC’s summary of the review process. 



16

Session 4 


13. The lead non-accountant Corp Fin reviewer assigned to 

the registration statement contacts Company counsel. In 

the case of a non-IPO registration, Corp Fin will inform 

Company counsel whether registration statement is being 

reviewed and, if so, which of the three levels of review the 

registration statement will receive: 

Full Review – a “cover-to-cover” review of the registration 

statement in which the staff will examine the entire filing 

(including exhibits) for compliance with the applicable 

disclosure requirements of the federal securities laws and 

regulations – all IPO registration statements receive full 

review; 



17

Session 4 


Financial Statement Review – The staff will examine 

the financial statements and related disclosure, such as 

MD&A, for compliance with the applicable accounting 

standards and SEC disclosure requirements; or 

Targeted Review – The staff will examine the filing 

for one or more specific items of disclosure for 

compliance with the applicable accounting standards 

and/or other disclosure requirements. 



18

Session 4 


14. In the case of an IPO registration statement, or a non-IPO registration 

receiving a “full review,” the first round of staff comments likely will 

be received within 30 to 40 days of initial filing. 

15. During waiting period, underwriters begin to contact dealers and 

customers. NB. JOBS Act allows discussions with QIBs and 

institutions that are accredited investors 

16. Company receives comments from SEC staff regarding registration 

statement 

17. Company and company counsel revise registration statement 

(including underlying prospectus) in collaboration with managing 

underwriter, underwriter’s counsel and company’s independent 

accountants 

18. Company files amendment to registration statement 



19

Session 4 


19. Company receives one or more additional rounds of comments 

from SEC regarding registration statement 

20. Steps 15 – 17 repeated, as necessary (often the Company will 

file multiple amendments) 

21. Company counsel and underwriter’s counsel negotiate form of 

underwriting agreement. NB. This often occurs before the 

initial registration filing. 

22. Underwriter’s counsel has detailed discussions with the 

company’s independent registered public accounting firm 

regarding the scope of “comfort” letter the accounting firm will 

provide when the offering closes. NB. This often occurs before 

the initial registration filing. 



20

Session 4 


23. Company and managing underwriters conclude that the 

Company has addressed all of the SEC staff’s substantive 

comments, the prospectus is in substantially final form, 

and SEC staff would be willing to cause the registration 

statement to be declared “effective” upon request. A 

Company typically will wait until the staff informs 

Company counsel that the staff “has no further 

comments.” 

24. Underwriters distribute “preliminary prospectus” (which 

is often referred to as a “red herring” because of the red 

“Subject to completion” legend on the cover page of the 

prospectus) 



21

Session 4 


25. Company (CEO and CFO) and managing underwriters 

go on “road show.” (Lawyers stay home.) 

26. Underwriters solicit offers to purchase from dealers and 

other prospective purchasers 

27. Managing underwriters obtain “lock-up” agreements 

from Company insiders, whereby the agree not to sell 

stock for a specified period after the effective date 

(typically 90 days to one year; in the Facebook IPO, 

the lock-up periods ranged from 91 days to 366 

days with 211 days Mr. Zuckerberg 



22

Session 4 


28. When managing underwriters believe the offering is 

sufficiently oversubscribed, the Company files “acceleration 

request” with SEC staff 

29. Company and managing underwriters have final discussions 

regarding offering price of securities. Per FINRA Rule 5131, 

book-running lead manager provides to issuer a report of 

indications of interest, including names of interested 

institutional investors and number of shares indicated by each, 

and a report of aggregate demand from retail investors. 

30. SEC declares registration statement effective 

31. Company and managing underwriters execute 

underwriting agreement 



23

Session 4 


32. Underwriters electronically send confirmations of orders 

to dealers and other purchaser with link to “final” 

prospectus, which includes pricing info (More about this 

later) 

33. Company files definitive prospectus under Rule 424(b) 

34. Closing or settlement usually occurs on the third business 

day after price (T+3) when underwriters receive funds from 

purchasers and deliver funds to company 



24

Session 4 


35. After IPO settlement date, book-running lead manager 

provides to issuer, per FINRA Rule 5131, a report of the 

final allocation of shares 

36. 2 business days before release of lock-up, the book-running 

lead manager must announce the impending release or 

waiver through a major news service. Per FINRA Rule 5131 



25

Session 4 

Life Cycle of A123 Systems, Inc. 

A very protracted IPO 

A123 Systems, Inc. designs, develops, manufactures and sells 

advanced, rechargeable lithium-ion batteries and battery 

systems. 

“Our batteries and battery systems provide a combination of 

power, safety and life that we believe no other commercially 

available battery provides.” 

“We believe that lithium-ion batteries will play an increasingly 

important role in facilitating a shift toward cleaner forms of 

energy. Using our innovative approach to materials science and 

battery engineering . . . , we have developed a broad family of 

high-power lithium-ion batteries and battery systems.” 



26

Timeline 

Session 4 

Life Cycle of A123 Systems IPO 

Filed registration statement in August ‘08 covering the 

offer and sale of approximately $175 million of common 

stock. 

Multiple amendments (3x) filed in fall ’08 

April 2009: Sells $70 million of equity in Rule 506 private 

placement 

June 2009: Files Amend. No. 4 to registration statement 



27

Timeline (cont’d) 

Session 4 

Life Cycle of A123 Systems, Inc. 

2009 IPO 

September 23, 2009: SEC issues an order granting confidential 

treatment for certain portions of exhibits filed with a registration 

statement 

September 23, 2009: SEC declares registration statement effective 

September 24, 2009: Files definitive prospectus under Rule 424(b) 

$380 million offering of common stock 

A123 Systems, Inc. offering 27,500,000 shares of common stock 

“Selling stockholders” identified in prospectus, which include 

members of senior management, offering an additional 680,501 

shares 



28



Now, back to case study issuers 



29



Disclosure regime vs. merit review

What did 

Noodles & Company Disclose? 

Noodles & Company’s definitive prospectus filed under Rule 424(b) 

contained the following statements: 

The Securities and Exchange Commission and state securities regulators have 

not approved or disapproved these securities, or determined if this prospectus 

is truthful or complete. Any representation to the contrary is a criminal 

offense. 

You should rely only on the information contained in this prospectus or in any 

free-writing prospectus we may authorize to be delivered or made available to 

you. We have not, and the underwriters have not, authorized anyone to 

provide you with additional or different information. * * * The information 

in this prospectus or any free-writing prospectus is accurate only as of its date, 

regardless of its time of delivery or of any sale of shares of our Class A 

common stock. Our business, financial condition, results of operations and 

prospects may have changed since that date. 



31

Session 4 – Understanding SEC 



Within a month after the BeanTown Biosystems board authorizes the 

IPO, Biosystems chooses the investment banking firm Morgan 

Stanley to serve as the lead underwriter, and Biosystems and its 

counsel begin to prepare the registration statement that Biosystems 

expects to file with the SEC within the next 30 days for a public 

offering of 10,000,000 shares at a estimated offering price of 

$10/share. 

Biosystems is incorporated in Delaware. Its principal office is in 

Massachusetts. 

What registration form would Biosystems file with the SEC for 

its IPO? 



32

Session 4 –Understanding SEC 


Study Problem 4.1 – Analysis 

What registration form would Biosystems file with 

the SEC? 

Form S-1 


All Rights Reserved

Session 4 –Understanding SEC 



Form S-1 is the “default” form for nongovernmental 

U.S. issuers: 

Eligibility Requirements for Use of Form S-1 

“This Form shall be used for the registration under the . 

. . Securities Act of securities of all registrants for 

which no other form is authorized or prescribed, except 

that this Form shall not be used for securities of foreign 

governments or political subdivisions thereof.” 


All Rights Reserved

Session 4 – Case Studies 


What registration form did the following 

issuers file? 

LinkedIn 

Facebook 

bluebird bio, Inc. 

Noodles & Company 

Grana y Montero Corp. 

(c) 2013 Michael K. Krebs All Rights 

Reserved 

35



How did Facebook know what to 

disclose in its IPO registration 

statement? 



36



Form S-1 Framework 

II. Application of General Rules and Regulations 

A. Attention is directed to the General Rules and Regulations under 

the Securities Act, particularly those comprising Regulation C. 

That Regulation contains general requirements regarding the 

preparation and filing of the registration statement. 

B. Attention is directed to Regulation S-K for the requirements 

applicable to the content of the non-financial statement portions 

of registration statements under the Securities Act. Where this 

Form directs the registrant to furnish information required by 

Regulation S-K and the item of Regulation S-K so provides, 

information need only be furnished to the extent appropriate. 



37



Form S-1 Framework (cont’d) 

Item 4. Use of Proceeds. 

Furnish the information required by Item 504 of 

Regulation S-K 

Item 6. Dilution. 

Furnish the information required by Item 506 of 




38



What is SEC Regulation S-K? 



39


Reg. S-K, Rule 10 – The “Rosetta Stone” 

Reg. S-K states the requirements applicable to the content of the nonfinancial 

statement portions of: 

1. Registration statements under the Securities Act to the extent 

provided in the forms to be used for registration under such Act; and 

2. Registration statements under Exchange Act (“EA”) Section 12, 

annual or other reports under EA Sections 13 and 15(d), goingprivate 

transaction statements under EA Section 13, tender offer 

statements under EA Sections 13 and 14, proxy and information 

statements under EA section 14, and any other documents required to 

be filed under the EA to the extent provided in the forms and rules 

under that Act. 



40


Example of Reg. S-K Disclosure Requirements: 

Item 504 -- Use of Proceeds 

State the principal purposes for which the net 

proceeds to the registrant from the securities to be 

offered are intended to be used and the approximate 

amount intended to be used for each such purpose. 

Where registrant has no current specific plan . . . so 

state and discuss the principal reasons for the offering. 



41

Don’t Forget Regulation C! 

For example, Rule 421(a) directs: 

The information required in a prospectus need not follow 

the order of the items or other requirements in the form. 

Such information shall not, however, be set forth in such 

fashion as to obscure any of the required information or 

any information necessary to keep the required 

information from being incomplete or misleading. Where 

an item requires information to be given in a prospectus in 

tabular form it shall be given in substantially the tabular 

form specified in the item. 



42

Regulation C (cont’d) 

In addition, Rule 408(a) specifies: 

“In addition to the information expressly required to be 

included in a registration statement, there shall be added 

such further material information, if any, as may be 

necessary to make the required statements, in the light of 

the circumstances under which they are made, not 

misleading.” 

Sound familiar? 



43

What did Facebook Disclose? 

USE OF PROCEEDS 

We estimate that our net proceeds from the sale of the Class A common stock . . 

. will be approximately $6.8 billion, or approximately $6.9 billion if the 

underwriters exercise in full their right to purchase additional shares to cover 

over-allotments, based on the initial public offering price of $38.00 per share, 

after deducting underwriting discounts and commissions and estimated offering 

expenses payable by us. 

The principal purposes of our initial public offering are to create a public market 

for our Class A common stock and thereby enable future access to the public 

equity markets by us and our employees, obtain additional capital, and facilitate 

an orderly distribution of shares for the selling stockholders. We intend to use 

the net proceeds to us from our initial public offering for working capital and 

other general corporate purposes; however, we do not currently have any 

specific uses of the net proceeds planned. * * * 



44

What did Facebook Disclose? 

USE OF PROCEEDS (continued) 

* * * Additionally, we may use a portion of the proceeds to us for 

acquisitions of complementary businesses, technologies, or other assets. 

However, we have no commitments to use the proceeds from this 

offering for any such acquisitions or investments at this time. 

Pending other uses, we intend to invest the proceeds to us in investmentgrade, 

interest-bearing securities * * * Our management will have 

broad discretion in the application of the net proceeds we receive from 

our initial public offering, and investors will be relying on the judgment 

of our management regarding the application of the net proceeds. 



45

What did bluebird bio 

Disclose? 


We estimate that the net proceeds from the sale of 5,941,176 shares of common 

stock in this offering will be approximately $90.9 million based on the initial public 

offering price of $17.00 per share, after deducting underwriting discounts and 

commissions and estimated offering expenses payable by us. * * * 

We are undertaking this offering in order to access the public capital markets and to 

increase our liquidity. We intend to use the net proceeds of this offering as follows: 

Approximately $11.8 million to fund direct research and development expenses for 

our ALD-102 Study, a Phase II/III clinical study of Lenti-D * * * 

The remainder for general and administrative expenses (including personnelrelated 

costs), potential future development programs, early-stage research and 

development, capital expenditures and working capital and other general corporate 

purposes. 



46

What did Noodles & 

Company Disclose? 


The net proceeds we receive from this offering will be approximately $87.0 

million based on the initial public offering price of $18.00 per share, after 

deducting the underwriting discounts and commissions and estimated offering 

expenses payable by us. If the underwriters' option to purchase additional shares 

in this offering from us is exercised, our net proceeds will be approximately 

$100.4 million after deducting the underwriting discounts and commissions and 

estimated offering expenses payable by us. 

We intend to use approximately $85.9 million of the net proceeds we receive 

from this offering to repay borrowings under our credit facility, which has a 

maturity date of August 1, 2017 and had an outstanding balance of 

approximately $100.3 million as of April 2, 2013. * * * We intend to use any 

remaining proceeds for working capital and other general corporate purposes. 



47



What is SEC Regulation S-X? 



48

SEC Regulation S-X 

Same concept as Reg. S-K, but applicable to financial statements 

Reg. S-X (together with the SEC’s Financial Reporting Releases) 

sets forth the form and content of and requirements for financial 

statements required to be filed as a part of: 

1. Registration statements under the Securities Act, except as 

otherwise specifically provided in the applicable form; 

2. Registration statements under EA Section 12, annual or 

other reports under EA Sections 13 and 15(d) and proxy 

and information statements under EA Section 14 except as 




49

What did LinkedIn Disclose? 

LINKEDIN CORPORATION 

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS 

Report of Independent Registered Public Accounting Firm (F-2 ) 

Consolidated Balance Sheets (F-3) 

Consolidated Statements of Operations (F-4) 

Consolidated Statements of Redeemable Convertible Preferred Stock, 

Stockholders’ Equity and Comprehensive Income (Loss) (F-5) 

Consolidated Statements of Cash Flows ( F-7 ) 

Notes to Consolidated Financial Statements (F-8) 



50


LINKEDIN CORPORATION 

Report of Independent Registered Public Accounting Firm 

States that Deloitte & Touche audited the accompanying consolidated 

financial statements of LinkedIn and subsidiaries 

Notes, as is customary, that the financial statements are LinkedIn’s 

responsibility, not Deloitte’s 

Opines that the consolidated financial statements present fairly, in all 

material respects, the financial position of LinkedIn as of December 31, 

2009 and 2010, and the results of operations and cash flows for each of 

the three years in the period ended December 31, 2010, in conformity 

with accounting principles generally accepted in the United States of 

America. 



51



How did JOBS Act affect 

Regulation S-X? 

Did §7(a)(2) affect the financial 

statements included in the Noodles 

prospectus? 

What about the bluebird bio prospectus? 



52

luebird bio Disclosure regarding 

Emerging Growth Company Status 

In “Risk Factors” section of definitive prospectus, bluebird bio 

disclosed: 

“We are an “emerging growth company,” and we cannot be certain if 

the reduced reporting requirements applicable to emerging growth 

companies will make our common stock less attractive to investors. 

“We are an “emerging growth company” * * * For as long as we continue 

to be an emerging growth company, we may take advantage of exemptions 

from various reporting requirements * * * including not being required to 

comply with the auditor attestation requirements of Section 404 of the 

Sarbanes-Oxley Act of 2002 * * * We cannot predict if investors will find 

our common stock less attractive because we may rely on these 

exemptions.” 



53

luebird bio Disclosure regarding 

Emerging Growth Company Status 

Risk Factor disclosure (cont’d): 

“Under the JOBS Act, emerging growth companies can also delay 

adopting new or revised accounting standards until such time as 

those standards apply to private companies. We have irrevocably 

elected not to avail ourselves of this exemption from new or revised 

accounting standards and, therefore, will be subject to the same new 

or revised accounting standards as other public companies that are 

not emerging growth companies.” [Emphasis added.] 



54



What are the SEC “Industry Guides”? 



55

What did Graña y Montero 

Disclose? 

What industry guide, if any, is applicable to 

Graña y Montero S.A.A.’s registration 

statement? 

Hint: See first page of the section of financial 

statements titled: 

“Supplementary Data (Unaudited)” 



56

SEC Industry Guides 

http://www.sec.gov/about/forms/industryguides.pdf 

Disclosure of oil and gas operations 

Statistical disclosure by bank holding companies 

Prospectus relating to interests in oil and gas programs 

Registration of interests in real estate limited partnerships 

Disclosures concerning unpaid claims and claim adjustment 

expenses of property-casualty insurance underwriters 

Description of property by issuers engaged or to be engaged 

in significant mining operations 



57

Another Overarching Principle – 

Integrated Disclosure Under Securities 

Act and Exchange Act 

Integrated Disclosure 

Forms S-1, S-3, S-4, S-8, etc. 

Reg. S-K, Reg. S-X 

SEC “Industry Guides” 

Risk Factors 

MD&A or “Management’s Discussion and 

Analysis of Financial Condition and Results of 

Operations” 



58

Objectives of Integrated Disclosure 

System: 

No. 1 – Standardize ’33 Act/’34 Act 

Disclosure 

Standardize categories of information 

required in SEC filings and investor 

documents under both the Securities Act 

and the Exchange Act 



59

“Three Amigos” of Integrated 

Disclosure 


Disclosures Other Than Financial Statements 

Regulation S-X (supplemented by Industry Guides) 

Form and Content of Financial Statements 

Industry Guides require supplemental statistical 

disclosure for certain industries 

Regulation M-A 

M&A/Tender Offer Disclosure 



60


System: 

No. 2 – Incorporation by Reference 

Permit various information to be 

incorporated by reference from the 

issuer’s other ‘34 Act reports or ‘33 Act 

registration statements 

previously filed, or 

subsequently filed 



61

Primary ’33 Act Examples of 

Incorporation by Reference 

S-3 Registration Statement 



More about this in Session 5 



62



What is meant by the phrase 

“plain English”? 



63

What is meant by the phrase 

“plain English”? 

Rule 421(d) – known as the “Plain English Rule” 

Issuers must use plain English principles in the 

organization, language, and design of these sections 

of the prospectus: 

front and back cover pages, 

summary, and 

risk factors section. 



64

“Plain English” (cont’d) 

For those sections where plain English in required by Rule 421(d) 

[see preceding slide], the following principles apply: 

Short sentences; 

Definite, concrete, everyday words; 

Active voice; 

Tabular presentation or bullet lists for complex 

material, whenever possible; 

No legal jargon or highly technical business terms; and 

No multiple negatives. 



65

“Plain English” (cont’d) 

In designing these sections specified by Rule 421(d) (or other 

sections of the prospectus,) you may include pictures, logos, 

charts, graphs, or other design elements so long as the design is 

not misleading and the required information is clear. 

Issuers are encouraged to use tables, schedules, charts and 

graphic illustrations of the results of operations, balance sheet, 

or other financial data that present the data in an 

understandable manner. 

See generally Securities Act Release No. 33–7497 (January 

28, 1998) for information on plain English principles 



66


Risks Related to Our Business 

We have a short operating history in a new and unproven market, which makes it difficult to 

evaluate our future prospects and may increase the risk that we will not be successful. 

We have a short operating history in a new and unproven market that may not develop as 

expected, if at all. This short operating history makes it difficult to effectively assess our future 

prospects. You should consider our business and prospects in light of the risks and difficulties 

we encounter in this rapidly evolving market. These risks and difficulties include our ability to, 

among other things: 

• increase our number of registered members and member engagement; 

• avoid interruptions or disruptions in our service or slower than expected website load 

times; 

• develop a scalable, high-performance technology infrastructure that can efficiently 

and reliably handle increased member usage globally, as well as the deployment of 

new features and products; * * * 



67



Who must sign a registration 

statement? 



68



Who must consent to the filing 

of a registration statement? 



69



What is a delaying amendment? 

Why is it relevant? 



70

Why Do Issuers use a 

Delaying Amendment? 

Consider § 8(a) of the 

Securities Act 



71

What did Grana y Montero 

Corp. Do? 

Grana y Montero Corp.’s initial F-1 filing on June 4, 2013 

contains the following statement toward the bottom of the 

registration statement cover page: 

The Registrant hereby amends this Registration Statement on 

such date or dates as may be necessary to delay its effective date 

until the Registrant shall file a further amendment which 

specifically states that this Registration Statement shall thereafter 

become effective in accordance with Section 8(a) of the Securities 

Act, or until this Registration Statement shall become effective on 

such date as the Commission, acting pursuant to said Section 8(a), 

may determine. 



72



Must a company file an IPO 

registration statement electronically 

with the SEC? 



73



May a company file an IPO registration 

statement confidentially with the SEC? 

What did the following issuers do? 

bluebird bio, Inc. 

Noodles & Company 

Grana y Montero Corp. 



74



What is a “free writing prospectus”? 



75

A Few Words About “Free Writing” 

The 2005 Offering Reforms permit the use of a category of 

written offering material known as “free writing prospectuses.” 

A free writing prospectus is any written communication that 

constitutes an offer to sell (or solicitation of an offer to buy) 

securities that are or will be the subject of a registered offering 

and that is not a statutory prospectus or other written 

communication permitted or exempted under other provisions 

of the securities laws. 

See SEC Rules 164 and 433 (and 405). 



76

“Free Writing” (cont’d) 

The term “free writing” includes offering-related emails, 

faxes, term sheets and other written and prerecorded 

electronic communications. 

Free writing prospectuses are permitted to be used 

after a registration statement has been filed with the 

SEC upon satisfaction of certain conditions, including 

filing in some cases. 



77


In connection with IPOs and offerings by other “unseasoned 

issuers,” 

a free writing prospectus may be used only if it is 

accompanied or preceded by a preliminary prospectus 

(which, in the IPO context, must include a price range). 

In the case of electronic communications, a hyperlink to 

the preliminary prospectus would satisfy this delivery 

requirement. 



78


The free writing prospectus is subject to prospectus liability 

under Securities Act Section 12(a)(2) for the user. 

But the free writing prospectus is not deemed part of the 

registration statement and, accordingly, does not carry 

Securities Act Section 11 cross-liability for all underwriters. 

The rules also clarify that an underwriter generally is not 

liable under Section 12(a)(2) for another person’s free writing 

prospectuses so long as the underwriter does not use or refer to 

that writing. 



79



What is a road show? 

Does it involve a “prospectus”? 

Is it live or recorded? 



80

Road Shows 

Fidelity Investment’s IPO glossary defines a Road Show 

as follows: 

Also called the 'Dog and Pony Show'. A tour taken by a 

company preparing for an IPO in order to attract interest in 

its securities. Attended by potential buyers, including 

institutional investors, analysts, and money managers by 

invitation only. Members of the media are forbidden to 

attend. 

For non-WSKIs, occurs only after registration statement is 

on file, but this may change as a result of new §5(d). 



81



SEC View of Electronic Communications 

Essentially all pre-recorded electronic communications are treated as 

written communications, rather than as oral communications. Therefore, 

they are subject to filing if prepared or used by the issuer or if they 

otherwise meet the criteria for filing of free writing prospectuses. 

Live, real-time communications to a live audience are considered oral, 

and thus not an illegal prospectus or subject to filing, even if 

communicated by electronic means. 

Television and radio broadcasts continue to be treated as written 

communications, however, as specifically required by the Securities Act. 

An issuer must remain as cautious about information posted to its web 

site or hyperlinked on its web site to a third-party web site. 2005 

Offering Reforms treat these links generally as free writing prospectuses 

of the issuer to the extent they are deemed offers. 



82

Electronic Road Shows 

A road show, graphically transmitted in real-time to a live audience, 

including “live” conferences with investors, live road shows, and road 

shows webcast in real-time, as well as any slides or other visual aids 

provided or transmitted as part of the road show, will not be a written 

communication or a free writing prospectus, although it is subject to the 

liability provisions of the federal securities laws. 

Electronic road shows that are neither live nor transmitted in real time are 

considered free writing prospectuses, although permitted if the rules for free 

writing prospectuses are satisfied. 

Electronic road shows that qualify as free writing prospectuses that are 

used in an initial public offering of common or convertible equity securities 

must comply with the filing conditions unless the issuer makes a version 

readily available without restriction electronically to any potential investor. 

Electronic road shows for other offerings generally do not need to be 

filed. 



83

After the Road Show . . . 

Do underwriters have a “market out” 

under the typical underwriting 

agreement? 



84


What is the “Green Shoe”? 

(Also known as the underwriters’ 

over-allotment option) 

Why is it necessary? 



85


The “Green Shoe” or “over-allotment” option 

is an option in the typical underwriting 

agreement that grants the underwriters a 30-day 

option to purchase up to 15% more of the 

securities being underwritten. 

Term is derived from an offering by the Green 

Shoe Company (predecessor of Stride Rite) in 

which the over-allotment option first was used. 



86

What did LinkedIn Do? 

LinkedIn’s definitive prospectus filed under Rule 424(b) 

contained the following statement under the caption 

“Underwriting”: 

“We have granted to the underwriters an option, exercisable for 30 

days from the date of this prospectus, to purchase up to 1,176,000 

additional shares of Class A common stock at the public offering 

price listed on the cover page of this prospectus, less underwriting 

discounts and commissions. The underwriters may exercise this 

option solely for the purpose of covering over-allotments, if any, 

made in connection with the offering of the shares of Class A 

common stock offered by this prospectus. * * * ” 



87



When and how must a 

prospectus be delivered? 



88

Section 5 Framework 

After effective date of the registration statement, a 

written communication that confirms the sale of a 

security may be provided only if a final prospectus is 

sent or given previously or at the same time. 

Otherwise, such a communication is a prospectus and 

may not be provided unless it meets the requirements 

of Section 10(a). 

As written confirmations are not designed to meet 

those requirements, a final prospectus must 

accompany or precede a written confirmation. 



89

When/how must a prospectus be 

delivered? 

How must a prospectus be delivered? 

Rules 172 and 173: Access = Delivery 

SEC concluded, as part of 2005 Offering Reforms, that Internet 

usage then was sufficiently broad to allow adoption of a 

prospectus delivery model that relies on timely access to filed 

information and documents. 

This generally is referred to as the “access equals delivery” 

model, which enables issuers, brokers, and dealers to satisfy 

their final prospectus delivery obligations if a final prospectus 

is or will be on file within the time required by the new rules, 

including a cure period. 



90

When/how must a prospectus 

be delivered? (cont’d) 

Rules 172 and 173: Access = Delivery 

Final prospectus will be deemed to precede or 

accompany a security for sale as long as final 

prospectus meeting requirements of Securities Act 

Section 10(a) is filed, or issuer makes a good faith and 

reasonable effort to timely file final prospectus with 

SEC. 

Delivery of preliminary prospectus in IPOs continues 

to be required. 



91


be delivered? 

Rule 173: Access = Delivery 

Sales by an issuer or underwriter to a purchaser 

Purchaser must be provided, not later than two 

business days after completion of the sale, either a 

copy of the final prospectus or a notice providing that 

the sale was made pursuant to a registration statement 

or in a transaction in which a final prospectus would 

have been required to have been delivered in the 

absence of the Rule 172. 



92


be delivered? 

Rule 173: Access = Delivery 

For sales by an issuer or underwriter to a purchaser 

The investor may request a final prospectus, but the 

issuer and underwriter need not provide before 

settlement. 

Written confirmations and notices of allocation, 

including e-mail notifications to inform investors of 

their allocations, may be sent after effectiveness of the 

registration statement without being accompanied by a 

final prospectus. 



93


be delivered? 

For how long after the effective date of the 

registration statement does a “dealer” have an 

obligation to deliver a prospectus? 

Rule 174 (whereby SEC shortened timeframe 

under Section 4(a)(3)) 

25 days for “dealers” in typical IPO (see Rule 

174(d)) 



94


LinkedIn’s definitive prospectus filed under Rule 424(b) 

contained the following statements after the table of contents: 

“Through and including June 12, 2012 (the 25th day after the date of 

this prospectus), all dealers that effect transactions in these securities, 

whether or not participating in this offering, may be required to 

deliver a prospectus. This is in addition to the dealers’ obligation to 

deliver a prospectus when acting as underwriters and with respect to 

their unsold allotments or subscriptions. ” 

“The information contained in this prospectus is accurate only as of 

the date of this prospectus, regardless of the time of delivery of this 

prospectus, or of any sale of our Class A common stock.” 



95






Michael Krebs 



Tel. 617.439.2288 email: mkrebs@nutter.com






Preview Slides 


All Rights Reserved


How does a company register securities 

after its IPO? 


Reserved 

2










be disclosed.

Session 5 – Understanding SEC Registration 

Regime for Reporting Companies 


Jumbo Corp., a NYSE-listed company that has been 

publicly traded for the past 15 years, seeks to raise $300 

million in debt financing by selling ten-year senior notes 

in an underwritten offering primarily to institutional 

investors. The notes would not be “investment grade.” 

Jumbo’s common equity float is $50 million. 

What form of registration statement would Jumbo Corp 

file with the SEC? 

What if Jumbo’s common equity float is $500 million? 


Reserved 

4

Understanding SEC Registration 


How does an “S-3 registration 

statement” differ from an “S-1 

registration statement”? 


Reserved 

5

Review of S-3 Eligibility 

Why does S-3 eligibility matter? 


Reserved 

6

S-3 Eligibility (cont’d) 

General Instruction I.A. of Form S–3 requires: 

1. Registrant is organized under laws of U.S. or any 

state, etc. and has its principal business operations in 

U.S. or its territories. 

2. Registrant has a class of securities registered pursuant 

to Section 12(b) of the Exchange Act or a class of 

equity securities registered pursuant to Section 12(g) 

of the Exchange Act or is required to file reports 

pursuant to Section 15(d) of the Exchange Act. 


Reserved 

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3. Registrant has been subject to the requirements of Section 

12 or 15(d) of the Exchange Act and has filed all the 

material required to be filed pursuant to Section 13, 14 or 

15(d) for a period of at least twelve calendar months 

immediately preceding the filing of the registration 

statement. 

4. Registrant has filed in a timely manner all reports 

required to be filed during the twelve calendar months 

and any portion of a month immediately preceding 

filing of registration statement, other than certain 8-K 

filings. 


Reserved 

8


5. Neither the registrant nor any of its consolidated or 

unconsolidated subsidiaries has, since the end of the last 

fiscal year for which certified financial statements of the 

registrant and its consolidated subsidiaries were included 

in a report filed pursuant to Section 13(a) or 15(d) of the 

Exchange Act: (a) failed to pay any dividend or sinking 

fund installment on preferred stock; or (b) defaulted (i) 

on any installment or installments on indebtedness for 

borrowed money, or (ii) on any rental on one or more 

long term leases, which defaults in the aggregate are 

material to the financial position of the registrant. 


Reserved 

9


Current S-3 Eligibility: If Float < $75 million 

If issuer has a “float” of less than $75 million, the issuer 

can use S-3 if the issuer: 

1. Satisfies the other S-3 eligibility criteria; 

2. Has a class of common equity securities listed on a 

national securities exchange; and 

3. Does not sell more than the equivalent of one-third 

of its public float in primary offerings during any 

12-month period. 


Reserved 

10


Current S-3 Eligibility: If Float ≥ $75 million 

If issuer has a “float” of $75 million or more 

and satisfies other S-3 eligibility criteria: 

Issuer can sell an unlimited amount of 

securities under an S-3 registration statement. 


Reserved 

11



What is meant by “incorporation 

by reference”? 


Reserved 

12

Review of Overarching Principle – 

Integrated Disclosure Under Securities 

Act and Exchange Act 

Integrated Disclosure 

Forms S-1, S-3, S-4, S-8, etc. 

Reg. S-K, Reg. S-X 

SEC “Industry Guides” 

Risk Factors 

MD&A or “Management’s Discussion and 

Analysis of Financial Condition and Results of 

Operations” 


Reserved 

13


System: 

No. 1 – Standardize ’33 Act/’34 Act 

Disclosure 

Standardize categories of information 

required in SEC filings and investor 

documents under both the Securities Act 

and the Exchange Act 


Reserved 

14

“Three Amigos” of Integrated 

Disclosure 


Disclosures Other Than Financial Statements 

Regulation S-X (supplemented by Industry Guides) 

Form and Content of Financial Statements 

Industry Guides require supplemental statistical 

disclosure certain industries 

Regulation M-A 

M&A/Tender Offer Disclosure 


Reserved 

15

Review of Regulation S-K 

Reg. S-K, Rule 10 – The “Rosetta Stone” 

Reg. S-K states the requirements applicable to the content of the nonfinancial 

statement portions of: 

1. Registration statements under the Securities Act to the extent 

provided in the forms to be used for registration under such Act; and 

2. Registration statements under Exchange Act (“EA”) Section 12, 

annual or other reports under EA Sections 13 and 15(d), goingprivate 

transaction statements under EA Section 13, tender offer 

statements under EA Sections 13 and 14, proxy and information 

statements under EA section 14, and any other documents required to 

be filed under the EA to the extent provided in the forms and rules 

under that Act. 


Reserved 

16

Review of Regulation S-X 

Same concept as Reg. S-K, but applicable to financial statements 

Reg. S-X (together with the SEC’s Financial Reporting Releases) 

sets forth the form and content of and requirements for financial 

statements required to be filed as a part of: 

1. Registration statements under the Securities Act, except as 


2. Registration statements under EA Section 12, annual or 

other reports under EA Sections 13 and 15(d) and proxy 

and information statements under EA Section 14 except as 



Reserved 

17


System: 

No. 2 – Incorporation by Reference 

Permit various information to be 

incorporated by reference from the 

issuer’s other ‘34 Act reports or ‘33 Act 

registration statements 

previously filed, or 

subsequently filed 


Reserved 

18







Reserved 

19




Item 12. Incorporation of Certain 

Information 

(a) The documents listed . . . below shall be 

specifically incorporated by reference 

into the prospectus . . . : 

(1) annual report on Form 10-K . . . which 

contains financial statements for the latest 

fiscal year . . . . 


Reserved 

20




Item 12. Incorporation of Certain 

Information 

(b) “[a]ll documents subsequently filed . . . 

pursuant to Sections 13(a), 13(c), 14 or 

15(d) of the Exchange Act, prior to the 

termination of the offering, shall be 

deemed to be incorporated by reference 

into the prospectus.” 


Reserved 

21

10-K Disclosure: Geography 

Part I: Business Info 

Form 10-K Filing 

Part II: Financial Statements and Related Info 

Form 10-K or Annual Report to Stockholders 

Part III: Insider Info 

Proxy Statement (and 10-K) 

Part IV: Exhibits, Etc. 

Form 10-K Filing 


Reserved 

22

10-K Disclosure: Geography 

Part II: MD&A (Item 303 of Reg. S-K) 

Liquidity 

Capital resources 

Operating results, including 

o Unusual/infrequent events, transactions 

o Known trends/uncertainties that registrant 

reasonably expects will have a material 

favorable or unfavorable impact 


Reserved 

23

10-K Disclosure: MD&A 

Objective of MD&A: 

“To provide, in one section of a filing, 

material historical and prospective textual 

disclosure enabling investors . . . to assess 

the financial condition and results of 

operations of the registrant, with particular 

emphasis on the registrant's prospects for the 

future.” (SEC 1989 Release) 


Reserved 

24

10-K Disclosure: MD&A 

MD&A will be addressed in more 

detail in Session 7 


Reserved 

25

Understanding SEC Registration Regime 

for Reporting Companies 

What form of registration statement 

would a publicly traded company file 

when it grants stock options or 

restricted stock? 


Reserved 

26




Biosystems completed its IPO two years ago and now would 

like to grant stock options to all of its approximately 1,000 

employees, as well as its non-employee directors. 

Each option will entitle the recipient to purchase shares of 

Biosystems common stock at price equal to the market value 

of Biosystems common stock on the date of grant. Each 

option will vest in four annual installments beginning on the 

first anniversary of the grant date. 

Must Biosystems file a registration statement to register 

the common stock issuable upon exercise of the option? 

What did bluebird bio do? 

If so, when must the registration be filed? 


Reserved 

27




For securities to be issued to its employees or employees of its 

subsidiaries or parents 

Equity Benefit Plans, include 

Stock Option Plans 

Employee Stock Purchase Plans, etc. 

“Employee” is defined to include 

Any employee, director, or officer, and certain consultants or 

advisors. 

Form S-8 is available for the issuance of securities to 

consultants or advisors only if services are not in connection 

with the offer or sale of securities in a capital-raising 

transaction, and do not directly or indirectly promote or 

maintain a market for the registrant’s securities. (Similar to 

Rule 701.) 


Reserved 

28



What form of registration statement 

would a company file when it acquires 

another publicly traded company? 


Reserved 

29




Two years after Gee Whiz completes its IPO, Gee Whiz 

decides it wants to acquire the technology of the Next Big 

Thing Corp. (NBT). Gee Whiz is willing to acquire NBT by 

merger. NBT shareholders will receive $5.00 in cash and 0.25 

shares of Gee Whiz common stock for each share of NBT 

stock. 

NBT is a corporation organized under Delaware law that has its 

only office and facility in Massachusetts. NBT completed its 

IPO four years ago and has 600 stockholders. 

Will Gee Whiz have to file a registration under the Securities 

Act? If so, what form of registration statement will it file? 


Reserved 

30




M&A Transactions 

Incorporation by reference for S-3 

eligible issuers 


Reserved 

31



What is a “shelf registration statement”? 


Reserved 

32

Shelf Registrations under Rule 415 

“Shelf registration” or “shelf offering” are terms used 

for offerings under SEC Rule 415, which allows 

permits companies to file a registration statement 

covering one or more types of financings that it 

expects to complete within two years. 

For non-WKSIs, having a registration “on the shelf” 

allows the issuer to market quickly when conditions 

become favorable. 

[See web site for “Primer on Shelf Registrations” 

under Session 5 reading material.] 


Reserved 

33

Shelf Registrations and Due 

Diligence after Worldcom 

What are the implications of the 

WorldCom decision [Session 3] 

for shelf registration statements? 


Reserved 

34

Shelf Registrations and Due Diligence 

after Worldcom 

Interplay between ’34 Act Filings and 

“Due Diligence” review for ’33 Act 


Lessons from WorldCom shareholder 

litigation 


Reserved 

35



Lessons from WorldCom litigation: 

Under a short-form registration (i.e., S- 

3), the time needed to prepare the 

registration statement is reduced 

sharply because of issuer’s ability to 

incorporate by reference prior ’34 Act 

disclosures. 


Reserved 

36




SEC has acknowledged that different 

due diligence methods are necessary 

"in view of the compressed preparation 

time and the volatile nature of the 

capital markets." 

Nonetheless, such techniques must be 

"equally thorough." 


Reserved 

37




Among the strategies recommended by the SEC were 

the development of a "reservoir of knowledge about 

the companies that may select the underwriter to 

distribute their securities registered on short form 

registration statements" through a "careful review of 

[periodic Exchange Act] filings on an ongoing basis," 

consultation of analysts' reports, and active 

participation in the issuer's investor relations 

program, especially analysts and brokers meetings. 


Reserved 

38




The SEC also approvingly noted the following practices: 

designating of one law firm to act as underwriters' counsel, 

which "facilitates continuous due diligence by ensuring ongoing 

access to the registrant on the underwriters' behalf"; 

holding "Exchange Act report 'drafting sessions,' " which 

allow underwriters "to participate in the drafting and review 

of periodic disclosure documents before they are filed"; and 

conducting "periodic due diligence sessions," such as 

meetings between prospective underwriters, their counsel, 

and management shortly after the release of quarterly 

earnings. 


Reserved 

39



Lessons from WorldCom litigation (cont’d): 

While an underwriter is not "expected to possess 

the intimate knowledge of corporate affairs of 

inside directors," his obligation is to conduct a 

meaningful investigation, not merely to listen to 

management's explanations of the company's 

affairs. 

“Tacit reliance on management assertions is 

unacceptable; the underwriters must play devil's 

advocate.” 


Reserved 

40




There are questions of fact as to whether the Underwriter 

Defendants conducted a reasonable investigation: 

the limited number of conversations with the WorldCom 

or its auditor, 

the cursory nature of the inquiries, 

the failure to go behind any of the almost formulaic 

answers given to questions, 

and the failure to inquire into issues of particular 

prominence in the Underwriter Defendants’ own internal 

evaluations of the financial condition of the WorldCom or 

in the financial press. 


Reserved 

41




In particular with respect to 2001, having 

internally downgraded WorldCom's credit rating 

and having taken steps to limit their exposure as 

WorldCom creditors, the Underwriter Defendants 

were well aware that WorldCom was in a 

deteriorating financial position in a troubled 

industry 

A reasonable investigation would have entailed a 

more searching inquiry than that undertaken by 

the Underwriter Defendants. 


Reserved 

42




To succeed with a due diligence defense, the 

Underwriter Defendants will have to show that they 

conducted a reasonable investigation of the nonexpertised 

portions of the Registration Statements and 

thereafter had reasonable ground to believe that the 

interim financial statements were true. 

In assessing the reasonableness of the investigation, 

the Underwriter Defendants’ receipt of “comfort 

letters” from WorldCom’s auditors will be important 

evidence, BUT it is insufficient by itself to establish 

the defense. 


Reserved 

43



The 2005 Offering Reforms 

Establish automatically effective shelf 

registration for WKSIs – or “Well Known 

Seasoned Issuers”, and 

Significantly modify shelf registration 

procedures for WKSIs 

[Refer to Session 3 slides for more details.] 


Reserved 

44



S-3 Registration Statement for WKSIs allows 

“On-Demand” SEC registration through an 

“automatic shelf registration statement.” 

Guarantees no SEC review 

Effectiveness upon filing 


Reserved 

45

A Few Words About the Automatic 

Shelf Registration Statement 

Automatic shelf registration provides WKSIs with 

significant flexibility beyond that provided to non- 

WKSI seasoned issuers, permitting WKSIs: 

To take advantage of market windows, 

To structure terms of securities on a real-time basis 

to accommodate investor demand, and 

To determine or change the plan of distribution in 

response to changing market conditions. 


Reserved 

46



Are there offering techniques 

available to non-WKSI publicly 

traded issuers that approximate the 

advantages of an automatic shelf 

registration statement? 


Reserved 

47



Increasingly, public offerings are becoming 

less “public” 

Due to market developments, such as 

heightened volatility and concerns about 

investor front-running, fewer public offerings 

involve traditional marketing 

Most public offerings begin as confidentially 

marketed public offerings 


Reserved 

48



“Registered direct offering” 

“Confidentially marketed public offering” 

“At-the-market offering” 


Reserved 

49

“Registered Direct Offering” 

A registered direct offering is a public offering that is 

sold by a placement agent on an agency, or “best 

efforts,” basis (rather than a firm commitment 

underwriting). 

Much like a PIPE (private investment in publicly traded 

equity – to be discussed in Session 6), a registered direct 

offering is marketed and sold to a selected number of 

accredited and institutional investors. 

They often are referred to as “registered PIPEs.” 


Reserved 

50

What are the advantages of a 

“registered direct offering”? 

There are two principal advantages: 

1. Confidential marketing is 

permitted; 

2. Pricing for the issuer will likely be 

better than a PIPE 


Reserved 

51

Advantages of a 

“registered direct offering” (cont’d) 

Confidentiality 

Issuers that want to test the market or conduct an offering without 

attracting publicity find that a registered direct offering is a good choice. 

When an issuer has an effective shelf registration statement, the 

placement agent may market a potential registered direct offering 

as it would a PIPE transaction — by obtaining confidentiality 

undertakings until such time as an actual transaction is announced. 

This permits an issuer to “test” the market for a potential offering, 

without a public announcement that might affect the issuer’s stock price, 

while complying with Reg. FD [to be discussed in Session 7]. The issuer 

typically announces the transaction immediately prior to pricing or at 

pricing. 


Reserved 

52

Advantages of a 

“registered direct offering”? (cont’d) 

Pricing 

An issuer that is deciding between a PIPE 

transaction and a registered direct offering may 

choose a registered direct offering for pricing 

reasons. 

Typically, a PIPE offering will be subject to some 

liquidity discount that will not affect a registered 

public offering. [More about this in Session 6.] 


Reserved 

53

“Confidentially Marketed Public 

Offering” 

Confidentially marketed public offerings – or “CMPOs” 

– primarily are marketed to a targeted group of 

institutional investors without public announcement. 

The advantages of CMPOs over traditionally marketed 

public offerings are similar to the registered direct 

offerings: 

1) Targeted and streamlined marketing efforts allow 

companies to complete CMPOs relatively quickly 


Reserved 

54

Advantages of CMPOs (cont’d) 

2) CMPOs allow companies to test the market for an offering without 

automatically subjecting the company's stock price to the downward 

market pressure typically associated with the announcement of a 

material equity offering. 

In a fully marketed underwritten offering, the market has advance notice 

of the potential offering, and market participants may begin shorting the 

issuer’s common stock in anticipation of the offering that might dilute 

the market price of the issuer’s stock. 

By comparison, CMPOs typically involve a very short interval 

(typically no more than one evening) or none at all between publicly 

announcing the offering and pricing it, and consequently the market 

price for the company's stock is not affected by the offering 

announcement. 


Reserved 

55

Elements of CMPOs (cont’d) 

Confidentiality considerations 

In order to avoid Reg. FD and insider trading issues and to ensure that a CMPO 

actually remains confidential, issuers and their financial advisors must carefully 

implement procedures to avoid public disclosure of a potential offering until after a 

prospective investor has agreed to keep information regarding the offering 

confidential. 

After a potential investor is "brought over the wall" by agreeing to keep information 

about the offering confidential, issuers and underwriters can disclose material nonpublic 

information about the offering, including the identity of the issuer, to that 

investor. 

Investors typically request that the issuer file a Form 8-K disclosing the financing 

within a certain period of time. Once a press release is issued, the investors and 

other potential investors contacted by the underwriter are released from their 

confidentiality undertakings and accompanying trading restrictions. 


Reserved 

56

Elements of CMPOs (cont’d) 

Due diligence considerations 

Underwriters of a CMPO still should conduct 

their customary due diligence, including 

obtaining accountants' comfort letters and 

opinions of counsel and conducting calls with 

the company's auditors and important 

customers and suppliers. 


Reserved 

57



What is an “at-the-market” offering? 


Reserved 

58

“At the Market Offerings” 

An “at the market”, or ATM, offering allows a company to tap 

into the existing secondary market for its shares on an as-andwhen-needed 

basis. 

Under an ATM offering program, an exchange-listed company 

sells newly issued shares into the trading market through a 

designated broker-dealer at prevailing market prices, rather than 

via a traditional underwritten offering of a fixed number of shares 

at a fixed price all at once. 

The use and attractiveness of ATMs have increased significantly 

since the SEC’s 2005 Offering Reforms, which streamlined the 

procedural hurdles for conducting an ATM offering. 


Reserved 

59

Elements of 

an “at the Market Offering” 

Registration Statement. The company files a shelf registration statement 

on Form S-3. The base prospectus included in the registration statement 

includes disclosure to the effect that sales of common stock may be made 

from time to time at prevailing market prices by the issuer directly or 

through a designated agent. 

Sales Agreement. The company enters into a sales agreement with a 

broker-dealer that has agreed to serve as placement agent for the shares 

to be sold under the ATM offering program. 

The placement agent may be deemed an “underwriter” under the 

Securities Act, and therefore the placement agent will typically conduct 

pre-offering due diligence substantially similar to that performed by 

underwriters in firm commitment public offerings. 


Reserved 

60

Elements of an 

“at the Market Offering” (cont’d) 

Program Prospectus Supplement. The company files a prospectus supplement 

with the SEC that describes the general terms of the proposed ATM offering 

program, including the plan of distribution and the maximum number of shares to be 

sold, and names the designated placement agent as required by SEC guidance. 

Sales Orders. After the S-3 is declared effective and once all required 

documentation has been executed, filed and delivered, the company may send sales 

orders to the placement agent based on volume or other relevant trading information 

available to the company to assess likely demand and/or the placement agent may 

bring to the attention of the company instances where demand may exist in the 

market. 

The timing, frequency and terms of sales orders (such as minimum required pricing, 

volume limitations, etc.) are entirely at the discretion of the company and can be 

altered (or sales orders revoked before they are executed) by the company at any 

time. 


Reserved 

61

Elements of an 

“at the Market Offering” (cont’d) 

Settlement. Some sales agreements provide the option for a single 

settlement at the end of a designated selling period rather than on a 

rolling T+3 basis. 

Ongoing Disclosure. The company typically will disclose aggregate 

sales and commission amounts paid on a quarterly basis. Disclosure 

can take the form of a very brief prospectus supplement filed under 

Rule 424(b) to update the base prospectus and/or disclosure as part 

of the company’s quarterly report on Form 10-Q. 

In some cases, the volume of sales or the terms may be individually 

material and therefore require prompt disclosure following such 

sales. 


Reserved 

62






Michael Krebs 






63





Session 6 

July 27, 2013 


All Rights Reserved

Review of Core Principles 

1. “Securities” broadly defined 

2. Investor autonomy (sort of) 

3. Every offer/sale must be 

registered with SEC if security or 

transaction is not exempt 



2

Core Principles (cont’d) 

4. Disclosure of all information about 

the issuer and the security material to 

an investment decision (or access to 

all material information) is imperative 

5. Financial statements (and MD&A) 

are essential disclosure elements in 

registered offering 



3


6. “Degree of difficulty” in 

registering a sale of securities 

varies depending primarily on the 

issuer’s market cap and reporting 

history 



4


7. Issuers, “control persons” and, when 

applicable, underwriters and “experts” 

will have accountability for materially 

false or misleading statements 

8. Control persons – executive officers, 

directors and >10% holders – are 

subject to extra constraints 



5


Part 1 

How do investors resell securities? 

Part 2 

How do publicly traded companies 

conduct private placements? 



6










be disclosed. 



7



Restated: 

If any person sells a non-exempt 

security to any other person, the 

sale must be registered unless an 

exemption can be found for the 

transaction. 



8

Resale of Securities 

• How do investors resell securities in the 

ordinary course? 

• How do investors resell securities purchased 

in a private placement? 

• How do “insiders” resell securities? 

• What is a registration rights agreement? 

• What is a “piggyback offering”? 

• What is a QIB? 



9




* * * 


security being offered. 


transaction in which the offering is made. 



10

Exempt Transactions – 

Key Principle #1 

Securities offered in exempt 

transactions do not become exempt 

securities. 

For every subsequent offer/sale, the 

seller must find an exemption or cause 

this issuer to register that offer/sale with 

the SEC. 



11

Exempt Transactions - Resales 

How do investors resell 

securities in the ordinary 

course? 



12

Session 6 – Resale of Securities 


Beantown Biosystems raises $100 million by selling 5 million shares 

of common stock at $20 per share in an underwritten initial public 

offering (“IPO”) covered by an effective registration statement. 

Professor Pennypincher, who has no relationship to Biosystems or 

any of its affiliates, purchases 1,000 shares of stock in the IPO 

through her trusted brokerage firm Merry Brothers, a brokerage firm 

that was not part of the underwriting syndicate. 

One month after the IPO, Biosystems’s stock is trading at $30 per 

share. Pennypincher’s accountant encourages her to sell one-third of 

her Biosystems shares through Merry Brothers. 

May Pennypincher do so without causing Biosystems to file with 

the SEC a registration statement that registers that sale of 

Pennypincher’s stock under §5 of the Securities Act? 



13

Primary Resale Exemptions 

§ 4(a)(1) – Sales not by an Issuer or 

Underwriter or Dealer 

Resales under Rule 144 – Safe harbor for nonunderwriter 

status 

“§ 4(a)(1½)” – Resales of private placement 

securities (“restricted securities”) outside of 

Rule 144 safe harbor 

Resales under Rule 144A – Safe harbor for 

non-underwriter status for “QIBs” 



14

Primary Ordinary Course 

Trading Exemption 

§ 4(a)(1) – transactions by any person other 

than 

issuer, 

underwriter, 

or dealer 



15

Definitions Critical to § 

4(a)(1) 

Issuer – § 2(a)(4) 

Underwriter – § 2(a)(11) 

Dealer – § 2(a)(12) 



16

Pivotal Role of “Underwriter” 

Concept in § 4(a)(1) 

§ 2(a)(11) – "underwriter" means any person who has 

purchased from an issuer with a view to, or 

offers or sells for an issuer in connection with, 

the distribution of any security . . . . 

As used in this paragraph . . . "issuer" shall include, in 

addition to an issuer, any person . . . controlling or 

controlled by the issuer, or any person under . . . 

common control with the issuer. 



17



Pennypincher may sell those shares 

without registering the sale under §5 of 

the Securities Act, because 

Pennypincher may rely on the §4(a)(1) 

exemption 

She is neither an issuer, underwriter, 

nor dealer 



18


How do investors resell securities 

purchased in a private 

placement? 



19



One month after the Biosystems IPO, its stock is trading at 

$50 per share. Biosystems then has 12 million shares 

outstanding. 

Faith Frugal, one of the founders’ friends, would like to sell 

500 of the Biosystems shares that she acquired 17 months 

earlier in a “506” transaction. Neither Faith nor any member 

of her family is a Biosystems director or executive officer, 

or owns more than 1% of Biosystem stock. 

May Faith sell the 500 shares without registration under 

§5 of the Securities Act? 



20



§ 2(a)(11) – "underwriter" means any 

person who has 

purchased from an issuer with a view 

to . . . 




21



What’s a “distribution” for 

purposes of § 2(a)(11)? 

* * * 

See pp. 99-100 of course book. 



22


Rule 144 – “Underwriter” Safe Harbor 

Restricted Securities – Rule 144 Preamble 

Any person who sells restricted securities 

shall be deemed not to be engaged in a 

distribution of such securities and therefore 

not an underwriter thereof, if sale is made in 

accordance with Rule 144. 



23


What is a “restricted” security? 



24


Rule 144(a)(3) – “Restricted Securities” 

Defined 

Securities acquired directly or indirectly from the issuer, or 

from an affiliate of the issuer, in a transaction or chain of 

transactions not involving any public offering; 

Securities acquired from the issuer that are subject to the resale 

limitations of Rule 502(d) under Regulation D or Rule 701(g); 

Securities acquired in a transaction or chain of transactions 

meeting the requirements of Rule 144A; 

Equity securities of domestic issuers acquired in a transaction 

or chain of transactions subject to the conditions of Rule 901 

or Rule 903 under Regulation S (Rules 901 through 905 and 

Preliminary Notes) 



25


How do “insiders” resell securities? 



26



Assume that Very Confident purchased Series A preferred stock from 

Biosystems six months before the IPO. 

Immediately prior to the closing of Biosystems’s IPO, Very Confident’s 

Series A preferred stock was converted into Biosystems common stock. 

Five months after the Biosystems IPO (and 11 months after Very 

Confident’s initial investment), Biosystems is trading at $55 per share. 

Very Confident wants to sell 500,000 shares, including all 100,000 

shares that it purchased in the IPO. Biosystems then has 12 million 

shares outstanding. Very Confident owns approximately 15% of 

Biosystems common stock. A managing director of Very Confident is a 

Biosystems director. 

May Very Confident sell all 500,000 shares without registration 

under §5 of the Securities Act? 



27



§ 2(a)(11) – "underwriter" means any person who has 

purchased from an issuer with a view to, or 

offers or sells for an issuer in connection with, 


IMPORTANT: As used in § 2(a)(11), the definition 

of "issuer" includes, “in addition to an issuer, any 

person . . . controlling or controlled by the issuer, or 

any person under . . . common control with the 

issuer.” 



28



Who is a “control person” for 


When does a “control person” 

engage in a “distribution” for 




29



Control Person – Rule 144 Preamble 

Any person who sells . . . other securities 

[i.e., non-restricted securities] on behalf of a 

person in a control relationship with the 

issuer shall be deemed not to be engaged in a 

distribution of such securities and therefore 

not to be an underwriter thereof, if the sale is 

made in accordance with Rule 144. 



30

Who are Control Persons? 

Control Persons = Affiliates 



31


Rule 144 – Who is an Affiliate? 

Technical definition of “affiliate” -- Rule 144(a) 

An affiliate of an issuer is a person or entity that directly, or 

indirectly through one or more intermediaries, controls, or is 

controlled by, or is under common control with, such issuer. 

Practical definition of affiliate -- The following categories 

generally are presumed to be affiliates: 

Executive officers of the issuer 

Directors of the issuer 

Principal shareholders (holders of more than 10 percent 

of a class of equity securities) 



32

Control Persons/Affiliates 

Rules of Thumb: 

Executive officers 

Directors 

> 10% shareholders 



33


Rule 144 

Safe Harbor – “Underwriter” Status 

Two important concepts: 

Restricted securities 

Control securities 



34


Rule 144 – Effect of Safe Harbor 

If a sale of securities complies with all of the applicable conditions 

of Rule 144: 

1. Any affiliate or other person who sells restricted securities will 

be deemed not to be engaged in a distribution and therefore not 

an underwriter for that transaction; 

2. Any person who sells restricted or other securities on behalf of 

an affiliate of the issuer will be deemed not to be engaged in a 

distribution and therefore not an underwriter for that transaction; 


3. The purchaser in such transaction will receive securities that 

are not restricted securities. 



35


What are the Rule 144 Conditions? 

Holding Period (restricted securities only) 

Current public information (sometimes not applicable 

to restricted securities) 

Volume limitation (i.e., limit on amount of securities 

sold during any three month period) (control securities 

only) 

Manner of sale (securities must be sold through a 

broker or to a market maker) 

Notice of proposed sale (Form 144 filed with SEC) 



36


Rule 144 – Important 2007 Amendments 

“Restricted Securities” 

Six-month holding period for “restricted securities” of 

issuers subject to Exchange Act reporting requirements for at 

least 90 days before the Rule 144 sale 

After applicable holding period requirement is met, resale of 

restricted securities by a non-affiliate is no longer be subject 

to any other conditions of Rule 144 

Exception: “Current public information” requirement in 

Rule 144(c) will apply for an additional six months after 

the six-month holding period requirement is met for 

resale of securities of a reporting issuer. 



37


Rule 144 – Matrix 

Refer to website 

Session 6 Reading Materials 



38


Back to Study Problem 6.2 




Faith Frugal, one of the founders’ friends, would like to sell 

500 of the Biosystems shares that she acquired 17 months 

earlier in a “506” transaction. Neither Faith nor any member 

of her family is a Biosystems director or executive officer, 

or owns more than 1% of Biosystem stock. 





39



Faith’s shares are “restricted securities.” 

Biosystems’s IPO occurred one month ago and therefore it has 

not been subject to the reporting requirements of Section 13 or 

15(d) of the Exchange Act for at least 90 days, so the one-year 

holding period applies 

Faith has held the shares for more than one year and is not now 

and never has been an affiliate of Biosystems. 

Therefore, the Rule 144 safe harbor is available and Faith may 

sell the 500 shares in reliance on § 4(a)(1) without complying 

with any other provision of Rule 144. 

See Rule 144(b)(1)(ii) and (d)(1)(ii) 



40


Back to Study Problem 6.3 


Biosystems eight months before the IPO. 














41

Restricted vs. Control Securities 



Very Confident will likely be deemed to be “affiliate” for purposes of Rule 144. 

Holding Period: 

Net Effect: 

Very Confident affiliate is a director on the Biosystems board 

Very Confident owns more than 10 percent of Biosystems stock 

Biosystems has been a reporting company for at least 90 days before the proposed Rule 144 

sale, so the relevant holding period is 6 months. 

Very Confident has held its investment in Biosystems for more 13 months. The 8-month 

holding period for the preferred stock is “tacked” onto the 5-month holding period for the 

common stock. 

Very Confident’s shares purchased in Biosystems’s IPO are not restricted securities and 

therefore the holding period does not apply (SEC allows holder to segregate “restricted” and 

“control” securities.) 

As long as Very Confident remains an affiliate of Biosystems, all Very Confident shares will 

be subject to “control securities” provisions under Rule 144, even those that have been held 

(or are deemed to have been held) for more than six months. 



42


What if Rule 144 is not available? 



43



George is the President and CEO of We Can Do It, Inc. (We Can) and one of 

the company’s largest shareholders, owning 20 percent of We Can’s outstanding 

common stock. Among his holdings are 500,000 shares of We Can Series B 

Preferred Stock, which he purchased four months ago as part of an offering 

under Rule 506 to accredited investors, including some mutual funds and other 

large financial institutions. The Series B Preferred Stock is convertible into 

common stock. 

We Can has been listed on Nasdaq for at least the past ten years. 

George tells you that his twin daughters have just turned 18 and each is about to 

head off to a prestigious (and very expensive) private university on the banks of 

the Charles River. George would like to sell some or all of his Series B shares 

in order to pay the tuition bills. 

Can he do so without We Can filing a registration statement registering the 

transaction under the Securities Act? How? Can he sell all of his shares or 

just a portion? What if George has held the Series B for seven months? 



44



Rule 144 is a nonexclusive safe harbor! 

See Rule 144 Preamble 



45

Session 6 – Resales of Securities 


Shares of Series B stock are “restricted securities” but are not 

“debt securities” 

George is an affiliate of We Can 

We Can is “listed” and therefore likely is a “reporting 

company” 

George has held the Series B only for four months and 

therefore may not rely on Rule 144 

If George held the Series B for seven months, he might be 

able to sell under Rule 144 if other conditions are satisfied. 



46




Three months later, Thomas, who is George’s college 

roommate but has no other relation to We Can, decides 

to sell the 250,000 shares of Series B Preferred Stock 

that he bought in the same offering. He doesn’t like the 

direction that We Can is taking and wants out! 

Can Thomas sell without We Can filing a registration 

statement registering the transaction? Can he use a 

brokerage firm? 



47



Thomas may rely on Rule 144 

The shares of Series B Preferred Stock are “restricted 

securities” but not “debt securities” 

We Can is “listed” and therefore likely is a “reporting 

company” 

Thomas has held the Series B for seven months, and 

therefore can rely on Rule 144 BUT ONLY if there is 

“current information” about We Can 



48



Same facts as Study Problem 6.5, except assume that 

Thomas gave We Can a non-recourse personal note 

to finance his purchase of the shares of We Can 

preferred stock. 

Last month Thomas paid off the note and wants to 

sell his shares immediately without registration. 

Can he? 

Do you need to know any additional information? 



49



Under Rule 144(d), holding period does not begin until the 

full purchase price or other consideration is paid 

When a promissory note is given to the issuer (or an 

affiliate) to pay all or a portion of the purchase price of the 

security, the purchaser is not deemed to have paid full 

purchase price unless the note: 

provides for full recourse against the purchaser; and 

is secured by collateral, other than the securities 

purchased, having a fair market value at least equal to 

the purchase price of securities purchased; and 

the note is discharged by payment in full prior to sale of 

the securities. 



50




Thomas paid We Can cash to purchase the Series B 

but borrowed the purchase price from Shadyside 

Bank and Trust Company. Thomas gave Shadyside 

a note for the purchase price, collateralized by a 

pledge to the bank of those shares of We Can 


If Thomas defaults on the note seven months after 

Thomas purchased the stock, can the bank sell the 

preferred stock immediately without registration? 



51



We Can has been “listed” on Nasdaq for the past 10 years, and 

therefore likely is a “reporting company” at the time of the 

proposed Rule 144 sale and has been such for the preceding 90 

days, and therefore the six month holding period applies. Rule 

144(d)(1)(i). 

Under Rule 144(d)(3)(iv), Shadyside will be able to tack – or add – 

Thomas’s holding period to its own, and therefore Shadyside 

would have a seven month holding period: 

If Thomas’s pledge of restricted securities is “bona fide”, and 

If Thomas was personally liable to Shadyside (i.e., there is 

“recourse” to Thomas). 



52



Let’s continue to assume that We Can is a “reporting company” at the time of the 

proposed Rule 144 sale and has been such for the preceding 90 days, and that 

therefore the six month holding period applies. Rule 144(d)(1)(i). 

Rule 144(b)(1) states that if the issuer of the securities is, and has been for a 

period of at least 90 days immediately before the proposed Rule 144 sale, subject 

to SEC reporting requirements under the Exchange Act, a seller under Rule 144 

who is not an affiliate, and has not been an affiliate during the preceding three 

months, who sells restricted securities of that issuer for the seller’s own account 

shall be deemed not to be an underwriter if: 

The seller has held the securities for at least six months (see Rule 

144(d)(1)(i)); 

AND, when the holding period is at least six months but less than one year, 

the condition in Rule 144(c)(1) also must be satisfied (i.e., there must be 

“adequate current public information with respect to the issuer” as defined 

in (c)(1)) 



53


More About Pledges of Securities 

The 1981 Supreme Court decision in Rubin v. 

United States held that a pledge may be a sale 

for determining application of the anti-fraud 

provisions of the federal securities laws. 

The SEC’s Division of Corporation finance 

continues to take the view that the provisions 

of Rule 144(d) expressly permitting the tacking 

of holding periods of a pledgor and pledgee 

continue to apply. 



54


May Rule 144 be used in 

conjunction with other 

exemptions? 

[NOTE: THERE IS NO STUDY 

PROBLEM 6.8] 



55



Nine months after Biosystems’s IPO, its stock is trading at $50 per 

share. 

Gary Grateful is one of Great Genome’s founders who acquired a 

warrant in lending $1 million to Biosystems. Assume the warrant was 

issued five months before the IPO. 

Grateful now would like to exercise his Biosystems warrant and 

immediately sell the underlying shares. (As you may recall from Study 

Problem 2.6, the warrant includes a customary “net exercise” 

provision.) 

Grateful is not an officer or director of Biosystems and owns less than 5 

percent of its common stock. 

How could Grateful structure the transaction to accomplish his 

objective? 



56



Grateful would utilize the “net exercise” feature of the warrant 

In issuing its shares of common stock to Grateful upon exercise of 

the warrant, Biosystems would rely on the §3(a)(9) exemption: 

§ 3(a)(9) – Exchanges by the issuer 

any security exchanged by the issuer with its existing security 

holders exclusively where no commission or other remuneration is 

paid or given directly or indirectly for soliciting such exchange 

Grateful then could sell shares immediately under §4(a)(1) if he 

were not deemed to be an “underwriter”. 



57


Study Problem 6.9 – Analysis (cont’d) 

Grateful would utilize the “net exercise” feature of the warrant as follows: 

Warrant has exercise price of $10 per share 

Therefore, for 100,000 shares, Grateful’s aggregate exercise price is $1 

million 

With the market price of Biosystems stock at $50 per share, Grateful would 

have to deliver 20,000 shares to satisfy the exercise price 

On a net exercise basis, Biosystems would withhold (i.e., not issue) 20,000 

shares, and Grateful would receive 80,000 shares upon exercise without 

providing any other consideration to Biosystems . . . so the exchange of 

Biosystems common stock would be 

exclusively for the warrant, and 

without any commission or other remuneration 

and therefore would satisfy the criteria for the exemption under §3(a)(9) 

Most important, the net exercise will be helpful in allowing Grateful to utilize the 

Rule 144 “safe harbor” to avoid the risk that he might be characterized as an 

underwriter. 



58



The warrants are “restricted securities.” 

Biosystems has been a “reporting company” for nine months and 

therefore, the relevant holding period is six months. Rule 144(d)(1)(i). 

Grateful can “tack” holding period of the warrant (i.e., common stock to 

be sold was acquired from Biosystems solely in exchange for the warrant 

or “other securities of same issuer” and therefore the shares of common 

stock or “newly acquired securities” are deemed to have been acquired at 

the same time as the warrant. (See Rule 144(d)(3)(ii) & (x).) NB. The 

result is the same even if even if the options or warrants exercised 

originally did not provide for cashless exercise by their terms. 

Grateful held the warrant for 14 months, and therefore can rely on Rule 

144 without satisfying the other Rule 144 conditions 



59


Enough about Rule 144! 

What if Rule 144 is not available? 



60



Gee Whiz, Inc. believes that it has developed the “next generation” cell phone. It will take two years 

and $10 million for the phone to reach the prototype stage. Gee Whiz is not listed on an exchange 

and its shares are not otherwise publicly traded. 

Gee Whiz sells $12 million of convertible preferred stock to its existing VC investors and members of 

its board of directors and advisory board. Sally, one of these advisory directors, invests $500,000. 

Three months later Sally learns that she has a potentially life threatening medical condition. Her 

doctors recommend that she seek the treatment of a specialist in Australia. The course of treatment 

will range from two to three years in Australia, and she will not be able to continue teaching or 

consulting while “down under.” 

Ricardo, a neighbor of Sally’s, hears about her condition and wants to help. While speaking with one 

of Sally’s children, Riccardo learns that Sally stretched her financial resources to invest in Gee Whiz, 

expecting to be able to replenish her savings quickly with income from several new consulting 

assignments, which she now must decline. Ricardo teaches art at the local elementary school, but 

inherited significant assets from his late wife, a successful entrepreneur who died a year ago. Ricardo 

understands from Sally’s children that the Gee Whiz convertible preferred is “restricted.” He asks 

you if he may legally purchase the Gee Whiz preferred stock from Sally to help her fund her medical 

and relocation expenses. 

What is your advice? What additional facts, if any, would you like to know? 



61



Sally might consider relying on the 

so-called § 4(a)(1½) exemption, 

which is essentially a secondary 

private placement by her to 

Ricardo. 



62


So-called § 4(a)(1½) Exemption 

§4(a)(2) technically is available only for issuers: 

“transactions by an issuer not involving any 

public offering.” 

§4(a)(1) may not be completely safe because 

analysis of “underwriter” status depends on a 

subjective assessment of facts and the holding 

period 

In concept, § 4(a)(1½) falls between §4(a)(1) and 

§4(a)(2). 



63



Sally would structure the sale as if it were a 506 offering: 

Is Ricardo is an accredited investor? 

Is Ricardo sophisticated (either alone or with a 

purchaser representative)? 

Has Sally provided Ricardo with access to information 

that she has (or has the right to obtain) about Gee Whiz? 

Will Ricardo accept the same restrictions on the resale 

of the securities that apply to Sally? 



64



[Same facts as Study Problem 6.10.] 

Eight months after Ricardo acquires the 

preferred stock from Sally, he would like to 

resell it in a Rule 144 transaction. 

May Ricardo rely on Rule 144? 



65



Rule 144 is a safe harbor both for "restricted securities" and securities 

sold by affiliates (i.e., control securities). 

The SEC takes the position that "individual investors who are not 

professionals in the securities business also may be 'underwriters' if they 

act as links in a chain of transactions through which securities move 

from an issuer to the public." (See Note 2 to preamble to Rule 144.) 

Therefore, Rule 144 defines restricted securities as "securities 

acquired directly or indirectly from the issuer, or from an affiliate of the 

issuer, in a transaction or chain of transactions not involving any public 

offering" (Rule 144(a)(3)(i)). 

Ricardo's acquisition of securities from Sally would be viewed as part 

of a chain of transactions not involving a public offering. 



66



Remember in Study Problem 6.10 that Ricardo 

would accept the same restrictions on the resale of 

the securities that applied to Sally. 

Under Rule 144(d)(1), Riccardo may “tack” 

Sally’s holding period to his own, because Sally is 

not an affiliate of Gee Whiz 

The holding period began when Sally paid the 

full purchase price to Gee Whiz 



67



As the combined holding period is less than one year 

(three months plus eight months = eleven months), 

Ricardo may NOT rely on Rule 144 because Gee Whiz 

is not a reporting company. 

After Ricardo has held the securities for at least nine 

months he will be able to rely on Rule 144. 



68



What if Gee Whiz was a reporting company at the time of the 

proposed Rule 144 sale? 

As the combined holding period is greater than six months but less 

than one year (three months plus eight months), Ricardo may rely on 

Rule 144, provided that Gee Whiz 

filed all required reports under section 13 or 15(d) of the 

Exchange Act, as applicable, during the 12 months preceding 

such sale, other than Form 8–K reports; and 

submitted electronically and posted on its corporate Web site 

every “Interactive Data File” required to be submitted and posted 

pursuant to Rule 405 of Regulation S–T, during the 12 months 

preceding such sale. [NB. This criterion will be discussed in the 

second half of the course.] 



69


More About “Tacking” 

Rule 144(d)(1)(i) and (ii) indicate generally 

that the holding period for restricted securities 

acquired from a nonaffiliate may be tacked to 

the acquiror’s holding period 

BUT the same is not true for securities 

purchased from an affiliate. 

Other tacking situations are specifically 

addressed in Rule 144(d)(3). 



70


Are there special rules for large 

institutional investors? 

* * * 

What is a “QIB”? 



71



Three years after the Biosystems IPO, it issues $200 million of 

senior unsecured notes in a private placement exempt under 

Rule 506. The notes mature and are payable in full on the 10 th 

anniversary of issuance. Mutual funds and other large financial 

institutions, including Kinder Gentler Insurance Co., purchase 

the notes. 

Four months after the placement, Kinder Gentler decides to 

change its investment portfolio strategy and wishes to sell the 

notes. 

May it do so without Biosystems filing a registration 

statement to register the offer/sale under § 5 of the 




72


Rule 144(a)(3) – “Restricted Securities” 

Defined 

Reminder: 

Restricted Securities include: 

Securities acquired in a transaction 

or chain of transactions meeting 

the requirements of Rule 144A; 



73


Rule 144A 

Private Resales of Securities to Institutions 

Rule 144A(b): 

Any person, other than the issuer or a dealer, who 

offers or sells securities in compliance with the 

conditions set forth in paragraph (d) of this section 

shall be deemed not to be engaged in a 

distribution of such securities and therefore not 

to be an underwriter of such securities within the 

meaning of sections 2(a)(11) and 4(a)(1) of the Act. 



74



Kinder Gentler may rely on Rule 144A -- a close relative of 

§4(a)(1½) -- if : 

Notes are resold only to a qualified institutional buyer or 

“QIB” 

Biosystems takes reasonable steps to ensure that QIB is 

aware that the seller may rely on Rule 144A; 

Notes were not, when issued, of the same class as securities 

listed on a national securities exchange; 

In the case of securities of an issuer that does not file periodic 

reports with the SEC, holder and a prospective purchaser 

have the right to obtain certain information from the issuer, 

upon request. 



75


Rule 144A – Elements 

Rule 144A -- a close relative of § 4(a)(1½) 

Conditions to be met: 

Securities are offered or sold only to a “qualified 

institutional buyer” (“QIB”) 

Seller and any person acting on its behalf takes 

reasonable steps to ensure that purchaser is aware that 

seller may rely on exemption from Section 5 provided 

by Rule 144A 



76


Rule 144A – Elements (cont’d) 

Conditions to be met (continued): 

The securities offered or sold: 

Were not, when issued, of the same class as securities listed on a national 

securities exchange or quoted in a U.S. automated inter-dealer quotation 

system 

Securities convertible or exchangeable into securities so listed or quoted at 

the time of issuance and that had an effective conversion premium of less 

than 10 percent, treated as securities of the class into which they are 

convertible or exchangeable. 

Warrants that may be exercised for securities so listed or quoted at the 

time of issuance, for a period of less than 3 years from the date of 

issuance, or that had an effective exercise premium of less than 10 percent, 

shall be treated as securities of the class to be issued upon exercise. 



77

Conditions to be met (continued): 

The securities offered or sold: 



Are not securities of an open-end investment company, unit investment trust 

or face-amount certificate company that is or is required to be registered 

under the Investment Company Act; and 

In the case of securities of an issuer that is neither subject to section 13 or 15(d) of the 

Exchange Act . . . , the holder and a prospective purchaser designated by the holder 

have the right to obtain from the issuer, upon request of the holder, and the 

prospective purchaser has received . . . at or prior to the time of sale . . . , the 

following information (which shall be reasonably current in relation to the date of 

resale under this section): a very brief statement of the nature of the [issuer’s] business 

and the products and services it offers; and the issuer's most recent balance sheet and 

profit and loss and retained earnings statements, and similar financial statements for 

such part of the two preceding fiscal years as the issuer has been in operation (the 

financial statements should be audited to the extent reasonably available). 



78



Fact that purchasers of securities from issuer thereof 

may purchase with a view to reselling such 

securities pursuant to Rule 144A will not affect 

availability to such issuer of an exemption under 

§4(a)(2) or Regulation D. 

Securities acquired in a transaction that complies 

with Rule 144A are deemed to be restricted 

securities within the meaning of Rule 144(a)(3). 



79


Rule 144A – Recent Changes 

How did the 2012 JOBS Act and 

regulations adopted by the SEC 

in July 2013 change Rule 144A? 



80


Part 1 

How do investors resell securities? 

Part 2 

How do publicly traded companies 

conduct private placements? 



81

Private Placements by 

Publicly Traded Companies 

• What is a “PIPE” 

• What is an “A/B Exchange 

Offer”? 

• What is a Reg. S offering? 



82




* * * 


security being offered. 


transaction in which the offering is made. 



83

Session 6 (Part 2) – Private Placements by Publicly 

Traded Companies 


2008 Buffet Investment in Goldman Sachs 

On September 23, 2008, The Goldman Sachs Group, Inc. announced that in 

exchange for a $5 billion cash investment by Berkshire Hathaway, Inc., a 

company controlled by Warren Buffet, Goldman Sachs agreed to sell to Berkshire 

Hathaway: 

Shares of 10% cumulative perpetual Goldman Sachs preferred stock, having 

a liquidation preference of $5 billion and being “callable” (i.e., subject to 

repurchase by Goldman Sachs) at any time at a 10 percent premium; 

A warrant to purchase 43.5 million shares of Goldman Sachs common stock 

at a price of $115 per share 

On September 24, 2008, Goldman Sachs entered into an underwriting agreement 

for the sale of 40.65 million shares of Goldman Sachs common stock at a price of 

$115 per share (the “Goldman Common Stock Offering”). The Goldman 

Common Stock Offering was completed on September 29, 2006. 

How would you structure these financings to comply with the Securities Act 

of 1933? 



84

Session 6 (Part 2) – Private Placements by 


Study Problem 6.13 — Analysis 

Neither the sale of preferred stock or the warrant to Berkshire 

Hathaway Sale was registered under the Securities Act of 1933. 

Instead, they were sold in a private placement pursuant to Section 

4(a)(2) of the Act. 

Goldman Sachs and Berkshire Hathaway entered into a 

registration rights agreement 

The Common Stock Offering was registered under the Act pursuant 

to a “shelf” registration statement on Form S-3ASR (automatic shelf 

registration statement of securities of well-known seasoned issuers), 

which was originally filed on December 2, 2005. 

Goldman Sachs filed a prospectus supplement dated September 

25, 2008 related to the Common Stock Offering that describes 

the specific terms of the Common Stock Offering and adds to and 

updates information contained in a prospectus dated July 16, 

2006. 



85




BeanTown Biosystems completed its IPO five years ago and has 

timely filed all periodic reports subsequently due under the 

Exchange Act. 

Biosystems decides to raise additional common equity to fund a 

cash acquisition. Biosystems needs to obtain the commitments 

relatively quickly (within a few weeks), so it may enter into the 

acquisition agreement, but the acquisition will not close for at 

least six months. 

Biosystems would prefer not to sell its stock at a substantial 

discount from the current market price, so it wants to avoid selling 

stock that would be subject to material resale restrictions. 

Biosystems has a common equity float of $300 million. 

What do you recommend? 



86

PIPE—Private Investment in 

Public Equities 

Step 1 – Investors agree to purchase securities in a 

private placement – typically under Rule 506. 

Step 2 – Closing of private placement, and payment of 

funds to issuer, typically is contingent upon 

effectiveness of registration statement covering 

resales of the privately placed securities. 

Alternative Step 2 – Issuer agrees to file registration 

promptly after the closing 



87


Public Equities (cont’d) 

Why is this not deemed to be a public 

offering under the integration doctrine? 

Rule 152: the §4(a)(2) exemption “shall be 

deemed to apply to transactions not involving 

any public offering at the time of said 

transactions although subsequently thereto the 

issuer decides to . . . [file] . . . a registration 

statement.” 



88



Private placement must be “completed” prior to filing registration 

statement, otherwise Rule 152 will not be available. 

Private placement is completed when the issuer has commitments 

from all investors subject only to conditions outside the investors’ 

control 

The effectiveness of resale registration statement is considered to 

be a condition outside the investors’ control 

Investors typically are at market risk from the time the private 

placement is completed until the registration statement is effective. 

Renegotiation of material terms of purchase after registration 

statement filing may jeopardize availability of Rule 152 (as it may 

constitute a new offering). 



89



Watch for “toxic convertibles” or “death spirals”! 

If a PIPE deal is not structured properly, an issuer may throw the 

issuer’s stock into an irreversible “death spiral.” 

For example, a small percentage of structured PIPEs involve 

convertible securities with floorless reset conversion features. 

The floorless price reset features create an incentive for 

investors of toxic convertibles to short-sell the stock, driving 

the stock price down and allowing them to obtain more shares 

upon conversion of the toxic convertibles. These potential 

issuances of additional shares cause further downward 

pressure on stock price, throwing the issuer’s stock into a tailspin. 



90



Nasdaq Rule 5635(d) 

Be mindful of Nasdaq Rule 5635(d) – The “20% Rule” 

Shareholder approval required prior to issuance of securities in 

connection with a transaction other than a public offering if: 

issuance or potential issuance of common stock (or securities 

convertible into or exercisable for common stock), together with 

sales by officers, directors or “Substantial Shareholders,” are ≥ 20% 

of common stock or ≥ 20% of voting power outstanding before 

issuance; and 

price per share in private placement is < than greater of book or 

“market” value 

Note also that Nasdaq often will question whether offering registered 

with SEC – such as a “registered direct” offering – in fact is a bona fide 

“public offering” 



91




Jumbo Corp., a NYSE-listed company that has been publicly traded for 

the past 15 years, seeks to raise $300 million in debt financing by 

selling ten-year notes to institutional investors to fund a cash 

acquisition. 

Jumbo needs to obtain the commitments relatively quickly (within two 

weeks), so it may enter into the acquisition agreement. Jumbo will not 

be able to file a registration statement for several months while 

negotiations for another material acquisition are pending. 

Jumbo would prefer not to issue the debt in a Rule 506/Rule 144A 

structure, because it believes the illiquidity discount on account of the 

resale restrictions would be too great. 

Jumbo has a common equity public float of $500 million. 




92




Jumbo does not qualify as a WKSI. 

Jumbo’s negotiations for another material 

acquisition preclude filing a registration statement 

immediately, thus making a traditional PIPE 

structure undesirable. 

If Jumbo would prefer not to issue the debt in a Rule 

506/Rule 144A structure, another approach would 

be a transaction known as an “A/B exchange 

offer.” 



93



“Exxon Capital” A/B Exchange Offers 

In an A/B exchange offer transaction, the issuer sells securities in a 

private placement and, shortly thereafter, effects a registered 

exchange offer for those securities. 

The result is that the purchasers of the restricted securities hold 

freely tradable securities after the exchange—they can sell them 

in the secondary market and will not be deemed to be 

underwriters. 

The transaction may only be used with non-convertible debt 

securities, certain types of preferred stock and initial public 

offerings of common stock of foreign issuers to eliminate a 

Rule 144A facility. 

The rationale for A/B exchange offers is set forth in the “Exxon 

Capital” line of SEC no-action letters. 



94




Step 1 – Debt securities are sold in private placement 

under an exemption from registration requirements of 

the Securities Act (e.g., under Rule 506 to accredited 

investors – typically QIBs for purposes of Rule 144A). 

Step 2 –Issuer registers an exchange offer (on Form S-4) 

of debt securities having identical terms and conditions 

Step 3 – After the S-4 is effective, issuer exchanges the 

registered debt securities (i.e., the “B” tranche) for the 

privately placed debt securities (i.e., the “A” tranche). 



95




Implications of the Exchange: 

Investors now hold registered debt securities that 

are freely tradable in the secondary market without 

compliance with the Securities Act’s registration 

and prospectus delivery requirements applicable to 

underwriters, as long as the securities were acquired 

in the ordinary course of business and the private 

placee has no arrangement with any person for the 

distribution of the securities. 



96




Reasoning: 

SEC has previously opined that an institutional 

investor who purchases a large quantity of 

securities from an issuer will not be deemed to be 

an underwriter when selling the securities in the 

secondary market provided that the securities were 

acquired in the ordinary course of business and the 

investor has no arrangement with any person for the 

distribution of the securities. 



97




Query: 

How did the 2007 changes to Rule 144 affect 

the role of the A/B exchange offer? 



98

Session 6 (Part 2) – Reg. S 


Five years ago BeanTown Biosystems raised $200 million in 

an underwritten IPO. The lead underwriter was the 

investment banking firm Gold, Bull & Bear (“GBB”). 

GBB now advises Biosystems that there is growing interest 

in Europe for Biosystem and that an issuance of debt 

securities in Europe would enhance Biosystems’s reputation 

among institutional money managers in Europe. 

Biosystems would like to raise $75 million in Europe, but 

does not want to wait for a registration statement to be 

declared effective. What is your advice? 



99

Session 6 (Part 2) – 

Basic Principle Underlying Securities Act of 1933 

(Refined) 

Unless an exemption is available, it is 

unlawful to use any means of interstate 

commerce to make any offer or sale of a 

security unless the transaction is 

registered with the SEC and all material 

information has been disclosed. 



100


Regulation S (Rules 901 – 905) 

Rule 901: “offer” and “sale” does not 

include offers and sales solely outside 

of United States 

Preliminary Notes: A non-exclusive 

safe harbor 



101


Regulation S – Rule 903(a): 

Offer and sale is made in an “offshore” 

transaction 

No “directed selling efforts” are made in 

the U.S. 



102



Additional conditions depending on the type of offering: 

“Category 1” includes 

Foreign issuer reasonably believes at the 

commencement of the offering that there is no 

substantial U.S. market interest); and 

The securities are offered and sold to employees of 

issuer or its affiliates pursuant to employee benefit 

plan established and administered in accordance with 

the law of a country other than the United States, and 

customary practices and documentation of such 

country, provided several other conditions are 

satisfied. 



103



“Category 2” which includes 

Debt securities of a reporting U.S. issuer 

Equity securities of a reporting foreign 

issuer 

Additional conditions 

Offering restrictions are implemented 

40-day “distribution compliance” period 



104



“Category 3” which applies to any class of securities 

not eligible for either category 1 or 2, including 

Equity securities of a reporting U.S. issuer 

Additional conditions 

Offering restrictions are implemented 

40-day “distribution compliance” period for debt 

six month “distribution compliance” period for 

equity for “reporting issuers” (one year period 

for non-reporting issuers) 



105

Reg. S 


Additional conditions for Category 3 equity offerings: 

Purchaser (other than a distributor) must certify that it 

is not a U.S. person and is not acquiring the securities 

for the account or benefit of any U.S. person; 

Purchaser agrees to resell such securities only in 

accordance with Regulation S, or pursuant to 

registration under the Act, or pursuant to an available 

exemption from registration; and agrees not to engage 

in hedging transactions with regard to such securities 

unless in compliance with the Act; 



106


Reg. S 

Additional conditions for Category 3 equity 

offerings: 

Securities of a domestic issuer contain restrictive 

legend; 

The issuer is required, either by contract or a 

provision in its bylaws, articles, charter or 

comparable document, to refuse to register any 

transfer of the securities that does not comply 

with the transfer restrictions 



107


Reg. S 

Additional conditions for Category 3 equity offerings: 

Each distributor, dealer (as defined in section 

2(a)(12) of the Act), or a person receiving a selling 

concession, fee or other remuneration, prior to the 

expiration of the “distribution compliance period”, 

sends a confirmation or other notice to the purchaser 

stating that the purchaser is subject to the same 

restrictions on offers and sales that apply to a 

distributor. 



108

Reg. S 

Regulation S – Rules 904 and 905: 

Resale Restrictions under 904 – Offshore 

Similar to basic Reg. S conditions 



109

Reg. S 


Resale Restrictions under 905 – U.S. 

Equity securities of domestic issuers 

acquired from the issuer, a distributor, or 

any of their respective affiliates in a 

transaction subject to the conditions of Rule 

901 or Rule 903 are deemed to be 

"restricted securities" as defined in Rule 

144. 



110



Resale Restrictions under 905 – U.S. (cont’d) 

Resales of such restricted securities must be made in 

accordance with 

Regulation S, or 

the registration requirements of the Securities Act, or 

an exemption therefrom. 

Any "restricted securities," as defined in Rule 144, that are 

equity securities of a domestic issuer will continue to be 

deemed to be restricted securities, notwithstanding that they 

were acquired in a resale transaction made pursuant to Rule 

901 or Rule 904. 



111

Same facts as 6.16 



May BioSystems sell $75 million of debt securities 

in Europe and concurrently sell $50 million of the 

same debt securities in the US? 

What is your advice? 



112


Study Problem 6.17 Analysis 

Yes, Biosystems may sell the debt securities 

offshore in reliance on Reg. S and concurrently 

conduct a private placement of the same securities in 

the United States. 

According to one source, a majority of international 

offerings are concurrent Reg. S offerings and Rule 

506 private placements in the United States to QIBs 

that may resell the securities under Rule 144A. 



113


Study Problem 6.17 Analysis (cont’d) 

In determining whether the requirements for an exempt 

private placement under Section 4(a)(2) (including Rule 

506) have been satisfied, offshore transactions made in 

compliance with Reg S will not be integrated with 

domestic offerings that are otherwise exempt from 

registration under the Securities Act. See Preliminary 

Note 7 to Regulation D. 

For Reg. S purposes, it is essential that the issuer not 

engage in conduct that could constitute “directed selling 

efforts” in the United States. 



114

Note about JOBS Act and 

Foreign Private Issuers 

Foreign Private Issuers will be discussed in a 

later session. 

The JOBS Act contains a number of key 

changes that will facilitate U.S. IPOs by 

foreign private issuers that are emerging 

growth companies. 

These changes are relevant to both SECregistered 

and non-SEC-registered deals. 



115

Note about JOBS Act and 

Foreign Private Issuers 

For a client advisory focusing on JOBS Act 

changes relevant to foreign private issuers 

that are emerging growth companies, see 

http://www.davispolk.com/files/Publication/69e8a705a654-486b-b313- 

29763590e278/Presentation/PublicationAttachment/6f4c 

dcd1-4d3a-41c3-90df- 

29801fd8bd2b/042612_finaljobsact.pdf 



116






Michael Krebs 





All Rights Reserved 117





Session 6 – Study Problem 

July 27, 2013 


All Rights Reserved



Beantown Biosystems raises $100 million by selling 5 million shares 

of common stock at $20 per share in an underwritten initial public 

offering (“IPO”) covered by an effective registration statement. 

Professor Pennypincher, who has no relationship to Biosystems or 

any of its affiliates, purchases 1,000 shares of stock in the IPO 

through her trusted brokerage firm Merry Brothers, a brokerage firm 

that was not part of the underwriting syndicate. 

One month after the IPO, Biosystems’s stock is trading at $30 per 

share. Pennypincher’s accountant encourages her to sell one-third of 

her Biosystems shares through Merry Brothers. 

May Pennypincher do so without causing Biosystems to file with 

the SEC a registration statement that registers that sale of 

Pennypincher’s stock under §5 of the Securities Act? 


Reserved 

2






Faith Frugal, one of founders’ friends, would like to sell 500 

of the Biosystems shares that she acquired 17 months earlier 

in a “506” transaction. Neither Faith nor any member of her 

family is a Biosystems director or executive officer, or owns 

more than 1% of Biosystem stock. 




Reserved 

3




Biosystems six months before the IPO. 













Reserved 

4



George is the President and CEO of We Can Do It, Inc. (We Can) and one of 

the company’s largest shareholders, owning 20 percent of We Can’s outstanding 

common stock. Among his holdings are 500,000 shares of We Can Series B 

Preferred Stock, which he purchased four months ago as part of an offering 

under Rule 506 to accredited investors, including some mutual funds and other 

large financial institutions. The Series B Preferred Stock is convertible into 

common stock. 

We Can has been listed on Nasdaq for at least the past ten years. 

George tells you that his twin daughters have just turned 18 and each is about to 

head off to a prestigious (and very expensive) private university on the banks of 

the Charles River. George would like to sell some or all of his Series B shares 

in order to pay the tuition bills. 

Can he do so without We Can filing a registration statement registering the 

transaction under the Securities Act? How? Can he sell all of his shares or 

just a portion? What if George held the Series B for seven months? 



5




Three months later, Thomas, who is George’s old 

college roommate and has no other relation to We Can, 

decides to sell the 250,000 shares of Series B Preferred 

Stock that he bought in the same offering. He doesn’t 

like the direction that We Can is taking and wants out! 

Can Thomas sell without We Can filing a registration 

statement registering the transaction? Can he use a 

brokerage firm? 



6




Thomas gave We Can a non-recourse personal note 

to finance his purchase of the shares of We Can 


Last month Thomas paid off the note and wants to 

sell his shares immediately without registration. 

Can he? 

Do you need to know any additional information? 



7




Thomas borrowed money from Shadyside Bank and 

Trust Company to fund the purchase of the shares of 

We Can preferred stock. He gave Shadyside a note 

for the purchase price, collateralized by a pledge to 

the bank of those shares of We Can preferred stock. 

If Thomas defaults on the note seven months after 

Thomas purchased the stock, can the bank sell the 

preferred stock immediately without registration? 



8


THERE IS NO 6.8 



9



Nine months after Biosystems’s IPO, its stock is trading at $50 

per share. 

Gary Grateful is one of Great Genome’s founders who acquired a 

warrant in lending $1 million to Biosystems. Assume the warrant 

was issued five months before the IPO. 

Grateful now would like to exercise his Biosystems warrant and 

immediately sell the underlying shares. 

Grateful is not an officer or director of Biosystems and owns less 

than 5 percent of its common stock. 

How could Grateful structure the transaction to accomplish 

his objective? 



10



Gee Whiz, Inc. believes that it has developed the “next generation” cell phone. It will take two years 

and $10 million for the phone to reach the prototype stage. Gee Whiz is not listed on an exchange 

and its shares are not otherwise publicly traded. 

Gee Whiz sells $12 million of convertible preferred stock to its existing VC investors and members of 

its board of directors and advisory board. Sally, one of these advisory directors, invests $500,000. 

Three months later Sally learns that she has a potentially life threatening medical condition. Her 

doctors recommend that she seek the treatment of a specialist in Australia. The course of treatment 

will range from two to three years in Australia, and she will not be able to continue teaching or 

consulting while “down under.” 

Ricardo, a neighbor of Sally’s, hears about her condition and wants to help. While speaking with one 

of Sally’s children, Riccardo learns that Sally stretched her financial resources to invest in Gee Whiz, 

expecting to be able to replenish her savings quickly with income from several new consulting 

assignments, which she now must decline. Ricardo teaches art at the local elementary school, but 

inherited significant assets from his late wife, a successful entrepreneur who died a year ago. Ricardo 

understands from Sally’s children that the Gee Whiz convertible preferred is “restricted.” He asks 

you if he may legally purchase the Gee Whiz preferred stock from Sally to help her fund her medical 

and relocation expenses. 

What is your advice? What additional facts, if any, would you like to know? 



11



[Same facts as Study Problem 6.10.] 

Eight months after Ricardo acquires the 

preferred stock from Sally, he would like to 

resell it in a Rule 144 transaction. 

May Ricardo rely on Rule 144? 



12



Three years after the Biosystems IPO, it issues $200 million of 

senior unsecured notes in a private placement exempt under 

Rule 506. The notes mature and are payable in full on the 10 th 

anniversary of issuance. Mutual funds and other large financial 

institutions, including Kinder Gentler Insurance Co., purchase 

the notes. 

Four months after the placement, Kinder Gentler decides to 

change its investment portfolio strategy and wishes to sell the 

notes. 

May it do so without Biosystems filing a registration 

statement to register the offer/sale under § 5 of the 




13

Session 6 (Part 2) – Private Placements by Publicly 

Traded Companies 


2008 Buffet Investment in Goldman Sachs 

On September 23, 2008, The Goldman Sachs Group, Inc. announced that in 

exchange for a $5 billion cash investment by Berkshire Hathaway, Inc., a 

company controlled by Warren Buffet, Goldman Sachs agreed to sell to Berkshire 

Hathaway: 

Shares of 10% cumulative perpetual Goldman Sachs preferred stock, having 

a liquidation preference of $5 billion and being “callable” (i.e., subject to 

repurchase by Goldman Sachs) at any time at a 10 percent premium; 

A warrant to purchase 43.5 million shares of Goldman Sachs common stock 

at a price of $115 per share 

On September 24, 2008, Goldman Sachs entered into an underwriting agreement 

for the sale of 40.65 million shares of Goldman Sachs common stock at a price of 

$115 per share (the “Goldman Common Stock Offering”). The Goldman 

Common Stock Offering was completed on September 29, 2006. 

How would you structure these financings to comply with the Securities Act 

of 1933? 



14




BeanTown Biosystems completed its IPO five years ago and has 

timely filed all periodic reports subsequently due under the 

Exchange Act. 

Biosystems decides to raise additional common equity to fund a 

cash acquisition. Biosystems needs to obtain the commitments 

relatively quickly (within a few weeks), so it may enter into the 

acquisition agreement, but the acquisition will not close for at 

least six months. 

Biosystems would prefer not to sell its stock at a substantial 

discount from the current market price, so it wants to avoid selling 

stock that would be subject to resale restrictions. 

Biosystems has a common equity float of $300 million. 




15




Jumbo Corp., a NYSE-listed company that has been publicly traded for 

the past 15 years, seeks to raise $300 million in debt financing by 

selling ten-year notes to institutional investors to fund a cash 

acquisition. 

Jumbo needs to obtain the commitments relatively quickly (within two 

weeks), so it may enter into the acquisition agreement. Jumbo will not 

be able to file a registration statement for several months while 

negotiations for another material acquisition are pending. 

Jumbo would prefer not to issue the debt in a Rule 506/Rule 144A 

structure, because it believes the illiquidity discount on account of the 

resale restrictions would be too great. 

Jumbo has a common equity public float of $500 million. 




16



Five years ago BeanTown Biosystems raised $200 million in 

an underwritten IPO. The lead underwriter was the 

investment banking firm Gold, Bull & Bear (“GBB”). 

GBB now advises Biosystems that there is growing interest 

in Europe for Biosystem and that an issuance of debt 

securities in Europe would enhance Biosystems’s reputation 

among institutional money managers in Europe. 

Biosystems would like to raise $75 million in Europe, but 

does not want to wait for a registration statement to be 

declared effective. What is your advice? 



17

Same facts as 6.16 



May BioSystems sell $75 million of debt securities 

in Europe and concurrently sell $50 million of the 

same debt securities in the US? 




18






Michael Krebs 





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Periodic reporting under the 

Exchange Act 


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Registration and Reporting 

Under Securities Exchange Act of 1934 

Primary Objective: 

Maintain integrity of 

securities markets 


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Exchange Act Overview 

Establish SEC (§4 et seq.) 

Regulate securities trading markets, including 

broker-dealers 

Require disclosure of material information 

regarding “reporting companies” 

Prohibit deceptive and manipulative practices 


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Securities Exchange Act 

Overview (cont’d) 

Regulation of securities trading markets 

The Exchange Act empowers the SEC with broad authority over 

all aspects of the securities industry, including the power to 

register, regulate, and oversee: 

brokerage firms, 

transfer agents, 

clearing agencies 

securities self-regulatory organizations (SROs) 

various stock exchanges, such as the New York Stock 

Exchange, The NASDAQ Stock Market, and the American 

Stock Exchange are SROs. 


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Securities exchanges, Nasdaq and SROs - 

§§ 5, 6, 15A, 19 

Limits on securities related borrowing: 

Margin requirements - §7 

Limits on borrowing by members, brokers, dealers - §8 

Swap agreements (express exclusion thereof) - §3A 

“Securities information processors” - §11A 

Securities settlement procedures - §17A 

Including DTC 

Regulation of brokers and dealers - §15 

Regulation of municipal securities dealers - §15B 

Regulation of government securities brokers and dealers - §15C 

Regulation of securities analysts, research reports - §15D 


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Disclosure of material information regarding 

“reporting companies”, including 

Periodic and other reports - §§13 and 15(d) 

Forms 10-K (annual), 10-Q (quarterly) 

Form 8-K (episodic) 

Schedules 13D and 13G (certain shareholders) 

Audit and non-audit services - §10A 

Proxy statements - §14 

Regulation of trading by “insiders” - §16 

Liability for misleading statements - §§ 18, 32 


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Prohibition of deceptive and manipulative 

practices, including 

Fraud prohibition - §10(b) 

Rule 10b-5 


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Under Securities Exchange Act 

How does a company become a 

“reporting company”? 


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Session 7 – Registration and Reporting 



Global Yearbook was organized under Delaware 

law in 2006 and now has its headquarters outside 

of San Francisco, California. 

As of June 30, 2013, the end of Global's most 

recent fiscal year, it had total assets of $15 million. 

For FY 2013, it $100 million of revenue. 

Global has had three rounds of venture capital 

investments, each structured as an exempt private 

placement under the Rule 506 safe harbor. 


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Study Problem 7.1 (cont’d) 

Global has been reluctant to issue stock in a public 

offering, because it has been able to fund growth 

through earnings and did not need additional capital. In 

the judgment of Global's board of directors, the pricing 

in an IPO would result in unacceptable dilution to 

existing shareholders. 

Global's practice has been to grant stock options to 

all employees. 

At the end of FY ’13, Global had 300 holders of 

common stock, and 355 current or former employees 

held options to acquire Global common stock. 


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Under the Securities Exchange Act 

Study Problem 7.1 (cont’d) 

Global's accounting firm asks whether 

Global must begin filing reports with the 

SEC during its fiscal year ending June 30, 

2014. 



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§12(g)(1)(B) 

Prior to JOBS Act: 

$10 million of assets (Rule 12g-1) 

500 “holders of record” of a class 

of equity security (see Rule 3a-11) 


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Understanding §12(g) 

Prior to JOBS Act: 

Section 12(g), as modified by Rule 12g-1, 

requires a company to register its class of 

equity securities with the SEC under the 

Exchange Act, within 120 days after the last 

day of its fiscal year, if, at the end of the fiscal 

year, that class of equity securities is "held of 

record" by 500 or more persons and the 

company has "total assets" exceeding $10 

million. 


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A few words about “holders of record” 

and “street name” ownership 

Generally speaking, the SEC’s definition of "held of 

record" counts as holders of record only persons 

identified as owners on records of security holders 

maintained by the company in accordance with accepted 

practice. 

The SEC uses this definition to simplify the process of 

determining the applicability of Section 12(g) by allowing 

a company to look to the holders of its securities as shown 

on records maintained by it or on its behalf, such as 

records maintained by the company's transfer agent. 


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and “street name” ownership (cont’d) 

But a fundamental shift has occurred in how securities are 

held in the United States since the enactment of Section 

12(g) in 1964. Today, the vast majority of securities of 

publicly-traded companies are held in nominee or “street 

name” form. 

A security is said to be held in “street name” when the 

security is owned by an institutional custodian. The most 

prominent custodian in the U.S. is the Depository Trust 

Company (DTC), which holds securities through its 

nominee Cede & Co. 


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DTC is a central repository or clearinghouse facility through 

which members transfer stock and bond certificates 

electronically (i.e., through a “book entry” system). DTC was 

set up to provide an infrastructure for settling trades in 

municipal, mortgage-backed and corporate securities in a costefficient 

and timely manner. 

DTC is owned indirectly by numerous banks, brokerages, 

trading houses and trading exchanges (the “Participants”). 

For example, one Participant brokerage firm may own a large 

position in a publicly traded company on behalf of thousands 

of beneficial owners. 


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“Holders of record” Defined 

A clearinghouse facility such as DTC is not a single 

“holder of record” for purposes of Exchange Act 

registration, even though the company’s stock records 

will show a single position held by Cede & Co. 

Instead, each DTC “participant” (i.e., the banks and 

brokerage firms that own DTC) is a treated as a 

single record holder. 

Source: Rule 12g5-1(b)(1) and SEC Compliance and 

Disclosure Interpretations 


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JOBS Act Change: 

Holder of Record Threshold Increased 

Section 501 of JOBS Act amends §12(g)(1)(A) of the 

Exchange Act to increase “holder of record” threshold for 

ALL companies (other than banks and bank holding 

companies) to 

(i) 2,000 persons, or 

(ii) 500 persons who are not accredited investors (as 

such term is defined by the Commission). 

Applies to both EGCs and non-EGCs. 

Question: How will a company know who is an 

accredited investor? 


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Special Rule for Banks and Bank 

Holding Companies 

Section 601 of JOBS Act amends §12(g)(1)(B) of the 

Exchange Act to increase “holder of record” threshold 

for banks and bank holding companies only to 

2,000 persons 

Whether or not accredited investors. 


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“Holder of Record” Excludes Securities 

issued under Rule 701, etc. 

Section 502 of JOBS Act amended §12(g)(5) of the 

Exchange Act to provide: 

Definition of ‘held of record’ shall not include securities 

held by persons who receive securities pursuant to an 

employee compensation plan in transactions exempted 

from §5 registration. 

Examples: Awards under Rule 701. The JOBS Act 

directs the SEC to adopt safe harbor rules. 


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“Crowdfunding” Securities to be 

Excluded for Holder of Record Test 

Section 303 of JOBS Act added §12(g)(6) to 

the Exchange Act directing SEC to adopt a 

rule: 

Exempting, conditionally or unconditionally, 

securities acquired pursuant to a 

“crowdfunding” offering made under §4(6) 

SEC rulemaking has not occurred 


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Back to Study Problem 7.1! 

Global's accounting firm asks whether 

Global must begin filing reports with the 

SEC during its current fiscal year ending 

June 30, 2014. 

Do the option holders count as “holders of 

record” of the common stock? 


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First, consider Rule 3a-11: 

The term equity security is hereby defined to 

include any . . . security convertible, with or 

without consideration into such a security . . .; or 

any . . . warrant or right; or any put, call, 

straddle, or other option or privilege of buying 

such a security from or selling such a security to 

another without being bound to do so. 


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Next consider Rule 12h-1(f): 

In 2007 (i.e., after Google’s IPO), the SEC adopted Rule 

12h-1(f), which provides an exemption from the holder 

of record threshold for compensatory stock options. 

This rule decreased the odds that compensatory stock 

options granted by pre-IPO companies to employees, 

officers, directors, consultants and advisors will cause 

the company to have to register a class of equity 

securities under the Exchange Act. 


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More about Rule 12h-1(f) 

Application to Restricted Stock Units 

In 2008, in response to a request by 

Facebook, Corp Fin issued a “no-action 

letter” extending the relief in Rule 12h- 

1(f) to restricted stock units. See 

Facebook, Inc. (October 14, 2008 no 

action letter). 


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But then consider §502 of JOBS Act: 

Definition of ‘held of record’ shall not 

include securities held by persons who 

receive securities pursuant to an employee 

compensation plan in transactions exempted 

from §5 registration (i.e., equity awards 

exempt under Rule 701) 


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Global will not have to register under 

Section 12(g) in FY 2014. 

Per Rule 12h-1(f), Global did not have 

more than 500 “holders of record” as of 

June 30, 2013 and therefore could not 

have had more than 500 holders who were 

not accredited investors. 


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Same facts as Study Problem 7.1 

Global plans to raise $500 million by selling shares of its common 

stock in a 506 transaction to a so-called “special-purpose vehicle” in 

which approximately 250 accredited investors would invest. 

Global’s CEO tells you that Global’s investment banking firm, Hook 

Line & Sinker, told the CEO that the investors who invest indirectly 

through the “special-purpose vehicle” would not be considered 

Global “holders of record” for SEC purposes. 

The CEO asks you whether this structure presents any 

compliance risks for Global. What is your advice. 


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It is conceivable the SEC might assert that the structure 

proposed by Hook Line & Sinker could raise compliance issues 

under Section 12(g). 

Consider 12g5-1: 

If the issuer knows or has reason to know that the form of 

holding securities of record is used primarily to 

circumvent the provisions of section 12(g) or 15(d) of the 

Act, the beneficial owners of such securities shall be 

deemed to be the record owners thereof. 

Is the special purpose vehicle being used primarily for another 

reason? 


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How does “registration” under 

the Exchange Act differ from 

registration under the 



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§12(g)(1)(B) and Rule 12g-1 

One-time registration of the class of an 

equity security (Rule 12d-1) 

Registration of a class of equity 

securities is effectively registration of 

“the company.” 


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In addition to Section 12(g), how else 

might a company become a 



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§12(b) – Listing on an Exchange 

Registration required to list a security on 

an exchange, such as 

New York Stock Exchange 

The NASDAQ Stock Market 

Same effect as Section 12(g) registration 


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§15(d) and Rules 15d-1 to 15d-16 


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§15(d) 

Each issuer which has filed a registration 

statement . . . which has become effective 

pursuant to the Securities Act . . . shall file with 

the [SEC] . . . , such supplementary and 

periodic information, documents, and 

reports as may be required pursuant to § 13 

in respect of a security registered pursuant 

to § 12. 


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§15(d) (continued) 

The duty to file under §15(d) 

automatically suspended if and so long 

as any issue of securities of such issuer 

is registered pursuant to §12 


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Voluntary Registration under §12(g)(1)(B) 

Any issuer may register any class of equity 

security not required to be registered by filing 

a registration statement on Form 10. 

See GM’s filing in early 2010. 


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§12(g)(2) –§12(g) Registration Exemptions: 

security issued by any investment co. 

security issued by a mutual or cooperative 

organization which supplies a commodity or 

service primarily for the benefit of its members 

and operates not for pecuniary profit 

security issued by certain insurance companies 


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§12(g)(2) –§12(g) Registration Exemptions: 

collective trust funds maintained by a bank or in a 

separate account maintained by an insurance 

company which interest or participation is issued 

in connection with 

a stock bonus, pension, or profit-sharing plan which 

meets the requirements for qualification under section 

401 of Internal Revenue Code or 

an annuity plan which meets the requirements for 

deduction of the employer's contribution under section 

404(a)(2) of the Internal Revenue Code 


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How does a company cease to be a 



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Termination of registration (Rule 12g-4) 

“Going Private” 

1) Fewer than 300 holders of record; or 

2) Fewer than 500 holders of record and 

less than $10 million of assets 

Which test is likely to be more relevant? 


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Termination of reporting 

Don’t forget §15(d) 

The duty to file under §15(d) 

automatically is reinstated if the issuer 

no longer has any securities registered 

pursuant to §12 


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§15(d) 



The duty to file . . . shall also be automatically 

suspended as to any fiscal year, other than the fiscal 

year within which such registration statement 

became effective, if, at the beginning of such fiscal 

year, the securities of each class to which the 

registration statement relates are held of record by 

less than three hundred persons. 

See Rule 12h-3 for details. 


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How does the disclosure in a “registration” 

under Section 12 compare to the 

disclosure in an S-1 for an IPO? 


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§12(b) and §12(g) Registration 

Form 10: 

www.sec.gov/about/forms/form10.pdf 


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What reports must a reporting 

company file? 

How are the reports filed? 


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Periodic Reports: 

Form 10-K 

Form 10-Q 

Form 8-K 


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How Do Investors Access Periodic 

Reports? 

EDGAR 


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Importance of EDGAR System 

Electronic Data Gathering 

Analysis and Retrieval (EDGAR) 

All companies, foreign and domestic, 

are required to file registration 

statements, periodic reports, and 

other forms electronically through 

EDGAR. 


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EDGAR (Cont’d) 

Not all documents filed with the SEC by public 

companies will be available on EDGAR. 

Companies were phased in to EDGAR filing over 

a three-year period ended May 6, 1996. 

As of that date, all public domestic companies 

generally were required to make their filings on 

EDGAR. 

Third-party filings with respect to these 

companies, such as tender offers and Schedules 

13D, are also filed on EDGAR 


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EDGAR (Cont’d) 

Practice point: 

All EDGAR filers must have EDGAR codes 

issued by the SEC. 

For example, a principal shareholder filing a 

13D or a Form 3 under Section 16 will 

require her own EDGAR codes. (Application 

must be made to the SEC for EDGAR codes.) 


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When are periodic reports due? 


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Due date for periodic reports: 

Form 10-K 

Form 10-Q 

Form 8-K Generally 4 business 

days after trigger event 


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Due date for periodic reports: 

Form 10-K Depends upon size of 

Form 10-Q 

Form 8-K 

reporting companies 


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Categories of reporting companies: 

Large accelerated filer 

Accelerated filer 

Non-accelerated filer 

Smaller reporting company 

Emerging growth company 

See definitions in Rule 12b-2 


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(Similar to WKSI definition) 

Criteria include: 

Aggregate worldwide “float” ≥ $700 million, as 

of the last business day of the issuer's most 

recently completed second fiscal quarter; 

Subject to section 13(a) or 15(d) reporting for a 

period of at least twelve calendar months 


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10-K Due 60 days after the end of the 

fiscal year covered by the report 

10-Q Due 40 days after the end of the 

fiscal quarter 


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(Similar to non-WKSI S-3 issuer) 


Aggregate worldwide “float” ≥ $75 million (but 









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Smaller Reporting Company 


Public “float” < $75 million, as of the last 

business day of the issuer's most recently 

completed second fiscal quarter 


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Non-accelerated filer and Smaller 

Reporting Company 






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Emerging Growth Company 

Section 101(b) of JOBS Act adds to definitions in Exchange Act 

(§3(a)(80)) “emerging growth company” or EGC. 

A company ceases to be an EGC upon the earlier of: 

1. Becoming a “Large Accelerated Filer” which could occur as early as 

approximately one year after IPO; 

2. Last day of FY during which 5 th anniversary of IPO (common 

equity) occurred pursuant to an effective registration statement; 

3. Last day of FY during which it had total annual gross revenues of 

≥$1 billion (indexed for inflation); 

4. Date on which the company has, during previous 3-year period, 

issued >$1 billion in non-convertible debt. 


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Special Exchange Act Rules for 

Emerging Growth Companies 

Title II of the JOBS Act exempts Emerging Growth 

Companies from various requirements of Exchange 

Act reporting. 

Please refer to Goodwin Procter matrix distributed 

in class. 

http://www.goodwinprocter.com/~/media/E7463DA 

9940544CF83D8715CC1E67A98.pdf 


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What are the implications of a 

filing under Rule 12b-25 

(Notice of Late Filing)? 


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Rule 12b-25 – Notice of Late Filing 

With respect to any report . . . which is not 

timely filed because the registrant is unable to 

do so without unreasonable effort or expense, 

such report shall be deemed to be filed on the 

prescribed due date for such report if: 


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Rule 12b-25 – Notice of Late Filing (cont’d) 

1. The registrant files Form 12b-25 in compliance with 

paragraph (a); 

2. The registrant represents . . . that the reason(s) 

causing the inability to file timely could not be 

eliminated by the registrant without unreasonable 

effort or expense; and 

3. Form 10-K is filed no later than the fifteenth 

calendar day following the prescribed due date; or 

Form 10-Q is filed no later than the fifth calendar 

day following the prescribed due date 


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Rule 12b-25 – Notice of Late Filing (cont’d) 

A registrant will not be eligible to use any 

registration statement form under the 

Securities Act of 1933 the use of which is 

predicated on timely filed reports (e.g., 

Form S-3) until the subject report is 

actually filed pursuant to paragraph (b)(3) 

of this section 


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What are the key MD&A 

disclosure principals? 


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MD&A Overview 

Practical Guidance 

Past Transgressions 

[SEE SEPARATE SLIDE DECK] 

Michael Krebs 

Nutter, McClennen & Fish, LLP 

November 2009 

© 2003-2009 Nutter, McClennen & Fish, LLP All Rights Reserved 


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“Forward Looking Statements” 

The Private Securities Litigation Reform Act (PSLRA), 

codified at Section 27A of the Securities Act and 21E of the 

Exchange Act, provides a safe harbor from liability for 

forward-looking statements, which immunizes an issuer’s 

forward-looking statements from securities law liability if: 

(1) the statement is identified as forward-looking and 

is accompanied by meaningful cautionary language; or 

(2) plaintiffs fail to establish that defendants that 

defendants had actual knowledge of the falsity of the 

statement. 


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Section 21E (and 27A) – Safe Harbor 

“Forward Looking Statements” 

(conceptually related to “bespeaks 

caution” doctrine) 


Reserved



What is a “Forward Looking Statement”? 

What steps are necessary to achieve the 

benefit of the safe harbor for forward 

looking statements? 


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Forward Looking Statement: 

A statement containing or regarding 

Projection of revenues, income, etc. 

Plans and objectives of management for 

future operations 

Future economic performance, including 

any such statement contained in MD&A 


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Section 21E 

in any private action . . . based on an untrue 

statement of a material fact or omission of a 

material fact necessary to make the statement 

not misleading . . . a person . . . shall not be 

liable with respect to any “forward-looking 

statement” if and to the extent that – 


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Section 21E (cont’d) 

the forward-looking statement is-- 

identified as a forward-looking statement, and 

accompanied by meaningful cautionary 

statements identifying important factors that 

could cause actual results to differ materially 

from those in the forward looking statement; or 


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the plaintiff fails to prove that the forward-looking 

statement— 

If made by a natural person, was made with actual 

knowledge by that person that the statement was 

false or misleading; or 

If made by a business entity, was made by or with 

the approval of an executive officer with actual 

knowledge by that officer that the statement was 

false or misleading. 


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Oral forward-looking statements: 

Oral forward-looking statement must be 

accompanied by a cautionary statement 

that the particular oral statement is a forwardlooking 

statement; and 

that the actual results might differ materially; 



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The oral forward-looking statement is 

accompanied by an oral statement that 

additional information concerning factors 

that could cause actual results to materially 

differ is contained in a “readily available 

written document,” or portion thereof; 


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The accompanying oral statement referred to 

identifies the document, or portion thereof, that 

contains the additional information about those 

factors relating to the forward-looking statement; 


The information contained in that written 

document is a cautionary statement that satisfies 

the standard for written forward looking 

statements 


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Forward Looking Statements in the Courts 

Can defendant prevail before discovery? 

Outside the Seventh Circuit, the prevailing rule is that 

the adequacy of defendant’s ‘‘cautionary language’’ can 

be resolved at the pleading stage, without discovery, so 

long as the language identifies important factors that 

could cause results to differ materially from those in the 

forward-looking statement. 


All Rights Reserved




Can defendant prevail before discovery? 

In the Seventh Circuit, if the defendant’s cautionary 

language does not identify the negative events that 

ultimately occurred, discovery is required to determine if 

defendant’s cautionary language was sufficiently 

meaningful. 


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(cont’d) 

How specific must cautionary statements be? 

Courts generally agree that cautionary language is sufficient if it 

warns investors of risks similar in scope to that actually realized so 

that the investor is on notice of the danger of the investment 

Courts struggle, however, with how specific an issuer’s risk 

disclosure must be to avoid the fatal charge that its cautionary 

language is mere boilerplate. 


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(cont’d) 

How specific must cautionary statements be? 

Courts are especially unlikely to find the safe harbor applicable where the 

language is so broad that it could be applied to any business. 

For example, a court analyzing a telecommunications company warning that: 

‘‘Actual results may differ from the results discussed in the forward-looking 

statements. Factors that might cause such a difference include . . . risks associated 

with introducing new products, entering new markets, availability of resources, 

competitive response, . . . .” 

The court rejected this warning as “useless caveat emptor boilerplate,” holding 

that the “breadth of these warnings makes it impossible to determine if it 

meaningfully described the principal or important risks facing [the defendant].” 


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(cont’d) 

How to draft effective cautionary statements? 

First, every issuer should reconsider, on a quarterly basis, whether new 

developments in its business or in the markets in which it operates 

warrant an update of the cautionary language to reflect any changes to the 

description of the nature of the risks facing the company. 

Second, in crafting risk disclosures it will often be helpful for the issuer’s 

counsel to review the risk disclosures of competitors, suppliers and 

customers. 

Third, reviewing recent analyst reports on the company and the industry 

will often help identify appropriate risk factors to highlight. 


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(cont’d) 

Does the phrase “accompanied by” permit allow 

the Company to cross reference to cautionary 

statements in another SEC filing? 

Recent decisions have found that an issuer does not lose its 

safe harbor protection by simply cross referencing, in one 

written statement, to cautionary language in one of its SEC 

filings. 


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What is the Sarbanes-Oxley Act? 


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Decades Later . . . More 

Dramatic Legislation Required! 

Nearly 70 years after the adoption of the 

Securities Act of 1933, Congress again reacted 

to a major crisis in the capital markets – this 

time resulting from corporate fraud and 

accounting scandals revealed in 2000 and 

2001 – by passing the Sarbanes-Oxley Act of 

2002. 

SOX has had a HUGE impact on Exchange 

Act Reporting. 


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Origins of Sarbanes-Oxley Act 

Intentional misstating of revenue and/or expense 

WorldCom (n/k/a MCI): 

Reduced operating expenses by improperly releasing certain reserves 

held against operating expenses 

Improperly reduced operating expenses by recharacterizing certain 

expenses as capital assets 

Tyco: Accused of “Spring-Loading” – Padding earnings growth by 

acquiring companies after making them prepay expenses and forgo 

new revenue 

Global Crossing: Accumulated $12.4 billion in debt building a 

worldwide fiber optic network. Global Crossing leased space on its 

27-nation network to rivals from which it rented capacity at the same 

time, helping both parties boost reported revenue. 


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(cont’d) 

Deceptive Related-Party Transactions 

Enron: Limited partnerships used as “off-balance sheet” 

special purpose entities 

Aggressively boosted profits and hid debts totaling over $1 

billion by using off-the-books partnerships 

Adelphia Communications: Fraudulently excluded 

billions of dollars in liabilities from its consolidated 

financial statements by hiding them on the books of offbalance 

sheet affiliates 


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(cont’d) 

Abuse of Insider Loans 

Tyco: $121.1 million -- Including $61 million to CEO 

for “relocation costs” 

WorldCom: $160.8 million to former CEO 

Adelphia Communication: $3.1 billion to Rigas Family 

– used money for private purchases and investments 

including a golf course and dealings with a NHL hockey 

team 


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(cont’d) 

Ineffective Corporate Governance 

Ineffective oversight by senior-most management and 

especially audit committees of financial reporting and 

internal controls 

Enron, WorldCom, etc. 

Accounting firms perceived to be insufficiently independent 

of management 

Enron, WorldCom, etc. 

Lawyers perceived to view management and not the board 

of directors as their client 

Enron, Tyco 


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(cont’d) 

Economic impact of corporate scandals – in the 

nine months from early October 2001 to late June 

2002 

WorldCom stock fell 95% ~ $42 billion decline! 

Enron stock declined 99% ~ $25 billion decline! 

Adelphia stock fell 99% ~ $3 billion decline! 

Tyco stock fell 70% ~ $63 billion decline! 


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Sarbanes-Oxley Act of 2002 

Overview 

Accounting Standards and Oversight 

Auditor Independence 

Management Accountability 

CEO/CFO Certifications Under Sections 302 and 906 

Internal Control Requirements 

Ethics Policies Required 

Whistle-blower Protection 

Limitations on use of Non-GAAP Disclosures 

Prohibition on Personal Loans to Executives 

Obligation of Lawyers to Report “Up-the-Ladder” 


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Impact of Sarbanes-Oxley 

Certifications under 302 and 906 

Each CEO and CFO of a reporting company must certify the 

accuracy of all periodic reports (i.e., 10-Ks and 10-Qs) filed 

with the SEC. 

Each CEO and CFO must certify that she has reviewed the 

report, and to her knowledge the report does not contain any 

material misstatements or omissions, and the financial 

statements and other information contained in the report fairly 

represent in all material respects the company’s financial 

condition and results of operations of the issuer for the periods 

presented in the reports. 


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Internal Control Certifications 

The CEO and CFO must also certify in every quarterly and annual report (i.e., 10-Ks and 10- 

Qs): 

that they are responsible for establishing and maintaining internal controls and have 

designed such internal controls to ensure that material information relating to the 

company and its consolidated subsidiaries is made known to such officers by others 

within those entities; 

that they have evaluated the effectiveness of the company’s internal controls within 

the past 90 days; 

that they have presented in the report their conclusions about the effectiveness of their 

controls; 

that they have disclosed to the company’s auditors and the audit committee all 

significant deficiencies in the design or operation of internal controls which could 

adversely affect the company’s ability to record, process, summarize and report financial 

data and have identified for the auditors any material weaknesses in internal controls and 

any fraud, whether material or not, that involves management or other employees who 

have a significant role in the issuer’s internal controls. 


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CEO/CFO Certifications – Penalties 

Whoever certifies one of the above statements 

knowing that the periodic report does not 

comport with all the requirements can be fined 

up to $1,000,000 and imprisoned up to 10 years. 

Whoever willfully certifies such a statement 

knowing it does not comport with the statute’s 

requirements can be fined up to $5,000,000 and 

imprisoned up to 20 years. 


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CEO/CFO Certifications 

SEC Enforcement Actions 

There have been at least eight SEC enforcement actions involving a 

CEO or CFO certification under SOX. 

In one, the SEC charged that the CEO "signed [the annual report] 

and the Sarbanes-Oxley certification without having read either 

document and without having taken any steps to determine their 

accuracy or truthfulness,” relying instead on nothing more than a 27year 

old EVP’s assurances. 

In another, the SEC alleged that the CFO ignored “red flags” of 

improper revenue recognition and participated in preparing 

backdated documentation that was provided to the company’s 

auditors to support fictitious fiscal 2006 year-end sales. 


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Impact of Sarbanes-Oxley (cont’d) 

Audit Integrity 

Section 303 

Section 401 

PCAOB 


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Corporate Governance Practices 

Section 402 – No Loans to Insiders 

Section 404 – Internal Control Certifications 

Section 406 – Code of Ethics 

Section 409 – “Real Time” Disclosure 


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404 Internal Control Certifications 

Section 404 of SOX requires a company’s independent 

accounting firm to satisfactorily complete an audit of the 

company’s “internal control over financial reporting” (ICOFR). 

Effectiveness of a company’s ICOFR is evaluated using 

suitable control criteria, such as the COSO (Committee of 

Sponsoring Organizations of the Treadway Commission) 

criteria. 

This is a relatively expensive process, especially for most 

companies that are not large accelerated filers. 


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404 Internal Control Certifications 

Special Rule for EGCs 

Section 103 of the JOBS Act amends 

Section 404(b) of SOX: 

The 404 requirement for audit of the 

company’s “internal control over 

financial reporting” does not apply to 

emerging growth companies 


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Trend Toward “Real Time” Disclosure 

August 2004 SEC Amends Form 8-K: 

Dramatically shortened filing 

deadlines: 

4 business days for most events 

Significantly expanded scope of 

events triggering disclosure 


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2004 Amendment of Form 8-K (cont’d) 

Item 1.01 Entry into a Material 

Definitive Agreement 

Item 1.02 Termination of a Material 

Definitive Agreement 


Reserved




Item 2.03 Creation of a Direct Financial 

Obligation or an Obligation under an Off- 

Balance Sheet Arrangement of a Registrant. 

Item 2.04 Triggering Events That Accelerate 

or Increase a Direct Financial Obligation or 

an Obligation under an Off-Balance Sheet 

Arrangement. 


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Item 2.05 Costs Associated with Exit 

or Disposal Activities 

Item 2.06 Material Impairments 


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Item 2.06 Material Impairments. 

No filing is required under this Item 2.06 if the 

conclusion is made in connection with the 

preparation, review or audit of financial statements 

required to be included in the next periodic report due 

to be filed under the Exchange Act, the periodic 

report is filed on a timely basis, and such conclusion 

is disclosed in the report. 


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Item 3.01 Notice of Delisting or Failure to 

Satisfy a Continued Listing Rule or 

Standard; Transfer of Listing. 

Item 3.02 Unregistered Sales of Equity 

Securities. 

Item 3.03 Material Modification to Rights 

of Security Holders. 


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Item 4.02 Non-Reliance on Previously 

Issued Financial Statements or a 

Related Audit Report or Completed 

Interim Review. 


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Item 5.02 Departure of Directors or 

Principal Officers; Election of 

Directors; Appointment of Principal 

Officers. 


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Regulation G – Non-GAAP Disclosure 

Pursuant to Section 401(b) of Sarbanes-Oxley: 

SEC adopted new Regulation G and new Item 10 

of Regulation S-K, governing the use of non- 

GAAP financial information in public 

communications by SEC registrants and filings 

made with the SEC. 


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(cont’d) 

"Non-GAAP financial measure" is defined as a numerical measure of a 

company's historical or future financial performance, financial position or 

cash flows that: 

1) excludes amounts, or is subject to adjustments that have the effect 

of excluding amounts, that are included in the most directly 

comparable GAAP measure in the statement of income, balance 

sheet or statement of cash flows of the company; or 

2) includes amounts, or is subject to adjustments that have the effect 

of including amounts, that are excluded from the most directly 

comparable measure so calculated and presented. 


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(cont’d) 

Regulation G requires a company to provide the following 

information as part of the disclosure or release of non-GAAP 

financial information: 

a presentation of the most directly comparable financial 

measure calculated and presented in accordance with 

GAAP; and 

a reconciliation (by schedule or other clearly 

understandable method) of the differences between the non- 

GAAP measure and the most directly comparable GAAP 

measure or measures. 


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Foreign Corrupt Practices Act 

What is scope of FCPA? 


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Foreign Corrupt Practices Act 

Enacted in 1977 in the wake of a series of overseas and 

domestic bribery scandals, the FCPA originally 

prohibited U.S. corporations and nationals from making 

improper payments to foreign officials, parties or 

candidates, in order to assist a company in obtaining, 

retaining or directing business to any person. 

The FCPA also imposes record-keeping and internal 

controls requirements on all SEC reporting 

companies. 


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Foreign Corrupt Practices Act (cont’d) 

The U.S. Department of Justice (“DOJ”) has primary responsibility 

for enforcing the anti-bribery provisions of FCPA. 

The SEC typically takes the lead in enforcing the accounting 

provisions (e.g., books and records, internal controls). 

Both the SEC and DOJ have authority to seek permanent injunctions 

against present and future violations. Criminal and civil penalties for 

violating the FCPA can be severe for corporations as well as 

individual officers, employees and agents. 

In addition to large DOJ and SEC monetary sanctions, FCPA 

violations can provoke shareholder litigation, as well as government 

debarment and suspension proceedings and parallel investigations in 

foreign jurisdictions. 


All Rights Reserved


Record-keeping Provisions – See p. 127 of Soderquist 

Codified in § 13(b)(2) and (3) of the Exchange Act, the FCPA record-keeping provisions 

state: 

Every issuer which has a class of securities registered pursuant to section 12 and every 

issuer which is required to file reports pursuant to section 15(d) shall— 

(A) make and keep books, records, and accounts, which, in reasonable detail, accurately 

and fairly reflect the transactions and dispositions of the assets of the issuer; 

(B) devise and maintain a system of internal accounting controls sufficient to provide 

reasonable assurances that— 

(i) transactions are executed in accordance with management's general or 

specific authorization; 

(ii) transactions are recorded as necessary (I) to permit preparation of financial 

statements in conformity with generally accepted accounting principles or any 

other criteria applicable to such statements, and (II) to maintain accountability 

for assets; 


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Record-keeping Provisions (cont’d) 

FCPA record-keeping and internal controls provisions apply 

to all reporting companies, whether or not they have any 

foreign operations. 

FCPA recording keeping and internal control rules also 

apply to companies with ADRs traded on a U.S. stock 

exchange. 

FPCA record-keeping nor internal control provisions are not 

limited to transactions above a certain amount and do not 

impose a materiality requirement. 


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Inadvertent mistakes will not give rise to 

enforcement actions or prosecutions. 

An issuer can violate the books and records 

provisions if a foreign subsidiary creates false 

records to conceal an illicit payment, and the 

issuer parent then incorporates the subsidiary’s 

information into its books and records. 


All Rights Reserved



Examples of transactions which accounting records may fail to 

adequately or accurately disclose: 

payments to foreign government officials; 

commercial bribes or kickbacks; 

political contributions; 

smuggling activities; 

income tax violations; 

customs or currency violations; and 

extraordinary gifts 


All Rights Reserved


Bribery Provisions 

A U.S. company or issuer can be liable under 

the FCPA as amended for the conduct of 

overseas employees or agents, even if no 

money was transferred from the U.S. and no 

U.S. person participated in any way in the 

foreign bribery. 


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Bribery Provisions 

The 1998 amendments expanded the FCPA’s jurisdiction to cover 

corrupt foreign payments outside the U.S. by U.S. persons without any 

link to interstate commerce. 

The FCPA amendments make it illegal for any U.S. person to violate 

the FCPA “irrespective of whether such U.S. person makes use of 

interstate commerce in furtherance of the illegal foreign activity. 

Until 1998, foreign persons were not subject to the anti-bribery 

provisions unless they were issuers or domestic concerns. The 1998 

amendments expanded the FCPA to allow for the prosecution of any 

foreign person, whether or not a U.S. resident, who takes any act in 

furtherance of a corrupt payment while in the territory of the U.S. 


All Rights Reserved


What about the ‘Bribery is Accepted and Routine There’ Defense 

“The argument that a client “conducted business in a foreign country 

where corrupt practices are routine and long established” and “there was 

no other practical way to do business and compete” is highly unlikely to 

succeed, with either the DOJ or the SEC. The uniform government 

response is that Congress was fully aware of foreign customs and 

practices where bribery payments were the norm when it enacted the 

FCPA three decades ago, and it sought to establish ethical business 

practices for U.S. companies doing business overseas.” 

The Foreign Corrupt Practices Act: 

A Primer For Multinational General Counsel 

By: Robert W. Tarun 


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Two noteworthy FCPA enforcement actions during the paste decade: 

1. In April 2007, the DOJ and SEC entered into an FCPA record setting 

$44 million settlement – the largest monetary sanction ever imposed 

in an FCPA case – with Baker Hughes Inc. for a subsidiary’s 

payment of bribes totaling $4.1 million over a two-year period to 

a Kazakh official in order to obtain an oil field services contract. 

2. In March 2005, defense contractor Titan Corporation entered into a 

$28.5 million settlement with the DOJ and SEC for FCPA bribery 

violations involving the president of Benin’s reelection campaign. 

Titan was required to plead guilty as a result of its submission of 

false invoices for consulting services and payment of $3.5 million 

to an agent, who was in fact the Benin president’s business 

advisor. 


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What is Reg. FD? 

What are the practical 

implications? 


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Reg. FD Overview 

Reg. FD – Fair Disclosure 

Perceived Abuse: 

Selective disclosure of material, 

nonpublic information to “Wall 

Street” professionals at the expense of 

individual investors 


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Reg. FD Overview (cont’d) 

Reg. FD – Key Elements 

1. Disclosure covered by rule: 

Statements by issuer or a person 

acting on its behalf 


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2. Activity covered: 

Selective disclosure of material, 

nonpublic information to securities 

market professionals or holders of 

issuer’s securities, when it is reasonably 

foreseeable that recipient will trade on 

basis of the material, non-public 

information 


All Rights Reserved


Examples of covered activities: 

“Guidance” re: earnings results 

One-on-one sessions involving 

senior management and analysts or 

investors 


All Rights Reserved


Speeches, interviews and conferences 

Responding to market rumors 

Reviewing analyst reports and similar 

materials 

Referring to or distributing analyst 

reports about the company 

Postings on company website 


All Rights Reserved


3. Required Disclosure: 

Issuer must make public disclosure of 

the information – 

(1) simultaneously, if the disclosure was 

intentional (like a press release), or 

(2) promptly thereafter, if the 

disclosure was unintentional 


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Public disclosure of the information – 

by “furnishing to” or “filing with” the 

Commission a Form 8-K disclosing that 

information 

See Item 7.01 of Form 8-K and related 

Instruction B.1 regarding “furnishing” 

vs. “filing” under Item 8.01 of Form 8-K 


All Rights Reserved


4. Exceptions: 

a. Broad Advance Notice 

Issuer exempt from requirement to furnish or file a 

Form 8-K if instead it disseminates information 

through another method of disclosure that is 

reasonably designed to provide broad, nonexclusionary 

distribution of the information to the 

public 

Typically, the alternative scenario is a publicized 

conference call in which any party can listen 


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b. “Breach of trust” 

Any officer, director, employee, or agent 

of an issuer who discloses material, 

nonpublic information in breach of a duty 

of trust or confidence to the issuer shall 

not be considered to be “acting on behalf 

of the issuer” 


All Rights Reserved


Examples involving “trust” 

(1) a lawyer or an investment banker 

engaged by the issuer, or 

(2) a party to a confidentiality 

agreement 


All Rights Reserved



c. Violation of Company Policy 

If issuer adopts policy that limits which 

senior officials are authorized to speak to 

securities market professionals, a selective 

disclosure by a senior official who is not 

authorized to speak under the policy will not 

violate Regulation FD (but may subject the 

person to insider trading liability) 


All Rights Reserved

Reg. FD Compliance Programs 

Elements of Sample FD Policy: 

1. Limit authorize spokespersons 

CEO 

CFO 

Investor Relations Officer 

Other persons designated by 

“Disclosure Committee” 


All Rights Reserved


2. Example of Disclosure Committee 

Investors Relations 

CFO 

General Counsel 


All Rights Reserved


3. Dissemination of Information 

Press release through widely circulated 

news and wire services 

Advance public notice and public access 

information for each scheduled conference 

call 

Anyone may listen to call by telephone or 

webcast. 


All Rights Reserved


3. Dissemination of Information (cont’d) 

Permissible to allow only a limited group 

to ask questions on the conference call, as 

long as all listeners can hear the questions 

and answers 

Make an audio recording of the conference 

call publicly available through our website 

or an outside service for limited period 

(e.g., one week following the call) 


All Rights Reserved

Reg. FD Enforcement 

Who may bring a claim for a 

violation of Reg. FD? 


All Rights Reserved


Only the SEC may bring a claim for 

violation of Reg. FD 

Recognizing that private liability could 

contribute to a chilling effect on issuer 

communications, the SEC has emphasized 

that Regulation FD contains no private 

right of action. 


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SEC has been viewed as enforcing Reg. FD 

zealously. 

Most companies and insiders against whom 

enforcement actions have been brought 

have agreed to settle. 

BUT the SEC lost decisively in its only 

litigated Reg. FD case 


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Reg. FD Enforcement – Siebel Case 

In September 2005, in SEC v. Siebel 

Systems Inc., a federal district court 

decisively dismissed the SEC. 


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SEC alleged that 

1) Siebel’s CFO had commented positively on the 

company’s business activity and sales transaction 

pipeline in a private meeting with an institutional 

investor, and 

2) CFO’s statements “materially contrasted” with 

allegedly more cautious public statements made by 

Siebel’s chairman in a conference calls earlier the 

same month 


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Court concluded that Reg. FD does not require that 

corporate officials “only utter verbatim statements 

that were previously publicly made.” So long as the 

private statement communicates the same material 

information that the public statement conveyed, the 

court concluded that Regulation FD is not implicated. 

Court ruled that, when viewed in context, the 

defendants’ public and private disclosures “did not 

add, contradict, or significantly alter” the material 

information available to the general public. 


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Court rejected the SEC’s syntactic parsing of 

the Siebel disclosures: “Fair accuracy, not 

perfection, is the appropriate standard.” 

Court admonished the SEC for “scrutiniz[ing], 

at an extremely heightened level, every 

particular word used in [the Siebel statements], 

including the tense of verbs and the general 

syntax of each sentence.” 


All Rights Reserved

Attorney Conduct Rules 

Under Federal Securities Laws 

Attorney Conduct Rules –17 CFR Part 205 

(pursuant to §307 of Sarbanes-Oxley Act of 2002) 

Applies to attorneys who are “appearing 

and practicing before the Commission in 

the representation of an issuer” 


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“Appearing and practicing before the 

Commission . . . ” is broadly defined to 

include 

Transacting any business with SEC or otherwise 

communicating with SEC; 

Representing an issuer in an SEC administrative 

proceeding or in connection with any SEC 

investigation, inquiry, information request or 

subpoena; 


All Rights Reserved



Providing advice in respect of federal securities laws 

and regulations concerning any document that the 

attorney has notice will be filed with or submitted to 

SEC by a client-issuer, including customary SEC filings 

as well documents filed as exhibits or otherwise; and 

Advising an issuer as to whether information, 

statements, opinions or other writings are required to 

be filed with or submitted to the SEC under the federal 

securities laws and regulations 


All Rights Reserved



Foreign Attorneys: 

Foreign attorneys who are not admitted in the United 

States, and who do not advise clients regarding U.S. 

law, are not be covered by the rule 

Foreign attorneys who provide legal advice regarding 

U.S. law would be covered to the extent they are 

appearing and practicing before the SEC, unless they 

provide such advice in consultation with U.S. counsel 


All Rights Reserved



Attorney subject to mandatory 

“up-the-ladder” reporting 

Must report any evidence of 

any material violation of federal or state 

securities law, 

any material breach of a fiduciary duty arising 

under federal or state law, or 

any other “similar” violation of federal or state 

law. 


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Trigger for attorney’s reporting obligation: 

“Evidence of a material violation means 

credible evidence, based upon which it would 

be unreasonable, under the circumstances, for 

a prudent and competent attorney not to 

conclude that it is reasonably likely that a 

material violation has occurred, is ongoing, or 

is about to occur” (emphasis added). 


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“Under the circumstances” 

Determined at time attorney decides whether he 

or she is obligated to report the information. 

May include, among others, attorney's 

professional skills, background and experience, 

the time constraints under which attorney is 

acting, attorney's previous experience and 

familiarity with client, and availability of other 

attorneys for consultation. 


All Rights Reserved



“Reasonably Likely” 

To be "reasonably likely" a material 

violation must be more than a mere 

possibility, but it need not be "more likely 

than not." 


Reserved



“Up-the-ladder” reporting 

Disclosure first to 

Chief Legal Officer, or 

Chief Legal Officer and Chief 

Executive Officer 


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“Up-the-ladder” reporting (cont’d) 

Unless attorney believes CLO or CEO has made an 

“appropriate response”, the attorney must report the 

evidence of a material violation further up-the-ladder 

to: 

the audit committee of the board of directors, 

another independent committee of the board, 

or 

if no such committees exist, to the entire board. 


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SEC perspective on CLOs: 

CLO can play an essential leadership role in assuring an appropriate "tone" 

and corporate culture that support rigorous compliance with all laws. 

CLO generally can "push back" on senior management more forcefully than 

other employees when difficult legal issues arise, especially in light of the 

greatly heightened awareness among officers and directors today of the price 

of corporate malfeasance. 

CLO can serve as a bridge to the board on difficult legal matters. 

CLO also can best assure an appropriate level of protection for 

whistleblowers and others who identify potential legal problems at the 

company, especially given the sometimes difficult task of sorting out 

potential cases of whistleblower retaliation from ordinary personnel disputes. 


All Rights Reserved



In addition to the straight up-the-ladder 

reporting, the SEC rules also permit companies 

to establish a “qualified legal compliance 

committee” (“QLCC”). 

Once an attorney reports evidence of a material 

violation to pre-existing QLCC, then that 

committee is responsible for investigating the 

evidence of a material violation and formulating 

an appropriate and timely response. 


All Rights Reserved






Michael Krebs 





All Rights Reserved

MD&A Overview 

Practical Guidance 

Past Transgressions 

Michael Krebs 


November 2009 

© 2003-2009 Nutter, McClennen & Fish, LLP All Rights Reserved

MD&A Overview 

MD&A: 

Management’s Discussion and Analysis of 

Financial Condition, and 

Results of Operations

MD&A Overview 

Objective: 

“To provide, in one section of a filing, 

material historical and prospective textual 

disclosure enabling investors . . . to assess 

the financial condition and results of 

operations of the registrant, with particular 

emphasis on the registrant's prospects for the 

future.” (SEC 1989 Release)

MD&A Overview 

Key Elements of MD&A 

(Item 303 of Reg. S-K and Supplemental SEC Guidance) 

Executive summary 

Critical accounting policies 

Liquidity 


Off-balance sheet arrangements; contractual 

obligations and commitments 

Operating results

MD&A Overview 

Overview of Item 303: 

“MD&A is intended to give the investor an 

opportunity to look at the company through 

the eyes of management by providing both a 

short and long-term analysis of the business 

of the company. [Item 303] asks 

management to discuss the dynamics of the 

business and to analyze the financials.” 

(SEC 1989 Release, emphasis added.)

MD&A Overview 

Overview of Item 303 (cont’d): 

“It is the responsibility of management to 

identify and address those key variables and 

other qualitative and quantitative factors 

which are peculiar to and necessary for an 

understanding and evaluation of the 

individual company.” (SEC 1981 Release.)

MD&A Overview 


Several specific provisions in Item 303 require 

disclosure of forward-looking information. 

MD&A requires discussion of “known trends or 

any known demands, commitments, events or 

uncertainties that will result in or that are 

reasonably likely to result in the registrant's 

liquidity increasing or decreasing in any material 

way.”

MD&A Overview 


MD&A also requires discussion of 

known material trends in the registrant's capital 

resources and expected changes in the mix and cost 

of such resources; and 

known trends or uncertainties that the registrant 

reasonably expects will have a material impact on 

net sales, revenues, or income from continuing 

operations.

MD&A Overview 


Finally, MD&A requires a discussion of 

material events and uncertainties known to 

management that would cause reported financial 

information not to be necessarily indicative of 

future operating results or of future financial 

condition.

MD&A Overview 

Elements of MD&A – In Detail 

Executive summary (best practice) 

Summary identifying what management considers the 

most important factors in determining its financial 

results and conditions, including the principal factors 

driving them, the principal trends on which 

management focuses and the principal risks to the 

business 

Summary must be balanced and include all issues, and 

details must be included in body of MD&A.

MD&A Overview 


Critical accounting policies 

In December 2001, SEC issued "cautionary advice" to 

issuers regarding MD&A disclosure of critical accounting 

policies. 

SEC stated that companies should include in their MD&A 

clear, balanced explanations of the effects of “critical 

accounting policies,” the judgments made in their 

application, and the likelihood of materially different 

reported results under different assumptions or conditions.

MD&A Overview 


Critical accounting policies (cont’d) 

Working Definition: 

A critical accounting policy as one that is both very 

important to the portrayal of the company's financial 

condition and results, and requires management's most 

difficult, subjective or complex judgments. 

(Based upon 2002 remarks by SEC Chief Accountant)

MD&A Overview 



SEC Objective: 

To provide investors with an understanding about how 

management forms its judgments about future events, 

including the variables and assumptions underlying the 

estimates, and the sensitivity of those judgments to different 

circumstances. 

As the complexity and subjectivity of judgments increase, 

the inherent level of precision in the financial statements 

decreases, which is a fact that investors should be told.

MD&A Overview 



Prior to filing annual reports, the audit committee should 

review and discuss with senior management and outside 

auditors the selection, application and disclosure of critical 

accounting policies. 

SEC officials have also advised that critical accounting 

policy disclosures be reviewed every quarter.

MD&A Overview 


Liquidity 

Liquidity is defined in Instruction 5 to Item 303(a) as "the 

ability of an enterprise to generate adequate amounts of cash 

to meet the enterprise's needs for cash." 

Item 303(a)(1) requires that the discussion identify "any 

known trends or any known demands, commitments, events 

or uncertainties that will result in or that are reasonably likely 

to result in the company's liquidity increasing or decreasing in 

any material way."

MD&A Overview 


Liquidity (cont’d) 

The scope of the discussion should address liquidity in the 

broadest sense, evaluating the amounts and certainty of cash 

flows from internal operations and from outside sources, 

current conditions as well as future commitments, known 

trends, and changes in circumstances and uncertainties.

MD&A Overview 



The scope of the discussion should address liquidity in the broadest 

sense, evaluating the amounts and certainty of cash flows from 

internal operations and from outside sources, current conditions as 

well as future commitments, known trends, and changes in 

circumstances and uncertainties. 

For example, if liquidity is dependent on off-balance sheet 

financing, such as securitization of receivables or obtaining access 

to assets through special purpose entities, disclosure of factors that 

may affect continued use of material off-balance sheet 

arrangements is likely to be necessary.

MD&A Overview 



SEC has identified various items to be considered in preparing the liquidity 

section: 

(1) Provisions in financial guarantees or commitments, debt or lease 

agreements or other arrangements that could trigger a requirement for an 

early payment, additional collateral support, changes in terms, 

acceleration of maturity, or the creation of an additional financial 

obligation, such as adverse changes in the registrant's credit rating, 

financial ratios, earnings, cash flows, or stock price, or changes in the 

value of underlying, linked or indexed assets;

MD&A Overview 



(2) Circumstances that could impair the registrant's ability to continue to 

engage in transactions that have been integral to historical operations or 

are financially or operationally essential, or that could render that activity 

commercially impracticable, such as the inability to maintain a specified 

investment grade credit rating, level of earnings, earnings per share, 

financial ratios, or collateral; 

(3) Factors specific to the company and its markets that the registrant expects 

to be given significant weight in the determination of the registrant's credit 

rating or will otherwise affect the registrant's ability to raise short-term 

and long-term financing;

MD&A Overview 



(4) Guarantees of debt or other commitments to third parties; 

(5) Written options on nonfinancial assets (for example, real estate puts) 

(6) Material deficiencies in liquidity and any proposed remedies 

contemplated, e.g., (i) past due payables to trade and other creditors, 

negotiations with such creditors and steps contemplated to fund 

delinquent balances and meet ongoing trade obligations and (ii) violations 

of restrictive maintenance covenants in debt agreements (minimum ratios, 

working capital or stockholders' equity) and negotiations with lenders to 

cure any defaults.

MD&A Overview 



(7) Cash flows from (i) investing and financing activities (e.g., debt 

refinancings and redemptions and financing from customers or suppliers) 

and (ii) operations (e.g., discretionary operating expenses such as 

advertising, research and development), including how operating cash 

flows may be affected by trends or significant events. 

(8) Any limitation on the ability of subsidiaries to upstream funds to the 

parent company in the form of cash dividends, loans or advances, or if any 

of the parent's debt instruments contain such restrictions, a discussion of 

such limitations and the expected effect on the ability of the parent to 

meet its cash requirements.

MD&A Overview 



(Companies are permitted to and often do combine the discussion of liquidity and 

capital resources whenever the two topics are interrelated. For clarity, this 

presentation separately addresses Capital Resources.) 

Item 303(a)(2) requires that MD&A describe "the company's material 

commitments for capital expenditures" and "the general purpose of such 

commitments and the anticipated source of funds needed to fulfill such 

commitments." 

Commitments in this context should be construed as planned expenditures, not 

simply legal obligations. The discussion should indicate any known material 

trends, favorable or unfavorable, in capital resources and expected material 

changes in the mix and relative cost of such resources, such as the mix between 

equity, debt, and off-balance sheet arrangements.

MD&A Overview 


Off-Balance Sheet Arrangements; Contractual 

Obligations and Commitments 

As directed by Section 401(a) of the Sarbanes-Oxley Act, 

the SEC amended the MD&A requirements to include 

specific disclosure mandates with respect to off-balance 

sheet arrangements and contractual obligations and 

commitments.

MD&A Overview 


Off-Balance Sheet Arrangements; Contractual 

Obligations and Commitments (cont’d) 

Disclosure of off-balance sheet transactions must be in a 

separately-captioned section of MD&A. 

Cross-referencing to information in the notes to the financial 

statements is allowed if the notes are written in a clear and 

informative manner. 

Off-balance sheet arrangements should be aggregated in 

categories or groups in a manner that allows investors to 

understand the circumstances that would have common effects 

with respect to a number of off-balance sheet arrangements.

MD&A Overview 


Operating results 

Companies are required, pursuant to Item 303(a)(3), to 

Describe any unusual or infrequent events or transactions . . . that 

materially affected the amount of reported income from continuing 

operations and, in each case, indicate the extent to which income 

was so affected; and 

Describe any known trends or uncertainties that have had or that 

the company reasonably expects will have a material favorable or 

unfavorable impact on net sales or revenues or income from 

continuing operations.

MD&A Overview 


Operating results (cont’d) 

Discussion should include a description of matters that might have 

an impact on future operating results even if they have not had an 

impact in the past, and vice versa. 

Discussion should include the impact of inflation, if material. In 

that case, management need only present its views textually; no 

numerical financial data is required.

MD&A Overview 

Item 303 of Reg. S-K: 

Known Trends, Demands, Commitments, 

Events or Uncertainties 

Distinct Three-Step Test 

per SEC ’89 Release 

Not Probability/Magnitude Assessment 

per Basic, Inc. v. Levinson

MD&A Overview 


Three-Step Test: 

1. Is management aware of any 

potential trend, demand, 

commitment, event or uncertainty?

MD&A Overview 



1. Is there a potential trend, demand, commitment or 

uncertainty? 

2. If so, is the potential trend, 

uncertainty, etc. reasonably unlikely 

to occur?

MD&A Overview 



1. Is there a known trend, demand, commitment or 

uncertainty? 

2. Is the known uncertainty, etc. 

reasonably unlikely to occur? 

If unlikely to occur, no disclosure 

required

MD&A Overview 


1. Is there a potential trend, demand, commitment or 

uncertainty? 

2. Is the known uncertainty, etc. reasonably unlikely to 

occur? 

3. Is it reasonably unlikely that the 

occurrence of the known uncertainty, 

etc. would have material effect 

(negative or positive) on financial 

condition or operating results?

MD&A Overview 


3. Is it reasonably unlikely that the 

occurrence of the known uncertainty, 

etc. would have material effect 

(negative or positive) on financial 

condition or operating results? 

If unlikely, no disclosure required

MD&A Overview 

When is an effect “material”? 

TSC v. Northway: 

o Is there a substantial likelihood . . . 

o that the . . . fact would have been 

viewed by the reasonable investor . . . 

o as having significantly altered the 

"total mix" of information made 

available.

MD&A Overview 


o Reasonable investor test 

o No rote percentage test 

(i.e., “But it’s less than 5 percent of net 

income!”) 

Cf. Staff Accounting Bulletin 99 

(8.13.99)

MD&A Overview 


o Significant to investors 

o No rote % 

SAB 99: “exclusive reliance on certain 

quantitative benchmarks to assess 

materiality in preparing financial 

statements and performing audits . . . is 

inappropriate”

MD&A Overview 

More about SAB 99: 

To illustrate that a percentage test alone is never defensible, SAB 99 

lists qualitative factors that could render material a quantitatively 

small misstatement of a financial statement item. 

These include: 

Whether the misstatement arises from an item capable of precise 

measurement or whether it arises from an estimate and, if so, the 

degree of imprecision inherent in the estimate; 

Whether the misstatement masks a change in earnings or other trends; 

Whether the misstatement hides a failure to meet analysts' consensus 

expectations for the enterprise;

MD&A Overview 

More about SAB 99 (cont’d): 

Whether the misstatement changes a loss into income or vice versa; 

Whether the misstatement concerns a segment or other portion of the 

registrant's business that has been identified as playing a 

significant role in the registrant's operations or profitability; 

Whether the misstatement affects the registrant's compliance with 

regulatory requirements; 

Whether the misstatement affects the registrant's compliance with loan 

covenants or other contractual requirements;

MD&A Overview 

More about SAB 99 (cont’d): 

Whether the misstatement has the effect of increasing management's 

compensation ? for example, by satisfying requirements for the 

award of bonuses or other forms of incentive compensation; or 

Whether the misstatement involves concealment of an unlawful 

transaction. 

Other factors that the SEC staff suggests be taken into account include 

the volatility of the stock price in response to certain types of 

disclosures – a possible indicator of the importance of small 

misstatements to investors.

MD&A Overview 

Cautionary Tales 

Or

MD&A Overview 

What You Say (or Choose Not to Say) 

Can (and Will) Be Used Against You!

MD&A Overview 

Cautionary Tale No. 1 

• 1990 SEC Enforcement Action re 

Bank of New England 

MD&A - Failure to Disclosure Adverse Trends in 

Real Estate Market and Future Loan Loss Impact 

SEC alleged that BNE failed to disclose certain adverse trends 

indicating a deterioration in the New England real estate market 

as well as in BNE's loan portfolio that were reasonably likely to 

have material adverse effects on BNE's future loan loss reserve 

and net income in early 1990. 

(SEC brought a similar case against Bank of Boston based upon 

its 1989 loan related disclosures.)

MD&A Overview 


• 1992 SEC Enforcement Action re Caterpillar 

MD&A - Failure to Disclosure Possible Material 

Future Impact of Brazilian Hyperinflation and 

Currency Exchange Issues 

SEC alleged that in early ‘90 (before CAT filed ‘89 

10-K), CAT management became aware that 

Brazilian subsidiary might be significantly less 

profitable than in ‘89 and this was likely to reduce 

materially CAT’s overall ‘90 operating results.

MD&A Overview 


• 1997 re BankAmerica Corp. 

Market Risk Disclosure - Disclosure of 

securities and derivatives trading through joint 

venture did not comply with Item 305 (Market 

Risk). 

SEC alleged that BAC did not disclose the 

market risks to which the venture exposed BAC 

and the potential losses arising from those risks.

MD&A Overview 


• 1998 Sony Corporation 

MD&A Disclosure (Prior to Significant 

Goodwill Charge) and Segment Report for 

Foreign Registrant 

SEC alleged inadequate disclosures in 6-K and 

MD&A. 

SEC also questioned Sony’s “segment 

reporting.”

MD&A Overview 

Cautionary Tale No. 4 (cont’d) 


SEC alleged that Sony "made inadequate disclosures about the 

nature and extent of Sony Pictures' net losses and their impact 

on the consolidated results Sony was reporting." 

Sony selectively noted positive developments such as box 

office share or the success of individual motion pictures. 

SEC took specific issue with MD&A disclosure in Sony's 

Annual Report to Shareholders filed with SEC four months 

prior to Sony’s November 1994 write-down of approximately 

$2.7 billion of goodwill associated with the acquisition of its 

motion picture operations.

MD&A Overview 



SEC found that Sony’s 1994 Annual Report painted a 

generally positive picture of the 1994 results for Sony's 

entertainment segment and failed to disclose that Sony 

Pictures had incurred its first ever operating loss and a net loss 

of nearly a half billion dollars. 

Instead, the MD&A section of that Annual Report discussed 

positive results achieved by Sony Pictures – box office share, 

Academy Award nominations and gross box office receipts – 

but simultaneously failed to disclose known negative results 

and trends in operating income before amortization, net 

income and operating cash flow.

MD&A Overview 



SEC also expressed concerns over the lack of transparency 

concerning Sony's motion picture operations. 

While not citing Sony for improper accounting, the 

Commission specifically noted that "over the expressed 

preference of its outside accountants and its own U.S.-based 

financial officers for separate reporting of Sony's music and 

picture businesses," Sony chose to report the combined results 

of these two businesses as a single "entertainment" industry 

segment, which resulted in the obscuring of the significant 

losses Sony experienced in its motion picture business.

MD&A Overview 

Cautionary Tales Nos. 5, 6, 7 Etc. 

• 2001-2002: The Corporate Scandal Sheet

MD&A Overview 

• Revenue Recognition 

Global Crossing: Boosted its reported profits by 

“swapping” network capacity with another carrier 

Tyco: Accused of “Spring-Loading” -- Padding 

earnings growth by acquiring companies after 

making them prepay expenses and forgo new 

revenue 

Bristol-Myers Squibb: Inflated 2001 revenue by 

$1.5 billion by “channel stuffing” (forcing 

wholesalers to accept inventory to get it off the 

manufacturer’s books)

MD&A Overview 

• Off Balance Sheet Transactions 

Enron: Aggressively boosted profits and hid 

debts totaling over $1 billion by using off-thebooks 

partnerships 

Adelphia Communications: Fraudulently 

excluded billions of dollars in liabilities from its 

consolidated financial statements by hiding them 

on the books of off-balance sheet affiliates

MD&A Overview 

• Operating Expenses vs. Capital Expenses 

WorldCom: 

• Reduced its operating expenses by improperly 

releasing certain reserves held against 

operating expenses 

• Improperly reduced its operating expenses by 

recharacterizing certain expenses as capital 

assets 

• SEC complaint against WorldCom: 

http://www.sec.gov/litigation/complaints/com 

p17829.htm

MD&A Overview 

Concluding observations: 

The MD&A requirements are intentionally flexible 

and general. 

No two companies are identical, and therefore 

good MD&A disclosure for one company is not 

necessarily good for another. 

The same is true for MD&A disclosure of the same 

registrant in different years.

MD&A Overview 

Concluding observations (cont’d): 

The Caterpillar and Sony decisions highlight SEC's 

emphasis on the importance of establishing internal 

procedures to ensure compliance with Item 303. 

MD&A’s accuracy depends on an effective system for 

gathering and disseminating information. 

The process of MD&A preparation should not be driven by 

fixed rules or static checklists, or by simply marking up last 

year’s MD&A disclosure.







All Rights Reserved


Part 1 

Woe to be an insider of a reporting company 

Part 2 

Proxy Statement Regulation 

Part 3 

Regulation of Foreign Private Issuers under Securities Act and 

Exchange Act 

Part 4 

Comparative differences between U.S. securities law regime and that of 

UK, EU and Hong Kong 


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Rule 10b-5 

and Insider Trading Policies 

Limited Trading Windows for Insiders 

Role of 10b5-1 Trading Plans 


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Rule 10b-5 

and Insider Trading Policies 

Reason for policy 

Typical elements of policy 

Waiting period – 48 to 72 hours – after 

release of material information 

Blackout period prior to earnings release 

Clearance procedures 

Section 16 compliance 

Acknowledgement of policy by insiders 


All Rights Reserved

Rules 10b5-1 

Rule 10b5-1(a): 

“Manipulative and deceptive devices" prohibited by 

Section 10(b) and Rule 10b-5 include, among other 

things, purchase or sale of security of any issuer, on 

the basis of material nonpublic information about 

that security or issuer, in breach of duty of trust or 

confidence owed directly, indirectly, or derivatively, 

to issuer of that security or shareholders of that 

issuer, or to any other person who is source of 

material nonpublic information 


All Rights Reserved

Rule 10b5-1(b): 

Rules 10b5-1 and 10b5-2 

Trading is "on the basis of" material nonpublic 

information if 

the person making the purchase or sale was 

aware of the material nonpublic information 

when the person made the purchase or sale. 


All Rights Reserved

Rules 10b5-1 and 10b5-2 

Rule 10b5-2: 

Provides a non-exclusive definition of 

circumstances in which a person has a duty of 

trust or confidence for purposes of the 

"misappropriation" theory of insider trading 

under Section 10(b) of the Act and Rule 10b-5. 


All Rights Reserved

Rule 10b5-1 Plans 

Reason for plans – 

Rule 10b5-1 establishes affirmative defense 

A purchase or sale is not "on the basis of" 

material nonpublic information if 

the person making the purchase or sale 

demonstrates that he or she had adopted a 

written plan for trading securities at a time when 

he or she was not in possession of material nonpublic 

information. 


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The plan must either: 

1. Specify 

Rule 10b5-1 Plans 

Amount of securities to be purchased or sold 

Price at which and date on which securities are to 

be purchased or sold; or 

2. Include a written formula or algorithm, etc., 

In addition, plan must not permit insider to exercise 

any subsequent influence over how, when, or whether 

to effect purchases or sales 


All Rights Reserved

Section 16 

Reporting and Short-Swing Liability 

Section 16(a): Reporting 

Forms 3, 4 and 5 

Section 16(b): Liability 

Strict Liability 


All Rights Reserved

Section 16 


Persons covered: 

Directors and executive officers 

Function over form (i.e., title does not 

control) 

> 10% holders 


Reserved

Section 16 


Beneficial ownership 

Broadly defined 

“Pecuniary interest” test 

Note: Different than beneficial ownership test 

for Schedule 13D/13G purposes 

“Presumption” of beneficial ownership of securities 

held by immediate family members living at home 


All Rights Reserved

Section 16 


Any matching Purchase/Sale or 

Sale/Purchase within less than 6 months 

Regardless of actual inside info. 

Matching calculated to yield greatest 

profit disgorgement 


All Rights Reserved

Section 16 


Status at Purchase/Sale or Sale/Purchase 

>10% holder – must be > 10% at each stage 

Directors and officers 

Transaction before generally not matched 

Post-tenure transaction are matched 

See Rule 16a-2(c) 


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Section 16 


Exemptions – Rule 16b-3 

Exercise of option is typically neither 

purchase nor sale 

Typically employee stock option will be 

structured to be exempt from Section 16 

liability 


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Section 16 


Reporting on Form 4 

Post Sarbanes-Oxley, Form 4 must be filed by 

end of second business day after day on which 

transaction occurred 

Close coordination between company and 

insider required 

Filing occurs via EDGAR 

Filings closely monitored by “§ 16 Bar” 


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Section 402 (a/k/a 13(k)) 

Prohibited Loans 

Applicable to companies registered under section 12 

or required to file reports under section 15(d), and 

any company that files or has filed a registration 

statement that has not yet become effective under the 

Securities Act of 1933, and that it has not withdrawn. 

Company may not make personal loans (including 

the extension of credit or the arrangement of the 

extension of credit) to any of its directors or 

executive officers, subject to very limited 

exceptions. 


All Rights Reserved

Section 402 (a/k/a 13(k)) 


Two categories of exceptions to the general 

prohibition against loans to insiders: 

1. Loans by consumer lenders in the ordinary 

course of business; and 

2. Loans by banks and thrifts that are insured by 

the U.S. FDIC (by rule SEC has extended this 

exception to apply to foreign banks). 


All Rights Reserved

Section 402 (a/k/a §13(k)) 


SEC still has not issued guidance in response to questions about 

whether certain arrangements between issuers and their officers may 

violate Section 402. 

For example, consider whether the following may violate 

Section 402: 

Split-dollar life insurance for a director or executive officer 

401(k) Plan loans (made by the plan, but “arranged” by the 

issuer?) 

(See memorandum authored by group of 25 law firms for 

additional background.) 


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Section 306 of Sarbanes Oxley 

Blackout Period 

Insider Trades During Pension Fund Blackout Periods 

Unlawful for any director or executive officer of an 

issuer of any equity security to purchase, sell, or 

otherwise acquire or transfer any equity security of the 

issuer during any blackout period with respect to 

such equity security if such director or officer acquires 

such equity security in connection with his or her 

service or employment as a director or executive 

officer. 


All Rights Reserved

Section 306 of Sarbanes Oxley 

Blackout Period (cont’d) 

Blackout Period Defined 

Any period of more than 3 consecutive business days 

during which the ability of not fewer than 50 percent 

of the participants or beneficiaries under all 

individual account plans maintained by the issuer 

to purchase, sell, or otherwise acquire or transfer an 

interest in any equity of such issuer held in such an 

individual account plan is temporarily suspended by 

the issuer or by a fiduciary of the plan 


All Rights Reserved


Part 1 


Part 2 


Part 3 


Exchange Act 

Part 4 

Comparative differences between the U.S. securities law regime and 

that of UK, EU and Hong Kong 


All Rights Reserved

Proxy Regulation 


Proxy regulation: Mix of 

State law (jurisdiction of incorporation) 

Federal securities law 


All Rights Reserved



Federal proxy regulation applies 

only to 

“§12 companies” 

(i.e., companies with a class of equity 

securities registered under §12 of the 

Exchange Act) 


All Rights Reserved



Caution regarding text on page 132 of Soderquist: 

Delaware law is NOT “generally silent” 

regarding disclosure in proxy solicitations 

Delaware cases have confirmed that corporations 

organized under Delaware law must disclose all 

material facts when soliciting shareholder approval, 

even if the corporation is not registered under §12 of 

the Exchange Act. 

See, e.g., Stroud v. Grace, Del. Supr., 606 A.2d 75, 84 

(1992). 


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What is the meaning of the phrase 

“solicitation of proxies” under Section 

14(a)? 

Are some solicitations exempt? 


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“Proxy Solicitation” Broadly Defined: 

Any communication reasonably 

calculated to result in the 

procurement, withholding or 

revocation of a proxy 


All Rights Reserved



Two Key Exemptions: Rule 14a-1(l)(2)(iv) 

1. Communication by a security holder stating how the security 

holder intends to vote and the reasons therefor, if the holder 

does not otherwise engage in proxy solicitation (other than a 

solicitation exempt under Rule 14a-2), and if such 

communication is: 

made by means of speeches in public forums, press 

releases, published or broadcast opinions, etc., or 

directed to persons to whom the security holder owes a 

fiduciary duty in connection with the voting of securities, 

or 

made in response to unsolicited requests for additional 

information with respect to a prior exempt communication. 


All Rights Reserved



2. Rule 14a-2(b) 

Various exemptions, including 

(2) Any solicitation made otherwise than on behalf of 

the registrant where the total number of persons 

solicited is not more than ten 


Reserved

Proxy statement as vehicle for social 

policy: 

Extensive executive compensation disclosure 

Expanded effective for proxy statements after 

December 15, 2006 

Disclosure of late Form 4s (§16 insiders) 

Compensation Disclosure & Analysis (“CD&A”) 

Audit Committee/Compensation Committee Reports 

Audit Committee/Compensation Committee Charters 

Nominating Committee Process 

Shareholder Access to Director Nomination (on hold) 

Nonbinding “Say-On-Pay”/ “Say-On-Parachute” Votes 


All Rights Reserved



Who controls the proxy mechanism? 


All Rights Reserved



Rule 14a-8 – 

Security Holder Proposals 


All Rights Reserved



14a-8(c) – Grounds for exclusion: 

“Ordinary course of business” 

“Cracker Barrel” No Act 

Letters 


All Rights Reserved



In 2009 the Corp Fin staff indicated in Staff Legal Bulletin 

No. 14E that the staff will be less likely in the future to grant 

no-action relief to companies seeking to exclude shareholder 

proposals under the ordinary business exclusion in Rule 14a- 

8(i)(7). 

Instead of allowing companies to automatically exclude 

any proposal that would require the company to evaluate 

risk, the Staff will look at the underlying subject matter 

to determine whether or not the proposal should be 

allowed. 

Proposals relating to CEO succession planning may also 

be allowed. 


All Rights Reserved



Shareholder Access to Director Nomination 

Proposed June 2009 

SEC proposes new rules that would require, under 

certain circumstances, a company to include in the 

company’s proxy materials a shareholder’s, or group 

of shareholders’, nominees for director. 

Very controversial. 


All Rights Reserved



Effective in early 2011, 

“say-on-pay” 

“say-on-parachute” 

nonbinding votes required by Dodd-Frank 


All Rights Reserved

Say-on-Pay 

Dodd-Frank amended the Securities Exchange Act of 1934 

by adding Section 14A, which requires companies to obtain a 

separate nonbinding (a/k/a “advisory”) shareholder vote to 

approve compensation of executives, as disclosed pursuant 

SEC proxy statement disclosure rules 

Section 14A also requires companies to conduct a separate 

shareholder advisory vote to determine how often an issuer 

will conduct a shareholder advisory vote on executive 

compensation. In 2011 “proxy season” many and perhaps 

most companies opted for annual “say-on-pay” 

disclosure. 


All Rights Reserved



Director Nominating Process: 

More robust disclosure of the nominating 

committee processes of public companies 

More specific disclosure of the processes by 

which security holders may communicate with 

the directors of the companies in which they 

invest 


All Rights Reserved



Where are the disclosure 

requirements for proxy statements? 


All Rights Reserved



Schedule 14A 

Plus Annual Report (if electing 

directors) 

Form 10-K 

(Part III – Instruction G(3)) 

Reg. S-K 

Integrated Disclosure System 


All Rights Reserved



Form 10-K (Part III – Instruction G(3)) 

Item 10. Directors, Executive Officers and Corporate 

Governance 

Item 11. Executive Compensation 

Item 12. Security Ownership of Certain Beneficial Owners 

and Management and Related Stockholder Matters 

Item 13. Certain Relationships and Related Transactions, 

and Director Independence 

Item 14. Principal Accounting Fees and Services 


All Rights Reserved



Form 10-K (Part III – Instruction G(3)) 

Item 11. Executive Compensation 

Who are the “NEOs” (or named executive officers”)? 

What is the “summary compensation table”? 


All Rights Reserved

Named Executive Officers (NEOs) 

S-K Item 402(a)(3) 

1. All individuals serving as the registrant's principal executive officer during the last 

completed fiscal year ("PEO"), regardless of compensation level; 

2. All individuals serving as the registrant's principal financial officer during the last 

completed fiscal year ("PFO"), regardless of compensation level; 

3. Three most highly compensated executive officers other than the PEO and PFO who 

were serving as executive officers at the end of the last completed fiscal year; and 

4. Up to two additional individuals for whom disclosure would have been provided 

pursuant to paragraph (a)(3)(iii) of this Item but for the fact that the individual was 

not serving as an executive officer of the registrant at the end of the last completed 

fiscal year. 

No disclosure need be provided for any executive officer, other than the PEO and 

PFO, whose total compensation does not exceed $100,000. 


All Rights Reserved

Google: 

Summary Compensation Table 

http://sec.gov/Archives/edgar/data/1288776/000119312511103 

802/ddef14a.htm#rom154220_62 

General Motors: 

http://sec.gov/Archives/edgar/data/1467858/000119312511104 

797/ddef14a.htm#toc156829_33 


All Rights Reserved



“Compensation Discussion & Analysis” 

or 

CD&A 


All Rights Reserved



“Compensation Discussion & Analysis” 

Objectives of company’s compensation programs? 

What is the compensation plan designed to reward? 

What is each element of compensation? 

Why does company choose to pay each element? 

How does company determine amount for each element? 

How does each element of company’s decision regarding 

that element fit into company’s overall compensation 

objectives and affect decisions regarding other elements? 


All Rights Reserved



What role do Glass Lewis, RiskMetrics and other 

proxy advisory firms play in proxy solicitations? 

Institutional voting of portfolio stocks generally is no longer in 

the hands of institutional money managers, except for votes with 

clear economic significance (such as mergers or election 

contests). 

Instead, the vast majority of institutional investors have delegated 

voting decisions to a separate internal voting function or have 

outsourced voting decisions to third-party proxy advisory firms. 

Glass Lewis and RiskMetrics are the two most prominent proxy 

advisory firms in the United States. 


All Rights Reserved



Changes to exchange rules on broker non-votes 

A registered broker holding a customer’s shares in the 

name of the broker may vote on the customer’s behalf on 

certain routine matters (including ratification of the 

company’s auditors). 

A “broker non-vote” occurs when the broker has not 

received voting instructions on a matter from the 

customer and is barred from exercising discretionary 

authority to vote on the matter, which the broker 

indicates on the proxy. 


All Rights Reserved



NYSE Rule 452 applies to stockholder meetings 

held on or after January 1, 2010 

Under the rule, brokers may vote a customer’s shares on 

any routine matter if the broker does not receive voting 

instructions at least 10 days prior to the election. 

However, election of directors, which was previously 

considered a routine matter if the election was 

uncontested, is no longer considered routine. 

Therefore, a broker is prohibited from voting a 

customer’s shares on uncontested director elections 

absent specific voting instructions from the customer. 


All Rights Reserved



Rule 452 applies to all brokers registered with NYSE, 

regardless of whether the company holding the election is a 

NYSE listed company 

The impact on director elections may be significant. 

Disney’s 2004 Annual Meeting: 45% of votes cast on M. 

Eisner’s election were “withhold” votes. Without broker 

discretionary voting in Mr. Eisner’s favor, 54% of the 

votes cast would have been “withhold” votes. 

Majority vote campaigns 


All Rights Reserved



What is difference between 

14a-2 // 14a-3, and 

14c-2? 


All Rights Reserved



How quickly can a company act 

following distribution of information 

statement? 

Rule 14c-2(b) 


All Rights Reserved



Rule 14c-2(b) – 

Information statement shall be sent or given at 

least 20 calendar days prior to the meeting date 

or, in the case of corporate action taken 

pursuant to the consents or authorizations of 

security holders, at least 20 calendar days prior 

to the earliest date on which the corporate 

action may be taken. 

60 days for “Roll-ups” 


Reserved



Does a shareholder have recourse if a 

proxy statement is materially false or 

misleading? 


All Rights Reserved



Rule 14a-9(a) – similar to Rule 10b-5 

Private right of action? 


All Rights Reserved



What is definition of materiality? 

TSC Industries, Inc. v. Northway, Inc. 


All Rights Reserved



Must a shareholder prove causation? 


All Rights Reserved



Causation: Mills v. Electric Auto-Lite 

proxy solicitation – not the defect in 

the proxy materials – must be an 

“essential link” in the accomplishment 

of the transaction 


All Rights Reserved



What are the tests? 

Cole (2 nd Circuit) compared to 

Virginia Bankshares (Supreme Court) 

Loss causation under §21D(b)(4) 


All Rights Reserved



What degree of fault must be proved? 


All Rights Reserved

Scienter 

vs. 



Negligence 


All Rights Reserved


Part 1 


Part 2 


Part 3 


Exchange Act 

Part 4 

Comparative differences between U.S. securities law regime and that of 

UK, EU and Hong Kong 


All Rights Reserved

Foreign Private Issuers – 

Securities Act Regulation 

Same basic principle: 


Every offer or sale of a security [in the U.S., whether 

by a U.S. issuer or a foreign private issuer,] must be 

registered with the SEC under § 5 of the Securities Act, 


In the registration statement (which includes the 

prospectus), all information material to that investment 

decision must be disclosed. 


All Rights Reserved


Securities Act Regulation (cont’d) 

What exemptions are available? 

§ 4(2) and Private Placement Safe Harbors: 

Same exemptions, except Reg. A, which is 

available only for U.S. and Canadian issuers 

§ 4(1) and Resale Safe Harbors 

Reg. S, Rule 144A, Rule 144 


All Rights Reserved



What about incidental offers/sales? 

Exemptions for Cross-Border Rights 

Offerings, Exchange Offers and Business 

Combinations 

Rules 800 et seq. 


All Rights Reserved



Rules 800-802 – General Rules 

1. These rules exempt only the transaction in which the issuer or other person 

offers or sells the securities, not for the securities themselves. Securities 

acquired in a Rule 801 or 802 transaction may be resold in the United States 

only if they are registered under the Act or an exemption from registration is 

available. 

2. Unregistered offers and sales made outside the United States will not affect 

contemporaneous offers and sales made in compliance with §230.801 or 

§230.802. A transaction that complies with §230.801 or §230.802 will not 

be integrated with offerings exempt under other provisions of the Act, even 

if both transactions occur at the same time. 

3. The rules do not affect the applicability of the anti-fraud, civil liability or 

other provisions of the federal securities laws. 


All Rights Reserved

Rule 801 – Cross Border 

Rights Offerings 

Rights offering by a foreign private issuer is exempt from Section 5 of the Securities Act if 

U.S. holders hold no more than 10 percent of the outstanding class of securities that is the 

subject of the rights offering, and the other conditions of Rule 801 are satisfied, including 

Equal treatment of U.S. and foreign holders 

Information 

Any informational documents must be filed in English with the SEC 

Informational documents must be provided to U.S. holders in English on a 

comparable basis to that provided to security holders in the home jurisdiction. 

Eligibility of securities. The securities offered in the rights offering are equity securities 

of the same class as the securities held by the offerees in the United States directly or 

through American Depositary Receipts. 

Limitation on transferability of rights. The terms of the rights prohibit transfers of the 

rights by U.S. holders except in accordance with Reg. S 

Legends on information documents 


All Rights Reserved

Rule 802 – Exchange Offers 

and Business Combinations 

Exchange offers and business combinations are exempt from Section 5 of the 

Securities Act if in the case of a business combination in which the securities are 

to be issued by a successor registrant, U.S. holders may hold no more than 10 

percent of the class of securities of the successor registrant, as if measured 

immediately after completion of the business combination, and the other 

conditions of Rule 802 are satisfied, including 

Equal treatment of U.S. and foreign holders 

Information 

Any informational documents must be filed in English with the SEC 

Informational documents must be provided to U.S. holders in English on a 

comparable basis to that provided to security holders in the home 

jurisdiction. 

Legends on disclosure documents 


All Rights Reserved

Foreign Private Issuer 

Registration under Securities Act 

Forms: 

F-1, F-3, F-4 etc. 

Financial statements: 

U.S. GAAP 

IFRS 

Reconciliation to U.S. GAAP 


All Rights Reserved

Foreign Private Issuer Registration 

under Securities Act (cont’d) 

More about financial statements: 

According to SEC staff comments in February 2011: 

Previously foreign companies would use home-country 

GAAP with a U.S. GAAP reconciliation. 

More recently, the SEC is seeing more U.S. GAAP 

filers in the foreign private issuer community – “a few 

hundred.” 

There are approximately 170 IFRS filers, and soon to 

be many more, as Canadians companies move to IFRS 

in 2012. 


All Rights Reserved

Foreign Private Issuer Registration 

under Securities Act (cont’d) 

SEC Review: 

Office of International Corporate Finance 

Every foreign private issuer is in one of 

Corp Fin’s industry groups. 

The Office also reviews foreign 

governmental offerings 


All Rights Reserved


Exchange Act Regulation 

§ 12 Registration and Rule 12g3-2 

Primary exemption for any foreign private issuer 

maintaining a listing of the subject class of 

securities on one or more exchanges in one or 

more foreign jurisdiction, 

Two separate tests. 


All Rights Reserved



Rule 12g3-2(a) 

Securities of any class issued by any foreign private issuer are 

exempt from § 12(g) if the class has fewer than 300 holders 

resident in the U.S. 

Securities held of record by persons resident in the U.S. is 

determined as provided in Rule 12g5–1 except 

securities held of record by a broker, dealer, bank or nominee 

for any of them for the accounts of customers resident in the 

United States shall be counted as held in the United States by 

the number of separate accounts for which the securities are 

held. 


All Rights Reserved



Rule 12g3-2(b) 

Exemption available where 

1. 55 percent or more of trading takes place 

outside of the U.S. and if traded on two or more 

foreign exchanges, at least must have greater 

volume in that security than in the U.S. 

2. Foreign private issuer satisfies certain 

information requirements. 


All Rights Reserved


Exchange Act Regulation (cont’d) 

Proxy Statement and Section 16 Exemptions 

Rule 3a12-3 

Securities for which the filing of registration statements 

on Form 18 are authorized shall be exempt from 

Sections 14 and 16 of the Exchange Act. 

Securities registered by a foreign private issuer are 

exempt from sections 14(a), 14(b), 14(c), 14(f) and 16 

of the Exchange Act. 


All Rights Reserved


Exchange Act Regulation (cont’d) 

Understanding ADRs 

The stocks of most foreign companies that trade in the U.S. markets 

are traded as American Depositary Receipts (ADRs) issued by U.S. 

depositary banks. 

Though a U.S. bank issues the ADRs by registering the ADRs on 

Form F-6, the foreign private issuer is responsible for Exchange Act 

compliance whether or not the ADR is a “sponsored” program. 

Exchange traded ADRs must be registered on Form 20-F. 

See Pre-Residency material online. 

See p. 201 of Soderquist. 


All Rights Reserved

Understanding ADRs (cont’d) 

ADRs or ADSs? 

Sometimes the terms “ADR” and “ADS” (American 

Depositary Share) are used interchangeably. 

An ADR is actually the negotiable physical certificate that 

evidences ADSs (in much the same way a stock certificate 

evidences shares of stock), and an ADS is the security that 

represents an ownership interest in deposited securities (in 

much the same way a share of stock represents an ownership 

interest in the corporation). 

ADRs are the instruments actually traded in the market. 


All Rights Reserved

Level I ADRs 

Level I ADRs - Traded in the U.S. over-the-counter (OTC) market (i.e., not on an 

exchange). 

To establish a Level I sponsored ADR program, the following three principal steps 

are required: 

1) The foreign private issuer must qualify for a Rule 12g3-2(b) exemption (see 

above); 

2) The foreign private issuer enters into a deposit agreement the depositary bank 

and the ADR holders that detail the rights and responsibilities of each party; and 

3) The parties file a Form F-6 with the SEC to register the ADSs under the 1933 

Act. 

The Form F-6 is signed by the depositary bank, the issuer and its directors and 

officers. Financial statements and a description of your business are not required to 

be included in a Form F-6 registration statement. 


All Rights Reserved

Level II ADRs 

“Listing Facility” 

Level II ADR programs refer to a company listing its ADRs on a U.S. 

exchange. 

To qualify a foreign private issuer must comply with the registration and 

reporting requirements of the Exchange Act as well the listing requirements 

of the relevant exchange. 

A foreign private issuer registers under § 12 of the Exchange Act by filing a 

Form 20-F. Annually the foreign private issuer updates its 20-F filing. 

The financial statements filed with the 20-F must either be prepared in 

accordance with U.S. GAAP or IFRS, or reconciled to U.S. GAAP. 

The financial statements must be audited in accordance with U.S. generally 

accepted auditing standards, and the auditor must comply with the U.S. 

standards for auditor independence. 


All Rights Reserved

Level III ADRs 

“Offering Facility” 

Level III ADR programs refer to an ADR program used in connection with the 

raising of capital through a public offering of securities and contemporaneous listing 

on a U.S. exchange. 

Level III ADR programs require registration of the underlying shares and ADRs 

under the 1933 Act. The ADRs are registered on Form F-6; the underlying shares 

are registered on Form F-1. 

The foreign private issuer must register under § 12 of the Exchange Act by filing a 

Form 20-F. Annually the foreign private issuer updates its Form 20-F filing. The 

financial statements filed with the 20-F must either be prepared in accordance with 

U.S. GAAP or IFRS, or reconciled to U.S. GAAP. The financial statements must be 

audited in accordance with U.S. generally accepted auditing standards, and the 

auditor must comply with the U.S. standards for auditor independence. 

In addition, any material information given to shareholders in the home market, 

must be filed with the SEC through Form 6-K. See Rules 13a-16 and 15d-16. 


All Rights Reserved

Form 6-K 

Filing required whenever the foreign private issuer: 

(i) makes or is required to make public pursuant to the law of the jurisdiction of its 

domicile or in which it is incorporated or organized, or 

(ii) files or is required to file with a stock exchange on which its securities are traded 

and which was made public by that exchange, or 

(iii) distributes or is required to distribute to its security holders. 

The information required to be furnished pursuant to (i), (ii) or (iii) above is that which is 

material with respect to the issuer and its subsidiaries concerning: changes in business; 

changes in management or control; acquisitions or dispositions of assets; bankruptcy or 

receivership; changes in registrant’s certifying accountants; the financial condition and 

results of operations; material legal proceedings; changes in securities or in the security 

for registered securities; etc. 

The information and documents furnished in this report shall not be deemed to be “filed” 

for the purposes of Section 18 of the Act or otherwise subject to the liabilities of that 

section. 


All Rights Reserved


Part 1 


Part 2 


Part 3 


Exchange Act 

Part 4 

Comparative differences between U.S. securities law regime and 

that of UK, EU and Hong Kong 


All Rights Reserved

Comparative Review 

U.S., U.K., EU & Hong Kong 

TO BE ADDED 


All Rights Reserved






Michael Krebs 





All Rights Reserved







All Rights Reserved


Part 1 

Mergers and Acquisitions under the 

Exchange Act, including: 

Schedules 13D and 13G 

Tender Offers 

Going Private Transactions 


All Rights Reserved


Part 2 

Rule 10b-5 Litigation 

Insider Trading Liability 


All Rights Reserved

Mergers and Acquisitions under 

Exchange Act 

Securities Act vs. Exchange Act 

Securities Act: only business combinations 

that involve issuance of securities 

Exchange Act: most business combinations 

involving publicly traded companies, including 

Tender or Exchange Offers 

Mergers 


All Rights Reserved


Exchange Act (cont’d) 

Regulation of Public Company Mergers 

Stockholder approval 

Section 14 

Schedule 14A, Item 14 

Cash deals v. stock deals 

Regulation M-A and Form S-4 


All Rights Reserved




Registration Statement on Form S-4 

Disclosure Issues 

S-1 Level Disclosure v. S-3 Level Disclosure 

SEC Review 

Timing Issues 

Prospectus Delivery 


All Rights Reserved




Shelf Registration 

Rule 415 

Must be S-3 eligible 

Acquisition does not require pro forma 

financial information 

Duty to update prospectus 


All Rights Reserved



S-4 Merger Proxy Statement 

S-4 for acquiror 

Proxy Statement for target and/or acquiror 


All Rights Reserved



Example: Proposed Acquisition of Pennichuck 

Philadelphia Suburban Corporation, a 

publicly traded water utility, enters into a 

definitive agreement to acquire Pennichuck 

Corporation, another publicly traded water 

utility, in exchange for PSC stock 


All Rights Reserved



Philadelphia Suburban and Pennichuck 

execute Merger Agreement 

Merger Agreement provides that 

Pennichuck will merge into a newly 

formed subsidiary of Philadelphia 

Suburban, subject to approval of 

Pennichuck shareholders and 

satisfaction of customary closing 

conditions 


All Rights Reserved



As a result of the merger, all Pennichuck shares will be 

converted into shares of Philadelphia Suburban stock 

Philadelphia Suburban agrees to register shares with the 

SEC 

Pennichuck agrees to seek shareholder approval 

What SEC filing will Pennichuck need to make in 

order to solicit shareholder approval of the merger? 

What SEC filing will Philadelphia Suburban need to 

make in order to offer and sell its securities to 

Pennichuck shareholders? 


All Rights Reserved



Philadelphia Suburban and Pennichuck file with 

SEC joint Form S-4 Merger Proxy Statement 

Level of disclosure: S-3 for Philadelphia 

Suburban 


All Rights Reserved



Creeping Acquisitions, Tender Offers and 

Exchange Offers 

Williams Act (1968) amends Exchange Act to close loop holes for open 

market purchases and tender offers 

Section 13(d): Acquisition of more than 5% beneficial ownership 

Schedule 13D – provides signal to market and issuer 

Short Form Schedule 13G – Institutional and other passive 

investors (until ownership equals or exceeds 20%) 

Beneficial Ownership – direct or indirect voting and/or 

investment power 

Section 13(d) “Group” – group for purposes of acquiring, 

holding or disposing issuer’s securities 


All Rights Reserved



Example: Management Buy-Out of Uno 

Restaurant Company (UNO) 

Aaron Spencer, majority stockholder of Uno, 

and management team acquire Uno for cash 

through the merger of Uno into a new 

corporation owned by Spencer and 

management team 


All Rights Reserved



Aaron Spencer expresses interest in acquiring Uno from public 

shareholders, and Board of Uno forms Special Committee to consider 

offer and seek valuation of Uno 

Special Committee negotiates and enters into Merger Agreement with 

Spencer 

Merger Agreement provides that (contingent upon approval of a 

majority of the minority shareholders of Uno and satisfaction of 

conditions to closing, including financing) Uno will merge into a new 

corporation owned by Spencer and management team 

Minority Uno shareholders will receive cash in exchange for 

cancellation of Uno common stock 

Uno agrees to seek shareholder approval and files Merger Proxy 

Statement with SEC 

Uno, Spencer and management team file Schedule 13E-3 with SEC 


All Rights Reserved

UNITED STATES 

SECURITIES AND EXCHANGE COMMISSION 

Washington, D.C. 20549 

SCHEDULE 13D 

Under the Securities Exchange Act of 1934* 

(Amendment No. 6) 

Uno Restaurant Corporation 

(Name of Issuer) 

Common Stock, par value $.01 per share 

(Title of Class of Securities) 

914900-10-5 

(CUSIP Number) 

Constantine Alexander, Esquire 

James E. Dawson, Esquire 


One International Place 

Boston, MA 02110-2699 

(617) 439-2000 

(Name, Address and Telephone Number of Person Authorized to Receive Notices and Communications) 

February 28, 2001 

(Date of Event which Requires Filing of this Statement) 

If the filing person has previously filed a statement on Schedule 13G to report the acquisition that is the 

subject of this Schedule 13D, and is filing this schedule because of §§ 240.13d-1(b)(e), 240.13d-1(f) or 

240.13d-1(g), check the following box. G 

NOTE: Schedules filed in paper format shall include a signed original and five copies of the schedule, 

including all exhibits. See § 240.13d-7(b) for other parties to whom copies are to be sent. 

*The remainder of this cover page shall be filled out for a reporting person's initial filing on this form with 

respect to the subject class of securities, and for any subsequent amendment containing information which 

would alter disclosures provided in a prior cover page. 

The information required on the remainder of this cover page shall not be deemed to be "filed" for the purpose 

of Section 18 of the Securities Exchange Act of 1934 ("Act") or otherwise subject to the liabilities of that 

section of the Act but shall be subject to all other provisions of the Act (however, see the Notes).

Item 4. Purpose of Transaction. 

On October 25, 2000, the Reporting Persons submitted to a 

Special Committee of the Issuer’s Board of Directors a proposal to 

acquire all of the outstanding shares of Common Stock currently not 

held by them. During the period from October 25, 2000 to February 

28, 2001, the Special Committee and the Reporting Persons and their 

respective advisors negotiated terms of a going private transaction for 

the Issuer by the Reporting Persons. On February 28, 2001, the Issuer 

announced that the Special Committee and the Reporting Persons 

reached a tentative agreement on the terms of the going private 

transaction at a price of $9.75 in cash for all shares of Common Stock 

not held by the Reporting Persons. The transaction will proceed as a 

merger and will be subject to execution of a definitive merger 

agreement, approval by the holders of a majority of the shares not 

owned or controlled by the Reporting Persons, receipt of financing and 

customary closing conditions. The transaction has a value of 

approximately $41 million to the stockholders other than the Reporting 

Persons. The Reporting Persons beneficially own approximately 62% 

of the Issuer’s outstanding shares of capital stock. The Reporting 

Persons have engaged the investment banking firm of Tucker Anthony 

to act as financial advisor in connection with the transaction.



Regulation of Tender Offers: 

Not Defined in Williams Act 

SEC generally applies 8 factor test: 

1. Broad solicitation of public shareholders 

2. Solicitation of substantial or controlling interest 

3. Terms are firm rather than negotiable 

4. Offer price provides premium to market price 

5. Offer contingent on tender of min. number of shares 

6. Solicitation provides deadline for tendering 

7. Offerees are subject to pressure to tender 

8. Solicitation is announced to the public 


All Rights Reserved



Regulation of Tender Offers 

Tender Offer v. Exchange Offer 

Exchange Offer is a form of tender 

offer in which the type of consideration 

offered by bidder is securities rather 

than cash 


All Rights Reserved




REGULATION 14D v. REGULATION 14E 

Section 14(d): filing and disclosure 

requirements for tender offers for equity 

securities registered under Section 12 of 

the Exchange Act 

Section 14(e): anti-fraud provisions that 

apply to all tender offers 


All Rights Reserved




Section 14(d)(1) prohibits tender offer for 

equity securities registered under Section 12 

If after tender offer, person would be direct or 

indirect beneficial owner of more than 5% of equity 

securities 

Unless at the time of offer person has filed 

statement with SEC in accordance with SEC rules 


All Rights Reserved




Schedule TO – Tender Offer Statement 

Offer to Purchase vs. Schedule TO 

Dissemination requirement 

No SEC review prior to mailing 


All Rights Reserved



Schedule TO incorporates requirements from Reg. M-A 

Summary terms sheet (Item 1001 of Reg M-A) 

Subject company information (Item 1002 of Reg M-A) 

Background about target and bidder (Item 1003 of Reg M-A) 

Terms of the transaction (Item 1004 of Reg M-A) 

Past contacts, transactions, negotiations and agreements (Item 1005 

of Reg M-A) 

Purpose of the transaction and plans or proposals (Item 1006 of Reg 

M-A) 

Sources and amount of funds (Item 1007 of Reg M-A) 

Interests in subject company securities (Item 1008 of Reg M-A) 

Persons retained or compensated (Item 1009 of Reg M-A) 

Financial Statements (Item 1010 of Reg M-A) 


All Rights Reserved




Material Changes and Extension of Offer 

Withdrawal Rights 

Pro Rata Purchase of Shares 

Equal Treatment of Stockholders 

Subsequent Offering Period 


All Rights Reserved




Recommendation of Target Company 

Rule 14D-9: applies to recommendations by 

directors, officers, affiliates and subsidiaries 

Rule 14e-2: requires target to take a position 

within 10 business days 

“Stop, look and listen” press release 


All Rights Reserved



Example: Chartwell Acquisition of Carey 

International 

Chartwell Investments, a private equity 

firm, and senior management of Carey 

International acquire Carey International 

through a cash tender offer made to holders 

of publicly traded shares 


All Rights Reserved



Chartwell and Carey International Management propose 

cash tender offer for all of the outstanding stock of Carey 

to Special Committee of Board of Carey 

Tender offer is not hostile -- Chartwell chooses to 

negotiate tender offer terms with Special Committee 

Carey and Chartwell enter into acquisition agreement in 

which Chartwell agrees to make tender offer at fixed price 

and Carey agrees to recommend that shareholders 

accept tender offer 

Bidders and Carey put out “stop look and listen” press 

release regarding agreement 


All Rights Reserved

CAREY INTERNATIONAL TO BE ACQUIRED BY AN 

AFFILIATE OF CHARTWELL AND FORD FOR $18.25 PER SHARE 

Washington, D.C. – July 19, 2000 – Carey International, Inc. (Nasdaq:CARY), the world’s 

largest chauffeured vehicle services company, announced today that it has entered into a definitive 

agreement and plan of merger with an entity affiliated with both Chartwell Investments II, LLC, a New 

York private-equity firm, and Ford Motor Company. The Company’s Board of Directors, with a 

recommendation of a special committee comprised of outside directors, unanimously approved the 

transaction that provides for the acquisition of all outstanding shares of Carey International stock for 

$18.25 per share in cash. 

The transaction is structured as a joint tender offer, that will commence within approximately 

two weeks, followed by a merger. Consummation of the transaction is subject to certain conditions, 

including the tender of at least 50.1 percent of the Company’s outstanding shares and the satisfaction of 

customary conditions. The Company expects that the transaction will be consummated by the end of 

August. Of the $300 million in total financing that will be required to fund the transaction, $100 

million will be in equity. 

*** 

This press release is intended for informational purposes only and is not an offer to buy or 

the solicitation of an offer to sell any shares of Carey International common stock. The 

solicitation of offers to sell Carey International’s common stock will only be made pursuant to the 

offer to purchase and related materials that will be sent out to Carey International’s stockholders 

shortly. Stockholders should read those materials carefully because they will contain important 

information, including the various terms and conditions of the offer. The tender offer documents 

(including the offer to purchase, the related letter of transmittal and all other offer documents to 

be filed with the Securities and Exchange Commission) will also be available for free at the 

Commission’s Web site at www.sec.gov.



Reasons for Tender Offer v. Merger 

Carey Transaction 

compared to 

Uno Transaction 


All Rights Reserved




Regulation 14E: Unlawful Tender Offer Practices 

Minimum offer period of 20 days and 10 days after material 

change 

Public notice of extension of tender offer 

Purchase of securities on the basis of nonpublic information 

about tender offer prohibited 

Prohibits short tendering and hedging tenders 

Prohibits purchases outside of tender offer 

Prohibits announcement of offer without intent to commence 

Recall Rule 14e-2 – position of target 


All Rights Reserved



Regulation of Issuer Tender Offers 

Issuer Tender Offers 

Rule 13e-4 Transaction 

Disclosure requirements are similar to third party 

tender offers 

Going Private Transactions 

Rule 13e-3 Transaction 

Schedule 13E-3: statement re: fairness of transaction 


All Rights Reserved

Rule 13E-4 Transaction: Option 

Exchange – Microsoft Experience 

In October 2003, Microsoft proposed to establish a stock 

option transfer program for compensatory purposes to 

enable Microsoft employees to realize some value for their 

"out of the money" employee stock options. 

"Eligible Options" are options that were granted under 

certain Microsoft compensatory benefit plans for 

employees, had an exercise price per share ≥ $33.00 and 

had an expiration date on or after February 29, 2004. 


All Rights Reserved

Rule 13E-4 Transaction: Option Exchange 

– Microsoft Experience (cont’d) 

In requesting a no-action letter from Corp Fin, 

Microsoft conceded that the program is subject to 

those rules relating to issuer tender offers under Rule 

13e-4. 

Microsoft argued that its program was very similar to 

those previously addressed by the Corp Fin in the 

context of employee stock option exchange offers 

and issuer share repurchase programs for 

employee-owned stock. 


All Rights Reserved



One of the tender offer issues presented by the Microsoft 

program was compliance with the “all holders” requirement 

of Rule 13e-4(f)(8)(i), because the Program excludes (i) 

options issued under non-qualifying option plans, options with 

exercise prices < $33.00 and options with expiration dates 

earlier than February 29, 2004, (ii) options held by certain 

employees who do not meet continued employment criteria, 

(iii) options held by persons other than employees, including 

directors, advisors and consultants of Microsoft and (iv) 

options held by employees who are employed in certain foreign 

jurisdictions. 


All Rights Reserved



The SEC granted an exemption from Rule 13e- 

4(f)(8)(i) to permit Microsoft to exclude certain 

options and certain option holders. 

* * * 

Be mindful of complicated tender offer 

compliance issues with option repurchases and 

exchange offers 


All Rights Reserved



Rule 13E-3 Transaction: 

Key factors: 

Triggering Transaction 

Triggering Effect 


All Rights Reserved



Rule 13E-3 Triggering Transactions: 

purchase of security, 

tender offer, 

shareholder solicitation, 

sale of substantially all of assets, 

reverse stock split 


All Rights Reserved



Rule 13E-3 Triggering Effect: 

Causes fewer than 300 record 

shareholders 

Causes delisting from an exchange (i.e., 

NYSE, NASDAQ) 


All Rights Reserved



Example: Carey Tender Offer Cont’d 

Carey, Chartwell, Management and Financing Sources all 

considered “Bidders” 

Bidders file Schedule TO and mail Offer to Purchase to 

stockholders 

Bidders file Schedule 13E-3 

Carey files Schedule 14D-9 

Shareholders tender shares in excess of 90% of outstanding 

Bidders close tender offer and shareholders receive cash for 

shares tendered 

Carey’s common stock ceases to be traded on NASDAQ 

Carey merges into new corporation owned by Bidders 


All Rights Reserved



Other Rule 13E-4 Considerations: 

“Best Price Rule” and Management Group 

Participation 

In 2006 the SEC amended the issuer and third-party best-price 

rules so that consideration offered and paid pursuant to 

employment compensation, severance or other employee 

benefit arrangements that are entered into with security holders 

of the subject company and that meet certain substantive 

requirements are not prohibited by the best-price rules 


All Rights Reserved

Schedule 13D 

Treatment of Derivatives 

Under Rule 13d-3(d)(1)(i), beneficial ownership exists 

when a derivative gives a person (i) voting or 

investment power over the underlying security or (ii) 

the right to acquire the underlying security within 60 

days or the person holds such right to acquire with the 

purpose of changing or influencing control. 

Additionally, under anti-evasion prong included in 

Rule 13d-3(b), beneficial ownership is deemed to exist 

if a derivative is used as part of a plan or scheme to 

evade beneficial ownership reporting requirements. 


All Rights Reserved

Schedule 13D 

Treatment of Derivatives (cont’d) 

The SEC, in a broad-ranging “Concept Release” 

issued in July 2010, acknowledged that its staff is 

in the process of reviewing current disclosure 

requirements relating to holdings of financial 

instruments, including short sale positions and 

derivatives positions often utilized by activist 

investors to magnify their economic return. 


All Rights Reserved

Schedule 13D 

Recent Developments 

1. Beware of “boilerplate” disclosure 

Tracinda, an investment fund controlled by Kirk Kerkorian, owned 9.9% 

of GM stock prior to its bankruptcy. 

Tracinda owned ~ 28.0 million shares but it could sell only 14.0 million 

at the price it wanted. 

In its 13D amendment for the sale of the 14.0 million shares, Tracinda 

included boilerplate disclosure that said, "We may sell additional shares, 

but we may also acquire additional shares." The SEC took the position, 

upon its investigation, that there was enough evidence to say, "No, you 

had a plan to sell all your shares. It was highly unlikely you would 

have acquired additional shares. So that disclosure wasn't good 

enough. You should have fully disclosed that your intent and your 

plan were to sell all of your holdings." 


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Schedule 13D 

Recent Developments (cont’d) 

2. Can 13D disclosures go too far and constitute a proxy 

solicitation necessitating the filing of proxy materials? 

Yes. The analysis is whether the information was included 

only to comply with Schedule 13D disclosure rules. Of 

course, if it is a solicitation, you have to look at whether you 

have an exemption for the proxy rules. 

In recent years investors who are hesitant to be active but 

want to get their point across have used 13D as the 

megaphone. 

When the 13D starts sounding like a pitch in a sales piece, it 

starts sounding like a solicitation. 


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Schedule 13D 


3. When does an affiliated person (thinking of taking a 

company private) need to amend their 13D? 

When buying shares in the open market? 

When retaining an investment banker to explore the 

possibility of taking the company private? 

When lining up financing for the potential transaction? 

When discussing with the board the possibility of taking 

the company private? 

Or only subsequently when they have actually 

"determined" to take the company private? 


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Schedule 13D 


3. When does an affiliated person (thinking of taking a 

company private) need to amend their 13D? (cont’d) 

The Staff's interpretation says that a security holder is 

required to promptly amend its 13D to disclose the material 

change in the information appearing when it has 

“determined” to pursue a plan that would or could 

result in a delisting or deregistration of this company's 

securities. 

The SEC’s Office of Mergers and Acquisitions focuses on 

the word "determine." When does that person determine to 

do something? 


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Schedule 13D 


4. Is there a “private right of action” for damages 

for a material false or misleading 13D or 13G 

filing? 

Section 13(d) does not explicitly provide a private 

right of action. 

Courts of Appeals have found an implied private 

right of action for both issuers and shareholders to 

bring claims for injunctive relief. 


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Schedule 13D 


4. Is there a “private right of action” for damages for a 

material false or misleading 13D or 13G filing? (cont’d) 

2 nd Circuit has ruled that Section 13(d) also permits a tender 

offeror to bring a claim for injunctive relief. The court reasoned 

that there is no principled basis not to support a private right of 

action for tender offerors seeking solely injunctive relief while 

finding that shareholders and the issuer have such standing. 

No federal court has granted a private right of action for a 

damage claim. However, a Delaware state court judge has 

permitted a state law fraud claim based upon materially false or 

misleading 13Ds and 13Gs. 


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Part 2 




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Rule 10b-5 and Related Matters 

Basic elements: 

False or misleading statement with 

respect to a material fact 

TSC Industries v. Northway 

“In connection with” the purchase or 

sale of a security 

includes “fraud on the market” 

“Scienter” – Culpability 


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Basic elements (cont’d): 

“Recklessness” 

Conduct that is "highly unreasonable, 

representing an extreme departure 

from the standards of ordinary care.” 


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Primarily five scenarios: 

misleading statement 

silence when duty to disclose 

insider trading 

selective disclosure – “tipping” 

inappropriate behavior “in connection 

with” sale of securities 


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Private Right of Action 

Kardon v. National Gypsum 

Section 21D – heightened pleading 

Private Litigation Reform Act of 

1995 


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Liability for misleading statements 

Texas Gulf Sulfur 


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Insider trading 

Not “anyone in possession of 

material non-public information” 

Scope of liability for tippees 


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Rule 10b-5: Basic Elements 

False or misleading statement with 

respect to a material fact 

“In connection with” purchase or 

sale of security 

Reliance 

Loss causation 

“Scienter” 


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Rule 10b-5: “In connection with . . .” 

If claim is based upon public statement, 

plaintiff must prove that the statement was 

material; and 

disseminated in a medium upon which 

an investor would presumably rely. 

It is irrelevant that statement was not 

intended to influence the securities market. 


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What if claim is NOT based upon 

public statement? 


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Superintendent of Insurance (S. Ct. 1971): 

10b-5 claim found to be “in connection 

with . . .” where issuer of bonds suffered 

financial harm as a result of deceptive 

practices having a nexus with or 

“touching” its sale of bonds to investors 


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Zanford (S. Ct. 2002): 

Broker sells securities and steals proceeds. 

Court finds 10b-5 claim because “it is enough 

that scheme to defraud and sale of securities 

coincide.” 


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Ketchum (3 rd Cir. 1977): 

Court found dispute was an internal corporate 

conflict, not securities fraud, even though a 

consequence of the allegedly wrongful conduct 

was that plaintiff was required to sell stock under 

a pre-existing stockholder agreement. 

The real purpose of the internal maneuvers was 

to remove plaintiffs as officers and employees. 

Sale of stock triggered by removal was incidental. 


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Santa Fe (S. Ct. 1977): 

Short-form merger under Delaware law (i.e., 

cash out merger without shareholder vote) 

Court ruled that no 10b-5 claim exists if 

allegation is based solely upon a claim involving 

breach of a fiduciary duty under state corporate 

law that does not involve shareholder action in 

reliance upon a on material misrepresentation or 

material omission. 


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Brown (5 th Cir. 1981): 

Allegation that defendants fraudulently induced plaintiff 

to enter into 1979 agreement that required plaintiff to sell 

stock to corporation if plaintiff were no longer employed 

by corporation 

Defendants misrepresented reason for new agreement 

and intent to terminate plaintiff 

Court concluded that 10b-5 claim existed because sale of 

security (pursuant to the new agreement) was “in 

connection with” the fraudulent inducement 

Compare with Ketchum 


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Compare: 

Rule 10b-5: “Reliance . . .” 

Failure to Disclose 

Fraud on the Market 


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“Failure to Disclose” 

Reliance not required 

Plaintiff must show 

Obligation to disclose 

Withholding of material fact 

Rule 10b-5 liability may exist whether 

counterparty to purchase or sale is known 

(Affiliate Ute) or anonymous (Shapiro) 


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“Fraud on the Market” 

Purchaser of stock on market is 

presumed to rely generally on valid 

market price and indirectly on all 

material representations made by a 

company, including those in its SEC 

filings 


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Basic v. Levinson (S. Ct. 1988) 


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"The fraud on the market theory is based on the hypothesis 

that, in an open and developed securities market, the price of a 

company's stock is determined by the available material 

information regarding the company and its business. . . . 

Misleading statements will therefore defraud purchasers of 

stock even if the purchasers do not directly rely on the 

misstatements. . . . The causal connection between the 

defendants' fraud and the plaintiffs' purchase of stock in such 

a case is no less significant than in a case of direct reliance on 

misrepresentations." 


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Basic v. Levinson (S. Ct. 1988) (cont’d) 

An investor's reliance on any public material 

misrepresentations may be presumed for 

purposes of a Rule 10b-5 action, because most 

publicly available information is reflected in 

market price. 


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Basic v. Levinson (S. Ct. 1988) (cont’d) 

Any showing that severs the link between the alleged misrepresentation and 

either the price received (or paid) by the plaintiff, or his decision to trade at a 

fair market price, will be sufficient to rebut the presumption of reliance. 

For example, the causal connection could be broken in Basic: 

if petitioners could show that the "market makers" were privy to the 

truth about the merger discussions here with Combustion, and thus that 

the market price would not have been affected by their 

misrepresentation; or 

if news of the merger discussions credibly entered the market and 

dissipated the effects of the misstatements. 


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Rule 10b-5: “Loss Causation . . .” 

“Loss Causation” - Section 21D(b)(4) 

In any private action arising under this title, 

plaintiff shall have the burden of proving 

that the act or omission of defendant 

alleged to violate this title caused the loss for 

which the plaintiff seeks to recover 

damages. 


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“Loss Causation . . .” (cont’d) 

Reliance and loss causation are wholly independent 

elements of a Section 10(b) claim. 

Fraud-on-the-market theory of reliance focuses on material 

misrepresentations that permeate an efficient market and 

thereby affect all purchasers and sellers. 

“Loss causation, by contrast, requires a plaintiff to show 

that a misrepresentation that affected the integrity of the 

market price also caused a subsequent economic loss.” 

Erica P. John Fund, Inc. v. Halliburton Co., 131 S. Ct. 2179 

(2011) 


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Rule 10b-5: “Purchaser/Seller . . .” 

General principle: 

Private plaintiff must be 

Purchaser or Seller 


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Blue Chip Stamps (S. Ct. 1975): 

Plaintiff alleged that defendant had intentionally caused 

prospectus to include material statements that were 

overly pessimistic about company’s prospects, because 

defendant wanted to discourage purchase of stock that 

defendant was required to offer as part of a settlement. 

Plaintiff did not purchase stock. S. Ct. ruled: without a 

purchase (or sale), there is no 10b-5 claim! 

Very important principle, though very uncommon facts. 


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Rubin v. U.S. (S. Ct. 1981): 

A pledge of stock constitutes a sale for purposes of 10b-5 

Pledgor is seller. 

Pledgee is purchaser 


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Rule 10b-5: “Scienter or Fault” 

Hochfelder (S. Ct. 1976) and subsequent 

cases: 

Mere negligence is not enough 

Must prove intent (or recklessness??) 

Even SEC must show intent or recklessness 

Case law affected by subsequent statutory 

changes 


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Rule 10b-5: “Scienter or Fault” 

Statutory Developments: 

Private Securities Litigation Reform Act of 1995 

(“PSLRA”) 

Plaintiff’s complaint must state “with 

particularity facts giving rise to a strong 

inference” that defendant acted with intent or 

recklessness (Section 21D(b)(2) of Exchange Act) 

Securities Litigation Standards Act of 1998 

Class actions involving publicly traded 

companies must be brought in federal court 

(Section 28(f) of Exchange Act) 


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Rule 10b-5: Recklessness? 

Post-PSLRA – Cases Split 

Supreme Court has not definitively addressed after the 

adoption of the PSLRA. 

2 nd Circuit – Plaintiff may plead scienter by alleging facts 

showing conscious misbehavior or recklessness – a 

standard requiring, “at the least, conduct which is highly 

unreasonable and which represents an extreme departure 

from the standards of ordinary care to the extent that the 

danger was either known to the defendant or so obvious that 

the defendant must have been aware of it.” 


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Rule 10b-5: Recklessness? 

Post-PSLRA – Cases Split 

9 th Circuit – “Congress intended to elevate the pleading 

requirement above the 2 nd Circuit standard . . . .” 

Put simply, in a securities class action, “the plaintiffs must 

show that defendants engaged in ‘knowing’ or ‘intentional’ 

conduct . . . . [R]eckless conduct can also meet this 

standard ‘to the extent that it reflects some degree of 

intentional or conscious misconduct,’ or what we have 

called ‘deliberate recklessness.’” 


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Rule 10b-5: Recent Developments 

Recent Statutory and Regulatory Developments: 

Section 20A of Exchange Act 

Rule 10b5-2 

Rule 10b5-1 

Rule 14e-3 

Sections 804 and 807 of Sarbanes-Oxley Act 


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Rule 10b5-2 

Person civilly liable to anyone who 

“contemporaneously” trades 

Presumption regarding relationship of 

trust and confidence 

Non-exclusive! 

But consider Mark Cuban case. 


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Any person who violates [Rule 10b-5, etc.] by 

purchasing or selling a security while in possession of 

material, nonpublic information shall be liable . . . to 

any person who, contemporaneously with the 

purchase or sale of securities that is the subject of 

such violation, has purchased (where such violation is 

based on a sale of securities) or sold (where such 

violation is based on a purchase of securities) 

securities of the same class. 


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Rule 10b5-1 

Rule 14e-3 

Presumption regarding “use” of material 

non-public information 

Refer to Session 8 for more discussion 

of so-called “Rule 10b5-1 plans” 

Liability for insider trading in tender offer 

context; no nexus to “fiduciary duty” to 

issuer required 


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Sarbanes-Oxley 

Section 804 

Statute of Limitation: 2 years/5 years 

When does the limitations period begin to 

run? 


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Rule 10b-5: Statute of Limitations 

When does the limitations period begin to run? 

Following the enactment of the Sarbanes Oxley Act, the general rule 

is that a securities fraud complaint is timely if filed no more than “2 

years after the discovery of the facts constituting the violation” or 5 

years after the violation. 

In Merck & Co., Inc. v. Reynolds, S. Ct. (April 27, 2010), the 

Supreme Court addressed what constitutes “discovery.” 

The Court unanimously held that a 10b-5 cause of action accrues 

“(1)when the plaintiff did in fact discover, or (2) when a 

reasonably diligent plaintiff would have discovered, “the facts 

constituting the violation”—whichever comes first. 


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Rule 10b-5: Statute of Limitations 

Merck & Co., Inc. v. Reynolds, S. Ct. (April 27, 2010) (cont’d) 

The Court also held that the “facts constituting the violation” include the fact of scienter, 

“a mental state embracing intent to deceive, manipulate, or defraud.” In other words, 

the limitations period does not begin to run until the plaintiff discovers or a reasonably 

diligent plaintiff would have discovered “the facts constituting the violation,” including 

scienter—irrespective of whether the actual plaintiff undertook a reasonably diligent 

investigation. 

The Court acknowledged that “one might read the statutory words ‘after the discovery of 

the facts constituting the violation’ as referring to the time a plaintiff actually discovered 

the relevant facts. But in the statute of limitations context, the word ‘discovery’ is often 

used as a term of art in connection with the ‘discovery rule,’ a doctrine that delays 

accrual of a cause of action until the plaintiff has ‘discovered’ it” (emphasis added). The 

Court concluded that “[g]iven the history and precedent surrounding the use of the word 

‘discovery’ in the [statute of] limitations context generally as well as in this provision in 

particular, . . . [w]e . . . hold that “discovery” as used in this statute encompasses not only 

those facts the plaintiff actually knew, but also those facts a reasonably diligent plaintiff 

would have known” (emphasis added). 


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Rule 10b-5: Issuer Duty to Disclose 

Affirmative Duty to Disclose in SEC Filings 

MD&A, Reg. FD 

Historical Statement – Duty to Correct 

Forward Looking Statement – Duty to 

Update? 


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Rule 10b-5: Issuer Duty to Update 

vs. Duty to Correct 

Historical Statement – Duty to Correct 

Was statement incorrect when report was filed? 

Forward Looking Statement – Duty to Update? 

Compare 

Stansky v. Cummins Engine (7 th Cir. 1995) 

with 

Weiner v. Quaker Oats (3 rd Cir. 1997) 


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Rule 10b-5: Issuer Duty to Disclose 

Role of “No Comment” 


“Functional equivalent of silence” 

Very important principle 


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Session 9 – Rule 10b-5 


Farmer’s Cooperative Corp. (Co-op) helps area farmers finance their farming 

operations and offers various farming outreach programs. Three years ago the Coop’s 

manager, Bill Uppin, started his own company, called Uppin Flames, Inc., to 

build and operate a gasohol plant that would convert corn into fuel. To fund the 

company’s expansion Uppin approached the Co-op board for a loan. The board 

approved $2 million in unsecured, low-interest loans by the Co-op to Uppin Flames, 

for which Uppin gave personal guarantees. 

Problems at the plant developed, causing Uppin Flames to approach 

insolvency. Uppin contrived a scheme to sell Uppin Flames to the Co-op in order to 

escape his personal guarantees. Uppin, with the help of complicit members of the 

Co-op board, convinced the rest of the Co-op board that, while having difficulty 

servicing its debt in the short term, Uppin Flames was on the verge of tremendous 

growth and would be a prudent investment. The Co-op board approved a transaction 

whereby the Co-op acquired the stock of Uppin Flames in return for debt 

forgiveness, and Bill Uppin was relieved of $2 million in personal guarantees. 


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Study Problem 9.1 (continued) 

The “acquisition” of Uppin Flames, Inc. proved disastrous for the Coop. 

Within two years after the acquisition, the Co-op was bankrupt because 

of the heavy gasohol liabilities it had assumed. The bankruptcy trustee for 

the Co-op considers 10b-5 claims against various participants in the Co-op’s 

acquisition of Uppin’s interest the gasohol plant. 

1. The trustee begins to draw up a list of potential 10b-5 defendants. Who 

should be on the list? 

2. From the start Bill Uppin asserted his belief (perhaps naive) that the 

gasohol plant would turn itself around with the Co-op’s financial backing 

and an upturn in gasohol prices. Can Uppin be liable if he had a “clean 

heart and empty mind”? 

3. Even if the Co-op was culpably deceived, can Bill Uppin be liable if the 

Uppin Flames investment fizzled because of weakness in gasohol prices? 


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TO BE ADDED 




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TO BE ADDED 


Study Problem 9.1 — Analysis (continued) 


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To raise money for its operations, the Co-op sells 

promissory notes to its members. The notes, payable on 

demand, are uncollateralized and uninsured. The Co-op 

advertises its demand note program promising that “your 

investment is safe, secure, and available when you need it.” 

1. Do noteholders have standing to bring a 10b-5 class action 

regarding the Co-op’s acquisition of Uppin Flames? 

2. Were the noteholders deceived in connection with the 

purchase or sale of their notes? 

3. Who are potential defendants in a suit by the noteholders? 


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TO BE ADDED 




Reserved


Study Problem 9.2 — Analysis (continued) 

TO BE ADDED 


Reserved



A year after acquiring Uppin Flames, the Co-op hires the well-known 

accounting firm Dewey Cheetum & Co. to audit its financial statements. During 

their review of the Co-op’s books, Dewey Cheetum accountants notice that the Coop 

did not properly account for its investment in Uppin Flames. 

In its audit report to the Co-op board, Dewey Cheetum ignores the Uppin 

Flames problem. The Dewey Cheetum accountants are aware that the Co-op should 

have a negative net worth under generally accepted accounting principals. That bad 

news about the Co-op’s financial condition could well trigger a disastrous run on the 

demand notes. The only cautionary disclosure came in a footnote to the audit report 

in which Dewey Cheetum doubted the recoverability of the Co-op’s investment in 

Uppin Flames. Dewey Cheetum attends a meeting of noteholders at which the Coop’s 

financial condition is discussed. 

Most of the noteholders did not know of the audit report, which Dewey 

Cheetum provided only to the Co-op board. Can Arthur Young be liable to the 

noteholders despite the absence of any actual reliance? 


Reserved

TO BE ADDED 




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Part 1 


Part 2 



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What is the current law? 

How did it evolve? 


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Statement of Current Law 

The purchase or sale of a security of any 

issuer, on the basis of material nonpublic 

information about that security or the issuer, 

in breach of a duty of trust or confidence that 

is owed, directly, indirectly or derivatively to 

the issuer of that security or the shareholders 

of that issuer, or any person who is the source 

of the material nonpublic information violates 

Rule 10b-5. 


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“Classical Theory” 

A person purchases or sells securities, 

with scienter, while in possession of 

material, nonpublic information in 

breach of a duty arising out of a 

fiduciary relationship to the issuer 

of the security 


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“Misappropriate Theory” 

A person violates Rule 10b-5 when 

she misappropriates and trades on the 

basis of confidential information in a 

breach of a duty of trust or 

confidence owed to the source of 

the information. 


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Evolution of Insider Trading Law 

In re Cady Roberts (S. Ct. 1961) (tipper/tippee) 

Texas Gulf Sulfur (2 nd Cir. 1971) (accepting options 

while in possession of material non-public 

information) 

Chiarella (S. Ct. 1980) 

Dirks (S. Ct. 1983) 

O’Hagan (S. Ct. 1997) 

SEC Rule 10b5-2 (2000) 


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Rule 10b5-2 

Provides a non-exclusive 

definition of circumstances in 

which a person has a duty of trust 

or confidence for purposes of the 

"misappropriation" theory of 

insider trading under Section 

10(b) of the Act and Rule 10b-5. 


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Rule 10b5-2 (cont’d) 

(1) A person agrees to maintain information in confidence; 

(2) the person communicating the material nonpublic information and the person 

to whom it is communicated have a history, pattern, or practice of sharing 

confidences, such that the recipient of the information knows or reasonably 

should know that the person communicating the material nonpublic information 

expects that the recipient will maintain its confidentiality; or 

(3) A person receives or obtains material nonpublic information from his or 

her spouse, parent, child, or sibling, unless the person receiving or obtaining the 

information demonstrates that no duty of trust or confidence existed with respect 

to the information, by establishing that he or she neither knew nor reasonably 

should have known that the person who was the source of the information 

expected that the person would keep the information confidential, because of the 

parties' history, pattern, or practice of sharing and maintaining confidences, and 

because there was no agreement or understanding to maintain the confidentiality 

of the information. 


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Liability is derivative 

Insider Trading: 

Tipper/Tippee Liability 

Tippee will be liable only if tipper is liable 


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Tipper Liability: 



(1) Tipper had a duty to keep material non-public 

information confidential; 

(2) Tipper breached that duty by intentionally or 

recklessly relaying the information to a tippee who 

could use the information in connection with 

securities trading; and 

(3) Tipper received a personal benefit from the tip. 


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Tippee Liability: 



(1) Tipper breached a duty by tipping confidential 

information; 

(2) Tippee knew or had reason to know that the tippee 

improperly obtained the information (i.e., that the 

information was obtained through the tipper’s breach); 


(3) Tippee, while in knowing possession of the material 

non-public information, used the information by trading 

or by tipping for his own benefit. 


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Thomas is an employee of GE Capital. 

Peter and Nelson work at Wynnefield Capital. 

Peter is a college friend of Thomas. 

Thomas “tips” Peter about the possible acquisition of SunSource 

Inc. by Allied Capital Corporation that GE Capital was financing. 

Peter passes this information to Nelson, who purchases 

SunSource stock based on it. 

After an internal investigation, GE Capital did not consider itself 

to be a victim of a breach of confidentiality. 

Would Thomas, Peter and/or Nelson be liable for insider 

trading? 


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TO BE ADDED 


Study Problem 9.4 - Analysis 


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TO BE ADDED 


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TO BE ADDED 


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Non-Equity Securities 

SEC has brought cases alleging improper 

trading in securities other than equities 

and listed options, such as 

credit default swaps, 

exchange-traded funds 

mutual funds. 


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Insider Trading: Tender Offers 


Kate is drying her hair in the locker room of her very upscale gym. 

As she turns off the hair dryer, she overhears the end of a conversation between 

two women who Kate knows only casually by their first names – Monica and 

Hillary. 

Monica: “I wish could be in the room when Meg learns that Googolplex is 

launching a hostile tender for her company.” 

Hillary: “I hope Meg can handle the stress. With the premium that ‘Plex 

is offering, she will have no choice but to toss in towel.” 

Monica and Hillary do not know that Kate overhead their conversation. 

Making an educated guess regarding the identity of Meg’s company, Kate 

purchases shares of its stock before Googolplex launches its tender offer. Her 

profit on the trade is $1 million. 

Will Kate, Monica and/or Hillary have liability for insider trading? 


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TO BE ADDED 


Study Problem 9.5 - Analysis 


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THE END!! 


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Michael Krebs 





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U.S and Trans-Border Securities Regulation

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