Securities RegulationKey Definitions1) Accredited Investor [Rule 502] Any person who falls within one of the categories, or whom the issuer reasonably believes
comes within such category at the time of sale. Categories are designed to catch (a) regulated entities [(a)(1)-(3)], insiders
[(a)(4)], and high net worth investors [(a)(5)-(6)].1)Institutional Investors [Rule 501(a)(1)]: Includes (a) Banks acting in either an individual or fiduciary capacity, (b)
Broker-Dealers, (c) Insurance Companies, (d) Investment Companies, (e) Business Development Companies, (f)
Small Business Investment Companies, (g) ERISA Plans, etc.2)Private Business Development Company [Rule 501(a)(2)]3)Corporation or Partnership with $5M Assets [Rule 501(a)(3)]: In addition to the asset requirement, it also cannot
be formed for the express purpose of acquiring the securities.4)Natural Persons:a) Issuer Insiders [Rule 501(a)(4)]: If the individual is a director, officer, or general partner of the issuer.b) High Net Worth [Rule 501(a)(5)]: If an individual has a net worth of greater than $1M, excluding the person’s
residence as an asset, but including any indebtedness over the value of the home as a liability.c) High Income [Rule 501(a)(6)]: If single, has an income over $200,000, or if married, a joint income in excess of
$300,000, for the prior two years, and there is no “reasonable expectation” of falling below.5)Trusts [Rule 501(a)(8)]: Any trust with total assets in excess of $5M, that was not organized with the express purposeof acquiring the securities, whose purchase is directed by a “sophisticated person.”6)Entities with all Accredited Investors [Rule 501(a)(8)]: If all equity owners are AI, then organization qualifies.2)Directed Selling Efforts [Rule 902(c)]: The absence of directed selling efforts is integral to both safe harbors, and is
defined to include and exclude certain communications.a) Activities Deemed to Constitute Directed Selling Efforts [Rule 902(c)(1)]: Includes any activity with a “purpose of, orthat could reasonably be expected to have the effect of, conditioning the market in the United States for any of the
securities being offered” in reliance on Regulation S, which includes “placing an advertisement in publication ‘with a
general circulation in the United States’ that refers to the offering of the securities.”i)With a General Circulation in the United States [Rule 902(c)(2)(i)]: Is any publication that (1) is printed
primarily for distribution in the United States, or (2) has had during the preceding twelve months, an average
circulation in the United States of 15,000 or more copies per issue.”ii)If Multiple Editions [Rule 902(c)(2)(ii)]: If there are multiple editions, then it will only include the “separate
U.S. edition.”b) Activities Deemed NOT Directed Selling Efforts [Rule 902(c)(3)]:i)Legally Required Publications [Rule 902(c)(3)(i)]: Provides that any advertisement required to be published
under either U.S. or foreign law, so long as (a) it contains no more information than legally required and (b) a
legend stating that it has not been )Non-U.S. Persons [Rule 902(c)(3)(ii)]: Communications with persons “excluded” from the definition of “U.S.
Person” or accounts held by persons excluded from “U.S. Persons” )Tombstone Ads [Rule 902(c)(3)(iii)]: Tombstone Ads with (a) less than 20% of their general circulation in the
U.S., (b) an appropriate legend, and (c) only contain the information permitted in a tombstone )Rule 135(c) and (e) Publications [Rule 902(c)(3)(vi)]:v)Journalist Access to Rule 135(e) Conferences [Rule 902(c)(3)(vii)]: In addition to the publications themselves,
permitting journalists with access to such press conferences.3)Research Reports [Rule 902(c)(3)(viii)]: If a research report by a broker or dealer is published in accordance with Rule
138(c) or Rule 139(b).Exxon Capital Exchanges and PIPEs Deals:a)For Cash Requirement: Securities Laws often require that an offering have been issued “for cash” rather than
“exchange.” This emerged because of Exxon Capital Exchanges and PIPEs Deals, which the SEC previously
permitted through no-action letters.
b)Nature of Transactions: In short, this was a way of accomplishing shelf-registration before it was permitted.
Therefore, the SEC tries to cut back on these because Shelf-Registration is supposed to accomplish the same goals,
but with additional requirements.1
Exxon Capital Exchange Debt : In order to reach markets quickly, the Issuer of debt would issue notes through
a Private Placement, which is exempt from registration under Sec. Act § 4(a)(2). These instruments, however, arehighly illiquid because they are privately held (Restricted Securities), and therefore the Issuer subsequently
registers an identical class of notes with the SEC, then exchanges its outstanding non-registered notes for the
newly issued registered notes. Achieves access to the market when desired without ) PIPEs Deal Equity : Similar deal but with Equity instead of
c)Continued Use: An Exxon Capital Exchange or a PIPEs deal would still be used if the Issuer failed to satisfy the
requirements for a shelf-registration under Rule 415, which would occur if either (a) Non-Public Issuer, if the Issuer
is not public, (b) Non-Timely with Filings, is in a 12-month penalty box for not timely filing reports, or (c)
Insufficient Float, lacks the public float requirements.4) Free Writing Prospectus (“FWP”) [Rule 405]:
a)Generally: A Free Writing Prospectus is “any written communication,” which includes “graphic communications,”
that constitutes “an offer to sell or a solicitation of an offer to buy” securities that is made by means other than (1) a
prospectus satisfying the requirements of § 10(a) or another 10(b) prospectus [e.g. Rule 430 and Rule 431]; (2) , and
(3) communications that are excluded from the definition of Prospectus under § 2(a)(10)(a).b)Requirements Rule 433: A FWP will be deemed to satisfy the requirements of Sec. Act § 5(b)(1) by qualifying as
a Sec. Act § 10(b) Prospectus only if the Prospectus complies with the requirements of Rule 433. If it does not, then
the communication will violate Sec. Act § 5(b)(1).c)When it May be Used Depends on Issuer [Rules 163 & 164]: WKSIs are permitted to use FWPs during the QuietPeriod under Rule 163. Under Rule 164, almost all other issuers, save excluded and ineligible issuers, are permitted
to rely on the rule during the Waiting Period.5) Ineligible Issuer [Rule 405]: Issuers that are subject to “problems” described below are prohibited from relying on a
number of provisions of the Securities Laws as they become “ineligible issuers.” Defined to include:a)Missed Filing Reporting Issuer: If the Issuer is a reporting issuer that failed to file all materials required to be filed
during the past Twelve Months, other than certain information required under Form 8-K, then they are ineligible. Thisthough does not have a timeliness requirement, so they can file late and still satisfy.b)Blank Check, Penny Stock, and Shell Companies: If the Issuer has qualified at any point in the prior three years as
one of these, then they are ineligible.i) Blank Check Company [Rule 419(a)(2)]: Is a company that (i) Development Stage—a company that has “no
specific business plan” or “has indicated that its business plan is to engage in a merger or acquisition with an
unidentified company,” and (ii) Penny Stock—is issuing “penny stock,” as defined in Rule ) Shell Company [Rule 405]: A company, other than an asset-backed issuer, that has (1) operations, either none
or nominal, and (2) Assets, either none or nominal, solely of cash or cash equivalents, or cash and cash
equivalents and only nominal other ) Penny Stock Issuer [Rule 3a51-1]: Any issuer of securities other than securities exceeding the requirements set
forth in Rule 3a51-1. These are normally for low value, low capital firms, as the issuer must exceed (A) certain
asset or income minimums, (B) operating history or market value of securities, (C) greater than $4/share value,
etc.c)Limited Partnership: If it is a limited partnership that is offering and selling its securities other than through a Firm
Commitment Underwriting.d)Bankruptcy and Insolvency: If the Issuer within the past three years has become insolvent or filed for bankruptcy,
then it is ineligible, provided that if it was involuntary, ineligibility occurs at a special determination date and that the
three years only starts to run after they filed an annual report after emerging from bankruptcy.e)Felony/Misdemeanor: If in the past three years the Issuer was convicted of felonies specified in Exch. Act § 15(b)(4)(B)(i)-(iv).f)Adverse Government Action: If in the past three years, the Issuer was the subject of an adverse government action,
be it administrative or judicial, that subjects them to either (A) prohbiitions on certain conduct such as violating anti-fraud provisions of securities laws, (B) requires cease-decist violating securities laws, (C)6) Qualified Institutional Buyer Defined [Rule 144A(a)(1)]: QIBs are any of the following entities, acting on its own account
or for the account of another QIB [Note: this precludes “sophistication by proxy” as under Rule 506, because can only
purchase for someone else and count as a QIB if purchasing for another QIB].a)Catchall Institutions $100M in Securities [Rule 144(a)(1)(i)]: Insurance company, investment company,
employee benefit plan, trust fund, business development company, 501(c)(3) organization, corporation, partnership,
investment advisor.i) NOTE : You can create a corporation for the express purpose of buying 144A securities (unlike Reg D).
b)Dealers Generally $10M in Securities [Rule 144A(a)(1)(ii)]: Dealers, if acting on their own or a QIBs account,
that owns $10M investments in securities not affiliated with the dealer.i) Unsold Allotments Not Counted : Provides that any securities being held as part of an unsold allotment do not
count as being “owned” by such dealer2i)
Dealer Riskless Principal Transactions for QIBs [Rule 144A(a)(1)(iii)]: Dealers qualify as QIBs when engaged in
riskless principal transactions for QIBs.i) Riskless Principal Transaction [Rule 144A(a)(5)]:A transaction in which a dealer buys a security from any personand makes a simultaneous offsetting sale of such security to a QIB.d)Registered Investment Companies $100M in Securities [Rule 144A(a)(1)(iv)]: Any investment company that is
part of a family of investment companies, meaning it has the same advisor for multiple funds or affiliate funds, which
owns in the aggregate $100M in non-affiliated issuer’s securities.e)Owners are QIBs [Rule 144A(a)(1)(v)]: Any entity, such as a corporation, where all equity owners are QIBs, that act
for either their own account or for the account of other QIBs.f)Banks $25M Independent Net Worth [Rule 144A(a)(1)(vi)]: Banks must have, in addition to owning $100M in
securities of non-affiliated issuers, must have at least $25M in independent net worth from such securities.7) Seasoned Issuer [Rule 433(b)(1)]:
a)Seasoned Issuers are Issuers that are (1) Reporting Issuers, meaning subject to the Exch. Act § 13 and 15 reporting
requirements, (2) Form S-3 Eligible, and (3) NOT an Ineligible Issuer.8)Substantial U.S. Market Interest (“SUSMI”) [Rule 902(j)]: There are different standards for determining if there is a
“substantial U.S. market interest” in an issuer’s securities depending on whether the securities are equity or debt securities.a) Equity SUSMI [Rule 902(j)(1)]:There is SUSMI with respect to an issuer’s equity securities if eitheri)U.S. Market is Largest Market [Rule 902(j)(1)(i)]: The U.S. market is the largest market for the class of
securities in the last fiscal )De Minimis Traded on non-U.S. Exchange [Rule 902(j)(1)(ii)]: Twenty percent (20%) or more of all trading
in the class of securities took place in, on or through the facilities of securities exchanges, and less than fifty-five
percent (55%) of such trading took place in/through the facilities of security markets of a single country.b) Debt SUSMI [Rule 902(j)(2)]: There is SUSMI with respect to an issuer’s equity securities if all of the following are
satisfied—i)>300 Aggregate U.S. Debt Holders [Rule 902(j)(2)(i)]: There are, in the aggregate, 300 or more U.S. persons
who are record holders of the issuer’s debt )U.S. Debt Holders have $1B or 20% [Rule 902(j)(2)(ii)-(iii)]: If U.S. persons hold at least $1B of and 20% of,
(1) the principle amount outstanding of its debt securities PLUS (2) the greater of liquidation preferences on par
value of its securities described in Rule 902(a)(1),
PLUS, (3) the principle amount or principle balance of its
securities described in Rule 902(a)(2).iii)Commercial Paper Ignored [Rule 902(j)(3)]: for purposes of these debt calculations, securities exempted
under the commercial paper exemption are not Known Seasoned Issuer (“WKSI”) [Rule 405 , P129 ]: There are three ways for an Issuer to become a WKSI under
9)
Rule 405.a)Always Required Form S-3 Registrant Requirements [Para. (1)(i)] P584:i)US company andii)Reporting company
(1)Issuers with a class of securities listed on an exchange (Sec 12 (b) of the Exchange Act) or(2)Issuers having both total assets exceeding $10 million and a class of equity securities held by 500 or more
people (Sec 12(g) of the Exchange Act) or(3)Issuers with outstanding securities sold pursuant to 1934 Act registration statement (Sec 15(d) of the
Exchange Act) = file registration for a class of securities with SEC eg. Registered public debt offering
iii)Has reported for at least 12 monthsiv)timely filing the reports and no defaults during prior yearb)In addition, the Issuer must satisfy one of the following options.i) Opt. One $700M Public Float [Para. (1)(i)(A)]: Within 60-Days of the Determination Date, must have a
“worldwide market value of its outstanding voting and non-voting common equity held by non-affiliates of $700
million or more.”ii) Opt. Two within 60-Days of the Determination Date, the issuer must have issued $1B in non-convertible
securities, other than equity (debt or preferred stock), in the last 3-Years, “in primary offerings for cash, not
exchange, registered under the Act.” [excludes PIPEs and Exxon Capital Exchanges] + Only Registering Non-Convertible Non-Equity [Para. (1)(i)(B)(2)] (must only register “nonconvertible securities, other than
common equity, and full and unconditional guarantees.”)iii) Opt. Three within 60-Days of the Determination Date, the issuer must have issued $1B in non-convertible
securities, other than equity (debt or preferred stock), in the last 3-Years, “in primary offerings for cash, not
exchange, registered under the Act.” [excludes PIPEs and Exxon Capital Exchanges] + Form S-3 Transaction
Requirements [Para (1)(i)(B)(2)] (the market value of the voting and nonvoting common equity held by non-affiliates of the issuer is more than $75 million)3c)
c)Determination Date [Para. (2)]: Determination Date is the later of either (i) Shelf-Registration Filing, the filing of
the most recent shelf registration statement; or (ii) Shelf-Registration Amendment, time of the most recent
amendment to a shelf-registration statement; or (iii) Most Recent Form 10-K Filing, if there is not a Shelf-Registration, then it is the most recent Form 10-K filing date.4
Coverage of Securities Regulations: Definition of “Security”
“Every sale of a security in the United States must be registered or exempt.”1) Jurisdictional Question : Whether or not something is a security determines whether securities laws apply. If it is not a
security, the Securities and Exchange Commission has no jurisdiction to regulate its sale. If an instrument is deemed a
“security,” then the major regulations are applicable.2) Statutory Definitions of “Security” [Sec. Act § 2(a)(1); Exch. Act § 3(a)(10)]: The two major statutes set forth nearly
identical definitions of what constitutes a security.
a)Unless Context Provides: Both statutes have a proviso that the listed instruments will count as securities “Unless thecontext otherwise requires.” In short, even if something technically is called one of the following instruments, contextmay deem that it is not appropriately called a security.b)Specific Listing of Instruments: Expressly provides that any “note,” “stock,” “bond,” and “debenture” will be
deemed a security.c)Catchall Provision: "Evidence of indebtedness," "certificate of interest or participation in any-profit sharing
agreement," "investment contract," and any "instrument commonly known as 'security.'”d)Key Difference—Commercial Paper:3) How to determine whether an Interest is a Security : In examining an instrument, must examine whether it will be deemed
a security as either traditional common stock, a note, or as an investment contract.a)Traditional Common Stock [Landereth] (p. 6)
i)Label: Under Landereth, an instrument labeled as a “stock” will be deemed a security if it possesses the “usual
characteristics” associated with common stock.
(1)If mere label (but none of the characteristics in (ii), the court may apply the Howe Catchall analysis)
ii)Usual Characteristics: These usual characteristics of a stock include (1) the right to receive dividends, (2)
negotiability, (3) the ability to pledge or hypothecate the security, (4) voting rights in proportion to the number of
shares owned, and (5) the capacity to appreciate in value.b)Traditional Note Test [Reeves]: Under Reeves, an instrument labeled as a “note” is presumptively a security,
however, this presumption may be rebutted in two circumstances.
i) Precluded List : First, courts utilizing the Reeves analysis have identified certain “notes” that are, by their nature,
not appropriately regulated by the securities laws. If an instrument falls on this list, then it is similarly excluded
from being treated as a security.(1)A note delivered in consumer financing;(2)A note secured by a home mortgage;(3)A short-term note secured by a lien on a small business or some of its assets;(4)A note evidencing a character loan to a bank customer;(5)Short-term notes secured by an assignment of accounts receivable;(6)A note formalizing an open-account debt incurred in the ordinary course of business; and(7)Notes evidencing loans by commercial banks for current operations..ii) Individual Analysis : Second, even if not already excluded based on the foregoing list a note may still be determining whether note rebuts the presumption of being a security, Courts will examine (1) the parties
motivations, (2) the plan of distribution of the instrument, (3) the expectations of the investing public, and (4) the
existence of a risk reducing factor which renders securities regulations unnecessary.
c)Investment Contract Test [Howe]: Under the catchall Howe Investment Contract Test, an instrument will be deemeda security if (1) there is an investment of money, (2) made with the expectations of profits, (3) originating from a
common enterprise, (4) where profits are derived “solely,” meaning “predominantly,” from the efforts of others.i) Investment of Money Self Explanatoryii) Expectation of Profit Contrast “cash profits” from “consumption motive.”iii) Common Enterprise
(1)Horizontal Commonality (Available in All Circuits—7th takes only it): Pooling of investment funds plus
shared profits and losses (i.e. interdependency of the investors).(2)Strict Vertical Commonality (Available in 5th, 2nd, 9th Cir): The investment must be tied to the promoter’s
success(3)Broad Vertical Commonality (Available only in 5th): The investment need not be tied to the investor’s
performance at all5
6
Traditional Common Stock: “Usual Characteristics” Test1) Introduction : Stock is one of the expressly enumerated categories of securities listed in both Sec. 2(a)(1) and Sec. 3(a)(10).Therefore, there is a specific test for determining whether
2) Usual Stock Characteristics Test : An investment instrument labeled as a “stock” by the promoter will qualify as a Sec. 2(a)(1) stock, and therefore render the instrument a security, provided that it carries the “significant characteristics typically
associated with stock.
a)Critical Characteristics: These usual characteristics of a stock include (1) the right to receive dividends, (2)
negotiability, (3) the ability to pledge or hypothecate the security, (4) voting rights in proportion to the number of
shares owned, and (5) the capacity to appreciate in value.i)Landreth Timber Company v. Landreth – The “Timber!” Case [Page 295](1)Landreth family owned all of the outstanding stock of a lumber business. While they were attempting to sell
their controlling shares, a fire broke out. Potential investors were advised of the damage, but told the mill
would be rebuilt and modernized. Purchaser acquired 100% of the stock, but rebuilding costs greatly
exceeded expectations. Purchasers sued.(2)Court noted that here the stock bore all the traditional characteristics of a stock, and furthermore it was sold
in the context of a transaction typically covered by securities laws, the sale of a stock in a corporation.
Therefore, the investor would reasonably believe that this was covered by the securities laws.b)Mere Label as Stock is Insufficient: If a security is labeled a stock, but it does not bear these critical characteristics,
then it will not be deemed a security as a “stock.” The court may, however, analyze whether it is a security under the
general catchall test for securities.i)United Housing Foundation, Inc. v. Forman – The “Co-Op City” Case [Page 270](1)Defendant sold shares in a non-profit corporation to individuals so that they could live in a non-profit co-op.
The shares at issue did not have proportionate voting, as management was based on a per-apartment bases,
there were no dividends, the shares were not freely alienable, there were no dividends, and the shares would
be sold at the end of occupation at the same price that they paid for them initially(2)Court determined that this was not a “stock” as the name would suggest, and therefore proceeded to analyze
it under the Howe test (eventually determining it was not an investment contract either).3) Power of Formalism : The investment will be deemed to be a security under this test, even if it would not be deemed a
security under the general catchall investment contract analysis.a)Landreth Timber Company v. Landreth – The “Timber!” Case [Page 295]i)Compare the result here with that in Steinhardt (LPs) and Monsanto (LLCs), where the question would have
turned on passivity (or reliance upon the “efforts of others”). Here, they were acquiring 100% of the stock, so it
would not have been considered a security under )Court noted that the Howe test was designed to govern the catchall provisions at the end of Sec. 2(a)(1), but to
find that this should be applied to all securities would ignore the fact that the statute expressly enumerated certaintypes of securities before the general catchall provision. Therefore, the mere fact that something would not be
considered under another test did not mean that it should be relevant to the stock inquiry.7
Notes: “Family Resemblance” Test1) Introduction : The label “note” is expressly included in the definitions in § 2(a)(1) and §3(a)(10); however, unlike
conventional stock which has a core set of critical characteristics, notes embrace a wide variety of financial instruments
that are issued for wildly different purposes, not all of which are fit for regulation as securities. Therefore, a different test
is required.a){Reeves v. Ernst & Young – The “Note by any Other Name” Case [Page 301]i)Farmer’s Cooperative (“The Co-Op”) issued promissory notes payable on demand by the holder in order to
support its general business operations. Notes were uncollateralized and uninsured. Notes were advertised in The
Co-Op’s Newsletter, and stated that though they were uninsured, there were more than $11,000,000 in assets
standing behind the investment. The Co-Op eventually floundered, leaving 1,600 bondholders holding the bill for
$10 million in worthless )Quote: “While common stock is the quintessence of a security, and investors therefore justifiably assume that a
sale of stock is covered by the Securities Acts, the same cannot be said of notes which are used in a variety of
settings, not all of which involve investments. Thus, the phrase ‘any note’ should not be interpreted to mean
literally ‘any note,’ but must be understood against the backdrop of what Congress was attempting to
accomplish in enacting the Securities Acts.”}{}means 讲过但不重要。2) Family Resemblance Test (Reeves): In determining whether a “note” is a “security,” courts are to apply the Family
Resemblance Test set forth in Reeves. Under this test, all instruments labeled “notes” are presumed to be a “security,” and
this presumption may be rebutted only by a showing that the note lacks a strong resemblance to the notes that Congress
intended to regulate with the Securities Acts, or if the instrument bears a strong resemblance to a previously excluded
instrument.
a)Family Resemblance Factor Test: In determining whether note rebuts the presumption of being a security, Courts
will examine (1) the parties motivations, (2) the plan of distribution of the instrument, (3) the expectations of the
investing public, and (4) the existence of a risk reducing factor which renders securities regulations unnecessary.
i) Parties Motivations : First, the court will examine the motivations that would prompt a reasonable seller and buyerto enter into it.
(1)Investment Motive—Security: If the seller’s purpose in issuing the note is to raise capital, and the buyer
expects to receive profit for providing the capital, then the note is likely a security.(a) Reeves v. Ernst & Young – The “A Note by any Other Name” Case [Page 301](i)Quote: “If the seller’s purpose is to raise money for the general use of a business enterprise or to
finance substantial investments and the buyer is primarily interested in the profit the note is
expected to generate, the instrument is likely to be a ‘security.’” (Reeves)(ii)Court found that here that the Co-Op issued the securities in order to raise capital for its general
business operations, and purchasers expected to receive profit from interest. Given that the notes
were constantly maintained above local interest rates, was clearly an “investment in a business
enterprise rather than a purely commercial or consumer transaction.”(2)Commercial or Consumer Motive—Not Security: If, however, the seller’s purpose is primarily to cover a
mismatch in cash flows, or the seller and buyer are merely using the note to facilitate a commercial
transaction, then it is likely not a security.(a)Reeves v. Ernst & Young – The “A Note by any Other Name” Case [Page 301](i)Quote: “If the note is exchanged to facilitate the purchase and sale of a minor asset or consumer
good, to correct for the seller’s cash-flow difficulties, or to advance some other commercial or
consumer purpose, on the other hand, the note is less sensibly described as a ‘security.’”ii) Plan of Distribution : Second, the court will examine the plan of distribution for the instrument to determine
whether it is an instrument in which there is “common trading for speculation or investment.”(1)Marketing/Purchasing of the Security: If a note is marketed and sold to a broad segment of the population,
then it will likely establish the requisite “common trading” to be deemed a security. If instead the notes are
marketed to a small group on an individualized basis or to sophisticated persons rather than the general
public, likely not a security.(a)Reeves v. Ernst & Young – The “A Note by any Other Name” Case [Page 301](i)Court noted that the notes were offered in the Co-Op’s newsletter, which extended to 23,000
members, as well as to an unknown amount of non-members, which suggested that it was a noted that the securities were acquired by 1,600 natural persons, and therefore the notes
should be viewed as securities.(b)Banco- The loan Participation case Espanol de Credito v. Security Pacific National Bank – The “Zol”
Case [Page 317]8
(i)Court noted that the notes were marketed to only eleven potential investors, and that this “limited
solicitation” cut against finding it to be a security. Court noted that only institutional and corporate
entities were solicited in the first place, and only purchased by similar entities. Therefore the
solicitation to “sophisticated financial or commercial institutions” rather than the general public
counseled against finding this a security.(2)Secondary Market: Where instruments can be sold on a secondary market, it suggests that the instrument is
a security.(a)Banco Espanol de Credito v. Security Pacific National Bank – The “Zol” Case [Page 317](i)The plan of distribution expressly prohibited resales of the loan participation without the express
written permission of the issuer, which prevented it from being sold to the general public, thus
limiting eligible buyers to those with the capacity to acquire information about the ) Expectations of the Investing Public : Third, the court will consider the reasonable expectations of the investing
public.(1)Advertised as Investments: If an instrument was advertised in a manner that characterized the instrument asan “investment,” then the instrument is likely a security.(a) Reeves v. Ernst & Young – The “A Note by any Other Name” Case [Page 301](i)Court noted that the advertisements repeatedly characterized the notes as “investments,” and further
provided that this investment was backed by the Co-Op’s millions of dollars in assets. The Court
held that there were no countervailing factors that would lead a reasonable investor to question this
) Risk Reducing Functions : Finally, the court will consider whether there is an alternative regulatory scheme that
reduces the necessity of applying securities laws.
(1)Collateral or Insurance: If the notes are uncollateralized and uninsured, then the note lacks a risk-reducing
factor that would suggest it is not a security.(a) Reeves v. Ernst & Young – The “A Note by any Other Name” Case [Page 301](i)The notes here were uncollateralized and uninsured. Although the Co-Op advertised them as having
substantial assets “standing behind” the investment, there were no safeguards to ensure recovery.(b) Bass v. Janey Montgomery Scott Inc. – The “Squib” Case [Page 315](i) Sixth Circuit found that notes should not be deemed securities where they were secured by the
assets of the borrower and stock in a subsidiary of the borrower.(2)Regulation by other Federal Laws: If the instrument is regulated by another agency or substantive area of
law, then there is a risk-reducing factor suggesting the instrument is not a security.(a)(Marine Bank v. Weaver – The “Certificates of Deposit” Case [Page 313](i)Court held that the certificates of deposit issued by a bank regulated by the federal government and
insured by FDIC are not securities. Noted that the insurance rendered it such that the investor was
guaranteed payment, and therefore the “context” suggested this was not a security.(b)Reeves v. Ernst & Young – The “A Note by any Other Name” Case [Page 301](i)The court noted that here the notes were uncollateralized and uninsured. Similarly, noted that unlikecertificates at issue in Marine Bank, these were not insured by the FDIC and subject to federal
banking laws. Similarly distinguished Daniels, where noncontributory pension deposits are
regulated by ERISA.)(3)(Regulation by non-Federal Laws: If the instrument is regulated by non-federal laws, meaning state and
foreign laws, this may be a sufficient risk-reducing factor [Circuit Split; Page 314].)(4)High Liquidity—Irrelevant: The mere fact that an instrument is highly liquid is not by itself a risk-reducingfactor suggesting the instrument is not a security.(a)(Reeves v. Ernst & Young – The “A Note by any Other Name” Case [Page 301](i)Co-Op argued that the fact that these notes were redeemable on demand was sufficient to distinguishit from traditional notes, and therefore it should not be deemed a security. Court, however, noted
that traditional common stock is highly liquid, and most public notes could be traded on a secondarymarket to achieve the same result. Therefore, high liquidity did not inherently render it
inappropriate.(b)Stoiber v. SEC – The “Squib” Case [Page 315](i)Issuer argued that contractual provisions in loan agreement reduced risk, particularly early
acceleration clauses that increased liquidity. Court noted that this was “significantly less valuable
than collateral or insurance and not by our thinking an adequate substitute for the protection of the
federal securities laws.”)b)(Excluded Notes (Reeves): SCOTUS incorporated the family resemblance test from the Second Circuit, which had
previously recognized that the following instruments commonly labeled “notes” did not constitute notes within the
meaning of § 2(a)(1) and § 3(a)(10). These include:9
i)Note delivered in consumer financingii)Note secured by a home mortgageiii)Short-term note secured by a lien on a small business or its assetsiv)Note evidencing a character loan to a bank customer
v)Short-term notes secured by an assignment of accounts receivable
vi)Note formalizing an open-account debt incurred in ordinary businessvii)Notes evidencing loans by commercial banks for current operations)3) Family Resemblance Test Applied :
a)Commercial Paper—Unclear: In Reeves, the Co-Op argued that the demand notes were “commercial paper” within
the meaning of § 3(a)(10), and therefore were expressly exempt from regulation as a security. The Court, however,
did not address whether this was the case, as the court noted that the demand notes were by their terms not necessarily
redeemable within nine months as required by the commercial paper exemption.i) Mismatch in Statutes : The inclusion of commercial paper as a security is the only difference between the
definitions in the Securities Act and the Securities Exchange Act. Under § 3(a)(10), commercial paper, which areshort-term notes with a maturity date of less than nine months, are expressly excluded from securities. In contrast,under § 3(a)(3), “commercial paper” is exempted from being considered a security; however, this only avoids the
registration requirement. Would still be subject to anti-fraud liability under the Securities Act [§ 17(c)]ii) Family Resemblance Test Applied [Lecture Notes]: Under the family resemblance test, it is unclear how
commercial paper would be treated by the Court, and the issue has never squarely been addressed, leaving a cloudof uncertainty.(1)Motivations: Clearly suggests it is not a security. Obviously commercial rather than investment.(2)Plan of Distribution: Common trading, trading for speculation, secondary trading, which suggests that it is asecurity. At the same time, they are sold primarily to institutional investors.
(3)Expectations of the Investing Public: Hard to say what the expectations of the investing public are in the
abstract, as there are factors going both ways. Likely would come down to advertising.(a) SEC Policy : Argues that the exemption in § 3(a)(10) of the Securities Exchange Act only applies to high
quality, investment grade issuers, where it is distributed for less than nine months, and only intended to
deal with cash imbalances. In addition, argued that the same commercial paper standard should be
applied to the Securities Act.(b) Statutory Language : Counterargument is that the language of § 3(a)(10) does not at all mention “high
quality” investments, and therefore the definition expressly excludes it. Additionally, § 3(a)(3)
expressly provides an exemption to registration (though it keeps anti-fraud liability, so can recover under§ 12(a)(1)), so hard to suggest that they did not think it wasn’t a “security.”(4)Risk Reducing Factor: There is no alternative agency/law regulating this, but there is often a guarantee in
place.b)Loan Participations—Likely not Securities:i)Banco Espanol de Credito v. Security Pacific National Bank – The “Zol” Case [Page 317](1)SP made short term loans to integrated. Then, SP sold participation interests in the Integrated portfolio to
eleven investors, who agreed to buy without recourse against SP and to conduct their own credit analysis of
Integrated. Integrated went belly up, and they sued.(2)Applying the Family Resemblance Test, determined: (1) motivated by a short-term credit need to finance
current operations, and purchasers sought a short-term return, which suggested a commercial purpose
rather than an investment in a business enterprise; (2) the distribution was made only to a select few
institutional investors, so not a distribution to the general public; (3) sophisticated investors like those
solicited would understand it was a loan, not an investment; and (4) the OCC regulates sale of loan
)Pollack v. Laidlaw Holdings, Inc. – The “Exception” Case [Page 319](1)Court reached the opposite result where (1) there was a general solicitation [Plan of Distribution] rather than
the targeted advertising in Banco Espanol, and (2) it was purchased by unsophisticated investors
[Expectations].c)Swaps—Depends:i) Instrument Defined : Derivatives are financial instruments, primarily used for hedging, whose value derives from
that of another asset to which they are pegged. Swaps are a type of derivative, which is a contract between two
parties where they agree to exchange a series of cash flows over time (usually to protect against interest
rate/currency fluctuations). Can be either Fixed Rate or Floating Interest Rate. (party agrees to make payments
based on current market rate).(1)Example: Issuer issues $100mm in bonds that have a floating interest rate. Holder, who owns a portfolio of
bonds worth $100mm, one that also has a floating rate that is the same as the Issuer's. The issuer though
10
wants to lock in a fixed rate and Holder wants to lock in a fixed return, so arrange a swap, where Issuer will
always pay the Holder a fixed rate of ) Security Based Swap Agreement :
(1)Not Securities: Under § 2A and § 33A(b), Securities Based Swaps are excluded from the definition of
security. In addition, § 2A(b)(2) prohibits the SEC from regulating them.
iii) Security Based Swap : A swap based on “an index” or “a single security or loan” or “the occurrence,
nonoccurrence, or extent of the occurrence of an event.”(1)Securities: Under § 3(a)(68), enacted as part of Dodd-Frank, Security Based Swaps are considered securities.4) Ambiguous Area between Reeves and Howey : The Edwards decision involved an arrangement that could have been
characterized as a loan, as it guaranteed fixed returns, but the Court proceeded to analyze it under the Howe test. It is
unclear how to differentiate, but it is likely the mere existence of the note is determinative.a)Apply Both [Lecture Notes]: In lecture, Whitehead stated that if something could fall under either the Reeves or
Howe tests, should apply both. That being said, Edwards did not apply both, but instead just analyzed under Howe.11
Catchall Securities (Investment Contracts): The Howe Test1) Introduction :a)Catchall Test: The general catchall language set forth in § 2(a)(1) and § 3(a)(10) is designed to catch any instrument
that is being sold as a security, even if it is not what would “traditionally” be thought of as a security.i)SEC v. C.M. Joinder Leasing Corp. – The “Novel, Uncommon, or Irregular” Case [Page 247](1)Held that the sale of fractional interests in oil and gas leases, coupled with a promise by the seller to drill test
the wells for oil producing possibilities of the land, were securities.(2)Court stated that though not a traditional security, this was not dispositive, as there was still the catchall
language.(3)Quote: “[T]he reach of the Act does not stop with the obvious and commonplace. Novel, uncommon, or
irregular devices, whatever they appear to be, are also reached if it be proved as [a] matter of fact that they
were widely offered or dealt in under terms or courses of dealing which established their character in
commerce as ‘investment contracts,’ or as ‘any interest or instrument commonly known as a ‘security.’’”b)Not Just Investment Contracts: Although originated in Howe to analyze investment contracts, this has subsequently
been applied more broadly as the “catchall” test. As such, it is the test to determine whether something that does not
fit in nicely as a “common stock” or a “note” is subject to regulation.i)United Housing Foundation, Inc. v. Forman – The “Co-Op City” Case [Page 270](1)Purchasers argued that they had purchased an instrument that is “commonly known as a ’security’” and
therefore the lower court’s use of the “investment contract” test created in Howe was improper. The court,
however, noted that the Howe test was appropriate as there was “no distinction, for present purposes,
between an ‘investment contract’ and an ‘instrument commonly known as a ‘security.’”
2) The Howe Test : Under the Howe test, a financial instrument is an investment contract if it is a “contract, transaction, or
scheme whereby [1] a person invests money, [2] and is led to expect profits from the investment [3] from a common
enterprise [4] that will be derived solely from the efforts of the promoter or a third party.”a)Investment of Money: In order to satisfy the investment prong, the investor must have given up “a specific
consideration in return for a separable financial interest with the characteristics of a security.” Danielsi) Direct Monetary Investment : This requirement is clearly satisfied where the investor gives the promoter a specificmonetary amount to participate in the investment.(1)SEC v. W.J. Howey Co. – The “Farm Service” Case [Page 247](a)Howey offered unregistered units of a citrus grove development coupled with a contract for cultivating,
marketing, and remitting the net proceeds to the investor. Under these contracts, Howey would sell the
purchaser the land by warranty deed, but the purchaser had no right of entry onto the property. Instead,
the sales were coupled by service contracts where Howey would service the fields (85 percent of
purchasers took up on the offer). Howey would then sell the fruit; investors were not entitled to any
specific fruit.(b)Clearly there was an investment of money, as to participate investors would purchase the parcels in
question for specific ) Labor and a Compensation Package : Where, however, an individual receives the investment as an insignificant
and indivisible portion of their overall compensation for their labor, there is not an “investment of money.”(1)International Teamsters v. Daniel – The “Pension Plan” Case [Page 275](a)Employees argued that participation in a noncontributory, compulsory pension plan was an investment
contract. Argued that although no direct contributions, they had “invested” in the pension fund by
permitting part of their compensation to take the form of a deferred pension plan.(b)Court however disagreed. Noted that the worker was primarily exchanging labor in return to obtain a
livelihood rather than making an investment. Noted that this was dissimilar from all prior applications,
as in all cases there was the exchange of specific consideration for a security, but here it was an
indivisible portion of overall compensation package. Hard to say that they were “working” as an
investment—this was properly considered part of the overall compensation.(c)In addition, the Court noted that none of the remaining requirements of the Howe test were satisfied.
The Court noted that there was no expectation of profits, because although the management of the fund
would increase its value, the primary source of revenue is new employer contributions, not the prudent
investment by the fund manager. In addition, even assuming this were properly called “profit” it was not
earned by hypothetical investment by the employee, but rather through the employee’s efforts to meet
the vesting requirements (working for 20 years).
b)Expectation of Profits: In order to determine whether a party invested with the expectation of profits, courts examine
whether the primary motivation for the investment of money was for money or personal consumption.12
i) Key Quotes
(1)SEC v. Life Partners: “Expected profits must, in conformity with ordinary usage, be in the form of financial
return on the investment, not in the form of consumption.”
(2)United Housing Foundation, Inc. v. Forman: “[W]hen a purchaser is motivated by a desire to use or consumethe item purchased— ‘to occupy the land or develop it themselves,’ as the Howe Court put it— the securities
laws do not apply.”ii) Inability to Use : An investor invests with the expectation of profits where the investor does not receive the
product of their investment, but rather receives profits from sales of those products.(1)SEC v. W.J. Howey Co. – The “Farm Service” Case [Page 247](a)The Court determined that there was the expectation of profit. Stated that the investment was made withthe desire to share in profits of a large citrus fruit enterprise managed by Howey. In short, they were not
investing for the opportunity to occupy or develop the land; they were attracted solely by the returns
available from their investment. Indeed, the investments were made primarily to people who lacked a
background in farming citrus and who lived far away, rendering personal consumption impossible.(2)SEC v. Life Partners, Inc. – The “Till Death do us Profit!” Case [Page 251](a)Life Partners, Inc. would arrange viatical settlements and perform certain post-transaction administrativeservices to facilitate their enforcement. Viatical settlements are investment contracts where an investor
acquires an interest in the life insurance policy of a terminally ill person at a discount depending on the
insured’s life expectancy. The investor’s profit is the difference between the discounted purchase price
paid to the insured and the death benefit collected from the insurer.
(b)The D.C. Circuit noted that this was obviously an investment to receive the profits at the time of death,
and indeed it could not be currently consumed as unmatured claims could not presently be ) Fixed Returns Acceptable : An investment scheme that promises fixed rather than variable returns can constitute
an investment contract. In other words the “profits” that the investor seeks refers to the “profits that investors
seek on their investment, not the profits of the scheme in which they invest.” (Edwards).(1)SEC v. Edwards – The “Banana Phone” Case [Page 266](a)ETS sold payphones to purchasers for a set price. ETS then would transfer ownership to the purchaser,
but it was offered coupled with a “lease-back and management” contract, where ETS would guarantee a
fixed return of 14% and would return the phone to the purchaser at the end of the contract. (Note: This
arrangement was in essence a secured loan). ETS was not making enough to cover fixed payments, so
kept recruiting more people, becoming a Ponzi scheme.(b)Court found no reason to distinguish between fixed and variable returns. Noted that, if anything fixed
returns were more attractive to the investing public, and therefore were in even greater need of
regulation than other investments.(2)SEC v. SG Ltd. – The “Intergalactic” Case [Page 265](a)Defendant operated a website where investors could buy “virtual shares” of “virtual companies” on a
“virtual stock exchange.” One company guaranteed a 10% monthly return. Participants had to invest
real money to purchase shares, and if players referred new players to the site they would receive a
percentage of the new player’s ) Mixed-Motive Cases—Primary Motive : There is not always a clear division between consumption and
investment, as sometimes there can be both motivations underlying an investment. In such circumstances, Courtsmust determine whether the primary motivation was for consumption, with an incidental possibility of profit, or
vice-versa.(1)No Possible Profit from Resale: United Housing Foundation, Inc. v. Forman – The “Co-Op City” Case
[Page 270](a)United Housing Foundation (UHF) was responsible for initiating and sponsoring the development of Co-Op City. This was a housing complex for low income individuals. To acquire an apartment in Co-Op
City, a purchaser must buy 18 shares of stock in Riverbay, a nonprofit cooperative housing corporation.
These shares, however, were in essence a recoverable deposit, as the “shares” were expressly tied to the
apartment, could not be transferred to a nontenant, could not be pledged, and there were no voting rights
tied to shares, instead it was tied to apartments regardless of number of shares.(b)The Court noted that the investors were primarily attracted by the prospect of acquiring a place to life,
and not by financial returns on their investment. Furthermore, no advertisement had ever highlighted theprofitability of acquiring shares—all had highlighted that this was a “non-profit” endeavor. Therefore,
noted that the key feature of a security transaction was absent, as there was no parting of money for hopeof profit.(2)Possible Profit from Resale: Grenader v. Spitz – The “Incidental” Case [Page 274]13
c)(a)Similar to Forman, but in this case it was possible for profit at the point of resale. In this case the
investor acquired non-subsidized shares in a private cooperative, where there was the possibility of sale
for profit at a later date.(b)The Second Circuit determined that the primary purpose of the investment was to provide residential
housing, and therefore it did not constitute an Enterprise: In order to establish a common enterprise, the investor must show “commonality” with other
investors. The form that this commonality must take depends on the circuit, as some circuits permit broad vertical
commonality, some accept strict vertical commonality, most accept horizontal commonality, while some will only
accept horizontal commonality.i) Horizontal Commonality [Relationship between Investors]: Horizontal community is created by commonality
across investors, which occurs by “pooling of investment funds, shared, profits, and shared losses.” In short,
under a horizontal commonality view, “It is the interdependency of the investors that transforms the transaction
substantively into a pooled investment.” (SEC v. Life Partners, Inc.)(1)SEC v. W.J. Howey Co. – The “Farm Service” Case [Page 247](a)Court determined that this was a common enterprise. The court noted that the individual development ofthe plots of land, due to the small size of each investment, would not be economically feasible. The
court noted that the investments only became fruitful when cultivated and developed as part of a larger
area, and therefore a common enterprise was essential if the investors were to receive a return on their
investment.(2)SEC v. Life Partners, Inc. – The “Till Death do us Profit!” Case [Page 251](a)Life Partners, Inc. argued that there was no horizontal commonality because each investor would acquirehis own individual interest in a specific policy. The Court, however, found that there was horizontal
commonality because of the interdependent nature of the investments—all investors in a contract reap
profits/losses depending on the death of the investor, so no possibility of individualized gains/losses, andadditionally the investment of each investor is dependent on the investment of other investments. It madeno sense to invest in this by you, as the administrative costs of monitoring these would prove prohibitive
if full value was not covered by others, so there was pooling of investment.(3)SEC v. SG Ltd. – The “Virtual Shares” Case [Page 265](a)The First Circuit found that the website had the requisite horizontal commonality because the defendant
pooled the investors’ funds into a single account, which in turn was used to pay the appreciation on the
“privileged company.”(b) Whitehead : If instead the game were designed so that individuals only received payments for the people
that they referred to the website, this would defeat horizontal commonality. It would still be possible
to find vertical commonality.(4)Wals v. Fox Hills Development Corp. (7th Cir. 1994):
(a)Posner stated that 1933 Act made sense only if all investors were obtaining the "same thing," which was
an undivided share in pool of assets/profits. If they receive a specific portion of the assets/profits, then it
is inherently going to differ in what needs to be disclosed.(5)SEC v. Lauer (7th Cir. 1995):
(a)Found it was a security even though only one investor - stated no need for horizontal based on the natureof the investment vehicle, which is the determinative consideration. An intention to involve multiple
investors can reach horizontal commonality even though there are no other ) Vertical Commonality [Investor-Promoter Relationship]: A common enterprise may be found when the activities
of the promoter are the dominant factor in the investment’s success, even though there is no pooling of funds or
interests by multiple investors. Has two different variants—(1)Strict Vertical Commonality: An approach to vertical commonality that requires a direct relationship
between the promoters’ financial success and that of its investors.(2)Broad Vertical Commonality: An approach to vertical commonality that requires merely that the “fortunes
of the investors be tied to the fortunes of the promoter,” as opposed to their fortunes being “linked only to theefforts of the promoter.”(a)SEC v. Koscot Interplanetary, Inc. – The “Intergalactic” Case [Page 259](i) Koscot had what amounted to a pyramid scheme. Parties would invest to become either “advisors”
or “supervisors,” and at that point you received a commission for each successful recruit to join. In
theory they sold beauty supplies, but the SEC charged that the marketing and recruitment aspects
were separable, and that the recruiting was a security.(ii)The Court went on to explain that, even though each investor’s return was independent of the
returns of the other investors, as indeed each would receive profits based on their own recruitment
that was not determinative. Instead, noted that “the requisite commonality is evidenced by the fact
that the fortunes of all investors are inextricably tied to the efficacy of the Koscot meetings and
14
guidelines on recruiting prospects and consummating a sale.” In short, the promoter’s manual and
approach would determine success of the venture as a whole, and therefore there was ) Breakdown by Jurisdictions :(1)Horizontal Commonality: The majority approach is that horizontal commonality is sufficient. The Seventh
Circuit, like most jurisdictions, actually requires horizontal commonality. (Wals, Lauer).(2)Strict Vertical Commonality: Accepted in the Fifth Circuit and Second Circuit.
(3)Broad Vertical Commonality: Only accepted in the Fifth Circuit (Koscot).
d)Derived Solely (Predominantly) from the Efforts of Others: Under the final prong of Howe, the Court examines
whether the investor was intending to become a passive investor in an operation managed by the promoter or a third
party, or instead was seeking to become actively involved in a business enterprise. Only passive investors are
afforded the protections of securities laws.i) Completely Dependent : Where the investor has no colorable power to increase the value of the investment, the
fourth prong is clearly satisfied.(1)SEC v. W.J. Howey Co. – The “Farm Service” Case [Page 247](a)The investors were not allowed to enter the premises if they had relied on Howey to service the land, andtherefore there was no ability to influence the value of the investment.(2)SEC v. SG Ltd. – The “Virtual Shares” Case [Page 265](a)Contestants could increase payments by referring other people to the website, but the Court noted that
the underlying stock paid out 10% every month without fail, and therefore contestants could not do
anything to increase the value of the ) Predominantly Sufficient : Subsequent courts have clarified that solely should mean “predominantly,” as
otherwise promoters could easily circumvent securities laws by simply assigning the investor some nominal role
in the enterprise.
(1)SEC v. Koscot Interplanetary, Inc. – The “Intergalactic” Case [Page 259](a)The Court noted that although individual investors played some role in controlling their returns because
they had to refer people to the meetings in the first place, the returns were primarily the result of the
efficacy of the presentations that went on at the meetings. These presentations were controlled entirely
by the promoters, and additionally the promoter also prescribed how the individuals should invite people
to the ) Pre- and Post-Purchase Distinctions : Some courts have distinguished between efforts made by others prior to the
purchase and those made after purchase.
(1)Minority View—DC Cir.: SEC v. Life Partners, Inc. – The “Till Death do us Profit!” Case(a)The D.C. Circuit noted that, although LPI played a significant role prior to purchase in creating the
identify and locate prospective investors, and indeed that investors exclusively relied upon LPI to locate
insuredand evaluate them and their policies, as well as negotiate the eventual purchase price, the court
rejected the significance of pre-purchase activities.(i)Quote: “While we doubt that pre-purchase services should ever count for much, for present
purposes we need only agree with the district court that pre-purchase services cannot by themselves
suffice to make the profits of an investment arise predominantly from the efforts of others. . . .”(b)The Court instead focused on post-purchase efforts of others, and noted that there was no post-purchase
activities performed besides “purely ministerial” functions. Although LPI also arranged for a secondary
market for the resale of these investments, this resale market was not shown to actually increase the
value of the investment contracts.(2)Majority View—11th Cir/Wald.: SEC v. Mutual Benefits Corp. – The “Rejection” Case(a)Judge Wald in Life Partners, Inc. objected to the distinction between pre- and post-purchase activities,
noting that these should satisfy the third prong where it is the success of these activities that
predominantly determines whether profits are eventually realized.(b)This was subsequently adopted in Mutual Benefits Corp., where they found viatical settlements did
constitute a security because the promoter’s prepurchase services determined success of the ) Investment in Partnerships, LPs and LLCs : These specific investments have default rules regarding the “derived
solely from others” prong. Other prongs will also likely follow.
(1)General Partnerships—Rarely Securities: A general partnership may be deemed a security, but an investorasserting that a partnership was a security faces a “high barrier.” In order to overcome this barrier, the
investor must show that the Williamson v. Tucker test warrants treating it as a security.(a) Williamson Test : Requires (1) an agreement among the parties that leaves the investing-partner with the
power typically afforded to limited partners in a limited partnership, or (2) the partner-investor is so
inexperienced or unknowledgeable in business affairs to be incapable of exercising the partnership
powers; or (3) the partner is so dependent on some unique ability of the promoter or manager that cannotbe replaced or exercised by others.15
(2)Limited Partnerships—Generally Securities: In light of the limited control afforded to limited partners in
the typical business arrangement, limited partnerships are generally considered to be securities.(a) Steinhardt “Significant Control” Exception : Where the partnership agreement affords a limited partner
“pervasive control” over the management of the partnership that goes well beyond the typical powers
afforded limited partners, a limited partnership membership will not be held to constitute a security.(i)Steinhardt Group Inc. v. Citigroup – The “Not so ‘Limited’ Partner” Case [Page 285]nk wanted to remove certain failing mortgages from its books, and so they created an
investment vehicle, a limited partnership, that would issue debt securities and equity partnershipinterests, in order to raise capital to purchase these assets from Citigroup. The partnership
would use a servicer, Ontra, to manage and liquidate the assets, and return to investors was to
come from performance of the pool of assets. Steinhardt provided most of the equity for the
venture, as they owned 99% of the LP memberships. Models indicated a return of 18% on
investment, but still risky, so the partnership agreement provided that the managing partner
could not perform “material actions” without the consent of the majority of partners, meaning
Steinhardt had a veto.
determined that therefore Steinhardt was not dependent on promoter or third party
(Ontra) for profits. Ontra could not take any material actions without having Steinhardt’s
approval, and therefore was not a mere “passive investor” that was to be protected by securities
: Court held that state law was not controlling on this issue. Instead, looked at the realities
to determine whether or not they were active/passive.(ii)Liberty Property Trust v. Republic Property Corp. – The “Minority” Case [Page 291] estate developers entered into an agreement where they would expand the board of their
partnership from three to six, meaning they went from a majority to a minority. D.C. Circuit
held that the founders went in expecting to shift to minority members, so they could sue for
securities fraud and were not barred by Steinhardt.(3)Limited Liability Corporations—Generally Passive3) Exception to the
Howe Test : The Howe test is used as a catchall to analyze all claimed securities that are not a “note” or a
“common stock,” but there remain two additional constraints on whether it is appropriate to treat an instrument as an
investment contract.a)Unique Investments: Although the Howe test is generally applicable, the test is inapplicable for “unique” business
arrangements that could not be traded in securities markets. Therefore, the Howe test does not apply to privately
negotiated transactions offered only to a very small number of persons, involving rights not easily valued.i)Marine Bank v. Weaver – The “Unique New York” Case [Page 251](1)Investors pledged a bank certificate of deposite to secure a bank loan to a company, and in return received a
share of the company’s net profits along with the right to use a pasture and barn owned by the company. In
addition, the investors were given the right to veto future loans to the company, giving them some right to
control the enterprise.(2)Court stated that this was a unique arrangement that could not readily be traded publicly. In addition, there
were only a few parties involved, and valuing the use of a barn and pasture was not easy.b)The Economic Realities Test: The Economic Realities test provides that “[I]n searching for the meaning and scope ofthe word ‘security’ in the Act[s], form should be disregarded for substance and the emphasis should be on the
economic reality” of the instrument. (Forman)i) Significance of the Test : The Economic Realities Test works alongside the Howe test to determine whether an
instrument should be treated as a security. The point is that first the court must apply the Howe test to determine
whether to recognize an instrument as a security, but second the court applies the Economic Realities test to limit
the possible scope of the ) Pension Funds :
(1)Noncontributory Involuntary Plans: An employee’s participation in a noncontributory, compulsory
pension plan is not an investment contract, and therefore not subject to regulation as a security. International
Brotherhood of Teamsters v. Daniels – The “Pension Plan” Case [Page 275](2)Contributory and Voluntary Plans: An employee’s participation in a pension plan will be considered a
security provided that it is both contributory and voluntary. SEC Release No. ) Condominiums and Real Estate Developments : Question is whether securities laws apply to the offer and sale of
a condominium or other unit in a real estate development, which is coupled with an offer or agreement to performor arrange certain rental or other services for the purchaser.(1)SEC Release No. 5347: Clarified the scope of Securities Laws’ applicability to real estate investments.(a) No Collateral Arrangements : Noted that, in the absence of any collateral arrangements, the offer of real
estate does not constitute the offer of a security.16
(b) Collateral Arrangements : Indicates that securities laws may be applicable. Idea is that this presents the
possibility of obtaining returns on investment through the managerial efforts of the promoter or a third
party.(i)Rental Pool Arrangements—Security: Rental pool is a device where the promoter/third party
rents the unit on behalf of the actual owner during the period of time when owner does not use the
unit. SEC noted that this is a security.(ii)Rental Restrictions—Security: Where there are limitations such as requiring an exclusive rental
agent or period of time that the unit may be used, it is a security. This looks like investment in
business enterprise dependent on managerial efforts.(iii)Manner of Offering—Very Relevant: Provides that the manner of offering and economic
inducements laid out to prospective purchasers is very relevant. If it highlights economic benefits
from rental or resale of units, likely to be a security.(2)Hypo 4-2 [Lecture Notes]:(a)Jones wants to buy a condo, but will only use it a few weekends out of the year; promoter will rent it out
the other weekends
(i)Expectation of profit: Jones justifies purchase based on expectation that she will receive proceeds
from rental income
(b)If rental income is distributed pro rata among all owners regardless of whether individual unit is rented
out: security(i)Horizontal commonality: rental income is pooled together(ii)Efforts of others: management is the one renting it out
(c)If rental income from particular unit is allocated to the unit’s owner, minus a fixed service charge for
management: security(i)Broad vertical commonality: income is not shared, but still all dependent upon management renting
out the units; fixed fee
(d)If same as (3), except management keeps 1/3 of rental income: security(i)Strict vertical commonality: based on percentages
(e)What if Jones makes substantial improvements on her condo?(i)Still relying upon management to rent it out
(ii)Efforts of others: balancing test, at some level it’s more likely to favor the investor’s efforts
(f)What can we do so that condo is not a security?
(i)Emphasize real estate itself, not economic return
(ii)Allow flexibility for owner to do what she wants with property: doesn’t have to rent it out even
though this service is available
(iii)Avoid horizontal commonality: don’t pool rental income
(iv)Avoid strict/broad depending on which jurisdiction you are in(3)Hypo 4-3 [Lecture Notes]:(a)Chateau Napa is in financial trouble, so starts selling forward contracts. Investor can buy case of wine 3
years before its ready; pay half price up front, and at end of 3 years investor will get the wine. Minimum
requirement of 3 cases; secondary market develops(i)Expectation of profit: gray ing test of consumption v. financial profit
ary market has developed, but without Chateau’s help
(ii)Common enterprise: ntal: investors don’t buy a specific case, funds are pooled; investors share in gains/lossesdepending on if vintage is good(iii)Efforts of others: YES
u’s efforts determine if wine comes out good or not; adding value that is independent of
commodities markets
value is based upon change in commodities prices, likely not a security whose value is based
upon efforts of others17
Definition of “Sale”“Every sale of a security in the United States must be registered or exempt.”1) Introduction :a)Jurisdictional Question: In asking whether or not something was a “sale,” we are asking whether the SEC and
securities laws have jurisdiction over the transaction involved. If it is not a “sale,” but rather a gift or a donation, then
it is not subject to the securities laws.i) Rationale : If it is not a sale, then there is no need to protect against people being taken advantage of through
inadequate ) Liability Involved : There is no antifraud liability, under any statute if the transaction does not involve a sale.b)Sec. Act § 2(a)(3): “The term ‘sale’ or ‘sell’ shall include every contract of sale or disposition of a security or interest
in a security, for value.”2) Requirements :a)Disposition of a Security: Obviously, there has to be an actual transfer of a security from one party to another.b)For Value: In order for a transfer to be “for value,” the seller need not receive direct monetary compensation. The
value that it receives can be indirect, such as increasing liquidity in a market which in turn raises the overall value of
shares held by the seller.i)SEC v. Datronics – The “By the Backdoor” Case [Page 450](1)Datronics was a private firm, and they would, either through merger or acquisition, acquire stock from new
companies. When they did this, they would enter into a contract with the new private entity, which provided
that the new stock would be given out as a dividend by Datronics to existing shareholders. Given that this
was their business, Datronics shareholders were primarily brokers, who would trade among themselves. This
was not done on an exchange, but there was a robust market.
(2)Court determined that, although this was a dividend and therefore no cash was exchanged, the dividends did
constitute a sale. Court determined that there was clear value conferred. The stock was originally illiquid,
but once they went through the Datronics process, there was now a much more active and liquid market for
the company's stock. This results in the price of the stock going up due to the greater liquidity, which
reduces the risk of holding the stock, making it a more valuable )SEC v. Chinese Consolidated Benevolent Association, Inc. – The “For Love of Country” Case [Page 462](1)Chinese Consolidated sold securities for the Chinese government; however, there was no contractual
arrangement between the two, and Chinese Consolidated did not take a commission. The court, however,
determined that this was “for value” because there was a fraternal benefit conferred.18
Registration Exemptions: Exempt Securities and Transactions1) Overview of Exemption Analysis [Party Focus]: In analyzing claimed exemptions, it is important to focus on who is the
seller. This is critical because often times exemptions are expressly limited to offerings by certain parties, be they Issuers,
Dealers, or “everyone else.”a)Exempt Securities:i) Christmas Tree Exemption : Consider whether this falls under Sec. Act § 3(a)(2)’s “christmas tree” provision,
which generally exempts securities offered by other regulated ) Commercial Paper : Consider whether this is “commercial paper” within Sec. Act § 3(a)(3).b)Issuer Exemptions: (I P1/D1)i) Available to All Issuers : Following exemptions are available regardless of whether reporting or non-reporting.(1)Statutory Private Placement [Sec. Act § 4(a)(2) & Ralston Purina]: Pursuant to Sec. Act § 4(a)(2), an
issuer’s transactions are exempted as “not involving a public offering” provided that all offerees had a
preexisting relationship with the issuer, and where all offerees were sophisticated and had adequate
information to exercise their expertise. Underwriter Concerns : Remember, for Sec. Act § 4(a)(2), if the purchaser engages in a
(a) Note
“distribution,” then this will undercut the availability of the private placement exemption.(2)Rule 506 [Reg. D] >35 Sophisticated Purchasers: Rule 506 provides a clear safe harbor for Sec. Act §
4(a)(2) where the purchaser sells to less than 35 sophisticated purchasers, who can become sophisticated by
proxy, and an unlimited number of Accredited Investors.(a) Note Non-AI Purchasers : If there are only AI purchasers, very few restrictions. If there are non-AIs,
then have to worry about (1) disclosure document, (2) purchaser cap, and (3) General Solicitations.(3)Rule 505 [Reg. D] $5M Limited Offering: Rule 505 provides a limited offering exemption under Sec. Act
§ 3(b)(1) for (1) offerings up to $5M during prior 12-months, (2) where there are no general solicitations, (3)where ultimately >35 purchasers (no sophistication req.), and (4) where issuer/director/underwriter is not
disqualified under Reg. A.(4)Exchange Offering [Sec. Act § 3(a)(9)]: Was this an offering for “exchange only” (i.e. no consideration for
exchange and no simultaneous offering) between the issuer and its existing shareholders?(5)Intrastate Offering [Sec. Act § 3(a)(11) & Rule 147]: Was this an offering that (1) took place in the state
where the issuer is (a) a resident and (b) does business, (2) where all offerees were in a single state, and (3)
where issuer exercises reasonable care so securities are not resold out of state for a nine month period?
(6)Extraterritorial Offering [Rule 901 and Rule 903]: Was this an offering that could be considered a
“transaction outside the United States,” either within the general Rule 901 provision or Rule 903 safe harbor?(a) General 903 Conditions Offshore Transaction & No Directed Selling Efforts: First, make sure thatthis satisfied both of these conditions.(b) Issuer Category : Second, identify what category the issuer was, and whether there are any additional
requirements for that issuer ) Available Only to Non-Reporting Issuers : Following exemptions are only available to non-reporting issuers.(1)Regulation A [Rule 251-263]: Was this an offering that either did or could have complied with the “mini-registration” for a Reg. A offering? Remember:(a) Issuer Restrictions Badboy disqualifiers : If Issuer, Underwriters, or Insiders bust, cannot use.(b) Cap on Sales $5M in Prior 12-Months : There is a standalone $5M cap.(c) Mini-Registration Offer/Sales Limitations : Remember, while the offering statement is being
“qualified,” there are limits on offers/sales similar to normal registration.(2)Employee Compensation [Rule 701]: was this an offering by a
non-reporting issuer (at the time of
offering), where the aggregate sales during the prior 12-months do not exceed the “greater of formulas,” and
where all offers and sales are to employees or consultants (who provide bona fide services unrelated to
capital raising)?(a) Disclosure Note : Remember, there is generally only an obligation to provide the plan; however, if sales
are over $5M in prior 12-months, need to also provide additional disclosure.(3)State Blue Skies [Rule 504; Reg. D]:
(a) Sales Cap $1M in Prior 12 Months : Only focuses on prior offerings over the last twelve months, and
only considers: (1) Reg. D Offerings and (2) Reg. A Offerings and(3): Any securities sold that busted
Sec. Act § 5(a).19
(b) Offering Conditions State Blue Sky : Generally, will need to comply with a state blue sky disclosure
obligation in either of the following manners. Although there is an “only AI” exception, never really
going to be used.(i)Complied with State Obligations [Rule 504(b)(1)(i)]: In all states where offers and sales are made,register the securities under state law and provide required disclosure document before sale.(ii)Single State Registration, Disclosed to All [Rule 504(b)(1)(ii)]: If registered and made disclosure
document required by a single state, but that disclosure document is provided prior to all offers and
sales (even those outside of that state).c)Broker-Dealer Exemptions:i) Sec. Act § 4(a)(3) : Same analysis as Ralston Purina under Sec. Act § 4(a)(2) Private Placement (i.e. if there is no
“public offering” then there is not a “distribution” and therefore none of the blackout periods are implicated).(1)144 (indirectly relevant) defines if there is a distribution, if no distribution then none of the blackouts are
relevantii) Sec. Act § 4(a)(4) : Was this an
unsolicited transaction merely executed by the broker-dealer?iii) Rule 144A : Was this a resale of (1) non-fungible securities (2) sold to Qualified Institutional Buyers (QIBs) or
persons that the issuer reasonably believed were QIBs, and (3) where all offerees were notified of “restricted”
status of the securities?(1)Note: Also, if the issuer is non-reporting then there is a disclosure obligation. Also, can purchase here with aview to ) Rule 901-904 : Was this resale either something that falls under the general catchall of Rule 901 or the safe harborof Rule 904?(1)General Conditions Offshore Transaction & No Directed Selling Efforts: Again, need to comply with
these rules [Remember: Offshore transaction has a different definition under Rule 904 than Rule 903].(2)Broker-Dealer Conditions Compliance Period: Also, when it is a broker-dealer, then remember that
there are additional limitations in that they must comply with relevant compliance period.d)“Everyone Else” Exemptions (i.e. non DUI’s (acting in resell capacity)):i) Exempt Securities [Sec. Act § 3(a)(2)-(8)]: First, consider whether the securities could be
colorably claimed
under any of the exempt security provisions in Sec. Act § 3(a)(2)-(8).ii) Sec. Act § 4(a)(1) : Same analysis as
Ralston ) Rule 144 : Did this resale satisfy the conditions of Rule 144?(1)Affiliate All Conditions: Remember, affiliates are subject to all of the conditions.(a) Requirements : (1) Current Information, (2) Sales Caps, (3) Holding Period, (4) Manner of Resale, (5)
Disclosure document (if above threshold sales), etc.(2)Non-Affiliate
Holding Period + Info: If they are non-affiliates, then only subject to either a six month
holding period if reporting (where current info is required for sales until after one-year), or a one-year
holding period if non-reporting (where current info is not required).iv) Rule 144A : Same as a
broker-dealer Rule 144A exempt resale.
v) Rule 901 & 904 : Same general conditions as Broker-Dealer.(1)Affiliates: If the reseller is an “affiliate” by virtue of their insider status, cannot receive more than general
broker’s2) Exemptions and Liability : The exemptions are, by and large, exemptions only from Section 5 and its registration
requirements. Therefore, there will generally be anti-fraud and disclosure liability.a)Sec. Act. § 11—Unavailable: Section 11 deals with Registration Statement liability; however, there will never be a
registration statement in an exempt transaction, as it is an exemption from registration. Therefore, irrelevant.b)Sec. Act. § 12(a)(1)—Only if Non-Exempt: Section 12(a)(1) deals with violations of Section 5, and therefore will
only come into play if it turns out that the security or transaction was not exempt.c)Sec. Act. § 12(a)(2)— Likely Available : Does not apply to exemptions under Sec. Act § 3(a)(2), Sec. Act § 3(a)(14),
or, under Gustafson, any exemption that constitutes a “private placement,” such as Sec. Act § 4(a)(2).d)Sec. Act. § 17—Generally Available: There are no statutory carve outs from coverage (even brings back exempted
securities).e)Exch. Act § 10b-5—Generally Available: Only unavailable if it is Sec. Act § 3(a)(3) commercial paper.20
Exempted Securities under Sec. Act § 3
1) Section3 Exempted Securities :a)Generally: Although Sec. Act § 3(a) is titled “Exempted Securities,” only Sec. Act § 3(a)(2)-(8) set forth exempt
securities, with other provisions of Sec. Act § 3(a) setting forth transactional exemptions.b)Section 3(a)(2)—The “Christmas Tree” Exemption:i) Sec. Act § 12(a)(2) Liability (DOES not APPLY): There is an express carve out from Sec. Act. § 12(a)(2) if the
security is exempt under § 3(a)(2). Makes it so everyone has an incentive to place new exemptions ) Exempted Securities Securities Issued by Regulated Entities : The general idea underlying all of the securities
exempt under this provision is that there are some other regulatory entity, and therefore do not need to be
regulated.(1)Federal, State, and Municipal Bonds: Expressly excludes any security guaranteed by the federal
government, a state government, or any subdivision thereof, or any certificate of deposit from any of the
foregoing, or any security obligation from the Federal Reserve Bank.(2)Securities Issued or Guaranteed by a Bank: The section exempts stocks and bonds issued by a bank.(a) Permitted Institutions :
(i)Bank Holding Company—Unavailable: The exemption is not afforded to “Bank Holding
Companies.”
(ii)Bank or Bank Equivalent—Available: Financial institutions that perform the equivalent functions
of a bank (taking deposits and making loans) but that are not regulated under a state’s banking laws
can still qualify. Typically will have FDIC insurance and similar regulations.
(iii)U.S. Branches of Foreign Banks—Maybe Available: Are permitted to use the exception provided
that U.S. banks in the foreign bank’s home are permitted similar treatment.(iv)Insurance Companies: Insurance companies are not covered by § 3(a)(2).
(3)Industrial Development Bonds: Investments in industrial development bonds,1 the interest from which is
excludible from gross income under IRC § 103(a)(1).(4)Traditional Common Trust Funds: Interests and participations in the traditional forms of common trust
funds maintained by banks as an investment vehicle in which the bank holds the asset in a bona fide fiduciarycapacity.(5)Collective Trust Interests: Interests and participations in collective trust funds maintained by banks for
funding certain stock bonus, pension or profit-sharing plans that satisfy IRC § 401(a) requirements.(6)Separate Accounts: Any interest or participation in a “separate account” maintained by an insurance
company for funding certain stock bonus, pension or profit-sharing plans which meet the requirements of
IRC § 404(a)(2).c)Section 3(a)(3)—The “c” Exemption:i) Exemption Securities Investment Grade with Maturity of 9 Months or Less : Applies to securities issued to
fund current transactions, with a maturity date of nine months or less. In addition, the SEC has clarified that it is
only available with respect to “investment grade paper” that are offered only to sophisticated investors.
(Rationale – want to cover more securities as non-exempt, they don’t want a lot of securities qualifying for this.
They want this to be narrow, so that they get to regulate more). Exemption is designed to provide coverage for
mismatches in cash flow (i.e. imbalances between accounts receivable and payable).ii)Look at Reves (talks a lot about commercial paper) – didn’t decide whether or not commercial paper was a
security.
(1)Note – expressly carved out of the 1934 (exchange act). Under 1933, it’s an exempt security, but it’s still a
security.
(2)The question is under Reves given the analysis of a note, whether or not the courts would treat these the sameway as a note.
1 These are bonds that are used by a government subdivision to attract industry, provide housing or for other commercial
purposes. The point is that you use the money to build a facility, and then rent it to a corporation who will pay rent in an
amount to cover the principal and interest on the bonds. Given this arrangement, the security is actually the same thing
conceptually as if the corporation were to take out bonds itself to pay for the construction.21
Issuer Transactional Exemptions1) Available to All Issuers : Following exemptions are available regardless of whether reporting or non-reporting.a)Statutory Private Placement [Sec. Act § 4(a)(2) & Ralston Purina]: Pursuant to Sec. Act § 4(a)(2), an issuer’s
transactions are exempted as “not involving a public offering” provided that all offerees had a preexisting relationship
with the issuer, and where all offerees were sophisticated and had adequate information to exercise their expertise. Underwriter Concerns : Remember, for Sec. Act § 4(a)(2), if the purchaser engages in a “distribution,” i) Note
then this will undercut the availability of the private placement exemption.b)Rule 506 [Reg. D] >35 Sophisticated Purchasers: Rule 506 provides a clear safe harbor for Sec. Act § 4(a)(2)
where the purchaser sells to less than 35 sophisticated purchasers, who can become sophisticated by proxy, and an
unlimited number of Accredited Investors.i) Note Non-AI Purchasers : If there are only AI purchasers, very few restrictions. If there are non-AIs, then haveto worry about (1) disclosure document, (2) purchaser cap, and (3) General Solicitations.c)Rule 505 [Reg. D] $5M Limited Offering: Rule 505 provides a limited offering exemption under Sec. Act § 3(b)(1)for (1) offerings up to $5M during prior 12-months, (2) where there are no general solicitations, (3) where ultimately
>35 purchasers (no sophistication req.), and (4) where issuer/director/underwriter is not disqualified under Reg. A.d)Exchange Offering [Sec. Act § 3(a)(9)]: Was this an offering for “exchange only” (i.e. no consideration for exchangeand no simultaneous offering) between the issuer and its existing shareholders?e)Intrastate Offering [Sec. Act § 3(a)(11) & Rule 147]: Was this an offering that (1) took place in the state where the
issuer is (a) a resident and (b) does business, (2) where all offerees were in a single state, and (3) where issuer
exercises reasonable care so securities are not resold out of state for a nine month period?
f)Extraterritorial Offering [Rule 901 and Rule 903]: Was this an offering that could be considered a “transaction
outside the United States,” either within the general Rule 901 provision or Rule 903 safe harbor?i) General 903 Conditions Offshore Transaction & No Directed Selling Efforts: First, make sure that this
satisfied both of these ) Issuer Category : Second, identify what category the issuer was, and whether there are any additional requirementsfor that issuer category.2) Available Only to Non-Reporting Issuers : Following exemptions are only available to non-reporting issuers.a)Regulation A [Rule 251-263]: Was this an offering that either did or could have complied with the “mini-registration” for a Reg. A offering? Remember:i) Issuer Restrictions Badboy disqualifiers : If Issuer, Underwriters, or Insiders bust, cannot ) Cap on Sales $5M in Prior 12-Months : There is a standalone $5M ) Mini-Registration Offer/Sales Limitations : Remember, while the offering statement is being “qualified,” there
are limits on offers/sales similar to normal registration.b)Employee Compensation [Rule 701]: was this an offering by a non-reporting issuer (at the time of offering), where
the aggregate sales during the prior 12-months do not exceed the “greater of formulas,” and where all offers and sales
are to employees or consultants (who provide bona fide services unrelated to capital raising)?i) Disclosure Note : Remember, there is generally only an obligation to provide the plan; however, if sales are over
$5M in prior 12-months, need to also provide additional disclosure.c)State Blue Skies [Rule 504; Reg. D]:
i) Sales Cap $1M in Prior 12 Months : Only focuses on prior offerings over the last twelve months, and only
considers: (1) Reg. D Offerings and (2) Reg. A Offerings and(3): Any securities sold that busted Sec. Act § 5(a).ii) Offering Conditions State Blue Sky : Generally, will need to comply with a state blue sky disclosure obligationin either of the following manners. Although there is an “only AI” exception, never really going to be used.(1)Complied with State Obligations [Rule 504(b)(1)(i)]: In all states where offers and sales are made, register
the securities under state law and provide required disclosure document before sale(2)Single State Registration, Disclosed to All [Rule 504(b)(1)(ii)]: If registered and made disclosure documentrequired by a single state, but that disclosure document is provided prior to all offers and sales (even those
outside of that state).22
Sec. Act § 3 Transactional Exemptions: Exchange and Intrastate Offerings1)Section 3(a)(9)—The Exchange Offer Exemptiona) Exempted Transaction Exchanges by Issuer with Existing Shareholders : Under Sec. Act § 3(a)(9), exchanges
between an issuer and its existing security holders exclusively where “no commission or other remuneration is paid or
given directly or indirectly” for such exchange are exempt from registration.i)NOTE - Modern Significance Convertible Bonds [Rule 144A]: Under Rule 144A, issuances of convertible
securities are covered if they are non-fungible and sold to QIBs. The Sec. Act § 3(a)(9) exemption ensures that,
when such convertible bonds are “exchanged” that transaction will be covered as well.
ii)Convertible bonds: this is only one instrument but when§2(a)(3) says that when you convert the bond into a
security, the conversion is a sale of the security then must be registered but 3(a)(9) exempts the registration
b) Key Conditions :i)Exclusivity: Term “exclusively” imposes two key restrictions.
(1)First, the Issuer cannot decide to issue new securities to non-current shareholders at the same time, as these
would be integrated and preclude reliance on the section.
(2)Second, exclusively modifies the “exchange” requirement as well, so they cannot exchange for cash or other
consideration has to be a pure swap of one security for )No Solicitation: Issuers Cannot pay any consideration to “solicit,” but the SEC has permitted “information
agents,” which are banks hired to find out who the bond holders are and provide them with information rather
than a solicitation.2)Section 3(a)(11)—The Intrastate Offering Exemptiona) Note – resting period is 2 to 5 years
b) Exempted Transaction Issuances entirely within a Single State : Under Sec. Act § 3(a)(11), securities sold by an
Issuer that are “part of an issue offered and sold only to persons resident within a single state or territory,” where the
issuer is incorporated and doing business in that state are exempt from Sec. Act § 5.i) Rationale Covered by Blue Sky Laws: The rationale here is that, if it is entirely concentrated in one state,
then there is no need for federal securities laws to cover the transaction, as state blue sky laws will take care of )Geographic Limitation Only: The language only imposes a geographic limitation on the issuer and purchasers,
so there is no limitation on (a) sophistication of purchasers, (b) number of purchasers, (c) aggregate offering size,
(d) manner of solicitation, etc. As such, far more open than private placements.c) Rule 147 Intrastate Safe Harbor :i) Preliminary Notes on Rule 147:(1) Non-Exclusive [Rule 147 Notes]: The introductory notes clearly state that this is not intended to preclude
relying on the statutory text to argue that an issue was entirely within one )Requirements:(1) Issuer Conditions Resident of /Doing Business in the state where the offering is taking place [Rule
147(c)]: Issuer must be a resident of and doing business in the state.(a)Resident Standard [Rule 147(c)(1)]: In order to be deemed a “resident,” must either be incorporated or
organized under state law if an entity or have a principle office located in the state, or, if an individual,
have his or her residence in the state.(b)Doing Business Standard [Rule 147(c)(2)]: An issuer will be deemed to be doing business if—(i) 80% Gross Revenue Earned in State [Rule 147(c)(2)(i)]: If at least 80% of gross revenues are
earned, on a consolidated basis, within the state.(ii) 80% Assets in State [Rule 147(c)(2)(ii)]: If at least 80% of the issuer’s assets and its subsidiaries
assets are located within the state.(iii) 80% Proceeds from Offering to be used in State [Rule 147(c)(2)(iii)]: If the issuer intends and does
use at least 80% of the net proceeds from the issuance to either (a) operate its business, (b) purchase
real property, or (c) rendering services within the state.(iv) Principal Office in State [Rule 147(c)(2)(iv)]: Finally, if issuer’s principal office is in state.1. Note – having a principal office in the state ca satisfy both the resident/doing business standard
(2) Offeree and Purchaser Conditions Residents [Rule 147(d)]: Issuer may only offer to persons who are
“person residents within the state or territory of which the issuer is a resident.” An offer to a single non-resident will bust Rule 147.(a)Person Resident Determination [Rule 147(d)]: A person will be deemed a resident of the state if, at thetime of the offer or sale (a) a corporation, if it had its principal office within the state, (b) an individual,
his principal residence in the state, or (c) if corporation organized to acquire securities offered pursuant
to this section, only deemed in state if all beneficial owners are in state.23
(3) Six-month limitation on resales. [Rule 147(e)] For a period of six months from the date of the sale by the
issuer of a security pursuant to this section (§ 230.147), any resale of such security shall be made only to
persons resident within the state or territory in which the issuer was resident.
(a)Tacking: In the case of convertible securities, resales of either the convertible security, or if it is
converted, the underlying security, could be made during the period described in paragraph (e) only to
persons resident within such state or territory. For purposes of this paragraph, a conversion in reliance onsection 3(a)(9) of the Act does not begin a new period.(b)As long as P1, P2, P3 are residents within the state, 他们加在一起的时间不超过6个月即可，不一定是P1.(4)Precautions against interstate sales. [Rule147 (f)(1)] The issuer shall, in connection with any securities sold
by it pursuant to this section:(a)Need to place a legend that states the limitation on resales, place stop order instructions to the issuer’s
transfer agent, and obtain written representation from each purchaser as to his residence.(b)Possible Integration—Part of an Issue
(i) Six Month Safe Harbor [Rule 147(g)(2) (vii) ]: Rule provides that offers or sales made in reliance on
§147 will not be integrated with offers or sales made after completion of offers and sales of
securities pursuant to §147 that are made more than six months after the completion of an offering
conducted pursuant to this ) Factor Test integration test [Rule 147 Notes P81 ] : If it does not qualify for the safe harbor, have to analyze it
under the general five-factor integration test. Decide whether two offers should be regarded as part of the same
issue –> if same issue, then both two offers must rely on one single exemption; if not same issue, then can rely ontwo separate the offerings part of a single plan of financing? the offerings involve issuance of the same class of securities? the offerings made at or about the same time? the same type of consideration to be received? the offerings made for the same general purpose?(2) Temporal Limitation on Out-of-State Resales Nine Months [Rule 147(e)]: Securities issued as part of the
issue may not be resold to persons outside of the state for a period of at least nine months after the last sale
by the issuer.(a) Issuer Precautions For Sold Securities [Rule 147(f)(1)]: Need to place a legend that states the
limitation on resales, place stop order instructions to the issuer’s transfer agent, and obtain written
representation from each purchaser as to his residence.(b) Issuer Precautions For Offers [Rule 147(f)(2)]: Need to disclose in writing the limitations on )如果根据five factors 决定需要integration Offerings limited to qualified institutional buyers and institutional
accredited investors. [Rule 147(h)]:(1) Where an issuer decides to register an offering under the Act after making offers in reliance on this section
(§147) limited only to qualified institutional buyers and institutional accredited investors referenced in
section 5(d) of the Act, such offers will not be subject to integration with any subsequent registered offering
( therefore (offer under 147-> abandon -> register) will not violate 5(c) (offer before registration)).
(2)If the issuer makes offers in reliance on this section (147) to persons other than qualified institutional buyers
and institutional accredited investors referenced in section 5(d) of the Act, such offers will not be subject to
integration if the issuer (and any underwriter, broker, dealer, or agent used by the issuer in connection with
the proposed offering) waits at least 30 calendar days between the last such offer made in reliance on this
section (§ 230.147) and the filing of the registration statement with the Commission. ( therefore (offer
under 147-> abandon -> register) as long as wait 30 days, will not violate §5)v)如果根据five factors 决定需要integration integration with other offerings.[Rule 147(g)] : offers or sales (和147(h)不一样，147(h) 只是offer) made in reliance on this section will not be integrated with:
(1)Offers or sales of securities made prior to the commencement of offers and sales of securities pursuant
to §147(a)Offers or sales made after completion of offers and sales of securities pursuant to §147, that are:(i)Registered under the Act, except as provided in paragraph (h) of §147);(ii)…(iii)Made more than six months after the completion of an offering conducted pursuant to §147d)Intrastate sales exemption [Rule 147A]i)Different from 147(1)Issuer does not need to be incorporated in the state, doing business is enough.
(2)147A: can offer to anyone everywhere (general solicitation) as long as the purchasers are in the same state24
25
Statutory Private Placements by Issuers: Section 4(a)1) Introduction :a)Private Placements Not Broad Distribution: In general, in order to claim that there is a private placement, the
goal is to contrast against a “broad distribution” of the securities.i) Issuer Exemption : This is focused on the initial transaction by the Issuer. Later transactions will all look for
different transactional exemptions.(1)§4(a)(2) exemption cannot cover P1to P2 because it says “transaction by an issuer not involving any public
offering”b)Relevant Sources of Law: In general, for private placement exemption, going to try to rely on Sec. Act § 4(a)(2), 4(a)(5), and Rule 506 of Regulation D.i) Hierarchy of Usage :(1)Rule 506: A second best choice. This provides a clear safe harbor under Sec. Act § 4(a)(2); however, there
are some unpleasant restrictions, such as having to file a Form D.(a)NOTE – If you’re doing a 144A, your first choice wouldn’t be to do a 506. You would prefer 4(a)(2)
(because you clarify sat. those requirements). This is the only time that you would prefer a 4(a)(2) over
a 506.(2)Sec. Act § 4(a)(2): All things being equal, would prefer to be able to rely on the statutory language. It has no
dollar cap and there is no filing requirement.(3)Sec. Act § 4(a)(5): Worst option. There is a $5M cap on the offering, and generally it is easier to satisfy Rule506 all things being equal.c)Integration and Private Placements:i) Private Placements integrated with Public Offerings : It is possible that a private placement may be integrated witha public offering; see discussion of Rules 152 and 155 (Integration with Unregistered Offering Section).ii) Private Placements integrated with other Exemptions :(1)Possible Integration Problems: Private placements can be integrated with (1) Reg. D offerings, (2) Reg. A
offerings (1-way), (3) intrastate offerings (Rule 147/Sec. Act § 3(a)(11)), (4)2) Sec. Act § 4(a)(2)—Traditional Private Placements
a)Statutory Text: Under Sec. Act § 4(a)(2), “transactions by an issuer not involving any public offering” are exempted
from registration and the requirements of Sec. Act § 5.i) Exemption Focus No Practical Need for Registration [Ralston Purina]: The focus of the exemption is on
situations where registration is not necessary because you are dealing with highly sophisticated people who have
access to relevant information. In such circumstances, it is unnecessary to register.b)Statutory Test – Sophistication and Access Test: Courts interpreting Sec. Act § 4(a)(2) will deem an offering to
“not involve any public offering” provided that (1) all offerees are sophisticated, and (2) all offerees have adequate
information about the issuer to make an informed decision (both are tied to preexisting relationships – you determinedthis beforehand (i.e. questionnaire before))i) Test Origin SEC v. Ralston Purina, Co. – The “All Employee Sales” Case [Page 333](1)Ralston Purina sold roughly $2,000,000 in unregistered stock to its employees. Sales were pursuant to a
corporate resolution that authorized sales “to employees . . . who shall, without any solicitation by the
Company or its officers or employees, inquire of any of them as to how to purchase common stock [of the
company].” Only permitted “key employees,” which were employees that were eligible for promotion or
were looked to for leadership, were permitted to purchase (i.e. people they want to retain). That being said,
employees ranged wildly in sophistication – some were clerical assistants, some were food loaders, etc.(2)Court determined that this was not proper under the Sec. Act § 4(a)(2) private placement exemption. Court
reasoned that the exemption should only be available where there was “no practical need for [the security
laws] application,” and therefore it should only be available where the offering is to persons “able to fend for
themselves.” The court concluded that, here, the employees ranged wildly in sophistication, and therefore
were like the general investing public, rather than a sophisticated subset.(3)Court also noted that their diverse character also meant that they would not have access to relevant insider
information. Court noted that perhaps “executive personnel” who would have access to the same kind of
information made “available in the form of a registration statement,” would likely be able to be sold
securities and have it count as a private placement. In short, court noted that here the purchasers did not have“access to the kind of information which registration would disclose.”ii) Sophistication Test Fend for Themselves : In evaluating offeree sophistication, Ralston Purina holds that the
focus is on whether the offerees are able to “fend for themselves” and therefore do not need the protections of the
securities laws.
26
(1)Issuer must Determine Sophistication: It is not enough that the individuals are actually able to fend for
themselves, but rather the Issuer must have taken steps to actually assess the sophistication of the offerees
prior to providing such information.(a) Asking Relevant Questions : Merely using a pre-screening procedure is insufficient, as the requested
information must actually asses the economic sophistication of the offeree.(i)SEC v. Kenton Capital, Ltd. – The “License and Registration” Case [Page 346] agent described returns on securities instruments as 3750% per week for 40 weeks, and
eventually $1,700,000 was invested. Obviously did not achieve results, and issuer claimed it
was a private placement. SEC conceded limited offering, so no general solicitation, but
challenged sophistication/access to resolving the sophistication issue, Court held that the pre-screening procedure used to assess
“sophistication” did not colorably safeguard for investor sophistication. They simply asked for
passport, driver license or social security card, and a bank reference. In no way actually
determined investor sophistication.(b) Individual Determination [Mark v. FSC Securities Corp.]: In addition, merely having a standardized
procedure for pre-screening is insufficient, as the issuer must be able to establish that, based on such pre-screening; there was an individual basis for believing that the offeree was sophisticated.(2)Factors Suggesting Sophistication: In general, sophistication is determined based on either (a) relevant
business experience or expertise, or (b) by using wealth as a proxy for such sophistication.(a) Size of Security Denominations [Lewis v. Fresne]: In general, sophistication based on wealth is
established where the size of the securities offered is a large denomination.(b) Prior Business Experience : In general, prior business or investment experience which, considered in
light of the information provided, would permit the offeree to make a special assessment, will establish
sophistication.(c) Wealth (ability to absorb the risk) [Ackerberg v. Johnson]: In general, courts will generally review the
offeree’s wealth as a proxy for sophistication. The understanding is that such persons are likely to have
relevant investment experience, and also that they are less in need of securities laws protections given
their greater wealth (given wealth, not as risky if they lose out on an investment).(3)Sophistication by Proxy (hiring someone to do it) Unanswered [Lecture]: In a Reg. D private placementunder Rule 506, you can become “sophisticated” by hiring a “purchaser representative” to help you assess
the offering; however, there is no clear answer to whether this also works under Sec. Act § 4(a)(2) statutory
private placements.(4)Note – the burden is on the issuer, to assess sophistication for EACH offer!!
iii) Information Test (jurisdictional spilt – access v. actually disclose the info).: In evaluating whether offerees had
adequate information, all offerees must have had “access to the kind of information which registration would
disclose.” (Ralston Purina). In evaluating whether an investor had such information, some jurisdictions provide
that mere access to the information is sufficient (Doran) while others require the seller to actually furnish the
information to the offeree (Hill York).(1)Access Jurisdictions [Doran]: In an access jurisdiction, so long as the offerees have access to information
that an insider would have based on some preexisting relationship, then the information prong of Ralston
Purina is satisfied.(a) Access Relationships : In general, an offeree will be deemed to have “access” to information provided
that they stand in a certain relationship to the issuer, as in such circumstances they will have clear power
to make sure that the issuer provides all relevant information.(i)Relationship with Company (High Level - Insider): i.e. – director, board member, etc.(ii)Economic Bargaining Power: Provided that an offeree has sufficient economic bargaining power,
this may be sufficient to establish the party as a “transactional insider” that would have access to therequisite v. Petroleum Management Corp. – The “Oil (Again)” Case [Page 338] formed a special partnership for four drilling wells. P was the only one of five
offerees to invest in the plan. Was given access to drilling logs and technical maps of
proposed area. When it proved unprofitable, P Fn. 12, stated that the “offeree’s ability to compel the issuer to make good on his
promise [to provide material insider information] may depend on the offeree’s bargaining
power” and in fn. 18 stated that if P had “effective access to all information that
registration would provide, he would be a transactional insider.”(iii)Family Relationship: Even if the individual was not an insider, provided that they were in a
familial relationship with someone who would have such access, then the individual will satisfy the
access prong.27
Doran v. Petroleum Management Corp. – The “Oil (Again)” Case [Page 338] Fn. 12, stated that the “offeree’s ability to compel the issuer to make good his promise
may depend on the offeree’s . . . family . . . relationship to the issuer.”(2)Furnish Jurisdiction [Hill York]: Other jurisdictions (eg. 2nd Cir New York), however, require that the
issuer affirmatively furnish the information that would be required in a registration statement.(3)The burden is on the issuer, to make sure the investors have access to information which otherwise appears ina registration statement.c)Side-Notes on Statutory Test:i) Numerical Limit on Offers Indirectly Applicable [Ralston Purina]: In Ralston Purina, the SEC argued that
there should be a numerical limit on the number of offers. The Court, however, rejected such a limitation, noting
that there was no quantity limit in the statute. That being said, greater number = higher probability of it being
deemed a “public offering” and therefore not a “private placement.” Also, if you cannot identify all offerees,
cannot possibly sustain burden of proof that you gave them all the requisite information(1)Wall Street Rule: Wall street has limited it to 30-35 offers to avoid conducting a “general solicitation,”
which is akin to the Reg. D. purchaser ) Contractual Limitations on Resale Avoid “Underwriter” Purchasers : In general, private placement securities
offered under 4(a)(2) are restricted securities within the meaning of Rule 144, and there is always the possibility
that a purchaser might resell and be viewed as an “underwriter,” which would pose problems for the private
placement exemption. Therefore, normally place contractual restrictions on resale to avoid this problem.(a)If you don’t take precautions to place these restrictions, your purchaser could bust your 4(a)(2)
exemption. So you (as the issuer) you want to take these precautions and put restrictions in place on
your purchasers.(b)Ask the investor to represent it buy for investment purpose only and not for resell
iii)必须private offering的每一个offeree都符合sophistication and information test, 不然即使不符合test的offeree最后没有买入，所有的private offering都不能满足4(a)(2)了，买了的符合test的offeree可以sue
based on 12(a)(1) and get his money back3) Sec. Act § 4(a)(5)—Accredited Investor Private Placements
a)Generally: Provides another “private placement” exemption, one that is similar to Rule 506, but inferior in virtually
every way.b)Requirements:i) All Offerrees/Purchasers = Accredited Investors : First, all of the offers or sales must be “solely to one or more
accredited investors.”(1)506 Compared: Not all purchasers need to be AIs, as they can also sell to “sophisticated” persons or persons
who are “sophisticated” by ) Cap on Sales $5M Sec. Act § 3(b) Cap : Second, the “aggregate offering price of an issue of securities offered”must not exceed the amount allowed “under section 3(b)(1).”(1)506 Compared: Does not have a dollar cap, as it is a Sec. Act § 4(a)(2) exemption, and therefore not subject
to the dollar caps in place in Sec. Act § 3(b)(1) Limited ) No General Solicitations : Third, the must be “no advertising or public solicitation” in connection with the
offering.(1)Rule 506 Compared: Under the JOBS Act, they CAN engage in a general solicitation, provided that all
purchasers are ) Filing Requirement : Finally, must comply with the filing requirement that the SEC prescribes.(1)Rule 506 Compared: Has the Form D filing requirement, so a wash on this one.4) Sec. Act § 4(a)(6)—Crowdfunding Private Placement
a)Purposesi)Transactional exemptions that make it easier for small firms to raise moneyii)Want to minimize costs for crowdfunding facilitators (e.g., UW platforms)(1)Higher risk of fraud though b/c of minimal disclosure. Offset partially by sophistication requirements for
investors.b)Rule: Offers and sales by issuers or those in common control with issuer exempt from § 5 registration requirementsi)Affiliates cannot use this exemption.c)Aggregationi)Aggregate sales to all investors within last 12 mo cannot exceed $)Aggregate amount sold to any one investor by the issuer during the preceding 12 mo can’t be more than:(1)$2,000 or 5% of annual net income or worth of investor, IF the investor’s annual income or net worth is less
than $100,000; OR281.
(2)the lesser of 10% of annual income or worth and $100,000, IF the investor’s annual income or net worth is
greater than $100,000.d)Broker/Funding Portal Requirements § 4A(a)i) Any “intermediary” in § 4(6) transaction must comply with following:
(1)SEC and SRO registration
(a)If you’re a funding portal, you have less registration requirements than straight brokers(2)Comply with new SEC rules to reduce fraud, including background checks for all directors, officers, and
20%+ SH.(3)Provide investor disclosures required by the SEC(a)“Positively affirm” that each investor understands the risk of loss in the placement and require each to
answer “questions demonstrating” an understanding of the risks.(4)Comply with minimum 21-day cooling period between solicitation and actual sale(5)Does not compensate promoters, finders, or lead generators for identifying potential investors(6)Directors, officers, and partners cannot have financial interest in the issuer.(7)Not “disqualified” under new SEC regulationsii)Intermediaries include brokers, portals, trading platforms, etc.e)Issuer Requirements § 4A(b)i) To use § 4(6), issuer must comply with the following :(1)Provide minimum disclosure to investors, including ownership and capital structure and financial condition:(a)If aggregate target offering amount of $100,000 or less under § 4(6) during the preceding 12 months,
income tax returns and financials must be certified by principal executive officer(b)If more than $100,000 but less than $500,000, financials must be reviewed by independent CPA.(c)If more than $500,000, financials must be fully audited.(2)Cannot advertise the terms of the offering EXCEPT for notices that direct investors to the funding portal or
broker (the intermediary).(3)Cannot compensate any person to promote the offering through broker or funding portal communication
channels without first disclosing the compensation (as modified by SEC regulation).(4)File at least annually results of operations and financials to SEC and investors (as specified by new SEC
regulation)(5)Issuer must be domestic, nonpublic, and not disqualified (per new SEC regulation).ii) Disclosure Liability
(1)Each director, partner, principal executive, officer, principal financial officer, and principal accounting
officer “that offers or sells a security” under § 4(6).(2)Liable for any written or oral communication—otherwise same as § 12(a)(2).(3)Plaintiffs limited to those who purchased in the placement, rescission damages.(4)§ 12(b) (loss causation) and § 13 (SoL) apply as they do normally.f)Resalesi)P1 of securities cannot transfer them for 1 year EXCEPT to the issuer, an AI, in a registered sale to public, or to a
relative (subject to further SEC limitations).ii)No exchange act reporting requirements apply for issuers in § 4(6).29
Regulation DAuthorized Under?Dollar Cap?Issuer Restrictions?Purchaser Cap?Purchaser Sophistication?Restricted Securities?General Solicitations?Disclosure Document?Unforgivable?Rule 504Sec. Act § 3(b)(1)$1MOnly Non-ReportingUnrestrictedNoneUnrestrictedPermittedState Law Disclosure[Unless all AIs]Busting Dollar CapRule 505Sec. Act § 3(b)(1)$5MAll Issuers35 [Excluding AIs]NoneRestrictedImpermissibleOnly if Non-AI PurchaserGeneral SolicitationBusting Dollar CapBusting Purchaser CapRule 506Sec. Act § 4(a)(2)No CapAll Issuers35 [Excluding AIs]AI or SophisticatedRestrictedPermitted IFF All AIPurchasersOnly if Non-AI PurchaserGeneral Solicitation
[if Non-AI Purchasers]Busting Purchaser Cap1)General Notes on Regulation D:a) Sec. Act § 3(b) & 4(a)(2) : Two of the safe harbors of Regulation D, Rule 504 and Rule 505, are enacted under Sec.
Act § 3(b)(1), while Rule 506 is a safe harbor for private placements under Sec. Act § 4(a)(2).i)Sec. Act § 4(a)(2) Compared Purchaser Focus: In Sec. Act § 4(a)(2) private placements, if you made an
offer to an unsophisticated investor, and they neither receive information nor purchase, this would bust the privateplacement exemption. In contrast, under Regulation D, we are focused on purchasers, not offeree (except with
limitations on general solicitations).b) Sec. Act § 12(a)(2) Liability Maybe Available : Although Sec. Act § 12(a)(2) might not apply to Rule 506, as it is a
private placement exemption under Sec. Act § 4(a)(2), Rules 504 is understood to clearly have such liability.
Although Rule 505 issuances are closer to a private offering, they also likely have Sec. Act § 12(a)(2) liability.2)Rule 501—Definitionsa) Accredited Investor [Rule 501(a)]: Any person who falls within one of the categories, or whom the issuer reasonably
believes comes within such category at the time of sale. Categories are designed to catch (a) regulated entities [(a)(1)-(3)], insiders [(a)(4)], and high net worth investors [(a)(5)-(6)].i)Entity AIs:(1) Institutional Investors [Rule 501(a)(1)]: Includes (a) Banks acting in either an individual or fiduciary
capacity, (b) Broker-Dealers, (c) Insurance Companies, (d) Investment Companies, (e) Business
Development Companies, (f) Small Business Investment Companies, (g) ERISA Plans,2 etc.(2) Private Business Development Company [Rule 501(a)(2)](3) Corporation or Partnership [Rule 501(a)(3)]: Corporation or partnership will qualify as an AI if (a) it has
$5M in Assets and (b) it was not formed for the express purpose of acquiring the securities.(4) Trusts [Rule 501(a)(7)]: Any trust with total assets in excess of $5M, that was not organized with the express
purpose of acquiring the securities, whose purchase is directed by a “sophisticated person.”(5) Entities with all Accredited Investors [Rule 501(a)(8)]: If all equity owners are AI, then organization
qualifies.(a)Corporations All Shareholders [Release 6455]: Clarified that even a single non-AI shareholder
would preclude a corporation from relying on this (therefore would need $5M in assets.(b)Limited Partnerships
Includes LPs [Release 6455]: Clarified that limited partners are “equity
owners,” so can’t have just a single general partner AI and qualify (need $5M in assets otherwise).(c)Trusts Excluded [Release 6455]: Clarified that, even if all beneficiaries of a trust are AIs, this wouldnot make them “equity owners” and therefore unable to qualify under )Natural Person AIs:(1) Issuer Insiders [Rule 501(a)(4)]: If the individual is a director, Executive Officer, or general partner of the
issuer.(a)Executive Officer Policy Making Function [Rule 501(f)]: Term “executive officer” only includes
officers who are the “president,” “vice president,” and “any other officer who performs a policy making
function.”2 The ERISA plan must have a plan fiduciary which is a bank, insurance company, or registered investment advertiser or that
has total assets in excess of $5,000,000.30
(b)Affiliate Insiders Excluded [Release 6455]: Clarified that the directors of an affiliate are not afforded
the status of accredited investor.(2) High Net Worth [Rule 501(a)(5)]: If an individual has a net worth of greater than $1M, excluding the
person’s residence as an asset, but including any indebtedness over the value of the home as a liability (i.e.
you count the amount over you’re mortgage over against you). (Think it’s Jobs)(3) High Income [Rule 501(a)(6)]: If single, has an income over $200,000, or if married, a joint income in excessof $300,000, for the prior two years, and there is no “reasonable expectation” of falling below.(a)Unrealized Capital Appreciation Excluded [Release 6455]: Clarified that unrealized capital
appreciation may not be included in determining income.b) Affiliate [Rule 501(b)]: Any person that “directly or indirectly” either “[1] controls or [2] is controlled by, or [3] is
under common control” with the specified person.c) Calculating Purchasers [Rule 501(e)]: For purposes of Rule 505 and Rule 506, in calculating the number of persons,
apply the following rules.i)Excluded from Tallies [Rule 501(e)(1)]: In counting the number of purchasers, purchasers who are
(1) Family Sharing Housing : relatives, spouses, or relatives of a spouse of a purchaser who share a residence
with the purchaser.(2) Trusts with large Equity Interest : Any trust or estate where a purchaser has greater than a 50% interest, that
person is what counts (the trust doesn’t count)(3) Corporations with large Equity Interest : Any corporation where a purchaser or purchaser’s relative has
greater than 50% interest.
(4) Accredited Investors
ii)Counted as One Purchaser [Rule 501(e)(2)-(3)]: In addition, when looking at corporations or other entities,
unless expressly formed to acquire the securities, and non-contributory employee benefits plans, these entities are
deemed a single purchaser.3)Rule 502—General Conditionsa) Integration with other Offerings [Rule 502(a)]: Clarifies that all sales that are “part of the same Regulation D
offering” must comply with the requirements of Regulation D.i)Clear Safe Harbor—Six Months Before/After [Rule 502(a)]: Provides that offerings will be deemed “separate”offerings, and therefore not integrated as part of the Reg. D offering provided that the offers and sales are made
more than six months before the initiation of or after the completion of the Reg. D offering.(1) The “Same or Similar Class” Requirement : Note, that in order to “bust” the six month period, thus resetting
it, there must be a sale of a “similar class” of securities during the six months. As such, if it is stock/equity,
and the offer is for the other, then it does not dirty the six month period.(2) Problem 6-5 [Lecture Notes]: Stated that when it was convertible securities, if they were convertible into
stock that was sold for approximately the same amount, it will likely be deemed “same or similar.” Rule 405
defines “equity stock” to mean both equity and stock convertible into )Five Factor Test: If the safe harbor is unavailable, need to resort to the general five factor test.(1)Are the offerings part of a single plan of financing?(2)Do the offerings involve issuance of the same class of securities?(3)Are the offerings made at or about the same time?(4)Is the same type of consideration to be received?(5)Are the offerings made for the same general purpose?iii)Special Integration Rules: (1) Rule 701, is never integrated with a Reg. D offering, and (2) Reg. D offerings do
not get integrated with Reg. S offerings, even if they are )Integration vs. Aggregation [Rule 504(b)(2) & Rule 505(b)(2)(i)]: Aggregation is an issue for Rule 504 and
Rule 505 because they have dollar caps, while it is a non-issue for Rule 506 because there is no dollar cap.
b) Information Requirements Rules 505-06 Only [Rule 502(b)]:i)Information Availability Requirement [Rule 502(b)(2)(v)]: The Issuer must, at a “reasonable time prior to [the]
purchase,” provide purchasers with the opportunity to “ask questions and receive answers concerning the terms
and conditions of the offering and obtain any additional information which the issuer possesses or can acquire
without unreasonable effort or expense that is necessary to verify” the information provided.(1) Note : There will always be some private placement memo for these transactions to avoid anti-fraud liability
that is )Information Delivery Requirement Non-Accredited Investor Purchasers [Rule 502(b)(1)]: If the Issuer
making an offering under Rule 505 or Rule 506 sells to any non-AI purchaser, then the Issuer must provide
information to the non-AI purchasers. (only triggered for non-accredited investor purchasers) (don’t have to
provide anything to AI purchasers).
31
c)(1) Issuer Information Requirement Depends on Issuer/Offering Size [Rule 501(b)(2)]: If the Issuer is
required to furnish information to a non-AI purchaser, the amount of information depends on the issuer and
size of offering.(a)Non-Reporting Issuers [Rule 502(b)(2)(i)]: If the Issuer is a Non-Reporting Issuer then they must
furnish both non-financial statement and financial statement information.(i) Non-Financial Statement Information [Rule 502(b)(2)(i)(A)]: If the issuer is Eligible to use Reg. A,
then must furnish same information required in the Reg. A offering; however, if not eligible, must
provide information required by registration statement.(ii) Financial Statement Information [Rule 502(b)(2)(i)(B)]: In addition, must provide financial
statement information which differs depending on the size of the offering. Page 189.(b)Reporting Issuers [Rule 502(b)(2)(ii)]: If the Issuer is a Reporting Issuer, then must furnish either (A)
or (B), and MUST ALWAYS furnish (C).(i) Shareholder Information [Rule 502(b)(2)(ii)(A)]: Must furnish (1) the annual report to
shareholders, (2) the definitive proxy statement filed with the annual report, and, (3) if requested,
a copy of the Form 10-K.(ii) Form 10-K or Form S-1 Information [Rule 502(b)(2)(ii)(B)]: Must furnish information from either
(1) Form 10-K or (2) Form S-1 information.(iii) Filed Reports/Documents [Rule 502(b)(2)(ii)(C)]: Info contained in any reports required to be filed
since the distribution or filing of the documents in (A) or (B), and a brief description of the
securities being offered, the use of the proceeds, and any material changes in the
issuer’s affairs that are not otherwise disclosed.(2) Information Provided to Accredited Investors [Rule 502(b)(2)(iv)]: In addition, Non-AIs must receive a
“brief description” of “any material written information concerning the offering.”(a)Limitations: (1) the Non-AI must request the information, (2) there is no limit on non-written
information, and (3) does not cover non-material information.(3) Disclose “Restricted” Nature [Rule 502(b)(2)(vii)]: In addition, must inform Non-AIs that the securities sold
under Rule 505 and Rule 506 are restricted securities. Limitations on Offering Rules 505-506 [Rule 502(c)]:i)General Solicitations Prohibited [Rule 502(c)]: Provides that “neither the issuer nor any person acting on its
behalf shall offer or sell the securities by any form of general solicitation or general advertising.”(1) Impermissible Solicitation Examples [Rule 502(c)(1)-(2)]: A general solicitation includes, but is not limited
to—(a)Advertisements or articles in any newspaper, magazine, or comparable solicitations by TV or radio.(b)Any seminar or meeting whose attendees were invited by a general solicitation.(i)If you do a pre-screening before the meeting, that is fine. You can’t invite people generally to a
meeting and then pre-screen.
(2) Rule Permissible Solicitations [Rule 502(c)(2)]: Clarifies that neither (1) Rule 135c, (2) Form D, nor (3) Rule135e filings or notices will be deemed “general solicitations.”(a)Rule 135c Reporting Issuer Unregistered Offering Notices [Rule 135c]: Rule provides that ReportingIssuers may file a news release or written communication to security holders or employees notifying thatan unregistered offering is taking place, and it will not be deemed an “offer.”
(i) Conditions : (1) Not used to condition the market [Rule 135c(a)(1)]; (2) states that the securities are
unregistered [Rule 135c(a)(2)]; and (3) ONLY provides the issuer’s name and the basic information
on the security excluding the underwriters [Rule 135c(a)(3)].(b)Rule 135e Foreign Issuer Press Conferences [Rule 135e]: Provides Foreign Issuers that hold press
conferences relating to proposed offerings will not constitute an “offer” under Sec. Act § 5.(i) Conditions : (1) Not conducted solely in the United States [Rule 135e(a)(1)]; (2) both foreign and
U.S. journalists are permitted to attend [Rule 135e(a)(2)]; and (3) all written materials contain an
appropriate legend [Rule 135e(a)(3)].(c)Form D [Rule 503]: Issuers making offerings under Regulation D “must” file five copies of Form D for
such offering not later th an 15 days after the first )General Solicitations Determination Preexisting Relationship (Ralston Purina)[Sec. Act § 4(a)(2)]: The
SEC has taken the position that the general preexisting relationship test applies to determine whether an issuer’s
conduct constitutes a “general solicitation.”(1) Impermissible Examples : Mass mailings without the benefit of a preexisting relationship with the recipients.(a)In the Matter of Kenman Corp. – The “Mass Mailing” Case [Page 369](i)A broker dealer solicited investors for a limited partnership offering using a list of officers from
fortune 500 companies, physicians in CA, persons who previously invested in real estate offerings,
managerial employees at Hughes Aircraft, etc.32
(ii)Commission determined that there was no preexisting relationship such that the broker-dealer could
be “aware of the financial circumstances or sophistication of the persons” and therefore this was a
general solicitation.(2) Permissible Examples : Can still use a “holiday inn” screening process to ascertain information about the
purchaser beforehand, or use a website questionnaire which screens prior to providing any )Rule 506 JOBS Act Changes: Under the JOBS Act, general solicitations will be permissible under Rule 506
private placement offerings, provided that only AIs purchase the securities. NOTE – focus is on purchasers, not
offerees (so you can offer to unsophiscated generally, but none of them can purchase unlikely)d) Limitations on Resale Rules 505-06 [Rule 502(d)]:i)They’re Restricted Securities [Rule 502(d)]: Provides that securities sold under Rule 505 or Rule 506 qualify as
restricted securities under Sec. Act § 4(a)(2), and therefore can only be resold if subject to an exemption or
registered.(1) Need Another Exemption : Regulation D is an ISSUER exemption, so subsequent sales will require another
exemption [Sec. Act § 4(a)(1); Rule 144A].(2) Could Register : In the alternative, they could decide to late register, which would make this either a PIPEs
deals or a Chevron Capital )Issuer’s Reasonable Care [Rule 502(d)]: In addition, the issuer must take reasonable efforts to assure that
“purchasers of the securities are not underwriters.”(1) Under Sec. Act § 4(a)(2) Compared : Under the statutory analysis for a private placement, subsequent
“distribution” activities by the purchaser may make the purchaser qualify as an “underwriter.” If that is the
case, then they could not qualify for any transactional exemption for those resales; however, it would also
mean that the original sale to the purchaser was not a Private Placement. In contrast, this provides a safe
harbor such that, even if there are resales, it will not ruin Reg. D.(2) Non-Exclusive “Reasonable Care” Demonstrations [Rule 502(d)(1)-(3)]: Provides that an Issuer will
establish reasonable care if they do all of the following, though this is not the exclusive means of compliance—(a)Reasonable Inquiries: Must make reasonable inquiries to determine if purchaser is acquiring for
himself or another.(b)Written Disclosure: Must disclose in writing that the securities are restricted, and therefore cannot be
resold without registration or an exemption.(c)Legend: Must place a legend on the securities noting their restricted status.(3)Note if you undertake all of these reasonable care demonstrations, and then there is still some resale, you’re
probably okay/4) Rule 503—Filing of Notice of Salesa) Form D Filing Requirement [Rule 503(a)(1)]: Provides that Issuers relying on Regulation D must file a Form D no
later than 15 days after the first sale.b) Disqualification for Failure [Rule 507]: Technically, filing the Form D is not a requirement for Regulation D;
however, under Rule 507, the SEC may disqualify an issuer for failing to comply with this requirement. As such, can
miss it once, but don’t want to make it a habit.5)Rule 504 (safe harbor) —Limited Offerings by Non-Reporting Issuers [Sec. Act § 3(b)(1)]a) Eligible Issuers Non-Reporting Issuers [Rule 504(a)]: Provided only to Non-Reporting Issuers, Investment
Companies, or Business Development Companies.i)Bad Boy Disqualifiers after Dodd-Frank: Dodd-Frank amended Rule 506 to contain a bad boy prohibition,
which was already present in Rule 505. The SEC, however, has stated it intends to apply these disqualifications toRule 504 as well.(1)Bad boy – You’re been accused of securities fraudb) Required Conditions :i)Applicable General Conditions Only Aggregation [Rule 504(b)(1)]: Rule provides that, if you are
complying with the conditions set forth in Rule 504, then need not comply with Rule 502(c) (prohibition on
general solicitations) or Rule 502(d) (limitations on resale). Although not mentioned, Rule 502(b) already
expressly states it does not apply to Rule 504 offerings. Therefore,
only Rule 502(a) )Offering Conditions Three Options [Rule 504(b)(1)]: In order to “comply” and therefore avoid those generalconditions, need to either—(1) Offer and Sell Pursuant to State Registration [Rule 504(b)(1)(i)]: Issuer offers in one or more states that
provide for registration and submit all of the public filings and disclosures prior to the sales.(2) Registered in one State, Disclosure to All Purchasers [Rule 504(b)(1)(ii)]: If the Issuer offers in one or more
states that do not require registration, issuer can comply with a single state registration requirement and
provide all purchasers (including those not in that state) with the disclosure required.(a)Rationale - Blue-sky rules would likely regulate the disclosure, this is why the SEC doesn’t care.33
(3) All AI Purchasers [Rule 504(b)(1)(iii)] (Unlikely to ever be used): If all purchasers are AI and sale is in
accordance with state law exemptions from registration that permit general )Dollar Cap and Aggregation with § 3(b) Offerings [Rule 504(b)(2)]: The aggregate offering price shall not
exceed $1M for all securities sold under any Sec. Act § 3(b)(1) exemption during the prior twelve months. (note
– later offerings will never bust the prior offerings – you only care about things that happened before if you’re
aggregating) (if you’re integrating, then you care about after and before)(1) Focused on Current Offering : This will only bust the current offering. That is, the language is focused on the
“prior” twelve months and therefore if the current offering exceeds the cap, it does not create a problem for
the prior offering.(a)Possible Integration Issue: Although focused on the current offering, if the two offerings are integrated,then they will be treated as a SINGLE offering, and therefore “both” can be busted.(2) What is Aggregated : All Sec. Act § 3(b) offerings, except Rule 701 employee compensation, and violations
of Sec. Act § 5 are counted. This means that: (1) Rule 504, (2) Rule 505, (3) Reg. A, and (4) busted Sec. Act§ 5 offerings will be included.6)Rule 505—Limited Offerings by any Issuer for $5M or Less [Sec. Act § 3(b)(1)]a) Eligible Issuers Any Issuer [Rule 501(a)]: Provides that all offers and sales conducted in compliance with the
requirements by any issuer (other than an investment company) will be exempt from Sec. Act § 5(a).i)Bad Boy Disqualifications Bust Reg. A [Rule 505(b)(2)(iii)]: Provides that if you are disqualified under Rule262 of Regulation A for misfeasance, then not available.b) Required Conditions :i)Applicable General Conditions
All Required [Rule 505(b)(1)]: Provides that all of the conditions in Rule
502 are applicable, including prohibitions on general solicitations, limitations on resale, etc.(1)Sec. Act § 12(a)(2) Liability: Although arguably not a “public offering” as required by Gustafson, Sec. Act
§ 12(a)(2) provides that it is applicable to all securities unless exempted by specified portions of Sec. Act §
3(a), and therefore it is likely )Applicable Dollar Cap $5M [Rule 505(b)(2)(i)]: The aggregate offering price shall not exceed $5M for all
securities sold under any Sec. Act § 3(b)(1) exemption during the prior twelve months.(1) Focused on Current Offering : This will only bust the current offering. That is, the language is focused on the
“prior” twelve months and therefore if the current offering exceeds the cap, it does not create a problem for
the prior offering.(a)Possible Integration Issue: Although focused on the current offering, if the two offerings are integrated,then they will be treated as a SINGLE offering, and therefore “both” can be busted.(i)Note: If a prior 504 offering is done more than 6 months ago, but less than 12 months
ago, it will be aggregated but NOT integrated. That is, the prior offering will count toward
the current offering’s $5M cap, but the current offering won’t affect the prior offering. (So you can
sell $1M under 504, and then, 7 months later, sell $4M under 505). This includes the purchaser
requirement for )Applicable Purchaser Cap 35 or Less [Rule 505(b)(2)(ii)]: Provides that only 35 purchasers may invest;
however, the cap does not include AIs as they are excluded from purchasers.7)Rule 506—Private Placement Safe Harbor [Sec. Act § 4(b)]a) Eligible Issuers Any Issuer [Rule 506(a)]: Provides that all offers and sales conducted by any issuer in compliance
with the requirements of the section will be deemed NOT a “public offering” within the meaning of Sec. Act § 4(a)(2).i)Bad Boy Disqualification after Dodd-Frank: Dodd-Frank requires the SEC to adopt rules disqualifying felons
and Reg. A bad actors from utilizing Rule 506.b) Required Conditions :i)Applicable General Conditions All Required [Rule 506(b)(1)]: All of the conditions in Rule 502 are
applicable, including prohibitions on general solicitations, limitations on resale, etc.(1) General Solicitations after JOBS Act : The JOBS Act has amended Rule 506 such that general solicitations
are permitted so long as all purchasers are )Purchaser Numerical Limitations Less than 35 Purchasers [Rule 506(b)(2)(i)]: There must be no more
than thirty-five purchasers, which does not include purchasers who are excluded as AIs or otherwise.(1) Integration Issue : Remember that, if two offerings are integrated, it could be that the overall purchaser limit
is exceeded, which is not excusable under Rule )Purchaser Sophistication Requirement AI or Sophisticated [Rule 506(b)(2)(ii)]: All purchasers must be
either (a) Accredited Investors or (b) Sophisticated, either personally or through proxy (a purchaser
representative) (Reasonable Belief at time of Sale)34
(1) Sophistication Standard [Rule 506(b)(2)(ii)]: Purchasers or with their representative must have “such
knowledge and experience in financial and business matters that he is capable of evaluating the merits and
risks of the prospective investment.”(2) Purchaser Representative [Rule 501(h)]: Means someone who either satisfies or the Issuer reasonably
believes satisfies all of the following—(a)Non-Affiliation Requirement [Rule 501(h)(1)]: Provides that the individual cannot have too close of a
relationship with the Issuer, including being a director, officer, employee, beneficial owner of 10% or
more of equity securities UNLESS the purchaser is
(i)(a) a relative of the representative, (b) a trust or estate in which the purchaser representative and a
relative have a 50% interest, or (c) corporation where purchaser representative and a relative are
beneficial owners of 50% equity securities.(b)Sophistication Requirement [Rule 501(h)(2)]: Representative must have knowledge and experience
necessary to assess the merits and risks.(c)Purchaser Acknowledgment [Rule 501(h)(3)]: Representative must be acknowledged in writing by the
purchaser during the course of his transaction as the source of the assessment.(d)Disclosure of Material Relationships [Rule 501(h)(4)]: Representative must notify the purchaser in
writing a “reasonable time” prior to the sale of any material relationships that either (a) exists, (b) is
contemplated, or (c) existed at any time during the prior two years, and (d) any compensation paid as a
result of such relationship.8)Rule 508—Insignificant Deviations (if you bust)
a) General Rule No Harm, No Loss of Safe Harbor [Rule 508(a)]: A failure to comply with a term or condition of
Regulation D does NOT result in the loss of the exemption for any offer or sale if the Issuer shows—i)Condition was not intended to Protect Purchaser [Rule 508(a)(1)]: The failed condition was not intended to
“protect the particular” purchaser.(1) Example : During a Rule 506 Private Offering, unintentionally make a sale to a single non-sophisticated, non-AI investor. Only the sale to the non-sophisticated, non-AI purchaser would lose the protection of Rule )Condition Insignificant to offering as a whole [Rule 508(a)(2)]: Failed condition was “insignificant with respectto the offering as a whole.” : Rule provides three deviations that are deemed significant, and
(1) Unforgivable – Significant Deviationstherefore can never be forgiven under Rule 508—(a)General Solicitations Rule 505 and Rule 506 (unless only sales to AIs - JOBs)(b)Busting Dollar Cap Rule 504 and Rule 505(c)Busting Purchaser Cap Rule 505 and Rule 506iii)Good Faith and Reasonable Attempt to Comply [Rule 508(a)(3)]: Issuer must have made a good faith and
reasonable attempt to comply with the relevant Regulation D exemption claimed.b) SEC Actions Not Barred (SEC can always go after you) [Rule 508(b)]: Although an individual private right of
action might be barred under the “no harm, no loss of safe harbor” does not apply to SEC actions under Sec. Act § 20.35
Regulation A
1) Introduction :a)It’s a Mini Registration for Non-Reporting: In general, Reg. A provides a limited offering exemption under Sec.
Act § 3(b), and therefore has an offering cap, for non-reporting issuers that engage in a “mini registration.”b)Overview of Reg. A Offering: Going to proceed by—(1) soliciting interest, or “testing the waters,” (2) filing the
“offering statement,” and waits for it to be “qualified,” (3) after qualification, makes written offers accompanied by
prelim or final “offering circular.”c)Integration Rules [Rule 251(c)]: Provides that Reg. A offerings will not be integrated with—i) Prior Offerings Categorically Excluded : Reg. A Offerings will never integrate with a prior ) Later Offerings Rule 701, Reg. S, or 6-Months : Reg. A offerings may be integrated with subsequent offerings;
however, they will not be integrated with offerings under Rule 701, Reg. S, or offerings that take place after a six
month safe harbor.(1)Six Months Compared: Under Reg. D, the six months must be clean, meaning that there are no offers or
sales. Under Reg. A, the six months runs from the offering, and if there are any subsequent offers/sales
during the following six month period, those are integrated, but they do not reset the six month period
UNLESS the second offering itself would be integrated under Five Factor test.d)NON-RESTRICTED: Importantly, Reg. Securities are not restricted within the meaning of Rule 144, and therefore,
if resales are not by affiliates, then they will not be subject to a holding period.2) Requirements :a)Issuer Eligibility Domestic Non-Reporting, Non-Excluded Issuers [Rule 251(a)]: Under Rule 251(a), Reg. A is
only available to domestic non-reporting companies, and non-excluded issuers.
i) Excluded Issuers : Bad boy or Development stage companies (i.e. have capital, but haven’t done anything with
yet), investment companies, and non-fractional oil/gas leasing companies.(1)Reg. D. Compared: No similar limitation on these types of issuers ) Bad Boy Issuers Disqualification Provisions [Rule 262]: Even if the issuer satisfies the foregoing, the
exemption is not available absent a showing of good cause for issuers who perform the following—(1)Issuer Actions [Rule 262(a)]: If the Issuer or its predecessors or affiliates has
(a)Filed a registration statement subject Sec. Act § 8(b)Subject to any pending proceeding under Rule 258(c)Has been convicted within 5-years of a felony/misdemeanor in relation to purchase or sale of securities(d)Subject within 5-years to any order permanently restraining any conduct in relation to an offer/sale of
securities.(2)Individuals [Rule 262(b)-(c)]: Also sets forth restrictions on individual officers, directors, and underwriters.
See page 113 (not discussed in class).b)Sales Cap $5M in Prior 12-Months [Rule 251(b)]: Provides a $5M cap on offerings under Reg. A for the prior
12-month period.
i) Aggregation across Exemptions Only Reg. A Offerings [Rule 251(b)]: Provides that, for purposes of reaching
the dollar cap only Reg. A offerings are counted. Therefore, it is a standalone $5M cap.(1)Reg. D Compared: Under Reg. D, a Reg. A offering will be counted for purposes of reaching the dollar capsunder Rule 504 and Rule 505; however, the Reg. A offering will
not get busted by the Reg. D offering.(a) Example : In Jan. do a Rule 504 offering for $1M. In July, do an offering under Reg. A for $5M. This is
permissible. If, however, you reversed the ordering, then it would not be fine, as Reg. D aggregates with
Reg. ) Aggregation of Resales [Rule 251(b)]: Provides two “aggregation” restrictions on resales.(1)Resales by Current Shareholders Count $1.5M [Rule 251(b)]: For purposes of reaching this $5M cap,
up to $1.5M in resales by current shareholders is included. Idea is that, if insiders are selling, they know
something is up, so should not be permitting large issuances.(2)Affiliate Resales Issuer Net Income Required [Rule 251(b)]: In order to be able to have affiliate resales,the issuer must have had net income in the prior two years.c)Offer/Sale Conditions:i) Offering Conditions Pre or Post “Qualified” [Rule 251(d)(1)]: Offers are subject to different restrictions
depending on whether the Offering Statement has been filed or effective.(1)Pre-Filing No Offers [Rule 251(d)(1)]: Prior to filing the Offering Statement, cannot make offers except
for testing the waters.(a) Testing the Waters [Rule 254]: Permits “solicitations of interest” before filing the offering statement in
order to determine whether or not to do an offering in the first place.36
(i)Permitted Communications: May communicate either (a) in writing or (b) through scripted radio
or television broadcasts.(ii)Filing First: In order to make such written communications and broadcasts, Rule 254 requires first
that such communication be filed with the SEC.(iii)Required Contents:1.b)(2) The written document/script filed w/ SEC shall contain certain info
a.(i) No money can be acceptedb.(ii) No sales can be made until offering statement is qualified (legend)2.(b)(3) Solicitations of interest may not be made after filing an offering means written offers must be made under 2554.(b)(4) Sales may not be made until 20 days after the last publication of the solicitation
document(b) If No Interest You can cancel it, wait 30-Day (No Integration) [Rule 254(d)]: Where an issuer
changes his mind and decides to register the offering after using this process but not having filed the
offering statement, the offers made in reliance upon this rule will not be integrated with the registered
offering if there is a 30-day period between the last solicitation and the filing of the registration
statement.(i)Rule 163A Compared: This has a similar 30-day cool off period for communications during the
quiet period being deemed an “offer to sell,” but you could not rely on Rule 163A here, as that
provision does not permit discussing the Prospectuses [Rule 254(e)]: These documents are not deemed prospectuses, and
(c) Documents
therefore there is no Sec. Act § 12(a)(2) liability for any material misstatements or omissions.(d) Possible Suspension if Errors [Rule 258]: Permits suspension if the document contains material errors.(2)Post-Filing Limited Offers [Rule 251(d)(1)(i)]: Provides that after filing the offering statement, the issuermay make offers by—(1) oral communication, (2) through a Preliminary Offering Circular, and (3) limitedprint, television, and radio/TV advertisements.(a) Preliminary Offering Circular [Rule 255]: Requires that—(i)Caption [Rule 255(a)(1)]: Cover page must have a caption stating it is preliminary, the date of
issuance, and a legend(ii)Form 1-A without Financial Info [Rule 255(a)(2)]: Akin to Preliminary Prospectuses, must
contain all of the information required except financial information that is unavailable.(iii)Eventually Filed [Rule 255(a)(3)]: Must be eventually filed as part of the Offering Statement.(iv)Corrections [Rule 255(b)]: If there is any error, must provide a corrected copy to all persons sold
atleast 48 hours prior to sale.(b) Limited mass media Advertisements [Rule 251(d)(1)(C)]: Such advertisements may only contain
information on—(i)Issuer’s Name(ii)Title of Security/Offering Price(iii)Issuer’s Business(iv)Issuer’s general location/property(3)Post-Qualified Final Offering Circular [Rule 251(d)(iii)]: After qualification, can make offers in any
manner provided it is “accompanied or preceded by” a Final Offering Circular, meaning the current circular
contained in the qualified offering ) Sales Conditions [Rule 251(d)(2)]: Sales limitations largely mirror provisions in Sec. Act § 5.(1)Post-Qualified Only [Rule 251(d)(2)(i)(A)]: Prohibits sales prior to the qualification of the Offering
Statement (mirrors Sec. Act § 5(a) and Registration Statements).(2)48-Hour Delivery [Rule 251(d)(2)(i)(B)]: Requires receipt of the preliminary or final offering circular 48
hours before confirmation of sale (mirrors Rule 15c2-8).(3)Final Offering Circular Included [Rule 251(d)(2)(i)(C)]: Unless it has already been furnished, a final
offering circular must be delivered at time of confirmation.(4)Sales by Dealers [Rule 251(d)(2)(ii)]: Requires that for sales taking place within
90-Days after qualification,MUST include a copy of the offering circular before or with the confirmation of sale.d)Disclosure Document Offering Statement (Form 1-A) [Rule 252]: This is the Reg. A version of the Reg.
Statement.i) Documents to be included : Form 1-A, the contents required by the form, and any other material information
necessary to make the required statements not misleading.37
Qualification : An offering is qualified on the 20th day unless delaying amendments. (Acceleration and stop orders
also available).(1)Delaying amendment: Similar to R 473, giving SEC lots of time until it’s ready. Can remove the delayingamendment if you want as well w/ another ) Amendments : An amendment shall restart the 20-day period.e)Disclosure Document Offering Circular [Rule 253]: This is basically the Reg. A version of the Prospectus.i) Requirements :(1)Contents Form 1-A [Rule 253(a)]: The offering circular must include the financial and narrative
information required by the Form 1-A.(2)Presentation Clear [Rule 253(b)]: Must be readily understandable.
(3)Legend [Rule 254(d)]: Needs to contain an appropriate legend.(4)Revisions [Rule 253(e)]: Whenever there is a revision, it restarts the time period for qualification or requires
a new qualification. Revisions occur when—(a) when information in it becomes false or misleading in light
of changed circumstances, and (b) if on a continuous basis, after 12-months.(a) Note : This is akin to Sec. Act § 5. Requirement that post-effective amendments be filed if false or
misleading is analogous, and similarly the fact that you can incorporate by reference is similar to
successive annual filings.3) Other Important Provisions :a)Potential SEC Disqualification [Rule 258]: SEC can choose to suspend you from getting Reg A exemption if:i)You fail to meet any of the conditionsii)The offering statement or testing the waters material contain material misstatements/omissionsiii)Offering violates § 17iv)After filing of the offering statement, something happens that would have taken you out of Reg. A from the get
go.v)Criminal indictments against any person specified in 262(a),(b) + many more.b)Withdrawal or Abandonment [Rule 259]:
If none of the securities in the Offering Statement have been sold, the
Offering Statement may be withdrawn.c)Insignificant Deviations [Rule 260]: A failure to comply w/ the conditions in Reg. A will not result in loss of the
exemption with respect to any particular sale to an individual/entity if the seller shows:i)(1) failure did not pertain to a term designed to protect that particular person;ii)(2) Failure was insignificant w/ respect to offering as a whole, but non-reporting, aggregating, conditions for
offers, and continuous offer requirements are material;iii)(3) Good faith efforts to comply.(1) Note : This is essentially the same standard as for Reg. D under Rule 508.4) Potential Liability :a)Sec. Act § 11 Unavailable: The “offering statement,” although akin to a registration statement, is not one, and
therefore there is no Sec. Act § 11 liability.b)Sec. Act § 12(a)(2) Available for Post-Testing Waters: All offering documents after the “testing the waters”
period are deemed to be prospectuses, but remember Rule 254(e) removes the testing the waters docs from prospectus
)38
Non-Reporting Employer Compensatory Benefit Plans: Rule 7011) Introduction :a)Overview of Rule: Provides an exemption under Sec. Act § 3(b) for offers and sales by non-reporting issuers where
such offers and sales are pursuant to compensatory employee benefit plans or are included in employee contracts.i) Purpose of Rule 701 : Startup companies often want to attract and hold employees by offering stock options (locksin the employee and gives them an incentive to help the business flourish). For non-public companies, the cost of
registering was prohibitively high, and existing exemptions were lacking.(1)Private Placement [Sec. Act § 4(a)(2) or Rule 506]: Neither of these would work very effectively. The
purchaser cap of Rule 506 would likely be run up against quickly, and under the statutory analysis Ralston
Purina requires that there be access, sophistication, and a preexisting relationship.b)Regulation A Compared:i) Dollar Limit : Under Regulation A, there is a $5M cap; however, under Rule 701, the cap could be much higher
(technically, no hard cap).
ii) Disclosure Obligations : Under Regulation A, there is an affirmative disclosure obligation (which ramps up with
the size of the offering); however, under Rule 701, if it is less than $5M, then there is very minimal ) Liquidity : Under Regulation A, securities sold are non-restricted; however, under Rule 701, securities are
restricted2) Key Conditions for Rule 701 :a)Eligible Issuers Non-Reporting [Rule 701(b)]: In general, only issuers that are not reporting companies are
eligible to rely on Rule 701 safe harbor.i) If Reporting at time of Offer Form S-8 : There is a special form for reporting companies, the Form S-8, which
they use ) If Non-Reporting but becomes Reporting Permissible [Rule 701(b)(2)]: If at the time that the offer was made
the issuer was a non-reporting company, but they subsequently became a reporting company, then the Issuer may
still sell the securities.b)Eligible Sales Employees, Officers, and Consultants/Advisors (and Family) [Rule 701(c)]: The rule only
exempts sales to employees, officers, and consultants and advisors that are part of a “compensatory benefit plan” or aspart of their employment contract. In addition, may permit for family members to acquire such securities through gifts
or domestic relations orders.i) Controlled, Controls, or Common Control : Rule provides that it is not just the Issuer, but also its parent, wholly
owned subsidiaries, and majority owned subsidiaries of the issuer’s parent that are ) Consultants and Advisors Special Conditions [Rule 701(c)(1)]: Given potential for abuse in this area,
consultants and advisors must (a) be natural persons, (b) provide bona fide services to the Issuer, and (c) such
services are not in connection with capital-raising transactions or promoting a market for the issuer’s securities.(1)Example [Problem 6-7(c)]: If a law firm is hired to assist in preparing the Rule 701 employee compensation
plan, then they may be compensated with stock, as the Rule 701 plan is not a capital-raising transaction.c)Offering Caps NONE [Rule 701(d)(1)]: Rule provides that there are no limits on offers.d)Sales Caps 12-Month Period, May not Exceed Greater of [Rule 701(d)(2)]: The “aggregate sales” may not
exceed the greater of one of three measures during any consecutive 12-month period.i) Formulas for Sales Cap [Rule 701(d)(2)]: Again, during the twelve months, must not exceed the greater of—(1)Flat Dollar Cap $1M [Rule 701(d)(2)(i)](2)Percentage of Total Assets
15% [Rule 701(d)(2)(ii)](3)Percentage of Outstanding Class of Securities Fifteen Percent (15%) [Rule 701(d)(2)(iii)](a) Options Outstanding at Issuance [Rule 701(d)(3)(iii)]: Clarifies that when calculating outstanding
securities, you treat options as outstanding.(b)Even if options have not been exercised, options count towards the amount of the outstanding classii) Integration Rules [Rule 701(d)(3)]: Provides specific rules for calculating the “aggregate sales price” towards thiscap, include the following:(1)Calculating “Labor” Value [Rule 701(d)(3)(i)]: Provides that, for purposes of determining the “value” of
securities, supposed to look at the consideration received; however, given that consideration is labor,
generally say that the value is the price that they were issued for.(2)Options Count Exercisable Amount [Rule 701(d)(3)(iii)]: Provides that these are counted towards the
cap at issuance rather than exercise, and furthermore the value is counted at the amount of securities that
would be issued at exercise.39
(3)Anti-Aggregation Principle [Rule 701(d)(3)(iv)]: Provides that, for purposes of this cap, it will neither
integrate into nor permit integration from other exemptions. As such, only Rule 701 offerings go towards thiscap.e)Disclosure Requirement [Rule 701(e)]:i) Plan or Contract Always Required [Rule 701(e)]: The Issuer always must deliver a copy of the “compensatory
benefit plan or the contract.”ii) Additional Disclosure Only if over $5M in Prior 12-Months [Rule 701(e)]: In addition, the Issuer must furnish
additional documentation if, during the prior 12-month period, the Issuer has sold more than $5M under Rule 701.(1)Summary of Terms (ERISA Status) [Rule 701(e)(1)-(2)]: If the plan is subject to ERISA, must send a copyof the ERISA summary plan description. If not subject to ERISA, a summary of material terms.(2)Risks of Investment [Rule 701(e)(3)]: Must supply information about risks associated with the securities
sold.(3)Regulation A Financials [Rule 701(e)(4)]: Must supply financial statements required under Reg. A, which
must not be older than 180 Days.(4)Parents Financials (if relied upon) [Rule 701(e)(5)]: If the Issuer relies on parent’s financials for the cap,
must disclose parent’s financials, which if reporting, includes filed financials.(5)If Options Date of Conversion/Exercise [Rule 701(e)(6)]: If Issuer is issuing options, must provide date.f)Integration with Other Offerings NONE [Rule 701(f)]: Rule 701 provides a TWO-WAY safe harbor from
integration, so it neither integrates other Sec. Act § 3(b)(1) offerings, nor is it integrated by other offerings.i)So 701 will never bust any other offerings! And no other offering can bust us!!
g)Restricted Securities [Rule 701(g)]: Securities sold are
restricted securities under Rule 144.i) After becoming Public Resales under Rule 144 [Rule 701(g)(3)]: 90-days after becoming a reporting
company, the securities may be resold under Rule 144 with express exemptions from normal requirements.(1)Non-Affiliates No Info or Holding Requirement: For non-affiliates, can rely on Rule 144 without
regard to the information availability requirement [Rule 144(c)] or holding period [Rule 144(d)]40
Regulation S Offerings: Rule 901 and Rule 903Offering SecurityEquityDebtReporting ForeignIssuer (SUSMI)Category 2Category 2Non-ReportingForeign Issuer(SUSMI)Category 3Category 2Reporting DomesticIssuerCategory 3Category 2Non-ReportingDomesticCategory 3Category 31) Introduction :a)Extraterritorial Concerns: By its terms, Sec. Act § 5 does not limit its application to the territorial United States;
however, the SEC has never applied the Securities Laws to this full extent to avoid foreign conflicts. At the same time,however, there is the risk that securities will be sold abroad, then find their way into the U.S. market without proper
disclosure as an end run around securities laws.i) Non-Integration : SEC Releases have clarified that “directed selling efforts” are not going to be busted where thereis a simultaneous offering domestically that is pursuant to an exemption or registration.b)Overview of Regulation S:i) Rule 901 —General Statement(1)Within v. Outside the United States: The General Statement clarifies that for purposes of Sec. Act § 5, 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.”(2)Interaction with Rules 903 and 904: Having established that “offers and sales that occur outside the United
States” are not subject to liability under Sec. Act § 5, Rules 903 and 904 proceed to set up two safe harbors
for when offers and sales “occur outside the U.S.”(3)If Safe Harbors are Unavailable Argue under Rule 901: Given that the two safe harbors are two meansof falling under the General Statement, if you cannot fall under either safe harbor, still have the option of
arguing based on the facts and circumstances that it occurred without the United ) Rule 902 —Definitions(1)Non US Person (902(k))(2)Debt [Rule 902(a)]: Defines a “debt security” as “any security other than an equity security,” including non-voting preferred stock and asset-backed securities.(3)Distributor [Rule 902(d)]: Any underwriter, dealer, or other person who participates
“pursuant to a
contractual arrangement” in the distribution of securities.(4)Substantial U.S. Market Interest (“SUSMI”) [Rule 902(j)]: There are different standards for determining ifthere is a “substantial U.S. market interest” in an issuer’s securities depending on whether the securities are
equity or debt securities.(a) Equity SUSMI [Rule 902(j)(1)]:There is SUSMI with respect to an issuer’s equity securities if either(i)U.S. Market is Largest Market [Rule 902(j)(1)(i)]: The U.S. market is the largest market for the
class of securities in the last fiscal year(ii)De Minimis Traded on non-U.S. Exchange [Rule 902(j)(1)(ii)]: Twenty percent (20%) or more
of all trading in the class of securities took place in, on or through the facilities of securities
exchanges, and less than fifty-five percent (55%) of such trading took place in/through the facilitiesof security markets of a single country.(b) Debt SUSMI [Rule 902(j)(2)]: There is SUSMI with respect to an issuer’s equity securities if all of the
following are satisfied—(i)> 300 Aggregate U.S. Debt Holders [Rule 902(j)(2)(i)]: There are, in the aggregate, 300 or more
U.S. persons who are record holders of the issuer’s debt securities.(ii)U.S. Debt Holders have $1B or 20% [Rule 902(j)(2)(ii)-(iii)]: If U.S. persons hold at least $1B of
and 20% of, (1) the principle amount outstanding of its debt securities PLUS (2) the greater of
liquidation preferences on par value of its securities described in Rule 902(a)(1),
PLUS, (3) the
principle amount or principle balance of its securities described in Rule 902(a)(2).(iii)Commercial Paper
Ignored [Rule 902(j)(3)]: for purposes of these debt calculations, securities
exempted under the commercial paper exemption are not included.2) Safe Harbor for Offers and Sales by Issuers, Distributors, and Affiliates and Agents—Rule 903
a)Introduction:41
Domestic Equity Restricted Securities [Rule 905]: Pursuant to Rule 905, all “equity securities of domestic
issuers acquired from the issuer, a distributor, or any of their respective affiliates under” Rule 903 are deemed
“restricted securities” within the meaning of Rule 144. Therefore, resales of the securities must be done in
accordance with (a) Reg. S, (b) a Registration Statement, or (c) another exemption.b)Universal Conditions [Rule 903(a)]: In order for an offer or sale to be deemed to occur “outside the United States”
within the meaning of Rule 901, must satisfy two general requirements, and the Category Requirements depending on
the Issuer.i) Offer/Sale is made in an Offshore Transaction [Rule 903(a)(1)]: First, the offer or sale must be made “in an
offshore transaction” as defined in Rule 902(h).(1)General Definition [Rule 902(h)(1)]: A transaction is an “offshore transaction” if—Physically Outside United States [Rule 902(h)(1)(i)]: The offer is not made to a person (a) Offeree
physically in the United States, or the seller reasonably believes this is the case.(b) Buyer Physically Outside or Sold on Extraterritorial Exchange [Rule 902(h)(1)(ii)]: Either (a) when the
buy order is originated, the buyer is (or seller reasonably believes is) outside the U.S. or (b) the
transaction is executed on the floor of an extraterritorial foreign securities exchange.(i)Note: There is a different part (2) for this disjunctive if it is under Rule 904.(2)Targeting Identifiable U.S. Foreign Nationals [Rule 902(h)(2)]: Regardless of the general definition, if
“offers and sales of securities specifically targeted at identifiable groups of U.S. citizens abroad,” shall not
be deemed to constitute “offshore transactions.” (i.e. military)(a)Only for identifiable US citizens, so if you pick up someone that is US (but not identifiable) then you’re
still fine(3)Excluded from “U.S. Persons” Definition [Rule 902(h)(3)]: Regardless of the general definition, “offers
and sales of securities to persons excluded from the definition of U.S. person” by reason of Rule 902(k)(2)(vi) and Rule 902(k)(2)(i) are “offshore transactions.(a) Relevant Excluded U.S. Persons : (1)Any natural person resident in the United States or (2) any non-discretionary account or similar account (0ther than an estate or trust) held by a dealer or other fiduciary
for the benefit or account of a U.S. person.(4)Research Report Distribution [Rule 902(h)(4)]: Regardless of the general definition, merely publishing or
distributing a research report by complying with Rule 138(c) or Rule 139(c) is
not sufficient to cause the
transaction to fail to be an “offshore transaction.”ii) No Directed Selling Efforts made in the United States [Rule 903(a)(2)]: In addition, the Issuer, distributor, or any
of their respective affiliates or persons acting on their behalf has not “directed selling efforts made in the United
States.”(1)Directed Selling Efforts [Rule 902(c)]: The absence of directed selling efforts is integral to
both safe
harbors, and is defined to include and exclude certain communications.(a) Activities Deemed to Constitute Directed Selling Efforts [Rule 902(c)(1)]: Includes any activity with a
“purpose of, or that could reasonably be expected to have the effect of, conditioning the market in the
United States for any of the securities being offered” in reliance on Regulation S, which includes
“placing an advertisement in publication ‘with a general circulation in the United States’ that refers to
the offering of the securities.”(i)With a General Circulation in the United States [Rule 902(c)(2)(i)]: Is any publication that (1) is
printed primarily for distribution in the United States, or (2) has had during the preceding twelve
months, an average circulation in the United States of 15,000 or more copies per issue.”(ii)If Multiple Editions [Rule 902(c)(2)(ii)]: If there are multiple editions, then it will only include the
“separate U.S. edition.”(b) Activities Deemed NOT Directed Selling Efforts [Rule 902(c)(3)]:(i)Legally Required Publications [Rule 902(c)(3)(i)]: Provides that any advertisement required to be
published under either U.S. or foreign law, so long as (a) it contains no more information than
legally required and (b) a legend stating that it has not been registered.(ii)Non-U.S. Persons [Rule 902(c)(3)(ii)]: Communications with persons “excluded” from the
definition of “U.S. Person” or accounts held by persons excluded from “U.S. Persons” definition.(iii)Tombstone Ads [Rule 902(c)(3)(iii)]: Tombstone Ads with (a) less than 20% of their general
circulation in the U.S., (b) an appropriate legend, and (c) only contain the information permitted in atombstone ad PLUS UNDERWRITER INFORMATION.(iv)Rule 135(c) and (e) Publications [Rule 902(c)(3)(vi)]:(v)Journalist Access to Rule 135(e) Conferences [Rule 902(c)(3)(vii)]: In addition to the publicationsthemselves, permitting journalists with access to such press conferences.(vi)Research Reports [Rule 902(c)(3)(viii)]: If a research report by a broker or dealer is published in
accordance with Rule 138(c) or Rule 139(b).42i)
(vii)Rule 169 Discussion [Release, Page 526-527]: Clarifies that if you do not mention the offering,
then routine publications discussing the company’s financial position will not be deemed to violate
the “directed selling efforts” prong.(c) Territorial Focus : Important to note that this is a territorial focus. If you sell to a U.S. person in an
offshore transaction, this will not bust the directed selling prong, as it is focused on territorial U.S.c)Category 1 Issuers [Rule 903(b)(1)]i) Eligibility for Category 1 : Four possible ways to qualify as a Category 1 Issuer.
(1)Foreign Issuers without a Substantial U.S. Market Interest (SUSMI) [Rule 903(b)(1)(i)]: First, if the
securities are for a Foreign Issuer who reasonably believes at the start of the offering that:(a) Equity Offerings without SUSMI [Rule 903(b)(1)(i)(A)]: If the issuer is offering equity securities, that
there is no SUSMI for the class of securities to be offered or sold.(b) Debt Offerings without SUSMI [Rule 903(b)(1)(i)(B)]: If the issuer is offering debt securities, that there
is no SUSMI in its debt securities. (NOTE – it’s susmi with regard to the security (debt/equity) that we
care about)(c) Warrant Offerings without SUSMI [Rule 903(b)(1)(i)(C)]: If the issuer is offering warrants, there is no
SUSMI in the warrants.(d) Convertible Offerings without SUSMI [Rule 903(b)(1)(i)(D)]: If the issuer is offering convertible
securities, there is no SUSMI in the class of convertible securities.(2)Securities Offered or Sold in “Overseas Directed Offerings” [Rule 903(b)(1)(ii)]: Second, if the securitiesare offered and sold in an “overseas directed offering.” All Securities [Rule 903(b)(1)(ii)(A)]: A foreign issuer’s offering will qualify as an
(a) Foreign Issuers
“overseas directed offering” if the offering is (1) “directed into a single country other than the United
States” (2) “to the residents thereof,” and (3) “that is made in accordance with the local laws and
customary practices and documentation of such country.”(b) Domestic Issuers Non-Convertible Debt [Rule 903(b)(1)(ii)(B)]: A domestic issuer’s offering will
qualify as an “overseas directed offering” if the offering is (1) for “nonconvertible debt securities,” (2)
directed into a single foreign country, (3) to the residents of such country, and (4) that is made in
accordance with the customary requirements.(3)Backed by Full Faith and Credit of a Foreign Government [Rule 903(b)(1)(iii)]: Third, if the securities
are backed by the full faith credit of a foreign government.(4)Foreign Employee Benefit Plans [Rule 903(b)(1)(iv)]: Fourth, if the securities are offered and sold to
“employees of the issuer or its affiliates pursuant to an employee benefit plan” established and administered
outside the United States, and the “customary practices and documentation of such country” require the
following (all required)(a) Compensatory for Bona Fide Services [Rule 902(b)(1)(iv)(A)]: The securities are issued in
compensatory circumstances for bona fide services rendered BUT NOT for services rendered in
connection with offer of securities in capital raising transactions.(b) Non-Transferable Interests [Rule 902(b)(1)(iv)(B)]: Securities are non-transferrable other than by meansof inheritance.(c) Issuer’s Reasonable Care [Rule 902(b)(1)(iv)(C)]: Issuer takes reasonable steps to preclude the offer/saleof interests in the plan to U.S. residents, toher than employees on temporary assignment in the U.S.(d) Documented as “Restricted” Securities [Rule 902(b)(1)(iv)(D)]: Documentation used in connection with
any offer pursuant to the plan states that the securities have not been registered and may not bes sold in
the U.S. without being registered or ) Additional Conditions [Rule 903(b)(1)]: NONE.d)Category 2 Issuers [Rule 903(b)(2)]i)Two basic above plus:ii) Additional Conditions [Rule 902(b)(2)(i)-(iii)]:
(1)Compliance Period 40-Days [Rule 903(b)(2)(ii)]: Category 2 issuers are subject to additional restrictionson offers and sales “if made prior to the expiration of a 40-day distribution compliance period.”
(a) Beginning the “Compliance Period” [Rule 902(f)]: Compliance period begins at the
later of either (1)
when securities are first offered to persons other than distributors or (2) the date of the closing of the
offering.(i)Unsold Allotments [Rule 902(f)(1)]: The sale of unsold allotments will always count as being
distributed during the compliance period.(ii)Shelf Registration Offerings [Rule 902(f)(2)-(3)]: In continuous offerings, distribution period
commences upon completion of the distribution, as determined by the managing underwriter;
however, if it is a continuous offering for non-convertible debt sold in identifiable tranches,
compliance period begins upon completion of the distribution of the tranche.43
e)(b) Restrictions During the Compliance Period :(i)No Offers or Sales to U.S. Persons [Rule 903(b)(2)(ii)]: Provides that offers or sales during the
distribution compliance period must not be “made to U.S. person [Rule 902(k)] or for the account
or benefit of a U.S. person (other than a distributor).”(ii)Notification to Distributors, Dealers, and Sellers [Rule 902(b)(2)(iii)]: Each distributor selling to
a distributor, dealer, or a person receiving a selling fee sends a confirmation or notice to the
purchaser notifying them of the compliance period restrictions.(2)Offering Restrictions Implemented [Rule 903(b)(2)(i)]: In addition, offering restrictions [Rule 902(g)]
must be implemented.(a) Distributor Agreement [Rule 902(g)(1)]: Each distributor must agree in writing that (i) all offers/sales of
securities during the distribution compliance period, shall be made in accordance with Reg. S,
registered, or subject to another exemption; and (ii) for domestic issuers’ equity securities, distributors
will not engage in hedging transactions during the distribution compliance period.(b) Offering Materials Specify Restrictions [Rule 902(g)(2)]: All offering materials other than press
materials used in connection with offers and sales shall state that the securities may not be offered/sold
in the U.S. or to U.S. persons (other than distributors), unless registered or exempt.(i)Location: Can appear on cover or inside cover page of prospectus, offering circular, in the
underwriting section of a prospectus or offering circular, or in ry 3 Issuers [Rule 903(b)(3)]i) Eligibility for Category 3 : Category 3 is the catchall that all Issuers that are ineligible for either Category 1 or
Category 2 fall ) Additional Conditions :(1)General Conditions:(a) Offering Restrictions Implemented [Rule 903(b)(3)(i)]: In addition, offering restrictions [Rule 902(g)]
must be implemented.(i)Distributor Agreement [Rule 902(g)(1)]: Each distributor must agree in writing that (i) all
offers/sales of securities during the distribution compliance period, shall be made in accordance
with Reg. S, registered, or subject to another exemption; and (ii) for domestic issuers’ equity
securities, distributors will not engage in hedging transactions during the distribution compliance
period.(ii)Offering Materials Specify Restrictions [Rule 902(g)(2)]: All offering materials other than press
materials used in connection with offers and sales shall state that the securities may not be
offered/sold in the U.S. or to U.S. persons (other than distributors), unless registered or on: Can appear on cover or inside cover page of prospectus, offering circular, in the
underwriting section of a prospectus or offering circular, or in advertisements.(b) Notice Confirmation [Rule 902(b)(3)(iv)]: Regardless of whether debt or equity, during the distribution
compliance period, the distributor selling securities to a distributor, dealer, or seller, must notify the
purchaser that they are subject to the same restrictions.(2)Debt Offering Conditions 40-Day Compliance Period [Rule 903(b)(3)(ii)]: For debt offerings, there is a40-day compliance period, during which the securities are subject to two additional limitations.(a) No Offers or Sales to U.S. Persons [Rule 903(b)(3)(ii)(A)]: Any offers or sales made during the
compliance period are “not made to a U.S. person or for the account or benefit of a U.S. person (other
than a distributor).”(b) Temporary Global Security [Rule 903(b)(3)(ii)(B)]: Instead of issuing the actual debt security during the
40-day period, issue a “temporary global security,” which is exchangeable for the actual debt security at
the end of the compliance period, and in the case of a non-distributor buyer, not until the certification
of beneficial ownership of the securities by a non-U.S. person.(i)Note Bearing certification depends on US person v. Non-US person (see notes)(3)Equity Offering Conditions 1-Year/6-Month Compliance Period [Rule 903(b)(3)(iii)]: For equity
offerings, there is a one-year compliance period for non-reporting issuers and a six-month compliance periodfor reporting issuers, during which there are two additional limitations.(a) No Offers or Sales to U.S. Persons [Rule 903(b)(3)(iii)(A)]: Any offers or sales made during the
compliance period are “not made to a U.S. person or for the account or benefit of a U.S. person (other
than a distributor).”(b) Conditions for Sales During Compliance Period [Rule 903(b)(3)(iii)(B)]: In addition, sales made prior tothe expiration of the compliance period, if not registered, must comply with the following requirements:(i)Purchaser Certification [Rule 903(b)(3)(iii)(B)(1)]: Non-Distributor purchasers must certify that itis not a U.S. person and is not acquiring for the benefit or account of a U.S. Person.44
(ii)Purchaser Accepts Resale Limitations [Rule 903(b)(3)(iii)(B)(2)]: Purchaser agrees to sell in
accordance with Regulation S, a registration statement, or another exemption, and to not engage in
hedging unless in compliance with the act.(iii)Domestic Issuers Legend [Rule 903(b)(3)(iii)(B)(3)]: Domestic issuers agree to legend that transferis prohibited unless in compliance with Reg. S, a registration statement, or pursuant to an available
exemption.(iv)Issuer Contractually Obligated to Comply [Rule 903(b)(3)(iii)(B)(4)]: The issuer is required to
by either contract, in its bylaws, articles of incorporation, or otherwise to refuse to register any
transfer not made in accordance with Reg. S, a registration statement, or an otherwise available
exemption UNLESS such restrictions are impermissible under foreign law, in which case reasonableprocedures are in place to restrict transfers.f)Guaranteed Securities - 903(b)(4)i)If debt securities are fully and conditionally guaranteed as to both principal and interest by the parent of the
Issuer, only the requirements of (b) that are applicable to the offer/sale of the guarantee must be satisfied w/r/t
offers/sales of the guaranteed debt ts Offered under Category 2 + 3- 903(b)(5) (additional requirements)i)Legend: Each warrant must bear a legend stating that the warrant and its underlying securities are restricted;
andii)Exercise Limitation: Each person exercising a warrant is required to give:(1)Written certification that it is not a US person and it is not exercising for a US person; or(2)A written opinion-of-counsel that the warrant and the underlying securities have been registered or are
exempt from registration; andiii)Procedures are implemented to ensure that the warrant may not be exercised w/in the US, and that the
underlying securities may not be delivered w/in the US upon exercise, other than in: (1) offerings deemed to meetthe definition of “offshore transaction”, 904(h), (2) registered offerings, or (3) exempt offerings.g)45
Integration of Issuer Exemptions1) Introduction :a)Summary of Issuer Exemptions: Integration is only an issue with the Issuer exemptions, as the Issuer and Issuer
alone controls the rate at which other offerings are undertaken. The reseller exemptions also have caps; however,
raises different concerns.i) Private Placement Exemptions : (1)
Sec. Act § 4(a)(2), (2) Rule 506, and (3) Sec. Act § 4(a)(5)-(6)ii) Limited Offering Exemptions : (1) Rule 504, (2) Rule 505, (3) Rule 701, and (4) Reg. A ) Intrastate Offering Exemption : (1) Sec. Act § 3(a)(11) and (2) Rule 147iv) Exchange Offering Exemptions : Sec. Act § 3(a)(9)b)Requires all Conditions Satisfied: In general, each exemption requires that all of the conditions placed be satisfied
for the entire offering. Therefore, if two separate offerings are integrated into a single offering, then it could result in
the loss of one, both, or none of the exemptions.2) Five Factor Test : In the absence of a clear non-integration safe harbor, will need to do a regular five-factor analysis to
determine whether to integrate. Look at:a)Are the offerings part of a single plan of financing?b)Do the offerings involve issuance of the same class of securities?c)Are the offerings made at or about the same time?d)Is the same type of consideration to be received?e)Are the offerings made for the same general purpose?3) Sec. Act § 4(a)(2) Integration Rules :a)Generally Five Factors [Release 4552]: In general, concept of “issue” is read into this exemption, so SEC has
clarified that the general five-factor test governs whether to integrate.b)Rule 152—Completed Private Placement Public Offering: Clarifies that private placements will not be
integrated if “subsequently thereto” the issuer decides to make a public offering.i)Black Box, Inc. No Action Letter: Clarified that “subsequent thereto” means after a binding commitment. If
renegotiations take place after the initiation of the public offering, then it is not subsequent and therefore will
have problems.c)Rule 155(b)—Abandoned Private Public Offering: Abandoned private placement will not be integrated with a
subsequent public offering, provided that—i)No Private Sales [Rule 155(b)(1)]: No securities were sold in the private )Offering Activity Terminated [Rule 155(b)(2)]: Issuer terminates all offering activity before filing the
Registration )Mentioned in Prospectus [Rule 155(b)(3)]: Requires the Sec. Act. § 10(a) final prospectus and all preliminary
prospectuses to include information about the abandoned filing.(1) Necessary : (1) The size/nature of the offering [Rule 155(b)(3)(i)]; (2) the date on which the issuer abandonedthe private offering [Rule 155(b)(3)(ii)]; (3) that all offers were rejected or otherwise not accepted [Rule
155(b)(3)(iii)]; and (4) that the Prospectus for the registered offering supersedes any materials used in the
private offering [Rule 155(b)(3)(iv)].iv)Cooling Off Period [Rule 155(b)(4)]: Issuer must not file the registration statement until at least 30-days after thetermination of all offering activity.(1) Exceptions [Rule 155(b)(4)(i)-(ii)]: The cooling off period does not apply if the Issuer had only made offers
to (1) Accredited Investors under Rule 501(a) or (2) sophisticated investors under Rule 506(b)(2)(ii).d)Rule 155(c)—Abandoned Public
Private Offering: Abandoned public offerings will not be integrated with a
subsequent public offering, provided that—i)No Registered Sales [Rule 155(c)(1)]: No securities were sold in the registered )Withdraws Registration Statement [Rule 155(c)(1)]: The Issuer withdraws the Registration Statement under
Rule )Cooling Off Period [Rule 155(c)(3)]: The Issuer does not commence the private offering until after 30-days afterthe effective date of withdrawal under Rule 477.(1) Exceptions : NONE. Unlike the Private Public under Rule 155, there are no exceptions to the cooling off
period for Public )Issuer Notifications [Rule 155(c)(4)]: The Issuer must notify each Offeree that the offering is a private
placement, and what that means.(1) Necessary : (1) That the offering is not registered [Rule 155(c)(4)(i)]; (2) that the securities will be “restricted
securities” as defined in Rule 144(a)(3) and therefore may not be resold unless registered/exempt [Rule
46
4)5)6)7)8)155(c)(4)(ii)]; (3) Purchasers of private offerings do not have protections of Section 11 [Rule 155(c)(4)(iii)];
(4) Issuer has withdrawn from registered offering and the effective date of withdrawal [Rule 155(c)(4)(iv)].v)Material Changes [Rule 155(c)(5)]: Any disclosure document used in the private offering must disclose any
changes in the issuer’s business/financial condition that occurred after the filing of the Registration Statement thatare material to the investment decision in the private offering. Regulation D Integration Rules :a)Prior Offerings Clean Six Month Safe Harbor [Rule 502(a)]: Provides that offerings taking place six months
before the Reg. D offering will not be integrated into the same offering. If there are any offers or sales that take place
during this period, the six month waiting period is reset.i) Prior within Six Months Five Factors : If within the prior six months there was another offering, need to
conduct the normal Five Factor analysis.b)Subsequent Offerings Clean Six Month Safe Harbor [Rule 502(a)]: Provides that offerings taking place six
months before the Reg. D offering will not be integrated into the same offering. If there are any offers or sales that
take place during this period, the six month waiting period is reset.i) Subsequent within Six Months Five Factors : If within the subsequent six months there was another offering,
need to conduct the normal Five Factor analysis.c)Rule 506 Only Safe Harbors: Rule 506 is a private placement within the meaning of Rule 152 and Rule 155, so thereis a non-integration safe harbor for public offerings. Regulation A Integration Rules :a)Prior Offerings NEVER INTEGRATED [Rule 251(c)]: Provides a two-way safe harbor against integration for
offerings taking place before the Reg. A offering.b)Subsequent Offerings Maybe Integrated [Rule 251(c)]: Does not provide same categorical exclusion.i) Six Month Safe Harbor : Provides for non-integration with any offering that takes place more than six months
afterwards.(1) Dirty Permitted : You may have additional offers/sales during this six month period and it will not reset the
six months unless those offers themselves would be integrated under the general five factor ) Rule 701/Regulation S Offerings : Provides that will never integrate with these offerings. Intrastate Offering Integration Rules :a)Prior Offerings
Clean Six Month Safe Harbor [Rule 147(b)(2)]: Provides that offerings taking place six months
before the Intrastate Offering will not be integrated into the same offering. If there are any offers or sales that take
place during this period, the six month waiting period is reset.i) Prior within Six Months Five Factors : If within the prior six months there was another offering, need to
conduct the normal Five Factor analysis.b)Subsequent Offerings
Clean Six Month Safe Harbor [Rule 502(a)]: Provides that offerings taking place six
months before the Intrastate Offering will not be integrated into the same offering. If there are any offers or sales that
take place during this period, the six month waiting period is reset.i) Subsequent
within Six Months Five Factors : If within the subsequent six months there was another offering,
need to conduct the normal Five Factor analysis. Rule 701 Integration Rules :a)Generally NEVER INTEGRATED [Rule 701(f)]: Under Rule 701(f), there is a two-way safe harbor for Rule 701
offerings. Therefore, there Rule 701 will never be (a) busted by or (b) bust another offering. Regulation S Offerings :a)Generally NEVER INTEGRATED [Release 6863]: Release clarified that an extraterritorial offering can be
conducted alongside “directed selling efforts” in the U.S. that are either registered or exempt, and it will not integrate.47
Safe Harbors for Resellers
1)Broker-Dealer Exemptions:a) Sec. Act § 4(a)(3) : Same analysis as Ralston Purina under Sec. Act § 4(a)(2) Private Placement (i.e. if there is no
“public offering” then there is not a “distribution” and therefore none of the blackout periods are implicated).b) Sec. Act § 4(a)(4) : Was this an unsolicited transaction merely executed by the broker-dealer?c) Rule 144A : Was this a resale of (1) non-fungible securities (2) sold to Qualified Institutional Buyers (QIBs) or personsthat the issuer reasonably believed were QIBs, and (3) where all offerees were notified of “restricted” status of the
securities?i)Note: Also, if the issuer is non-reporting then there is a disclosure obligation. Also, can purchase here with a
view to distribution.d) Rule 901-904 : Was this resale either something that falls under the general catchall of Rule 901 or the safe harbor of
Rule 904?i)General Conditions Offshore Transaction & No Directed Selling Efforts: Again, need to comply with
these rules [Remember: Offshore transaction has a different definition under Rule 904 than Rule 903].ii)Broker-Dealer Conditions Compliance Period: Also, when it is a broker-dealer, then remember that there
are additional limitations in that they must comply with relevant compliance period.2)“Everyone Else” Exemptions:a) Exempt Securities [Sec. Act § 3(a)(2)-(8)]: First, consider whether the securities could be colorably claimed under anyof the exempt security provisions in Sec. Act § 3(a)(2)-(8).b) Sec. Act § 4(a)(1) : Same analysis as Ralston Purina.c) Rule 144 : Did this resale satisfy the conditions of Rule 144?i)Affiliate All Conditions: Remember, affiliates are subject to all of the conditions.(1) Requirements : (1) Current Information, (2) Sales Caps, (3) Holding Period, (4) Manner of Resale, (5)
Disclosure document (if above threshold sales), )Non-Affiliate Holding Period + Info: If they are non-affiliates, then only subject to either a six month
holding period if reporting (where current info is required for sales until after one-year), or a one-year holding
period if non-reporting (where current info is not required).d) Rule 144A : Same as a broker-dealer Rule 144A exempt resale.
e) Rule 901 & 904 : Same general conditions as Broker-Dealer.i)Affiliates: If the reseller is an “affiliate” by virtue of their insider status, cannot receive more than general
broker’s48
Statutory Analysis: Sections 4(a)(1) and 4(a)(3)-(4)1) Introduction :a)Only for Sales by Purchasers: Importantly, these exemptions are transactional exemptions for resales. As such, will
need to have an Issuer transactional exemption in order for the prior transaction to be covered (likely private
placement).2) Sec. Act § 4(a)(1) Underwriter Analysis :a)Introduction: This provision exempts transactions not involving an “Issuer, Underwriter or Dealer” (DUI) from
registration. The common purchaser may not be an “underwriter” in the traditional sense, there is the possibility that,
based on a purchaser’s conduct, they may be viewed as an “underwriter.” This would then make the purchaser unable
to use Sec. Act § 4(a)(1) to cover their resales.i) Underwriter Definition : The distribution concern for Sec. Act § 4(a)(1) is that the term “underwriter” is defined inSec. Act § 2(a)(11) to include “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.”
(1)Special Issuer Definition [Sec. Act § 2(a)(11)]: In addition, the term “issuer” in Sec. Act § 2(a)(11) does notmean just the Issuer as defined in Sec. Act § 2(a)(4), as it also includes “any person directly or indirectly
controlling or controlled by the issuer, or any person under direct or indirect control with such issuer.”(2)Control Definition [Rule 405]: Control entails the “possession, direct or indirect, of the power to direct or
cause the direction of the management and policies of a person.” Given the focus on possession, the party
need not actually exercise the control.(3)Concern Revealed: Given the expansive meaning of “issuer,” it is possible that not only the initial purchasercould be deemed an underwriter, but also that the first or second purchasers might be viewed as issuers, and
therefore a subsequent purchaser could fall under the “underwriter” definition.(a) Example : I Sec. Act § 4(a)(2) P1 Sec. Act § 4(a)(1) P2 Sec. Act § 4(a)(1) P3(i)If P1 were deemed to be “controlled” by I, then P1 would be a Sec. Act § 2(a)(11) “issuer,” and
therefore P2 could be deemed to be “purchasing” from an “issuer” with a view to “distribution”
given that there was a sale to P3.b)Tests for Underwriter: Under the statutory analysis of Sec. Act § 4(a)(1), there are two tests for determining whethera purchaser is an “underwriter.”i) Distribution Analysis (4 1 ½): First, a reseller might be deemed not to be an “underwriter” because there was not
a “distribution,” and therefore the reseller could not be said to have participated in one.(1)Distribution Ralston Purina Public Offering: In determining whether there was a requisite
“distribution,” courts have “borrowed” the Sec. Act § 4(a)(2) private placement analysis, as articulated in
Ralston Purina. Under this so called “Sec. Act § 4(a)(1 ½)” analysis, a distribution does not occur where
there was a preexisting relationship with all offerees, which enabled the seller to determine the sophisticationof the offerees, and furthermore all offerees were provided adequate information regarding the security.
Gilligan, Will & Co. v. SEC – The “Adoption” Case [Page 507](a)Was there purchasing and general solicitation or was just resales to persons with preexisting
relationships? There is no distribution where you’re just selling to people with soph. and access2(b) Quote : “Distribution is not defined in the Act. It has been held, however, to comprise ‘the entire process
by which in the course of a public offering the block of securities is dispersed and ultimately comes to
rest in the hands of the investing public.’” [In re Ira Haupt & Co.](2)Aggregation across Resellers (to determine distribution): In determining whether there was such a
distribution, each reseller is not viewed in isolation, but instead courts review the conduct across resellers to
determine whether there was a public offering. Gilligan, Will & Co. v. SEC – The “Adoption” Case [Page
507](3)Restrict Securities as Solution: Note, that both the Issuer and the purchaser have an incentive for this not to
be deemed as a distribution, as if it is, the underwriter loses the Sec. Act § 4(a)(1) exemption and the Issuer
loses the Sec. Act § 4(a)(2) private placement. Therefore, there is an incentive to restrict the securities, so as
to decrease likelihood of there being a distribution (i.e. place legend, put conditions on resales, issue stop
orders).ii) Motive Analysis Test (buying with a view towards distribution)
Length of Holding Period : Second, a reseller
may be deemed an underwriter if, based on the length that the security was held, the reseller satisfies that when it
purchased, it did so with the intent to invest in the security rather than distribute it. That is, even if there were a
distribution, if the reseller is deemed to have acquired the security for investment rather than to distribute, the
reseller will not be deemed an underwriter.(1)Intent Objectively Determined: The determination of a reseller’s intent is determined based objectively
on their actual conduct, rather than their subjective intent in purchasing.49
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