Investment advisers vs broker-dealersWhen managing investments and strategies for personal financial goals, retail investors often seek guidance from their investment advisers, and on an increasing basis, from their broker-dealers.  Broker-dealers and investment advisers are regulated extensively, but the regulatory requirements differ.  Broker-dealers and investment advisers are also subject to different standards under federal law when providing investment advice about securities.

The Investment Advisers Act of 1940 regulates specified financial professions, including financial planners, money managers, and investment consultants.  Under the Advisers Act, an investment adviser is any person who, for compensation, is engaged in a business of providing advice to others or issuing reports or analyses regarding securities.  With regard to the required standard of care applied to investment advisers when providing advice to their clients, applicable case law requires a fiduciary standard which, essentially, requires that the advisor put the client’s interests first, ahead of his or her own interest.

The Securities Exchange Act of 1934 and its implementing rules comprise the most central regulatory apparatus for broker-dealers. The Exchange Act defines a broker as a “person engaged in the business of effecting transactions in securities for the account of others,” while a dealer is a “person engaged in the business of buying and selling securities for his own account.” In comparison to the fiduciary obligation of an investment advisor, broker-dealers currently have a less stringent “suitability standard” that requires that investment products they sell fit an investor’s financial needs and risk profile.

Under the Investment Advisers Act, registered broker-dealers are excluded from its terms so long as Continue Reading Uniform fiduciary standard for broker-dealers and investment advisers? Proceed with caution!

Avoid 506 Offering TrapsAs we previously blogged about, the SEC finally adopted final rules to remove the ban on general solicitation and advertising in Rule 506 offerings.  The removal of the ban is a huge change in the way private offerings may be conducted and welcome relief to the thousands of issuers each year who have tapped out their “friends and family,” but yet are too small to attract private equity funds.  With these new changes, however, bring challenges in making sure you conduct a “new” Rule 506 offering (a/k/a Rule 506(c) offering) correctly.

So, with the caveat that best practices are still being developed for Rule 506(c) offerings and issuers and attorneys are still parsing through the new rules, here are five potential pitfalls to avoid:

1.         Being too lenient as to reasonable steps.  Beginning in mid-September, Rule 506(c) offerings will allow general solicitation and advertising as long as you sell securities only to accredited investors and take reasonable steps to verify that the purchasers are accredited.  Issuers are faced with the prospect of defining for themselves what “reasonable steps” are.  That is good and bad.  What issuers can’t do is simply take the easy way out – issuers bear the burden of proving that its offering qualifies for a registration exemption.  The final rules release from the SEC gives a lot of suggestions about what reasonable steps could entail, but each case is fact and circumstance based.  You should also note that the traditional method of self-certification won’t cut it for purposes of Rule 506(c).  Fortunately, the SEC also provided four specific “safe harbors” that are each deemed to be reasonable steps: Continue Reading Avoiding five potential traps in “new” Rule 506 offerings

Advertising rules may still limit selling securitiesAlthough the SEC recently finalized rules that will remove the ban on general solicitation and advertising for certain private offerings under Rule 506 of Regulation D, it does not mean that issuers will have free reign and complete discretion over their use of advertisements. That is, issuers looking to locate potential investors through advertising after the new rules become effective in September may still be subject to other laws that will restrict the manner in which they advertise or solicit investments.

For example as Keith Bishop over at the California Corporate & Securities Law Blog points out in a recent post that certain other state laws may be implicated with these types of advertisements. According to the post, in California, Rule 260.302 of the California Code of Regulations states, in part, that:

 An advertisement should not contain any statement or inference that an investment in the security is safe, or that continuation of earnings or dividends is assured, or that failure, loss, or default is impossible or unlikely.”

Thus, it is possible that states could use advertising laws and regulations to regulate, to some extent, private offerings under the new Rule 506. However, the question remains, as to how far these types of state laws and regulations can go? The answer to this question is Continue Reading Removal of ban on general solicitation and advertising won’t be a license for issuers to say anything they want

Nominate The Securities Edge for Blawg 100Dear Readers,

The ABA Journal is soliciting nominations for law blogs to include in their 7th Annual Blawg 100.   Essentially, the American Bar Association puts together a list each year to honor the legal blogs that have the most impact.  If you like what you read on our blog, we are asking you to consider nominating The Securities Edge for inclusion in this year’s list.

We think we have had a great two year run so far.  If you agree, use the form here to nominate us.  It only takes about a minute.  Nominations are due no later than 7 p.m. ET on Friday, Aug. 9, 2013.

Thanks for your support!

 

 

506 offerings to raise moneyThe SEC issued Final Rules last week that effectively eliminate the ban on the use of general solicitation and general advertising in connection with certain securities offerings performed under Rule 506 of Regulation D. This is a major shift that will allow issuers to use general solicitation and advertising to promote certain private securities offerings. Rule 506 is widely used by many startup and early stage companies to provide a safe harbor from registration under the 1933 Act. The elimination of this ban should have very positive effects for startup and early stage companies. Hopefully it will facilitate capital raising for these companies and thus begin to allow some of the long-awaited positive impacts that we all expected from the JOBS Act. These Final Rules will become effective in mid-September of this year.

The SEC also issued a Press Release and a Fact Sheet that contain helpful information on the Final Rules.

These Final Rules provide amendments to Rule 506 and Rule 144A under the 1933 Act. I will focus on the Rule 506 amendments since they are most relevant to startup and early stage company financing situations. These Rule 506 amendments allow an issuer to engage in general solicitation and advertising in connection with the offering and sale of securities under Rule 506 provided that all purchasers of the securities are accredited investors under the Rule 501 standards and that the issuer takes “reasonable steps” to verify each investor’s accredited investor status. The Rule 506 amendments provide a non-exclusive list of methods that issuers can use to verify the accredited investor status of natural persons. These amendments also amend Form D to require issuers to tell the SEC whether they are relying on the provision that permits general solicitation and advertising in a Rule 506 offering. The Final Rules also contain some very interesting economic and statistical data on Rule 506 offerings and participation by accredited investors.

In a related development, the SEC issued a Final Rule on July 10, 2013 that amended Continue Reading By removing ban on general solicitation SEC finally moves the JOBS Act forward

Foreign Corrupt Practices Act (FCPA)The Foreign Corrupt Practices Act (“FCPA”), enacted to deter bribery and other corrupt practices in the conduct of international business, originally claimed jurisdiction over U.S. companies and individuals who used the mail or other instrumentalities of interstate commerce to further a bribe.  A 1998 amendment, however, expanded the FCPA’s jurisdictional reach to include, among others, “issuers” of securities listed on U.S. exchanges (including foreign companies so listed).  Thus, as businesses strategize to capitalize on the increasingly global market, those with securities issued in the United States must make sure to stay in compliance with the FCPA.  If companies like Walmart, Ralph Lauren and Tyco International weren’t doing so before, they certainly are now.

So what is the FCPA and what conduct does it proscribe? Well, the FCPA has two separate and distinct prohibitions.  First, the FCPA’s “anti-bribery provisions” prohibit the offer, promise, or payment of “anything of value” to a “foreign official” in order to “obtain or retain business.” Importantly, the FCPA covers payments to consults, agents, and any other intermediaries or representatives when the party making the payment knows, or has reason to believe, that some part of the payment will be used to bribe or influence a foreign official.

Second, the FCPA’s “books and records” provision imposes affirmative duties on issuers to maintain accurate books and a system of internal controls, and prohibits behavior intended to conceal an issuer’s lack of compliance with these duties.  Essentially, issuers must maintain books that accurately and fairly reflect their transactions and disposition of assets, and must have internal accounting controls adequate to provide reasonable assurance of the integrity of the company’s financial systems and its disclosures.

In the last few years, FCPA enforcement has been on the rise as the SEC and the Department of Justice (“DOJ”), the agencies charged with enforcing the FCPA, have Continue Reading Continued increased enforcement of Foreign Corrupt Practices Act (FCPA) shift toward financial services industry

Will the SEC be eliminating the XBRL requirement?It has been four years since XBRL became a four letter word to issuers and nearly eight years since the SEC introduced the concept to issuers, yet XBRL hasn’t fulfilled the SEC’s prediction of XBRL increasing the “speed, accuracy and usability of financial disclosure.”  Largely, the reason for the failed prediction is that many potential users haven’t yet discovered the “usefulness” of XBRL.  Eight years, however, seems like plenty of time for the usefulness of XBRL to catch on.  Given that investors and analysts aren’t using the XBRL data, isn’t it time for the SEC to waive the white flag and eliminate the XBRL filing requirement?

XBRL, of course, was the SEC’s way of racing into the 21st Century.  With high hopes in 2004, then-SEC Chair William Donaldson initiated a study to see how interactive data could benefit the Commission and investors.  In the final rule release, the Commission noted potential benefits such as more financial information being available to investors; less costly and more timely financial information; fewer errors; and increased comparability and interpretation of financial data.  While these benefits have been largely unrealized, the expected costs incurred by issuers have been realized.  Given the ability to look at the XBRL mandate now with real cost and benefit data, it seems that the Commission should re-evaluate the original mandate.

In the meantime, XBRL may be remembered by us in the same vein as Betamax and the Laserdisc – great technology that just never caught on.  Of course, the only difference between failed Continue Reading Time to throw XBRL in the trash bin?

With newer methods to communicate and interact with the so-called social network popping up on almost a daily basis, securities regulators have been giving more and more attention to social media and how companies and certain regulated professionals are employing it. As we discussed in a previous blog, the SEC has signed off on public companies utilizing social media for disclosure purposes, provided that, among other things, companies disclose to investors the types of social media outlets they will employ for such purposes. The SEC has issued guidance on the use of social media by public companies for Regulation FD and other disclosure purposes, which can be found in this SEC Press Release and in the SEC’s report on its investigation of the Facebook postings made by Netflix’s CEO.

Now it appears that social media is gaining the attention of FINRA as well, the primary self-regulatory organization for registered broker-dealers. As reported in a recent article on CNN, FINRA wants state privacy laws to provide exemptions for registered broker-dealer firms that would permit such firms to access Facebook and other social media accounts of their associated persons (i.e., stockbrokers). Because of the prominence and proliferation of Facebook and the personal or sensitive nature of the information contained on an individual’s Facebook page and other social media accounts, state legislatures have proactively enacted legislation that prevent or restrict companies from monitoring employees through social media. According to the National Conference on State Legislatures, six states enacted legislation in 2012 that prohibits employers from requesting or requiring an employee, student or applicant to disclose a user name or password for a personal social media account.

FINRA is concerned, however, that prohibiting access to employee social media accounts may affect a registered broker-dealer’s ability to fully comply with its mandated supervisory duties under federal laws and regulations. For example, registered broker-dealers are required to maintain copies of all “business communications” as discussed in guidance issued by FINRA in Regulatory Notice 11-39. Under Rule 17a-4(b)(4) of the Exchange Act, “business communication” includes “[o]riginals of all communications received and copies of all communications sent (and any approvals thereof) by the member, broker or dealer (including inter-office memoranda and communications) relating to its business as such, including all communications which are subject to rules of a self-regulatory organization of which the member, broker or dealer is a member regarding communications with the public.” Thus, if a stockbroker is using social media to Continue Reading Social media and brokers: FINRA wants broker-dealers to be “friends” with their employees

Nasdaq pays record fine for Facebook IPOMay 29, 2013 was a bad day at the office for The Nasdaq Stock Market, LLC as it agreed to pay a $10 million fine to settle allegations arising from the troubled May 18, 2012 Facebook IPO. This payment was announced by the SEC in a press release which was highly critical of Nasdaq management and its role in this IPO. This was the largest fine ever assessed against an exchange. This fine was a clear message to the securities exchanges to focus on their systems and processes and ensure that they are ready to successfully run transactions like the Facebook IPO. 

The SEC also issued an Administrative Order that describes the Facebook IPO and Nasdaq’s mistakes and securities law violations in detail. The Order also describes several instances where Nasdaq violated its own policies during the IPO. It is clear from this Order that the SEC is angry about the problems with the Facebook IPO and that it holds Nasdaq management responsible. The SEC is very concerned with future offerings and the ability of exchanges to manage them as the size, velocity and complexity of the offerings continues to increase. The SEC confirms that it is the responsibility of an exchange’s management to anticipate the problems that occur in these offerings and to have systems in place that can handle them. It is no longer sufficient to blame these problems on “technical glitches”, especially when so much money and credibility are at stake. The Order also censured Nasdaq and its affiliate, Nasdaq Execution Services, LLC. Matt Phillips has a nice summary of these Facebook IPO problems and the SEC Order on his blog. 

The Nasdaq’s actions before and during the Facebook IPO have been roundly criticized by commentators and industry experts and now by the SEC. Nasdaq management conducted system tests prior to the Facebook IPO, but the extent of these tests was woefully inadequate. They conducted tests using 40,000 orders, but almost 500,000 orders were waiting when the Nasdaq opened trading in Facebook stock. This huge volume of advance orders and the continuing high volume of orders quickly overwhelmed the exchange’s systems. In response to these numbers and panicked calls and emails from brokers (who apparently had no idea of how many shares they had purchased or their actual exposure), Nasdaq management held a “Code Blue” emergency call and made a few software adjustments which they thought would fix the problems. These adjustments did not work, however, and brokers continued to panic. Nasdaq management finally discovered that about 30,000 Facebook orders that had been placed earlier in the day had never been executed. Many of these shares were then sold into the open market, which depressed the stock price until brokers stepped in to help support it. Facebook shares were priced at $38.00 at the start of the IPO but closed that day at $38.23. This was a major disappointment, and the stock price has significantly retreated from that level. Facebook’s most recent price was Continue Reading The SEC gets tough – Nasdaq to pay record $10 million fine to settle Facebook IPO allegations

SEC Chair Mary Jo WhiteThe mission of the U.S. Securities and Exchange Commission (“SEC”) is to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation. This sounds great, but how does the SEC actually carry out its mission? The answer lies in the SEC’s oversight and regulation function of the key participants in the securities world, including securities exchanges, securities brokers and dealers, investment advisors, and mutual funds. A key player in how the SEC exercises this function is the SEC Chair, essentially, the SEC’s chief executive.

On April 10, 2013, the SEC announced the swearing in of Mary Jo White as the 31st Chair of the SEC. So who is Mary Jo White? White is a former federal prosecutor, specializing in complex securities and financial institution frauds and international terrorism cases from 1993-2002. After working as a prosecutor, White became a partner at Debevoise & Plimpton where she represented high-profile clients, including JPMorgan Chase & Co, former Bank of America Corp. CEO, Ken Lewis, UBS AG and accounting giant, Deloitte & Touche LLP.

So what’s not to like? The confirmation from the Senate came with little dissent: it voted unanimously in her favor, and its Banking Committee voted 21-1 in her favor. The one nagging criticism of White stems from her ability to effectively navigate conflicting interests. Essentially, some critics fear that her ties to Wall Street will cloud the SEC’s decision-making with respect to these institutions’ behavior during the 2007-09 financial crisis.

Importantly, because of White’s vast experience as both a federal prosecutor and Wall Street defense lawyer, she must, as SEC Chair, recuse herself from investigating former clients for at least a year. Notably, after defending JPMorgan Chase for its role in the financial crisis, for example, White could have to sit out an SEC investigation into the bank’s recent $6 billion trading loss.

Even without consideration of White’s association with Wall Street, she takes over at the SEC at a time of transition, and is faced with grave challenges. According to many, the SEC has been “stuck in a rut” since former SEC Chair, Mary Schapiro, resigned in December of 2012, leaving the SEC’s five-member panel divided between two Democrats and two Republicans.  But White is starting to make changes.  Recently, she appointed Keith Higgins as the new Director of Corporation Finance and appointed acting director, Lona Nallengara, as SEC chief of staff.  Also, President Obama nominated two U.S. Senate aides to replace Continue Reading New SEC Chair: Mary Jo White