Securities Regulation

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Congratulations to Eric Chaffee, former BLPB contributing editor & friend of the blog, for taking over the Securities Law Prof Blog reins from Barbara Black.  Barbara has left some big shoes for Eric to fill, having single-handedly built the Securities Law Prof Blog into one of the staple blogs for business law folks, but if anyone is up to the task it’s Eric.  Make sure you add the Securities Law Prof Blog to your personal blogroll.

“Man grows used to everything, the scoundrel!” 
― Fyodor Dostoyevsky, Crime and Punishment

This week two articles caught my eye.  The New York Times’ Room for Debate feature presented conflicting views on the need to “prosecute executives for Wall Street crime.” My former colleague at UMKC Law School, Bill Black, has been a vocal critic of the Obama administration’s failure to prosecute executives for their actions during the most recent financial crisis, and recommended bolstering regulators to build cases that they can win. Professor Ellen Podgor argued that the laws have overcriminalized behavior in a business context, and that the “line between criminal activities and acceptable business judgments can be fuzzy.” She cited the thousands of criminal statutes and regulations and compared them to what she deems to be overbroad statutes such as RICO, mail and wire fraud, and penalties for making false statements. She worried about the potential for prosecutors to abuse their powers when individuals may not understand when they are breaking the law.

Charles Ferguson, director of the film “Inside Job,” likened the activity of some major financial executives to that of mobsters and argued that they have actually done more damage to the…

We live in a world where most working individuals have some retirement savings invested in the stock market.  The stock market funds, in part, college educations, and serve as the primary wealth accumulator for post-baby boom generations.  My parents—an elementary school teacher and a furniture salesman—lived in Midwestern frugality and invested their savings from the mid-80’s until 2006 when they pulled out of the market.  They retired early, comfortably (so I believe), and largely because of consistent gains in the stock market over a 30 year period.  The question is whether this story is repeatable as a viable outcome for working investors now. 

The Wall Street Journal ran a story on Monday “Stocks Regain Appeal” documenting the number of dollars flowing into markets from retail investors as well as the anecdotal confidence of investors.  The WSJ reports that:

“U.S. stock mutual funds have attracted more cash this year than they have in any year since 2004, according to fund-tracker Lipper. Investors have sent $76 billion into U.S. stock funds in 2013. From 2006 through 2012, they withdrew $451 billion.” 

This seems indisputably good right?  Maybe.  The real question for me is why is more money flowing into the…

The SEC’s crowdfunding proposal offers small, startup
businesses a new way to raise capital without triggering the expensive
registration requirements of the Securities Act of 1933. But the capital needs
of small businesses are often uncertain. They may need to raise money again
shortly after an exempted offering. Or they may want to sell securities pursuant
to another exemption at the same time they’re using the crowdfunding exemption.
How do other offerings affect the crowdfunding exemption? The proposed crowdfunding
rules are unexpectedly generous with respect to other offerings, but they still
contain pitfalls.

Other Securities Do Not Count
Against the $1 Million Crowdfunding Limit

The proposed rules make it clear that the crowdfunding
exemption’s $1 million limit is unaffected by securities sold outside the crowdfunding
exemption. As I explained in an earlier post, only securities sold pursuant to
the section 4(a)(6) crowdfunding exemption count against the limit.

Crowdfunding and the Integration Doctrine

But the integration doctrine, the curse of every securities
lawyer, poses problems beyond determining the offering amount.

Briefly, the integration doctrine defines what constitutes a
single offering for purposes of the exemptions from registration. The Securities
Act exemptions are transactional; to avoid registration, the issuer must fit …

The Economist has an interesting piece on how “[a] mutation in the way companies are financed and managed will change the distribution of the wealth they create.”  You can read the entire article here.  A brief excerpt follows.

The new popularity of the [Master Limited Partnership] is part of a larger shift in the way businesses structure themselves that is changing how American capitalism works…. Collectively, distorporations such as the MLPs have a valuation on American markets in excess of $1 trillion. They represent 9% of the number of listed companies and in 2012 they paid out 10% of the dividends; but they took in 28% of the equity raised…. [The] beneficiaries, though, are a select class. Quirks in various investment and tax laws block or limit investing in pass-through structures by ordinary mutual funds, including the benchmark broad index funds, and by many institutions. The result is confusion and the exclusion of a large swathe of Americans from owning the companies hungriest for the capital the markets can provide, and thus from getting the best returns on offer….

Another booming pass-through structure is that of the “business development company” (BDC). These firms raise public equity and…

In 2011, I met with members of the SEC and Congressional staffers as part of a coalition of business people and lawyers raising concerns about the proposed Dodd-Frank whistleblower provision. Ten days after leaving my compliance officer position and prior to joining academia, I testified before a Congressional committee about the potential unintended consequences of the law. The so-called “bounty-hunter” law establishes that whistleblowers who provide original information to the SEC related to securities fraud or violations of the Foreign Corrupt Practices Act are eligible for ten to thirty percent of the amount of the recovery in any action in which the SEC levies sanctions in excess of $1 million dollars. The legislation also contains an anti-retaliation clause that expands the reach of Sarbanes-Oxley. Congress enacted the legislation to respond to the Bernard Madoff scandal. The SEC recently awarded $14 million dollars to one whistleblower. To learn more about the program, click here.

I argued, among other things, that the legislation assumed that all companies operate at the lowest levels of ethical behavior and instead provided incentives to bypass existing compliance programs when there are effective incentive structures within the existing Federal Sentencing Guidelines for Organizations.  Although they…

I support crowdfunded securities offerings, but I have criticized the crowdfunding exemption in the JOBS Act. I won’t repeat those criticisms here, but, after wading through the 585-page SEC rules proposal, I am happy to report that some (but not all) of the proposed rules would significantly improve the exemption.

1. The proposed rules clear up the statutory ambiguities relating to investment limits and the amount of the offering

Title III of the JOBS Act includes a number of ambiguities relating to the investment limits and the amount of the offering. The proposed rules clear up those ambiguities. I have already discussed this aspect of the proposed rules and won’t repeat that discussion here.

2. Both issuers and intermediaries can rely on information provided by investors to determine if the investment limits are met.

The amount that an investor may invest in a crowdfunded offering depends on that investor’s net worth and annual income and also on how much that investor has already invested in section 4(a)(6) offerings in the last 12 months. I have argued that crowdfunding issuers and intermediaries should not be required to verify these numbers–that investors should be able to self-certify.
I am happy to…

I have argued that, because of excessive regulatory costs, the new crowdfunding exemption in section 4(a)(6) of the Securities Act is unlikely to be as successful as hoped. (Rule 506(c) is another story; I expect that to be wildly successful.)

We now know what the SEC anticipates. Hidden deep within the SEC’s recent crowdfunding rules proposal is the Commission’s own estimate of the likely impact of the new exemption. (It’s on pp. 427-428, in the Paperwork Reduction Act discussion, if you want to look at it yourself.)

How Many Crowdfunded Offerings?

The SEC estimates that there will be 2,300 crowdfunded offerings a year once the new section 4(a)(6) exemption goes into effect, raising an average of $100,000 per offering. That’s a total of $230 million raised each year.

How Many Crowfunding Platforms?

The SEC estimates, “based, in part on current indications of interest” (p. 380) that 110 intermediaries will offer crowdfunding platforms for section 4(a)(6) offerings. Sixty of those will be operated by registered securities brokers and the other fifty will be operated by registered funding portals. (Non-brokers may act as crowdfunding intermediaries only if they register as funding portals.)

The Fight to Survive

If the SEC’s figures are correct…

I have a new article, Retirement Revolution: Unmitigated Risks in the Defined Contribution Society, which describes citizen shareholders–individual investors who enter the stock market through defined contribution plans–and examines the overlapping corporate and ERISA laws that govern their investments. 

If I haven’t lost you with the mention of ERISA, here’s an excerpt from the article:

A revolution in the retirement landscape over the last several decades shifted the predominant savings vehicle from traditional pensions (a defined benefit plan) to self-directed accounts like the 401(k) (a defined contribution plan) and has drastically changed how people invest in the stock market and why. The prevalence of self-directed, defined contribution plans has created our defined contribution society and a new class of investors — the citizen shareholders — who enter private securities market through self-directed retirement plans, invest for long-term savings goals and are predominantly indirect shareholders. With 90 million Americans invested in mutual funds, and nearly 75 million who do so through defined contribution plans, citizen shareholders are the fastest growing group of investors. Yet, citizen shareholders have the least protections despite conventional wisdom that corporate law and ERISA protections safeguard both these investors and their investments. As explained in an

…

CEOs and executives just can’t get a break in the news
lately.  A jury found both former Countrywide
executive Rebecca Mairone and Bank of America liable for fraud for
Countrywide’s “Hustle” loans in 2007 and 2008 (see
here). Martha Stewart has had to renegotiate her merchandising agreement
with JC Penney to avoid hearing what a judge will say about that side deal in
the lawsuit brought against her by Macy’s, with whom she purportedly had an
exclusive merchandising deal (see
here).  JP Morgan Chase is in talks
to pay $13 billion to settle with the Department of Justice over various
compliance-related failures, but the company still faces billions in claims
from angry shareholders. The company isn’t out of the woods yet in terms of potential
criminal liability (see
here). CEO Jamie Dimon isn’t personally accused of any wrongdoing, and in
fact has been instrumental in achieving the proposed settlements. But in the
past he has faced questions from institutional shareholders about his dual
roles as chair of the board and CEO. Those questions may come up again in the
2014 proxy season.

The Bank of America verdict and the recent JP Morgan Chase
settlement may herald a…