Chapter 11

following are test q's

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Types of prospectuses

-Statutory prospectus -Preliminary Prospectus -Mutual Fund Summary Prospectus -Free Writing Prospectus -Offering Memorandum (no prospectus)

Which of the following entities is considered an eligible purchaser for a Rule 147 offering? A. A corporation that has its principal office located in the state of the offering B. A partnership in which 90% of the partners are located in the state of the offering C. A trust that is organized for the specific purpose of purchasing the securities and is located in the state of the offering D. A qualified institutional buyer that has one of its offices located in the state of the offering

*A corporation that has its principal office located in the state of the offering* SEC Rule 147 covers an exemption from registration for the sale of securities on an intrastate basis. The issuer under Rule 147 is not allowed to sell the securities to a nonresident of the state. 100% of the purchasers must be residents of the state where the issuer is located. The purchaser may be an individual (who is a resident of the state), or a corporation, partnership, trust, or other business organization that has its principal office in the state. The business organization may not be formed for the specific purpose of purchasing the securities sold under this exemption.

A firm is the managing underwriter of a follow-on offering of a security that's listed on the NYSE. The aftermarket prospectus delivery rule: A. Does not require the firm to deliver a prospectus B. Requires the firm to deliver a prospectus for 25 days C. Requires the firm to deliver a prospectus for 40 days D. Requires the firm to deliver a prospectus for 90 days

*A. Does not require the firm to deliver a prospectus* If an issuer was subject to the reporting requirements of the Securities Exchange Act of 1934 prior to the filing of the registration statement, there's no aftermarket prospectus delivery requirement for dealers. An issuer that's listed on the NYSE or Nasdaq is required to file reports with the SEC (a reporting issuer). If the issuer was filing for an IPO (a non-reporting issuer) and the securities will be subsequently listed on the NYSE or Nasdaq, the firm is required to deliver a prospectus to any purchaser in the aftermarket within 25 days of the effective date.

Who is responsible for creating the official statement for a municipal bond offering? A. The issuer B. The bond counsel for the issuer C. The underwriting syndicate D. Bond counsel for the underwriting syndicate

*A. The issuer* Although assistance may be provided by others, the issuer is ultimately responsible for creating the official statement. If created, the underwriting syndicate is responsible for providing the official statement to investors who purchase the new offering

Who has the responsibility to investigate the accuracy of the information in a prospectus for a DPP? A. The managing underwriter B. FINRA C. The IRS D. The SEC

*A. The managing underwriter* The SEC reviews only the information in a prospectus. It never attests to its accuracy. The managing underwriter is responsible for investigating the accuracy of the information.

Which of the following securities are required to be registered under the Securities Act of 1933? A. Eurodollar bonds B. American Depository Receipts (ADRs) C. Municipal Securities D. Securities issued by the federal government

*American Depository Receipts* Securities that are sold to U.S. investors are generally required to be registered with the SEC. ADRs are a way for American investors to buy foreign stocks and, since ADRs are traded on U.S. exchanges, they need to be registered under the Act of 1933. Eurodollars are bonds that pays interest in U.S. dollars, but they're sold to foreign investors. As a result, they don't need to be registered with the SEC. Both municipal bonds and bonds that are issued by the U.S. government are exempt from registration with the SEC.

Which of the following securities is exempt from registration? A. Preferred stock B. Preemptive rights C. Government agency securities D. Treasury stock

*C. Government agency securities* U.S. government agency securities (e.g., GNMA, FNMA, FHLMC bonds) are exempt from registration under the Securities Act of 1933. Corporate securities that are to be sold publicly are typically required to be registered. Keep in mind, treasury stock is simply stock that was issued by a corporation which has since been repurchased by the corporation.

All of the following would be sold with a prospectus, EXCEPT: A. Mutual fund shares B. IPOs C. Municipal general obligation bonds D. New shares of stock offered to the public

*C. Municipal general obligation bonds* Municipal bonds are exempt from the registration requirements of the Securities Act of 1933. Therefore, a municipal issuer does not file a registration statement and prospectus with the SEC.

All of the following statements are TRUE concerning the underwriting of a new issue, EXCEPT: A. Some underwriting agreements include a clause that relieves the underwriter of his obligation if certain circumstances are not met B. The underwriting syndicate may engage in stabilization C. The preliminary prospectus (red herring) will contain all the relevant information including the final price of the issue in order to obtain indications of interest D. Members of the underwriting syndicate whose customers sell securities back to the manager of the syndicate during the underwriting period may be penalized

*C. The preliminary prospectus (red herring) will contain all the relevant information including the final price of the issue in order to obtain indications of interest* The rest are true

Which of the following statements is TRUE regarding the approval of an official statement? A. The SEC provides approval B. FINRA provides approval C. MSRB provides approval D. Official statements are not required to be approved by a regulator.

*D. Official statements are not required to be approved by a regulator.* Official statements are neither approved nor required by any regulator. However, if official statements are created, they must be distributed to purchasers.

preliminary prospectus (red herring)

*During the cooling-off period,* broker-dealers are able to send a condensed form of the registration statement to *potential buyers.* This document is referred to as the *preliminary prospectus or red herring*. The red herring has a statement on its cover page (in *red* writing) to indicate that a registration statement has been filed with the SEC, but has not yet been declared effective. Also, the final offering price is not included in the red herring; instead, it may indicate a *price range* (e.g., $14 to $17 per share). During the cooling-off period, underwriters *are* permitted to: --Discuss the issue (NOT allowed in pre-registration period) --Provide the red herring to potential purchasers --Record the names of persons that provide an indication of interest (the indications are non-binding for either party) During this period, underwriters are *NOT* permitted to: --Accept payment for the new issue in advance --Sell the new issue (since the deal is not effective and has not been priced)

Which of the following statements is NOT TRUE regarding a private placement? A. There is a limit to the number of nonaccredited investors who may purchase the securities B. The securities are exempt from registration C. Solicitation of investors may not be permitted D. It is usually a very liquid investment

*It is usually a very liquid investment* Private placements are exempt from registration requirements under the Securities Act of 1933. Generally, the number of nonaccredited investors permitted to purchase the securities is limited to 35. General solicitation (i.e., cold calling) of investors is normally not allowed. A disadvantage of buying securities issued in a private placement is that it is usually an illiquid investment.

Which document attests to the validity of a municipal bond issue? A. Registration statement B. Legal opinion C. Free writing prospectus (FWP) D. Prospectus

*Legal opinion* The legal opinion, which is written by a bond counsel, attests to the validity and tax status of a municipal bond offering.

which of the following would be subject to federal securities registration requirements? --private placement securities --GNMA securities -Mutual funds --Municipal bonds

*Mutual fund shares* would be subject to registration requirements at the state and federal level. The other securities are exempt from federal and state registration requirements. GNMA securities (U.S. government agency securities) and municipal securities are exempt securities. Private placements are exempt offerings.

For a competitive offering of municipal bonds, which document notifies potential bidders of the general features of the offering? A. Notice of sale B. Official statement C. Prospectus D. Legal opinion

*Notice of sale.* For a competitive offering of municipal bonds, the Notice of Sale is created by the issuer to provide potential bidders with information regarding the general characteristics of a proposed bond offering.

If an issuer intends to sell restricted stock under the provisions of Rule 144A, which of the following investors is permitted to make the purchase? A. QIBs B. Non-accredited investors who have already invested the restricted stock of the same issuer C. Institutional investors D. Accredited investors

*QIBs* Rule 144A permits the sale of restricted (i.e., unregistered) securities, but only if the sale is made to qualified institutional buyers (QIBs). On the other hand, institutional and accredited investors can buy unregistered shares from the issuer, but must do so through a Regulation D private placement.

standby agreements

*Syndicate agrees to buy any shares that are not purchased by existing stockholders in a rights offering.* If a corporation intends to sell additional shares, it may conduct a *preemptive rights offering* (as described in Chapter 3). In this offering, the current shareholders are given rights which provide them with the *opportunity to purchase additional shares at a small discount before the offering is made public.* However, *out of the fear* that a significant number of existing shareholders will choose to leave the rights *unsubscribed*, the issuer may arrange for a *standby underwriting*. In a standby underwriting arrangement, the *syndicate (in return for a fee) agrees to purchase any unsubscribed shares remaining after the rights offering*. Standby agreements are executed on a *firm-commitment basis.*

All of the following must be included in a preliminary prospectus according to the Securities Act of 1933, EXCEPT: A. A written statement on the left border of the preliminary prospectus (red herring) that states that the prospectus may be subject to changes B. The purpose for which the funds are being raised C. The final offering price D. The financial status and history of the company

*The final offering price* A preliminary prospectus (red herring) is issued to obtain indications of interest on a prospective new issue of securities. This document will have a written statement on it that states that the prospectus may be subject to change. This statement will be on the left border of the cover page. The red herring will state the purpose for which the funds are being raised as well as the financial history of the issuing company. The item that will not appear is the final offering price. Only a price range is provided.

Volume and holding-period restrictions do NOT apply to the resale of private placements when:

*The purchaser is a qualified institutional buyer* Under Rule 144A of the Securities Act of 1933, the owner of securities obtained through a private placement may resell those securities to a qualified institutional buyer (QIB) without the volume and holding-period restrictions of Rule 144. Qualified institutional buyers must have at least $100 million dollars of investable assets.

Which of the following choices would NOT be subject to the holding period restriction under Rule 144? A. Restricted stock acquired under an investment letter B. Restricted stock acquired under a stock option plan C. Control stock acquired under a private placement D. Control stock acquired through an open-market purchase

*control stock acquired through an open market purchase* There is a required holding period of six months for all restricted stock. Restricted stock is unregistered stock that was acquired as a result of a private placement. There is no required holding period for control stock. However, if an affiliate (control person) acquires stock as a result of a private placement, this stock would be considered restricted stock rather than control stock and would be subject to the holding period. Control stock acquired as a result of an open-market purchase is exempt from the holding period.

Aftermarket prospectus delivery requirement

*table in notebook* Although the delivery of a prospectus is typically a *primary market requirement,* depending on the type of company that's issuing the security, a dealer may be required to satisfy an aftermarket prospectus delivery requirement. The requirement differs based on: 1.) Whether the offering is an IPO or a follow-on, and 2.) Whether the company is/will be listed on an exchange (e.g., NYSE or Nasdaq) *OR* is an unlisted over-the-counter security that is/will be trading on the OTC Bulletin Board or Pink Marketplace Essentially, if more information is known about the offering or if the company is satisfying an exchange's listing standards, it will be required to provide a prospectus for a shorter period.

Three phases of the SEC Registration Process

1. The pre-registration period 2. The cooling-off (waiting) period 3. The post-effective period

Rule 147 and 147A

A federal registration exemption is available for securities that are sold within the borders of one state, provided the instruments of interstate commerce are not used to sell the securities. If a company is conducting an offering *and only selling its securities to its state residents,* the offering is *exempt from SEC or federal registration*. However, the issuer *IS* required to register the securities in the state in which it's being sold. Under Rule 147, an issuer is required to meet *one* of the following four requirements: --At least *80%* of its consolidated *gross revenues* are derived from the operation of a business or of real property that's located in the state or territory or from the rendering of services within the state or territory; --At least *80%* of its consolidated *assets* are located within the state or territory at the end of its most recent semi-annual fiscal period prior to the first offer of securities under the exemption; --At least *80%* of the *net proceeds* from the offering are intended to be used by the issuer, and are in fact used in connection with the operation of a business or of real property, the purchase of real property located in, or the rendering of services within the state or territory; or --A majority of the issuer's *employees* are based in the state or territory *Provisions include:* --The issuer must utilize a reasonable belief standard when determining the residency of the purchaser at the time the securities are sold. This standard is supported by the requirement that the issuer obtain a *written representation* from all *purchasers as to their residency.* --If the purchaser is a legal entity (e.g., a corporation, partnership, trust, or other form of business organization), residency is defined as the location where, at the time of the sale, the entity has its principal place of business. --*Resales* to persons who reside outside of the state in which the offering is conducted are restricted for a period of *six months* from the date of the sale by the issuer to the purchaser (formerly nine months). --A *legend requirement* applies in order to notify offerees and purchasers about the resale restriction.

Free Writing Prospectus

A free writing prospectus *(FWP)* is *any communication that doesn't meet the standards of a statutory prospectus*. Examples of free writing prospectuses include: -Press releases -E-mails or web pages -Preliminary or final term sheets -Video recordings (electronic road shows) -Various marketing materials These communications constitute an offer to sell or a solicitation to buy the securities that are related to a registered offering. *FWPs are generally filed with the SEC* and used after the formal registration statement has been filed.

Prospectus definition

According to the Securities Act of 1933, a prospectus is defined as *any notice, circular, advertisement, letter, or communication (whether written or broadcast on television or radio) that offers a security for sale.* Although this is a very broad definition, it includes an *exemption* if the information only identifies the security, the price, the name of the underwriters, and from whom a prospectus may be obtained. This type of advertisement is referred to as a *tombstone* and is used to provide information to potential investors and to suggest that they request a prospectus.

Registration Statement

According to the Securities Act of 1933, a registration statement must contain *detailed information about the issuer, its business, its owners, and its financial condition*. The required information includes: -The character of the issuer's business -A balance sheet created within 90 days prior to the filing of the registration statement -Financial statements that show profits and losses for the latest fiscal year and for the two preceding fiscal years -The amount of capitalization and use of the proceeds of the sale -Funds paid to affiliated persons or businesses of the issuer -Shareholdings of senior officers, directors, and underwriters, and identification of individuals who hold at least 10% of the company's securities Issuers are also required to prepare a *prospectus* for distribution to potential purchasers. The prospectus is essentially an abbreviated version of the registration statement.

actions by salespersons

After the effective date, the deal will be priced and syndicate members will be notified of their allocation of shares. The firm's registered representatives should then contact all clients who received a preliminary prospectus to determine if they have made a purchase decision. If the client acknowledges his interest and places an order, the *order is binding.* All broker-dealers are required to provide a final prospectus to purchasers in the *primary market.*

Municipal Bond Regulations (No SEC)

Although *municipal* securities are *exempt* from the registration and prospectus requirements of the Securities Act of 1933, their underwriting process follows many of the same guidelines that are used for corporate underwritings. The Municipal Securities Rulemaking Board (MSRB), which is the *self-regulatory organization (SRO) for firms that deal in municipal securities,* formulates the rules and regulations that relate to municipal underwritings. Remember, *even if a specific security is exempt from registration, the antifraud provisions of the Securities Act of 1933 apply to all securities.*

Private Investment in Public Equity (PIPE)

Although most private placements occur prior to the issuer's IPO, a PIPE offering is a *private placement that occurs after the IPO*. A broker-dealer assists an issuer by distributing *restricted (i.e., unregistered)* securities to a small group of accredited investors, such as *hedge funds.* These restricted securities are typically purchased at a *discount* to the issuer's publicly traded stock. Often PIPE investors hold the restricted securities for a *short period* and, upon registration, will then quickly resell them in the public marketplace.

the role of an underwriter/investment banker

An underwriter is a *broker-dealer* that helps corporations or municipalities that are interested in raising capital. When acting as an underwriter, an *investment banker* may *assume risk by buying the new issue from the issuing corporation and reselling it to the public.* The investment banking function brings together the issuer and potential buyers. The proceeds of these offerings may represent new funds to the issuer or they may be used to refinance its capital structure.

mini-maxi

Another variation of a best-efforts underwriting is the mini-maxi underwriting. With this form, there's a *minimum threshold of sales that must be met for the offering to avoid being cancelled.* However, once that minimum is met, *additional sales* may be made up to a specified maximum amount. For example, a corporation intends to sell $10,000,000 of stock. Based on the company's capital needs, it requires that at least 70% of the offering be sold. Therefore, a minimum of $7,000,000 of the stock must be sold or the entire issue will be cancelled. Once the minimum sales level has been satisfied, the underwriters will continue to sell the remaining securities ($3,000,000) without the risk that the offering will be cancelled.

Forming a Syndicate

As is often the case for corporate offerings, *broker-dealers will combine to form a syndicate with one firm acting as the syndicate manager (lead underwriter).* Since municipal issues are typically sold on a firm-commitment basis, firms that are asked to join the syndicate must be financially strong enough to absorb unsold bonds if there are problems distributing the issue.

State or Blue Sky Laws

As mentioned in an earlier chapter, in addition to satisfying SEC registration requirements,* issuers are required to comply with applicable state registration laws for the securities that they issue*. This process is conducted during the cooling-off period. State securities laws are established under the *Uniform Securities Act (USA)* and are often referred to as *Blue-Sky Laws.* The three methods of state securities registration are: 1. *Notification* (also referred to as *Filing*) - This method is not allowed in all states. Notification is used by larger issuers that are simply required to submit an application with the state Administrator requesting approval to offer securities in the state. 2. *Coordination* - This form is completed simultaneously with a federal registration that's filed under the Securities Act of 1933 and generally becomes effective at the same time. 3. *Qualification* - This method involves meeting the specific requirements of one state and becomes effective at the discretion of the state Administrator.

payments for market making

Broker-dealers that act as underwriters may also *choose to act as a market maker* for an issuer's securities in the secondary market. In this scenario, FINRA is concerned that issuers may compensate these firms to agree to act as market makers. Since issuers are not regulated by FINRA, the rule *prohibits* a FINRA member firm or any person who is employed by the member from *accepting any payment or other compensation (either directly or indirectly) from an issuer* of a security or any affiliate or promoter for: Publishing a quote (including indications of interest) Acting as a market maker in a security Submitting an application in connection with market-making activity The rule *doesn't* prohibit a member firm from accepting (1) payment for bona fide services, such as *investment banking (which includes underwriting fees*), and (2) reimbursement for registration fees that are paid to the SEC or a state regulator, or for listing fees that are imposed by an SRO.

exempt securities

Certain issuers are not required to register their securities with the SEC. For issuers that qualify for an exemption from registration, there's significant time and cost savings. The SEC has determined that the following securities are exempt from the registration and prospectus requirements of the Act of 1933: -*US government and US government agency* securities -*Municipal* securities -Securities issued by *non-profit* organizations -Short-term corporate debt instruments that have a maximum maturity of 270 days (e.g., *commercial paper*) -Securities issued by *domestic banks and trust companies* -Securities issued by *small business investment companies* Although these securities are *exempt from the registration and prospectus requirements* of the Securities Act of 1933, they remain subject to the Act's *anti-fraud provisions.*

shelf registration

Certain* issuers of existing publicly traded securities can utilize shelf registration which allows them to sell additional securities on either a delayed or continuous basis*. Shelf registration is allowed only for an amount that may reasonably be sold within *three years* after the initial date of registration. The advantage of the shelf registration method is that the issuer can complete all the necessary paperwork in advance and be prepared to market the shares to the public when conditions are the most favorable.

Which of the following statements is correct regarding official statements? A. They must be filed with the SEC. B. They must be filed with the FINRA. C. They may be found on the SEC's EDGAR system. D. They may be found on the MSRB's EMMA system.

D. They may be found on the MSRB's EMMA system.

Underwriting Documentation (municipal bonds)

Documents that might be utilized during a primary distribution of municipal bonds: --Notice of Sale --Legal Opinion --Official Statement --Official statement summary --New Issue Confirmations

the Pre-Registration (Pre-Filing) Period

During the pre-registration phase, an issuer prepares its registration statement (like a glorified prospectus, which they must include too as part of this). An *underwriter* will often assist the issuer during this process; however, the *underwriter may not yet discuss the new issue with its customers.* This is the point at which the *due diligence* process begins for the managing underwriter. When the registration statement is completed, the issuer files it with the SEC. The *date on which it's filed marks the end of the pre-registration period.*

New Issue Confirmations

Each customer who purchases a new issuance of municipal bonds must be provided with a final confirmation and a copy of the official statement by no later than the *settlement date.* For a *negotiated* sale, the following information must be disclosed to the customer either separately or included in the official statement: --The amount of the underwriting spread --The amount of any fee received by the broker-dealer for acting as agent for the issuer --The initial reoffering price for each maturity in the offering

Legal Opinion

Every municipal issue must be issued with a *legal opinion.* The legal opinion is written by a recognized bond counsel that's hired by the issuer to attest to the *validity and tax-exempt status of the bond issue.* Essentially, the legal opinion assures investors that the issuer has the *legal right to issue* the bonds.

Offering memorandum

For *private placements, no registration or prospectus is required to be filed with the SEC.* However, the issuer will provide a specific detailed written disclosure document to its purchasers. This document is referred to as an *offering memorandum* or *private placement memorandum (PPM).*

Syndicate letter/Underwriter agreement

For a *competitive sale*, as the manager forms the syndicate, it will invite other firms to participate by sending a syndicate letter which binds all of the members together. For a *negotiated sale*, the document is referred to as the *agreement among underwriters.*

No prospectus alterations

For a new issue, the prospectus is the primary source of information for most retail investors. This document may not be amended or altered in any way, *including highlighting, summarizing, or underlining relevant portions* of the document.

Determining the public offering price (POP)

For a primary offering, the *price is fixed* and will apply to all sales that are made to the public. To price an IPO, the underwriters will take various factors into account including *corporate earnings, dividend payouts, the prices of similar companies currently trading in the secondary markets, indications of interest, and current market conditions.* To price a *subsequent offering*, the underwriters normally price it at a *small discount* to the current market price of the existing shares.

accredited investor

For private placements, there's no restriction on the number of accredited investors. An accredited investor includes any of the following: --Financial institutions (e.g., banks), large tax-exempt plans, or private business development companies --Directors, executive officers, or general partners of the issuer Individuals who meet either one of the following criteria: --Have a net worth of at least $1,000,000 (not including primary residence) or --Have gross income of at least $200,000 (or $300,000 combined with a spouse) for each of the past two years with the anticipation that this level of income will continue

syndicate

If the syndicate manager (broker dealer deciding to take on the distribution) is interested in working with an issuer, it will then form a syndicate by inviting other firms to *participate in the distribution and share in liability*. The written agreement between the manager and syndicate members (referred to as the *syndicate letter* or *agreement among underwriters*) is signed by the participants and specifies each firm's rights and obligations. The role of the syndicate is to *guarantee (underwrite) the offering*. A broker-dealer's syndicate desk assists in the pricing of the offering, helps to build the book of orders, markets (distributes) the issue and, if necessary, places a stabilizing bid.

market-out clause

If the written agreement that's entered into by the underwriting syndicate and the issuer contains a market-out clause, the *syndicate may be permitted to cancel the agreement*. The justification for cancelling the commitment is based on certain events occurring that make *marketing the issue difficult or impossible*. Examples include a material adverse event that affects the (proposed) issuer or a general disruption in financial markets.

preliminary prospectus

In a preliminary prospectus (red herring), the following information can be *omitted:* -The offering price of the issue -The underwriting discounts (or commissions) and discounts to dealers -The amount of proceeds to be received by the issuer -Conversion rates or call prices -Other matters that are dependent on the offering price Once the offering is declared effective, the final version of the statutory prospects will include the final offering price, size of the offering, discounts to dealers, etc.

Assignment of underwriter and Obtaining CUSIP Numbers

In addition to their EMMA submission requirements, *underwriters are also expected to apply for a CUSIP number.* CUSIP is an acronym for the *Committee on Uniform Security Identification Procedures.* This nine-digit, alpha-numeric number is used to *identify securities and is assigned to each maturity of a municipal security offering.* The application window for a CUSIP is as follows: For a *negotiated* sale, the underwriter must apply by no later than the time that *pricing information* for the issue is finalized For a *competitive* sale, the underwriter must apply immediately after receiving *notification of the award* from the issuer. A *financial advisor* must apply by no later than *one business day after dissemination* of a notice of sale.

private placements

In some cases, institutional investors (e.g., pension funds, insurance companies, venture capitalists, and private equity investors) provide start-up capital to new companies. The capital is typically raised through a form of non-public offering that's referred to as a *private placement.* *advantages* of private placements is that it is faster and less costly than a public offering *disadvantage* there can be limits as to the type and number of investors that may participate in these types of transactions.

exempt offerings

In some cases, rather than being based on the issuer or type of security, the exemption from registration is based on the *manner in which the securities are being offered.*

selling group

In some cases, the syndicate will recruit other broker-dealers to assist in the distribution on top of the original syndicators. These firms are *selling group* members that *do not assume financial liability* for the offering; instead, they act as *sales agents* (not principals). Any shares that are not sold by the selling group are retained by the syndicate since the syndicate members remain financially liable for any unsold shares. To join a selling group, a broker-dealer must sign a *selling group agreement* which provides details regarding the relationship and responsibilities between the selling group and the syndicate manager. The underwriters and selling group members are collectively referred to as *distribution participants.*

Syndicate compensation

In the example above, the corporation is issuing stock to the public at $10 per share, with a total spread of $.80 per share. Of the $.80 spread per share, $.10 is allocated to the manager, $.20 is allocated to the firm that assumes liability for the shares, and $.50 is allocated to the firm that sells the shares.

Due Dilligence

Just prior to the SEC's anticipated determination of the effective date, a* due diligence meeting* is held. The participants at this meeting include the lead underwriter(s), syndicate members, officers of the issuer, attorneys, and accountants. The purpose of the meeting is to review the different aspects of the planned underwriting, including certifying that the issuer and its underwriters have satisfied state and federal laws.

Public offering

Main *advantage* of *public offering* is that an unlimited number of investors, both retail and institutional, are permitted to participate. *Disadvantages* of public offering are the regulatory costs (legal and accounting) and time required to fulfill the disclosure requirements of the Securities Act of 1933

Securities Act of 1933 - Registration

Many corporate offerings are subject to SEC registration requirements. The Securities Act of 1933 attempts to *prevent fraud in the sale of new issues by requiring registration and ensuring that investors are provided with adequate information about the offering* to make an informed investment decision. This information is provided through the *registration statement,* which is a public document that issuers file with the SEC.

New Issue Underwritings (municipal bonds)

Once a municipal issuer has determined that there's a need for a bond issue and has followed the preliminary steps required to offer a bond (e.g., obtaining voter approval for a GO issue or completing a feasibility study for a revenue issue), it may continue the process of issuance. To do so, a municipality will normally seek the assistance of an *underwriter (investment banker).* *Selecting an Underwriter* In some cases, the issuer will simply appoint its underwriter using a process that's referred to as a *negotiated sale.* Another method involves requesting that interested underwriters submit proposals through a bidding process and is referred to as a *competitive sale.* *Municipal Advisors* The issuer may also employ the services of a *municipal advisor* to assist with the offering. Municipal advisors are persons who advise municipal issuers on the structure, timing, and/or terms of their municipal offerings in return for a *fee*. The firms that employ these individuals are required to be registered with the MSRB.

The post-effective period

Once the offering's registration is declared effective, the *public offering price (POP) is set by the underwriters.* Only at this point can sales of the offering begin. Purchasers must be provided with a copy of the final prospectus (which includes the offering price) by *no later than the time a sale is confirmed.* Under SEC rules, providing clients with electronic access to a prospectus equates to the delivery of the relevant documentation.

all-or-none (best efforts)

One of these contingencies is the *best-efforts-all-or-none.* As in a simple best-efforts arrangement, the underwriters act as agents for the issuer and attempt to sell as much of the offering as possible. However, *if the entire offering is not sold, all sales that were made must be cancelled and the money must be returned to the subscribers.*

Official Statement Summary

Preliminary and final official statements are *not* considered advertising since they're either prepared by or for the issuer. However, if an official statement is altered by a municipal securities firm to create a summary or abstract of the official statement, it's considered *advertising.* Due to the alteration, the summary of an official statement must be approved by a *Municipal Securities Principal.*

selling group compensation

Remember, the selling group is comprised of broker-dealers that *don't assume financial liability.* Therefore, if a selling group member sells the shares, it's only entitled to the $.50 selling concession per share.

holding period

Rule 144 imposes certain holding periods on investors. For *restricted* stock, the purchaser must hold the stock for a specific period before he may dispose of it. If the issuer is a *reporting* company, the holding period is *six months;* however, if the issuer is a *non-reporting* company, the holding period is *one year.* For *control* stock, there's *no mandatory holding period.*

Rule 144

Rule 144 regulates the sale of *restricted* stock and *control (affiliated)* stock. Restricted stock is *unregistered* stock and is typically acquired by an investor through a *private placement*. Control stock is *registered* stock and is acquired by a *control (affiliated) person* in the secondary market. Control persons may include officers, directors, or other insiders (those with more than 10% ownership) and their respective family members. Any stock that's acquired by control persons, even if purchased in the open market, must be sold according to Rule 144. Insiders may also have other regulatory requirements which restrict their ability to sell stock.

volume limitation

Rule 144 sets a *limitation* on the amount of stock that an affiliate may sell over any *90-day filing period.* (i think for both restricted and control stock) For NYSE- and Nasdaq-*listed* stock, the maximum that may be sold is the *greater of 1% of the total shares outstanding* or the *stock's average weekly trading volume of the past four weeks.* For *restricted (private placement) stock*, there's *no volume restriction* for non-affiliates of the issuer. Non- affiliates are persons who are not associated with the issuer. However, volume restrictions continue to apply to insiders and affiliates. For example, an issuer has 7,000,000 shares outstanding and the average weekly trading volume for the past four weeks was 60,000 shares. Since 1% of the total shares outstanding is 70,000 shares and the four-week average is 60,000 shares, an affiliated holder is able to sell the greater of these two amounts, which is 70,000 shares. Table in notebook

Rule 144A

Rule 144A is designed to *permit sales of restricted securities to sophisticated investors without being subject to the conditions that are imposed by Rule 144.* Ultimately, Rule 144A creates a more *liquid private placement market.* The securities being offered under Rule 144A may be equity or debt securities and they may be offered by either a domestic or foreign issuer. After the issuance, the securities may be immediately resold to *qualified institutional buyers.*

restrictive legend

Shares that are acquired through a *private placement* carry a restrictive legend that's printed across the face of the certificate. The legend indicates that the securities have *not been registered with the SEC* and are *not eligible for resale* unless the legend is removed. In many cases, the removal of the legend is accomplished under *SEC Rule 144.*

Issuing General Obligation (GO) Bonds

Since GO bond issues are backed by *taxes,* the following two requirements must be satisfied: *Voter approval* --The issuance of general obligation bonds usually requires voter approval since its funds are generated by taxing citizens which are used to repay the debt. --The *indenture (bond resolution)* for a general obligation bond will usually include the statutes which permit the issuer to levy taxes. *Debt ceiling limitations* --A GO issue is generally subject to *debt limitations* that are placed on the municipality by a voter referendum or by statutes. Prior to the issuance of the bonds, these legal obligations must be upheld. A municipality is not permitted to issue bonds in excess of its debt limitation since doing so will exceed its *debt ceiling.*

Issuing Revenue Bonds

Since revenue bonds are backed by the *user fees that are generated by a project* or facility and *not* by taxes, they *don't require voter approval.* However, there are special procedures to be followed and requirements to be met prior to issuing revenue bonds. One of these procedures is conducting a *feasibility study* *feasibility study*: --To identify whether a revenue project will be able to bring in the necessary revenues the municipality must hire a *consulting engineer* to study the project and present a report. This report examines the general need for the proposed project and whether the project is a sound economic investment. An *accounting firm* is usually retained to help determine if the revenues will be sufficient to cover expenses and debt service.

No Guarantees (Section 23 of the Securities act of 1933)

The *SEC doesn't guarantee the truthfulness of the information that's contained within a registration statement.* Additionally, the SEC doesn't guarantee the accuracy or completeness of the filing. What this basically means is that underwriters are prohibited from suggesting that an offering has been "approved of" or "guaranteed by" the SEC. The cover page of a prospectus will include the following disclaimer: Neither the Securities and Exchange Commission nor any other regulatory body has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.

official statement

The *primary client disclosure document* that's used in municipal offerings (both negotiated and competitive) is referred to as the *official statement.* This document essentially takes the place of a prospectus; however, it's not required to be filed with the SEC since municipal issuers are exempt from the Securities Act of 1933. The official statement contains detailed information about both the issuer and the offering and, if produced, it must be distributed to investors. As is the case with a prospectus, there's both a preliminary and final version of the official statement. Final official statements must be provided to customers at the time that the trade is confirmed. *contents of a typical official statement* -Offering terms -Summary statement -Purpose of the issue -Authorization of the bonds -Security of the bonds -Description of the bonds -Description of the issuer -Construction program -Project feasibility -Regulatory matters -Specific provisions of the Indenture and/or the Resolution -Legal proceedings -Tax status -Continuing disclosure certification -Appendixa. Various consultant reportsb. Legal opinionc. Financial Statements And Audit

underwriting commitments

The *sale of a public offering* is typically conducted through a *group of broker-dealers* that's referred to as an *underwriting syndicate.* The responsibilities of the syndicate members are dependent on the type of underwriting agreement. There are firm-commitments (firm Acting as a principal), best efforts commitments (firm acting as an agent), standby agreements, and variations of those best efforts commitments

Effective date

The effective date represents the *end of the cooling-off period* and the *beginning of the post-effective period*. Generally, a registration statement's effective date is *20 days after the filing* or after the *last amendment* in response to a deficiency letter. If a written request is received from the issuer or its underwriters, the SEC may accelerate this process.

Responsibilities of Syndicate Manager (Rule G-11)

The manager generally makes the largest underwriting commitment. Some of the responsibilities of the manager include keeping track of all sales and the number of bonds that remain unsold, presiding over the preliminary pricing meeting in which the members are asked to submit their pricing scale, and maintaining/preserving books and records related to syndicate operations. These records include: --Settlement date with issuer --Allotment of securities and sale prices --Names of syndicate members and their percentage of liability Manager will send out *syndicate letter or agreement among underwriters*

The Cooling-Off Period

The second phase in the registration process is the *20-day* cooling-off or *waiting period.* During this time, the *SEC reviews the issuer's registration statement* to determine if it's complete and that it contains no misleading statements. However, the SEC does *not* judge the *investment merits* of the issue or the *appropriateness of the pricing* of the issue. If the SEC believes the registration statement to be incomplete or misleading, it sends a *deficiency letter* to the issuer. If this happens, the issuer is required to refile an amended registration statement for SEC review.

statutory prospectus

The statutory prospectus is a *condensed form of the registration statement* that includes: -Risk factors and use of proceeds -Dividend policy -Industry and other data -Capitalization and selected consolidated financial data -Management's discussion and analysis of financial condition and results of operations -Business and management -Executive and director compensation -Principal and selling stockholders -Shares eligible for future sale -Underwriting conflicts of interest and legal matters

Underwriting spread

The term *underwriting spread* refers to the *difference between the amount paid by the investing public and the amount received by the issuing corporation.* In fact, the spread represents the *syndicate's gross profit.* Depending on how the shares are sold, the spread may be shared by the manager, syndicate members, and selling group members. The spread consists of the following components: *Manager's Fee*—the portion that's paid to the managing underwriter for each share of the offering *Member's/Underwriter's Fee*—the portion that's paid to the syndicate member that assumes the risk or liability for the shares. This portion is also referred to as the *additional takedown.* *Concession*—the portion that's paid to the firm that sells the shares. The term *total takedown* represents the combination of the underwriter's fee plus the concession, which is the amount that's paid to a syndicate member when it sells shares of the offering. (Visual chart in notebook)

combined (split) offerings

This is when some shares are offered by the issuer, while the remainder are offered by selling shareholders The shares being sold by the company are newly created, constitute a *primary offering*, and increase the company's number of outstanding shares. The company issuing the securities receives the proceeds on this portion of the sale. When the company's existing shares are sold by some of its current (selling) shareholders, it's considered a *secondary offering*. The *selling shareholders receive the proceeds* on this portion of the offering, not the issuer. If the offering is split, it's imperative for the underwriters to disclose to any purchaser that a portion of the offering's proceeds will be paid to the selling shareholders. Selling shareholders may include officers of the company or early-entrance investors (e.g., the institutional investors that were mentioned previously) that are seeking to either cash out or reduce their holdings in the company.

Electronic Municipal Market Access (EMMA)- Rule G-32

This rule requires that disclosure documents be filed with the MSRB and provided to customers. *EMMA is the MSRB's data port through which municipal bond underwriters and issuers submit specific documents (e.g., official statements).* EMMA provides free public access to official statements, trade data, credit ratings, educational materials, and other information about the municipal securities market. EMMA presents the information in a manner that's specifically tailored for retail, non-professional investors who may not be experts in financial or investing matters. If an official statement has been submitted to EMMA, a broker-dealer may send a notice to any customers who purchase a new issue of municipal securities which advises them as to how an official statement may be obtained from EMMA. (This process may be used instead of sending a physical copy of the official statement to a customer.) However, the notice must include a statement that a copy of the official statement will be provided by the broker-dealer upon request. Therefore, if a customer contacts the broker-dealer and requests a printed copy of an official statement, it must be sent.

Qualified Institutional Buyers (QIBs)

To be considered a *qualified institutional buyer*, the entity must satisfy the following *three-part test:* 1. First, only certain types of investors are eligible, including: --Insurance companies --Registered investment companies and registered investment advisers --Small business development companies --Private and public pension plans --Certain bank trust funds --Corporations, partnerships, business trusts, and certain non-profit organizations 2. The buyer must be purchasing for its own account or for the account of another QIB. 3. The buyer must own and invest at least *$100 million* of securities of issuers that are not affiliated with the buyer. Note: *Under no circumstances is an individual considered to be a QIB.*

Regulation D

Under Regulation D, an issuer's *private placement* of securities qualifies for an exemption provided the following conditions are met: --The issuer has reason to believe that the buyer is a *sophisticated investor* (i.e., one who is experienced enough to evaluate any risks involved) --The buyer must have access to the same financial information that would normally be included in a prospectus. This information is provided in the *private placement memorandum (PPM aka offering memorandum)* --The issuer must be assured that the *buyer doesn't intend to make a quick sale* of the securities. This is usually accomplished by means of an *investment letter* (also referred to as a *lock-up agreement*). --The securities are sold to *no more than 35 non-accredited* investors.

filing requirement

Under Rule 144, an investor who intends to sell either restricted or control stock *must file Form 144 to notify the SEC* at the time he places the sell order with the broker-dealer. If the securities are not sold within *90 days* of the date that the notice was filed with the SEC, an amended notice must be filed. However, SEC notification is *not* required if the amount of the sale doesn't exceed *5,000 shares* or the dollar amount doesn't exceed *$50,000.*

rule 144

Under Rule 144, an investor who intends to sell either restricted or control stock must notify the SEC by filing Form 144 at the time the sell order is placed. Once the filing is made, the customer may sell these shares within 90 days.

Rule 145

Under Rule 145 of the Securities Act of 1933, certain types of *securities reclassifications are considered to be sales and are subject to the registration and prospectus requirements of the Act.* The reclassifications include: --An issuer that *substitutes* one security for another --A *merger* or consolidation in which the securities of one corporation are *exchanged* for the securities of another corporation --A *transfer* of assets from one corporation to another However, stock splits, reverse stock splits, or changes in par value are *not* considered reclassifications and are therefore not subject to the rule.

After-market Prospectus delivery requirements

Unlisted IPO: 90 days Unlisted follow-on offering: 40 days Listed IPO: 25 Days Listed follow on offering: No requirement

Notice of Sale

When an issuer intends to sell bonds through a *competitive sale*, it will advertise through a *Notice of Sale.* The Notice of Sale typically contains essential information that an underwriter needs in order to submit a *bid*, including the size of the offering, its maturity date, the coupon rate, and the details related to the bidding process.

Initial public offering (IPO) vs follow on offering

When an issuer offers securities to the public for the first time, the process is referred to as its initial public offering (IPO). However, if a company has already gone public and intends to raise additional capital through a sale of common stock, it's conducting a follow-on offering. Keep in mind; these additional (post-IPO) offerings are still considered *primary distributions.* The best way to define a *primary distribution is that it's an offering in which the proceeds of the deal are paid to the issuer.*

mutual fund summary prospectus

While a statutory prospectus is based on the information that's contained within the registration statement, a summary prospectus further *summarizes* the information. The summary prospectus is often used as a stand-alone sales tool for mutual fund offerings provided the investor is informed of the availability of a longer form (*statutory*) prospectus. *Both* of these documents may usually be *found on the fund sponsor's website*. This summary is often only three to four pages long and must include: -Investment objective -Costs -Principle investment strategies, risks, and performance -Name of investment adviser, as well as the name, title, and length of service of up to five portfolio managers -Purchase (including minimum purchase amounts), redemption, and tax information -Financial intermediary compensation information

disclosure of participation or interest in primary or secondary distribution (FINRA Rule 2269)

While involved in a follow-on offering, a FINRA member firm may be recommending or trading the existing shares of a company in the secondary market, while also soliciting potential investors for the additional shares being offered. FINRA rules generally require written disclosure to customers for trades in any security in which a firm is participating in the distribution or is otherwise financially interested.

firm commitment

here, the firm is acting as a *principal* If a syndicate agrees to purchase the entire offering from the issuer and absorb any securities that remain unsold, it's engaging in a *firm-commitment underwriting*. In this case, the syndicate is firmly committing itself to the issuing corporation for the entire amount of the offering. Regardless of whether it can sell all of the securities, the *syndicate acts in a principal (at risk) capacity.* For example, a corporation wants to sell $10,000,000 of stock, but the syndicate is only able to sell $8,000,000. In a firm commitment, the syndicate members will *absorb* the $2,000,000 of unsold stock for their own accounts.

best efforts

here, the firm is acting as an *Agent* In a best-efforts underwriting, the syndicate agrees to *sell as much of the new offering as they're able*. *Best-efforts underwriters are acting in the capacity of an agent by finding purchasers for the issuer*, rather than as a principal for their own accounts. For example, a corporation wants to sell $10,000,000 of stock, but the underwriters are only able to sell $8,000,000. In a best-efforts underwriting, only the $8,000,000 of stock will be issued. The *unsold portion is returned to the issuer.* Under certain circumstances, a corporation may require a specific minimum amount of capital to be raised. The reason for this is that the issuer may determine that raising a lesser amount will be insufficient to accomplish its objectives. Ultimately, *if the minimum contingency is not met, the offering will be cancelled.* Variations of these contingencies are *all-or-none best efforts and there are mini-maxi contingencies as well*

Official statements are the disclosure documents for what type of bond offering?

municipals

2 Ways to offer securities to investors

public offering and private placement

compensation allocated to each entity out of total spread per share

table in notebook

private placements are not very liquid

true