MGMT200 Chapter #16
Sarbanes-Oxley Act (SOX)
- CEO and CFO of companies with publicly traded stock must personally certify that financial reports comply with SEC rules - knowing misstatements may result in criminal fines and imprisonment - protection also for corporate whistleblowers - established Public Accounting Oversight Board to discipline CPA's - has forced many firms to standardize procedures and accounting
insider trading
- a breach of an insider's fiduciary duty to shareholders - there must also be "manipultion or deception" and an inherent unfairness involved - buying or selling of stock by persons who have access to information affecting the value of the stock that has not yet been revealed to the public.
Financial Industry Regulatory Authority
- an independent regulatory authority that sets rules of behavior for its traders - handles most disputes - helps oversee brokerage firms and employees
Consumer Financial Protection Bureau
- appointment of Director delayed until 2012, so still "getting on board"
Review by SEC
- doesnt rule of merits (likelihood of success) - can require issuers to indicate high-risk factors to buyers - registration effective 20 days after filing, but SEC can issue deficiency letter and issuer will need time to amend the filing - can issue stop order to prevent sale of securities until the registration statement is amended to proper satisfaction
Insider Trading Sanctions Act of 1984
- gave the SEC authority to bring enforcement actions against violators who trade in securities while in possession of material, nonpublic information
Impact of SOX
- increased audit costs by 30% - greater impact on smaller companies - made private equity markets more attractive - had a chilling effect on manager's willingness to take risks
regulation of investment companies
- investment companies register with the SEC - because investment companies sell securities, such as shares in mutual funds, their securities must be registered. - so companies under the ICA are subject to disclosure requiremetns of the SEC for publicly traded securities
securities fraud
- investors often have trouble proving common-law fraud - usually rely on antifraud provisions of '33 and '34 Act for statuary fraud - '33 Act imposes civil liability for misleading statements or material omissions
securities exempt from regulation
- issued or guaranteed by government - issued by banks - issued by religious and charitable organizations - insurance policies - annuity contracts - "crowdfunding"
privately held company
- less than 500 shareholders - not openly traded - financial information is not available to the public
private placement
- not offered to the public - usually placed with institutional investors (pension plans or insurance companies) - regulation D specifies what will qualify as a private placement exemption
tender offers
- when one company attempts to take over another (over the objection of the 2nd company) - target company's stock owners are offered stock in the acquiring company or cash in exchange for their stock - if successful, the acquiring company obtains enough stock to control the target company
publicly held company
-publicly traded on stock market - most traded over the counter (OTC) - must file annual 10-k report - subject to reporting requirements
Howey Test 4 basic elements of a security
1. investment of money 2. in a common enterprise 3. with the expectation of profits 4. generated by efforts of persons other than the investors
Registration Statement
2 parts: - the prospectus, a document providing the legal offering of the sale of the security - details information required by the SEC (regulation S-K)
Rule 10b-5
Bais for Securities fraud Unflawful to: - employ device, scheme or fraud - make any untrue statement/omission of material fact - engage in any act, practice or course of business which operates or would operate as a fraud upon any person * this rule applies to all securities, registered or not
2010 Dodd-Frank Act
Established new agency: Consumer Financial Protection Bureau within the Federal Reserve - established new regulatory authority in consumer credit area - focuses on financial markets and oversight in large-scale financial problems - regulators oversee general market conditions - oversight of "systematic risk"
regulations of securities transactions
FINRA in conjunction with the SEC, regulates securities professionals who handle the actual trading of securities. - to reduce problems, floor trading by professionals in limited to registered experts
Safe Harbor
Securities Litigation Reform act of 1995 - gives immunity from liability from suit for corporate forecasts that turned out not to be accurate after the fact, but were made without disclaimers - allows companies to predict profits and their likely success as long as forecasts are accompanied by "meaningful cautionary statements" that identify "important factors that could cause actual results to differ materially from those in the forward-looking statement"
Federal Exclusivity
Securities Litigation Standards Act of 1988 - requires securities suits that involves nationally traded securities to be brought exclusively under federal law in federal court
blue sky laws
State Laws - tried to prevent "speculative scheme which would have no more basis than so many feet of blue sky" - nothing backing them other than the "blue sky"
"generated by efforts of persons other than the investors"
a board of directors controls the future of the organization. They hire managers to run the company
"Ponzi Scheme"
a fraudulent investment operation - the operator solicits investments, and pays returns to those investors from new capital solicited from new investors, rather than from profits earned by the original investments - the operator usually offer higher returns than other investments to entice investment of capital - paying these returns requires an ever-increasing flow of money to keep the operation going
Investment Advisors
a person who, for compensation, engages in the business of advising others... as to the advisability of investing in, purchasing or selling securities
Securities and Exchange Commission
agency responsible for enforcement and administration of federal securities
material information
all relevant information an investor would want to know: background, executives, plans of operation - filing a registration statement with the SEC fulfills disclosure requirements
churning
an illegal practice that occurs when a broker who has control of a client's account buys and sells an excessive amount of stock to make money from the commissions earned on transactions
scalping
an illegal practice when a professional buys stock for personal benefit, then urges investors to buy that stock so that the price rises to the benefit of the professional
underwriter
an investment banker (like morgan stanley) to market securities - hiring an underwriter is a cost of registration
no-load mutual funds
are sold directly to the public with no sales commission
Liability for Securities Law Violations
can basically sue everybody - may sue parties connected with the preparation of disclosure documents or other important information about the securities - this includes directors, CEO, CFO, accountants, etc.
equity
equity financing is raising funds through sale of company stock - sale of company stock to purchasers (shareholders) - shareholders have claim to future profits of company - company is not obligated to pay shareholders (therefore you are liable for the amount that you invested, but no more) - can usually be traded
Regulation D
explains what qualifies as private placement exemption - only accredited investors may participate in private placement offerings of securities - in theory accredited investors are more capable to protect themselves in securities transactions than other investors, so they are less likely to need disclosures.
well-known seasoned issuer
formally, theses are securities issuers that have offered at least $1 billion in debt securities previously or have a public-equity market capitalization of at least $700 million - they can file registration statements the day they announce a new offering, rather than submitting it beforehand to the SEC.
Investment Company Act of 1940
gives the SEC control over the structure of investment companies - it requires them to register as such with the SEC and be subject to regulations regarding operations and holds them liable to the SEC and the private parties, for violations
Securities Exchange Act of 1934
governs the trading of the stock subsequent to it's issue - if registered under '33, must register under '34 act. If exempt from '33 must register if traded on an exchange or over the counter
face- amount certificate companies
issue debt securities paying fixed rate of return
security
may be a debt or an equity - securities provide capital for business operations - securities represented by pieces of paper or records in computers - represent value in something real
"investment of money"
means an investor turns over money to someone else for an investment
"with the expectation of profits"
means that investors do not have direct control over the work that makes the investment a success or failure
"in a common enterprise"
means that the infvestment is not the property of an investor. An investor's capital is pooled with other investor's money so that each investor owns an undivided interest in the investment
management companies
most important type - open end company known as a mutual fund
unit investment trusts
offer fixed portfolio securities
shelf registration
once registered, the security may be sold at any time over the next 3 years (helps firms market securities when conditions are favorable and when the firm needs cash)
Investment Company
primarily in the business of investing or trading securities - three types of investment companies: face-amount certificate, unit investment trusts, management companies
professional responsibility to clients
primary concerns of the SEC in regulating securities professionals are obligations to clients and conflicts of interest. - the supreme court has held that broker-deals must make known to their customers any possible conflicts or other information that is material to investment decisions
rule 144A
private placements are most common for large security issues, usually bonds, sold to qualified institutional buyers. Rule 144A exempts U.S. and foreign security issuer from registration requirements for the sale of bonds and stocks to institutions with a portfolio of at least $100 million in securities.
Securities Litigation Standards Act of 1988
prohibits the pursuit of a class action suit under the law of any state if the suit alleges: 1. an untrue statement or omission of a material fact in connection with the purchase or sale of covered security 2. that the defendant used or employed any device or contrivance in connection with the purchase or sale of a covered security. - act was passed in an effort to reduce the huge number of securities suits brought claiming losses due to misrepresentation
Prospectus (SEC Schedule A)
provides material info about: - issuers finances and business - purpose of the offering - plans for funds collected - risks involved - promoters managerial experience and financial compensation - certified financial statements
1933 Securities Act
regulates securities when they are issued by a company, when the stock is issued by a company to be sold - also created the SEC - requires full disclosure of all material information on security, issuers, and intended use of money before sale to the public
liability for misstatements
securities law imposes liability for misstatements or omissions about the financial status of a business that has issued securities - for example, overly optimistic statements by executives which can cause expectations of higher profits
load mutual funds
sold through a securities dealer and have a sales commission (load) of some percentage of the price
Exemptions from Registration
some securities, while subject to securities laws are exempt from registration requirements
Self Regulation of Securities Markets
the 1934 Securities Exchange Act allows private associations of securities professionals to set rules for professionals dealing in securities markets - congress gave the SEC power to monitor these self-regulating organizations which include the New York Stock Exchange, NASDAQ and the over the counter markets
SEC prosecution
the SEC may prosecute insiders if they trade in the stock before the public has a chance to act on the information or they pass the information on to others so they can act.
SEC action
the SEC may sue those alleged to be violating securities laws. SEC actions may be remedial, such as an order to issue corrected financial statements - b/c SEC action is public, the parties involved are exposed to publicity
red herring
the first version of the prospectus that is not yet approved by the SEC
mutual funds
the most common investment management company - most mutual funds are open-ended companies that offer no specific number of shares and can expand as long as people invest with them
Regulation S-K
the second part of the registration statement has more detailed information than the prospectus. The SEC spells out detailed requirements in Regulation S-K. More history on financial background and past experience of the issuers is required.
accredited investor
these investors are presumed to be sophisticated and wealthy enough to evaluate investment opportunities without an SEC approved prospectus. -individual investors must have an annual income of 200,000 and a net worth of at least $1million
conflict of interest
to reduce possible conflicts, there are restrictions on who may be on the board of directors of an investment company. At least 74 percent of the members of the board must be outsiders of an investment company - further, investment companies may not use the funds invested for deals with any persons affiliated with the company
Regulation Fair Disclosure 2002
tried to create a "level playing field", requiring public companies to release information to the public rather than selectively reveal information - restricts the traditional practice of firms giving private briefings to big investors and favored securities analysts
debt
when bonds are sold there is often an issue of a certain amount - bonds usually traded on securities market, so are securities - debt financing may occur by borrowing money from large lenders - instrument usually specifies: amount of debt, length of period, repayment method, rate of interest
arbitration of disputes
when investors establish accounts with investment firms or stockbrokers, they usually sign a standard form that states that disputes must be arbitrated, not litigated. - SEC rules govern the arbitration process
