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PowerPoint Slides to Accompany
BUSINESS LAW
E-Commerce and Digital Law
International Law and Ethics
5th Edition
by Henry R. Cheeseman
Chapter 38
Investor Protection and
Online Securities
Transactions
Slides developed by
Les Wiletzky
Wiletzky and Associates, Puyallup, WA
Copyright © 2004 by Prentice-Hall. All rights reserved.
Federal law did not regulate the securities
markets until after the stock market crash
of 1929.
Securities laws are designed to help
prevent a similar crash today.
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The Securities and Exchange Commission
(SEC)
Federal administrative agency that is
empowered to administer federal securities
laws.
 The SEC can adopt rules and regulations to
interpret and implement federal securities
laws.

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Definition of a Security
A security must exist before securities laws
apply.
 Securities are defined as:

An interest or instrument that is common stock,
preferred stock, a bond, a debenture, or a warrant
 An interest or instrument that is expressly mentioned in
securities acts
 An investment contract

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Landmark Law: The Securities Act of 1933
Primarily regulates the issuance of securities
by a corporation, a general or limited
partnership, an unincorporated association, or
an individual.
 Section 5 of the Act requires securities offered
to the public through the use of the mails or
any facility of interstate commerce to be
registered with the SEC.

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Registration Statement
A covered issuer of securities must file a
written registration statement with the SEC.
 It contains required information about the
issuer and the securities to be issued.
 The SEC does not pass upon the merits of
the registered securities.
 It decides only whether the issuer has met
the disclosure requirements.

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Prospectus
A written disclosure document that must be
submitted to the SEC along with the
registration statement.
 It is provided to prospective investors to
enable them to evaluate the financial risk of
the investment.

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Limitations on Activities During the
Registration Process
The Prefiling Period
The Waiting Period
The Posteffective Period
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Regulation A Offerings
A regulation that permits the issuer to sell
securities pursuant to a simplified registration
process.
 Such offerings may have an unlimited
number of purchasers.



They do not have to be sophisticated
investors.
There are no resale restrictions on the
securities.
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Securities Exempt From Registration With the
SEC (1 of 2)
1. Securities issued by any government in the U.S.
2. Short-term notes and drafts that have a maturity date
that does not exceed nine months
3. Securities issued by nonprofit issuers
4. Securities of financial institutions that are regulated by
the appropriate banking authorities
5. Securities issued by common carriers that are
regulated by the Interstate Commerce Commission
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Securities Exempt From Registration With the
SEC (2 of 2)
6.Insurance and annuity contracts issued by insurance
companies
7. Stock dividends and stock splits
8. Securities issued in a corporate reorganization where
one security is exchanged for another security.
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Transactions Exempt from Registration
Certain transactions are exempt from
registration.
 Exempt transactions are subject to the
antifraud provisions of the federal securities
laws.
 The issuer must provide investors with
adequate information.

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Transactions Exempt from Registration
(continued)
Nonissuer
Exemption
Intrastate Offering
Exemption
Small Offering
Exemption
Private Placement
Exemption
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Resale Restrictions

Certain resale restrictions are placed on
securities issued pursuant to exemptions
from registration.

Rule 147

Rule 144
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Rule 144A (1990)
Rule adopted by the SEC to increase the
liquidity of the registered securities.
 The rule permits “qualified institutional
investors” to buy unregistered securities
without being subject to the holding periods of
Rule 144.

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Integration of Exempt Offerings
Separate offerings that qualify for individual
exemptions from registration will be
integrated if they are really part of one large
offering.
 This larger offering must then be examined to
see if it qualifies for an exemption from
registration.

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Integration of Exempt Offerings (continued)
If offerings are integrated and the combined
offering does not qualify for an exemption, the
issuer has illegally sold unregistered securities.
 This subjects the issuer to certain civil fines
and criminal penalties.
 Purchasers may rescind their purchases and
recover the price they paid.

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Liability Provisions of the Securities Act
of 1933
Criminal Liability – Section 24 imposes
criminal liability on any person who willfully
violates the act or the rules or regulations
adopted thereunder.
 SEC Actions –

Consent order
 Injunction
 Request ancillary relief from the court

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Liability Provisions of the Securities Act
of 1933 (continued)

Private Actions – Private parties who have
been injured by violations of the act have the
following recourse against the violator:

Section 12 – civil liability

Section 11 – civil liability
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Landmark Law: The Securities Exchange Act
of 1934
Federal statute that primarily regulates the
trading in securities.
 It provides for the regulation of

Securities exchanges
 Brokers
 Dealers


Contains provisions that assess civil and
criminal liability on violators of the act.
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Section 10(b)
A provision of the Securities Exchange Act of
1934.
 Prohibits the use of manipulative and
deceptive devices in the purchase or sale of
securities in contravention of the rules and
regulations prescribed by the SEC.

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Rule 10b-5
A rule adopted by the SEC to clarify the reach
of Section 10(b) against deceptive and
fraudulent activities in the purchase and sale
of securities.
 All transfers of securities are subject to this
rule.


i.e., stock exchange, over-the-counter, private
sale, merger
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Insider Trading

One of the most important purposes of
Section 10(b) and Rule 10b-5 is to prevent
insider trading.
When an insider makes a profit by personally
purchasing shares of the corporation prior to
public release of favorable information, or
 By selling shares of the corporation prior to
the disclosure of unfavorable information

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Insiders are defined under Section 10(b) and
Rule 10b-5 as:
Officers, directors, and employees at all levels of the
company
 Lawyers, accountants, consultants, and other agents
and representatives who are hired by the company on
a temporary and non-employee status to provide
services or work to the company
 Others who owe a fiduciary duty to the company

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Tipper – Tippee Liability


Tipper
A person who discloses nonpublic information to another
person.
Liable for the profits made
by the tippee.


Tippee
The person who receives
material non-public
information from a tipper.
Liable for acting on material
information that he or she
knew (or should have
known) was not public.
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Liability Provisions of the Securities
Exchange Act of 1934
Criminal Liability – Section 32 imposes
criminal liability on any person who willfully
violates the act or regulations adopted
thereunder.
 SEC Actions –

Consent order
 Injunction
 Seek court orders
 Insider trading sanctions

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Liability Provisions of the Securities
Exchange Act of 1934 (continued)

Private Actions – The courts have implied
private right of action under Section 10(b) and
Rule 10b-5.

Generally, a plaintiff may seek rescission of the
securities contract or recover damages from a
defendant who has engaged in manipulation
and deceptive practices that have caused the
plaintiff injury.
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Short-Swing Profits: Statutory Insiders

Section 16(a) of the 1934 act – defines any
person who is an executive officer, a director,
or a 10 percent shareholder of an equity
security of a reporting company as a
statutory insider for Section 16 purposes.
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Short-Swing Profits: Section 16(b)
Short-Swing Profits – Profits made by
statutory insiders on trades involving equity
securities that occur within six months of each
other.
 Section 16(b) – A provision of the 1934 act
that requires that any profits made by a
statutory insider on transactions involving
short-swing profits belong to the corporation.

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Other Federal Securities Laws

Racketeer Influenced
and Corrupt Practices
Act (RICO)
Federal statute that provides
for both criminal and civil
penalties for engaging in a
pattern or practice of
racketeering activities.

Private Securities
Litigation Reform Act
of 1995
Federal statute that provides
a safe harbor from liability
for companies that make
forward-looking statements
that are accompanied by
meaningful cautionary
statements of risk factors.
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State Securities Laws
Most states have enacted securities laws that
regulate the issuance and trading of securities.
 These acts are often patterned after, and are
designed to coordinate with, federal securities
laws.
 The Uniform Securities Act (a model state
statute) has been adopted by many states.

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Commodities Regulation

Section 4b of the Commodity Exchange Act –
prohibits fraudulent conduct in connection with
any order or contract of sale of any commodity
for future delivery.
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