November 2008


From the editors of CCH Federal Securities Law Reporter, CCH Blue Sky Law Reporter and the securities publications of Aspen Publishers, this update describes important developments covered in these publications, as well as timely topics of interest generally to federal and state securities practitioners.

To view past issues of the Securities Update, please visit http://business.cch.com/updates/securities

If you have questions or comments concerning the information provided below, please contact me at rodney.tonkovic@wolterskluwer.com.

 

CCH Federal Securities Law Reporter

SEC Adopts Short Sale Rules
In a series of rulemaking releases, the SEC amended Regulation SHO and adopted a permanent short sale antifraud rule. The Commission also extended the requirement of certain institutional investment managers to disclose their short sales and positions. The permanent final rule eliminates the options market maker exemption from the close-out requirement of Regulation SHO. The SEC’s action makes permanent the amendments to Rule 203 contained in the SEC’s recent emergency order. Interim final temporary Rule 204T requires that participants in an SEC-registered clearing agency deliver securities by settlement date or, if the participants have not delivered shares by settlement date, immediately purchase or borrow securities to close out the fail to deliver position by no later than the beginning of regular trading hours on the settlement day following the day the participant incurred the fail to deliver position. In addition, the SEC made the emergency short sale antifraud Rule 10b-21 permanent. The Commission also adopted temporary Rule 10a-3T that extends the Form SH filing obligation for certain institutional investment managers. Release No. 34-58774 at ¶88,295 (ip access user); Release No. 34-58775 at ¶88,296 (ip access user); Release No. 34-58773 at ¶88,297 (ip access user); and Release No. 34-58785 at ¶88,298 (ip access user).

Comment Period for Annuity Contract Definitions Reopened
The SEC has reopened the period for public comment on a new rule that would define the terms “annuity contract” and “optional annuity contract” under the Securities Act. The rule was originally proposed on June 25, 2008, with comments due by September 10, 2008. The new comment period closes on November 17, 2008. Release No. 33-8976 at ¶88,294 (ip access user).

Preponderance of the Evidence Standard Applies to Rule 23 Requirements
A panel of the U.S. Court of Appeals for the 2nd Circuit affirmed the dismissal of a putative securities fraud class action. The district court (SD NY) concluded that investors in a Canadian financing corporation failed to satisfy the Rule 23(b) predominance element and denied their motion for class certification.

On appeal, the panel considered whether the district court had applied the correct standard of proof to its decision. The district court had applied the preponderance of the evidence standard to find that the investors could not rely on the fraud on the market presumption of reliance because they failed to show that corporation's securities were traded on an efficient market. In a case subsequent to the district court action, the appellate court directly addressed the question of the standard of proof, and effectively required a preponderance of the evidence without using the term.

In this case, the panel, seeking to “dispel any remaining confusion,” held “that the preponderance of the evidence standard applies to evidence proffered to establish Rule 23's requirements. The district court therefore applied the correct standard.” The panel then reexamined the factors considered by the district court and affirmed its factual findings. The panel agreed that the market was inefficient due to a lack of interest in the securities by analysts and market makers as well as a lack of correlation between negative reports concerning the security and fluctuations in its price. Teamsters Local 445 Freight Division Pension Fund v. Bombardier, Inc. is reported at ¶94,878 (ip access user).

3rd Circuit Finds Reclassification Exempt from Section 16(b)
Revisiting a case that prompted the SEC to amend its short-swing trading rules, a 3rd Circuit panel found that a reclassification of preferred stock to common shares was not a Section 16 purchase under Exchange Act Rule 16b-3. In a previous ruling, the court held in 2002 that the transaction was not exempt under Rules 16b-3 and 16b-7. With regard to Rule 16b-3 in the previous decision, the court limited the exemption to transactions with a compensatory purpose, and found also that Rule 16b-7 did not apply to all reclassifications. In response, the SEC adopted amendments to the rules in 2005 to clarify that the exemptions applied to the kind of transactions at issue in the first Levy case.

The question before the 3rd Circuit was the impact of their amendments on their previous ruling and to the transactions involved. The plaintiff claimed that the earlier decision should stand because 1) the doctrine of stare decisis, 2) the amendments exceeded the SEC's authority and 3) applying the 2005 rules to the 1999 reclassification would have an impermissible retroactive effect. With regard to stare decisis, the court found that a previous holding by the court did not foreclose consideration of a subsequent agency interpretation.

On the question of SEC authority, the court found that the SEC rationale, that the purchase of securities from, or sale of securities to, the issuer by a director or officer did not present the same opportunity for speculative abuse targeted by Congress as transactions with unrelated parties. Because the SEC's rulemaking rationale was reasonable, the court concluded that new Rule 16b-3 was a valid exercise of the SEC's congressionally delegated authority. Finally, the court found that the case did not present retroactivity concerns. The rule changes, stated the court, were clarifications rather than new substantive provisions. It should be noted that the court ruled on the basis of Rule 16b-3 and did not fully reach the Rule 16b-7 question. Levy v. Sterling Holding Co. is reported at ¶94,863 (ip access user).

Basic Presumption Could be Available in Suit Against Research Analysts
A 2nd Circuit panel held that the fraud on the market reliance presumption established by the Supreme Court in Basic Inc. v. Levinson is not limited to statements by issuers, and could be available in an action against research analysts. “The reason is simple,” stated Judge Pooler, as “the premise of Basic is that, in an efficient market, share prices reflect ‘all publicly available information, and, hence, any material misrepresentations.’ It thus does not matter, for purposes of establishing entitlement to the presumption, whether the misinformation was transmitted by an issuer, an analyst, or anyone else.”

The court also held that in order to fall within the Basic presumption, it was not necessary for the plaintiffs to show that the alleged misrepresentations had a measurable effect on the stock price. Judge Pooler wrote that “the point of Basic is that an effect on market price is presumed based on the materiality of the information and a well-developed market's ability to readily incorporate that information into the price of securities.”

It is important to note that the holding concerning the impact on the stock price was limited only to the question of the availability of the reliance presumption with regard to class certification. Under the Supreme Court's Dura Pharmaceuticals Inc. v. Broudo holding, the plaintiffs would still be required to show a causal connection between the alleged misrepresentations and a decline in the stock price to establish a Rule 10b-5 violation. In re Salomon Analyst Metromedia Litigation is reported at ¶94,861 (ip access user).

CCH Blue Sky Law Reporter

California Proposes Amending National Security Exchange Names and Functions to Match Federal Changes
The names and functions of certain national security exchanges, stock exchanges, markets and related entities would be changed by the California Department of Corporations to reflect changes made at the federal level. Proposed changes would include: (1) adding the NASDAQ Global Market to the national securities exchange list and deleting references to the interdealer quotation system of the National Association of Securities Dealers, Inc.; (2) adding the American Stock Exchange to the national securities exchange list and deleting references to the Emerging Company Marketplace; (3) adding the NYSE Arca to the national securities exchange list and deleting references to the Pacific Stock Exchange; (4) adding the electronic service operated by the Pink Sheets LLC or the OTC Bulletin Board and deleting references to the National Daily Quotation Service; (5) adding the Pink Sheets LLC, the OTC Bulletin Board and the NASDAQ Stock Market LLC and deleting references to the National Quotation Bureau; (6) adding NASDAQ Global Market to the certified national securities exchange list; (7) deleting references to the interdealer quotation system of the National Association of Securities Dealers, Inc., (8) repealing the exemption from registration for securities listed on the Chicago Board Options Exchange; (9) repealing the exemption for securities listed on the Pacific Stock Exchange; and (10) changing references to the National Association of Securities Dealers, Inc. to the Financial Industry Regulation Authority. ¶11,767 (ip access user), ¶11,785 (ip access user), ¶11,799 (ip access user), ¶11,809 (ip access user), ¶11,820A (ip access user), ¶11,820B (ip access user), ¶11,820E (ip access user), ¶12,167F (ip access user), ¶12,199 (ip access user), ¶12,210 (ip access user), ¶12,226 (ip access user), ¶12,229 (ip access user).

Colorado Proposes to Modify Investment Company Securities and Section 3(b)/4(2) 1933 Act Exemptions and Adopt Prohibition Against Industry Persons' Use of Senior Certifications or Designations
Exemptions for securities issued by investment companies and for transactions in securities made under Section 3(b) or 4(2) of the Securities Act of 1933 were proposed for modification by the Colorado Securities Division. Additionally, the NASAA Model Rule on the use of senior-specific certifications and professional designations was proposed for Colorado. ¶13,425 (ip access user), ¶13,427 (ip access user), ¶13,437 (ip access user), ¶13,448 (ip access user).

Texas Provides Guidance on Electronic Form D for Regulation D Offerings in the State
The Texas Securities Board provides guidance on the newly revised Form D that may be filed electronically with the SEC on a voluntary basis from September 15, 2008, through March 15, 2009. Beginning March 16, 2009, electronic filing is mandatory for all Forms D filed with the SEC. ¶55,830E (ip access user).

Vermont Proposes Long-Awaited 506 Offering Rule
The Vermont Department of Banking, Insurance, Securities and Healthcare proposed a long awaited rule for 506 offerings. Following the 2006 adoption of Vermont's version of the 2002 Model Uniform Securities Act, a notice filing and fee to make a Rule 506 offering could not be required until a Vermont rule mandating the notice filing was adopted. But now a rule is proposed. Issuers would file a copy of Form D including the appendix, a consent to service of process and a flat $600 fee. ¶58,405 (ip access user).

Wisconsin Emergency Adopts Prohibition Against Using Senior Certifications or Designations
Persons in the securities industry such as broker-dealers, agents, investment advisers or investment adviser representatives are prohibited from using certain professional designations that state or imply specialized knowledge of the financial needs of senior citizen investors. The use of these “senior designations” by industry persons is a dishonest, unethical practice under §551.34(1)(g) [¶64,134 (ip access user)] of the Wisconsin Uniform Securities Law. Only those professional designations attained through prescribed training offered by a nationally accredited institution are approved professional designations by the Wisconsin Securities Division. ¶64,566 (ip access user), ¶64,586 (ip access user), ¶64,661 (ip access user), ¶64,662 (ip access user).

Expungement Awards Required Affirmative Factual Findings
The Supreme Court of New York (County of New York) held that the arbitrators failed to make the findings necessary to support awards recommending the expungement of customer dispute information from the Central Registration Depository. Basing its ruling in part on the drafting history NASD Rule 2130 (Rule), the court determined that the Rule permits the expungement of customer complaint information only when the complaint falls within one of three enumerated grounds. Additionally, the court held, the Rule requires that an award recommending expungement relief contain affirmative findings of the specific facts upon which the recommendation is based.

Although each of the awards in the consolidated confirmation proceeding recited language from one of the Rule's three standards, the court observed, the arbitrators' statements did not demonstrate the “finding” of any case-specific, evidentiary facts. The court concluded, therefore, that it lacked sufficient information to complete the necessary judicial review. Accordingly, the court remanded the cases to their original arbitrators with directions to provide amended awards with specific affirmative factual findings. In re Johnson is reported at ¶74,736 (ip access user).

Aspen Federal Securities Publications

 

Regulation of Money Managers: Mutual Funds and Advisers, by Tamar Frankel and Ann Taylor Schwing
The 2009 Supplement (ip access user) will now live on the Investment Management Integrated Library on IRN. This comprehensive four-volume treatise on investment management regulation covers federal and state statutes, their legislative history, common law, judicial decisions, rules and regulations of the SEC, staff reports, and other publications dealing with investment advisers and investment companies. The 2009 Supplement includes discussion of the Financial Industry Regulatory Authority (“FINRA”) and its rules and activities affecting investment companies and investment advisers; addition of numerous new court decisions, SEC no-action letters, secondary sources and law review articles, and updating of the existing court decisions and regulations; and the addition of a new subsection on the historical development and current impact of SEC rulemaking.

 

Fundamentals of Securities Regulation, by The Late Louis Loss, Joel Seligman, and Troy Paredes
The 2009 Supplement (ip access user) is now live on the IRN Investment Management Integrated Library. This compendium reviews the most significant aspects of securities regulation and provides essential information covering a wide array of topics concerning securities law. The most recent supplement includes discussion of SEC’s creation of a new Office of Interactive Disclosure; SEC’s adoption of Form S-11 amendments to permit historical incorporation by reference; SEC’s adoption of amendments to the eligibility requirements for Forms S-3 and F-3 for private offerings; SEC adoption of rule amendments terminating the requirement that foreign private issuers using IFRS as issued by the IASB reconcile their financial statements to U.S. GAAP and the SEC’s steps for implementing mutual recognition; SEC’s adoption of new rules permitting termination of a foreign private issuer’s registration of a class of securities under §12(g) of the Exchange Act and the duty to file reports under the Exchange Act; SEC’s adoption of a number of regulatory changes intended to relieve the regulatory burden that smaller reporting companies encounter and to afford smaller companies regulatory simplification; SEC’s adoption of amendments to require, among other things, the electronic filing of Form D and to amend Form D itself in various respects; SEC’s addition of Rules 12h-1(f) and (g) to exempt (1) stock options under written compensation stock option plans that are not required to file periodic reports under the 1934 Act and (2) stock options that are issued under written compensation plans when the issuer has an equity security underlying the stock options that is registered under § 15(d); SEC’s adoption of amendments to Rule 14a-8(i)(8) and future proposals to amend the rule in light of the Second Circuit’s decision in American Fed. of State, County & Mun. Employees v. American Int’l Group, Inc.; adoption of final rules by the SEC and Federal Reserve Board to implement the broker exceptions for banks relating to third-party networking arrangements, trust and fiduciary activities, sweep activities, and custody and safekeeping activities; an overview of LRN-Rand Center for Corporate Ethics, Law and Governance study, which was published to provide the SEC with a factual description of the current state of the investment advisor and brokerage industries for the SEC’s evaluation of the legal and regulatory environment concerning investment professionals; discussion of the United States Supreme Court decision Stoneridge Inv. Partners, LLC v. Scientific-Atlanta, Inc.

Corporate Finance and the Securities Laws, Fourth Edition, by Charles J. Johnson, Jr. and Joseph McLaughlin
The most recent supplement will be available on the Securities Integrated Library on IRN shortly. Written in plain English by two top experts in the field, this “go to” resource explains the mechanics of corporate finance together with the statutes that govern each type of deal. The latest supplement includes discussion of adopted and proposed changes to S-3 and F-3 eligibility standards; corporate finance implications of recent amendments to Rule 144; private placement reform proposals: SEC action taken and to be taken; electronic filing of Form D; changes to Rule 12g3-2(b) exemption for foreign companies; foreign issuer reporting enhancements; elimination of U.S. GAAP reconciliation requirement for certain IFRS financial statements; auction rate securities developments; “covered bonds”; and Report of SEC advisory committee on improvements to financial reporting.

Market Crisis Resources

This section provides links to vital information on the current market crisis. We offer a compendium of newsletter articles, white papers, primary source documents (e.g., regulations, releases, guidance, etc.), and other information to help track and understand the recent market upheavals and ensuing regulatory response.

For current coverage of legislative and regulatory developments concerning the market crisis, please see Jim Hamilton's World of Securities Regulation blog at http://jimhamiltonblog.blogspot.com
See SEC Today for daily coverage of SEC news and policymaking, including a cover story detailing an issue or event of interest to the securities industry (see e.g., 10-29-08 (ip access user))

Federal Securities Law Reporter

  • See the weekly Report Letter for the news of the week, plus coverage of speeches, conferences and legislation (see e.g., 10-29-08 (ip access user))
  • Release No. 34-58774 (antifraud rule) at ¶88,295 (ip access user)
  • Release No. 34-58775 (options market maker rule) at ¶88,296 (ip access user)
  • Release No. 34-58773 (temporary closeout rule) at ¶88,297 (ip access user)
  • Release No. 34-58785 (Form SH disclosure rule) at ¶88,298 (ip access user)
  • Emergency Orders Responding to Market Developments: Release Nos. 34-58572 at ¶88,274 (ip access user); 34-58588 at ¶88,275 (ip access user); 34-57591, at ¶88,276 (ip access user); 34-57592, at ¶88,277 (ip access user); 34-58611, at ¶88,278 (ip access user); 34-57591A, at ¶88,279 (ip access user)

White Papers and Memos

  • The Economic Bailout: An Analysis of the Emergency Economic Stabilization Act, by Katalina M. Bianco and John M. Pachkowski (Oct. 2008) (ip access user)
  • Market Crisis Focus on Short Selling: SEC Adopts Rules to Curb Abusive Practices, by James Hamilton (Sept. 2008) (ip access user)
  • Congress Overhauls Regulatory Regime for Fannie Mae and Freddie Mac, by James Hamilton (Aug. 2008) (ip access user)
  • The Subprime Lending Crisis: Causes and Effects of the Mortgage Meltdown, by Katalina M. Bianco (April 2008) (ip access user)

Newsletters and Updates

  • Hedge Funds and Private Equity: Risk Management and Regulatory Update (November 2008) (ip access user))
  • International Securities and Financial Reporting Update (10-23-08) (ip access user)
  • Mutual Funds Guide (10-27-08) (ip access user)
  • Subprime, Mortgage and Securitization Law Update – (October 2008) (ip access user)
  • The Investment Lawyer (October 2008) (ip access user)

Hot Topic of the Month

This month's hot topic is short-swing profits. Exchange Act Section 16(b) permits issuers to recover short-swing profits made by insiders who trade in the company's securities. “Short-swing” profits are profits realized by officers, directors, and substantial shareholders from the purchase and sale of their own company's securities within a six-month period. Section 16(b) permits the issuer to recover such profits in an action for disgorgement.

Section 16(b) imposes strict liability. In other words, the statute does not require proof that the insider actually used or possessed inside information. This differentiates the statute from other provisions applicable to insider trading, such as Exchange Act Sections 10(b), 14(e), and 21A, which prohibit only those transactions in which a corporate insider trades on material nonpublic information without first disclosing the information publicly. In contrast, the Section 16(b) short-swing recovery provisions constitute an absolute bar against profit on successive insider transactions within a given six-month period.

Congress passed Section 16(b) to prevent the unfair use of information obtained by certain insiders through their relationship to the issuer. Company officers, directors, and principal shareholders often have access to company information that is not available to the investing public. By trading on this information, these insiders may reap profits at the expense of less well-informed investors.

We publish related information in a wide range of resources (e.g., Federal Securities Law Reporter, SEC Today, Insights – Amy L. Goodman, Securities Regulation – Loss, Seligman & Paredes, etc.), and document types (laws, regulations, releases, newsletter articles, treatise discussion). For example:

Federal Securities Law Reporter

  • Levy v. Sterling Holding Co., LLP at ¶94,863 (ip access user)
  • Analytical Surveys, Inc. v. Tonga Partners, L.P. at ¶94,856 (ip access user)
  • Report letter 10-15-08 (ip access user), 10-8-08 (ip access user)
  • Release No. 33-8600 at ¶87,425 (ip access user)
  • Exchange Act Section 16(b), at ¶26,081, (ip access user)
  • CCH Explanations (e.g., ¶26,101.010 (ip access user)

Jim Hamilton’s World of Securities Regulation (http://jimhamiltonblog.blogspot.com) (e.g. 10-06-08)
Insights – Amy L. Goodman (e.g., “Second Circuit Section 16 Decision Creates Uncertainties in Certain “Group” Situations” (October 2007) (ip access user), “Application of Section 16 Short Swing Trading Rules to Variable Share Prepaid Forward Contracts” (June 2006) (ip access user)

SEC Today

  • SEC Adopts Amendments to Section 16(b) in Response to Court Opinion (8-4-05) (ip access user)
  • SEC Proposes Section 16(b) Exemptive Rule Changes (6-29-04) (ip access user)
  • Securities Regulation – Loss, Seligman & Paredes (e.g., Chapter 6.E.3 (ip access user))

 

IPO Vital Signs

IPO Vital Signs, an advanced IPO research analysis tool, assists IPO professionals and pre-IPO companies satisfy their most challenging research needs and answers hundreds of mission critical questions for all the players in the IPO process. IPO Vital Signs’ tabular data analyses focus on issues surrounding client advisement, deal negotiation, and prospectus disclosure.

IPO Week in Review, a weekly e-newsletter to keep professionals up to date with recent filing and going public activity, is an important element of the IPO Vital Signs system or is available by separate subscription. Coverage includes a monthly feature article on recent trends in going public in the U.S.

To see how an IPO Vital Sign works click on the Vital Sign title below:

#446 Final Pricing v. Initial Filing Price Range

Seventy-eight percent of the 282 IPOs in 2007 priced within or above their initial filing range. How many have done so this year?

  • Review number of IPOs pricing above, below, or within initial price range
  • Review numbers of IPOs pricing above, below or at the midpoint of initial price range
  • Compare period to period data
  • Drill-down to get more information

Hint!
1) Change the date range by clicking on For the period. After selecting start and end dates using the drop-down boxes, click the [REFRESH] button.
2) Click on blue numbers to drill-down for more information.