“Securities for the Non-Securities Lawyer”

Association of Corporate Counsel – America

August 3, 2006

Presented by: Kurt L. Kicklighter

Luce, Forward, Hamilton & Scripps LLP

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Why Should You Care About Securities Law?

• In house counsel concerns in the private company or division of a public company

• Pledges of securities?• Promissory notes?• Owner shares?• Securities brokerage/dealers?

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How Do You Know You Have a Securities Issue?

• Stocks, bonds . . . . And• Any “investment contract” or “risk capital”

arrangement– Promissory notes– Condominium rental pool– Investment Club Memberships– Tenants in Common Interests?– Joint Venture profit participation by non-managing partner?– General partnership interest of a partner who does not

actually participate in management

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What laws regulate securities?

• Federal law– “Disclosure” model– Securities Act of 1933– Securities Exchange Act of 1934– Exemptions – but not exemption from fraud claims– Website for all Federal securities statutes and

rules: Securities Lawyer’s Deskbook at University of Cincinnati - http://www.law.uc.edu/CCL/xyz/sldtoc.html

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What laws regulate securities? (continued)

• California law– “Substantive fairness” model– Corporate Securities Law of 1968, Corporations

Code Sections 25000 through 25707– Exemptions– Website for California statute:

http://www.leginfo.ca.gov/cal.html; regulations (Title 10: http://www.calregs.com/linkedslice/default.asp?SP=CCR-1000&Action=Welcome); Guide to CA Securities Law Practice, The Corporations Committee of the Business Law Section of The State Bar of California (2003).

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What laws regulate securities?(continued)

• Blue Sky laws of other states – primarily “disclosure” obligations, not “substantive fairness.”

• Foreign securities laws – apply to sales to nationals and in those other jurisdictions.

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Which laws apply to any particular securities transaction?

• Federal registration requirements: U.S., unless intrastate or foreign

• State law jurisdiction: Any state that touches a transaction

• AIM Stock Exchange– http://www.londonstockexchange.com/en-gb/products/

companyservices/ourmarkets/aim/

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Which laws apply to any particular securities transaction? (continued)

• Sarbanes-Oxley Act of 2002• Securities Act Section 18 limited pre-emption

of state laws• Stock Exchanges. See

http://www.nasdaq.com/about/MarketPlaceRules.stm

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Private Placements

• Securities Act Section 4(2) – “transactions by an issuer not involving any public offering”

• Regulation D – Clear guidance, safe harbor from registrations requirements of the Securities Act if certain requirements are met and filing is made– Accredited Investor definition: Individuals with $200,000

annual income ($300,000 jointly) or $1 million net worth; entities with $5 million; banks and other institutions; executive officers and directors of the issuer

– Practice Note: If even one non-accredited investor is included in an offering a detailed private placement memo will have to be prepared for all

(Note that none of these exemptions exempt the transaction from the securities fraud regulations.)

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• California exemptions– 25102(f): Sales to 35 plus accredited– 25102(h): Sales of voting common stock in a corporation

where there will be only 35 shareholders after the sale– 25102(i): Sales to institutional investors – banks, pension

plans, insurance companies– 25102(n): Sales to “qualified” investors (similar to

accredited investors) unlimited in number, by California corporation or corporation subject to Section 2115

Private Placements (continued)

(Note that none of these exemptions exempt the transaction from the securities fraud regulations.)

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Securities Regulation of “brokers.” • Federal definition of broker: any person

engaged in the business of effecting transactions in securities for the account of others– Guide to Broker-Dealer Registration, Division of

Market Regulation, U.S. Securities and Exchange Commission, December 2005 http://www.sec.gov/divisions/marketreg/bdguide.htm#II

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Securities Regulation of “brokers.”

(continued)

• California definition of broker/dealer: Corporation Code Sections 25120 and 25230(a)

• California licensing of real estate agents as business brokers

• Federal and California “finder” exception

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Becoming “publicly” traded

• Securities Exchange Act Section 12(g)• The 500 shareholder threshold (the in-bound

regulation)• The 300 shareholder threshold (the out-

bound regulation)

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Securities as “security” under the UCC

• What is a “security” under the UCC? • How is an interest perfected?• How can a creditor realize on the security?

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Giving employees “securities”

• Stock options, California Corporations Code 25102(o), SEC Rule 701– See Guide to California Securities Law Practice by

The Corporations Committee of the Business Law Section of the State Bar of California (June 2004 printing) § 4.1 (for 25102(f)) and § 4.4 (for 25102(o))

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• Restricted Stock• Performance Stock• Phantom Stock (Stock Appreciation Rights)• Other compensation schemes? (See definition of

“securities” discussion above.)

Giving employees “securities” (continued)

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Securities Arising in the M&A Context

• Issuance of promissory notes• Hold back provisions• Earn-out provisions• Issuance of stock to number of owners• Consider purchase of assets alternative• Acceleration of stock options

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Securities arising in the Joint Venture/Investment Context

• Interests in joint venture are securities• Registration Rights

– Demand Rights– Piggyback Rights– Supremacy Clauses– “Drag Along” Rights– “Tag Along” Rights

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Securities Issues in theIPO Context

• SEC will review prior issuances of securities to see if appropriate exemptions apply

• Employee plans may have to be reviewed to determine effect of IPO on their securities

• Disputed employee stock options/stock rights and economic “blackmail”

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Biggest Trouble Spots forPrivate Companies

• Undocumented or misdocumented stock options• Change of Control bonus arrangements• Deferred compensation arrangements permitting

issuance of stock• Unclear agreements among owners regarding

stock transfer restrictions, buy-outs, registration rights

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Biggest Trouble Spots for Private Companies(continued)

• Too many “private” offerings in short time periods

• Allowing non-“accredited” investors to purchase securities

“Securities for the Non-Securities Lawyer”

Association of Corporate Counsel – America

August 3, 2006

Presented by: Kurt L. Kicklighter

Luce, Forward, Hamilton & Scripps LLP