Potential Liabilities In The IPO Process– Part III
Rule 10(b) and 10b-5 of the Securities Exchange Act of 1934 (“Exchange Act”) is commonly known as the anti-fraud rule. Rule 10b-5 applies to any oral or written communication in connection with the purchase and sale of securities. To establish a claim under Rule 10b-5, the claimant must show fraud in the form of an omission or misstatement and that such fraud occurred in connection with the purchase or sale of a security. Rule 10b-5 provides a private cause of action by a purchaser of securities against any person who makes an untrue statement or omits a material fact, not just the Issuer.
To make a claim under 10b-5 a person must establish:
Misrepresentation or Omission of a Material Fact – the key point here being “material”. A fact is material if, in light of the totality of information, it is substantially likely it would impact a reasonable persons investment decision. The test is based on a reasonable man’s perspective, not necessarily the investor making the claim.
Scienter/State of Mind – Rule 10b-5 requires that the defendant be aware of the fraud. Awareness can be established either by actual awareness (defendant states that they have 5 contracts when there is only 3) or by showing that the defendant should have been aware with reasonable inquiry and diligence (defendant had the contracts available to review, but just didn’t).
Reliance – the plaintiff in a 10b-5 claim must show that they relied on the misinformation or lack of information. In other words there must be a link between the alleged fraud and the investment decision. It is presumed when material information is withheld there is reliance. The presumption of reliance can be rebutted by showing that the claimant’s decision to purchase or sell shares was not influenced by the alleged fraud, or that the alleged fraud did not alter or change the stock price.
Causation – the plaintiff in a 10b-5 claim must show that the fraud caused damages. Damages is a calculation of the monetary loss of the claimant and such damages must be linked to the fraud.
Damages – in addition to linking the damages to the fraud, the claimant must actually have damages. That is, they must have lost money.
Attorney Laura Anthony
Founding Partner, Legal & Compliance, LLC
Securities, Reverse Mergers, Corporate Transactions
Securities attorney Laura Anthony provides ongoing corporate counsel to small and mid-size public Companies as well as private Companies intending to go public on the Over the Counter Bulletin Board (OTCBB), now known as the OTCQB. For more than a decade Ms. Anthony has dedicated her securities law practice towards being “the big firm alternative.” Clients receive fast and efficient cutting-edge legal service without the inherent delays and unnecessary expense of “partner-heavy” securities law firms.
Ms. Anthony’s focus includes but is not limited to compliance with the reporting requirements of the Securities Exchange Act of 1934, as amended, (“Exchange Act”) including Forms 10-Q, 10-K and 8-K and the proxy requirements of Section 14. In addition, Ms. Anthony prepares private placement memorandums, registration statements under both the Exchange Act and Securities Act of 1933, as amended (“Securities Act”). Moreover, Ms. Anthony represents both target and acquiring companies in reverse and forward mergers, including preparation of deal documents such as Merger Agreements, Stock Purchase Agreements, Asset Purchase Agreements and Reorganization Agreements. Ms. Anthony prepares the necessary documentation and assists in completing the requirements of the Exchange Act, state law and FINRA for corporate changes such as name changes, reverse and forward splits and change of domicile.
Contact Legal & Compliance, LLC for a free initial consultation or second opinion on an existing matter.
« Potential Liabilities In The IPO Process-Part II Performing Due Diligence on Subject Companies During Reverse Mergers »
Potential Liabilities In The IPO Process-Part II
Section 12(a)(1) of the Securities Act of 1933 (“Securities Act”) imposes liability on any person who offers or sells a security in violation of Section of the Securities Act. Part I of this blog series discussed the ability of the SEC to bring enforcement proceedings against persons who violate Section 5 of the Securities Act. Part I related to Section 12(a)(2) of the Securities Act. Section 12(a)(1) is the sister to that provision, providing a method for a purchaser of a security, i.e. another person, to bring a civil action against another person who has sold them a security in violation of Section 5.
Section 12(a)(1) provides that a single violation of the registration provisions at the time of an offer will create a cause of action available to all of the purchasers in the offering, even if the conditions of Section 5 are actually complied with at the time an individual sale is made. The possibility of a Section 12(a)(1) claim illustrates the importance of understanding what constitutes an “offer” during the period prior to and following the filing of the registration statement, but before the registration statement becomes effective.
Section 2(a)(3) of the Securities Act defines an “offer to sell”, “offer for sale”, or “offer” shall include every attempt or offer to dispose of, or solicitation of an offer to buy, a security or interest in a security, for value. Preliminary negotiations or agreements between an issuer (or any person directly or indirectly controlling or controlled by an issuer, or under direct or indirect common control with an issuer) and any underwriter are excluded from the definition.
Securities Act claims, both by persons pursuant to this Section, or by the SEC in an enforcement proceeding, can be brought against any individual who signs the registration statement, in addition, to the Issuer. If state law allows, the officers or directors who sign the registration statement can seek indemnification from the Issuer. However, the SEC itself does not “agree” with the right to indemnification and requires all Issuers to include a statement setting forth the SEC’s position on indemnification in all registration statements.
The bottom line is that if an officer or director signs a registration statement which is filed with the SEC and which contains misstatements or fails to contain material information, they may be subject to liability on two fronts – from the SEC in an enforcement proceeding, and from individuals and entities in a private civil claim.
Attorney Laura Anthony
Founding Partner, Legal & Compliance, LLC
Securities, Reverse Mergers, Corporate Transactions
Securities attorney Laura Anthony provides ongoing corporate counsel to small and mid-size public Companies as well as private Companies intending to go public on the Over the Counter Bulletin Board (OTCBB), now known as the OTCQB. For more than a decade Ms. Anthony has dedicated her securities law practice towards being “the big firm alternative.” Clients receive fast and efficient cutting-edge legal service without the inherent delays and unnecessary expense of “partner-heavy” securities law firms.
Ms. Anthony’s focus includes but is not limited to compliance with the reporting requirements of the Securities Exchange Act of 1934, as amended, (“Exchange Act”) including Forms 10-Q, 10-K and 8-K and the proxy requirements of Section 14. In addition, Ms. Anthony prepares private placement memorandums, registration statements under both the Exchange Act and Securities Act of 1933, as amended (“Securities Act”). Moreover, Ms. Anthony represents both target and acquiring companies in reverse and forward mergers, including preparation of deal documents such as Merger Agreements, Stock Purchase Agreements, Asset Purchase Agreements and Reorganization Agreements. Ms. Anthony prepares the necessary documentation and assists in completing the requirements of the Exchange Act, state law and FINRA for corporate changes such as name changes, reverse and forward splits and change of domicile.
Contact Legal & Compliance, LLC for a free initial consultation or second opinion on an existing matter.
« Potential Liabilities In The IPO Process Potential Liabilities In The IPO Process– Part III »
Potential Liabilities In The IPO Process
Both the Securities Act of 1933, as amended (“Securities Act”) and the Securities Exchange Act of 1934, as amended (“Exchange Act”) provide remedies to investors in the IPO process. The basic premise of such liability is that either an investor was not given an opportunity to review investment disclosure documents prior to making the investment, or such disclosure documents contained inaccurate information or failed to contain material information. In the coming months we will also analyze various IPO liability provisions.
Section 11(a) of the Securities Act covers material misstatements or omissions in the registration statement at the time the registration statement becomes effective (later clarifications do not necessarily “cure” defects). Section 11(a) provides relief to any person who has acquired a security registered in a registration statement, whether in the initial IPO or after market, who did not have knowledge of the misstatement or omission at the time of the purchase.
The liability under Section 11(a) extends to (1) the Issuer; (2) any person who signed the registration statement; (3) every director at the time of the filing of the registration statement; (4) every person who is named, with his consent, as being about to become a director; (5) experts named in the registration statement (such as accountants); and (6) underwriters. Section 11(a) is a strict liability provision, meaning that the investor does not have to prove that he relied on the misstatements or omissions, only that they existed. However, other than the Issuer, those facing liability can claim the defense of due diligence. For example, if a director takes all reasonable steps (including seeking the advice of experts, thoroughly reviewing all available documents and information, etc.) to verify the information in the registration statement, they may be relieved of liability.
The misstatements or omissions, however, must be material. Materiality is defined as whether the misstatements or omissions, considered in context, would affect the investment decision of a reasonable investor. The statute of limitations for Section 11 liability is one year from the discovery of the misstatements or omissions, but not more than three years from the effectiveness of the registration statement. Section 11 limits the damages available to the investor to “the difference between the amount paid for the security and either (1) the value of the security at the time bought; or (2) the price the security was later sold for, if already sold.
Section 12(a)(2) of the Securities Act imposes liability for false or misleading statements or omissions by prospectus or oral communications involved in the offer or sale of securities. This Section imposes liability upon sellers for offers or sales of any security by means of a prospectus or oral communication. The pertinent “moment of time” for considering liability is the time the investor makes a commitment for purchase. Use of this Section is only available to initial purchasers, not after market buyers. Liability is limited to persons who offer or sells the security; i.e. it does not automatically extend to directors, experts, etc. Section 12 requires that the investor proof causation that is, that they relied on the misleading information and as a result of relying on such information, they were damaged. Moreover, the seller of the securities can raise several defenses, such as proof that the investor had actual knowledge of the information or should have been aware of the information if they had taken reasonable care and inquiry.
Attorney Laura Anthony
Founding Partner, Legal & Compliance, LLC
Securities, Reverse Mergers, Corporate Transactions
Securities attorney Laura Anthony provides ongoing corporate counsel to small and mid-size public Companies as well as private Companies intending to go public on the Over the Counter Bulletin Board (OTCBB), now known as the OTCQB. For more than a decade Ms. Anthony has dedicated her securities law practice towards being “the big firm alternative.” Clients receive fast and efficient cutting-edge legal service without the inherent delays and unnecessary expense of “partner-heavy” securities law firms.
Ms. Anthony’s focus includes but is not limited to compliance with the reporting requirements of the Securities Exchange Act of 1934, as amended, (“Exchange Act”) including Forms 10-Q, 10-K and 8-K and the proxy requirements of Section 14. In addition, Ms. Anthony prepares private placement memorandums, registration statements under both the Exchange Act and Securities Act of 1933, as amended (“Securities Act”). Moreover, Ms. Anthony represents both target and acquiring companies in reverse and forward mergers, including preparation of deal documents such as Merger Agreements, Stock Purchase Agreements, Asset Purchase Agreements and Reorganization Agreements. Ms. Anthony prepares the necessary documentation and assists in completing the requirements of the Exchange Act, state law and FINRA for corporate changes such as name changes, reverse and forward splits and change of domicile.
Contact Legal & Compliance, LLC for a free initial consultation or second opinion on an existing matter.
« Alternatives To Going Public – Private Company Financing Options Potential Liabilities In The IPO Process-Part II »
Alternatives To Going Public – Private Company Financing Options
Many companies seek to go public as a source of obtaining capital financing. In order to make the most intelligent decision private financing options should also be considered.
Section 4(2) of the Securities Act of 1933, as amended (Securities Act) provides a broad based exemption for “transactions not involving any public offering.” The SEC has promulgated several Safe Harbor rules under Section 4(2) the most well known being Regulation D. The three private placement exemptions in Regulation D are Rule 504, 505 and 506, the difference being based on the size of the offering, the number and qualification of investors and restrictions on advertising and resale of the securities. Other than in certain instances under Rule 504, securities issued in a private placement are restricted and may not be resold unless they are registered or an exemption exists (such as Rule 144).
Briefly, Rule 504 allows a non-reporting public or private company to raise up to $1,000,000 from any number of individuals, which individuals do not need to be accredited. Rule 504 requires that the Issuer comply with applicable state law regarding the exemption. Each states rules and regulation vary widely and accordingly, relying on this exemption is only cost effective if the offering is limited to one or a small number of states.
Rule 505 allows an Issuer to raise up to $5,000,000 in a 12 month period, from up to 35 unaccredited investors and an unlimited number of accredited investors. Like Rule 504, an Issuer must comply with a complex and varying set of different state laws when relying on this exemption. Over the years this exemption has been used rarely.
Rule 506 allows an Issuer to raise an unlimited amount of capital form any number of accredited investors and no more than 35 unaccredited “sophisticated” investors. Sophisticated, in this case, means that the investor must have adequate experience in financial and business matters to understand the investment being made and the risk involved. Rule 506 offerings are guided by federal law which federal law pre-empts individual state requirements. However, individual states can require that an Issuer make minimal filings (a copy of the Form D filed with the SEC and a consent to service of process) and can require the payment of a fee.
Section 3(1)(11) of the Securities Act and Rule 147 promulgated thereunder provides an exemption from registration of securities as long as the Issuer is incorporated in the state where it offers the securities; conducts a significant amount of its business in that state; and makes offers and sales only to residents of that state. Federal law imposes no limits on the size of the offering, or the number or qualification of the investors, however, an Issuer must abide by the laws of the particular state it is making the offering in, which laws may impose such restrictions.
Regulation A is promulgated under Section 3(b) of the Securities Act, which Section allows the SEC to formulate exemptions for small public offerings under $5,000,000. Like a larger public offering, the Issuer must file a prospectus with the SEC and clear comments prior to embarking on the offering. However, unlike a larger public offering, following the effectiveness of the registration statement, the Issuer is not subject to any ongoing reporting requirements. Moreover, the Issuer has the option of remaining “private” or seeking to have their securities traded on the over the counter market.
There are many venture capital firms, angel investors, and private investor groups looking for ground floor opportunities with new business ventures. However, generally these investors seek large equity positions with a Company and often participate in management and operations of the Company.
This type of financing is more typical and similar to bank financing with higher costs and interest rates.
Attorney Laura Anthony,
Founding Partner, Legal & Compliance, LLC
Securities, Reverse Mergers, Corporate Transactions
Securities attorney Laura Anthony provides ongoing corporate counsel to small and mid-size public Companies as well as private Companies intending to go public on the Over the Counter Bulletin Board (OTCBB), now known as the OTCQB. For more than a decade Ms. Anthony has dedicated her securities law practice towards being “the big firm alternative.” Clients receive fast and efficient cutting-edge legal service without the inherent delays and unnecessary expense of “partner-heavy” securities law firms.
Ms. Anthony’s focus includes but is not limited to compliance with the reporting requirements of the Securities Exchange Act of 1934, as amended, (“Exchange Act”) including Forms 10-Q, 10-K and 8-K and the proxy requirements of Section 14. In addition, Ms. Anthony prepares private placement memorandums, registration statements under both the Exchange Act and Securities Act of 1933, as amended (“Securities Act”). Moreover, Ms. Anthony represents both target and acquiring companies in reverse and forward mergers, including preparation of deal documents such as Merger Agreements, Stock Purchase Agreements, Asset Purchase Agreements and Reorganization Agreements. Ms. Anthony prepares the necessary documentation and assists in completing the requirements of the Exchange Act, state law and FINRA for corporate changes such as name changes, reverse and forward splits and change of domicile.
Contact Legal & Compliance, LLC for a free initial consultation or second opinion on an existing matter.
« The End Of An Era; The OTCBB Has Been Replaced By The OTCQB Potential Liabilities In The IPO Process »
The End Of An Era; The OTCBB Has Been Replaced By The OTCQB
A few months ago I wrote an article predicting that the new “OTC Markets,” formerly known as the Pink Sheets, and it’s OTCQX and OTCQB quotation tiers were replacing the antiquated, formerly FINRA-run OTCBB. Current events add further evidence to this view. Recently, more than 1000 Companies which were trading on both the OTCBB and OTCQB were delisted from the OTCBB and now trade exclusively on the OTCQB tier of the OTC Markets. These entities are quickly becoming known by their new moniker, OTCQB Companies.
The Investment Banking firm of Rodman & Renshaw acquired the OTCBB from FINRA last year.
An OTCBB By Any Other Name
For more than a year leading up to this large scale, mass delistment, it has been impossible to decipher between an OTCBB Company and a Reporting Pink Sheet Company when viewing the OTC Markets website. Both entities appeared under the heading of “OTCQB.” It was essential to reference other source material in order to make the distinction.
The now privately owned and operated OTCBB quietly delisted approximately 1,000 fully reporting and current, public companies from its quotation medium, initially citing “failure to comply with Rule 15c2-11”. Subsequent delistments cited “Ineligible for quotation on OTCBB due to quoting inactivity under SEC Rule 15c2-11.”
Delistments Means Little to Nothing
Most, if not all, of these companies did not receive notice of their “delisting”. Moreover, most, if not all, of these companies still do not know that they are no longer OTCBB quoted companies. In fact, the change has had little if no impact on these companies and will likely not have future impact. Each of these companies continue to be quoted on the OTCQB on the website for OTC Markets.
Issuer Reporting Obligations
Issuers on the OTCQB must be fully reporting and current in their reporting obligations with the SEC. Although the entire Over the Counter is regulated by the SEC and FINRA, the OTC Markets and the OTCBB are both now privately owned and merely serve as quotation mediums. However, and most importantly, the OTC Markets is more user friendly and factually up to date and accurate than the website for the OTCBB. So, if all Over the Counter quotes can be found at www.otcmarkets.com and companies trading on the OTCQB have the exact same standards as the OTCBB, and FINRA is no longer directly associated with the OTCBB, is there any reason for the OTCBB to even exist?
The fact sheet on www.otcmarkets.com has this to say regarding OTCQB quoted securities:
“With over 94% of all market maker quotes in OTC securities published on OTC Markets Group’s platform vs. 6% on the FINRA BB, it is important that OTC Markets Group provide a separate designation to identify OTC-traded companies that are U.S. registered and reporting. OTC Markets Group has launched the OTCQBtm marketplace to help investors easily identify SEC reporting companies and regulated banks that are current with their disclosure obligations.”
In summary, the curtains have closed on the OTCBB in name only and its business as usual for the new OTCQB.
The Author
Attorney Laura Anthony,
Founding Partner, Legal & Compliance, LLC
Securities, Reverse Mergers, Corporate Transactions
Securities attorney Laura Anthony provides ongoing corporate counsel to small and mid-size public Companies as well as private Companies intending to go public on the Over the Counter Bulletin Board (OTCBB), now known as the OTCQB. For more than a decade Ms. Anthony has dedicated her securities law practice towards being “the big firm alternative.” Clients receive fast and efficient cutting-edge legal service without the inherent delays and unnecessary expense of “partner-heavy” securities law firms.
Ms. Anthony’s focus includes but is not limited to compliance with the reporting requirements of the Securities Exchange Act of 1934, as amended, (“Exchange Act”) including Forms 10-Q, 10-K and 8-K and the proxy requirements of Section 14. In addition, Ms. Anthony prepares private placement memorandums, registration statements under both the Exchange Act and Securities Act of 1933, as amended (“Securities Act”). Moreover, Ms. Anthony represents both target and acquiring companies in reverse and forward mergers, including preparation of deal documents such as Merger Agreements, Stock Purchase Agreements, Asset Purchase Agreements and Reorganization Agreements. Ms. Anthony prepares the necessary documentation and assists in completing the requirements of the Exchange Act, state law and FINRA for corporate changes such as name changes, reverse and forward splits and change of domicile.
Contact Legal & Compliance. LLC for a free initial consultation or second opinion on an existing matter.
Alternatives To Going Public – Private Company Financing Options »