Federal Securities Law Primer

What Are the Federal Securities Laws?

In the chaotic securities markets of the 1920s, companies often sold stocks and bonds on the basis of glittering promises of fantastic profits -without disclosing any meaningful information to investors. Some feel that these conditions contributed to the disastrous Stock Market Crash of 1929. Consequently, the U.S. Congress passed laws now generically known as the federal securities laws. Congress also created the Securities and Exchange Commission (SEC) to administer these laws. Whether or not you like governmental intervention in markets, it is impossible to deny the SEC’s impact since its creation. And the fact that America now has the best system for the allocation of capital anywhere in the world causes more than a few experts to conclude that the SEC played a crucial role in the development of America’s superb capital markets. (Editor’s comment: We too think that the SEC can given some credit for America’s capital markets, but we are hardly experts on the issue.)

The SEC has many functions, but in sum, the SEC makes sure that businesses selling stocks, bonds, or other equity and debt instruments within America’s borders provide accurate and timely information to investors and potential investors. This information then allows those investors to make better (i.e., more informed) decisions about investing money in an attempt to maximize returns. As part of its oversight, the SEC examines annual reports, proxy statements, and company press releases to ensure that American investors are getting accurate, useful information. This information is then used by investors, investment managers and other professionals who make investment decisions for others. So if you have a retirement account, mutual fund, pension, or even a bank account, you are a beneficiary of the SEC’s actions since all of those investment vehicles are run by managers who depend on the free access to information provided by the SEC and its officials.

There are two primary sets of federal laws that come into play when a company wants to offer and sell its securities to the public. They are:

  • the Securities Act of 1933 (Securities Act), and
  • the Securities Exchange Act of 1934 (Exchange Act).

Securities Act

Under the Securities Act, companies wishing to sell securities must give investors “full disclosure” of all “material facts.” Material facts are those facts that investors would find important in making an investment decision. (In other words, all information!) The `33 Act requires companies to file a registration statement with the SEC that includes information for investors. The SEC does not evaluate the merits of offerings, or determine if the securities offered are “good” investments. That means that the very best companies offering securities (Netscape, Microsoft, AT&T, etc.) are reviewed in much the same way that the more speculative and risky ventures are: without the SEC passing any judgment on the worth of the investment. Investors are given the discretion to determine what is a good buy and what is not. The SEC just makes sure that all material information is disclosed. So the SEC staff reviews registration statements and declares them “effective” if companies satisfy the disclosure rules.

Exchange Act

The `34 Exchange Act requires publicly held companies (i.e., companies which have previously sold their shares to the public) to continually disclose information about their business operations, financial conditions, and management (officers, directors, etc.). These companies, and in many cases their officers, directors and significant shareholders, must file periodic reports or other disclosure documents with the SEC. In some cases, the company must deliver the information directly to shareholders.

Exemptions

Your company is (or would be) almost certainly exempt from these registration and reporting requirements because you are (would be) a small company with only a limited number of potential shareholders. But you are still subject to all of the anti-fraud provisions of the United States Securities Laws, as well as the securities laws of whatever state in which your business operates or sells securities. We discuss the various exemptions in a different section. Please remember this and seek the advice of a competent attorney to help you avoid problems with the federal and state securities laws.