What are securities laws?
November 28, 2008
The SEC publishes a guide titled: Q&A: Small Business and the SEC that provides a simple answer.
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. These conditions contributed to the disastrous Stock Market Crash of 1929. In response, the U.S. Congress enacted the federal securities laws and created the Securities and Exchange Commission (SEC) to administer them.
Companies selling common stock, preferred stock or issuing options or warrants are issuing “securities.” The Securities Act of 1933 generally requires companies selling securities to give investors full disclosure of all material facts that investors would find important in making an investment decision. The Act also requires companies to file a registration statement (i.e. see the Google IPO registration statement) with the SEC that includes information for investors, unless the security or the type of transaction is exempt from registration.
However, registering a securities offering with the SEC is a very expensive (typically costing over $1,000,000) and time-consuming process. Therefore, sales of securities by companies to private investors or venture capitalists are usually structured to be exempt from the registration requirements of the Act. These exemptions (post to come) are fairly technical and companies need advice from competent securities attorneys to ensure compliance.
Even if a securities offering is exempt from federal registration requirements, the company must also comply with securities laws in each state where securities are offered. States may impose their own registration or qualification requirements that must be complied with unless an exemption is available.
Failure to comply with securities laws allows a purchaser to rescind or undo the purchase of securities and get his or her money back or recover damages. These rescission rights create potential exposure to the company if its stockholders demand their money back.
Generally, the federal statute of limitations for noncompliance with the requirement to register securities under the Securities Act is one year from the date of the violation upon which the action to enforce liability is based. State remedies and statutes of limitations vary and depend upon the state in which the shares were purchased. For example, the California statute of limitations for noncompliance with the requirement to register or qualify securities under the California Corporate Securities Law is the earlier of two years after the noncompliance occurred, or one year after discovery of the facts constituting such noncompliance.
In extreme cases, a company may make a rescission offer (i.e. offer to repurchase the securities plus interest) to stockholders that were sold securities in noncompliance with securities laws in an attempt to eliminate the exposure from rescission rights. The rescission offer itself must comply with all relevant securities laws. For example, Google’s noncompliance with securities laws in connection with option grants required it to file a registration statement with the SEC to make the rescission offer at the time of its IPO and resulted in a cease and desist order by the SEC.