Wednesday, January 18, 2017

U.S. Supreme Court Clarifies Insider Trading Rules

The U.S. Supreme Court recently ruled in the case of Salman v. United States, 137 S.Ct. 420 (2016), that an insider may not avoid securities liability for insider trading by tipping inside information to the insider's family member or friend who trade shares of stock rather than the insider trading in the shares directly.

This result seems obvious - why should an insider who is prohibited from trading on insider information under federal securities laws - who is also restricted from selling the information by those same laws - nonetheless be permitted to gift that same information to the insider's family member or friend and permit that relative or friend to be unjustly enriched by trading on that same inside information?

The U.S. Supreme Court was forced to weigh in on this issue because the Second Circuit Court of Appeals had previously ruled that a jury could not infer that the tipper received a personal benefit from tipping confidential information to a family member or friend without proof of a gain to the tipper of a "pecuniary or similar valuable nature." And if the tipper did not receive any personal benefit from the tip, the tipper could not be guilty of insider trading.    

Insider Trading Law Background:

Insider trading is prohibited by Section 10(b) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5 promulgated by the Securities and Exchange Commission (SEC) thereunder. Rule 10b-5 makes it unlawful for anyone to, among other things, "engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security."

The U.S. Supreme Court had previously interpreted that language of Rule 10b-5 to prohibit any person in a position of trust and confidence with regard to a public company (such as an officer, director, attorney, accountant, or other insider)(an "insider") from trading on confidential information for the benefit of the insider. Importantly, an insider could not be liable for tipping inside information unless the tipper breached a fiduciary duty by disclosing confidential information for a personal benefit. Supreme Court case law precedent had asked courts to consider "whether the insider receives a direct or indirect personal benefit from the disclosure." Without such personal benefit,there was no breach of fiduciary duty, and thus no fraud or deceit within the meaning of Rule 10b-5, and no liability for insider trading. If the tipper has a duty not to trade on inside information, a person who knowingly receives such information in violation of the tipper's duty of confidentiality (a "tippee") has the same duty as the tipper to refrain from trading on that inside information.

So the key issue in the Salman case was whether or not is would be appropriate for a jury to just assume that an insider is receiving a personal benefit when the insider tips confidential inside information to the insider's family member or friend - or must the party alleging insider trading bring forth further evidence demonstrating such personal benefit - such as the tipper's receipt of cash, property, or other item of tangible value as a result of the tip?

As the Salman Court explained, a tip by an insider as a gift to a family member or friend is no different than an insider trade by the insider followed by a gift of the proceeds of the trade. Accordingly, once it is established that the tippee is a relative or a close friend, it is unnecessary to show any tangible reward to the tipper to find the tipper guilty of insider trading.

This result was so obvious that the Court unanimously agreed with the opinion.

Wednesday, December 28, 2016

So long, Rule 505, We Barely Knew Ya'

The Securities and Exchange Commission (SEC) has repealed Rule 505 under Regulation D, effective May 22, 2017.

What is Rule 505, you might ask?  Exactly.  Rule 505 has been an exemption from the registration requirements of the Securities Act of 1933, as amended (the "Securities Act") upon which virtually nobody has relied. And now it will soon be gone.

Overwhelmingly, issuers conducting private placements of securities have relied upon Rule 506 as the preferred exemption from the registration requirements under the Securities Act. Why? Because there are no dollar limits on the amounts that can be raised under Rule 506.  And because relying on Rule 506 has meant that state-level securities registration requirements were preempted. And if the issuer sold securities exclusively to accredited investors, there were no information disclosure requirements necessitating the preparation of a detailed private placement memorandum. Hence, Rule 506 offerings are generally quicker, easier, and less costly than a Rule 505 offering.

According to the SEC's final rule release abolishing Rule 505 (SEC Release 33-10238), less than 3% of the 132,091 Form Ds filed from 2009 to 2015 reporting private placements conducted under Regulation D were made in reliance on Rule 505.  And only 1.2% of the Form Ds in the study reported offerings exclusively under Rule 505 (as opposed to 1.7% of the offerings relying upon Rule 505 in addition to other rules under Regulation D).

In fact, in 2015, less than 1% of all new Regulation D offerings claimed an exemption under Rule 505.

And because Regulation 505 offerings are required by rule to be no more than $5 million in any 12 month period, the offerings have been smaller dollar-sized offerings, and thus Rule's 505 overall impact on our capital markets has been quite minor.  Securities offerings under Rule 504 and Rule 505 collectively accounted for less than 0.1% of all capital raised in Regulation D offerings from 2009 to 2015, according to the SEC release.  

In the same SEC final rule release, the SEC expanded the dollar limit for private placements made in reliance on Rule 504 in any 12 month period from $1 million to $5 million.  With that change, the SEC felt reliance on Rule 505 had become even less attractive to potential issuers of securities - so much so that Rule 505 had become obsolete.  

So Rule 505 will soon be abolished.  So long, Rule 505 - we barely knew ya'!

Wednesday, November 30, 2016

Fort Worth, Texas Magazine 2016 Top Attorney List

Special thanks to Fort Worth, Texas magazine for including me on their annual list of Top Attorneys for the third straight year.  I was among those honored in the Corporate Finance/Mergers and Acquisitions category.  The reception for award winners at the Fort Worth Club was a blast, as usual. What could be more fun than a night out with attorneys?!

Thursday, November 17, 2016

Time to Sell: Five Tips

Thanks to FW inc. ("Greater Fort Worth's Premier Business Magazine") for publishing an article I wrote on preparing to sell your business.  The article is available here.

Monday, October 31, 2016

Survivng Boot Camp

A couple of weeks ago, I had the honor of speaking to the TCU MBA Entrepreneurship Boot Camp event hosted by the TCU MBA Graduate Entrepreneurship Organization (GEO). Specifically, I presented "Choosing the Right Entity for your Start-Up Business" to a group of bright and talented MBA students who were very engaged and asked a lot of great questions. The GEO and its chairman, Eric Coulter, put on a terrific event and really made me feel welcome at the TCU Neeley School of Business.

The future of entrepreneurship in North Texas appears to be in great hands!

Monday, October 17, 2016

Identical or Deceptively Similar Entity Names in Texas - A Change For the Better?

Among the corporate law changes enacted by the 2015 Texas Legislature is a new requirement that consents to use similar entity names must now be notarized prior to filing.

The Texas Business Organizations Code (TBOC) prohibits each Texas entity (and each out-of-state entity registering to do business in Texas) from having a name that is the same as, or deceptively similar to, an existing Texas entity (or an existing out-of-state entity registered to do business in Texas). Texas law has long recognized an exception to that rule if the existing entity consented to the use of a similar name in writing. Under the amended law, a consent to use a similar name must be notarized and filed with the Texas Secretary of State. This change impacted Section 5.053, 5.102 and 5.153 of the TBOC.

According to the bill's author, the purpose of this change was to protect existing Texas companies from new entities who might forge documents claiming that they have the consent of the existing entity to the use of a similar name when in fact no consent has been given.

While I agree that the notarization requirement does make it more difficult for a new entity to forge and file a consent to the use of a similar name, I am skeptical that this change in law was actually necessary or an improvement on existing law.  I have not heard or read about an epidemic of Texas companies who have suffered forged consents to the use of similar names. And existing law already made it a crime for a party to file an instrument known to be materially false with the Texas Secretary of State's office. Section 4.008 of the TBOC makes such a false filing a Class A misdemeanor - unless the offender had the intent to defraud or harm another, in which case the offense is a felony.

The bill's author acknowledged in the Bill Analysis submitted with this bill that a forgery is a crime, but argues that a forgery victim "likely will have a difficult time convincing a law enforcement agency to prosecute the crime."  That may well be the case - our law enforcement officials may choose to employ their limited resources in prosecuting other crimes. But Section 4.007 of the TBOC already grants forgery victims a private right of action against any party who signs or files a forged document in violation of Section 4.008 of the TBOC.

The new notary requirement will add a layer of administrative hassle to both new entities requesting consents and existing entities granting consents.  I can imagine a scenario where an existing entity might be willing to grant its consent, but not at the cost of locating and engaging a notary to witness a consent signing.

Nonetheless, the notary requirement is now law in Texas.

Wednesday, October 12, 2016

Texas Equity Crowdfunding Success Stories

Thanks to the Fort Worth Business Press for publishing an article I wrote on Texas companies who have successfully used the SEC's new Regulation Crowdfunding rules to raise capital via equity crowdfunding.  The article is available here.