Federal Securities Law

Second Edition

Thomas Lee Hazen

Cary C. Boshamer Distinguished Professor of Law

The University of North Carolina at Chapel Hill School of Law

Federal Judicial Center 2003

This Federal Judicial Center publication was undertaken in furtherance of th

statutory mission to develop and conduct education programs for judicial b

ployees. The views expressed are those of the author and not necessarily th

Federal Judicial Center.
Portions of the first edition of this monograph were adapted from 

Lee Hazen, Treatise on the Law of Securities Regulation (2d ed. We

3d ed. West 1995).
iii

Contents

Preface v

Acknowledgments vii

I. Introduction 1

A. The Federal Securities Laws 1

B. The Securities and Exchange Commission 4

C. Sources of Litigation 6

D. Self-Regulation 7

E. Private Remedies 9

II. Scope and Reach of the Securities Laws 11

A. Definition of Security 11

B. Jurisdictional Provisions 15

C. SEC Enforcement Powers 17

D. Relation to Other Federal Laws 19

E. Relation to State Laws 21

III. Regulating the Distribution of Securities—The Securities Ac

1933 25

A. Structure of the 1933 Act 25

B. Registration Process Under the 1933 Act 26

1. Prefiling Period 26

2. Waiting Period 29

3. Post-Effective Period 31

4. Shelf Registration (Rule 415) 32

C. Disclosure Requirements in Securities Offerings 32

1. Registration Forms 32

2. Adequacy of Registration Statement Disclosures 35

D. Exemptions from Registration Under the 1933 Act 38

1. Exempt Securities 38

2. Exempt Transactions 43

3. General Exemptive Authority 57

4. Integration of Transactions 57

E. Liabilities Under the 1933 Act 59

1. SEC Administrative Remedies 59

2. Private Rights of Action 60
iv

3. SEC Actions and Criminal Prosecutions: Section 17 

4. Secondary Liability Under the 1933 Act 72

F. Securities Class Actions 75

1. Private Securities Litigation Reform Act 75

2. Securities Litigation Uniform Standards Act 83

IV. Regulating Issuers, Securities Professionals, and the Securit

Markets—The Securities Exchange Act of 1934 87

A. Scope of the 1934 Act 87

B. Prohibition of Manipulative Activities 89

C. Shareholder Voting: Federal Regulation of Proxies and P

Solicitation 91

D. Tender Offers and Takeover Bids: The Williams Act 98

E. Liabilities Under the 1934 Act 108

1. Wrongdoing Related to Tender Offers: Section 14(e) 

2. Manipulation of Exchange-Traded Securities:

Section 9(e) 109

3. Insider Reporting and Short-Swing Profits: Section 16 

4. False Filings 111

F. Insider Trading 126

1. Rule 10b-5 126

2. Insider Trading Sanctions: SEC Actions 133

3. Private Rights of Action for Insider Trading 136

4. Insider Transactions and Section 16 138

G. Regulation of the Marketplace and Securities Professiona

Appendix: Statutory Conversion Charts 151

For Further Reference 155

Table of Cases 157
v

Preface

This monograph provides an introduction to and overview 

complexities of litigation involving the federal securities laws, 

emphasis on the issues that are most likely to arise in litigatio

registration, disclosure, and antifraud provisions. Because o

limitations, the monograph does not address the securities la

erning securities professionals and the operation of the securit

kets, or the regulation of investment companies and investmen

ers. At the end of the monograph there is a list of selected ref

for further reading.

Codification of the securities laws is extremely confusing

seven federal securities statutes, the acts referred to most frequ

this monograph are the Securities Act of 1933 and the Securi

change Act of 1934. As is the case with all of the federal se

laws, the section numbers of the acts do not coincide with t

Code cites; citations in the text are to the sections of the respe

and are not footnoted. The appendix contains conversion ch

help locate the correlative section of the U.S. Code. The 19

1934 Acts, like other securities statutes, are evolving laws. Fo

ple, in 1968 Congress added the Williams Act amendments

introduced federal regulation of tender offers, and in 1975 the

significant amendments to the 1934 Act’s market regulation 

sions. In 1995 and 1998 litigation reform provisions were adde

securities laws. Most recently, in 2002, the Sarbanes-Oxley Ac

duced a number of corporate governance reforms and en

criminal penalties.

The SEC’s rules are found in Part 17 of the Code of Federal 

tions. Rules under the 1933 Act are found in 17 C.F.R. §§ 2

230.904 (2002) and are numbered from 100 to 904. The 19

rules are found in 17 C.F.R. §§ 240.01–240.31.1 (2002) and a

bered according to the section of the Act (e.g., Rule 10b-5 is 

gated under section 10(b)).
vii

Acknowledgments

This monograph could not have been completed without the 

able assistance of Karen Mincavage, University of North Carol

School class of 1992, who worked on the first edition of this 

graph. I would also like to thank the editorial staff at the Feder

cial Center, including Kris Markarian, who provided helpful e

assistance on this second edition.
1

I. Introduction

A. The Federal Securities Laws

Shortly after the Wall Street crash of 1929, Congress entered t

rities regulatory arena with the Securities Act of 1933. When F

Roosevelt signed that act into law, he announced that securi

was to be changed from a system of caveat emptor to one of cav

dor. As such, the Securities Act was the first federal consumer 

tion statute relating to securities.1

 Currently, there are seven 

in this area: the Securities Act of 1933,2

 the Securities Exchang

1934,3

 the Public Utility Holding Company Act of 1935,4 th

Indenture Act of 1939,5

 the Investment Company Act of 19

1. S. Rep. No. 73-47, at 6–7 (1933) (ch. 38, Title I, § 1, 48 Stat. 74).

2. 15 U.S.C. §§ 77a–77z (2000 & Supp. 2001) (referred to alternative

“1933 Act” and the “Securities Act”).

3. 15 U.S.C. §§ 78a–78ll (2000 & Supp. 2001) (referred to alternative

“1934 Act” and the “Exchange Act”).

4. 15 U.S.C. §§ 79 to 79z-6 (2000 & Supp. 2001). The Public Utility 

Company Act of 1935 was enacted to correct abuses in financing and operati

utilities. Most of the SEC’s work in this area has been completed.

5. 15 U.S.C. §§ 77aaa–77bbbb (2000 & Supp. 2001). The Trust Indentu

1939 deals with debt financing of public issue companies in excess of a 

amount (currently $5 million). It imposes standards of independence and re

ity on the indenture trustee for the protection of the security holders.

6. 15 U.S.C. §§ 80a-1 to 80a-64 (2000 & Supp. 2001). The Investment 

Act of 1940 regulates publicly owned companies that are engaged primar

business of investing and trading in securities. It regulates investment comp

agement composition, capital structure, advisory contracts, and investme

modifications, and it requires SEC approval for transactions by such compa

directors, officers, or affiliates. The Act was amended in 1970 to impose a

controls on management compensation and sales charges. The Act also su

vestment companies to the disclosure requirements of the 1933 Act when 

their securities publicly and to the reporting, proxy solicitation, and inside

provisions of the 1934 Act.
2

Investment Advisers Act of 1940,7 and the Securities Investor 

tion Act of 1970.8

The 1933 Act was, and still is, directed primarily at public o

of securities. Subject to certain exemptions, the 1933 Act requ

registration of all securities when first made publicly availabl

states had already adopted their own securities laws (so-calle

sky” laws), which contained a merit approach under which t

securities commissioner could examine the merits of the inv

and then decide if the securities were suitable for a public o

After considerable debate, Congress decided not to adopt th

regulatory approach of the state acts, opting instead for a sy

full disclosure. The theory behind the federal regulatory frame

that investors are adequately protected if all aspects of the se

being marketed are fully and fairly disclosed, leaving no need 

more time-consuming merit analysis. The 1933 Act contains a 

of private remedies for investors who are injured because of vi

of the Act. There are also antifraud provisions that bar materi

sions and misrepresentations in connection with the sale of se

However, the scope of the 1933 Act is limited. The 1933 Act 

only distributions9

 (both primary and secondary) of sec

7. 15 U.S.C. §§ 80b-1 to 80b-21 (2000 & Supp. 2001). The Investment 

Act of 1940, as amended in 1960, established a scheme of registration and r

of investment advisers comparable to that in section 15 of the 1934 Act with 

broker–dealers (discussed in detail later).

8. 15 U.S.C. §§ 78aaa–78lll (2000). The Securities Investor Protection Ac

established the Securities Investor Protection Corporation (SIPC) to aid 

firms in financial difficulty. The SIPC is involved in insolvent firms’ liquid

payment of claims asserted by customers. The SIPC is funded by moneta

ments on its members and a $1 billion line of credit from the U.S. Treasu

SIPC determines that a member firm is in danger of failing, it may apply t

both for a decree that the firm’s customers need the protection of the Act an

appointment of a trustee to liquidate the firm. If the firm’s assets are insuffici

all legitimate customer claims, the SIPC must advance to the trustee suffici

to satisfy all such claims up to a $100,000 maximum for each customer (bu

spect to claims for cash, not more than $40,000).

9. Distribution is the term used to describe a large infusion of shares into 

lic markets. As described by Rule 100 of the SEC’s Regulation M, “Distributi

an offering of securities, whether or not subject to registration under the 
3

whereas the 1934 Act addresses all types of securities trans

Additionally, the 1933 Act’s investor protection extends only 

chasers (not sellers) of securities.10

The essence of registration under the 1933 Act is an initial 

sure document, known as the registration statement. The regi

statement is created by a team consisting of lawyers, accounta

issuer’s management, and underwriters. The portion of the regi

statement distributed to potential investors is known as the p

tus. The registration statement and prospectus must be filed 

any public sale of securities can take place. After the regi

statement is filed with the SEC, there is a waiting period durin

the SEC reviews the filing for completeness, but not for ac

Publicly traded securities are also subject to the registration 

ments of the 1934 Act, which impose periodic reporting requir

upon public companies.

Congress enacted the Securities Exchange Act of 1934, ex

further regulation over a wider range of participants and tran

in the securities industry. Since the 1934 Act greatly increased 

quired administrative responsibility, Congress established the 

ties and Exchange Commission.11 The 1934 Act regulates all as

public trading of securities. It covers sellers as well as purch

securities and imposes disclosure, reporting, and other duties 

 

Act, that is distinguished from ordinary trading transactions by the magnitu

offering and the presence of special selling efforts and selling methods.” 

§ 242.100. Difficult questions can arise as to how large an offering is requir

ger the concept of a distribution—as compared with an ordinary secondar

tion in the market. See, e.g., United States v. Wolfson, 405 F.2d 779 (2d C

cert. denied, 394 U.S. 946 (1969); In re Ira Haupt & Co., 23 S.E.C. 589 (SEC 1

10. As discussed more fully in subsequent sections, the 1933 Act impos

sure obligations and other restrictions on sellers but not on purchasers of s

The Act has this focus, since it was aimed at the distribution process. In con

1934 Act, which addresses transactions generally, imposes obligations on p

as well as sellers.

11. See generally SEC, A Twenty-Five Year Summary of the Activities of t

ties and Exchange Commission 1934–1959 (1961); Joel Seligman, The Tr

tion of Wall Street—A History of the Securities and Exchange Commission 

ern Corporate Finance (1982).
4

licly held corporations. It also deals with stock manipulation

trading, manipulative or deceptive devices or contrivances in 

tion with the purchase or sale of stock, misstatements in doc

filed with the SEC, and a myriad of other actions affecting se

sales, sellers, and purchasers. The 1934 Act was substantially a

in 1975, largely to increase the SEC’s authority over national se

exchanges and the structure of the market system. It ha

amended many other times as well.

B. The Securities and Exchange Commission

The federal securities laws are administered by the Securities 

change Commission (referred to alternatively as the SEC or th

mission). The SEC is a true “superagency” and exercises most 

istrative powers, with one exception: It cannot adjudicate disp

tween private parties.

Section 4 of the 1934 Act provides that the SEC have five c

sioners—appointed by the President of the United States with 

vice and consent of the Senate—no more than three of whom 

from the same political party. The main SEC office is in Wash

D.C., and is composed of a number of divisions.12 There are 

gional offices,13 and there are district offices within the regions.

The SEC’s role in administering the securities laws takes tw

forms: direct SEC regulation through rules, orders, and enfor

and an elaborate system of industry self-regulation carried ou

12. The key divisions relevant to securities litigation are (1) Corporation 

(which is often referred to as “Corp. Fin.”), with primary responsibility for e

all registration documents for compliance with the disclosure requiremen

securities laws and preparation of disclosure guides promulgated by th

(2) Enforcement, responsible for the investigation of all suspected securities 

lations; (3) Market Regulation, which oversees regulatory practices and poli

ing to the exchanges, the over-the-counter markets, and broker–dealers; (

ment Management, which administers the Investment Company and Invest

visers Acts of 1940 and the Public Utility Holding Company Act of 1935; an

fice of the General Counsel. Most lawyers contacting the SEC deal with staff 

who give informal advice.

13. Regional offices are located in New York, Miami, Chicago, Denver

Angeles.
5

SEC supervision and oversight. The self-regulatory organ

(SROs) include the securities exchanges, such as the New Yor

Exchange (NYSE), the National Association of Securities 

(NASD), and the Municipal Securities Rulemaking Board, w

tablishes rules governing municipal securities dealers. Self-reg

organizations have their own membership criteria, rules of op

and disciplinary procedures, all of which are subject to SEC rev

Much of the SEC’s rule-making power derives from section

securities laws that specifically empower the SEC to promulga

that have the force of statutory provisions. Rule making by di

islative delegation necessarily has the effect of law so long as 

ried out according to statute. The SEC has also promulgated a 

of interpretive or “safe harbor” rules14 designed to aid corpora

ners and attorneys in complying with the statutes’ requiremen

like the rules promulgated pursuant to statutory delegation, i

tive rules do not carry the force of law.

Supplementing the rules are the SEC’s forms for the variou

ments and reports that issuers, broker–dealers, and others are r

to file under the securities laws. These forms, which have t

force of administrative rules, play an important part in defin

extent of disclosure obligations in the regulatory scheme.15

The SEC also engages in a substantial amount of “inform

making” by setting forth its views on questions of current conc

not as legal requirements imposed pursuant to formal pro

mandated by the Administrative Procedure Act.16 The SEC d

nates unsolicited advisory opinions in the form of “releases,” 

may include guidelines or suggested interpretations of statutor

14. See infra text accompanying notes 89–94.

15. SEC Regulations S-K and S-X provide detailed guides for d

Regulation S-K, 17 C.F.R. §§ 229.10 et seq. (2002). Regulation S-B is a para

disclosure guides for small businesses. 17 C.F.R. §§ 228.10 et seq. (2002)

business issuer is a United States or Canadian company with annual revenu

than $25 million. If the company is a majority-owned subsidiary then the pa

also be a small business issuer in order to qualify. Investment companies do 

ify as small business issuers. Reg. S-B, Item 10(a)(1); Regulation S-X, 

§§ 210.1-01 et seq. (2002).

16. 5 U.S.C. §§ 551–559 (1994).
6

sions and rules. These releases necessarily provide less prec

and predictive value than rules promulgated under the more 

interpretative rule-making process. One step below interpre

leases are “no-action” letters, which are the SEC’s responses to 

requests from individuals, entities, or their attorneys seeking 

cation of whether certain contemplated conduct is in complian

statutory provisions and rules. No-action responses take the 

recommendations from SEC staff members that the Commiss

no enforcement action. Although technically not bound by 

member’s no-action response, the Commission almost invaria

lows it.

Broker–dealers (other than those conducting business on a 

intrastate basis) must register with the SEC pursuant to sectio

of the Exchange Act of 1934. Registration entails an initial di

document plus periodic reporting. Registration subjects 

dealers to SEC adjudicatory proceedings for imposition of disc

sanctions. Although the registration requirements apply only 

ker–dealer firms, the SEC has the authority to discipline “as

persons” of broker–dealers, including sales personnel.

Section 15(b)(8) makes it unlawful for any registered broker

to engage in business unless the broker–dealer is a member 

tional securities association or effects transactions solely on a n

exchange on which the broker–dealer is a member. The NA

exchange membership requirements, rules, market surveillan

disciplinary procedures are all subject to SEC oversight and rev

C. Sources of Litigation

The judicial case law involving securities emanates from sever

of proceedings. In addition to its administrative proceedings, 

itself may proceed by initiating a civil action in federal court 

covers what it believes to be a violation of the law.

Private parties can bring suit under the federal securities 

addition to remedies for private parties, the securities laws v

SEC with enforcement powers. For example, if the alleged viol

broker–dealer or investment adviser required to register with t

the SEC may initiate an administrative proceeding to revoke 

pend the firm’s registration or take other disciplinary action. I
7

leged violator is an issuer seeking to sell securities under a 1

registration statement, the SEC can initiate administrative proc

to suspend the effectiveness of the statement. In either case, t

ing is first held within the SEC, with the SEC making the fin

sion after initial findings by an administrative law judge. Decisi

be appealed to the U.S. court of appeals in the District of Colu

in the circuit where the registrant’s principal place of busine

cated.

If the alleged violator is neither an issuer making a regist

fering nor a person registered with the SEC, the Commission 

to court to obtain relief. The SEC may seek an injunction aga

ture violations and, in particularly egregious situations, may r

matter to the Department of Justice for prosecution as a crimin

tion of the securities laws.

D. Self-Regulation

National securities associations must register with the SEC p

to section 15A of the 1934 Act. The SEC Division of Market 

tion oversees these self-regulatory organizations, which incl

stock exchanges17 as well as the National Association of Se

Dealers (NASD). The exchanges have listing requirements for 

ties, and the NASD has similar listing requirements for its n

market system.

Although the NASD operates much like an exchange, th

national market system is not a registered national securi

change. The securities traded using the National Association o

ties Dealers’ Automated Quotation System (NASDAQ) are con

over-the-counter (OTC) securities and thus are not subject to 

9 prohibitions on manipulation. Instead, NASDAQ securi

regulated by section 15(c) of the 1934 Act. Over-the-counter 

17. In addition to the NASD, there are registered securities exchanges u

tion 6 of the 1934 Act: They include the New York Stock Exchange, Ameri

Exchange, Chicago Board Options Exchange, Midwest Stock Exchange, Pac

Exchange, Philadelphia Stock Exchange, Boston Stock Exchange, Cincinn

Exchange, and the Intermountain Stock Exchange. The Intermountain S

change, in Spokane, Wash., closed in 1991.
8

are distinguished from exchanges in two principal ways: (1) 

no central facility comparable to an exchange floor (althou

NASD’s introduction in 1971 of an electronic automated qu

system, NASDAQ, and more recently its national market syste

made this distinction less important); and (2) the function o

representing an individual buyer is different (in an exchange, 

acts as a “broker” and the only “dealer” is the registered “speci

that stock; in the over-the-counter market, any number of fir

act as dealers or “market makers” in a particular stock).

Broker–dealers registered with the SEC must also register w

NASD. Additionally, their sales personnel must register w

NASD as “registered representatives.”18 Fitness standards fo

tered representatives operate to disqualify individuals who h

gaged in fraudulent conduct or have been convicted of s

crimes. In addition, registered representatives must pass an e

ministered by the NASD.19

The NASD is the only registered securities association f

ker–dealers effectuating transactions in private-sector securit

tion 15B of the 1934 Act addresses the regulation of municipa

ties (i.e., state and municipal government obligations) and se

the authority for the Municipal Securities Rulemaking Board, w

the self-regulatory organization for municipal securities deale

tion 15C deals with government securities dealers. Governme

rities are those issued by the federal government or a federal 

Section 6 of the 1934 Act provides for the registration of nati

curities exchanges, and all exchange rules, procedures, and 

nary sanctions are subject to SEC oversight and review. Sectio

the 1934 Act regulates exchange trading. Section 11A deals w

national market system. Section 17A of the 1934 Act address

tration of clearing agents and stock transfer agents. Sections 

implement margin regulations governing the extension of cred

18. Many states have parallel registration requirements for broker–de

their registered representatives.

19. See the National Association of Securities Dealers Regulation (NAS

site (www.NASDR.com) for a description of the qualification requirement

various levels of registration.
9

securities as collateral. The margin rules are set by the Federal 

Board but are enforced by the SEC (and the self-regulatory o

tions).

E. Private Remedies

Persons who believe they were injured by a violation of the se

laws can bring a civil action for damages. A number of section

1933 and 1934 Acts provide for express private rights of acti

haps the most significant civil liability exists under various “i

rights of action under provisions prohibiting certain activities.
11

II. Scope and Reach of the Securities La

A. Definition of Security

The federal securities laws provide jurisdiction over securiti

term security is broadly defined by the statutes. Section 2(a)(1

Securities Act of 1933 is representative:

The term “security” means any note, stock, treasury stock, b

debenture, evidence of indebtedness, certificate of interest or par

pation in any profit-sharing agreement, collateral-trust certifi

reorganization certificate or subscription, transferable share, inv

ment contract, voting-trust certificate, certificate of deposit for 

curity, fractional undivided interest in oil, gas, or other min

rights, any put, call, straddle, option, or privilege on any secu

certificate of deposit, or group or index of securities (including 

interest therein or based on the value thereof), or any put, 

straddle, option, or privilege entered into on a national securities 

change relating to foreign currency, or, in general, any interest o

strument commonly known as a “security,” or any certificate o

terest or participation in, temporary or interim certificate for, rec

for, guarantee of, or warrant or right to subscribe to or purchase, 

of the foregoing.20

The statutory phrase “investment contract” captures the 

concept of what a security is, and interpretation of this phr

provided basic guidelines for defining a security. In such det

tions, courts have always been mindful that the bottom-line 

whether the particular investment or instrument calls for inves

tection under the federal securities laws.21

20. 15 U.S.C. § 77b(a)(1) (2000 & Supp. 2001). In 2000, the defin

amended to exclude security-based swap agreements but also to provide 

agreements, although not securities, are subject to the securities laws’ antifra

sions. See Commodity Futures Modernization Act of 2000, Pub. L. No. 106

Stat. 2763 (Dec. 21, 2000).

21. Marine Bank v. Weaver, 455 U.S. 551 (1982) (bank-issued certific

posit is not a security subject to federal securities laws, since it is already 

insured and purchasers therefore do not need that extra layer of protection 

afford).
12

The landmark case on the definition of an investment con

SEC v. W.J. Howey Co.22 The defendants in Howey were promot

were selling orange groves. The promoters also marketed 

tional” service agreement, under which a company affiliated w

promoters would handle all management of trees bought by th

tor. In reality, however, the promoters were selling a security 

in the trees and their fruit. Buyers were not expected to com

field and tend their own trees; in fact, that would have been 

impossible, given that there was no physical access or right o

to the individual plots. As such, it was virtually impossible 

single buyer to manage a plot individually, or even use a comp

services. Moreover, based on the small size of the plots, only 

mon enterprise and the resultant economies of scale would m

plots economically feasible. Thus, although not tied by cont

economic reality the services offered by the promoters were tie

property, creating a security.

Under the test developed in Howey, a contract, transac

scheme is an investment contract if “a person (1) invests his 

(2) in a common enterprise and (3) is led to expect profits (4

from the efforts of the promoter or a third party.”23 The fourt

of this test was later modified to require only that the profi

“primarily” or “substantially” from the efforts of others.24 In 

mining whether the Howey test is satisfied, the focus is on th

nomic reality” surrounding the investment package as a wh

exclusively on any single factor.

The definition of security is not limited to investment contra

example, stock is explicitly included in the statutory definition

is a strong presumption that stock is a security. Nevertheless

the economic reality test, some transfers of stock instruments 

transfers of securities. In United Housing Foundation, Inc. v. Fo

the U.S. Supreme Court rejected the argument that merely d

22. 328 U.S. 293 (1946).

23. Id. at 298–99.

24. See, e.g., SEC v. Glenn W. Turner Enter., Inc., 474 F.2d 476 (9th C

denied, 414 U.S. 821 (1973) (holding that pyramid sales arrangement is a secu

25. 421 U.S. 837 (1975).
13

nating an interest as stock necessarily makes it a security. In th

the stock was in a government-subsidized residential housing c

tive. Sale of the stock was tied to leasing an apartment in the c

tive. The stock yielded no dividends, provided no rights to a

tion, and was nontransferable. Furthermore, the voting rights w

set by the number of shares of stock held but by the leasehold 

held. The Court, placing substance over form, focused on t

nomic reality of the venture and found that the shares of stock 

fall within the 1933 Securities Act’s definition.

Following this economic reality approach, many courts of 

recognized a “sale of business” exception to treating stock as 

rity: Namely, when an entire business (or in some cases, a “con

interest” in a business) was sold, the transfer of stock was m

“incident” of the business and thus did not fall under the Se

Act.26 When the Supreme Court faced the issue, however, it to

eral approach. Finding that the stock involved had all the incid

“stock,” it held that even the sale of all the stock of a company 

of securities subject to securities laws.27

The impact of the demise of the “sale of business” doctrine 

plications beyond the sale of closely held businesses. The L

decision rejects the application of Howey as the exclusive test 

is a security. Although Howey is no longer the exclusive test 

fining a security, it is still good law. Other investment instr

26. See, e.g., Christy v. Cambron, 710 F.2d 669 (10th Cir. 1983); King v. 

673 F.2d 342 (11th Cir. 1982); Frederiksen v. Poloway, 637 F.2d 1147 (7th C

denied, 451 U.S. 1017 (1981). See generally Thomas L. Hazen, Taking Stoc

and the Sale of Closely Held Corporations: When Is Stock Not a Security?, 61 N.

393 (1983); Irving Seldin, When Stock Is Not a Security: The Sale of Busines

Under the Federal Securities Laws, 37 Bus. Law. 637 (1982).

27. Landreth Timber Co. v. Landreth, 471 U.S. 681 (1985). See gener

O’Brien & John Moye, The Sale of Business Doctrine: Landreth Adds New L

Anti-Fraud Provisions of the Securities Acts, 11 Vt. L. Rev. 1 (1986).

There is still some question as to whether the “sale of business” doctri

used under state securities laws to find the absence of a security. Compare Ja

v. Four-Phase Sys., Inc., 631 F. Supp. 1339, 1345 (W.D. Wash. 1986) (indic

the doctrine may be applicable under California law) with Specialized Tou

Hagen, 392 N.W.2d 520 (D. Minn. 1986) (rejecting the doctrine).
14

such as stock and notes expressly included in the statute, are a

differently; they are presumptively considered to be securities, 

presumption can be overcome.

Although under both the 1933 and 1934 Acts “any note” is 

rity, the phrase has been modified by both the statutes themsel

the courts. Special provisions of the Acts limit the applicabilit

federal securities laws to short-term notes. Section 3(a)(10

1934 Act, for example, excludes from the definition of secur

“note . . . aris[ing] out of a current transaction” with a matu

exceeding nine months. Section 3(a)(3) of the 1933 Act exemp

notes from registration (but not from liability imposed by an

provisions of the Act).28 In Reves v. Ernst & Young, the Suprem

declared that the phrase “any note” “must be understood aga

backdrop of what Congress was attempting to accomplish in e

the Securities Acts.”29 The Court adopted the “family resem

test for determining whether a note is a security. Using this ap

the starting point is a rebuttable presumption that the note is 

rity. Based on a court-created list of notes that fall outside the 

tion of security,30 the presumption may be rebutted by showi

the note in question fits in a category on the list; bears a strong 

resemblance” to a category on the list; or belongs to another c

that should be on the list.

The Reves factors for determining whether a note is a securit

follows: (1) the motivations/expectations of the parties involve

note transaction; (2) the investment or commercial nature 

transaction; (3) the reasonable expectations of the public; and 

existence or nonexistence of other regulatory schemes to con

transaction.31 These factors incorporate the early “commercia

28. The Act further exempts all renewals thereof that are “likewise limited

29. 494 U.S. 56, 63 (1990).

30. See, e.g., Chemical Bank v. Arthur Andersen & Co., 726 F.2d 930

Cir.), cert. denied, 469 U.S. 884 (1984); Exchange Nat’l Bank v. Touche Ro

544 F.2d 1126, 1137 (2d Cir. 1976).

31. The Court described the factors:

If the seller’s purpose is to raise money for the general use of a business ent

prise or to finance substantial investments and the buyer is interested primar

in the profit the note is expected to generate, the instrument is likely to be a “s
15

investment” approach,32 which rests on the view that many 

tions regulated in more specific ways do not need the protectio

federal securities laws.33 The Reves approach further incor

other considerations to ensure that only notes that resemble t

of securities transactions the acts were designed to regulate 

cluded in the definition of note.

B. Jurisdictional Provisions

The Securities Act of 1933 and Securities Exchange Act of 19

different jurisdictional reach with respect to companies issuing 

ties. The 1934 Act governs offerings or issuers with sufficien

state contact to support federal regulation.34 In contrast, secti

 curity.” If the note is exchanged to facilitate the purchase and sale of a minor 

set or consumer good, to correct for the seller’s cash-flow difficulties, or to 

vance some other commercial or consumer purpose, on the other hand, the no

is less sensibly described as a “security.” . . . Third, we examine the reasona

expectations of the investing public: The Court will consider instruments to 

“securities” on the basis of such public expectations, even where an econom

analysis of the circumstances of the particular transaction might suggest that t

instruments are not “securities” as used in that transaction. Finally, we exami

whether some factor such as the existence of another regulatory scheme sign

cantly reduces the risk of the instrument, thereby rendering application of t

Securities Acts unnecessary.

Reves v. Ernst & Young, 494 U.S. 56, 66–67 (1990) (citations omitted).

32. See, e.g., Smith Int’l, Inc. v. Tex. Commerce Bank, 844 F.2d 52 (5th C

Union Nat’l Bank v. Farmers Bank, 786 F.2d 881 (8th Cir. 1986).

33. See, e.g., Marine Bank v. Weaver, 455 U.S. 551 (1982) (federally in

tificate of deposit issued by bank not subject to securities laws); Brockton Sa

Peat, Marwick, Mitchell & Co., 577 F. Supp. 1281 (D. Mass. 1983); Tafflin 

865 F.2d 595 (4th Cir. 1989), aff’d, 493 U.S. 455 (1990) (certificate of depo

by savings and loan association not a security).

34. As to offerings, section 12(a) makes it unlawful for any broker or 

effect any transaction in a security on a national exchange unless a 1934 Ac

tion has been effected for the security. The registration requirement is se

section 12(g). See Donald Scott, Checklist for Registration of Securities Und

12(g) of the Securities Exchange Act of 1934, 25 Bus. Law. 1631 (1970).

As to issuers, for example, all issuers having more than $5 million in a

500 or more holders of a class of equity securities, and issuers having issued 

under a 1933 Act registration statement with more than 300 holders of su

ties, are subject to 1934 Act requirements. Sections 12(a),12(g), & 15(d).
16

the 1933 Act asserts jurisdiction requiring registration for non

offers or sales of securities through an instrumentality of in

commerce. Although jurisdiction would otherwise exist, the

exemption from registration for offerings taking place within 

state.35

Federal courts have taken a broad view of the jurisdictional 

the antifraud provisions contained in the 1933 and 1934 Acts

ing them generally to all securities, whether or not the secur

exempt from registration and periodic reporting requirement

cally, these antifraud provisions are triggered by the use of an 

mentality of interstate commerce.36 Under this expansive view 

risdiction, even a face-to-face conversation may be subject 

broadest antifraud provision—SEC Rule 10b-5—if the convers

part of a transaction that uses some instrumentality of intersta

merce.37 The universally accepted rule appears to be that a m

sentation need not be communicated through an instrument

interstate commerce, provided there is a connection between th

and the use of interstate commerce.38 A broad reading of the se

35. Section 3(a)(11) of the 1933 Act.

36. E.g., 1933 Act § 12 (rendering unlawful offers and sales “mak[ing] u

means or instrumentality of transportation or communication in interstate c

or of the mails to sell such security” unless the security is registered or exem

Act § 10(b) (“by the use of any means or instrumentality of interstate comme

the mails, or of any facility of any national securities exchange”).

37. E.g., Franklin Sav. Bank of N.Y. v. Levy, 551 F.2d 521, 524 (2d Cir. 1

risdiction found for claim based on section 12(a)(2) of the 1933 Act; “[T]he 

consisted primarily of the manual delivery of the note and the receipt of 

neither of which occasioned the use of the mails. After delivery of the note a

of the payment, however, [defendant] mailed a letter to [plaintiff] confir

sale.”); Leitner v. Kuntz, 655 F. Supp. 725 (D. Utah 1987) (mailing of finan

ment plus use of telephone to change date of face-to-face meeting were suff

jurisdictional purposes).

38. E.g., Kline v. Henrie, 679 F. Supp. 464 (M.D. Pa. 1988); United State

452 F. Supp. 788 (M.D. Pa. 1978); Harrison v. Equitable Life Assurance Soc

Supp. 281 (W.D. Mich. 1977); Levin v. Marder, 343 F. Supp. 1050 (W.D. Pa. 
17

laws’ jurisdictional requirements appears further warranted by 

Supreme Court decision involving federal mail and wire fraud.3

The jurisdictional scope of the 1934 Act’s regulatory pro

varies. A few provisions apply only to exchange-listed securi

not to over-the-counter securities. Section 9, for example, p

manipulative activity only in connection with securities that ar

on a national securities exchange. In contrast, section 15(c) g

SEC the power to promulgate rules prohibiting brokers and 

from participating in manipulative, deceptive, or fraudulent 

practices in connection with sales or attempts to induce sales

not limited to securities traded on the registered national excha

C. SEC Enforcement Powers

The SEC is empowered to investigate suspected violations of t

rities laws. Most investigations are conducted with a view tow

tiation of SEC administrative proceedings, initiation of SEC e

ment actions brought in federal court, or referral to the Depart

Justice for criminal prosecution. In addition to a normal invest

which can lead to criminal prosecution, civil litigation, or adm

tive action under section 21(a) of the 1934 Act, the SEC is emp

to issue public reports of its findings. This power is rarely invo

from time to time has raised considerable controversy.40

The SEC has direct prosecutorial authority to enforce the 1

in court with civil suits for injunctions and ancillary relief ag

leged violators. Should a criminal violation exist, the SEC Div

Enforcement refers it to the Department of Justice for crimina

cution. Where appropriate, the SEC may choose to address a se

law violation with administrative sanctions. With regard to 

39. In Carpenter v. United States, 484 U.S. 19 (1987), the Supreme Cour

violation of the mail fraud statute where the defendants did not themselve

requisite instrumentality but the scheme was dependent on someone else 

mail. The defendants were convicted of trading on advance knowledge of 

that were to appear in the Wall Street Journal; the mailing of the Journal w

satisfy the jurisdictional means.

40. For an example of criticism of the publication of investigations, 

Spartek, Inc., Exchange Act Release No. 34-15567 (Feb. 14, 1979) (Karme

ing).
18

professionals (broker–dealers, investment bankers, investme

panies, and investment advisers), the SEC can initiate adjud

proceedings that lead to possible sanctions ranging from cen

suspension or revocation of the right to act as a securities profe

The SEC has “cease and desist” power, conferred by the Se

Enforcement Remedies and Penny Stock Reform Act of 1990. 

and desist order may be appealed to the full Commission or dir

a federal court. The 1990 legislation also added section 21(d)(2

1934 Act (and parallel provisions of the other securities laws)

empowers the SEC to obtain a court order barring a perso

serving as an officer or director if that person’s conduct demo

“substantial unfitness.” It also gave the SEC power to issue civ

ties and, in administrative proceedings, to require disgorgemen

gotten profits resulting from securities law violations. It requir

tional disclosures by dealers in certain low-priced stocks, fre

referred to as penny stocks.41

41. Penny stocks are securities that are generally unlisted, over-the-coun

not traded on a national exchange or through an automated quotation syst

are sold at under $5 a share. They are frequently subject to abuse because (1

be sold in large volume, frequently to unsophisticated investors, generating e

profits for unscrupulous broker–dealers; (2) they are usually issued by smal

known companies that attract little attention outside that generated by th

broker–dealer; and (3) there is no reliable quotation system for the non-

OTC market, providing an opportunity for decreased supervision and increas

See Exchange Act Release No. 27,160 (Aug. 22, 1989).

Additional disclosures are now required about both the market value 

stocks and the people selling the stocks. Furthermore, the SEC is directed 

rules limiting the use of the proceeds of penny stock sales, providing a right 

sion to purchasers, and facilitating development of a quotation system prov

ume and last sale information. See also Rules 15g-1 through 15g-8, which co

SEC’s penny stock rules. These rules replaced Rule 15c2-6, an antifraud 

designed to combat the “unscrupulous, high pressure sales tactics of ce

ker–dealers by imposing objective and readily reviewable requirements that 

the process by which new customers are induced to purchase low-priced sto

change Act Release No. 27,160 (Aug. 22, 1989).
19

The SEC does not have jurisdiction to adjudicate disputes b

private parties.42 However, it can order disgorgement of profit

ministrative proceedings and has adjudicatory responsibility 

gard to regulation of market professionals.43

D. Relation to Other Federal Laws

In addition to the seven federal securities acts, a number of 

statutes may supplement the federal securities laws: the Forei

rupt Practices Act of 1977,44 enacted in response to widespre

cern over the activities of domestic companies in their d

abroad; the Racketeer Influenced and Corrupt Organizati

(RICO), enacted to facilitate efficient law enforcement with r

organized crime and racketeering activities; and the federal Ma

and Wire Fraud Acts.45 The SEC is involved in the administr

some of these laws when they involve securities regulation.

For certain regulated industries, the securities of issuers 

subject to regulation by other federal administrative agencies, e

addition to or sometimes in place of SEC regulation. The latt

tion occurs where the federal securities laws have created an 

tion for securities and/or issuers subject to regulation by both t

and another government agency. The rationale behind these 

tions is to avoid “double regulation,” especially where the reg

provided by the other agency is more subject-specific than tha

SEC. The Comptroller of the Currency, for example, has juris

42. Cf. the Commodity Futures Trading Commission’s reparations pro

Commodity Exchange Act § 14, 7 U.S.C. § 18 (1988).

43. Pursuant to Rule 102(e) of its Rules of Practice, the SEC can institute 

ings to suspend or otherwise discipline individuals admitted to practice befor

102(e) has been used on several occasions against lawyers and accountant

307 of the Sarbanes-Oxley Act of 2002, Pub. L. No. 107-204 (July 30, 2002)

the SEC to promulgate rules defining what constitutes proper legal represent

public company, including defining when a lawyer having evidence of 

wrongdoing must report that to the board of directors.

44. 15 U.S.C. §§ 78m(b)(2), 78dd-1, 78dd-2 (1988).

45. 18 U.S.C. §§ 1341, 1343 (1988 & Supp. 2001).
20

over the distribution of securities issued by national banks.46 A 

arrangement exists with regard to securities of savings and lo

ciations, which are subject to regulation by the Federal Hom

Bank Board.47 Other examples include securities of common 

regulated by the Interstate Commerce Commission, and secu

eleemosynary organizations, governed by regulations of the I

Revenue Service.

Banks and securities firms compete directly in a number o

including providing financing for corporations and managing 

investment funds.48 Banks and the federal banking agencies g

take an “entity regulation” approach under which anything 

does is subject to regulation only by banking agencies. Securiti

and the SEC generally take a “functional regulation” approac

which any entity that engages in securities dealings is subject 

lation by the SEC. There has been a great deal of litigation on 

sue.

Because securities are included in the definition of commodit

Commodity Exchange Act, “futures contracts” on individual se

46. 12 U.S.C. §§ 51–51c (1988); see also the 1933 Act § 3(a)(2), which 

an exemption from registration.

47. 12 U.S.C. §§ 1461–1470 (1988 & Supp. 2001); see also the 1933 Act 

which provides an exemption from registration.

48. With the enactment of the Gramm-Leach-Bliley Act of 1999 (Pub. L. 

102, 1999 U.S.C.C.A.N. (113 Stat.) 1338), Congress repealed the Glass-Ste

and its “Maginot line” between investment and commercial banking. Adopted 

the Glass-Steagall Act, 12 U.S.C. §§ 24 & 378, was enacted to bar commerc

from the investment banking business and securities firms from the commer

ing business. During the last three decades of the twentieth century, the pro

were continually eroded by administrative interpretation. Gramm-Leach-B

mits integrated financial services companies that previously were prohibited 

Steagall. It provides for functional regulation with oversight by the Federa

Board. This means, for example, that the SEC regulates securities activities; t

of the Comptroller of the Currency or appropriate state banking agency 

banking activities; and state insurance commissioners will continue to regul

ance-related activities. Gramm-Leach-Bliley permits bank holding compan

gage in increased securities and insurance activities. It also creates a new 

known as a financial holding company, which can engage in a wide variety o

activities, including investment banking, commercial banking, and insurance
21

and stock market and other financial indexes are regulated 

Commodity Futures Trading Commission rather than the SEC

tions trading on outstanding securities, which has mushroo

recent years following the development of organized opt

changes, is fully subject to SEC regulation. Contracts for futu

ery of securities, however, were developed by, and are tra

commodity exchanges rather than securities exchanges.

E. Relation to State Laws

The broad reach of the federal securities laws often brings th

contact, or conflict, with provisions of state laws, other feder

and foreign laws. State securities laws, commonly known as “b

laws, generally provide for registration of broker–dealers, regi

of securities to be offered or traded in the state, and sanctions 

fraudulent activities. States’ securities laws are still character

great diversity of language and interpretation.

Prior to 1996,50 federal securities laws specifically preserved 

risdiction of state commissions to regulate securities transact

long as their regulation did not conflict with federal law. How

that year Congress preempted state regulation in a number of 

tant areas.51 States are now barred from regulating offerings o

49. For an opinion analyzing the often-difficult question of whether a no

cial instrument should be considered a futures contract or a security, see Chi

cantile Exch. v. SEC, 883 F.2d 537 (7th Cir. 1989). See also Bd. of Trade v. 

F.3d 713 (7th Cir. 1999). In 2000 the Commodities Exchange Act was am

permit, for the first time, futures on individual equity securities. See Comm

tures Modernization Act of 2000, Pub. L. No. 106-554, 114 Stat. 2763 (Dec. 2

Prior to that Act the only individual securities (as opposed to indexes or b

securities) that could form the basis of futures contracts were federal gover

curities such as treasury bonds.

50. The enactment of the National Securities Markets Improvement Act 

in 1996 preempted a significant portion of state regulation of securities offerin

In 2002, the National Conference of Commissioners on Uniform State 

proved a new Uniform Securities Act (USA) designed to bring uniformity to s

lation of securities. Originally promulgated in 1956 and then substantially r

1985, the USA relates to the registration of broker–dealers, agents, advisers, 

rities, and has been substantially or partially adopted in more than thirty state

51. Section 18 of the 1933 Act, 15 U.S.C. § 77r (2000 & Supp. 2001).
22

ties listed on major stock exchanges or the National Associ

Securities Dealers’ national market system, securities issued 

vestment companies, securities sold to “qualified purchasers” 

fined by the SEC), and securities sold in certain types of tran

exempted from registration under the Securities Act of 1933, 

3 and 4. States remain free to bring antifraud proceedings, req

ing of notices, and collect fees with respect to such transactio

tion 15(h) of the Securities Exchange Act of 193452 now pr

state regulation of capital, custody, margin, financial respon

and record keeping of registered broker–dealers, as well as 

qualification requirements for associated persons. Investment 

with more than $25 million of assets under management that 

istered with the SEC are now exempt from state regulation.53 

ment advisers with less than $25 million under managem

regulated by their home states are now exempt from SEC regula

The internal affairs of corporations, the rights of their share

and the liabilities of their officers and directors are generally g

by the law of the state of incorporation. However, certain provi

federal securities law create liabilities that interact or overl

provisions of state corporation law. Examples from the 1934 

section 14,54 which regulates the solicitation of proxies in con

with shareholder meetings; section 16,55 which imposes liab

officers, directors, and large shareholders for their profits on 

swing trading in the corporation’s shares; and section 10(b)

imposes liability for a variety of “fraudulent or deceptive” ac

other example is SEC Rule 10b-5,57 which also imposes liab

“fraudulent or deceptive” acts.

A number of state laws regulate corporate takeovers, gener

posing greater obstacles to such takeovers than are found in 

52. 15 U.S.C. § 78o (2000 & Supp. 2001).

53. See Investment Advisers Act § 203A, 15 U.S.C. § 80b-3a (2000 & Supp

54. 15 U.S.C. § 78n (2000 & Supp. 2001).

55. 15 U.S.C. § 78p (2000 & Supp. 2001). See infra text accompanying no

56. 15 U.S.C. § 78j(b) (2000 & Supp. 2001).

57. 17 C.F.R. § 240.10b-5 (2002).
23

eral Williams Act.58 The validity of such laws under the Sup

Clause and the Commerce Clause of the United States Cons

has been considered in a number of cases.59 The state takeov

that have passed constitutional scrutiny are those that are par

corporate law, focusing on corporate governance issues.

Insurance companies are regulated only by state law, and lif

ance policies and annuities are specifically exempted from the 

tion provisions (but not the antifraud provisions) of the federa

ties laws.60 It is unlikely that traditional insurance policies and 

ties would be deemed to be securities even in the absence of s

emption. However, the Supreme Court has held that when in

companies issue “variable” annuities or insurance policies in 

the rate of return varies with the profitability of an investment 

lio, such instruments are securities subject to the provision

federal securities laws.61

58. Codified in sections 13(d), 13(e), 14(d), 14(e), and 14(f) of the 1934 A

59. See, e.g., CTS v. Dynamics, 481 U.S. 69 (1987); Edgar v. MITE, 457 

(1982); Amanda Acquisition Corp. v. Universal Foods Corp., 877 F.2d 496 

1989).

60. Section 3(a)(8) of the 1933 Act, section 3(a)(10) of the 1934 Act, 

§§ 77c(a)(8) & 78c(a)(10) (2000).

61. See SEC v. VALIC, 359 U.S. 65 (1959); SEC v. United Benefit, 387 

(1967). In 1987, the SEC adopted Securities Act Rule 151, a safe-harbor ru

ing the characteristics that would cause annuity contracts to be classified a

securities within the meaning of section 3(a)(8) of the 1933 Act.
25

III. Regulating the Distribution of

Securities—The Securities Act of 1933

A. Structure of the 1933 Act

The Securities Act of 1933 regulates the distribution of sec

There are two basic ways that securities can be distributed. Th

by a primary offering (or distribution): Stock is sold from the i

the stockholder, usually for the purpose of raising capital. The 

type is a secondary distribution: A shareholder or group of sha

ers owning a large number of shares sells stock to someone 

this case, the proceeds go not to the corporation (or other pri

suer), but to the selling shareholder. The 1933 Act regulates b

mary and secondary distributors, since it covers distributions 

rities by issuers, underwriters, and sellers.

If a transaction is covered by the 1933 Act, registration is r

as a precondition to offers and sales. There is a basic “road m

determining whether a transaction falls under the statute. Fi

tion 2(a)(1) defines a security. If the interest or instrument 

tion is a security, the next step is to determine whether the 

qualifies for one of the exemptions from registration found in 

3. Section 4 lists certain transactions that are exempt, even if t

rity itself does not qualify for a section 3 exemption. In additi

suant to section 28, the SEC has general exemptive authority 

plement the statutory exemptions. If the security or transactio

sue does not fall under one of these three provisions, registr

required under section 5, which also establishes limitations o

and sales. Sections 6 and 8 set forth the procedure for registrati

tions 7 and 10 list the disclosure requirements. If any of these 

are violated, there are civil liabilities under sections 11 and 1

tionally, there is a general antifraud provision regulating these 

tions in section 17, violation of which may result in SEC or c

prosecution.
26

B. Registration Process Under the 1933 Act

Section 5 of the 1933 Act breaks down the registration proc

three periods, based on the filing and effective dates of the regi

statement. The “prefiling” period begins months before the 

the registration statement and lasts until the filing date. The “w

period runs from the filing date until the effective date.62 Th

effective” period starts at the effective date of the registratio

ment.

Pursuant to section 8, the registration statement becomes e

twenty days from the date of the original filing or the filing of t

recent amendment, whichever is last.

Section 5 limits the type of selling efforts that may be us

places various restrictions on the dissemination of infor

throughout the registration process.63 No offer to buy or sell 

made before the registration statement is filed. Once the regi

statement is filed, any offers to buy and sell (as well as confi

sales) must meet certain requirements. No sales may take pla

after the registration statement becomes effective.

1. Prefiling Period

Section 5(c) prohibits all offers to sell and buy securities prior 

the registration statement; it remains in effect only during the p

period. An offer to sell is any communication reasonably calcu

62. The waiting period can be several months or longer. In terms of ac

tice, the waiting period is usually much longer than the statutory twenty day

time issuers and for complicated offerings because of SEC review practic

section 8, the effective date of deficient registration statements can be del

stop order or refusal order. Formal section 8 orders are the exception, sinc

will generally respond to deficient registration statements with a letter of 

suggesting changes. The letter of comment will frequently be followed by a 

amendment filed by the prospective issuer, putting off the effective date unti

ciencies are corrected. When appropriate, the effective date can be acceler

SEC Rule 461).

63. By virtue of sections 4(1) and 4(4) of the 1933 Act, section 5 does no

persons other than issuers, underwriters, and dealers. Nor does it apply to u

brokers’ transactions.
27

generate a buying interest.64 Section 5(c) applies to oral as 

written offers and is meant to prevent companies from “jump

gun” in announcing offerings before the registration statement 

Balanced against the desire to prevent “gun jumping” as ex

by the prohibitions of section 5(c) is the underlying purpose o

securities regulation: affirmative disclosure. Broker–dealers

ment advisers, and other financial analysts generate a great 

public information concerning securities.65 Therefore, there a

ous exemptions from section 5(c)’s prohibitions in the prefi

riod. For example, SEC Rules 137, 138, and 139 (which als

during the waiting and post-effective periods) provide exem

from gun-jumping prohibitions for certain broker–dealer reco

dations with regard to securities of 1934 Act reporting comp

Recognizing that many investment bankers have research analy

are separate from the underwriting department, these rules per

research department to continue with its regular business 

violating the prohibitions of section 5 of the 1933 Act. These 

tions are conditioned on certain protective requirements, in

64. In re Carl M. Loeb, Rhoades & Co., 38 S.E.C. 843 (1959), is general

ered the leading precedent for determining the scope of the definition of off

In Loeb, the company at issue was planning to go public. It had made a pr

agreement with a group of underwriters. The lead underwriter issued a pre

providing many specific details about the forthcoming offering. The SEC, wh

nizing that a prefiling press release may be a legitimate publicity device, ruled 

release was too explicit and was in fact designed to arouse buying interest in 

of section 5(c). Subsequently, the SEC, recognizing the informational tensi

sue, amended one of its rules to address prefiling publicity by an issuer. See 

135. There remains a question as to whether Rule 135, which speaks only 

releasing information, is the exclusive list of permissible information or is 

safe harbor.

65. For discussion of the impact of the Internet on the offering process 

disclosure issues, see Use of Electronic Media, Securities Act Release No. 33

SEC Docket 753 (Apr. 28, 2000); Use of Electronic Media for Delivery Purpos

ties Act Release No. 33-7234, 60 SEC Docket 1107 (Oct. 6, 1995).

66. Sections 13 and 15(d) of the 1934 Act provide for periodic rep

(1) issuers whose securities are traded on a national exchange, (2) securities 

been subject to a 1933 Act registration, or (3) issuers with more than $3 m

assets and more than 500 holders of a class of equity securities.
28

that the issuer of the recommended securities be sufficiently la

subject to reporting requirements (which ensure that there 

cient public information already available). At the same time, a

ker’s or dealer’s recommendation to purchase a security that d

fall within the scope of these rules would clearly violate sectio

less, of course, some other exemption could be found.

The definition of offer to sell under section 2(a)(3) of the 1

has been construed broadly: It is not limited to contract law d

but rather includes any communication calculated to arouse i

interest in the securities to be offered.67 Thus press releases an

announcements about a company or its securities can violate 

5(c)’s gun-jumping prohibitions. SEC Rule 135 sets forth a safe 

for prefiling publicity about an upcoming securities offering s

will not be treated as an illegal offer to sell. The purpose of R

and the SEC’s position generally is to allow permissible prefili

licity about a company and its financing plans that does not 

precondition the market and investors for the upcoming offerin

To permit the formation of the underwriting agreement, 

2(a)(3)’s definitions of the terms sale and offer to sell exclude 

nary negotiations and agreements between the issuer and the 

writer, as well as among underwriters in privity with the issuer

issuers of securities initiate prefiling activity designed to form 

derwriting group, contacting too many potential underwriter

tential members of the retail “selling group” may be viewed 

properly preconditioning the market, and therefore may res

finding of illegally jumping the gun. Section 2(a)(3)’s exclus

ances the need for formation of the underwriting group aga

desire not to have premature widespread generation of a buyin

est. It should be noted that the final underwriting agreement is 

not executed until the eve of the offering, and generally only a 

intent is signed at the prefiling stage.

67. In re Carl M. Loeb, Rhoades & Co., 38 S.E.C. 843 (1959) (discus

note 64). See also, e.g., Chris-Craft Indus., Inc. v. Bangor Punta Corp., 426 

(2d Cir. 1970); Securities Act Release No. 33-5180, 1971 WL 120474 (Aug. 1

68. See Securities Act Release No. 33-5180, 1971 WL 120474 (Aug. 16, 19
29

Section 5(a) prohibits sales prior to the effective date and t

erates during both the prefiling and waiting periods: Subsection 

prohibits the sale (or confirmation of a sale) prior to the effecti

and subsection (a)(2) prohibits taking steps toward the sale o

ery of securities pursuant to a sale through instrumentalities 

state commerce prior to the effective date.

2. Waiting Period

The waiting period begins once the registration statement h

filed and ends when the registration statement becomes ef

While section 5(c)’s prohibitions on offers to sell and buy no 

apply after the prefiling period, section 5(a)’s prohibitions on 

securities continue through the waiting period. In addition, 

5(b) “prospectus” requirements control the types of written o

sell that may be made during both the waiting and post-effecti

ods.

A prospectus, as defined by section 2(a)(10), is any written 

permanent or widely disseminated offer to sell. For example

phone communication is not a prospectus, but a television o

advertisement is. Most Internet communications qualify as p

tuses.69 A written confirmation of a sale is expressly included 

statutory definition of a prospectus.70

A combination of statutory provisions limits the variety of 

sible written offers to sell that may be used during the waiting 

(and the post-effective period as well). While section 5 permi

during the waiting period, section 5(b)(1) makes it unlawful t

mit any prospectus after the filing of the registration statemen

the prospectus meets the disclosure requirements of section 

information called for by section 10, however, may not be a

until the underwriting agreements have been signed and the 

69. Information in E-mails and on Web sites clearly is subject to prosp

quirements. See Use of Electronic Media, Securities Act Release No. 33-7856

Docket 753 (Apr. 28, 2000). Live Internet simulcasts (also referred to as Inte

shows) may, under limited circumstances, be treated in much the same mann

communications and thus not be subject to the prospectus requirements. Id.

70. Rule 10b-10 of the 1934 Act requires that all sales by broker–dealer

firmed in writing.
30

price set. The 1933 Act solves this problem by exempting fr

path two types of written offering material: a type of identifyin

ment known as a “tombstone ad”;71 and the preliminary pro

(discussed below).

Although offers to buy are permissible (since section 5(c) d

apply during the waiting period), an offer to buy that leads to a 

ture or otherwise illegal sale violates section 5(a). By virtue of 

10(b), which permits certain prospectuses during the waiting 

and section 2(a)(10), which excludes certain communication

the definition of prospectus, there are four types of permissib

to sell during the waiting period.

First, all oral communications are permitted, provided that 

is consummated (lest there be a violation of section 5(a)).72 S

oral communication is not “permanent,” it is excluded from 

tion 2(a)(10) definition of prospectus.

Second, an identifying statement, as defined in section 2(a)

and Rule 134, is permissible during the waiting period. This i

tively narrow category because the type of information that 

included is severely limited. Section 2(a)(10)(b) expressly e

these communications from the definition of prospectus as lon

requirements of Rule 134 are met. Inclusion of any informat

specifically permitted by Rule 134 renders the rule unavaila

thus may result in a prospectus that fails to comply with sect

requirements. This, in turn, can result in a violation of section 5

Third, a preliminary (or red herring) prospectus, as defined 

430, is permissible during the waiting period. It must contain 

formation required in a full-blown statutory prospectus, exc

price and some other terms may be omitted. Furthermore, the

be a legend explaining that it is a preliminary prospectus. T

71. A tombstone ad is the industry term for an identifying statement th

announces the offering and lists the underwriter.

72. The only prohibition is on written offers to sell, thus any (including 

offers to buy are permissible, provided the sale is not consummated. While 

no section 5 implications, oral offers to sell are, of course, subject to the 

acts’ general antifraud provisions.
31

liminary prospectus may be used only during the waiting pe

may not be used after the effective date.

Finally, a preliminary summary prospectus, as defined in Ru

may be used by certain experienced issuers during the waiting 

A summary prospectus is a short-form prospectus that may be 

qualifying issuers under some circumstances. The summary p

tus may also be used after the effective date and, like the prel

version, is available only for an issuer who is a registered re

company under the 1934 Act. The Rule 431 summary prospect

contain all of the information specified in the official SEC f

companying the applicable registration statement form as w

caption stating that a more complete prospectus will be availab

designated broker–dealers. The summary prospectus may not 

any information not permitted in the registration statement or 

stone ad as spelled out in Rule 134(a). A Rule 431 prospect

satisfies section 5(b)(1);73 it does not satisfy section 5(b)(2).

when a Rule 431 prospectus is used, a “full-blown” (or “stat

section 10(a) prospectus must still be delivered to all purchase

necessarily increases the record-keeping and monitoring activ

the underwriters.

3. Post-Effective Period

Once the registration statement becomes effective, section 5(a

hibitions cease to apply and sales are permitted. Both of sectio

prospectus requirements apply. Section 5(b)(1) requires that 

ten or otherwise permanent offers to sell or confirmations 

must be qualifying prospectuses (i.e., a section 10(a) full-blow

tory prospectus or a qualifying section 10(b) prospectus). 

5(b)(2) provides that no security may be delivered for sale un

companied or preceded by a statutory section 10(a) prospectus

case of securities held for a customer’s account by a broker o

73. Section 5(b)(1) requires any written offer or confirmation to comply 

tion 10; a summary prospectus is valid for this purpose under section 10(b).

74. Section 5(b)(2), which applies only during the post-effective period

every person who purchases a security in the offering to receive a section 10

blown” prospectus prior to delivery of that security.
32

custodian, the customer must still receive the prospectus befo

ery.

Under section 2(a)(10), “free writing” is permitted in th

effective period. Thus, supplemental sales information may be 

prospective purchasers provided that it is preceded or accompa

a prospectus that meets the requirements of section 10(a). In 

case, free writing is limited only by the antifraud provisions o

curities laws.75

4. Shelf Registration (Rule 415)

Originally, it was assumed that effective registration meant t

covered shares were immediately on sale.76 However, as offer

came more sophisticated, it became clear that there were offeri

should be delayed77 or would be made on a continuous basis, 

the existing registration system inadequate. Therefore, th

adopted Rule 415, permitting “shelf registration.” Under this 

corporation that over a period of time has been eligible to use 

3 may register securities for sale from time to time over a perio

to two years. For the registration statement to remain effectiv

ever, there is an ongoing duty to regularly update information i

C. Disclosure Requirements in Securities Offerings

1. Registration Forms

The primary purpose of the Securities Act of 1933 is to prom

closure of information to potential investors so that they ca

informed decisions. The registration statement is the basic di

document that issuers must file with the SEC for 1933 Act r

tion. A number of alternative disclosure forms may be availab

suers for registration, depending on the nature of the issuer, 

75. See also Rules 137, 138, and 139, which deal with broker–dealer reco

tions of securities during the registration process.

76. In fact, holding the shares off the market could be deemed a man

practice.

77. Such offerings include debt offerings in times of fluctuating inte

where the effective date may not fall in the best climate in which to attempt 

covered securities.
33

cumstances surrounding the offering, and the type(s) of secur

fered. All registration forms are divided into two principal s

The information contained in the first portion of the regi

statement is the same information in the prospectus as requ

section 10(a) of the 1933 Act and Schedule A. The Schedu

statutory prospectus must be delivered before the consumm

any sale pursuant to a registered offering. Schedule A provide

minimal outline of the types of disclosures required. The seco

of the registration statement, not discussed in detail here, con

additional information and exhibits that are not sent out in t

spectus but are available in the SEC files for public inspecti

specific disclosure requirements are found in the SEC’s regi

forms and in SEC Regulations S-K, S-B, and S-X. Regulation 

scribes in detail the ways in which the relevant information sh

set forth. Regulation S-B provides simplified disclosures for 

certain instances, by small business issuers. Regulation S-X ad

accounting matters in significant detail. In analyzing the suffic

disclosures in a registered offering (or any disclosure requirem

that matter), it is necessary to consult not only the applicable r

tion form but also Regulations S-K and S-X.

The SEC uses an integrated disclosure system78 for registr

securities under the 1933 Act. The three-tiered system of regi

and prospectus disclosure of registrant-oriented information79 

on the registrant’s reporting history and market following. Thr

tration forms—S-1, S-2, and S-380—provide the basic framew

this system.

78. Prior to 1982, the SEC administered two parallel but uncoordinated d

systems: one for registration of public offerings under the 1933 Act and the 

periodic reporting requirements under the 1934 Act. This resulted in dupli

ings and unnecessary paperwork. The SEC adopted the integrated disclosure 

1982.

79. The transaction-specific matters (information specific to the secur

ance) should always be disclosed in the registration statement and prospectus

80. Other registration forms are tailored to specific types of transactions

Form S-4 for certain mergers and other business combinations involving pu

panies.
34

Form S-1 is the basic long-form registration generally avai

issuers that do not qualify for one of the other forms. It require

information on the registrant and transaction to be provided 

prospectus. As a practical matter, Form S-1 is used primarily f

offerings by first-time issuers and by companies with public

securities but only a limited number of shareholders.

Form S-2 requires less detailed disclosure. It may be used 

issuer that has been filing reports under the 1934 Exchange A

least three years. Information that the issuer has reported on F

K of the 1934 Act is incorporated by reference into the pros

Along with the description of the offering in the prospectus, th

trant need only provide an annual report or comparable info

in the prospectus itself.

Form S-3 requires the least detailed level of disclosure to in

by allowing for the fullest possible incorporation by reference 

change Act reporting. No registrant-oriented information is re

only the transaction-specific description of the offering need 

closed in the prospectus. Form S-3 may be used only by issu

have been reporting under the 1934 Act for at least one ye

thermore, the form may only be used for certain kinds of of

secondary offerings, or where the registrant passes the “mar

lowing” test.81

In addition to the basic framework for registration establi

forms S-1, S-2, and S-3, there are some additional and more 

ized forms geared toward certain situations. For example, a sim

Form SB-2 is available for small business issuers.82 Also, the S

81. Until 1993, the market following test contained the alternative stand

$150 million minimum value of voting stock held by nonaffiliates (the “flo

$100 million float and an annual trading volume of at least three million sh

Special Report, 1982 Integrated Disclosure Adoptions, Fed. Sec. L. Rep. (C

956 at 23–30 (Mar. 11, 1982). In 1993, the market following test was reduced 

million float regardless of annual trading volume. The theory behind the m

lowing test is that such widely held securities have a sufficiently large infor

ket following, making more detailed disclosure unnecessary.

82. Other registration forms available for special situations inclu

S-4, for mergers and acquisitions; Form S-6, for registration of securities o
35

adopted Form SB-1 to replace rescinded Form S-18, which 

short-form registration statement used for small issues. For

may be used for offerings when the aggregate offering price d

exceed $10 million dollars and the securities are to be sold fo

Form S-18 was not available to issuers subject to the 1934 Ac

ing requirements; nor was it available to a majority-owned su

of a 1934 Act reporting company.83 Form SB-1 is available t

more issuers than its predecessor.

In examining completed registration statements, the SEC h

pointed a number of areas particularly susceptible to inadeq

misleading disclosures.84 For example, shortcomings in manag

statements have led to requirements85 seeking more detailed i

tion with respect to the following: the company’s plan of op

(in the case of companies going public for the first time); com

conditions in the company’s industry; and dilution resulting f

disparity between the prices paid for the company’s securities 

lic investors and those paid by “insiders.”

2. Adequacy of Registration Statement Disclosures

The registration statement must include all material facts. 

purposes of a 1933 Act registration statement, Rule 405 defines 

rial” as “matters to which there is a substantial likelihood tha

 

certain investment trusts; Form S-8, for employee stock purchase plans; a

S-11, for securities issued by certain real estate investment companies.

83. Thus, as a practical matter, it was available only for a first-time public 

84. See, e.g., In re Universal Camera Corp., 19 S.E.C. 648 (1945). In this 

SEC identified six common problems in the first-time registration made by 

dant: (1) failure to adequately explain the issuer’s prior adverse trends in 

income; (2) failure to divide into product lines information about past per

and to explain whether past performance is a reasonable guide to the future

ure to give a detailed description of the use of the proceeds from the offering 

(4) failure to disclose and explain transactions involving management and/or 

entities (including underwriting discounts, loans to officers, and other pote

flicts of interest); (5) failure to use charts and graphs to explain the disclo

make the prospectus more readable for potential investors; and (6) insuffici

duction to the registration statement (note that the SEC will also challenge 

duction that is overly verbose).

85. See Items 101(a)(2), 101(c)(x), and 506 of Regulation S-K.
36

sonable investor would attach importance in determining wh

purchase the security registered.” This definition encompasse

not limited to, financial information.86 Under section 8 of th

Act, the SEC may issue a stop order to prevent the issuance o

fering if it believes the registration statement misstates or omi

terial fact. Moreover, civil liability may arise when a security 

under a registration statement that misstates or omits a materia

There has been controversy over the inclusion in regi

statements of “soft” information, such as projections, predictio

opinions. Since the late 1970s, SEC policy has been to encour

closure,87 as evidenced by Rule 175’s safe-harbor rule for “f

looking statements.” Under Rule 175 (and in the courts genera

issuer is under no duty to provide soft information, but if it ch

do so the information is presumed nonfraudulent and the burd

the challenger to show either that there was no reasonable b

the statement or that it was not made in good faith. The Seve

cuit has held that the issuer may, but need not, disclose the u

ing assumptions behind a challenged projection, increasing fur

burden on the challenger.88

Section 27A of the 1933 Act89 and section 21E of the 19

codify the earlier case law and provide a safe harbor for f

looking statements and the “bespeaks caution” doctrine created 

86. For example, “material” has been construed to include the profess

personal integrity of management. See, respectively, SEC v. Jos. Schlitz Bre

452 F. Supp. 824 (E.D. Wis. 1978), and Franchard Corp., 42 S.E.C. 163 (1

see Gaines v. Haughton, 645 F.2d 761 (9th Cir. 1981), cert. denied, 454 U

(1982) (holding that materiality does not extend to corporate bad judgme

ruption).

87. Originally, the SEC took the position that only “hard” information (

able, demonstrable facts) should be contained in the registration statement

cussions of this position, see, e.g., Harry Heller, Disclosure Requirements Und

Securities Regulation, 16 Bus. Law. 300 (1961); Homer Kripke, The SEC, the 

ants, Some Myths and Realities, 45 N.Y.U. L. Rev. 1151 (1970).

88. Wielgos v. Commonwealth Edison, 892 F.2d 509 (7th Cir. 1989). See 

Roots P’ship v. Land’s End, Inc., 965 F.2d 1411 (7th Cir. 1992).

89. 15 U.S.C. § 77z-2 (Supp. 2001).

90. 15 U.S.C.A. § 78u-5(c) (Supp. 2001).
37

federal courts. The safe harbor allows corporate managemen

close forward-looking information and projections to investor

presumption that there was a reasonable basis91 for the proje

The bespeaks caution doctrine provides that specific caution

guage can render inaccurate projections not actionable.93 In a

to the encouragement of forward-looking information and 

speaks caution doctrine, the SEC requires that management 

and analyze known trends and uncertainties that could have a 

impact on the company’s operations.94

91. See, e.g. In re 2The Mart.com, Inc. Sec. Litig., [1999–2000 Transfe

Fed. Sec. L. Rep. (CCH) ¶ 91,037 (C.D. Cal. 2000) (projections that on-lin

site would soon be operational lacked reasonable basis where there were 

ments to design or construct the site).

92. See SEC Rules 175 and 3b–6, 17 C.F.R. §§ 230.175, 240.3b–6. The R

does not present an insurmountable obstacle to actions based on projections

In re N2K Inc. Sec. Litig., 202 F.3d 81 (2d Cir. 2000), aff’g 82 F. Supp

(S.D.N.Y. 1999) (cautionary language in prospectus concerning likelihood 

ued losses was sufficient); Cherednichenko v. Quarterdeck Corp., [1998 

Binder] Fed. Sec. L. Rep. (CCH) ¶ 90,108 (C.D. Cal. 1997) (plaintiffs adeq

leged the existence of facts contradicting optimistic projections); Erin M. 

Comment, What’s Wrong With the Safe Harbor for Forward-Looking Statemen

to the Securities and Exchange Commission to Reconsider Codification of the 

Caution Doctrine, 81 Marq. L. Rev. 133 (1997).

See also, e.g., P. Schoenfeld Asset Mgmt. LLC v. Cendant Corp., 47 F. Sup

(D.N.J. 1999) (forward-looking statements concerning desire to complete 

were covered by the Act’s safe-harbor provisions).

93. See In re Worlds of Wonder Sec. Litig., 35 F.3d 1407 (9th Cir. 1994)

First W. Gov’t Sec., Inc., 24 F.3d 480 (3d Cir. 1994); Rubinstein v. Collins

160 (5th Cir. 1994); In re Donald J. Trump Casino, 7 F.3d 357 (3d Cir. 1993)

Lamson & Sessions Co., 948 F.2d 1037 (6th Cir. 1991); I. Meyer Pincus & 

Oppenheimer & Co., 936 F.2d 759 (2d Cir. 1991); Romani v. Shearson Leh

ton, 929 F.2d 875 (1st Cir. 1991); Luce v. Edelstein, 802 F.2d 49 (2d Cir. 1

also Committee on Securities Regulation, A Study of Current Practices: 

Looking Statements and Cautionary Language After the 1995 Private Securit

tion Reform Act, 53 Record 725 (1998); Thomas W. Kellerman et al., Upda

ward-Looking Statements and the Reform Act Safe Harbor, 32 Rev. Sec. & C

Reg. 129 (June 23, 1999). Cf. In re N2K Inc. Sec. Litig., 202 F.3d 81 (2d C

aff’g 82 F. Supp. 2d 204 (S.D.N.Y. 1999) (sufficient cautionary language tha

performance might fall below analysts’ expectations).

94. Item 303 of Regulation S-K (management discussion and analysis).
38

These safe harbors were designed to encourage companies 

projections and disclose future plans without undue worry abo

suits if things happen to turn out differently than planned.

D. Exemptions from Registration Under the 1933 Act

Section 5 of the 1933 Act applies to any offer or sale of any 

unless an exemption exists. Exemptions under the 1933 Act ar

on the type of security involved or on the type of transaction

rity” exemptions are generally covered by section 3, while “

tion” exemptions are generally covered by section 4 and vario

rules promulgated thereunder.95 Both types of exemptions are 

tions from registration, not from the antifraud provisions.

The burden of establishing an exemption falls on the claim

emptions are strictly construed. Thus, transactions must be c

structured and documented to qualify for an exemption. As a 

proposition, a single violation in the course of a planned 

transaction can destroy the entire exemption.96 The conseque

losing an exemption are dire, ranging from section 12(a)(1) 

for rescission of any sale to possible criminal liability.

1. Exempt Securities

Section 3 of the 1933 Act authorizes exemptions from section 

istration requirements based on the nature of the security in

Section 3(a)(2) exempts bank securities, insurance policies, a

ernment securities because they are already regulated by som

agency more focused on the specific needs of the industry, and

are considered less risky to investors.

95. Section 28 of the 1933 Act gives the SEC broader exemptive powe

found in sections 3 or 4 of the Act. Specifically, the SEC can exempt by rule 

tion any person, security, or transaction that it finds to be in the public int

consistent with investor protection. As of the writing of this monograph, the 

relied on this broad exemptive power only once—Rule 701’s exemption f

offerings by nonpublic companies to their employees.

96. But see SEC Rule 508, which provides that insignificant deviation

term, condition, or requirement of Regulation D will not destroy the exemp

transaction structured in good faith.
39

Section 3(a)(3) exempts short-term commercial paper fro

tration. This provision was enacted to exempt “short term pape

type available for discount at a Federal Reserve bank and o

which is rarely bought by private investors.” 97 While these, lik

exempt securities, are subject to the 1933 Act’s antifraud pro

short-term commercial paper is excluded from the 1934 Act de

and thus is not subject to the 1934 Act’s antifraud provisions

ally all other securities exempt from 1933 Act registration 

subject to the 1934 Act’s antifraud provisions.

Securities of nonprofit issuers are exempt from registration 

section 3(a)(4). Generally, availability of this exemption depe

the ruling of the IRS regarding whether a contribution to the 

lar issuing institution is a proper charitable deduction. These 

are exempt because they are already regulated and supervised 

other agency. Section 3(a)(5) exempts securities issued by b

and loan associations and similar associations, again because 

regulated more closely by another agency. Case law has narro

fined this exemption: Substantially all of the issuer’s busine

entail making loans to its members.98

A rather narrow category—interests in railroad equipment 

is also exempt from 1933 Act registration by virtue of section 

Another exemption of relatively narrow applicability is found 

tion 3(a)(7), exempting trustees’ certificates issued in bank

provided they have been issued with court approval. Congr

little reason for securities law supervision of a receiver alread

court supervision—beyond the antifraud provisions, of course.

Section 3(a)(8) exempts insurance policies and annuities fro

Act registration. This provision does not exempt insurance c

stock or other securities apart from such policies and annuit

tracts. Further, certain annuity contracts (such as variable fund 

ties) may not be exempt in light of the leading case decided by 

preme Court under the Act’s definition of security.

99

97. H.R. Rep. No. 73-85, at 15 (1933).

98. See, e.g., SEC v. Am. Int’l Sav. & Loan Ass’n, 199 F. Supp. 341 (D. Md

99. See, e.g., SEC v. Variable Annuity Life Ins. Co., 359 U.S. 65 (1959).
40

Although the following five section 3 exemptions—s

3(a)(9), 3(a)(10), 3(a)(11), 3(b), and 3(c)—are labeled secu

emptions, they operate more like transaction exemptions when 

functionally. Therefore, absent another exemption, all later 

tions or “downstream” public resales of these securities by 

having acquired them under this exemption must be regist

these instances, the real rationale for the exemptions is the cha

tics of the offers, not the characteristics of the securities.

a. Exemptions for Certain Exchanges of Securities: Sections 3(a)(9

3(a)(10)

Certain voluntary exchanges between an issuer and its existin

rity holders are exempt from registration under section 3(a)

though this exemption is relatively narrow in scope. To qua

remuneration may be paid or given to any underwriter or an

person soliciting the exchange; the issuer of both the securiti

issued and the securities to be exchanged must be the same; 

part of the offering may be made to persons other than existin

rity holders. The rationale behind this exemption is that the 

are already shareholders, and presumably in possession of a

information about the issuer, so no new information need be gi

Judicially or administratively approved exchanges of secur

also exempt from 1933 Act registration by virtue of section 3

again because the transaction is already supervised in a pro

where the fairness of the exchange is considered.

b. The Intrastate Exemption: Section 3(a)(11)

Section 3(a)(11), the intrastate exemption, exempts from regi

the issuance of securities where the offering is solely within t

fines of a single state and other conditions are also met. This 

tion focuses on the nature of the transaction rather than the se

themselves; its availability depends not only on the attribute

security or issuer but also on the form, scope, and extent of th

actions consummated pursuant to the offering. However, unli

of the true transaction exemptions discussed below, with a 

3(a)(11) exemption there are no limitations on (1) the aggreg

lar amount of the securities to be offered; (2) the number or n

offerees or purchasers so long as all offerees are residents of t
41

of the offering; (3) the manner of offering;100 or (4) resale so 

the securities have “come to rest” within the state, or in other 

provided there have been no out-of-state “downstream” resale

exemption is relatively narrow since all aspects of the entire 

must take place within a single state.

Section 3(a)(11) is not drafted in a precise and detailed m

and prior to 1974 relatively little judicial precedent and few 

terpretive releases and rules were available. Most guidance wa

in SEC no-action letters, which by their nature are expressly c

to the facts as given. Statutory construction made clear, howev

certain requirements must be met for section 3(a)(11) to be 

ble. The issuer must be a resident of the state. If the issuer is a 

ration, it must be incorporated under the laws of the state in a

to having its principal place of business there. In addition, cou

the exemption so narrowly as to require that a corporate issue

substantially all of its income from operations within the state 

substantially all of the proceeds of the offering within the state

thermore, to retain the exemption, case law requires that th

come to rest in the hands of state residents.103

In 1974, the SEC promulgated 1933 Act Rule 147 as a “safe 

in an attempt to provide certainty for those hoping to utilize th

state exemption. Rule 147 is available only to issuers, althou

statute is not so limited and could be applied to secondary 

tions as well. In other respects, Rule 147 provides a good guid

the elements of the statutory exemption. Its availability requir

pliance with every element of the rule. The issuer must be a 

of and doing business within the state of the offering. If the iss

corporation, it must be incorporated in the state of the offering

must make and use 80% of its profits within the state. All offer

100. A general solicitation may, however, trigger state securities law re

requirements.

101. Certain out-of-state downstream resales (i.e., before the securities ha

to rest”) may destroy the intrastate exemption. See 1 Thomas Lee Hazen, T

the Law of Securities Regulation § 4.12 (4th ed. 2002).

102. See, e.g., SEC v. McDonald Inv. Co., 343 F. Supp. 343 (D. Minn. 1972

103. See, e.g., Busch v. Carpenter, 827 F.2d 653 (10th Cir. 1987).
42

purchasers must be residents of the state of the offering. Th

limitations on resales for a period of nine months after the l

that is “part of an issue.” “Part of an issue” is defined in subsec

of Rule 147 and is the rule’s counterpart to the “integration d

for telescoping multiple transactions into one. Rule 147 is on

harbor, and thus noncompliance raises no inference as to the 

ability of the intrastate exemption.

Even a limited number of resales to nonresidents before th

has come to rest will render the exemption inapplicable to th

offering.104 In such a case, the resident purchasers can claim 

securities they purchased were sold in violation of section 

giving them a right of rescission under section 12(a)(1) of th

Whether the issue has come to rest within a single state is a 

fact-specific determination when there have been subsequent 

state resales. Certainly, time is a factor. Rule 147 prohibits re

nonresidents until nine months from the date of the last sale 

issuer of a security of the type for which the exemption is sou

course, because this is only a safe-harbor rule, nine months m

be necessary. The Tenth Circuit held that resale to nonre

within seven months of the initial offering did not violate the 

to rest requirement based on the facts of that case.106 On th

hand, mere technical compliance with the safe-harbor period 

months is not sufficient if it is a sham merely to avoid regis

While certainly all purchasers will not be required to hold thei

ties for an infinite amount of time, the courts have held that e

of investment intent (or lack thereof) on the part of the resid

chasers is a relevant consideration.

c. Small-Issue Exemptions: Sections 3(b) and 3(c)

Section 3(b) of the 1933 Act empowers the SEC to provide ad

small-issue exemptions by promulgating appropriate rules. T

tion is not self-executing: It requires “enabling rules” develop

promulgated by the SEC. Thus, the SEC has the freedom to cr

104. See, e.g., Hillsborough Inv. Corp. v. SEC, 276 F.2d 665 (1st Cir. 1960

105. Securities Act Release No. 33-4434 (Dec. 6, 1961).

106. Busch v. Carpenter, 827 F.2d 653, 657 (10th Cir. 1987).
43

exemptions it believes necessary or appropriate in light of pol

siderations. Currently, such exemptions are limited to offer

$5 million or less. The exemptions emanating from section 

clude those found in Regulation A, as well as Rules 504 and 

Regulation D.107 The SEC had proposed legislation to raise 

3(b)’s ceiling to $10 million, but the proposal became moo

Congress enacted section 28’s general exemptive authority

does not place a dollar limit on exemptions. The SEC has ra

$5 million ceiling only with respect to Rule 701’s exemption 

tain offerings by nonpublic companies to its employees.

Section 3(c) authorizes the SEC to exempt securities iss

small business investment companies organized under the Sm

ness Investment Act of 1958, provided that enforcement of th

Act “with respect to such securities is not necessary in the pu

terest and for the protection of investors.” The SEC has exerci

power by promulgating Regulation E.108 By definition, the secti

exemption is not available to the vast majority of public issue

curities.

2. Exempt Transactions

a. Transactions Not Involving an Issuer, Underwriter, or Dealer:

Section 4(1)

Section 4 of the 1933 Act describes the types of transactions 

exempt from the registration requirements of section 5. Tran

exemptions rise and fall with both the form and substance 

transaction and the nature of the participants. These exemption

available, can be destroyed when purchasers under the exemp

sell the securities. Downstream sales have the potential to erad

existing exemption.

Section 4(1) provides a transaction exemption for person

than an issuer, underwriter, or dealer. Issuer and dealer are de

107. 17 C.F.R. §§ 230.501–230.508 (2002).

108. Regulation E provides an exemption for small business investmen

nies.
44

the 1933 Act109 and have been interpreted as ordinary parlan

terms of art. Underwriter, by contrast, has become a term of art 

to significant SEC and judicial construction.

Section 2(a)(11) of the 1933 Act defines an underwriter as

any person who has purchased from an issuer with a view to, o

fers or sells for an issuer in connection with, the distribution of 

security, or participates or has a direct or indirect participatio

any such undertaking. . . . As used in this paragraph the term 

suer” shall include, in addition to an issuer, any person directl

indirectly controlling or controlled by the issuer, or any person 

der direct or indirect common control with the issuer.

Determining who is included in this definition has requir

stantial interpretation. Underwriter status is not dependent o

mal underwriting agreement or even compensation for servin

underwriter. Any intermediary between the issuer and the i

that is an essential cog in the distribution process may be a s

underwriter.110 By definition, underwriters include participants 

tively large transactions who may unwittingly become “underw

and thus subject to the proscriptions of section 5.111 The Act’s 

tion encompasses persons who purchase or otherwise obtain 

amount of securities directly from the issuer (or a control pe

and then resell the securities.113

109. Issuer is defined in section 2(a)(4) as “every person who issues or pr

issue any security.” Dealer is defined in section 2(a)(12) as “any person wh

either for all or part of his time, directly or indirectly . . . in the business o

buying, selling, or otherwise dealing or trading in Securities issued by ano

son.”

110. See, e.g., SEC v. Chinese Consol. Benevolent Ass’n, 120 F.2d 738 

cert. denied, 314 U.S. 618 (1941) (holding that even though the Chinese B

Association had no formal agreement or contract with the government of C

received no remuneration, it was nevertheless deemed an underwriter becau

engaged in the systematic, continuous solicitation, collection, and remission 

to purchase bonds, the securities at issue in the case).

111. See, e.g., In re Ira Haupt & Co., 23 S.E.C. 589 (1946).

112. See infra text accompanying notes 213–16 (1933 Act) and note 4

Act).

113. See, e.g., United States v. Wolfson, 405 F.2d 779 (2d Cir. 1968), ce

394 U.S. 946 (1969) (defendant purchased the securities from the issuer
45

Initially, guidelines for the definition of underwriter arose f

dicial and SEC interpretations and tended to be subjective. I

mining whether a person is a statutory underwriter, a key q

was whether the would-be underwriter had sufficient investm

tent at the time of purchase to qualify as an investor. Purcha

quently drafted letters of “investment intent” at the time of th

chase in an attempt to avoid underwriter status, but these lette

deemed mere evidence of intent and not determinative, es

when the stock was held for a short period of time.114

Over time, more objective guidelines developed. Determi

vestment intent has become in large part a question of how l

securities are held before resale. The consensus has been that 

the securities for two to three years or more is ordinarily suffi

show investment intent.115

However, passage of time alone may not be enough to prev

derwriter status. Section 2(a)(11) speaks in terms of taking the 

ties with the intent to distribute. Courts and the SEC also loo

circumstances surrounding the downstream sale. Transaction p

believed this could be used to shorten the necessary holding 

By proving an unforeseen change in circumstances for the w

underwriter, planners thought the holding period should b

ened. Although the SEC consistently refused to issue no-action 

based on this “change of circumstances” defense, planners fre

relied on it in permitting transactions without registration

 

Guild Films Co., 279 F.2d 485 (2d Cir.), cert. denied, 364 U.S. 819 (1960) (d

bank accepted stock as collateral, knowing there was a substantial likelihoo

loan recipient would default and the bank would foreclose and sell the stock)

114. Gilligan, Will & Co. v. SEC, 267 F.2d 461 (2d Cir.), cert. denied, 

896 (1959) (although investment letter existed, ten-month holding period w

cient to show investment intent).

115. See, e.g., United States v. Sherwood, 175 F. Supp. 480, 483 (S.D.N

(defendant held the stock for two years; this showed investment intent). Cf.

ligan, Will & Co. (ten-month holding period held insufficient).

116. See generally 1 Louis Loss, Securities Regulation 665–73 (2d e

Malcolm Fooshe & Edward McCabe, Private Placements—Resale of Secur

Crowell–Collier Case, 15 Bus. Law. 72 (1959).
46

availability of this defense and others was uncertain, and the 

case analysis led to a subjective morass.

The resultant need for predictability led the SEC in 1972 t

ulgate Rule 144, a safe-harbor rule. Rule 144 applies to all s

control persons, all sales by affiliates of the issuer,117 and all re

restricted securities (generally restricted to preserve the orig

emption) by nonaffiliates.

There are five basic requirements for satisfying the provi

Rule 144. First, the issuer must make publicly available accura

rent information such as that contained in the reporting requi

of the Securities Exchange Act of 1934.

Second, the seller of the “restricted securities” must have 

cially owned them for at least one year.118 The one-year holding 

begins to run from the latest date the securities were purchas

the issuer or affiliates: Thus, nonaffiliates are permitted to 

holding periods. Rule 144(d)(3) provides eight special rules f

puting the holding period for certain types of transactions.119 T

purchase price must be paid for at least one year prior to the s

“change in circumstances” defense120 is not available for 

choosing to rely on Rule 144. Since Rule 144 is nonexclus

change-in-circumstances defense arguably survives for th

choosing to rely solely on the safe harbor. However, the SEC h

the position that the change-in-circumstances defense has be

ished for all cases.121

The third requirement is that all sales of the issuer’s secur

the Rule 144 seller and other specified related individuals comp

prescribed volume limitations. Specifically, sales by these 

117. Rule 144(a)(1) defines affiliate as “a person that directly, or 

through one or more intermediaries, controls, or is controlled by, or is under 

control with, such issuer.”

118. Formerly the holding period was two years.

119. Specifically, these rules apply to stock dividends, splits, and recapita

conversions; contingent issuance of securities; pledged securities; gifts of s

trusts; estates; and Rule 145(a) transactions.

120. See, e.g., Gilligan, Will & Co. v. SEC, 267 F.2d 461 (2d Cir.), cert. de

U.S. 896 (1959).

121. Securities Act Release No. 33-5223 (Jan. 11, 1972).
47

within the preceding three months may not exceed the greate

average weekly trading volume during the preceding four week

of the issuer’s outstanding shares of that class. Nonaffiliates ne

comply with this limitation within two years of purchase from 

suer or affiliate. Sales by affiliates must always comply with 

ume limitations. Furthermore, all sales of securities of the iss

stricted or not, are counted together: If the aggregate exceeds t

144(e) limitation, the sales are not exempt.

The fourth requirement for a Rule 144 exemption is that t

must be section 4(4) unsolicited brokers’ transactions, execute

usual and customary manner, without special commissions or 

tions.

Fifth, notice must be transmitted to the SEC of the Rule 1

unless the number of shares to be sold is less than 500 and th

ket value is less than $10,000.

b. Transactions by an Issuer Not Involving a Public Offering: Secti

Section 4(2) exempts private placements and other “transaction

issuer not involving any public offering.” This exemption was 

to permit offerings by issuers for isolated sales to particularly s

cated persons wherein there is no need for the Act’s protecti

though the statutory language is somewhat vague, after years 

decisions, interpretive releases,122 and judicial scrutiny, four 

tors have been isolated by the Supreme Court.123

First, the number of offerees is an important factor: the fe

offerees, the greater likelihood that a section 4(2) exemp

plies.124 Likewise, the size of the offering is a factor: The sma

offering, the greater the chance for an exemption. Second, each 

should have access to the type of information that would be d

should the issuer be required to undertake a full-fledged regis

Third, each offeree should be sophisticated with respect to b

122. See, e.g., Securities Act Release No. 33-285 (Jan. 24, 1935).

123. See also, e.g., SEC v. Ralston Purina Co., 346 U.S. 119 (1953); Secu

Release No. 33-5487 (Jan. 23, 1974).

124. See Ralston Purina, 346 U.S. at 125. The Court expressly refused t

“numbers test” as determinative, however.
48

and financial matters, as well as with respect to the particular 

ment being offered.125 Fourth, the manner of the offering sh

limited to those who have a privately expressed interest rather 

a general solicitation. Other case law suggests that each offer

be provided an opportunity to ask questions and verify info

through access to the issuer’s books and in face-to-face meeting

Like the section 2(a)(11) underwriter definition and the r

problems with section 4(1) exemptions, the subjective natur

viewing a vague provision led to much uncertainty and v

among the courts faced with defining the scope of the section 

emption. As a result, the SEC again responded with a safe-harb

The first safe-harbor rule adopted was former Rule 146; howe

cause it was extremely complex and technical, few issuers c

rely on it. The rule was repealed in 1982. In its stead, the SEC 

Rule 506, which is part of Regulation D and, as discussed belo

vides an exemption for certain offers to a limited number of off

c. The “Section 4(11⁄2)” Exemption

Section 4(2)’s nonpublic offering exemption is limited by its t

transactions by an issuer. Conceptually, a sale by a person oth

an issuer that meets the requirements of section 4(2) should 

larly exempt. However, sometimes it is difficult to point to th

tory provision that would provide the equivalent exemption. 

ample, where the security has not been held for two years, t

144 exemption is not available. Furthermore, if it is a large b

stock, the section 4(1) exemption may not be available.

Although not formally codified by the SEC, what has 

known as the “section 4(11⁄2)” exemption finds support in S

125. See also Doran v. Petroleum Mgmt. Corp., 545 F.2d 893 (5th Cir. 197

126. Hill York Corp. v. Am. Int’l Franchises, Inc., 448 F.2d 680 (5th C

Several eminent commentators have suggested that as a safety device eac

should receive an offering circular containing full disclosure.
49

action letters,127 interpretive releases,128 judicial decisions

commentators’ writings.130 Unfortunately, the SEC no-action le

not provide a consistent statement of what is necessary to sat

exemption.131 A reading of the applicable no-action letters rev

main considerations in the creation of a section 4(11⁄2) exe

First, each purchaser must have access to information similar 

which would be made available through a registration stateme

ond, each purchaser must meet the section 4(2) qualifications, 

sophistication of the investor or investor’s representative. Th

general solicitation of purchasers destroys the exemption. Fou

many section 4(11⁄2) sales within a given time frame could be f

be a distribution, which would destroy the exemption. Fifth, th

must make clear that the proceeds are going to the selling shar

not the issuer.

In 1992 the SEC promulgated Rule 144A, helping to creat

ondary market for institutional investors wanting to trade p

placed securities. The rule, a relatively narrow exemption, o

more as an experimental adoption of the concept behind the 

4(11⁄2) exemption than as a meaningful safe harbor. Rule 144A 

only to sales of securities of a class not publicly traded in the 

127. See, e.g., Sidney Stahl, SEC No-Action Letter, 1981 WL 24892 

1981); Illinois Capital Inv. Corp., SEC No-Action Letter, 1975 WL 10071 

1975); Elwill Dev., Ltd., SEC No-Action Letter, 1974 WL 11054 (Dec. 5, 1974

128. See, e.g., Securities Act Release No. 33-6188 n.178, 1 Fed. Sec. L. Re

¶ 1051, 19 SEC Docket 465 (Feb. 1, 1980); Securities Act Release No. 33-5

Sec. L. Rep. (CCH) ¶ 79,633, at 83,698, 3 SEC Docket 449 (Feb. 1, 1974).

129. See, e.g., Ackerberg v. Johnson, 892 F.2d 132 (8th Cir. 1989); Stopp

Owens, [1982–1983 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 99,208 

1984); Neuwirth Inv. Fund, Ltd. v. Swanton, 422 F. Supp. 1187 (S.D.N.

Value Line Income Fund, Inc. v. Marcus, Fed. Sec. L. Rep. (CCH) ¶ 91,523 

1965).

130. See, e.g., ABA Committee on Federal Regulation of Securities, Th

“4(11⁄2)” Phenomenon: Private Resales of Restricted Securities, 34 Bus. Law. 196

Christopher Olander & Margaret Jacks, The Section 4(11⁄2) Exemption—Re

tween the Lines of the Securities Act of 1933, 15 Sec. Reg. L.J. 339 (1988); Ca

der, Section 4(11⁄2)—Private Resales of Restricted or Control Securities, 49 Oh

501 (1988).

131. Olander & Jacks, supra note 130, at 353.
50

States.132 Rule 144A permits unlimited resales of securities th

never been registered under the 1933 Act as long as all such s

made to “qualified institutional buyers.”133 Simultaneously 

adoption of Rule 144A, the SEC approved the establishmen

computerized PORTAL134 system to facilitate trading and pr

more liquid market for Rule 144A securities.

d. Exemption for Certain Dealer Transactions: Section 4(3)

Section 4(3) provides an exemption from the prospectus deli

quirements for certain transactions by dealers.135 This exem

directed generally to the aftermarket, after primary distribut

occurred. Section 4(3)(A) exempts dealer transactions takin

more than forty days after the first date on which the securiti

bona fide offered to the public.136 If a registration statement h

filed, section 4(3)(B) provides that the exemption applies du

first forty days137 after (1) the securities were offered to the p

(2) the effective date, whichever is later.138 Since the vast maj

day-to-day transactions occur more than forty (or ninety) da

the securities have been offered to the public, section 4(3) cove

transactions. While section 4(3) is available to underwriters no 

132. This class of securities includes small companies, nonconvertible 

stock, and foreign companies that cannot or will not comply with federal 

laws but seek a U.S. market.

133. Additionally, there are informational requirements unless the issue

a reporting company or a foreign issuer. Rule 144A(d)(4)(i).

134. Private Offerings, Resales, and Trading through Automated Linkages

135. In this context, dealer may be understood to include underwriters n

acting as underwriters (those who have sold their entire allotment).

136. This was intended to cover unregistered offerings and to protect no

pating dealers with regard to subsequent transactions, for it permits dealers t

a security illegally offered to the public without registration after a lapse of 

from the time the offering was made. Kubik v. Goldfield, 479 F.2d 472 (3d C

137. If the registration statement pertains to the issuer’s first registered 

the period is ninety days.

138. Since section 4(3)’s exemption is limited to the prospectus delivery 

ments and comes into existence some time after the effective date (or bona 

ing date), it has no bearing on the following: prefiling gun-jumping violatio

tion 5(c); section 5(a)’s prohibitions against sales prior to the effective dat

tion 5(b)(1)’s prospectus delivery requirements during the waiting period.
51

acting as such, section 4(3)(c) makes clear that there is no exe

for transactions in securities that constitute all or part of an 

allotment or subscription by a dealer who is a participant in th

bution.

SEC Rule 174 provides further exemptions under section 4

nonparticipating dealers under certain circumstances by shorte

eliminating the period during which a prospectus need be deli

Additionally, Rule 174(d) shortens to twenty-five days the “q

riod,” where stock is listed on a national securities exchange o

fies for inclusion on the National Association of Securities 

Automated Quotation system (NASDAQ).

e. Exemption for Unsolicited Brokers’ Transactions: Section 4(4)

Section 4(4) of the Act exempts unsolicited brokers’ trans

There is no explicit definition of broker in either the 1933 Ac

rules promulgated thereunder; however, the Act’s definition o

clearly includes brokers. Thus, unless exempted under sectio

and in the absence of section 4(4), brokers’ transactions wou

within section 5’s purview by virtue of the operation of sectio

The section 4(4) exemption is limited to unsolicited custome

and is designed to apply to day-to-day transactions where the

potential for section 5 abuse. The exemption does not apply, h

to transactions so large that they are susceptible to characteriz

a distribution,140 in which case a registration statement woul

quired unless another exemption is available.

f. Exemption for Certain Small and Limited Offerings: Regulation D

Regulation D consists of three separate private-offering and 

offering exemptions: Rules 504 and 505, exclusive harbors; a

506, a safe harbor.141 Rules 504 and 505 are section 3(b) exem

139. Under Rule 174, a prospectus need not be delivered to offerees or p

(1) if the registration statement is on Form F-6 (for foreign issuers); (2) if 

pany was a public reporting company before the registration statement was fi

current in its 1934 Act reporting; or (3) in the case of most offerings based 

415 shelf registration.

140. See, e.g., In re Ira Haupt & Co., 23 S.E.C. 589 (1946).

141. Because Rule 506 is a safe harbor, a transaction that does not me

quirements of Rule 506 may nevertheless be exempt under the statutory sec
52

while Rule 506 is promulgated under section 4(2)’s nonpublic 

exemption. These three exemptions are all governed by Rul

502, 503, 507, and 508. The exemptions are, of course, exem

only from registration, not from the antifraud or civil liability 

of the federal securities laws; nor do the exemptions relieve th

of the necessity to comply with state securities laws. Regulatio

emptions are available only to the issuer of securities, not to a

or purchasers of securities initially acquired under Regulatio

ferings.

Rule 501 defines the terms used in Regulation D. Particul

portant is the definition of accredited investor.

142 Rule 501(e) p

rules for computation of the number of purchasers.143

Rule 502 provides general conditions that must be met in o

qualify for the exemptions provided by Rules 504, 505, and 50

502(a) provides an integration safe harbor to prevent other o

from being integrated into the initial offering and thereby des

the exemption (e.g., by exceeding the offering price ceiling)

502(b) sets forth informational requirements that must be me

emptions relying on Rules 505 and 506.145 In general, the lar

 

exemption. In contrast, Rules 504 and 505 are dependent on strict compli

their terms, as there is no statutory exemption to fall back on.

142. 17 C.F.R. § 230.501(a) (2002). There are eight categories that inve

fall within to be an accredited investor. Generally, the categories include ins

investors; individuals with a net worth (or joint net worth) of more than $

individuals with annual income in excess of $200,000 (or $300,000 joint inc

spouse) in each of the two most recent years; and directors, executive off

general partners of the issuer. See also 1933 Act § 2(15), Rule 215 for other d

of accredited investor.

143. This provision is only relevant to Rules 505 and 506 (which are l

thirty-five purchasers), as Rule 504 has no purchaser limit. Rule 501(e) ex

credited investors and most related purchasers from the number of p

counted.

144. Under Rule 502(a), offers made more than six months before or aft

fering at issue may be excluded from integration with Regulation D tran

(Rules 504 and 505, however, extend this period to twelve months before th

if the other offering is reliant on an exemption under section 3(b) or illegal

without registration in violation of section 5(a)).

145. No information is required under Rule 504 unless state law requires i
53

offering, the more information that must be furnished. Rule 

states that the required information must be provided to all un

ited investors. Formerly, the SEC required that such informa

furnished to all investors if there were any unaccredited offere

practice is still recommended by the SEC. Rule 502(c) prohi

offer or sale of securities by general solicitation or general 

ing.146 Finally, Rule 502(d) sets forth limitations on the resale 

rities acquired in a Regulation D transaction.147 Since these 

tions are only transaction exemptions, any securities acquired 

ant to Regulation D cannot be resold unless the resale is regis

has an independent exemption. The issuer is required by Rule 

to exercise reasonable care to ensure that the purchasers do no

tingly become underwriters as defined by section 2(a)(11).148

Rule 508 provides that insignificant deviations from a term

tion, or requirement of Regulation D will not destroy the exe

for a good-faith transaction. This is not designed as a new me

compliance, but rather as a defense in a suit where noncom

was de minimus. To qualify for this defense, the issuer must sh

that the failure to comply did not affect the complainant; (2

was an insignificant violation with respect to the offering as a 

and (3) that a reasonable good-faith attempt to comply was mad

Rule 503 provides that Regulation D requires filing of no

sales with the SEC. Moreover, Rule 507, added by the SEC i

provides that Regulation D is not available to persons who ha

enjoined from violating Rule 503’s notice of sales requireme

SEC may, however, waive this provision in an individual case 

showing of good cause.

146. General solicitation includes, but is not limited to, advertising, gene

ings, general letters, and circulars. In the limited situation where the exempt

relied on is Rule 504 and all sales are pursuant to state registration in state

quire delivery of a disclosure document, general solicitation is permitted.

147. Again, in the limited situation where the transaction is relying on 

for exemption and all sales are pursuant to registration in a state (or states) 

delivery of a disclosure document, resales need not be restricted.

148. Rule 502(d) contains examples of the requisite reasonable care, suc

ing an appropriate legend on the stock certificate.
54

Offerings up to $1 million—Rule 504. Under Rule 504, an iss

is not an investment company or a 1934 Act reporting compa

have an exemption for small offerings. Offerings with an ag

price over $1 million do not qualify for this exemption.149 All 

ties offered within the past twelve months under a section 3

emption and all securities offered in violation of section 5 wi

past twelve months are included in calculating the aggregate 

price.150 General solicitations of purchasers are permitted and 

sale restrictions are required, but only if the offering is registe

der applicable state securities (or blue sky) law provisions.

Offerings up to $5 million—Rule 505. Rule 505, which is als

tion 3(b) exemption, exempts certain offerings up to $5 mil

issuers that are not investment companies.151 The offering m

limited to thirty-five purchasers, but related purchasers and ac

investors do not count in the limit. No general solicitation is 

ted. There are no limitations on the nature of the purchasers; h

there are informational requirements if any of the offerees are 

credited. As with Regulation A offerings, Rule 505 offerings are 

to the “bad boy” disqualification provisions of Rule 262 (see in

accompanying note 158). Resales of the securities relying on 

emption are subject to restrictions.152

Safe harbor for nonpublic offerings by issuers—Rule 506. Ru

the final exemption in Regulation D, is a safe harbor for a secti

149. Currently, only $500,000 of the securities may be attributable to o

sales of securities not registered under state securities laws. However, the 

proposed allowing up to $1 million regardless of state registration.

150. This makes the planning and timing of offerings very important. F

ple, an issuer cannot have a $500,000 Rule 504 offering following within one 

$1 million Regulation A offering, since Rule 504 puts a $1 million ceilin

tion 3(b) offerings within the preceding twelve months. On the other hand, 

can have a $500,000 Rule 504 offering followed by a $1 million Regulation A 

since Rule 254 would permit it as within Regulation A’s $1.5 million ceilin

tion 3(b) offerings within twelve months.

151. The method of calculation is similar to Rule 504 and Regulation A: i

securities offered within the past twelve months under a section 3(b) exemp

Regulation A or Rule 504) plus those offered in violation of section 5.

152. Rule 502(d) requires that resales be made in compliance with Rule 14
55

exemption. There is no limit on the dollar amount of an offe

der Rule 506. General solicitation of purchasers is not permit

the offering is limited to thirty-five unaccredited purch

Moreover, all of the unaccredited purchasers must be knowle

sophisticated, and able to evaluate and bear the risks of the p

tive investment.154 Additionally, the purchasers must have ac

the information as required by Rule 502(b), and the issuer m

firmatively disclose such information if there are any unacc

purchasers. Rule 506, like Rule 505, is subject to the limitat

resale imposed by Rule 502(d), and downstream sales are s

governed by Rule 144.

g. Other Exemptions

Rule 701 provides not merely a safe harbor, but an exclusive 

for employee and consultant compensation plans. It is availab

to issuers, and the issuer may not be a 1934 Act reporting com

an investment company. This exemption may be used for sto

chase plans, option plans, bonus plans, stock appreciation 

profit sharing, thrift plans, incentive plans, or similar plans. H

the plan must be written, and it may not be used to compen

derwriters or most promoters. There is a limitation on th

amount of the compensation; the limitation varies depending 

size and assets of the company and the stock outstanding.155 T

restrictions on resale; thus any downstream sales must be in 

dance with Rule 144. Notice of sales relying on this exemptio

153. Related purchasers and accredited investors are excluded from the c

of the number of purchasers.

154. Rule 146, the former safe-harbor rule for section 4(2), used to re

qualification for each offeree. Although this requirement is not specifically 

Rule 506, disputes over whether a prohibited general solicitation has taken 

quently arise when this qualification is not met. See, e.g., Doran v. Petroleu

Corp., 545 F.2d 893 (5th Cir. 1977).

155. Any nonpublic issuer may rely on the Rule 701 exemption for offer

least $1 million. The ceiling on the offering is the greater of $1 million pe

15% of the issuer’s total assets or 15% of the aggregate value of the outstandi

of the securities to be offered in the Rule 701 offering.
56

be filed with the SEC. Failure to comply may disqualify th

from using the exemption.

Regulation S contains two safe-harbor exemptions from regi

for certain offshore offers and sales. It is relatively complex 

quires not only that the offering process take place outside the 

States but also that the securities so offered remain offshore.156

Section 4(5) is of relatively narrow utility, exempting from 

tion certain real estate mortgage notes secured by a first lien o

gle parcel of real estate consisting of land and either a reside

commercial structure.

Section 4(6) exempts offerings made solely to accredited in

where the aggregate amount of securities sold does not exc

dollar limit of section 3(b) (currently $5 million). Accredite

tors, as defined in section 2(a)(15) of the 1933 Act, include 

tional investors and individuals with a large net worth. The 

1982 exercised its rule-making powers granted in section 2(a)

promulgating Rule 215, which expands the definition of ac

investor to include other individuals who are considered s

cated, who have access to information concerning the issuer, 

are sufficiently affluent to not require the Act’s protection in th

action. Sales under this exemption must be made only to acc

investors, there must be no public advertising or solicitation, 

propriate notice of reliance on the exemption (currently F

must be filed with the SEC.

Under the authority of section 3(b) of the 1933 Act, the SEC 

ulgated Regulation A157 to exempt certain small issues. Regulat

limited to issuers in the United States or Canada that are no

ment companies, and it applies to issues with an aggregate 

price of $5 million or less within a one-year period for issuer 

tions and $1.5 million for secondary transactions. Regulation 

tains “bad boy” disqualification provisions that render the exe

unavailable in most cases if a participant in the offering has be

156. Rules 901–904. See 3 Thomas Lee Hazen, Treatise on the Law of 

Regulation § 17.4 (4th ed. 2002).

157. Rules 251–264.
57

ject to SEC disciplinary proceedings or convicted of a viol

relevant laws in the last five years.158

Regulation A is not a complete exemption, but rather is cond

on what is comparable to a “mini” registration. The issuer m

offering circulars with the SEC. Offers to sell can be made only 

of this offering circular. Copies of all sales materials must be fi

the SEC. Finally, the issuer must file reports of all sales with t

regional office (Form 2-a). In general, the advantages of a Reg

A filing are that the information disclosed may be less detailed

not require audited financial statements, and it does not sub

issuer to periodic reporting requirements.

3. General Exemptive Authority

In 1996, Congress enacted a broader exemptive authority no

to the nature of the securities or the nature of the transaction

section 28 of the 1933 Act provides that the SEC may exempt 

tions, securities, and persons if in the public interest and co

with investor protection.159 This virtually unlimited exemptiv

frees the SEC from the more rigid parameters of the specific 

tions set forth in sections 3 and 4 of the Act.160

4. Integration of Transactions

The integration doctrine permits the telescoping of two or mo

portedly separate transactions into one transaction. Under the 

158. Rule 262.

159. The SEC may exercise this exemptive authority by rule or regulation

exemption may extend to any person, security, or transaction and may be s

whatever conditions the SEC imposes so long as the exemption is consider

sary or appropriate in the public interest and is consistent with the protect

vestors. 15 U.S.C. § 77z-3 (Supp. 2000). In contrast to its general exemptive 

under the 1933 Act, in the parallel provision of the 1934 Act the SEC was 

authority to provide an exemption by administrative order in addition to pro

an exemption in its rules and regulations. See section 36 of the 1934 Act, 

§ 78mm(a) (Supp. 2000).

160. The SEC has been proceeding cautiously. In 1998, it proposed el

the $5 million ceiling on Rule 701 benefit plan offerings. Securities Act Re

33–7511, 63 Fed. Reg. 10785 (Mar. 5, 1998).
58

tion doctrine,161 the SEC and the courts examine multiple offe

determine whether they should be treated as a single transacti

integration doctrine can also be used to integrate a would-be 

offering with a registered offering where some of the offers or 

the registered offering would destroy the availability of the 

tion.162 It is possible that two or more exempt offerings, whe

bined, will lose the attributes that entitled them to protection.

The SEC has made it clear that integration applies to the 

tion exemptions under section 4 and, in particular, the secti

exemption for transactions not involving a public offering. T

has developed the following five-factor test163 to determine w

the integration doctrine should be applied to two or more 

tions:

1. Are the sales part of a single plan of financing?

2. Do the sales involve issuance of the same class of securiti

3. Were the sales made at or about the same time?

4. Is the same type of consideration received?

5. Are the sales made for the same general purpose?

The SEC has not given much guidance on how these factors 

be weighted. Accordingly, it would appear that in a particular c

one or more of the five factors could be determinative.164

The integration doctrine essentially depends on the facts 

ances of each situation. Therefore, it is often difficult to gl

knowledge from the sparse precedent that exists. Much of the 

161. The integration doctrine first emerged in connection with the intras

ing exemption in the context of determining which transactions constitute “

issue” (emphasis added). The “part of an issue” concept applies to section 3(b

tions, such as Regulation A. Similarly, the issue concept has been carried o

section 3(a)(9) exemption for exchanges of securities exclusively with existin

ties holders. The integration doctrine has also been applied to the section 

exemption for administratively approved reorganizations.

162. SEC Rule 155 sets forth safe harbors from integration for an abando

lic offering followed by an exempt private offering and for an abandoned pri

ing followed by a registered public offering.

163. Securities Act Release No. 33-4434 (Dec. 6, 1961).

164. Thus, for example, the absence of a prearranged single plan of fina

been held to preclude integration.
59

precedent is based on no-action letters, which by their nature 

suasive but not binding.165 To decrease the uncertainty in som

tions, the SEC has developed integration safe-harbor rules, 

Rule 502(a) for Regulation D offerings and Rule 147(b)(2) fo

ings relying on the intrastate exemption.

E. Liabilities Under the 1933 Act

Under the 1933 Act, deficiencies in registration materials can r

administrative action by the SEC, criminal sanctions, injunctiv

and, in some cases, private remedies.

1. SEC Administrative Remedies

In order to prevent a deficient registration statement from be

effective, the SEC can institute formal proceedings for issuing a 

order. Refusal-order proceedings must be instituted within ten 

the registration statement’s filing, and the order may be issu

after the registrant has been given notice and an opportuni

hearing. Alternatively, when faced with material deficiencie

registration statement, the SEC may commence formal stop-ord

ceedings at any time.166 Again, the order can be issued only a

mal notice and an opportunity for a hearing. However, both 

formal proceedings are rather drastic measures and not a par

normal process for dealing with deficient registration mater

stead, the normal process generally involves the use of deficie

ters167 and other communications between the issuer and t

staff, as well as amendments voluntarily delaying the propose

tive date by the issuer until the deficiencies are corrected. In a

to section 8 proceedings, section 8A gives the SEC the auth

issue cease and desist orders.

165. In 1979 the Commission suspended its practice of rendering no-acti

on integration questions but resumed the practice in 1985.

166. See 1 Hazen, supra note 101, § 2.2; William McLucas, Stop Order Pr

Under the Securities Act of 1933: A Current Assessment, 40 Bus. Law. 515 (1985

167. This is a letter from the SEC staff advising the issuer that the Com

would like to see certain changes in the registration statement. For greater d

generally 1 Hazen, supra note 101, § 3.7[1]; Richard Jennings & Harold Ma

rities Regulation 174–75 (5th ed. 1982).
60

2. Private Rights of Action

The 1933 Act has three sections prohibiting fraud and misstat

sections 11, 12, and 17. Sections 11 and 12 create private righ

tion, while section 17(a) is a more generalized antifraud pr

used primarily by the SEC and by the Department of Justice i

nal actions. Each of the private rights of action under the 1

must be examined in conjunction with Rule 10b-5 of the 1934 

its general antifraud remedy for fraud in connection with the p

or sale of a security.168 Most state securities class actions are f

preempted by the Private Securities Litigation Reform Act.169

Any material deficiencies in the registration statement th

over to the prospectus will result in violations of the section 5

spectus delivery requirements, which call for an accurate and 

date prospectus.170 Any violation of section 5 gives rise to p

criminal sanctions as well as judicially secured SEC equitab

tions. Furthermore, private remedies may exist for aggrieved 

under sections 11 and 12 of the 1933 Act. Purported waivers 

Act claims are invalid, except in connection with settlement o

168. 17 C.F.R. § 240.10b-5. The implied private right of action under 

Rule 10b-5 is cumulative with the express remedies set forth in the 1933 Act

& MacLean v. Huddleston, 459 U.S. 375 (1983). Although Rule 10b-5 is bro

the 1933 remedies, it imposes a higher standard of culpability than the 19

requiring a showing of scienter. Rule 10b-5 is discussed more fully infra te

panying notes 451–82.

169. The PSLRA is discussed more fully infra text accompanying notes 22

382–85; and nn.379–80. The preemption applies to any class action involvin

resentations, omissions, deception, or manipulation in connection with the 

or sale of a publicly traded security. 1933 Act § 16(b), 15 U.S.C. § 77p(b

2001); 1934 Act § 28(f)(1), 15 U.S.C.A. § 78bb(f)(1) (2000 & Supp. 2001). 

Act includes enhanced pleading requirements applicable to fraud actions. 

§ 21D(b), 15 U.S.C. § 78u-4(b) (Supp. 2001). The litigation reform legisla

included some substantive amendments, including those relating to apportio

damages and liability for forward-looking statements. See 1933 Act §§ 11(

27A, 15 U.S.C. §§ 77k(f), 77l(b), 77z-2 (Supp. 2001).

170. See, e.g., SEC v. Manor Nursing Ctrs., Inc., 458 F.2d 1082 (2d C

(holding that delivery of an uncorrected prospectus, which was not an accu

ment as of the date of delivery, was a violation of section 5(b)(2), subjecting 

who delivered the prospectus to liability under section 12(a)(1)).
61

ened or pending litigation.171 The applicable statutes of limitat

private remedies under the 1933 Act are set forth in section 13.

a. Misrepresentations and Omissions in Registration Statements:

Section 11

Section 11 imposes express civil liability on persons prepar

signing materially misleading registration statements. Section 1

only liability provision expressly limited to registered publ

ings.173 It imposes broader liability than other antifraud provis

cause the aggrieved purchaser need only show that he or she 

the security and there was a material misrepresentation in the r

tion statement.174 There is no requirement under section 11 th

171. 1933 Act § 14. See Meyers v. C & M Petroleum Producers, Inc., 476 

(5th Cir.), cert denied, 414 U.S. 829 (1973).

172. Actions under sections 11 and 12(a)(2) must be brought within on

discovery of the misstatement or omission. Notwithstanding a longer delay 

ery, actions under these sections must be brought within three years after th

was first offered to the public. An action under section 12(a)(1) must be 

within one year of discovery of the registration violation and within three ye

sale. In 2002 Congress added 15 U.S.C. § 1658, which provides that in ac

securities fraud the applicable limitations period is two years from the discov

facts constituting the violation but in no event more than five years after the 

Since the remedies provided in sections 11 and 12 of the 1933 Act do not 

terms of fraud, it is doubtful that these longer periods prevail over the one-y

year periods mentioned in section 13 of the 1933 act.

173. Although not expressly contained in the statute, the Supreme C

“read” a public offering limitation into actions under section 12(a)(2). Gu

Alloyd Co., 513 U.S. 561 (1995). Although the Court has thus limite

12(a)(2) to public offerings, it is not limited to registered offerings.

174. Section 11 does not require scienter and has been held by most cou

implicate the enhanced pleading requirements that apply to fraud actions. 

Ladies Inv. Club v. Schlotzsky’s Inc., 238 F.3d 363 (5th Cir. 2001) (Rule 9

ticularity requirements do not apply in actions under either section 11 or 

1933 Act); In re CBT Group PLC Sec. Litig., [2000–2001 Transfer Binder] Fe

Rep. (CCH) ¶ 91,317, 2000 U.S. Dist. LEXIS 19214 (N.D. Cal. Dec. 29, 2

hanced pleading requirements did not apply to section 11 claims); In re Ultra

Sec. Litig., 91 F. Supp. 2d 678 (S.D.N.Y. 2000) (particularity requirement

apply to either section 11 or section 12(a) claims); In re Sirrom Capital C

Litig., 84 F. Supp. 2d 933, 938–39 (M.D. Tenn. 2000) (section 11 claim did 

to be pleaded with particularity); In re Ziff-Davis, Inc. Sec. Litig., [1999–2000 
62

chasers show that they relied on the misstatement. However, t

two standards of liability imposed by section 11. The first is 

issuer, who generally is strictly liable once the plaintiff has pro

he or she bought the stock and that there was a material misst

in the registration statement. The only “affirmative” defenses 

issuer are (1) to show that the person acquiring the security 

the untruth or omission in the registration statement at the tim

 

Binder] Fed. Sec. L. Rep. (CCH) ¶ 91,006 (S.D.N.Y. 2000) (particularity not r

Griffin v. PaineWebber Inc., [1999–2000 Transfer Binder] Fed. Sec. L. Re

¶ 90,762 (S.D.N.Y. 2000) (particularity requirements do not apply to s

claims); Yuan v. Bayard Drilling Techs., Inc., 96 F. Supp. 2d 1259 (W.D. Ok

(particularity requirements do not apply to either section 11 or section 

claims); In re Thortec Sec. Litig. [1989 Transfer Binder] Fed. Sec. L. Re

¶ 94,330, 1989 WL 67429 (N.D. Cal. 1989) (pleading upheld); Bernstein 

Eddie, Inc., 702 F. Supp. 962, 973 (E.D.N.Y. 1988) (upholding section 1

Quantum Overseas, N.V. v. Touche Ross & Co., 663 F. Supp. 658 (S.D.N

(upholding section 11 claim but dismissing Exchange Act claim for failing 

with sufficient particularity); In re Lilco Sec. Litig., 625 F. Supp. 1500 

1986). See also, e.g., In re Jiffy Lube Sec. Litig., 772 F. Supp. 258, 260–61 

1991); Steiner v. Southmark Corp., 734 F. Supp. 269 (N.D. Tex. 1990). See 

Note, Pleading Under Section 11 of the Securities Act of 1933, 98 Mich. L. R

(2000). But see, e.g., Shaw v. Digital Equip. Corp., 82 F.3d 1194 (1st C

Shapiro v. UJB Fin. Corp., 964 F.2d 272, 288 (3d Cir.), cert. denied, 506 

(1992) (when section 11 and section 12 claims are grounded in fraud rather 

ligence, the particularity requirements apply); Castlerock Mgmt. Ltd. v. Ult

teries, Inc., 68 F. Supp. 2d 480 (D.N.J. 1999); Rhodes v. Omega Research I

Supp. 2d 1353 (S.D. Fla. 1999) (claims under sections 11 and 12 of the 

sounded in fraud and not negligence, hence particularity requirements appli

Stratosphere Corp. Sec. Litig., 1 F. Supp. 2d 1096 (D. Nev. 1998) (claims u

tions 11 and 12(a)(2) of the Securities Act of 1933 sound in fraud and thus 

pled with particularity). See also, e.g., Sheldon v. Vermonty, 31 F. Supp. 

1293–94 (D. Kan. 1998) (section 11 claim requires allegations of the req

ments—that plaintiff purchased securities in a registered offering with a m

misleading registration statement). The propriety of this view is bolstered b

that the enhanced pleading requirements appear in the 1934 Act version of th

Act but not in the 1933 Act’s provisions. See 1934 Act § 21D(b), 15 U.S.C. § 

(Supp. 2001).
63

acquisition,175 (2) lack of materiality, or (3) expiration of the st

limitations.

The second standard of liability applies to nonissuers w

raise defenses not available to issuers. For all persons other t

issuer,176 section 11(b) provides three additional possible affi

defenses. The first two defenses relate to someone who disco

material misstatement or omission and takes appropriate steps 

vent the violation. A potential section 11 defendant may be rel

liability by resigning or taking steps toward resignation, and in

the SEC and the issuer in writing that he or she has taken suc

and disclaims all responsibility for the relevant sections of the 

tion statement. Alternatively, if the registration statement b

effective without the defendant’s knowledge, upon becoming a

the effectiveness the potential section 11 defendant may be rel

liability by taking appropriate steps toward resignation, inform

SEC as above, and giving reasonable public notice that the regi

statement became effective without the defendant’s knowledge.

The third defense, contained in section 11(b)(3), is the m

quently used. It absolves defendants from liability if they had 

able grounds for believing, and did in fact believe, that there 

omission or material misstatement. Since assertions of actual b

generally difficult to disprove, the test for this defense centers o

are “reasonable grounds” for believing that no violation occurr

tion 11(c) establishes the appropriate standard of care: “[T]

dard of reasonableness shall be that required of a prudent man 

management of his own property.” Thus, this defense is o

scribed as the “due diligence” (although that phrase does not 

in the statute) and reasonable investigation defense.

175. Remember that reliance is not required, so an offer of proof that th

never heard or read the misstatement is irrelevant.

176. Persons liable include all signers of the registration statement (wh

include the principal executive and financial officers, the issuer, and a major

directors), all directors (including people not yet directors but agreeing to b

as about to become directors), experts (e.g., the certifying accountant), a

writers. See sections 11(a)(1)–(5) for a list of these persons.
64

The courts have not articulated a bright-line test as to what 

the due diligence and reasonable investigation standard of 

What has emerged, however, is a sliding scale of culpability de

on the defendant’s knowledge, expertise, and status with regar

issuer, its affiliates, or its underwriters, as well as the degree of 

fendant’s actual participation in the registration process and 

paring registration materials.178 In an effort to clarify its posit

SEC promulgated Rule 176, which sets forth factors to be con

reinforces the judicial sliding scale of culpability, and further p

for the necessity of a case-by-case, highly fact-specific analys

176 provides the following:

In determining whether or not the conduct of a person constit

a reasonable investigation or a reasonable ground for belief mee

the standard set forth in section 11(c), relevant circumstances 

clude, with respect to a person other than the issuer:

(a) the type of issuer;

(b) the type of security;

(c) the type of person;

(d) the office held when the person is an officer;

(e) the presence or absence of another relationship to the is

when the person is a director or proposed director;

(f) reasonable reliance on officers, employees, and others w

duties should have given them knowledge of the particular facts 

the light of the functions and responsibilities of the particular pe

with respect to the issuer and the filing);

(g) when the person is an underwriter, the type of underwri

arrangement, the role of the particular person as an underwriter, 

the availability of information with respect to the registrant; and

(h) whether, with respect to a fact or document incorporate

reference, the particular person had any responsibility for the fac

document at the time of the filing from which it was incorporated

177. See, e.g., Escott v. BarChris Constr. Corp., 283 F. Supp. 643 (S.D.N

Feit v. Leaseco Data Processing Equip. Corp., 332 F. Supp. 544 (E.D.N.Y. 19

Flight Transp. Corp. Sec. Litig., 593 F. Supp. 612 (D. Minn. 1984); Draney v

Morton, Assaf & McElligott, 592 F. Supp. 9 (D. Ariz. 1984); In re Fortune 

Litig., [1987 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 93,390 (N.D. Cal. 19

178. For more detail, see 1 Hazen, supra note 101, § 7.4.
65

It is appropriate to consider not only the positions held but a

special expertise the person might have.

Damages under section 11 depend on whether or not the se

sold prior to judgment. The critical dates are the date of sale 

security has been sold prior to the lawsuit), the date the law

filed, and the date of the judgment. If the security is sold be

suit is filed, damages are based on the amount paid less the amo

which the security sold. If the security is sold between the d

suit is filed and the date of judgment, the plaintiff is entitled 

lesser of (1) the amount paid less the price for which the secur

or (2) the amount paid less the value of the security at the t

suit was filed. If the security is held until the date of the judgm

plaintiff is entitled to the amount paid less the value of the sec

the time the suit was filed. Furthermore, defendants are liable 

damages caused by the misleading statement; they have the 

attempt to reduce the damages they must pay by attempting t

that the decrease in value is the result of something other th

misleading statement. However, section 11 gives the court di

to award the plaintiff costs and attorneys’ fees as part of the 

award. Liability under section 11 is joint and several179 subjec

exceptions. First, underwriters of the public offering are not li

der section 11 beyond their proportionate participation in th

ing.180 Second, outside directors may seek contribution from 

culpable section 11 defendants.181

b. Securities Sold in Violation of Section 5 and Securities That Con

Material Misstatements or Omissions: Section 12

Section 12 of the 1933 Act imposes liability in two contexts: 

person sells a security in violation of section 5 (failure to reg

meet an exemption) and when a security is sold by means o

spectus or oral communication that contains a material missta

179. Section 11(e), 15 U.S.C. § 77k(e) (2000).

180. Id.

181. Section 11(f), 15 U.S.C. § 77k(f) (2000 & Supp. 2001). The Supre

has also recognized an implied right of contribution for damages based on 

Rule 10b-5. Musick, Peeler & Garrett v. Employers Ins. of Wausau, 508 

(1993).
66

or omission. Unlike section 11, section 12 by its terms applie

transaction, whether or not it is subject to the registration pro

of the 1933 Act.182 A major issue in many section 12 cases is 

the defendant is a permissible one—that is, whether he or 

“seller” for purposes of section 12. Issuers and underwriters g

are not sellers within the meaning of section 12 unless they 

participate in the negotiations with the plaintiff/purchaser.1

larly, an attorney’s having worked on the offering circular w

make him or her a seller.184 On the other hand, a broker who d

rectly with the plaintiff is a section 12 seller.185

Section 12 appears to require privity between the plaintiff 

defendant.186 Traditional agency principles that would give r

finding of privity in a normal contract situation apply with equ

in the securities context.187 The Supreme Court has delineated 

tors that should be considered in identifying a seller under sec

182. For a violation of the federal securities law to occur, some means 

ment of interstate commerce must be used. The Supreme Court held th

tion 12(a)(2) action cannot be brought in connection with an isolated sal

apply only in the context of a public offering. Gustafson v. Alloyd Co., 513 

(1995). This reading of the statute does not seem justified either by the lan

the Act or by its legislative history. See 1 Hazen, supra note 101, § 7.6.

183. See Foster v. Jesup & Lamont Sec. Co., Inc., 759 F.2d 838 (11th C

See also Pinter v. Dahl, 486 U.S. 622 (1988) (holding that to be a seller in 

under section 12(a)(1), the defendant must have been both an immediate a

seller; substantial participation alone will not suffice).

184. E.g., Abell v. Potomac Ins. Co., 858 F.2d 1104 (5th Cir. 1988), ce

492 U.S. 918 (1989); Stokes v. Lokken, 644 F.2d 779 (8th Cir. 1981).

185. E.g., Quincy Co-operative Bank v. A.G. Edwards & Sons, Inc., 655 

78 (D. Mass. 1986).

186. The seller “shall be liable to the person purchasing such secu

him . . . ” (emphasis added). See, e.g., Pinter, 486 U.S. 622; Collins v. Signet

443 F. Supp. 552 (E.D. Pa. 1977), aff’d, 605 F.2d 110 (3d Cir. 1979); Unic

Inc. v. Cannon Group, Inc., 60 F.R.D. 217 (S.D.N.Y. 1973). While there 

some suggestion that the Pinter decision may dispense with the privity req

the correct view is that it does not. E.g., In re Craftmatic Sec. Litig., 703 F. Su

1183 (E.D. Pa.), modified on other grounds, 890 F.2d 628 (3d Cir. 1989). But 

v. Moseley, Hallgarten, Eastabrook & Weeden, Inc., 709 F. Supp. 95 (M.D. 

(privity not required under section 12(a)(2) with regard to open-market trans

187. See Buchholtz v. Renard, 188 F. Supp. 888 (S.D.N.Y. 1960).
67

whether the defendant received direct remuneration or bene

result of the sale, and whether the defendant’s role in the soli

and purchase was intended to benefit the seller (or owner) of t

rity.188

Civil liability for sales in violation of section 5—section 12

Anyone who offers or sells a security in violation of section 5 

in a civil action under section 12(a)(1) to the person “purchasi

security from him.” In order to recover under this section, the 

need only show that the defendant sold the security to the p

and that the security was unregistered. The defendant then m

ther show that an exemption existed or establish the in pari de

equal fault) defense. While initially it was believed that the 

delicto defense was unavailable in an action under section 1

(since liability imposed under this section is “strict liability”), 

preme Court has held that the defense is available in private 

under any provision of the federal securities laws.189 Relying 

earlier Court decision,190 the Court laid out the two-prong test 

in pari delicto defense: First, the plaintiff must be at least eq

fault for the underlying illegality; and second, preclusion of 

must not offend the “underlying statutory policies.”191 Apply

test to section 12(a)(1) violations (i.e., securities sold in viol

section 5), the Court held that “the in pari delicto defense ma

recovery in a section 12(a)(1) action only where the plaintiff’s 

the offering or sale of nonexempted, unregistered securities is 

a promoter than as an investor.”192

Under section 12(a)(1), the successful plaintiff is entitled t

sion and return of purchase price. If the security has alrea

sold, damages under section 12(a)(1) are based on the loss com

the difference between the plaintiff’s purchase price and sal

Since section 12(a)(1) does not require a causal connection b

188. Pinter, 486 U.S. 622.

189. Id.

190. Bateman, Eichler, Hill Richards, Inc. v. Berner, 472 U.S. 299 (1985).

191. Pinter, 486 U.S. at 638.

192. Id. at 639. See also Mark Klock, Promoter Liability and In Pari Delic

Section 12(1), 17 Sec. Reg. L.J. 53 (1989).
68

the violation and any decline in price, a successful plaintiff is 

to rescission even when the price of the security drops as a res

change in the issuer’s circumstances or market factors wholl

lated to the section 5 action.193 Also, at least one court has h

even where a violation of the section 5(b)(1) prospectus deli

quirement is followed by the purchaser’s receipt of a complet

tory prospectus prior to the delivery of the security, the legal s

not cure the illegal offer, and the purchaser is entitled to main

action under section 12(a)(1).194

Liability of sellers for material misstatements or omi

section 12(a)(2). Section 12(a)(2) of the 1933 Act creates an 

private remedy for a purchaser against the seller of a security fo

rial misstatements or omissions195 in connection with the of

sale. As is the case with section 12(a)(1), section 12(a)(2) is lim

liability of sellers and thus imposes a privity requirement. O

privity requirement is satisfied, the plaintiff must establish o

there was a material misstatement or omission in the prospe

oral communication. There is no requirement that the plainti

193. This is in contrast to sections 11 and 12(a)(2), which require a ca

nection between the misstatement and the plaintiff’s loss. 1933 Act §§ 11(

Similarly, 1934 Act Rule 10b-5 imposes a causation requirement.

194. Diskin v. Lomasney & Co., 452 F.2d 871 (2d Cir. 1971).

195. Some courts have held that section 12 does not require scienter; m

have held that section 12 does not implicate the enhanced pleading requirem

apply to fraud actions. Lone Star Ladies Inv. Club v. Schlotzsky’s Inc., 238 

(5th Cir. 2001); In re Ultrafem, Inc. Sec. Litig., 91 F. Supp. 2d 678 (S.D.N

Yuan v. Bayard Drilling Techs., Inc., 96 F. Supp. 2d 1259 (W.D. Okla. 1999) 

larity requirements do not apply to either section 11 or section 12(a)(2) 

These enhanced pleading requirements appear in the 1934 Act but not in 

Act. See 1934 Act § 21D(b), 15 U.S.C. § 78u-4(b) (Supp. 2001). A number 

have, however, applied the enhanced pleading standards to section 12(a)(2

Shapiro v. UJB Fin. Corp., 964 F.2d 272, 288 (3d Cir.), cert. denied, 506 

(1992); Sears v. Likens, 912 F.2d 889 (7th Cir. 1990); Castlerock Mgmt. L

tralife Batteries, Inc., 68 F. Supp. 2d 480 (D.N.J. 1999); Rhodes v. Omega 

Inc., 38 F. Supp. 2d 1353 (S.D. Fla. 1999); In re Stratosphere Corp. Sec. L

Supp. 2d 1096 (D. Nev. 1998).
69

reliance; it will be presumed.196 The plaintiff also need not ha

the misstatement in question.197 However, if the plaintiff knew 

untruth or omission prior to purchase, the section 12(a)(2

should be dismissed.198

The defendant may also be absolved of liability if “‘he did no

and in the exercise of reasonable care could not have known, 

untruth or omission.’” 199 It is clear that the section 12(a)(2) rea

care requirement imparts some sort of negligence standard an

is not necessary for the purchaser to show any type of sciente

seller’s part.200 Indeed, the section 12(a)(2) standard of reasona

may impose a duty to investigate in some circumstances.201 

factors can be used to determine whether the defendant exerci

sonable care: (1) the quantum of decisional and facilitative p

tion, such as designing the deal and contacting and attempting 

suade potential investors; (2) access to source material agains

the truth of the representations could be tested; (3) relative 

“ferreting out the truth”; (4) pecuniary interest in the trans

completion; and (5) the existence of a relationship of trust b

the investor and the alleged seller.202

As with section 12(a)(1), but unlike section 11 or the impli

edy under 1934 Act Rule 10b-5, damages under section 12(a

limited to either rescission and return of purchase price or, if 

chaser no longer owns the security, damages based on the di

between the purchase price and sale price. As is the case with 

11 damages, damages under section 12(a)(2) will not include 

196. Currie v. Cayman Res. Corp., 835 F.2d 780 (11th Cir. 1988); Austin 

gaarden, 675 F.2d 168 (8th Cir. 1982); In re Conner Bonds Litig., [1988–19

fer Binder] Fed. Sec. L. Rep. (CCH) ¶ 93,969 (E.D.N.C. 1988).

197. Sanders v. John Nuveen & Co., 619 F.2d 1222 (7th Cir. 1980), ce

450 U.S. 1005 (1981).

198. See Mayer v. Oil Field Sys. Corp., 803 F.2d 749 (2d Cir. 1986).

199. Id. at 755 (quoting 15 U.S.C. § 776(2)).

200. See, e.g., Wigand v. Flo-Tek, 609 F.2d 1028 (2d Cir. 1979).

201. Sanders v. John Nuveen & Co., 619 F.2d 1222 (7th Cir. 1980), ce

450 U.S. 1005 (1981).

202. Davis v. Avco Fin. Servs., Inc., 739 F.2d 1057 (6th Cir. 1984), ce

472 U.S. 1012 (1985).
70

cline in the value of the security that can be attributed to facto

than the material misrepresentation or omission in question.203

3. SEC Actions and Criminal Prosecutions: Section 17

Section 17(a) of the 1933 Act prohibits fraud, material misstat

and omissions of fact in connection with the offer or sale o

ties.204 It applies regardless of whether the securities are regis

exempt from registration under section 3. However, unlike i

Act counterpart (Rule 10b-5), section 17(a) applies only to 

and offers to sell securities.205 It covers activities of the off

seller, but not fraud by the purchaser. The Supreme Court h

that scienter must be shown to establish a violation of 

17(a)(1), but not for either section 17(a)(2) (the language o

was found “devoid of any suggestion whatsoever of a scie

quirement”) or section 17(a)(3) (which “focuses upon the e

particular conduct on members of the investing public, rath

upon the culpability of the person responsible”).206 The vast m

of decisions hold that private plaintiffs do not have an implied 

under section 17(a) of the 1933 Act.

Section 17(b) prohibits disseminating information about a 

without disclosing any consideration received or to be recei

rectly or indirectly, in connection with sales of the security. L

tion 17(a), section 17(b) applies to securities whether regis

203. Section 12(b), 15 U.S.C. § 77l(b) (2000 & Supp. 2001).

204. Section 17(a) provides that:

It shall be unlawful for any person in the offer or sale of any securities by the u

any means or instruments of transportation or communication in interstate comm

or by the use of the mails, directly or indirectly—(1) to employ any device, schem

artifice to defraud, or (2) to obtain money or property by means of any untrue 

ment of a material fact or any omission to state a material fact necessary in ord

make the statements made, in the light of the circumstances under which they 

made, not misleading, or (3) to engage in any transaction, practice, or course of 

ness which operates or would operate as a fraud or deceit upon the purchaser.

205. Furthermore, also unlike Rule 10b-5, the overwhelming majority of 

hold that there is no implied private right of action for violations of section 

the 1933 Act. See 2 Thomas Lee Hazen, Treatise on the Law of Securities R

§ 12.22 (4th ed. 2002).

206. Aaron v. SEC, 446 U.S. 680, 697 (1980).
71

exempt under section 3. Section 17(b) is designed to prevent 

leading impression of impartiality in certain recommendatio

tion 17(b) has been held applicable even to periodicals receivi

pensation for favorable recommendations, notwithstanding 

lenge that such regulation violates First Amendment rights 

speech.207 It has also been held that section 17(b) is not limite

curities distributions but applies both to new and outstanding 

ties.208

Violations of section 17 may result in both criminal sancti

an SEC civil suit. A majority of the earlier federal securities ca

ognized an implied right of action under section 17(a).209 But a

a few decisions continued to recognize the remedy,210 th

whelming majority of decisions do not.211 In fact, the nonexis

an implied right under section 17(a) is so clear in some circu

justify the imposition of sanctions under Federal Rule of Civi

dure 11 for claims brought under such a theory.212

207. SEC v. Wall St. Publ’g Inst., Inc., 851 F.2d 365 (D.C. Cir. 1988), ce

489 U.S. 1066 (1989).

208. Id. (relying on S. Rep. No. 73-47, at 4 (1933) and H.R. Rep. No. 7

(1933)).

209. See Crookham v. Crookham, 914 F.2d 1027 (8th Cir. 1990) (uphol

11 sanctions); Landry v. All Am. Assurance Co., 688 F.2d 381 (5th Cir. 19

v. Dain, Kalman & Quail, Inc., 561 F.2d 152 (8th Cir. 1977), cert. denied

1086 (1978); Greater Iowa Corp. v. McLendon, 378 F.2d 783 (8th Cir. 1967

2 Hazen, supra note 205, § 12.22.

210. See, e.g., Letizia v. Prudential Bache Sec., Inc., 802 F.2d 1185 (9th C

Gaff v. FDIC, 814 F.2d 311 (6th Cir. 1987) (but denying standing to an of

did not purchase).

211. See, e.g., Schlifke v. Seafirst Corp., 866 F.2d 935 (7th Cir. 1989); Ne

Esrey, 862 F.2d 1099 (4th Cir. 1988); Krause v. Perryman, 827 F.2d 346 

1987); Landry v. All Am. Assurance Co., 688 F.2d 381 (5th Cir. 1982). A

cases are collected in 2 Hazen, supra note 205, § 12.22.

212. Crookham, 914 F.2d 1027 ($10,000 sanction for bringing suit u

tion 17(a) of the 1933 Act).
72

4. Secondary Liability Under the 1933 Act

a. Controlling-Person Liability

Both the 1933 and 1934 Acts provide for controlling-person l

Section 15 of the 1933 Act imposes joint and several liability 

trolling persons for the actions of persons under their contr

term control (including the terms controlling, controlled by, an

common control with) means “the possession, direct or indirec

power to direct or cause the direction of the management and 

of a person, whether through the ownership of voting secur

contract, or otherwise.”213 A controlling person is sometimes 

to as an affiliate.214 Controlling-person liability will not be imp

“the controlling person had no knowledge of or reasonable gro

believe in the existence of the facts by reason of which the lia

the controlled person is alleged to exist.” However, this “

knowledge” exception is generally narrowly construed and lim

the basic facts underlying the course of business; lack of know

the particular transaction does not preclude controlling-perso

ity.215 Some courts have held that the broader common-law 

respondeat superior do not apply in light of the statutory pro

dealing with controlling-person liability. However, the clear m

of the federal courts of appeals hold that statutorily imposed 

ling-person liability does not preclude application of either th

213. 17 C.F.R. § 230.405 (2002). See, e.g., United States v. Wolfson, 405 

(2d Cir. 1968), cert. denied, 394 U.S. 946 (1969).

214. “An affiliate of, or person affiliated with, a specified person, is a pe

directly, or indirectly through one or more intermediaries, controls or is cont

or is under common control with, the person specified.” 17 C.F.R. § 230.405 

215. S.F.–Okla. Petroleum Exploration Corp. v. Carstan Oil Co., 765 

(10th Cir. 1985). Likewise, controlling-person liability does not require the 

ling person’s participation in the wrongful conduct. See, e.g., G.A. Thompson 

Partridge, 636 F.2d 945 (5th Cir. 1981); Underhill v. Royal, 769 F.2d 1426 

1985); Steinberg v. Ill. Co., 659 F. Supp. 58 (N.D. Ill. 1987). But see Durham 

810 F.2d 1500 (9th Cir. 1987) (corporate president’s wife exercised some co

was not held liable, since she did not induce the misstatements in question); 

Audio Leasing Corp., 807 F.2d 833 (9th Cir. 1987) (broker–dealer not liabl

ure to supervise off-book sales).
73

mon-law principle of respondeat superior or the agency con

actual or apparent authority.216

b. Aiding and Abetting Liability

Aside from the provisions on controlling-person liability, nei

Securities Act of 1933 nor the Securities Exchange Act of 1

pressly imposes liability on secondary participants in securitie

tions. The courts nevertheless applied common-law principles 

ing and abetting to reach many such offenders. Although there 

tered authority to the contrary, the vast majority of cases ha

that aiding and abetting principles do not apply to broaden th

of defendants in private actions under sections 11 and 12 of th

Act. The Supreme Court has made it clear that there is no priva

edy against aiders and abettors;217 however, every court of appe

has faced the issue has recognized aiding and abetting as a pro

sis for liability under the generalized antifraud provisions, wh

give rise to SEC actions and criminal prosecutions under 

17(a).218

There is broad agreement among the circuits on the eleme

essary to establish aider and abettor liability. First, the court m

216. See, e.g., Hollinger v. Titan Capital Corp., 914 F.2d 1564 (9th C

cert. denied, 111 S. Ct. 1621 (1991); Henricksen v. Henricksen, 640 F.2d 

Cir.), cert. denied, 454 U.S. 1097 (1981); Paul F. Newton & Co. v. Tex. C

Bank, 630 F.2d 1111 (5th Cir. 1980); Marbury Mgmt., Inc. v. Kohn, 629 F.2

Cir. 1980), cert. denied, 449 U.S. 1011 (1981); Commerford v. Olson, 794 F

(8th Cir. 1986) (decided under 1934 Act § 20, the equivalent controlling-

ability provision under the Exchange Act); In re Atlantic Fin. Mgmt., Inc., 78

(1st Cir. 1986), cert. denied, 481 U.S. 1072 (1987) (also decided under 1934 

A different rule applies, however, to actions complaining of insider trading. 

Act § 21A(b)(1), discussed infra text accompanying note 427.

217. Central Bank of Denver v. First Interstate Bank of Denver, 508 

(1993).

218. See, e.g., Cleary v. Perfectune, 700 F.2d 774 (1st Cir. 1983); Arm

McAlpin, 699 F.2d 79 (2d Cir. 1983); Woodward v. Metro Bank of Dallas, 

84 (5th Cir. 1975); SEC v. Coffey, 493 F.2d 1304 (6th Cir. 1974), cert. de

U.S. 908 (1975); Hochfelder v. Midwest Stock Exch., 503 F.2d 364 (7th C

denied, 419 U.S. 875 (1974).
74

a primary violation of the securities laws.219 Second, the ai

abettor must be found to have a “general awareness” that hi

role was part of an overall plan of wrongdoing.220 Finally, th

and abettor must have given knowing and substantial assistanc

person perpetrating the primary violation.221

The courts are split on whether a person can be held liab

aider and abettor when his or her sole assistance was through 

and inaction. Some courts have held that aider and abettor liab

arise when the person remained silent with the conscious in

furthering the fraud.222 Other courts have found aider and ab

ability for silence and inaction only where the person had a

pendent duty to disclose the securities violation.223 Alternativ

Fifth Circuit has found aider and abettor liability when the ai

abettor either acted with the specific intention of furthering th

or had an independent duty to disclose the facts underlying th

tion.224

219. SEC v. Coffey, 493 F.2d 1304, 1314 (6th Cir. 1974), cert. denied, 

908 (1975). But see Kaliski v. Hunt Int’l Res. Corp., 609 F. Supp. 649 (N.D. 

(although “lulling” activities can constitute a primary violation of the secur

they are not sufficient to establish aiding and abetting liability).

220. See, e.g., Coffey, 493 F.2d at 1314. See also Buffo v. Graddick, 742 

(11th Cir. 1984); In re Gas Reclamation, Inc. Sec. Litig., 659 F. Supp. 493 

1987); Antinore v. Alexander & Alexander Serv., Inc., 597 F. Supp. 1353 

1984).

221. See, e.g., Coffey, 493 F.2d at 1314. See also Kilmartin v. H.C. Wain

Co., 580 F. Supp. 604 (D. Mass. 1984); SEC v. Rogers, 790 F.2d 1450 (9th C

Rudolph v. Arthur Andersen & Co., 800 F.2d 1040 (11th Cir. 1986), cert. de

U.S. 946 (1987); Mishkin v. Peat, Marwick, Mitchell & Co., 658 F. S

(S.D.N.Y. 1987).

222. See, e.g., IIT v. Cornfeld, 619 F.2d 909 (2d Cir. 1980); Rochez 

Rhoades, 527 F.2d 880 (3d Cir. 1975); SEC v. Coffey, 493 F.2d 1304 (6th C

cert. denied, 420 U.S. 908 (1975); Martin v. Pepsi-Cola Bottling Co., 639 F. S

(D. Md. 1986).

223. See, e.g., Kerbs v. Fall River Indus., Inc., 502 F.2d 731 (10th Ci

Quintel Corp., N.V. v. Citibank, N.A., 589 F. Supp. 1235 (S.D.N.Y. 1984)

Gardner, 583 F. Supp. 1262 (D. Utah 1984); SEC v. Nat’l Student Mktg. Cor

Supp. 682 (D.D.C. 1978).

224. See, e.g., Woodward v. Metro Bank of Dallas, 522 F.2d 84 (5th Cir. 19
75

F. Securities Class Actions

In 1995 and again in 1998, Congress amended the Securities 

1933 and Securities Exchange Act of 1934, in part to curb abu

curities litigation. These amendments introduced new requi

and procedures relating to the conduct of securities class-actio

tion.

1. Private Securities Litigation Reform Act

The Private Securities Litigation Reform Act of 1995 (PSLRA

plemented substantive changes relating to pleading, discovery

ity, and the awarding of fees and expenses in cases brought un

federal securities laws. The PSLRA reforms are an attempt to d

frivolous securities class action lawsuits in federal courts by m

more difficult for shareholders to bring derivative suits based 

on allegations that subsequent stock prices were lower than pre

The PSLRA imposes qualifications on lead plaintiffs beyon

imposed for federal class actions generally. In particular, it c

presumption in favor of the shareholder with the largest finan

terest as lead plaintiff; this is designed to encourage the appo

of institutional investors as lead plaintiffs. Section 27 of the 1

and section 21D of the 1934 Act226 require that a “lead plain

appointed as the representative party in all class-action sui

sumably to encourage substantial investors (and institutional in

in particular227) to gain control of suits and discourage lawyer

suits.228 The lead plaintiff must file a sworn certification with t

225. Pub. L. No. 104-67, 109 Stat. 737 (H.R. 1058, 104th Cong. (1995)).

226. 15 U.S.C. § 78u-4 (Supp. 2001). See also section 27 of the Securit

1933. 15 U.S.C. § 77z-1 (Supp. 2001).

227. The preference for institutional investors as plaintiffs does not m

ever, that they will always prevail in their quest to act as lead plaintiff. See 

Capstead Mortgage Corp., [1999–2000 Transfer Binder] Fed. Sec. L. Rep

¶ 91,020 (N.D. Tex. 2000) (appointing group of investors rather than one of 

tutional investors as lead plaintiff).

228. S. Rep. No. 104–98, at 11 (1995) (stating that “[t]he Committee i

increase the likelihood that institutional investors will serve as lead plaintiffs

“increasing the role of institutional investors in class actions will ultimately b

class and assist the courts”). See also H.R. Conf. Rep. No. 104–369, at 33 (19
76

plaint stating that he or she (1) has reviewed the complaint; 

not purchase the securities to participate in the lawsuit or at 

struction of an attorney; (3) is willing to serve as the class rep

tive; (4) has provided information on all personal transaction

security that is the subject of complaint; (5) has identified a

securities actions within the past three years in which he or 

served as representative party; and (6) will not accept any p

beyond his or her pro rata share in the suit.229 The lead pla

prohibited from serving in a lead plaintiff capacity more th

times in three years.230 The trial court’s order appointing a lea

tiff cannot be appealed on an interlocutory basis by disap

would-be lead plaintiffs.231

A plaintiff filing a class action asserting a securities claim un

1934 Act is required to provide notice to potential class memb

widely circulated business publication or wire service within 

days of filing a complaint.232 The notice must provide infor

about the claim and inform any potential class members that th

move to serve as lead plaintiff within sixty days of the public

 

ing that the amendments were intended to “effectively discourage the use 

sional plaintiffs”); S. Rep. No. 104–98, at 10 (1995) (“‘One way of addres

problem is to restore lawyers and clients to their traditional roles by making 

for lawyers to invent a suit and then attach a plaintiff.’” (quoting testimony o

Lackritz)).

229. The lead plaintiff’s share of any recovery is to be determined on a 

basis of the final judgment or settlement.

230. However, it has been held that the limit of five cases was not intend

ply to institutional investors, since the purpose of the Act was to encourag

tional investorsto act as plaintiffs in securities class actions. See, e.g., In re M

HBOC, Inc. Sec. Litig., 97 F. Supp. 2d 993 (N.D. Cal. 1999) (selecting betwe

two institutional investors seeking to become lead plaintiff); Blaich v. Emplo

tions, Inc., [1998 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 90,109, 

842417 (D. Ariz. Nov. 21, 1997).

231. Z-Seven Fund, Inc. v. Motocar Parts & Accessories, 231 F.3d 1215 

2000); Fla. State Bd. of Admin. v. Brick, [1999–2000 Transfer Binder] Fe

Rep. (CCH) ¶ 90,758, 2000 WL 178416 (6th Cir. 2000) (unpublished opinio

232. See Burke v. Ruttenberg, 102 F. Supp. 2d 1280 (N.D. Ala. 2000) (n

inadequate). Failure to give the required notice can result in disqualificatio

counsel. King v. Livent, 36 F. Supp. 2d 187 (S.D.N.Y. 1999).
77

the notice. Not later than ninety days after the publication of 

tice, the court must appoint a lead plaintiff based on factors 

clude (1) whether the plaintiff filed the complaint or made a m

response to the notice; (2) which plaintiff has the largest finan

terest in the suit; and (3) whether the plaintiff otherwise c

with Federal Rule of Civil Procedure 23 concerning class rep

tion. Most courts permit multiple lead plaintiffs when appropri

The PSLRA expressly permits courts to classify a number 

vidual plaintiffs as a “group” for the purposes of determining t

est shareholder for lead plaintiff status.234 Although the appo

of a group may not be commonplace, it is appropriate when t

tity of interests required by the statute exists.235 Courts have h

an overly liberal interpretation of the group concept is contrar

233. See, e.g., Baffa v. Donaldson, Lufkin & Jenrette Sec. Corp., 222 F.3

Cir. 2000); In re Drexel Burnham Lambert Group, Inc., 960 F.2d 285 (2d C

See also, e.g., In re Conseco, Inc. Sec. Litig., [2000–2001 Transfer Binder] Fe

Rep. (CCH) ¶ 91,234 (S.D. Ind. 2000) (appointing two municipal retiremen

lead plaintiffs but rejecting investment management fund as lead plaintiff b

engaged in arbitrage strategies that were not representative of the class); Sa

Partners, Ltd. v. Hiatt, [1999–2000 Transfer Binder] Fed. Sec. L. Rep

¶ 91,051, 2000 WL 1182793 (S.D.N.Y. 2000) (sophistication of plaintiff di

der him an atypical class representative; fact that plaintiff gave conflicting tes

two depositions did not render him an inadequate class representative).

234. See, e.g., In re Tyco Int’l Ltd. Sec. Litig., No. 00-MD-1335-B, 

1513772 (D.N.H. Aug. 17, 2000). See also, e.g., Local 144 Nursing Home 

Fund v. Honeywell Int’l, Inc., [2000–2001 Transfer Binder] Fed. Sec. L. Re

¶ 91,261, 2000 U.S. Dist. LEXIS 16712 (D.N.J. 2000) (appointing group of fi

institutional investors as lead plaintiff).

235. In re Telxon Corp. Sec. Litig., 67 F. Supp. 2d 803 (N.D. Ohio 1999) 

two groups but accepting third group as lead plaintiffs). Where there are 

plaintiffs but different groups allege different securities law claims, the appoi

separate groups is appropriate. In re Nanophase Techs. Sec. Litig., [1999–20

fer Binder] Fed. Sec. L. Rep. (CCH) ¶ 90,686, 1999 WL 965468 (N.D. Ill. 1

ternatively, the court may decide to accept the group that represents the larg

gate losses from the alleged violations in question. In re Ribozyme Pharms.

Litig., 192 F.R.D. 656 (D. Colo. 2000) (two competing groups were both qu

serve as lead plaintiff; the court selected the group with the larger aggregate lo
78

intent of the PSLRA in limiting lead plaintiffs.236 Accordingly

will not recognize a group as the largest shareholder for lead 

purposes if the members of the group do not truly have an ide

interests.237 Where a member of a group is atypical of mo

members, the entire group may be disqualified for certification 

plaintiff.238

Issues also arise as to how to select the most appropriate lea

sel.239 The PSLRA provides that “[t]he most adequate lead p

236. Telxon, 67 F. Supp. 2d 803. See also, e.g., Bowman v. Legato Sys., 

F.R.D. 655 (N.D. Cal. 2000) (subset of plaintiffs selected by lawyer did not qu

group appropriate to act as lead plaintiff); Wenderhold v. Cylink Corp., 1

577 (N.D. Cal. 1999) (refusing to aggregate plaintiffs into a group); In re N

Ltd. Sec. Litig., 188 F.R.D. 206 (D.N.J. 1999) (unpublished opinion) (reje

pointment of nine lead plaintiffs but certifying five lead plaintiffs as a 

Switzenbaum v. Orbital Sciences Corp., 187 F.R.D. 246 (E.D. Va. 1999) 

investors did not satisfy the requirements for appointment as a group to ser

plaintiff); In re Baan Co. Sec. Litig., 186 F.R.D. 214 (D.D.C. 1999) (agre

SEC’s contention that a triumvirate of lead plaintiffs is a good way to deal w

lated investors but refusing to appoint a group of twenty investors); Tumolo 

Inc., No. 98-CV-1599TW, 1999 U.S. Dist. LEXIS 22105 (S.D. Cal. Jan. 22, 

fusing to appoint 339 investors as lead plaintiffs).

237. Sakhrani v. Brightpoint, Inc., 78 F. Supp. 2d 845 (S.D. Ind. 1999)

e.g., Tyco, 2000 WL 1513772 (appointing group of three substantial shareh

lead plaintiffs); Burke v. Ruttenberg, 102 F. Supp. 2d 1280 (N.D. Ala. 2000) 

300 unrelated investors could not serve as lead plaintiff under the PSLRA, 

appointed a committee consisting of state pension fund’s investment man

three individual investors as lead plaintiff); Takeda v. Turbodyne Techs., I

Supp. 2d 1129 (C.D. Cal. 1999) (group of unrelated individuals was not an 

ate group; instead the court appointed a bona fide investor group as lead plain

238. Seamans v. Aid Auto Stores, Inc., [1999–2000 Transfer Binder] Fe

Rep. (CCH) ¶ 90,902 (E.D.N.Y. 2000) (one of three members of group was 

maker and was not a typical class representative).

239. For example, a conflict of interest will disqualify an attorney from s

lead counsel. A lawyer may not be able to represent two different classes 

same defendant but may represent two different classes in two different actio

each action is naming different defendants. See Dietrich v. Bauer, 192 F

(S.D.N.Y. 2000). Also, misconduct by lead counsel can result in disqualific

Stearns v. Navigant Consulting Corp., 89 F. Supp. 2d 1014 (N.D. Ill. 2000

counsel who contacted class members of another lead counsel “narrowly” 

being disqualified).
79

shall, subject to the approval of the court, select and retain co

represent the class.”240 The court is thus given considerable di

in determining whether the lead plaintiff’s choice of represe

best suits the needs of the class.241 In exercising this discretion

should consider both the quality and the cost242 of the legal re

tation. As one court explained, “[i]t is reasonable to assume th

the opportunity, absent class members would try to secure th

qualified representation at the lowest cost.”243 Courts may a

into account a firm’s experience, size, and financial resourc

what may be an emerging trend, some courts in securities class 

have relied on a “free market” approach to counsel selection a

conducted an auction, soliciting bids from attorneys seeking t

lead counsel.245

240. 15 U.S.C. § 78u–4(a)(2)(A)(v) (Supp. 2001). See also 15 U.S.

1(a)(3)(B)(v) (Supp. 2001).

241. See, e.g., Griffin v. GK Intelligent Sys., Inc., 196 F.R.D. 298 (S.D. T

(denying certification, since petitioning lead plaintiffs were neither typical n

sentative of the class); In re Cendant Corp. Litig., 182 F.R.D. 144, 149 (D.N

(where “in contrast to the strictly defined procedures and considerations 

scribe the determination of lead plaintiff, here the Court’s approval is subj

discretionary judgment that lead plaintiff’s choice of representative best 

needs of the class”). Accord, Sherleigh Assocs., LLC v. Windmere–Durable 

Inc., 186 F.R.D. 669 (S.D. Fla. 1999). See also, e.g., Koppel v. 4987 Corp., 1

360 (S.D.N.Y. 2000) (partial recall of lead plaintiff was not sufficient to re

inadequate; nor was he disqualified because of alleged animosity with one 

fendants); Miller v. Material Sciences Corp., 31 Sec. Reg. & L. Rep. (BNA) 10

Ill. 1999) (fact that plaintiff purchased shares from her husband did not 

atypical so as to disqualify her as class-action plaintiff); Geoffrey P. Miller, Ov

Class Actions, 71 N.Y.U. L. Rev. 514 (1996).

242. See, e.g., Tarica v. McDermott Int’l, Inc., [1999–2000 Transfer Bin

Sec. L. Rep. (CCH) ¶ 90,946, 2000 WL 377817 (E.D. La. 2000) (appointin

counsel plus a third firm as liaison counsel provided that this arrangemen

result in higher legal fees).

243. Cendant Corp., 182 F.R.D. at 149. See also, e.g., Raftery v. Mercury 

No. 97C624, 1997 WL 529553 (N.D. Ill. Aug. 7, 1997).

244. See, e.g., Wenderhold v. Cylink Corp., 191 F.R.D. 600 (N.D. Cal. 200

245. E.g., In re Lucent Techs., Inc. Sec. Litig., 194 F.R.D. 137 (D.N.J. 20

Cendant Corp. Prides Litig., 98 F. Supp. 2d 602 (D.N.J. 2000); Wenderhold 

Corp., 188 F.R.D. 577 (N.D. Cal. 1999); Sherleigh Assocs., 186 F.R.D. 669
80

Section 21D(a)(6) of the Securities Act of 1934246 states th

neys’ fees in class-action cases are limited to a reasonable amou

that discretion in determining what is reasonable is left to the 

Class-action settlements are subject to court approval, as is the 

tion of attorneys’ fees out of the settlement fund. The PSLRA d

mandate a particular method of calculating attorneys’ fees.24

neys’ fees may be calculated according to the lodes

proach—multiplying an attorney’s hours by a reasonable fee 

creasing the amount for any risk or other relevant factors.248

Section 21D(b)(3) of the 1934 Act249 provides that disco

stayed during the pendency of a motion to dismiss or mo

summary judgment in order to alleviate discovery expenses o

 

Corp., 182 F.R.D. 144; In re Wells Fargo Sec. Litig., 156 F.R.D. 223 (N.D. C

See also, e.g., In re Amino Acid Lysine Antitrust Litig., 918 F. Supp. 1190 

1996). See generally Andrew K. Niebler, In Search of Bargained-for Fees for Cl

Plaintiffs’ Lawyers: The Promise and Pitfalls of Auctioning the Position of Lead 

54 Bus. Law. 763 (1999) and Laural L. Hooper & Marie Leary, Auctioning th

Class Counsel in Class Action Cases: A Descriptive Study (Federal Judici

2001) (at http://www.fjc.gov and on the courts’ intranet at jnet.fjc.dcn).

246. 15 U.S.C. § 78u-4(a)(6) (Supp. 2001). See also 15 U.S.C. § 77

(Supp. 2001).

247. Powers v. Eichen, 229 F.3d 1249 (9th Cir. 2000) (section 21D of 

Act does not mandate that fees be based on net recovery rather than 

amount).

248. See, e.g., Williams v. MGM–Pathe Communications Co., 129 F.3d 

Cir. 1997) (attorneys’ fees out of settlement fund should be based on the e

tlement fund or on the lodestar rather than the class members’ claims ag

fund); In re F & M Distribs., Inc. Sec. Litig., [1999–2000 Transfer Binder] Fe

Rep. (CCH) ¶ 90,621 (E.D. Mich. 1999) (approving fee award of $6,075,000 

settlement fund in light of “excellent performance” of attorneys). See also, 

Cendant Corp. Prides Litig., 51 F. Supp. 2d 537 (D.N.J. 1999) (awarding 

5.7% of stock acquisition rights available to the class). Cf. Wininger v. SI Mg

33 F. Supp. 2d 838, 846–47 (N.D. Cal. 1998) (attorney’s advancing clien

proxy solicitation to counteract alleged misleading proxy solicitation by defen

not a part of attorneys’ fees within the meaning of the PSLRA).

249. 15 U.S.C.A. § 78u-4(b)(3) (Supp. 2001).
81

dants.250 The stay is mandatory.251 However, the mandatory di

stay does not apply to certification of the class.252 The certific

sue must be resolved before a motion to dismiss that would tri

stay provision. During a stay of discovery, the court may impo

tions on defendants who willfully destroy evidence. Addition

virtue of section 21D(d), in suits for money damages where th

tiff must establish that the defendant acted with a particular 

mind, the defendant may ask that written interrogatories be su

to the jury as to each defendant’s state of mind at the time of th

tion.253

Notice of final or proposed settlement agreements in class 

must be provided to class members. 254 A summary of the agr

must appear on the cover page of the notice. The notice must 

clude the following: the average amount of damages per share t

be recovered; an explanation of attorneys’ fees and costs; th

address, and telephone number of the lead counsel; and a sta

outlining the reasons for settlement. As with class actions ge

courts will review settlements to determine fairness to clas

bers.255

250. S. Rep. No. 104–98, at 14 (1995) (finding that discovery costs o

defendants to settle securities class-action suits). The discovery stay is subje

statutory exceptions: when particularized discovery is necessary to either 

evidence or prevent undue prejudice to the moving party. 1934 Act § 21D(b)

251. SG Cowen Sec. Corp. v. U.S. Dist. Ct., 31 Sec. Reg. & L. Rep. (BN

(9th Cir. 1999) (limited discovery order was improper in light of mandatory 

discovery).

252. In re Diamond Multimedia Sys., Inc. Sec. Litig., [1997 Transfer Bin

Sec. L. Rep. (CCH) ¶ 99,561, 1997 WL 773733 (N.D. Cal. 1997).

253. 15 U.S.C. § 78u-4(d) (Supp. 2001).

254. See, e.g., Krangel v. Golden Rule Res., Inc., [1999–2000 Transfer Bin

Sec. L. Rep. (CCH) ¶ 91,025 (E.D. Pa. 2000) (notice was adequate).

255. See, e.g., In re Mego Fin. Corp. Sec. Litig., 213 F.3d 454 (9th Cir. 2

proving class-action settlement); Neuberger v. Shapiro, [1999–2000 Transfe

Fed. Sec. L. Rep. (CCH) ¶ 91,061 (E.D. Pa. 2000) (approving settlement a

able); Krangel (approving settlement); In re Blech Sec. Litig., [1999–2000 

Binder] Fed. Sec. L. Rep. (CCH) ¶ 90,978, 2000 WL 661680 (S.D.N.Y. 2000

ing class-action settlement); In re Ikon Office Solutions, Inc. Sec. Litig., [19
82

In private suits involving class-action claims, courts may req

undertaking from the attorneys for the plaintiff or defendant, 

ties themselves, or both. Equitable principles may be used to a

whether to require an undertaking and to determine the relev

portions.

In order to dissuade abusive litigation, section 21D(b)(1

1934 Act256 directs courts to perform a mandatory review at t

adjudication of the action to determine whether any party or a

violated Federal Rule of Civil Procedure 11(b). If review reve

violation by an attorney or party, the Act directs the court to 

Rule 11 sanctions on the attorney or party unless the violator 

tablish a proper basis for not imposing the sanctions. The cou

give the attorney or party notice and an opportunity to respond

In the event that the court finds a plaintiff or attorney has v

Rule 11 in filing a complaint, there is a rebuttable presumptio

vor of awarding all attorneys’ fees and costs incurred in the a

the defendant. Similarly, when a party’s responsive pleading o

sitive motion violates Rule 11(b), there is a rebuttable presum

favor of awarding attorneys’ fees and costs incurred as a direc

of the violation to the prevailing party. Once a Rule 11 violat

been found and the statutory presumptions come into play, t

Act requires that the court give the violator an opportunity 

rebuttal evidence in order to show that an award of attorneys’ 

costs is unreasonable or that the Rule 11 violation was de min

the rebuttal evidence is not persuasive, sanctions are to be i

pursuant to the standards set forth in Rule 11. In order to war

imposition of sanctions, the complaint must have been frivo

 

Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 90,972 (E.D. Pa. 2000) (approv

ment).

256. 15 U.S.C. § 78u-4(b)(1) (Supp. 2001).

257. See, e.g., Richter v. Achs, 174 F.R.D. 316 (S.D.N.Y. 1997) (sanctio

under PSLRA even though plaintiff failed to identify any instance in which 

allegedly violated securities laws; while the claims were unconvincing, they 

frivolous). Compare, e.g., Inter-County Res., Inc. v. Medical Res., Inc., 49 F. 

682 (S.D.N.Y. 1999) (Rule 10b-5 damage claim brought by person who was 

purchaser nor seller was frivolous and thus supported sanctions), with Simo

tolo Group, L.P. v. Richard E. Jacobs Group, Inc., 186 F.3d 157 (2d Cir. 199
83

Once a party moves for the imposition of Rule 11 sanctions, b

of the PSLRA a court cannot deny the motion without making 

findings regarding compliance with Rule 11(b).

2. Securities Litigation Uniform Standards Act

Plaintiffs seeking to avoid the stricter federal standards of the 

began to file class-action securities lawsuits in state courts. As 

Congress passed the Securities Litigation Uniform Standards 

1998 (Uniform Standards Act or SLUSA),258 which mandates th

actions involving publicly traded securities be brought in 

court.259

The preemptive provisions of SLUSA apply only to cover

actions involving “covered” securities under the 1934 Act.260 C

securities under the Act are securities registered with the S

traded on the New York Stock Exchange, American Stock Ex

the NASD National Market System, or other national market

nated by the SEC, as well as securities issued by investment com

registered under the Investment Company Act of 1940.261 T

emption applies to any class action involving misrepresen

 

for injunctive relief by plaintiff who was neither a purchaser nor seller was 

lous, but Rule 10b-13 claim was).

258. Pub. L. No. 105-353, 112 Stat. 3227 (1998).

259. 15 U.S.C. § 78bb(f) (Supp. 2001). 1933 Act § 16(f), 15 U.S.C.A

(Supp. 2001). See, e.g., David M. Levine & Adam C. Pritchard, The Securities 

Uniform Standards Act of 1988: The Sun Sets on California’s Blue Sky Laws, 54 

1 (1998); Richard W. Painter, Responding to a False Alarm: Federal Preemptio

Securities Fraud Causes of Action, 84 Cornell L. Rev. 1 (1998).

260. 1934 Act § 27, 15 U.S.C. § 77aa (2000). While jurisdiction over 

claims is exclusively federal, private actions under sections 11 and 12 of the 

can be brought in either federal or state court. 1933 Act § 22(a), 15 U.S.C

(2000).

261. 1934 Act § 28(f)(5)(E), 15 U.S.C.A. § 78bb(f)(5)(E) (Supp. 2001); 

§ 16(f)(3), 15 U.S.C.A. § 77p(f)(3) (2000 & Supp. 2001). This definition i

fers to section 18 of the 1933 Act, 15 U.S.C.A. § 77r (2000 & Supp. 200

preempts those securities from state registration requirements.
84

omissions, deception, or manipulation in connection with t

chase or sale of a covered security.262

SLUSA contains its own definition of a covered class action: 

lawsuit or group of joined or consolidated lawsuits for d

brought on behalf of more than fifty persons.263 SLUSA thus d

preclude individual actions, derivative suits,264 or suits on b

fifty or fewer persons from being brought in state court. Class 

by states or their political subdivisions, as well as class actions 

pension plans, are not subject to SLUSA’s preemptive effect

exclusion requires that all class members fit within one of the

gories so as to prevent private parties from circumventing t

Furthermore, SLUSA does not apply to investigations and enfor

actions by state securities administrators; and it does not apply 

actions seeking to enforce a contractual agreement under a t

denture for a debt security.266

SLUSA preempts class actions based on state law causes o

for misrepresentation or fraud.267 The preemption also applies 

262. 1934 Act § 28(f)(1), 15 U.S.C.A. § 78bb(f)(1) (2000 & Supp. 2001) 

a class action or constructive class action as brought “by any private party a

untrue statement or omission of a material fact in connection with the pu

sale of a covered security, or . . . that the defendant employed any manip

deceptive device or contrivance in connection with the purchase or sale of 

security”). Accord 1933 Act § 16(b), 15 U.S.C. § 77p(b) (Supp. 2001).

263. 1934 Act § 28(f)(5)(B), 15 U.S.C. § 78bb(f)(5)(B) (Supp. 2001); 

§ 16(f)(2), 15 U.S.C. § 77p(f)(2) (Supp. 2001). Derivative actions are exp

cluded from the category of covered class actions. 1934 Act § 28(f)(5)(C), 

§ 78bb(f)(5)(C) (Supp. 2001); 1933 Act § 16(f)(3), 15 U.S.C. § 77p(f)(3

2001).

264. Derivative actions are expressly excluded from the category of cov

actions. 1934 Act § 28(f)(5)(C), 15 U.S.C. § 78bb(f)(5)(C) (Supp. 2001); 

§ 16(f)(3), 15 U.S.C. § 77p(f)(3) (Supp. 2001).

265. 1934 Act § 28(f)(3)(B), 15 U.S.C. § 78pp(f)(3)(B) (Supp. 2001); 

§ 16(d)(2), 15 U.S.C. § 77p(d)(2) (Supp. 2001).

266. 1934 Act §§ 28(f)(3)(B), (C); 15 U.S.C. §§ 78pp(f)(3)(B), (C) (Sup

1933 Act §§ 16(d)(2), (3), 15 U.S.C. §§ 77p(d)(2), (3) (Supp. 2001).

267. 1933 Act § 27(b)(4), 15 U.S.C. § 77z-1(b)(4) (Supp. 2001); 

§ 21D(b)(3), 15 U.S.C. § 78u-4(b)(3) (Supp. 2001).
85

ered class actions involving any liability under the 1933 Act

vided the class action involves fifty or more plaintiffs). Pres

simple breach of contract269 or conversion270 actions can be b

under state law. Of course, class actions involving securities 

not publicly traded may remain in state court.271

SLUSA preserves state court actions brought in the issuer’s 

incorporation by shareholders challenging management’s sta

or recommendations in connection with corporate trans

claiming a breach of fiduciary duty, or asserting statutory a

rights.272 Referred to as the “Delaware carve out”—although 

pressly limited to Delaware—it is designed to preserve remedie

state laws governing breaches of fiduciary duty and disclosure

isting shareholders in corporate transactions.

Any covered class action involving a covered security bro

state court is removable to federal court.273 The action wil

manded to state court only if it is determined that SLUSA’s pre

provisions do not apply.274 The Act empowers a federal court 

268. 1933 Act § 22(a), 15 U.S.C. § 77v(a) (Supp. 2001).

269. Green v. Ameritrade, Inc., 120 F. Supp. 795 (D. Neb. 2000) (breac

tract claim not preempted). In fact the Uniform Standards Act explicitly exc

ered class actions brought to enforce a contractual agreement between the i

an indenture trustee. 1933 Act § 16(d)(3), 15 U.S.C.A. § 77p(d)(3) (2000); 

§ 28(f)(3)(C), 15 U.S.C.A. § 78u-4(f)(3)(C) (2000).

270. Burns v. Prudential Sec., 116 F. Supp. 2d 917 (D. Ohio 2000).

271. See, e.g., Comment, Uncharted Waters: Securities Class Actions in T

the Securities Litigation Uniform Standards Act of 1998, 31 St. Mary’s L.J. 143 (

272. 1934 Act § 28(f)(3)(A), 15 U.S.C. § 78pp(f)(3)(A) (Supp. 2001); 

§ 16(d)(1), 15 U.S.C. § 77p(d)(1) (Supp. 2001).

273. 1934 Act § 28(f)(2), 15 U.S.C. § 78pp(f)(2) (Supp. 2001); 1933 Ac

15 U.S.C.A. § 77p(c) (Supp. 2001).

274. 1934 Act § 28(f)(4)(D), 15 U.S.C. § 78pp(f)(4)(D) (Supp. 2001); 

§ 16(d)(4), 15 U.S.C. § 77p(d)(4) (Supp. 2001). See, e.g., In re Lutheran Bhd

Ins. Prods. Co., 105 F. Supp. 2d 1037 (D. Minn. 2000) (variable annuities 

ered securities; McCarran-Ferguson Act, which prevents federal law from in

with state insurance regulation, did not alter this fact and thus claims were re

federal court without remand to state court).
86

discovery in any state court action if deemed to aid in the 

court’s jurisdiction.275

275. 1934 Act § 21D-(3), 15 U.S.C.A. § 78u-4(b)(3) (2000); 1933 Act § 

15 U.S.C.A. § 77z-1(b)(4). See, e.g., In re Bankamerica Corp. Sec. Litig., 95 F. 

1044 (D. Mo. 2000) (staying state court class action that “threatened the or

duct of the federal case,” which represented more than twenty-six times t

amount in claims than the state court proceeding that was stayed).
87

IV. Regulating Issuers, Securities

Professionals, and the Securities Marke

The Securities Exchange Act of 1934

A. Scope of the 1934 Act

The Securities Exchange Act of 1934 presents a broad umb

regulation. In addition to market and financial regulation, it i

disclosure and other obligations on issuers of securities. Th

principal targets of the 1934 Act are issuers, markets, and mar

fessionals. Oversight of the securities markets and market pro

als is accomplished not only directly by the SEC but also by sys

self-regulation overseen by the SEC.

The 1934 Act has a much broader scope than the 1933 A

regulation of securities distributions, including the regulation 

to-day trading. The 1934 Act has an issuer registration requ

apart from the one found in the 1933 Act. Registration of secu

not triggered by a particular transaction (such as a public offeri

rather applies to virtually all publicly traded securities in the 

States. The 1934 Act also regulates proxy solicitations, tende

other control-related transactions, and insider transactions in

companies that are registered under the Act. Registration un

1934 Act in turn triggers periodic reporting requirements. Th

some instances in which issuers who do not have to register se

under the 1934 Act will nevertheless be subject to its periodic 

ing provisions. While most of the 1934 Act’s regulation applies 

registered and reporting companies, there are two importan

sions that are not so limited: (1) the general antifraud provi

section 10(b) and, in particular, SEC Rule 10b-5; and (2) the 

offer antifraud provision found in section 14(e).

There are two jurisdictional bases for regulation of securi

their issuers under the 1934 Act. The first basis of jurisdiction 

gered by use of an instrumentality of interstate commerce—th

basis for jurisdiction under SEC Rule 10b-5 and section 14(e

1934 Act. The second basis for jurisdiction is found in the regi
88

provisions of section 12 and the periodic reporting provisions 

tions 13 and 15(d).

Section 12 of the 1934 Act requires registration of most p

traded securities. Under section 12(a), any security that is trad

national exchange must be registered under the 1934 Act.276 

12(a) thus covers exchange-traded equity securities (stock and 

ties convertible into stock), exchange-traded options (pu

calls),277 and exchange-traded debt securities (bonds). Secti

registration provisions further apply to equity securities that a

licly traded in over-the-counter markets through the facilitie

National Association of Securities Dealers (NASD),278 rather 

an exchange. Section 12(g)(1) requires registration of certain 

securities that are not listed on a national securities exchang

plies on its face to companies that have a class of equity securit

by 500 or more persons and more than $1 million in assets. H

the SEC has narrowed the number of companies subject to 1

registration. Rule 12g-1 exempts an issuer if the company h

than $10 million in gross assets.279 The registration and con

276. The 1934 Act’s registration requirement is set forth in section 12(g

fers significantly from that of the 1933 Act. A corporation that has registered 

securities under the 1934 Act will still have to register each particular offeri

class of securities under the 1933 Act.

277. Options are included in the definition of equity securities, becaus

are convertible into equity securities.

278. The NASD operates the over-the-counter market, distinguished 

from the exchanges in two principal ways: (1) there is no central facility co

to an exchange floor (although the NASD’s introduction in 1971 of an e

automated quotation system, NASDAQ, and more recently its “national m

tem” have made this distinction less important); and (2) the function of a fi

senting an individual buyer is different (in an exchange, the firm acts as a b

the only dealer is the registered specialist in that stock; in the over-the-cou

ket, any number of firms may act as dealers or market makers in a particular s

279. There is an exemption from 1934 Act registration for securities o

issuers, over-the-counter American Depositary Shares, and American Depo

ceipts representing such securities. 1934 Act § 12(g)(3) and SEC Rule 12

exemption requires the issuer to annually furnish the SEC with all informa

must be disclosed according to the laws of the issuer’s domicile. This exemp
89

periodic reporting obligations cease if on the last day of each 

issuer’s last three fiscal years the issuer (1) has had fewer th

shareholders of record of that class of securities or (2) has ha

not exceeding $10 million. 280 In such cases, the issuer may w

its registration.

Registration under the 1934 Act brings with it periodic di

obligations. Section 13 of the 1934 Act sets forth the periodic 

ing requirements. The basic reports that must be filed with t

are Form 10-K, an annual report; Form 10-Q, a quarterly rep

Form 8-K, an interim “current report.” Form 8-K’s mandated 

reporting requirements are quite limited,281 and, as a gener

companies are not under an affirmative duty to disclose info

until the next quarterly report. As a result of the Sarbanes-Ox

of 2002, the SEC is expanding the types of events that trigger 

reporting on Form 8K.

B. Prohibition of Manipulative Activities

Section 9(a) prohibits transactions entered into simultaneousl

the purpose is to create a “misleading appearance of active tra

 

modified in 1983 and is no longer available for NASDAQ-listed securities; 

securities qualifying prior to the modification retain their exempt status.

280. Rule 12h-3.

281. The following items must be disclosed on Form 8-K: (1) changes i

of the registrant (within fifteen calendar days of the change); (2) acquisition 

sition of a significant amount of assets, not in the ordinary course of busine

issuer or any of its majority-owned subsidiaries (within fifteen calendar da

event); (3) bankruptcy or receivership (within fifteen calendar days of th

(4) change of certifying accountant (within five days of the event); (5) a

events not called for by this form but which the registrant deems important; 

nation of directors (within five days of the event); and (7) change in fi

(within fifteen calendar days of the decision). Companies frequently use For

voluntary interim filings.

282. A “wash” sale is a fictitious sale where there is no change in benefic

ship: It is a transaction without the usual profit motive and is designed to 

false impression of market activity when in fact there is none.

A “matched” order occurs when orders are entered simultaneously to bu

the same security. The mere fact that a broker crosses trades or enters into 

orders does not violate the 1934 Act. In fact, cross-trades can actually be
90

It also prohibits any exchange-based transactions that give th

cial impression of active trading,283 as well as transactions ente

for the purpose of depressing or raising the price of the secu

Furthermore, section 9(a)(6) empowers the SEC to promulga

prohibiting “pegging, fixing, or stabilizing” securities prices.285

Another type of manipulation covered by section 9 invo

change-traded options, or put and call options. 286 Section 9(b

the SEC rule-making power over options transactions where 

no intent to follow through with the rights and obligations of 

tion with respect to the underlying security. The SEC has not i

any substantive prohibitions, but rather has elected to deal w

 

firm’s customers if the savings on commissions are passed on to the custom

ever, the cross-trades become problematic when the cost savings are not pas

the customer.

283. Wash sales and other manipulative acts create the appearance of liqu

makes a stock more attractive.

284. Prearranged trades can be used in order to set an artificially high pric

285. The problem of stabilization has been addressed by the SEC in Regu

17 C.F.R. §§ 241.100–240.105. See Anti-Manipulation Rules Concerning 

Offerings, Securities Act Release Nos. 33–7375 and 34–38067; IC–22412, 62 

520 (Jan. 3, 1997).

286. Note that the provisions relating to options do not apply to warrant

issued by the issuer). Furthermore, the provisions are limited to options wi

to securities, not to be confused with futures contracts or options relatin

modities, which are regulated by the Commodities Futures Trading Comm

call option is a contract between a seller (the option writer) and a buyer und

the option buyer has the right to exercise the option and thereby purchase t

lying security at an agreed-on price (the “strike” or “exercise” price). The o

expire unexercised (and hence valueless) unless it is exercised within a spec

period, the last day of which is the expiration date. A put option, conversely, 

option’s buyer the right to exercise the option by selling the underlying secu

put-option seller must purchase the underlying security at the agreed-on p

option is exercised on or before the expiration date. If the strike price is “o

money” in comparison with the price of the underlying security, so that it w

make economic sense to exercise the option, the option will simply expir

cised. Option contracts can be used either for speculation or to hedge existin

ties positions. See generally, 1 Hazen, supra note 101, § 1.7; Thomas L. H

tional Investment, Speculation, or Gambling?—Derivative Securities and Fina

tures and Their Effects on the Underlying Capital Markets, 86 Nw. U. L. 

989–90 (1992).
91

and call options for securities by requiring an adequate dis

document for purchasers and sellers.

C. Shareholder Voting: Federal Regulation of Proxies and Pro

Solicitation

In addition to periodic reporting requirements, 1934 Act reg

are subject to the federal proxy rules established under sectio

the Act. Although state corporate law governs shareholder 

rights generally, federal securities law regulates the proxy ma

of publicly held companies. There are four primary aspects 

proxy regulation. First, by virtue of section 14(a), there mus

and fair disclosure of all material facts with regard to any m

ment-submitted proposals that will be subject to a sharehold

Second, material misstatements, omissions, and fraud in con

with the solicitation of proxies are prohibited, and the cour

recognized implied private remedies for injured investors. 287 Th

federal proxy regulation facilitates shareholder solicitation of 

since by virtue of Rule 14a-8 management is required not 

submit relevant shareholders’ proposals in its own proxy sta

but also to allow the proponents to explain their position in th

any management opposition. Fourth, the proxy rules mandate 

closure in nonmanagement proxy materials and thus are signif

control struggles and contested takeover attempts.

Under section 14 of the 1934 Act, whenever there is a prox

tation with regard to shareholder votes (or a consent to acti

holders of securities subject to section 12’s registration requir

the solicitation must be in line with SEC disclosure requiremen

tion 14(a) is limited to proxy solicitation materials and proc

Accordingly, it does not apply if shareholder votes or cons

proxy are not solicited. When there is no proxy solicitation m

the issuer’s management, section 14(c) nevertheless requires m

ment to mail a statement containing information similar to 

287. See, e.g., J.I. Case Co. v. Borak, 377 U.S. 426 (1964).
92

quired for a proxy solicitation to the shareholders in advance 

shareholders’ meeting.288

The proxy rules govern disclosure but not voting mechanics 

stantive voting rights.289 In Rules 14a-3 through 14a-12, the S

forth the types of information that must be disclosed in proxy 

tions subject to the Act. The SEC distinguishes between the 

and solicitation291 materials. All solicitations must be accompa

preceded by a written proxy statement containing the informa

quired by Schedule 14A.292 Required disclosures include info

about the person making the solicitation and details relatin

transactions in question. If the solicitation is made on the issu

half, the proxy statement must be accompanied or preceded b

nual report to security holders.293 The annual report must con

nancial information as well as management’s analysis of operati

The federal proxy rules also provide for shareholder acces

formation.294 Rule 14a-8, the shareholder proposal rule, tells m

288. 15 U.S.C. § 78n(c) (2000). These informational requirements are 

Regulation 14C, 17 C.F.R. §§ 240.14c-1 to 240.14c-7 (2002), and Schedul

C.F.R. § 240.14c-101 (2002).

289. The mechanics of shareholder voting and the identification of prope

for shareholder consideration are determined by state law.

290. Proxy is defined in Rule 14a-1(f) to include any shareholder’s co

authorization regarding the casting of that shareholder’s vote. Requiremen

appropriate form of the proxy itself can be found in Rule 14a-4.

291. Solicitation, as defined in Rule 14a-1(l), includes the following: an

for a proxy; any request to execute or not to execute, or to revoke, a prox

communication to shareholders reasonably calculated to result in the proc

withholding, or revocation of a proxy. Rule 14a-2 lists the types of solicita

empt from the proxy rules. Rule 14a-3 sets forth the types of information tha

included in proxy solicitations.

292. Rule 14a-3. Five preliminary copies of the proxy statement, form 

and any soliciting material must be filed with the SEC at least ten calendar d

to the date definitive copies are sent or distributed to security holders. Rule 1

293. Rule 14a-3(b). See also Regulation 14C, which requires disseminati

annual report in years when the registrant does not engage in a proxy solicita

294. See Rule 14a-7, designed for nonmanagement persons intending t

solicitation. Upon request, management must either supply a list of security h

offer to mail the solicitation materials at a reasonable cost to the requesting p

Seventh Circuit has held that violations of Rule 14a-7 mailing requirements 
93

ment which shareholder proposals must be included in th

statement. In essence, any shareholder proposal that is proper 

sideration under state law must be included in management

statement (along with a brief explanation of the shareholder’s 

for supporting the proposal’s adoption), provided the pro

submitted to the issuer in a timely fashion. For one’s propos

included, a proponent must have owned, for at least one year, 

1% of the company’s securities or $1,000 worth of the market 

such securities, and must continue to be a security holder thro

date on which the shareholders’ meeting is held. The proposal 

sion must be timely under the requirements of Rule 14a-8(a)(

thermore, a shareholder may submit only one proposal per y

qualifies for mandatory inclusion in management’s proxy statem

addition to the proposal itself, the proponent may provide a s

ing statement, subject to length limitations. The issuer may 

certain proposals, even those filed properly and timely. Howe

proposal is valid under state law and is properly excludable, 

nevertheless be described in the issuer’s proxy statement.295

Rule 14a-9 embodies the general antifraud proscriptions ap

to proxy solicitations. The Supreme Court has repeatedly rec

an implied remedy for private parties seeking redress for viola

Rule 14a-9’s antifraud provisions.296 In addition, other issues 

gated in the context of Rule 14a-9 actions, including standing, 

ality, causation, the proper standard of liability, and damages.

Based solely on the language of Rule 14a-9 in order to e

standing to sue, all a private plaintiff needs to show in a Rul

action is that he or she was injured in connection with a prox

tation covered by the Exchange Act’s regulation.297 Courts ha

 

rise to private rights of action. Haas v. Wieboldt Stores, Inc., 725 F.2d 71 

1984).

295. Schedule 14A, item 21.

296. See TSC Indus., Inc. v. Northway, Inc., 426 U.S. 438 (1976); Mills v

Auto-Lite Co., 396 U.S. 375 (1970); J.I. Case Co. v. Borak, 377 U.S. 426 (196

297. See, e.g., Palumbo v. Deposit Bank, 758 F.2d 113 (3d Cir. 1985) (di

standing to bring suit under the proxy rules); Ameribanc Investors Group 

706 F. Supp. 1248 (E.D. Va. 1989) (even the issuer or target corporation has 
94

that a shareholder has standing to challenge a misleading prox

ment by alleging direct injury notwithstanding the absence o

her alleging actual reliance.298 All that is necessary is that the 

of some shareholders on the statement was likely to have affe

outcome of their votes.

A basic element of a claim based on one of the securiti

antifraud provisions is that the misstatements or omissions we

terial” to the transaction. The Supreme Court found the determ

of “materiality” to be a mixed question of law and fact and d

that “an omitted fact is material if there is a substantial likeliho

a reasonable shareholder would consider it important in decid

to vote . . . . Put another way, there must be a substantial lik

that the disclosure of the omitted fact would have been viewed 

reasonable investor as having significantly altered the ‘total 

information made available.”299 This definition appears to hav

the test of time, having been adopted again by the Court in de

ing materiality in the context of a Rule 10b-5 action,300 and it w

oed in an SEC rule pertaining to materiality in the context of 1

registration and reporting.301 This same materiality test is also 

to 1933 Act disclosure obligations (as well as to disclosures r

under the other securities laws that are not discussed herein).

It is difficult to generalize with regard to issues of materialit

the decisions are highly fact-specific. However, the cases do 

part reflect the common law of misrepresentation, which sta

opinions, predictions, intentions, and mere statements of va

 

to sue under the proxy rules); District 65, UAW v. Harper & Row Publishe

Supp. 1468 (S.D.N.Y. 1983) (plaintiff must be a shareholder at the time of 

solicitation).

298. See, e.g., Bradshaw v. Jenkins, [1984 Transfer Binder] Fed. Sec

(CCH) ¶ 91,645 (W.D. Wash. 1984). But cf. Atkins v. Tony Lama Co., 624 

250 (S.D. Ind. 1985) (dismissing claim because allegations negated any pos

reliance, a necessary element of a fraud claim).

299. TSC Indus., Inc. v. Northway, Inc., 426 U.S. 438 (1976).

300. Basic, Inc. v. Levinson, 485 U.S. 224 (1988).

301. Rule 12b-2.
95

generally not actionable.302 Predictions, opinions, and projecti

not be actionable unless they constitute a misrepresentation o

Complicating matters are the disclosures required in Mana

Discussion and Analysis concerning the significant trends m

ment foresees for the company.304

Nondisclosure or inadequate disclosure of conflicts of inte

quently constitute material misrepresentations.305 However, i

contexts, nondisclosure of the directors’ motivations for suppo

opposing a particular transaction has been held not material so 

there was full disclosure of all relevant facts surrounding the 

tion.306

In addition to materiality, establishing an actionable violatio

proxy rules requires the private plaintiff to establish causation

tion under the proxy rules’ private right of action has been 

what elusive concept. A showing of cause in fact is the first ste

tablishing a sufficient causal nexus between the defendant’s c

and the plaintiff’s injury.307 Once cause in fact has been establi

must be shown that the causal connection is sufficiently proxi

302. See, e.g., Mendell v. Greenberg, 612 F. Supp. 1543 (S.D.N.Y. 1985

part and rev’d in part, 927 F.2d 667 (2d Cir. 1991) (mere opinion is not ac

Nutis v. Penn Merch. Corp., 610 F. Supp. 1573 (E.D. Pa. 1985), aff’d, 791 

(3d Cir. 1986) (failure to disclose that terms of proposed merger were “gross

held not actionable); Hahn v. Breed, 587 F. Supp. 1369 (S.D.N.Y. 1984) (ex

of opinions of future prospects held not actionable).

303. See, e.g., Krauth v. Executive Telecard, Ltd., 890 F. Supp. 269 

1995). The “bespeaks caution” doctrine, discussed supra text accompany

89–94, will preclude liability for forward-looking statements made in good 

U.S.C. § 77z-2 (Supp. 2001). See, e.g., Wielgos v. Commonwealth Edison, 

509 (7th Cir. 1989). See also, e.g., Roots P’ship v. Land’s End, Inc., 965 F.2d 

Cir. 1992).

304. Reg. S–K, Item 303, 17 C.F.R. § 229.303.

305. See, e.g., Wilson v. Great Am. Indus., Inc., 855 F.2d 987 (2d Cir. 198

306. See, e.g., Kademian v. Ladish Co., 792 F.2d 614 (7th Cir. 1986); Mo

County Tower Corp., 717 F.2d 1227 (8th Cir. 1983); Vaughn v. Teledyne, 

F.2d 1214 (9th Cir. 1980); Warner Communications v. Murdoch, 581 F. Su

(D. Del. 1984).

307. See, e.g., Affiliated Ute Citizens of Utah v. United States, 406 U.S. 12

(decided under Rule 10b-5).
96

order to warrant recovery. In securities law, as with comm

fraud, there must be a direct causal connection between the 

the injury; collateral breaches of fiduciary duties will not be su

to state a claim.308 The Supreme Court stated that the prope

causation in a Rule 14a-9 action is whether upon full and fair 

sure a reasonable shareholder’s voting decision would likely ha

affected.309 Alleged misstatements in connection with a shar

vote that was not required to effectuate the transaction in q

cannot form the basis of a private damage action.310

Another issue in proxy rule litigation is the degree of cul

required to establish a defendant’s violation. Two courts of 

have upheld private Rule 14a-9 claims based on negligenc

though a few courts have indicated that scienter is required in 

under Rule 14a-9,312 the Supreme Court’s ruling in Aaron v. 

though decided under section 17(a) of the 1933 Act, seems 

date that a showing of negligent conduct would suffice.

Material misstatements and omissions in connection with 

solicitation can result in civil liability to shareholders who ca

injury. In an appropriate case, a court may enjoin a shar

meeting or any action voted on at that meeting when there ha

significant violations of the proxy disclosure and filing 

308. See, e.g. , Ketchum v. Green, 557 F.2d 1022 (3d Cir.), cert. denied

940 (1977) (insufficient connection); Schlick v. Penn-Dixie Cement Corp., 

374 (2d Cir. 1974), cert. denied, 421 U.S. 976 (1975) (sufficient connecti

Tenneco Sec. Litig., 449 F. Supp. 528 (S.D. Tex. 1978) (insufficient connec

perintendent of Ins. v. Freedman, 443 F. Supp. 628 (S.D.N.Y. 1977), aff’d, 

852 (2d Cir. 1978) (insufficient connection).

309. Mills v. Electric Auto-Lite Co., 396 U.S. 375 (1970). See also TSC In

v. Northway, Inc., 426 U.S. 438 (1976).

310. Virginia Bankshares, Inc. v. Sandberg, 501 U.S. 1083 (1991).

311. Herskowitz v. Nutri/System, Inc., 857 F.2d 179 (3d Cir. 1988), ce

489 U.S. 1054 (1989); Wilson v. Great Am. Indus., Inc., 855 F.2d 987 (2d C

Accord Gillette Co. v. RB Partners, 693 F. Supp. 1266 (D. Mass. 1988); F

Ernst, 571 F. Supp. 829 (N.D. Ohio 1983).

312. See, e.g., Adams v. Standard Knitting Mills, Inc., 623 F.2d 422 (6th C

denied, 449 U.S. 1067 (1980).

313. 446 U.S. 680 (1980).
97

ments.314 Injunctive relief may also be secured in an SEC enfor

action,315 and in an appropriate case the SEC can refer the ma

criminal prosecution.316 However, it is difficult to unsc

eggs—because of the practical difficulties involved and ha

placed on innocent third parties, only rarely will a court set 

transaction that has already been completed. In many cases, 

ability of an aggrieved shareholder to secure injunctive relie

the damage action the plaintiff’s only meaningful remedy. Calc

of damages in the proxy context is a much more amorphou

ess,317 since proxy rule violations do not always result in a sal

curities or some other readily identifiable reference point for 

ing damages. This, coupled with the paucity of cases on 

means that there is little guidance for assessing the prospe

claim for damages in a proxy area not based on a transaction in 

or corporate assets (where dollar amounts may be more readily 

fiable).

Full disclosure regarding shareholder election of directors is 

the federal proxy regime. For example, all sources of financing 

the solicitation must be disclosed. Schedule 14A and Sched

contain one of the more significant director election disclo

quirements—disclosure of the nominee’s experience in office

ule 14B applies to solicitations made by persons other than the 

Nondisclosure of a director’s conduct in office may be a materi

314. See, e.g., Condec Corp. v. Farley, 573 F. Supp. 1382 (S.D.N.Y. 1

showing of irreparable injury; preliminary injunction denied); Citizens First 

Inc. v. Harreld, 559 F. Supp. 867 (W.D. Ky. 1982) (although plaintiff state

preliminary injunction was denied because of plaintiff’s failure to show that 

there would be irreparable injury).

315. See, e.g., SEC v. May, 134 F. Supp. 247 (S.D.N.Y. 1955), aff’d, 229 

(2d Cir. 1956) (preliminary injunction granted in an action against shareho

ing a proxy battle).

316. See, e.g., United States v. Matthews, 787 F.2d 38 (2d Cir. 1986).

317. See, e.g., Mills v. Electric Auto-Lite Co., 552 F.2d 1239 (7th Cir.), ce

434 U.S. 922 (1977).

318. The absence of much guidance from the courts results from the fa

most cases the plaintiff either has been unsuccessful or has settled prior to a 

on the merits.
98

sion with respect to a shareholder’s decision on how to cast hi

vote.319 As is the case with disclosures generally, the pertinen

mation relating to the composition of the board of directors320 

directors’ conduct must be disclosed clearly and conspicuously

D. Tender Offers and Takeover Bids: The Williams Act

Tender offers are publicly announced offers to purchase the sha

target company. During the 1960s the securities markets witn

substantial increase in the use of tender offers in lieu of the m

ventional statutory merger as a means of effecting corporate co

tions. The increased use of tender offers resulted in part from 

that target companies subject to the Exchange Act’s repor

quirements were required to hold a shareholder vote and to 

with the Act’s proxy rules when participating in a statutory 

The competitive atmosphere and vociferousness with whic

takeover battles were waged became extreme in terms of both 

and private ramifications. This climate led to the 1968 Willia

amendments to the 1934 Act that were enacted to regulate th

der offers and takeover bids. The Williams Act is codified in s

13(d), 13(e), 14(d), 14(e), and 14(f) of the 1934 Act.

Section 13(d) performs an important early warning function 

ting investors and the target company’s management on not

possible impending takeover attempt. It requires the filing of a 

sure statement on Schedule 13D by any person (or group), oth

the issuer, who directly or indirectly acquires beneficial owne

5% or more of a class of equity securities registered pursuant 

tion 12.321 Once a person has reached this 5% threshold, he or 

319. Maldonado v. Flynn, 597 F.2d 789 (2d Cir. 1979).

320. SEC v. Falstaff Brewing Corp., 629 F.2d 62 (D.C. Cir.), cert. denied

1012 (1980) (proxy solicitation defective where the fact that proxies sough

agement for approval of a stock sale would in effect transfer control of a co

to a third party was buried in pages of minute print).

321. That disclosure must include (1) the background and identity o

son(s); (2) the source and amount of funds used to make the purchases; (3

pose of the purchases; (4) the number of shares beneficially owned; and (5) 

tracts, arrangements, or understandings involving securities of the issuer. So

tutional investors may qualify for the short-form Schedule 13G. An issuer’s p
99

ten days in which to file the Schedule 13D.322 After the Schedu

filing, there is a ten-day moratorium on additional purchases.

As defined by section 13(d)(3), a person includes a “partn

limited partnership, syndicate, or other group.” Accordingly, a 

ule 13D must be filed when members of a group aggregately 

5% of a class of equity securities subject to the 1934 Act’s re

requirements. The Second Circuit has held that the determina

tor is whether a group holding securities has been established 

ant to an express or implied agreement, thus presenting the p

for a shift in control; no agreement to purchase further secu

necessary.323 In contrast, the Seventh Circuit requires more 

 

of its own shares, directly or through an affiliate, are subject to similar disc

quirements under section 13(e).

322. While initially intended to prevent accidental violations of the secur

the ten-day window frequently is used for additional undisclosed acquisitio

target company’s stock; there have been attempts to close this window. Se

Sec. Reg. & L. Rep. (BNA) 1156 (June 17, 1983) (a panel commissioned by 

recommended that the Schedule 13D filing be due in advance of the purch

Sec. Reg. & L. Rep. (BNA) 793 (May 11, 1984) (legislative proposals by th

close the ten-day window); D’Amato Introduces Comprehensive Proposal for T

fer Reform, 19 Sec. Reg. & L. Rep. (BNA) 84 (Jan. 24, 1987).

323. GAF Corp. v. Milstein, 453 F.2d 709 (2d Cir. 1971), cert. denied, 

910 (1972). Accord Global Intellicom, Inc. v. Thomson Kernaghan & C

Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 90,534, 1999 WL 544708 (S.D.N

(sufficient allegations that a number of investors constituted a group); Strau

Holdings, Inc., 902 F. Supp. 475 (S.D.N.Y. 1995) (allegation that one pe

president and chief executive officer of one firm that was a shareholder an

general partner of another was sufficient to allege a group); Staley Cont

Drexel Burnham Lambert, Inc., [1987–1988 Transfer Binder] Fed. Sec. L. Re

¶ 93,698 (D.D.C. 1988); Fin. Gen. Bankshares v. Lance, [1978–1979 Transfe

Fed. Sec. L. Rep. (CCH) ¶ 96,403 (D.D.C. 1978). See also K-N Energy, In

Interstate Co., 607 F. Supp. 756 (D. Colo. 1983). Cf. SEC v. First City Fin. C

F. Supp. 705 (D.D.C. 1988), aff’d, 890 F.2d 1215 (D.C. Cir. 1989) (benefic

ship based on relationship and understandings in the absence of a formal ag

But see Advanced Computer Techniques Corp. v. Lecht, [1982 Transfer Bin

Sec. L. Rep. (CCH) ¶ 98,795 (S.D.N.Y. 1982).

The Second Circuit has held that the member’s agreement to acquire 

established by purchase of the 5% threshold. Corenco Corp. v. Schiavone 

Inc., 488 F.2d 207 (2d Cir. 1973). However, discussions by various perso
100

evidence of a concerted effort to form a group. Under the Seve

cuit’s approach, the group must have an agreement not only 

control but also to acquire additional shares for the purpose o

ing control.324

A group may be deemed to exist when individual parties a

act in concert to purchase additional shares, regardless of the 

of a common plan with respect to the target corporation bey

additional share acquisitions.325 Formation of a group via an 

ment among existing shareholders owning in the aggregate mo

5% of a class of equity securities will trigger the section 13(d

requirement even though no additional shares are to be pur

Whether a failure in the Schedule 13D to disclose the existe

group constitutes a material misstatement or omission depends 

facts of the case.326

Rule 13d-3 sets forth the SEC’s standards for determining w

beneficial owner for purposes of section 13(d) and section 

filing requirements. Section 13(d)(4) addresses the computatio

5% threshold.

Section 13(d)(6) exempts certain acquisitions from the fi

quirements of sections 13(d) and 13(g). The terms of section 1

give the SEC the power to provide additional exemptions throu

making.328

 

possibility of entering into an agreement alone do not establish the forma

group. Lane Bryant, Inc. v. Hatleigh Corp., 517 F. Supp. 1196 (S.D.N.Y. 1981

324. Bath Indus. v. Blot, 427 F.2d 97 (7th Cir. 1970).

325. Mid-Continent Bancshares, Inc. v. O’Brien, [1982 Transfer Binder] 

L. Rep. (CCH) ¶ 98,734 (E.D. Mo. 1981).

326. Compare SEC v. Savoy Indus., Inc., 587 F.2d 1149 (D.C. Cir. 1978

nied, 440 U.S. 913 (1979), with Treadway Co. v. Care Corp., 638 F.2d 357 

1980).

327. See, e.g., Stichting Phillips Pensionbonds A and B, SEC No-Actio

[1987–1988 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 78,668 (Jan. 12, 1

eign pension fund investing in regular course of its business and not with 

ward affecting control of target company qualified for Schedule 13G).

328. Rule 13d-6 exempts a purchase whereby the purchaser becomes mo

5% beneficial owner if the acquisition is made pursuant to preemptive sub

rights, provided that (1) an offering is made to all holders of securities of 

class; (2) the person acquiring securities does not acquire any additional 
101

Section 13(d)’s filing requirements are aimed at creeping 

tions and open-market or privately negotiated large-block pu

In contrast, section 14(d)’s filing requirements, section 14(e)’s 

antifraud proscriptions, and section 14(f)’s disclosure requir

relating to new directors are all triggered by a tender offer. T

tender offer is not defined in the Williams Act. Both the courts 

SEC have construed the term broadly, providing a flexible de

The SEC has suggested an eight-factor test to determine wh

tender offer exists:

1. whether there is active and widespread solicitation o

shareholders;

2. whether there is solicitation for a substantial percentag

issuer’s stock;

3. whether the offer to purchase is made at a premium o

vailing market price;

4. whether the terms of the offer are firm rather than nego

5. whether the offer is contingent on the tender of a fixe

mum number of shares;

6. whether the offer is open only for a limited period of tim

7. whether the offerees are subject to pressure to sell thei

and

8. whether public announcements of a purchasing progr

cede or accompany a rapid accumulation of stock.329

These are only broad guidelines. Hence, any predictability 

gleaned from the cases and SEC rulings.330 Cases involving bot

 

other than through the pro rata share offering of preemptive rights; and (3) 

sition is duly reported, if required, pursuant to section 16(a).

329. The eight-factor test, which is not contained in an official SEC re

evolved over a period of time and is discussed in Wellman v. Dickinson, 475 

783 (S.D.N.Y. 1979); Hoover Co. v. Fuqua Indus., Inc., [1979–1980 Transfe

Fed. Sec. L. Rep. (CCH) ¶ 97,107 (N.D. Ohio 1979).

330. See, e.g., Holstein v. UAL Corp., 662 F. Supp. 153 (N.D. Ill. 1987) 

that a poison-pill plan involving distribution of rights was not a tend

Beaumont v. Am. Can Co., 621 F. Supp. 484 (S.D.N.Y. 1984), aff’d, 797 F.2

Cir. 1986) (cash option portion of a merger with a cash election feature is no

offer); In re Pain Webber, Jackson & Curtis, Inc., 15 Sec. Reg. L. Rep. (BNA) 
102

market and privately negotiated stock purchases seem to 

whether or not the “pressure-creating characteristics of a te

fer”331 accompany the transactions.332 Although the cases con

number of decisions have held that most privately negotiated 

tions are susceptible to categorization as tender offers. Howev

privately negotiated purchases are not tender offers unless they 

the seller to undue pressure.333 The theme that emerges from th

is that when a privately negotiated attempt to take control of 

pany raises problems that the Williams Act is designed to cove

der offer may exist.

 

Dec. 12, 1982) (block trade of 9.9% is a tender offer); Hanson Trust PLC 

Corp., 774 F.2d 47 (2d Cir. 1985) (five privately negotiated purchases and o

market purchase were not a tender offer; the transactions in question have 

ferred to as an “end run” because they were preceded by a tender offer that 

drawn and then followed by a second tender offer); SEC v. Carter Hawley Ha

Inc., 760 F.2d 945 (9th Cir. 1985) (issuer’s open-market purchase progr

sponse to a third-party tender offer was not a tender offer subject to sectio

Dyer v. Eastern Trust Co., 336 F. Supp. 890 (N.D. Me. 1971) (holding th

block purchase of shares made without the intent to obtain control was no

offer).

331. Ludlow Corp. v. Tyco Labs., Inc., 529 F. Supp. 62, 68 (D. Mass. 1981

332. See also Zuckerman v. Franz, 573 F. Supp. 351 (S.D. Fla. 1983) (hi

licized cash merger proposal at a premium above the market price constituted 

offer); S-G Sec., Inc. v. Fuqua Inv. Co., 466 F. Supp. 1114 (D. Mass. 1978) 

announced intention to acquire a substantial block of stock followed by rapi

tion of 28% of shares of target company held a tender offer).

333. See, e.g., Cattlemen’s Inv. Co. v. Fears, 343 F. Supp. 1248 (W.D. Ok

(any privately negotiated purchase that interferes with a shareholder’s “u

investment decision” and “fair treatment” of investors defeats the protectio

Williams Act and is probably a tender offer); In re G.L. Corp., [1979–1980 

Binder] Fed. Sec. L. Rep. (CCH) ¶ 82,494 (Apr. 15, 1980) (offer for all or 

chase at a premium may be a tender offer); Wellman v. Dickinson, 475 F. S

(S.D.N.Y. 1979) (secret offers to twenty-eight of target company’s largest shar

giving each of them only from half-an-hour to overnight to decide, constitu

der offer). Cf. Kennecott Copper Corp. v. Curtis-Wright Corp., 584 F.2d 119

1978) (acquisition of nearly 10% of target company’s shares does not constit

der offer where tender offeror and solicited shareholder agree on secrecy an

vate nature of the transaction, and no high-pressure tactics are used); En

tures, Inc. v. Appalachian Co., 587 F. Supp. 734 (D. Del. 1984) (series of 

negotiated transactions not involving high pressure did not constitute a tende
103

Once an offer is deemed a tender offer, it is governed by 

procedural provisions of the Williams Act. In general, sectio

and the rules promulgated thereunder regulate issuer tender o

“self tender offers,” and sections 14(d), (e), and (f) and th

promulgated thereunder regulate tender offers by third parti

rules governing third-party tender offers and issuer tender of

basically the same. There are six important requirements pl

tender offers by the Williams Act: (1) disclosure requireme

rules regulating shareholder withdrawal rights; (3) the “pro ra

(4) the “all holders” rule; (5) the “best price” rule; and (6) ru

erning the duration of the tender offer. Most of these apply 

offers for securities registered under the 1934 Act (sections 13

14(d) and applicable rules), but some of the federal tender off

lations apply regardless of 1934 Act registration (section 14

applicable rules).

Section 14(d)(1) of the 1934 Act requires that all “tender o

terial” for equity securities subject to the registration requirem

section 12 must be filed with the SEC334 and accompanied by 

propriate disclosures. Section 14(d) requires disclosures of t

specified by Schedule 13D, in addition to other information t

may require. As with Schedule 13D, the section 14(d) filings m

updated to reflect material changes and developments.335 

14(d) does not apply to an issuer’s acquisition of its own s

those transactions are covered by section 13(e), which, by v

SEC rule making, imposes regulations for issuer tender offers 

comparable336 to Regulation 14D’s rules for third-party offers.

Under the Williams Act, shareholders have the right at 

times to withdraw their tendered shares from a tender offer. 

14(d)(5) provides that all securities deposited pursuant to a 

offer may be withdrawn during the first seven days of the tend

334. Schedule TO is the appropriate form for filing tender offers unde

14(d).

335. See, e.g., In re Revlon, Inc., Exchange Act Release No. 34-23320 

1986) (finding violations of Rule 14d-4 for failure to amend the Schedule 

reflect defensive merger negotiations).

336. See, e.g., Rule 13e-1.
104

and at any time after sixty days from the date of the origina

offer. This has been extended by the SEC rules to permit tend

curities to be withdrawn at any time while the tender offer 

open.337 The rules also set out the proper form for notice o

drawal.

The “pro rata” rule requires pro rata acceptance of shares t

where the tender offer by its terms does not obligate the tender 

to accept all shares tendered. This takes pressure off the targ

pany’s shareholders who would otherwise have to make a qui

sion should acceptance be on a first-come basis.

The “all holders” rule prohibits discriminatory tender off

exclude one or more shareholders from participating.338 Ther

exception to the all holders requirement when the tender off

compliance with a constitutionally valid state statute.339 Furth

in addition to reserving general exemptive power under the all 

rule,340 the SEC has promulgated a specific but limited exemp

“odd-lot tender offers” by issuers.341

The “best price” rule states that the highest price paid to a

dering security holder must be paid to all tendering securi

ers.342 This requirement applies only to shares purchased durin

gle tender offer. As such, unlike state “fair price” statutes,343 

337. Section 14(d)(6). The statutory period has been extended for the 

riod of the tender offer by Rule 14d-8 for third-party tender offers and R

4(f)(3) for issuer tender offers.

338. Rule 14d-10(a)(1) for third-party tender offers; Rule 13e-4(f)(8)(i) 

tender offers. These rules were promulgated after (and perhaps in respo

Delaware decision that upheld a tender offer by an issuer that excluded a h

der offeror. Unocal Corp. v. Mesa Petroleum Co., 493 A.2d 946 (D. Del. 1985

339. Rule 14d-10(b)(2) for third-party tender offers; Rule 13e-4(f)(9)(ii) 

tender offers.

340. Rule 14d-10(e); Rule 13e-4(g)(7).

341. Rule 13e-4(g)(5). An odd-lot offer is one limited to security holder

less than a specified number of shares under 100. Within that group, howe

the “all holders” and “best price” requirements will apply to the terms of th

offer.

342. Rule 14d-10(a)(2) for third-party tender offers; Rule 13e-4(f)(8)(ii) 

tender offers.

343. See, e.g., Md. Code Ann., Corps. & Ass’ns §§ 3-602, 3-603 (1993).
105

not regulate two-tiered offers consummated in two distinc

However, it can be important if a series of transactions are in

and held to be parts of a single tender offer.344 The SEC best pr

does not prohibit differentiation in types of consideration. Th

ent consideration need not be substantially equivalent in value 

as the tender offer permits each tendering security holder t

among the types of consideration offered.345 As is the case with 

holders rule, the SEC has the power to grant exemptions from 

price requirement.346

The Williams Act also prescribes minimum lengths for the d

of tender offers. A tender offer must remain open for at least 

business days. This requirement applies even for tender offers 

curities of target companies not registered under the 1934 Ac

increase or decrease in the consideration offered under the te

fer triggers the requirement that the tender offer be open for t

ness days from the date of change in consideration.348 Furth

notice of any “material” change in the terms of the offer must b

in a manner reasonably designed to inform shareholders 

change.349

344. See, e.g., Field v. Trump, 850 F.2d 938 (2d Cir. 1988), cert. denied

1012 (1989) (upholding complaint that withdrawal of first tender offer was 

But cf. Brill v. Burlington N., Inc., 590 F. Supp. 893 (D. Del. 1984) (Decemb

offer that was terminated and January tender offer addressed to same class 

holders were two separate tender offers). See also section 14(d)(7) of the 

which provides that whenever a person varies the terms of a tender offer or 

before the expiration thereof by increasing the consideration offered, the per

ing such an increase must pay to all persons tendering that same price wheth

the securities were tendered prior to the variation of the tender offer’s terms.

345. Rule 14d-10(c) for third-party tender offers; Rule 13e-4(f)(10) for i

der offers.

346. Rule 14d-10(e); Rule 13e-4(g)(7).

347. Rule 14e-1(a) for third-party tender offers; Rule 13e-4(f)(1)(i) for i

der offers.

348. Rule 14e-1(b) for third-party tender offers; Rule 13e-4(f)(1)(ii) 

tender offers.

349. Rule 14d-4(c) for third-party tender offers; Rule 13e-4(e)(2) for issu

offers. The SEC has interpreted this to mean that a material change woul

holding the offer open for at least five days from the date of notice and for 
106

When a tender offer is made for equity securities subjec

1934 Act’s reporting requirements, section 14(f) requires full 

sure of any agreements concerning the designation of new di

unless the designation is made through a formal vote at a me

the securities holders. Contemplated management turnover, in

any arrangement regarding the makeup of the majority of di

also must be disclosed.350 The purpose of section 14(f)’s disclo

quirements is to ensure that shareholders and other invest

aware of any changes in management control that are to tak

without a shareholder vote. The required disclosures keep 

holders apprised of all material information, including new d

backgrounds and relationships with the issuer both in terms 

ployment contracts and stockholdings.

In Schreiber v. Burlington Northern, Inc.,

351 the Supreme Co

ited the thrust of section 14(e). Schreiber involved a claim that 

fendant target company’s renegotiation of the terms of a tend

was manipulative and therefore in violation of section 14(e). 

than directly confront the issue of what constitutes “manip

conduct,” the Court held that “without misrepresentation or 

closure, section 14(e) has not been violated.”352 In a rather 

review of the section’s legislative history, the Court conclud

disclosure was the sole thrust of the section,353 in effect excisi

nipulative conduct” from the terms of the statute. The ramifica

this decision, if overextended and literally applied, not onl

eviscerate Regulation 14E as discussed below but also could ca

to section 10(b), on which section 14(e) is based. This could 

the invalidation of a number of the section 10(b) rules deali

 

where the change is as significant as a change in consideration or the perc

securities sought.

350. Rule 14d-4(c) for third-party tender offers; Rule 13e-4(e)(2) for issu

offers. See also Rule 14f-1.

351. 472 U.S. 1 (1985).

352. Id. at 12.

353. “Nowhere in the legislative history is there the slightest suggestion 

tion 14(e) serves any purpose other than disclosure . . . .” Id. at 11.
107

manipulative conduct. The courts, however, have been relu

give Schreiber such an unwarranted broad reading.354

Although it is clear that the SEC may investigate suspecte

tions and bring enforcement actions, it is not entirely clear w

the Williams Act authorizes implied rights of action. In gene

courts seem to favor the existence of at least a limited implied 

(for material misstatements or omissions) under section 

antifraud provision. The availability of an implied remedy un

Williams Act’s filing requirements (sections 13(d), 13(e), and 

is also significant.355 The cases are in conflict, but a number 

sions have held that the relevant provisions of sections 13 

themselves provide a basis for at least limited private relief. 

seem more likely to grant injunctive relief356 than damages.357 

354. Polaroid v. Disney, 862 F.2d 987 (3d Cir. 1988) (upholding the v

the all holders rule, which prohibits excluding shareholders from a tender off

355. Since these sections all apply to issuers subject to the 1934 Act’s re

and reporting requirements, and involve mandatory filings with the SEC, ot

dies for material misstatements may be available. For example, an investor i

actual reliance on material misstatements in the mandatory filings may sue 

ages under the express remedy provided in section 18(a) of the 1934 Act

more, any material misstatements or omissions that give rise to an injury in 

tion with the purchase or sale of a security will form the basis of a cause of a

der Rule 10b-5. However, no private remedy appears to exist under Rule 

mere delay in making the required filing. Thus it is important to determine 

plied remedy exists under the Williams Act filing requirements.

356. See, e.g., Conagra, Inc. v. Tyson Foods, Inc., 708 F. Supp. 257 (D. N

(preliminary injunction granted); Morrison Knudsen Corp. v. Heil, 705 F. S

(D. Idaho 1988) (exercise of control enjoined until deficiencies cured in sect

filings); Schnell v. Schnall, 550 F. Supp. 650 (S.D.N.Y. 1982); Berman v. 

[1981 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 97,857 (D.D.C. 1981).

357. For a case holding that section 14(d)(7) can support a damage a

Field v. Trump, 850 F.2d 938 (2d Cir. 1988), cert. denied, 489 U.S. 1012 (1

also, e.g., Sanders v. Thrall Car Mfg. Co., 730 F.2d 910 (2d Cir. 1984), aff

Supp. 945 (S.D.N.Y. 1983); Dan River, Inc. v. Unitex Ltd., 624 F.2d 1216 

1980), cert. denied, 449 U.S. 1101 (1981); Chromalloy Am. Corp. v. Sun Che

611 F.2d 240 (8th Cir. 1979); Liberty Nat’l Ins. Holding Co. v. Charter Co., 

545 (11th Cir. 1984). But see Am. Bakeries Co. v. Pro-Met Trading Co., [19

fer Binder] Fed. Sec. L. Rep. (CCH) ¶ 97,925 (N.D. Ill. 1981); Gateway Indu

Agency Rent A Car, Inc., 495 F. Supp. 92 (N.D. Ill. 1980).
108

preme Court has indicated in dicta that a target company m

standing to complain of delays by a purchaser in filing a Sched

where the target company can show a resultant injury.358

E. Liabilities Under the 1934 Act

1. Wrongdoing Related to Tender Offers: Section 14(e)

Section 14(e) of the Exchange Act of 1934 prohibits mater

statements, omissions, and fraudulent practices in connectio

tender offers regardless of whether the target company is su

the Exchange Act’s reporting requirements.359 It is not alway

sary to disclose preliminary merger discussions; however, the S

Court has held that whether preliminary merger negotiatio

crossed the materiality threshold is a question of fact360 depen

whether a reasonable investor would consider them signifi

making an investment decision.361

In Piper v. Chris-Craft Industries, Inc.,

362 the Supreme Cour

mined that there is no private remedy for a competing tender 

In so holding, the Court did not rule out any private remedy; 

the opinion held out much hope for the recognition of a sectio

private right of action in the hands of the target company or it

holders. The Court in Piper reasoned that the purpose of the W

Act was to further investor protection by serving the shareho

the target company, not competing tender offerors, who, at be

collateral beneficiaries of the tender offer provisions. Mos

courts have recognized a remedy in the hands of the target c

or one of its shareholders,363 as well as the right of a competing 

358. Rondeau v. Mosinee Paper Corp., 422 U.S. 49 (1975).

359. In contrast, the other provisions of the Williams Act are limited to 

of issuers subject to section 12’s registration requirements.

360. Basic, Inc. v. Levinson, 485 U.S. 224 (1988).

361. Id.; see TSC Indus., Inc. v. Northway, Inc., 426 U.S. 438 (1976).

362. 430 U.S. 1 (1977).

363. See, e.g., Seaboard World Airlines, Inc. v. Tiger Int’l, Inc., 600 F.2d 

Cir. 1979) (recognizing section 14(e) remedy but finding no substantive v

See also Smallwood v. Pearl Brewing Co., 489 F.2d 579 (5th Cir.), cert. de

U.S. 873 (1974); H.K. Porter Co. v. Nicholson File Co., 482 F.2d 421 (1st Cir
109

offeror to seek injunctive relief.364

A target company and its shareholders have standing to su

section 14(e). The Piper decision indicates that a private righ

tion, if it exists at all, works in favor of the target company sha

ers and, in an appropriate case, in favor of the target company

most circuit and district court opinions dealing with the questi

recognized a private right of action under section 14(e) by 

company or its shareholders. Target company shareholders, 

the target company management, may be able to assert claim

Regulation 14D.365

2. Manipulation of Exchange-Traded Securities: Section 9(e)

Section 9 of the 1934 Exchange Act outlaws manipulative prac

connection with the trading of exchange-listed securities. It a

vides a private remedy for investors injured by such prohibi

nipulative conduct. Section 9 does not apply to securities trade

over-the-counter markets. Manipulation of nonexchange-trad

rities is prohibited by sections 10(b) and 15(c), which do not 

an express private right of action. Manipulation is interpret

rowly, not extending to many acts that effectively alter the pr

security. Although manipulation has the same meaning under 

the Exchange Act provisions, the Supreme Court has repeatedl

that it is a “term of art” limited to certain types of transactions 

cally designed to artificially affect the price of a security.366

Section 9(e) provides a private remedy in damages to any 

injured by conduct violating section 9 (conduct involving se

listed on a national exchange). In addition to costs and reason

torneys’ fees, the successful plaintiff is entitled to damages b

the difference between the actual value and the price as affecte

364. See, e.g., Humana, Inc. v. Am. Medicorp, Inc., 445 F. Supp. 613 

1977).

365. Polaroid v. Disney, 862 F.2d 987 (3d Cir. 1988).

366. Santa Fe Indus., Inc. v. Green, 430 U.S. 462 (1977); Ernst & 

Hochfelder, 425 U.S. 185, 199 (1976); Schreiber v. Burlington N., Inc., 4

(1985).
110

manipulative conduct. Liability under section 9(e) is expressly 

to persons “willfully” participating in the manipulative condu

plaintiff must also prove manipulative intent.367

The section 9(e) remedy has been described as follows:

To show a violation of section 9(a)(2) in a private suit under 

tion 9(e), a plaintiff must plead and prove that

(1) a series of transactions in a security creating actual or apparen

trading in that security or raising or depressing the price of that secu

rity, (2) carried out with scienter (3) for the purpose of inducing th

security’s sale or purchase by others, (4) was relied on by the plain

tiff, (5) and affected the plaintiff’s purchase or selling price.368

Although the foregoing test indicates that plaintiffs must p

tual reliance and reliance on market price alone will not suff

limitation may be questionable in the face of the “fraud on t

ket” theory of reliance.369 The fraud-on-the-market doctrine

applies to actively traded securities, presumes reliance and sh

burden of nonreliance to the defendant. Nevertheless, it is 

clear that even without this element, the section 9(e) reme

rather limited one. Market manipulation and deceptive pract

also regulated by sections 10, 14(e), and 15(c).

3. Insider Reporting and Short-Swing Profits: Section 16

Section 16370 of the 1934 Act is intended to prevent corporate 

from engaging in “short-swing” trading (i.e., using access to no

information about important, impending corporate actions t

short-term in the securities of a company for profit). Shor

trading is short-term trading in the corporation’s stock (in the 

367. See Annotation, What Constitutes Willfulness or Manipulative Purpose 

Warrant Imposition of Liability in Private Civil Action Based on Price Manipulat

sions of Securities Exchange Act (15 USCS §§ 78i(a)(2), 78i(e)), 25 A.L.R. 

(1975).

368. Ray v. Lehman Bros. Kuhn Loeb, Inc., 624 F. Supp. 16, 19 (N.D. G

(quoting Chemetron Corp. v. Business Funds, Inc., 682 F.2d 1149, 1164 

1982), vacated on other grounds, 460 U.S. 1007 (1983), reh’g granted, 718 

(5th Cir.), cert. denied, 460 U.S. 1013 (1983)).

369. See, e.g., Basic, Inc. v. Levinson, 485 U.S. 224 (1988) (upholding t

on-the-market presumption of reliance in Rule 10b-5 actions).

370. See infra text accompanying notes 504–35.
111

a purchase then sale, or sale then purchase, occurring wit

months). Section 16(a) requires every officer, director, and be

owner of more than 10% of any class of equity security registe

der section 12 of the Act to file disclosure notices with the SEC

notices must disclose all ownership interest in any of the issu

uity securities. The notice must be filed within ten days of a 

becoming an officer, director, or beneficial owner of more than 

a class of securities, as well as within ten days of the end of ev

endar month in which there has been a change in that person

ings. These reports are then made available to the public at th

office in Washington, D.C. The SEC also publishes monthly 

ries of the reports.

4. False Filings

a. Section 18

Section 18 of the 1934 Act provides an express right of action 

investor injured by purchasing or selling securities in relian

materially misleading statement or omission in a document r

to be filed371 with the SEC. However, the usefulness of section 

been largely diminished by the courts’ “eyeball” test: The 

must have actual knowledge of and must have relied on the m

filed with the SEC (or a copy thereof). That the plaintiff saw 

information in other documents prepared by the issuer is n

cient.372 As a practical matter, civil liability for false SEC fili

false statements generally is more likely to be based on the 

remedy under SEC Rule 10b-5.

b. Rule 10b-5

The primary private remedy for fraud available under the 193

implied from SEC Rule 10b-5. No express provision in the se

laws prescribes civil liability for a violation of Rule 10b-5. How

371. The concept of a filed document is a narrow one. It is limited to fo

as the 10-K, the 10-Q quarterly report, 8-K filings, and Schedule TO for ten

and does not include other required disclosure documents, such as the annu

to shareholders sent under the mandate of the proxy rules. See Rule 14a-3(b)

372. See, e.g., Ross v. A.H. Robins Co., 607 F.2d 545, 552 (2d Cir. 1979); 

v. Peat, Marwick, Mitchell & Co., 445 F. Supp. 518, 525 (S.D.N.Y. 1977).
112

far back as 1946, the courts followed the normal tort rule that 

who violate a legislative enactment are liable in damages if they 

an interest of another person whom the legislation was inte

protect.373

Rule 10b-5 was promulgated under section 10(b), which g

SEC power to make rules prohibiting the use of “manipulativ

ceptive device[s] or contrivance[s] . . . in connection with t

chase or sale of any security . . . .”374 Rule 10b-5 states:

It shall be unlawful for any person, directly or indirectly, by 

use of any means or instrumentality of interstate commerce, or o

mails or of any facility of any national securities exchange,

(a) To employ any device, scheme, or artifice to defraud,

(b) To make any untrue statement of a material fact or to om

state a material fact necessary in order to make the statements m

in the light of the circumstances under which they were made, 

misleading, or

(c) To engage in any act, practice, or course of business which 

erates or would operate as a fraud or deceit upon any person in 

nection with the purchase or sale of any security.

Rule 10b-5 applies to any purchase or sale by any person of 

curity. The fact that a security is exempt from 1933 or 1934 A

tration does not affect the applicability of Rule 10b’s proscr

The rule applies regardless of whether the security is registere

the 1934 Act and regardless of whether the company is publi

373. Kardon v. National Gypsum Co., 69 F. Supp. 512 (E.D. Pa. 1946) 

ing private remedy under SEC Rule 10b-5). The first decision to recognize a

remedy under section 17(a) of the 1933 Act was Osborne v. Mallory, 86 F. S

(S.D.N.Y. 1949). But cf. Crookham v. Crookham, 914 F.2d 1027 (8th Cir. 

section 17(a) remedy).

374. Other rules authorized under this section include Rule 10b-3, addre

nipulation; Rules 10b5-1 and 10b5-2, dealing with insider trading; Rule 10b-

with conditional offerings of securities; Rule 10b-10, dealing with broker–d

firmations of securities transactions; Rule 10b-16, addressing requisite disc

margin transactions; Rule 10b-17, dealing with the untimely announcement 

dates; and Rule 10b-18, dealing with a company’s purchases of its own s

C.F.R. §§ 240.10b-3, 240.10b5-1, 240.10b5-2, 240.10b-9, 240.10b-10, 240.1

240.10b-18.
113

or closely held. It applies even to government and municipal se

and, in fact, to any kind of entity that issues something that 

called a security. Because of this broad scope, Rule 10b-5 ca

voked in many situations.

Of the three separate clauses in Rule 10b-5 (above), claus

generally assumed to have the broadest scope. There are five p

elements of this type of Rule 10b-5 claim: the plaintiff mu

(1) fraud or deceit (2) upon any person (3) in connection with 

purchase or sale (5) of any security.

One of the requirements for proving the element of fraud i

ter. In 1976, the Supreme Court held that a valid claim for d

under Rule 10b-5 must establish that the defendant acted wit

ter.375 In 1980, the Court held that the scienter standard applie

Rule 10b-5 regardless of whether the action is a private damag

or an enforcement action brought by the SEC.376 In these ca

Court did not decide whether a showing of reckless conduc

satisfy the scienter requirement.377 However, the majority of 

and appellate court decisions have found that recklessness is su

to state a claim under Rule 10b-5.378 In suits involving money d

predicated on proof that a defendant acted with a certain 

mind, plaintiffs must plead with particularity that the defenda

with such state of mind with respect to each act or omission.3

tiffs also must provide facts that indicate a “strong inference

375. Ernst & Ernst v. Hochfelder, 425 U.S. 185 (1976).

376. Aaron v. SEC, 446 U.S. 680 (1980).

377. Hochfelder, 425 U.S. at 193–94 n.12; Aaron, 446 U.S. at 690–91.

378. See, e.g., Van Dyke v. Coburn Enter., 873 F.2d 1094 (8th Cir. 1989)

v. First Chicago Corp., 870 F.2d 356 (7th Cir. 1989); Stephenson v. Paine 

Jackson & Curtis, Inc., 839 F.2d 1095 (5th Cir.), cert. denied, 488 U.S. 92

(reckless/due diligence standard applied to plaintiff); Hackbart v. Holmes, 

1114 (10th Cir. 1982).

379. 1934 Act § 21D(b), 15 U.S.C. § 78u-4(b) (Supp. 2001). See, e.g., 

GK Intelligent Sys., Inc., 87 F. Supp. 2d 684 (S.D. Tex. 1999); Note, A Cas

Approach to Pleading Scienter Under the Private Securities Litigation Reform Ac

97 Mich. L. Rev. 2265 (1999). There is no parallel provision in the 1933 Act

of the PSLRA.
114

defendant acted with a particular state of mind.380 A “reasonab

ence” of scienter is not sufficient.381

In order to withstand the scrutiny imposed by the Private Se

Litigation Reform Act of 1995,382 the inference of scienter m

both reasonable and strong.383 The circuits are split on the sev

the scienter pleading requirements imposed by the PSLRA

courts have held that allegations of motive and opportunity can 

the specificity requirement when pleading scienter.384 Other 

have held that motive and opportunity alone are not sufficien

tablish scienter.385

380. There is evidence that Congress intended to strengthen the pleading 

for securities action and modeled the standard on Second Circuit case law. S

104–98, at 15 (1995). See, e.g., Novak v. Kasaks, 216 F.3d 300 (2d Cir. 2

PSLRA did not heighten the Second Circuit requirement; it merely added a p

ity requirement).

381. Greebel v. FTP Software, Inc., 194 F.3d 185 (1st Cir. 1999). See als

re Burlington Coat Factory Sec. Litig., 114 F.3d 1410 (3d Cir. 1997).

382. See discussion supra text accompanying notes 225–57.

383. See, e.g., Novak, 216 F.3d at 316; Coates v. Heartland Wireless Co

tions, Inc., 100 F. Supp. 2d 417 (N.D. Tex. 2000).

384. See, e.g., EP Medsystems, Inc. v. EchoCath, Inc., 255 F.3d 865 (3d C

Novak v. Kasaks, 216 F.3d 300 (2d Cir. 2000). See also In re Advanta Corp. S

180 F.3d 525 (3d Cir. 1999) (upholding complaint alleging motive and opp

Press v. Chem. Inv. Servs. Co., 166 F.3d 529 (2d Cir. 1999) (same); Zishka v

& Paper Co., [2000–2001 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 91,2

Tex. 2000); In re Green Tree Fin. Corp. Stock Litig., 61 F. Supp. 2d 860 (

1999) (same); McNamara v. Bre–X Minerals, Ltd., 57 F. Supp. 2d 396 (

1999) (same).

385. Bryant v. Avado Brands, Inc., 187 F.3d 1271 (11th Cir. 1999) (par

requirement means that plaintiff must allege severe recklessness; alleging m

opportunity alone will not suffice); In re Silicon Graphics, Inc. Sec. Litig., 

970, 988 (9th Cir. 1999), aff’g 970 F. Supp. 746 (N.D. Cal. 1997) (PSLRA 

deliberate recklessness; motive, opportunity, and nondeliberate recklessness 

vide some evidence of intentional misconduct but standing alone are not su

See also Weber v. Contempo Colours, Inc., 105 F. Supp. 2d 769 (W.D. Mi

(scienter not established by allegations of motive and opportunity); Dalarne 

Ltd. v. Sync Research, Inc., 103 F. Supp. 2d 1209 (C.D. Cal. 2000) (sciente

adequately pleaded under Silicon Graphics); In re Paracelsus Corp. Sec. Lit

Supp. 2d 591 (S.D. Tex. 1998) (showing motive and opportunity alone is 
115

Any statement reasonably calculated to affect the investme

sion of a reasonable investor will satisfy the rule’s “in con

with” requirement.386 The Supreme Court has taken a broad 

what types of conduct can be characterized as in connection w

purchase or sale of a security.387

To have standing to sue, a Rule 10b-5 plaintiff in a private d

action must have been either a purchaser or seller of the securi

form the basis of the material omission, misstatement, or de

conduct.388 In Blue Chip Stamps v. Manor Drug Stores,

389 the 

had a right to purchase the securities in issue under an antitr

sent decree, but refrained on the basis of allegedly misleadin

ments made by the defendants. The Supreme Court held th

would-be purchaser could not state a Rule 10b-5 cause of ac

 

cient). See Gregory A. Markel & Francis S. Chlapowski, The PSLRA Aft

Graphics, 32 Sec. Reg. & L. Rep. (BNA) 219 (1999).

386. Semerenko v. Cendant Corp., 223 F.3d 165 (3d Cir. 2000); I

ter–Wallace, Inc. Sec. Litig., 150 F.3d 153 (2d Cir. 1998); SEC v. Texas Gul

Co., 401 F.2d 833 (2d Cir. 1968), cert. denied, 394 U.S. 976 (1969) (misstat

a corporate press release were made “in connection with” purchases and sales 

shareholders in the open market and violated Rule 10b-5, even though the 

tion itself was not buying or selling shares); Pelletier v. Stuart-James Co., 

1550 (11th Cir. 1989) (fraudulent scheme need not relate to “investment 

security); Ellis v. Merrill Lynch & Co., 664 F. Supp. 979 (E.D. Pa. 1987) (u

Rule 10b-5 claim challenging broker’s system for disbursing proceeds from sa

v. U.S. News & World Report, Inc., 627 F. Supp. 1143 (D.D.C. 1986) (

causal connection based on alleged misstatements dissuading employees fr

ing retirement, which triggered a sale of stock under stock bonus plan).

387. In SEC v. Zandford, 122 S. Ct. 1899 (2002), a stockbroker embezzle

ceeds of a securities transaction. The Fourth Circuit held that this embezzle

not in connection with the purchase or sale of securities simply because the 

was taken represented the proceeds of a securities transaction. The Suprem

reversed, finding a sufficient connection. This decision supports a continu

sive approach to the in connection with requirement. See also, e.g., United 

O’Hagan, 521 U.S. 642 (1997) (finding a lawyer guilty of insider trading); Ca

United States, 484 U.S. 19 (1987) (taking a broad view of the Mail Fraud Act)

388. Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723 (1975). S

(Holdings) Ltd. v. United Int’l Holdings, 532 U.S. 588 (2001) (plaintiff co

lenge oral option to purchase securities under Rule 10b-5).

389. 421 U.S. 723 (1975).
116

seems apparent that, likewise, mere “would-be” sellers cann

Rule 10b-5 claims.390 The courts have generally assumed that 

necessary for the defendant to have been a purchaser or seller 

rities in order to have violated Rule 10b-5.391

Courts have broadly construed “purchase or sale.” Share ex

or cash-out transactions pursuant to a corporate merger or oth

ness combination will ordinarily constitute purchases and sale

Rule 10b-5.392 Most courts also allow a remedy for a corpora

certain transactions, including corporate repurchases of its own 

at an inflated price or an additional issuance of corporate share

unfavorable basis393 (although a share exchange or merger with 

company undertaken merely for “corporate restructuring” h

held not to constitute a purchase or sale under Rule 10b-5394)

poration’s repurchase of its own shares or an additional issuan

shares may also give rise to a shareholder derivative claim.395

390. In fact, this was the prevailing view even before Blue Chip Stamps

Sargent v. Genesco, Inc., 492 F.2d 750 (5th Cir. 1974); Greenstein v. Paul, 

580 (2d Cir. 1968); Jensen v. Voyles, 393 F.2d 131 (10th Cir. 1968).

391. See, e.g., Basic, Inc. v. Levinson, 485 U.S. 224 (1988) (upholding li

misleading statement but not directly addressing whether defendant’s not be

chaser or seller precluded liability); Blue Chip Stamps, 421 U.S. 723 (impos

chaser/seller standing requirement on the plaintiff).

392. Goldberg v. Meridor, 567 F.2d 209 (2d Cir. 1977), cert. denied, 434 

(1978); Mader v. Armel, 402 F.2d 158 (6th Cir. 1968), cert. denied, 394 

(1969); Dasho v. Susquehanna Corp., 380 F.2d 262 (7th Cir.), cert. denied, 

977 (1967).

393. See, e.g., Ala. Farm Bureau Mut. Cas. Co. v. Am. Fid. Life Ins. Co., 

602 (5th Cir. 1979), cert. denied, 449 U.S. 820 (1980) (repurchase of shares)

Colonial Press, Inc., 444 F.2d 1241 (5th Cir. 1971) (issuance of shares); 

Roto Am. Corp., 339 F.2d 24 (2d Cir. 1964) (issuance of shares); Hooper v. 

States Sec. Corp., 282 F.2d 195 (5th Cir. 1960), cert. denied, 365 U.S. 814 (

suance of shares). But cf. Smith v. Ayers, 845 F.2d 1360 (5th Cir. 1988) (sh

suing in individual capacity and complaining of corporation’s issuance 

lacked Rule 10b-5 standing).

394. In re Penn Cent. Sec. Litig., 494 F.2d 528 (3d Cir. 1974).

395. See Basic, Inc. v. Levinson, 485 U.S. 224 (1988); Blue Chip Stamps

723.
117

A purchase or sale pursuant to a tender offer can form the b

Rule 10b-5 claim. A pledge of securities is generally held to b

subject to a Rule 10b-5 claim,396 although there is some disag

on this point.397 A secured creditor who is injured because o

closure sale of securities has been held to have standing to su

Rule 10b-5.398

As noted earlier, for a misstatement or omission to be ac

under Rule 10b-5, it must be material. The Supreme Court has 

materiality in terms of the type of information that a reasonabl

tor would consider significant in making an investment dec

The materiality of a particular item is determined within the to

of information that is publicly available. As materiality quest

highly fact-specific, summary judgment will rarely be appropria

Following the common law of fraud, reliance is an elemen

Rule 10b-5 claim. In a divided decision with only five jus

agreement, the Supreme Court recognized the fraud-on-the

presumption of reliance401 under which a showing that a mater

statement or omission that adversely affects the market price c

presumption of reliance. However, the availability of the presu

is premised on the existence of a relatively liquid and, hence, 

396. E.g., Madison Consultants v. FDIC, 710 F.2d 57 (2d Cir. 1983); Ma

Prescott, Ball & Turben, 598 F.2d 1017 (6th Cir. 1979). See also Rubin 

States, 449 U.S. 424 (1981) (decided under section 17(a) of the 1933 Act).

397. Lincoln Nat’l Bank v. Herber, 604 F.2d 1038 (7th Cir. 1979); Nat’l B

Am. Assurance Co., 583 F.2d 1295 (5th Cir. 1978).

398. Falls v. Fickling, 621 F.2d 1362 (5th Cir. 1980); Bosse v. Crowell 

MacMillan, 565 F.2d 602 (9th Cir. 1977).

399. Basic, Inc. v. Levinson, 485 U.S. 224 (1988) (decided under Rule 10

Indus., Inc. v. Northway, Inc., 426 U.S. 438 (1976) (decided under the proxy 

400. For examples of materiality in various contexts, see 2 Hazen, supra 

§ 12.9.

401. Basic, 485 U.S. 224. See, e.g., Finkel v. Docutel/Olivetti Corp., 817 

(5th Cir. 1987), cert. denied, 485 U.S. 959 (1988). See also Affiliated Ute C

Utah v. United States, 406 U.S. 128 (1972) (applying presumption of relianc

to-face transaction).
118

market for the securities in question.402 The defendant may re

presumption of reliance or show that reliance was unreasonable

Causation is a key element of a Rule 10b-5 action. Many 

have divided causation into two subparts: transaction causat

loss causation. Transaction causation requires a showing that 

the violations in question, the transaction would not have occu

least in the form that it took). Loss causation requires a show

causal nexus between the transaction and the plaintiff’s loss.403 

is the case with any fraud claim, the plaintiff must be able to e

damages. In most Rule 10b-5 litigation, the appropriate mea

damages is the out-of-pocket loss caused by the material misst

or omission.404 On occasion, disgorgement of ill-gotten profit

benefits of the bargain might be a more appropriate measure 

ages.405

Section 10(b) and Rule 10b-5 do not contain a statute of lim

for the implied remedy. Under the earlier decisions, the ap

statute of limitations for antifraud claims was generally th

analogous state statute of limitations.406 Many courts held th

the blue sky limitations period. 407 Regardless of the applicable 

of limitations, the earlier decisions held that federal equitable 

principles were applicable, so that the statute of limitations 

begin to run until the time the violation was discovered or rea

should have been discovered. In contrast, section 13 of the 1

402. See, e.g., Freeman v. Laventhol & Horwath, 915 F.2d 193 (6th C

Greenberg v. Boettcher & Co., 755 F. Supp. 776 (N.D. Ill. 1991); Sanders v. 

Humphrey/Am. Express, Inc., 634 F. Supp. 1048 (N.D. Ga. 1986), modifie

grounds sub nom. Kirkpatrick v. J.C. Bradford & Co., 827 F.2d 718 (11th C

cert. denied, 485 U.S. 959 (1988); Reingold v. Deloitte Haskins & Sells, 599 

1241 (S.D.N.Y. 1984).

403. See 2 Hazen, supra note 205, § 12.11.

404. E.g., Wool v. Tandem Computers, Inc., 818 F.2d 1433 (9th Cir. 198

v. Union Elec. Co., 787 F.2d 355, 367 (8th Cir.), cert. denied, 479 U.S. 823 (1

405. See Green v. Occidental Petroleum Corp., 541 F.2d 1335 (9th Cir. 1

also 2 Hazen, supra note 205, § 12.12.

406. See 2 Hazen, supra note 205, § 13.8.

407. Id. Especially in earlier decisions, some courts applied the longer 

law fraud limitations period. A blue sky law is a state securities act.
119

provides the statute of limitations applicable to private action

the Act: one year from the date of discovery, with a three-yea

period. In other words, no claim can be brought more than thr

after the sale or violation. 408 A similar one-year/three-year lim

period applies to express remedies under sections 9(e) and 1

the 1934 Act.409 The Supreme Court, in a splintered 5–4 dec

Lampf, Pleva, Lipkind, Prupis & Petigrow v. Gilbertson,

410 held 

applicable limitations period was to be found in the most an

federal (rather than state) statute. 411 Accordingly, the Court 

the one-year-from-discovery/three-year repose period.412 In 

Congress added a new statute of limitations for actions based o

and deceptive conduct.413 The limitations period for private fr

tions is now two years from discovery of the facts constitut

violation but in no event more than five years after the violatio

new statute clearly applies to actions under Rule 10b-5, but no

tions under provisions of the securities laws that are not b

fraud or deceit, in which cases the one-year/three-year periods 

to in Lampf remain applicable.

408. In an action under section 12(a)(2) of the 1933 Act, the three-ye

period runs from the sale; in an action under section 11 or section 12(a)(1), 

year period begins from the time the securities were first bona fide offered to 

lic.

409. In contrast, an action for disgorgement of profits from insider sh

transactions has a two-year limitations period. 1934 Act § 16(b).

410. 501 U.S. 350 (1991).

411. In so ruling, the Court followed its earlier decision in Agency Holdin

Malley-Duff & Associates, Inc., 483 U.S. 143 (1987), holding that in a priv

action the statute of limitations was to be taken from the federal antitrust la

than the most analogous state limitations period. The Court applied the new 

roactively, but Congress legislatively overruled the Court by denying retro

plication of the Lampf decision. 1934 Act § 27A.

412. 501 U.S. 350 (1991). In In re Data Access Systems, 843 F.2d 1537 

1988), the Third Circuit held that the Agency Holding rationale is equally app

the federal securities laws. As such, the court applied section 18(a)’s one-y

year limitations period. In contrast to the one-year/three-year statute, the ne

for illegal insider trading contains a five-year limitations period that runs 

date of the transaction. 1934 Act § 20A(b)(4).

413. 28 U.S.C. § 1658.
120

Notwithstanding the application of the one-year/three-year 

tions period to implied securities fraud actions, a number of qu

remain unanswered. For example, does the three-year repose 

start with the sale or the violation?414 The answer would de

whether a continuing fraud could toll the statute beyond th

year repose period.

In Herman & MacLean v. Huddleston,

415 the Supreme Cou

that the remedies under section 11 of the 1933 Act for missta

in registration materials and Rule 10b-5 are cumulative. Presu

Rule 10b-5 remedies are cumulative with other express reme

well.416

c. Additional Implied Rights of Action

With the exception of Rules 10b-5 and 14a-9417 and sections 

and 29(b),419 recognition of additional implied private remedie

the federal securities laws seems unlikely. While the Supreme C

the early 1970s repeatedly recognized an implied private righ

tion under Rule 10b-5,420 starting in the mid-1970s the Court 

414. The three-year period in a section 9(e) action begins to run from th

the violation; in an action under section 18(a), the three-year repose period r

the time the cause of action “accrues.” In contrast, under the 1933 Act, the t

period runs from the date of the sale or from the time the security is first 

offered to the public, depending on whether the claim is based on section 

11, or 12(a)(1).

415. 459 U.S. 375 (1983).

416. Remedies under sections 12(a)(1) and 12(a)(2) of the 1933 Act, for 

The measure of damages under section 12 of the 1933 Act is based on resci

also the remedy under section 18(a) of the 1934 Act (misstatements in fals

The new remedies under the Insider Trading and Securities Fraud Enforcem

1988, codified in section 21A of the 1934 Act (disgorgement of profits in an 

contemporaneous traders), are expressly in addition to any other express o

remedies.

417. Discussed supra text accompanying notes 296–312.

418. Discussed supra text accompanying notes 351–55, 359–65.

419. Section 29(b) of the 1934 Act provides that any contract in violati

Act or any rule promulgated thereunder is void.

420. Superintendent of Ins. v. Bankers Life & Cas. Co., 404 U.S. 6 (1971)

e.g., J.I. Case v. Borak, 377 U.S. 426 (1964) (recognizing private right of act

proxy rules using tort theory of liability); Blue Chip Stamps v. Manor Drug S
121

less willingness to recognize implied rights of action. In 197

forth a restrictive test for determining when implied remedies 

be recognized.421 Subsequent decisions have made it clear th

tional implied remedies are at best doubtful.422 In addition, at l

court has awarded Rule 11 sanctions against claims based o

provisions where the implied remedy has been denied.423

Secondary liability under the 1934 Act. In addition to primar

ity of persons who violate the securities laws, there can be se

liability of collateral participants. There are three types of se

liability: (1) controlling-person liability; (2) vicarious liabilit

on respondeat superior; and (3) liability for aiding and abettin

mary violator. To impose secondary liability on a collateral par

there must be a primary violation of the securities laws.

Controlling-person liability is found both in the 1934 Act 

20(a)) and the 1933 Act (section 15). Although worded diff

the provisions are interpreted as similar.424 Control has been 

by the SEC as “the possession, direct or indirect, of the power t

 

U.S. 723 (1975); Virginia Bankshares, Inc. v. Sandberg, 501 U.S. 1083 (1991)

Peeler & Garrett v. Employers Ins. of Wausau, 508 U.S. 286 (1993).

421. In Cort v. Ash, 422 U.S. 66 (1975), the Supreme Court set forth a f

test for determining when to recognize an implied remedy: (1) Is the plain

the class for whose special benefit the statute is enacted? (2) Is there any ev

legislative intent to create such a remedy or to deny one? (3) Is the recogni

implied remedy consistent with the underlying purposes of the legislative sch

Is the area of law one that is traditionally relegated to the states?

Relying more heavily on legislative intent (factor 2) than on the other 

tors, the Supreme Court recognized an implied right of action under the Co

Exchange Act in Curran v. Merrill Lynch Pierce Fenner & Smith, 456 U.S. 35

The Court reasoned, inter alia, that the lower federal courts had recognize

action for years while Congress sat by in silence.

422. See Crookham v. Crookham, 914 F.2d 1027 (8th Cir. 1990); Lan

Am. Assurance Co., 688 F.2d 381 (5th Cir. 1982); 2 Hazen, supra note 205, § 

423. Crookham, 914 F.2d 1027 ($10,000 sanction for bringing suit und

17(a) of the 1933 Act). Other provisions that are unlikely to support an imp

edy include section 7 of the 1934 Act (margin violations), as well as violatio

of self-regulatory organizations. See 3 Hazen, supra note 156, §§ 14.7, 14.26.

424. Maher v. Durango Metals, 144 F.3d 1302 (10th Cir. 1998). For the 

see supra text accompanying notes 213–16.
122

or cause the direction of the management and policies of a 

whether through the ownership of voting securities, by cont

otherwise.”425 This liability requires that the defendant not on

controlling person of the primary violator but also a culpable 

pant in the illegal activity. In an employment context, failure t

vise an employee may be deemed indirect participation by t

trolling person, and thus the controlling person may be liable 

fraudulent schemes arising during the unsupervised period. C

ling-person liability is not limited to an employer–employee r

ship.

Controlling-person liability is more restrictive than comm

agency theories in that it holds a controlling person liable onl

person (1) did not act in good faith or (2) induced or knowin

ticipated in the violation. Controlling-person liability is broad

respondeat superior in that it is not limited to employers. The q

has arisen as to whether controlling-person liability is exclusiv

courts of appeals have held that section 20(a) of the 1934 Act i

exclusive remedy and thus can be supplemented by comm

principles of respondeat superior.

426 In contrast to the prevailing 

to controlling-person liability generally, section 21A(b)(2) de

spondeat superior liability in actions dealing with insider trading

425. Rule 405, 17 C.F.R. § 230.405 (2002). Courts have defined “contr

fluence short of actual direction. Gould v. American-Hawaiian S.S. Co., 535 

(3d Cir. 1976).

426. Hollinger v. Titan Capital Corp., 914 F.2d 1564 (9th Cir. 1990), ce

111 S. Ct. 1621 (1991); In re Atlantic Fin. Mgmt., Inc., 784 F.2d 29 (1st C

cert. denied, 481 U.S. 1072 (1987); Henricksen v. Henricksen, 640 F.2d 880

Cir.), cert. denied, 454 U.S. 1097 (1981); Paul F. Newton & Co. v. Tex. C

Bank, 630 F.2d 1111 (5th Cir. 1980); Marbury Mgmt., Inc. v. Kohn, 629 F.2

Cir.), cert. denied, 449 U.S. 1011 (1980). But see Carpenter v. Harris, Upha

594 F.2d 388 (4th Cir.), cert. denied, 444 U.S. 868 (1979).

427. The Insider Trading and Securities Fraud Enforcement Act of 1988 

that there is no controlling-person liability under the Insider Trading Sanctio

1984 unless it is shown that the controlling person knew or recklessly disreg

likelihood of illegal trading on inside information and failed to take pr

against the illegal conduct. 1934 Act § 21A(b). See infra text accompanying n
123

Aiding and abetting liability428 for violations of the antifrau

sions of the 1934 Act is available in SEC enforcement action

criminal prosecutions but not in private actions.430 Liability fo

and abetting requires a showing of the following: the existen

securities law violation by the primary party; “knowledge” of 

lation on the part of the aider and abettor; and “substantial ass

by the aider and abettor in the achievement of the primary viol

The Supreme Court has recognized an implied right of contr

for damages based on 1934 Act Rule 10b-5.432

Most courts hold that, as a general proposition, the aider a

tor must have acted with at least the same degree of sciente

primary violator.433 However, when the aider and abettor stan

fiduciary relationship to the plaintiff, recklessness will satisfy 

enter requirement for imposing liability on the defendant for 

and abetting.434

428. See 2 Hazen, supra note 205, § 12.25.

429. Section 20(f) of the 1934 Act gave the SEC the authority to pursu

who knowingly provide substantial assistance to primary violators of the 

laws. 15 U.S.C. § 78t (Supp. 2001).

430. Central Bank of Denver v. First Interstate Bank of Denver, 508 

(1993).

431. See, e.g., Metge v. Baehler, 762 F.2d 621 (8th Cir. 1985), cert. denied

1057 (1986).

432. Musick, Peeler & Garrett v. Employers Ins. of Wausau, 508 U.S. 286 

433. See Barker v. Henderson, Franklin, Starnes & Holt, 797 F.2d 490, 

Cir. 1986) (“We take Ernst & Ernst, together with Herman & Maclean, as es

that aiders, abettors, conspirators, and the like may be liable only if they 

same mental state required for primary liability.”).

434. The Sixth Circuit, in Herm v. Stafford, 663 F.2d 669, 684 (6th C

held that recklessness will satisfy the scienter requirement even in the abs

fiduciary relationship. But see, e.g., In re Union Carbide Corp. Consumer Pr

Sec. Litig., 676 F. Supp. 458 (S.D.N.Y. 1987) (actual knowledge is required w

alleged aider and abettor does not stand in a fiduciary or confidential relati

the injured party). Brokers are frequently held to stand in a special fiduciary 

ship to their customers. The existence of this fiduciary duty does not elim

scienter requirement; it merely affects the degree of scienter necessary to 

guilty of aiding and abetting. If no fiduciary duty exists, then the scienter stan

be stricter. See Harmsen v. Smith, 693 F.2d 932, 944 n.10 (9th Cir. 1982), ce

464 U.S. 822 (1983).
124

RICO in securities cases. The Racketeer Influenced and Corr

ganizations Act (RICO), enacted in 1973,435 is drafted in gener

and thus has a broad reach. Among other things, it provides 

damage remedy to anyone injured by a person associating with 

terprise” and engaging in “a pattern of racketeering.” In resp

the fear of abusive RICO litigation, Congress amended the st

require that in order to be sued in a civil RICO action for se

fraud, the defendant must have already been criminally conv

the underlying violation.436

An “enterprise” consists of any association, formal o

mal437—it need not be a permanent association.438 The Suprem

435. 18 U.S.C. §§ 1961–1968 (1988 & Supp. 2001). Many states have en

tle RICO” statutes.

436. 18 U.S.C. § 1964(c) (Supp. 2001). The conviction requirement a

securities fraud actions but not expressly to other actions based on fraud. It 

a subversion of the congressional intent to permit a plaintiff to couch a RI

involving securities in common law or wire fraud in order to circumvent th

tion requirement. It has properly been held that if the conduct could be cla

securities fraud, then the conviction requirement applies even if the plainti

formulate the predicate act on alternative grounds. Aries Aluminum Corp

1999 U.S. App. LEXIS 24827 (6th Cir. Sept. 30, 1999) (unpublished opinio

action predicated on sale of nonexistent securities could not be maintained)

gle Area Sch. Dist. v. Keystone Fin., Inc., 189 F.3d 321 (3d Cir. 1999) (

complaint in mail or wire fraud will not support RICO claim without u

criminal conviction for action that could be classified as securities fraud). Bu

zonen, S.A. v. Wright, [1999–2000 Transfer Binder] Fed. Sec. L. Rep. (CCH) 

1999 WL 1037866 (S.D.N.Y. Nov. 16, 1999) (alleged misappropriation of 

curred after the securities transaction, and thus the misappropriation was n

nection with the purchase or sale of a security; RICO claim could proceed d

Private Securities Litigation Reform Act).

437. 18 U.S.C. § 1961(4) (1988). According to the Supreme Court, the c

enterprise connotes a group with a common purpose, a continuity of perso

an ongoing formal or informal organization. United States v. Turkette, 452 

(1981). See also, e.g., Northern Ky. Bank & Trust v. Rhein, [1984–1985 

Binder] Fed. Sec. L. Rep. (CCH) ¶ 91,864 (E.D. Ky. 1984) (it is not necess

lineate the structure of the enterprise at the pleading stage).

438. See, e.g., United States v. Turkette, 452 U.S. 576 (1981), where the 

plied the term to a band of hooligans who had a one-night rampage of mu

other acts covered by RICO.
125

has indicated that the enterprise requirement is a separate 

from the “pattern of racketeering activity” even though the fa

taining to each may coalesce.439

In addition to the enterprise requirement, a violation of RI

tion 1962 requires a “pattern of racketeering activity.”440 A pa

racketeering requires two or more underlying predicate acts

fined by section 1961(1), occurring within ten years of each 

Securities fraud is expressly included as one of the underlyin

cate acts. As part of the PSLRA, RICO was amended to prov

civil liability under RICO for securities fraud now requires 

defendant has been convicted of the underlying securities law 

tion. Fraud and mail fraud are also included as predicate acts. 4

it is not necessary that a security be involved; fraud relating 

types of investments may be covered by RICO. The Suprem

has held that RICO does not require multiple schemes to fin

tern of racketeering. Furthermore, in order to satisfy the pat

racketeering requirement, the multiple predicate acts mus

ranged or ordered either by the relationship they bear to one 

or by the relationship they bear to some external organizing 

ple.443

The treble damage provision and availability of attorneys’ fe

RICO counts attractive in appropriate securities cases.444 A RI

439. Turkette, 452 U.S. 576. See also Police Ret. Sys. v. Midwest Inv. 

Serv., Inc., 706 F. Supp. 708 (E.D. Mo. 1989) (enterprise requirement was 

but no pattern of racketeering activity shown).

440. 18 U.S.C. § 1962 (1988).

441. See 18 U.S.C. § 1961(5) (1988).

442. Congress did not explicitly extend the criminal conviction requir

mail and wire fraud (or to fraud generally). However, if that conduct involv

ties, it would seem that the criminal conviction requirement should apply. 

Media Group v. Island Mortgage Network, 183 F. Supp.2d 559, 578–80 

2002); Mezzonen, S.A. v. Wright, [1999–2000 Transfer Binder] Fed. Sec

(CCH) ¶ 90,704, 1999 WL 1037866 *3 (S.D.N.Y. Nov. 16, 1999).

443. H.J., Inc. v. Northwestern Bell Tel. Co., 492 U.S. 229 (1989).

444. RICO also permits forfeiture of attorneys’ fees that were paid wi

made by the client from racketeering activities. This provision has been used 

dealers but presumably could also be used with securities laws violations.
126

tion can be brought in either federal or state court.445 RICO h

applied in securities cases, for example, where a broker–deal

enterprise) engages in more than one fraudulent act.

Mail and wire fraud. Two federal acts—the Mail Fraud Ac

the Wire Fraud Act447—can be potent weapons in the enforce

securities law. The Supreme Court, in a unanimous opinion, h

trading securities on nonpublic information could support 

fraud conviction.448 The Court’s opinion is striking, since, in th

case, the Court was equally divided as to whether the convic

the securities fraud count should be sustained. A violation of t

or Wire Fraud Act requires only the use of the mails or wires 

cute a scheme to defraud someone of his or her property right

ble or intangible.449 As long as the mails or wires are used, t

and Wire Fraud Acts “reach any scheme to deprive another o

or property by means of false or fraudulent pretenses, represen

or promises.”450 This may be relevant in both criminal and c

tions. Although there is no specific civil liability for violation 

fraud and wire fraud statutes, such violations are predicate act

RICO, which can lead to treble damages.

F. Insider Trading

1. Rule 10b-5

Perhaps the most common and widely known use of Rule 10b-

1934 Act is in the context of “insider trading,” or trading on t

of nonpublic confidential or proprietary information. Tradin

side information destroys the integrity of the marketplace by gi

informational advantage to a select group of corporate inside

10b-5 is the primary source of liability for improper trading o

445. Yellow Freight Sys. v. Donnelly, 494 U.S. 820 (1990).

446. 18 U.S.C. § 1341 (1988 & Supp. 2001).

447. 18 U.S.C. § 1343 (1988 & Supp. 2001).

448. Carpenter v. United States, 484 U.S. 19 (1987).

449. Id. at 25–28. The Court specifically declared that “[c]onfidential 

information has long been recognized as property.” Id. at 26.

450. Id. at 27.
127

information.451 There are essentially two varieties of improper 

on the basis of nonpublic information. One is a face-to-face 

tion in which an insider fails to disclose material information 

buyer or seller. This not only involves a clear violation of Ru

5452 but also violates principles of common-law fraud.453 The 

variety, which forms the basis of the overwhelming majority o

tion under the securities laws, involves open-market transac

corporate insiders and others in possession of material nonpu

formation.

As there is no statutory definition of what constitutes im

trading on nonpublic information, the 1934 Act’s catchall prov

Rule 10b-5 is the primary source of the violation. Over time, th

been a change in the premise of insider trading liability und

10b-5 from one of unfairness to investors454 to one of fiducia

and misappropriation.455 Rule 10b-5(c) makes it unlawful f

451. Promulgated by the SEC in 1942, Rule 10b-5 is patterned directly o

17(a) of the 1933 Act. The primary difference is that Rule 10b-5 extends to 

ments or omissions occurring in connection with either a purchase or sale 

ties, whereas section 17(a) is limited to fraudulent sales. The former assistan

of the SEC, Milton Freeman, who formulated Rule 10b-5 in response to a f

purchase of corporate securities by the company’s president, describes th

and adoption of the rule in Conference on Codification of the Federal Securities 

Bus. Law. 793, 922 (1967) (remarks of Milton Freeman).

452. Affiliated Ute Citizens of Utah v. United States, 406 U.S. 128 (1972).

453. See, e.g., Strong v. Repide, 213 U.S. 419 (1909).

454. In re Cady, Roberts & Co., 40 S.E.C. 907 (1961). See 2 Hazen, s

205, § 12.17.

455. See, e.g., United States v. O’Hagan, 521 U.S. 642 (1997); Chiarella 

States, 445 U.S. 222 (1980). In Chiarella, Justice Powell explained the develo

Rule 10b-5:

In Cady, Roberts & Co., 40 S.E.C. 907 (1961), the Commission decided that 

porate insider must abstain from trading in the shares of his corporation unless h

first disclosed all material inside information known to him. The obligation to dis

or abstain derives from

“[a]n affirmative duty to disclose material information[, which] has been tra

ditionally imposed on corporate ‘insiders,’ particularly officers, directors, o

controlling stockholders. We, and the courts, have consistently held that in

siders must disclose material facts which are known to them by virtue of thei
128

person, directly or indirectly, by the use of any instrumentali

terstate commerce . . . to engage in any act, practice, or co

business which operates or would operate as a fraud or dece

any person, in connection with the sale or purchase of any se

The violation is thus premised on fraud and the existence 

duty to speak honestly. Silence alone is not actionable; there m

duty to speak. Possession of inside information without more d

create the duty to speak or abstain from trading under Rule 1

Subsequent judicial treatment of this requirement has led to 

appropriation theory, and the concept of the “constructive” o

porary” insider who, though not strictly speaking an insider

theless owes some fiduciary duty to the person who discloses 

or her the material nonpublic information he or she “misap

ates.”

Beginning in 1961, the SEC broadened the application of Ru

5 into a general prohibition on corporate officials trading on t

of material nonpublic information, even on the open market

 position but which are not known to persons with whom they deal an

which, if known, would affect their investment judgment.” Id. at 911.

The Commission emphasized that the duty arose from (i) the existence of a 

tionship affording access to inside information intended to be available only for 

porate purpose, and (ii) the unfairness of allowing a corporate insider to take a

tage of that information by trading without disclosure. Id. at 912, and n.15. . . . 

Cady, Roberts decision, the Commission recognized a relationship of trust and 

dence between the shareholders of a corporation and those insiders who hav

tained confidential information by reason of their position with that corporation. 

relationship gives rise to a duty to disclose because of the “necessity of prevent

corporate insider from . . . tak[ing] unfair advantage of the uninformed min

stockholders.” Speed v. Transamerica Corp., 99 F. Supp. 808, 829 (Del. 1951).

445 U.S. at 226–29.

456. Chiarella, 445 U.S. 222.

457. Cady, Roberts, 40 S.E.C. 907. See also, e.g., In re Smith Barney, Harri

& Co., Exchange Act Release No. 34-21242, [1984 Transfer Binder] Fed. Se

(CCH) ¶ 83,656 (Aug. 15, 1984) (brokerage firm should give its customer

digest research recommendations reflecting a material change in the firm’s 

before the firm trades in securities for its own account). But see Moss v. Mo

ley, Inc., 719 F.2d 5 (2d Cir. 1983), cert. denied, 465 U.S. 1025 (1984) (brok

not held liable to open market seller). SEC Rule 14e-3 is another source 

trading prohibitions, but its application is limited to tender offers.
129

expansion stemmed from the view that the harm the rule so

protect against was unfairness to investors not privy to the in

formation, so the potential trader possessing material nonpu

formation had an alternative duty to disclose the informatio

abstain from trading.458 In the first Supreme Court case on po

Court held that in a face-to-face transaction, a purchaser po

inside information about a company has a duty to disclose s

formation to the seller before consummating the transaction.

recently, however, the Court held that in order to find a viol

Rule 10b-5, the plaintiff must show that the defendant had m

nonpublic information and a legal duty, based on a wrongful 

sion or misappropriation of the information, to disclose it.460

In Chiarella,

461 the Supreme Court held that a Rule 10b-

cannot be based solely on the defendant’s knowingly trading t

her advantage while in possession of material nonpublic i

tion.462 However, five of the justices apparently would have u

conviction based on a theory that the defendant was given info

in a position of trust and then wrongfully misappropriated th

mation to his or her advantage. This misappropriation theo

ability was subsequently adopted by the Court in United S

458. SEC v. Texas Gulf Sulphur Co., 401 F.2d 833 (2d Cir. 1968), cert. de

U.S. 976 (1969).

459. Affiliated Ute Citizens of Utah v. United States, 406 U.S. 128 (1972).

460. United States v. O’Hagan, 521 U.S. 642 (1997); Chiarella, 445 U.S. 22

461. 445 U.S. 222 (1980). The defendant was the employee of a printing 

involved in the production of various tender offer documents. The target c

name was concealed in the galleys sent to the printer in an effort to maint

dentiality. However, Chiarella was able to identify the company based on ot

mation in the tender offer material, and with this knowledge, he traded in sec

the target company for profit. The Court reversed his conviction on the gr

he had no legal duty to speak.

462. Such a definition has been proposed to Congress but has not been 

However, following the Chiarella decision, the SEC adopted Rule 14e-3, whi

it unlawful for anyone other than the tender offeror who has knowledge of 

tender offer to trade on that information.
130

O’Hagan.

463 It remains difficult to define situations where th

sufficient duty that gives rise to Rule 10b-5’s “disclose or absta

trading” obligation with regard to material nonpublic informati

A Second Circuit decision is illustrative of the problem of d

insider trading. In United States v. Chestman,

465 a stockbroke

tomer relayed to the broker information about an impendi

over.466 The broker, armed with that knowledge, purchased s

the target company and subsequently was indicted for violatin

14e-3 and 10b-5 and for mail fraud. The jury found the broke

on all counts. The broker appealed, and in three separate opi

panel of the Second Circuit reversed the broker’s conviction

463. 521 U.S. 642 (1997). In O’Hagan, a partner in a law firm had t

knowledge that a firm client was about to launch a takeover of another comp

defendant purchased stock in the shares of the target company.

464. The SEC adopted Rule 10b5-2 in order to provide a degree of ce

identifying the types of relationships in which such a duty arises. 1

§ 240.10b5-2. Under Rule 10b5-2 there are

three non-exclusive bases for determining that a duty of trust or confidence was ow

a person receiving information: (1) when the person agreed to keep information 

dential; (2) when the persons involved in the communication had a history, patt

practice of sharing confidences that resulted in a reasonable expectation of confid

ity; and (3) when the person who provided the information was a spouse, parent

or sibling of the person who received the information, unless it were shown a

tively, based on the facts and circumstances of that family relationship, that there w

reasonable expectation of confidentiality.

Selective Disclosure and Insider Trading, Exchange Act Release No. 34-42

20, 1999).

Thus, for example, family relationships can provide the basis for Rule 10

close or abstain rule. See, e.g., SEC v. Yun, 148 F. Supp. 2d 1287 (M.D. F

(post-nuptial negotiations created confidential relationship so as to suppo

trading liability based on a tip of information between husband and wife).

465. 704 F. Supp. 451 (S.D.N.Y. 1989), rev’d, 903 F.2d 75 (2d Cir. 1990

banc, 947 F.2d 551 (2d Cir. 1991), cert. denied, 112 S. Ct. 1759 (1992).

466. The customer, Mr. Loeb, was married to the granddaughter of Ju

baum, a member of the board of directors of Waldbaum, Inc., a publicly tra

pany that owned a large supermarket chain. Furthermore, Mrs. Loeb’s u

Waldbaum, was president and controlling shareholder of Waldbaum, Inc. A

ber of the Waldbaum family, Mr. Loeb learned nonpublic information conce

impending sale of Waldbaum to the Great Atlantic & Pacific Tea Compan

layed the information to a broker.
131

counts.467 The Second Circuit then agreed to rehear the 

banc,468 and the Rule 14e-3 convictions were affirmed while t

10b-5 and mail fraud convictions were reversed. However, the

sions were reached as a result of many separate opinions.469 In 

ing the broker’s Rule 14e-3 convictions, ten of the eleven ju

jected the broker’s arguments that (1) Rule 14e-3 was inval

that, if not, there was insufficient evidence to sustain the conv

and that (2) his convictions violated the “fair notice” require

due process. However, the Rule 10b-5 convictions (as well as 

fraud convictions) were reversed because six of the judges fou

no fiduciary duty had been breached.471 As a result, it appear

Second Circuit that at least in the context of public tender off

SEC has filled the gap left by the decision in Chiarella, as no fi

duty is required for a conviction under Rule 14e-3.472

In Dirks v. SEC,

473 the Supreme Court indicated that someo

receives information from an insider (or anyone else holding 

formation in trust) is not liable under Rule 10b-5 for trading 

information unless the insider passed on that information 

wrongful motive.474 Thus in the absence of some breach of fi

467. 903 F.2d 75 (2d Cir. 1990).

468. 947 F.2d 551 (2d Cir. 1991).

469. Five judges voted to affirm the Rule 14e-3 convictions and reverse 

10b-5 and mail fraud convictions (with one judge writing a special concurre

judges voted to affirm all convictions; and one judge voted to reverse all conv

470. Rule 14e-3 was also upheld in O’Hagan.

471. One case that shows the potential for liability under this view is Un

v. Willis, 737 F. Supp. 269 (S.D.N.Y. 1990). A former CEO of Shearson an

president of American Express was considering becoming CEO of BankAm

discussed these plans with his wife, who in turn discussed them with her ps

in the course of her treatment. The psychiatrist traded in the marketplace on 

of this material nonpublic information and profited as a result. On the ba

breach of the fiduciary relationship between the psychiatrist and his patient, 

held that the psychiatrist had violated Rule 10b-5.

472. Rule 14e-3 was upheld by the Supreme Court in United States v. O’H

U.S. 642 (1997).

473. 463 U.S. 646 (1983).

474. In Dirks, the insiders were former employees of the company at iss

motivation in disclosing the information to Dirks, a security analyst, was a 
132

duty, or “misappropriation,” there is no violation of Rule 10b

Court also suggested that for liability to attach, there must b

sonal gain” by the wrongdoer.475 However, subsequent case l

gests that this may no longer be true. The misappropriation 

again reached the Supreme Court in 1987.476 The defendant w

nancial columnist (writing the influential Wall Street Journal’s 

on the Street” column) who had tipped his friends in advance a

contents of upcoming columns that would affect the price of 

stocks. The Second Circuit held that the information had been 

propriated from the defendant’s employer (Dow Jones), and th

der the “disclose or abstain” rule, the columnist and his frien

violated Rule 10b-5.477 This decision was affirmed without opi

an equally divided Supreme Court.478 It remains to be seen w

the Court was divided over the validity of the misappropriation 

in general or on some other issues raised by the case.479

Another question is whether it must be shown that the tr

fact used the information in question; namely, that he or sh

not have traded but for the confidential information. The co

vored the view that it must be established that the defendant 

 

expose the company’s fraud. While attempting to verify that a fraud had i

curred, Dirks disclosed the information to some of his institutional custom

thereupon sold large quantities of stock in the company. The Court found t

was not an insider and that he did not owe a duty to the insiders not to dis

information (in fact, they wanted him to). Since the insiders who passed the 

tion on to him did not have a wrongful motive, Dirks was not obligated t

from passing on the inside information disclosed to him.

475. Dirks, 463 U.S. at 660.

476. Carpenter v. United States, 484 U.S. 19 (1987).

477. United States v. Carpenter, 791 F.2d 1024 (2d Cir. 1986).

478. Carpenter, 484 U.S. 19. The decision to recognize the misappropri

ory also finds support in the legislative history of the 1988 Insider Trading an

ties Fraud Enforcement Act (ITSFEA), H.R. Rep. No. 100-910, at 10–11 (198

479. The Supreme Court may, for example, have been divided over whe

10b-5’s “in connection with” requirement had been satisfied. In Carpente

porter’s employer, from whom the information was allegedly misappropri

neither a purchaser nor a seller of securities. The SEC had argued that if th

tion were to be overturned it should be overturned on these grounds rather 

wholesale rejection of the misappropriation theory.
133

used the information in deciding to make the trades in ques

though use could be inferred from trades made while in posse

the information.480 The SEC adopted a rule requiring that th

dant used the information in making the challenged securities 

tions.481 Rule 10b5-1 also contains a presumption that someo

trades while in possession of the information has used the info

in making the trade.482

2. Insider Trading Sanctions: SEC Actions

Willful violations of the federal securities laws may give r

criminal prosecution resulting in fines and imprisonment. F

more, violations may result in sanctions from the SEC. For e

the SEC may impose administrative sanctions: If the violator i

ker–dealer or other market professional, his or her broker–d

cense can be suspended or revoked. By virtue of section 21(

the 1934 Act, the SEC is authorized to seek either temporary 

manent injunctive relief in the courts “whenever it shall appea

Commission that any person is engaged or is about to engage 

acts or practices which constitute or will constitute a violation.

Although the statutory enabling provisions speak solely in t

the SEC’s power to enjoin, the SEC and the courts have fa

remedies ancillary to the traditional injunctive decree relying 

general equitable powers of the federal courts.”483 Ancillary re

taken many forms, ranging from disgorgement of ill-gotten p

480. SEC v. Adler, 137 F.3d 1325 (11th Cir. 1998); United States v. Sm

F.3d 1051 (9th Cir. 1998). Compare, e.g., United States v. Teicher, 987 F.2d 

Cir.), cert. denied, Teicher v. United States, 510 U.S. 976 (1993).

481. 17 C.F.R. § 240.10b5-1. The SEC originally adopted the possession 

after reviewing the public comments the commission reproposed the rule to 

use requirement plus a presumption of use. See Exchange Act Release No. 3

(Dec. 20, 1999).

482. The presumption of use that follows from trading while in possessio

rebutted by a showing that the defendant (1) had a preexisting binding co

enter into the transaction in question, (2) executed a prior instruction to a th

to execute the transaction in question, or (3) previously adopted a written p

fying the transactions in question. 17 C.F.R. § 240.10b5-1.

483. See, e.g., James Farrand, Ancillary Remedies in SEC Civil Enforcemen

Harv. L. Rev. 1779, 1781 (1976).
134

more imaginative corrective action. Among such imaginative r

are the appointment of an independent majority on the board o

tors,484 the appointment of a receiver,485 prohibitions against ex

voting control in a proxy battle,486 the appointment of “special 

sionals” to ensure compliance with securities laws,487 orders d

to protect remaining assets,488 and prohibitions on continued 

pation as an officer or director of any public company.489

In the wake of the Chiarella490 and Dirks491 decisions, Cong

acted even stronger insider trading penalties available for use 

SEC. The Insider Trading Sanctions Act of 1984 (ITSA) increa

and criminal penalties for trading while in possession of mater

public information. The SEC is authorized to seek disgorge

profits and a civil penalty of up to three times the profits gaine

484. See, e.g., SEC v. Vesco, 571 F.2d 129 (2d Cir. 1978); SEC v. Ma

[1974–1975 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 94,807 (D.D.C. 19

sent to sanctions).

485. See, e.g., SEC v. United States Fin. Group, Inc., 474 F.2d 354 (9th C

SEC v. Florida Bank Fund, [1978 Transfer Binder] Fed. Sec. L. Rep. (CCH) 

(M.D. Fla. 1978). This power is expressly given to the SEC by section 42

Investment Company Act for violators of the Act’s registration requirem

U.S.C. § 80a-41(e) (1988 & Supp. 2001).

486. See, e.g., SEC v. Westgate-California Corp., Litig. Release No. 614

Docket 30 (S.D. Cal. Nov. 9, 1973). Cf. Chris-Craft Indus., Inc v. Piper Aircr

480 F.2d 341 (2d Cir.), cert. denied, 414 U.S. 910 (1973) (defendant barred 

ing for five years on shares obtained illegally).

487. See, e.g., SEC v. Beisinger Indus. Corp., 552 F.2d 15 (1st Cir. 1977

First Jersey Sec., Inc., [1984–1985 Transfer Binder] Fed. Sec. L. Rep. (CCH) 

(S.D.N.Y. 1985) (appointment of consultant to review broker–dealer’s prac

suant to permanent injunction entered by parties’ consent).

488. See, e.g., SEC v. Manor Nursing Ctrs., Inc., 458 F.2d 1082, 1105–0

1972); SEC v. R.J. Allen & Assoc., Inc., 386 F. Supp. 866, 881 (S.D. Fla. 1

also SEC v. Vaskevitch, 657 F. Supp. 312 (S.D.N.Y. 1987) (freeze order in in

ing case); SEC v. Am. Bd. of Trade, Inc., 830 F.2d 431 (2d Cir. 1987), cert. d

U.S. 938 (1988) (freeze order in illegal unregistered commercial paper in

program).

489. See, e.g., SEC v. Cosmopolitan Inv. Funding Co., Litigation Release 

(SEC Apr. 23, 1976); 42 SEC Ann. Rep. 119 (1976).

490. 445 U.S. 222 (1980).

491. 463 U.S. 646 (1983).
135

loss avoided by the defendant, and the criminal penalty was in

from $10,000 to $100,000. However, while facially applic

transactions involving misuse of nonpublic material informatio

does not define the scope of permissible conduct. Thus it does 

ter the availability of a cause of action, merely the penalties t

be imposed. Nevertheless, ITSA has proven to be an effective e

ment weapon. Following its enactment, the SEC has been incr

vigorous in enforcing insider trading prohibitions and has 

some lucrative settlements.492

The question arises whether SEC actions under ITSA and c

prosecutions based on the same transactions violate the consti

prohibition against double jeopardy. In United States v. Halpe

Supreme Court held that double jeopardy issues can arise 

criminal prosecution is followed by a government suit seekin

pose civil penalties. In 1997, the Supreme Court eased the 

jeopardy concerns. In Hudson v. United States,

494 the defenda

been sued by the Office of the Comptroller of the Currency and 

to pay monetary assessments resulting from violating federa

subsequent criminal prosecution was challenged on the gro

double jeopardy. The Supreme Court ruled that since the asse

in the first action were not punitive, there was no double jeopa

to the criminal prosecution. The Court ruled that the Halper 

whether a civil sanction is punitive proved “unworkable.” In

referred to the test it had enunciated previously in United S

Ward,

495 to the effect that there is a strong presumption th

gress’s designation of a sanction as “civil” means that it is not p

and that a court must find the “clearest proof” before the leg

492. See, e.g., SEC v. Certain Unknown Purchasers of Common Stock & 

tions of Santa Fe Int’l Corp., [1985–1986 Transfer Binder] Fed. Sec. L. Re

¶ 92,484 (S.D.N.Y. 1986) (consent order to disgorge $7.8 million in allege

trading profits); SEC v. Boesky, [1986–1987 Transfer Binder] Fed. Sec. L. Re

¶ 92,991 (S.D.N.Y. 1986) (settlement of $50 million disgorgement and $5

penalty); SEC v. Kidder Peabody & Co., 19 Sec. Reg. & L. Rep. (BNA) 811 

1987) (settlement of more than $25 million).

493. 490 U.S. 435 (1989).

494. 522 U.S. 93 (1997).

495. 448 U.S. 242 (1980).
136

label of a civil sanction is disregarded. It has thus become incre

unlikely that a civil penalty, such as the one imposed by the 

Trading Sanctions Act, will be viewed as criminal in nature. 

ingly, double jeopardy issues should not be an issue with re

successive SEC and criminal actions against insider trading.496

3. Private Rights of Action for Insider Trading

In a face-to-face transaction, an action will lie against someo

sells or purchases while in possession of material nonpublic i

tion.497 However, in an open-market context, standing to sue c

more problematic. In a Ninth Circuit case,498 a financial co

purchased stock prior to publishing his “buy” recommendation

was based on an overly optimistic view of the company. The p

acquired the stock pursuant to a merger that was agreed to prio

conduct in question. Despite the fact that the plaintiffs were 

purchasers” who made no investment decision and thus did 

on the column, the defendant was held liable. The court reason

the columnist’s failure to disclose his stock purchase defrau

market by causing an artificially high price that the plaintif

forced to pay. This is the fraud-on-the-market theory.

The fraud-on-the-market theory, however, is far from unan

accepted in the insider trading context. The Sixth Circuit has h

any duty that was breached was owed to the person from wh

information was appropriated, not to someone in a faceless m

Similarly, the Second Circuit held that a tippee of inside info

who was convicted of having violated Rule 10b-5 was not l

496. But cf. United States v. Andrews, 146 F.3d 933 (D.C. Cir. 1998) (i

that civil penalty could form the basis of double jeopardy, but the claim cou

raised in a criminal prosecution of a corporation’s CEO based on a civil p

sessed against the corporation rather than the CEO himself).

497. Affiliated Ute Citizens of Utah v. United States, 406 U.S. 128 (1972

tion was not a problem because the purchaser dealt directly with the seller

the Supreme Court held that reliance on the nondisclosure could be presum

the materiality of the information.

498. Zweig v. Hearst Corp., 594 F.2d 1261 (9th Cir. 1979).

499. Friedrich v. Bradford, 542 F.2d 307 (6th Cir. 1976), cert. denied, 

1053 (1977).
137

damages to people who were selling their stock at the same ti

the defendant was buying on inside information. To be held li

damages, the court said, the “inside trader” must be a corpor

cial who owes an independent duty to the shareholders who t

opposite sides of the insider’s transactions.500

The Insider Trading and Securities Fraud Enforcement A

FEA) of 1988 was designed by Congress to supplement any 

that may exist under Rule 10b-5. The Act provides an express 

right of action by contemporaneous traders against persons 

improper use of material nonpublic information.501 Damages 

an action are limited to the profit (or loss avoided) that is attr

to the defendant’s illegal conduct, reduced to the extent that t

has secured disgorgement (as opposed to penalty) under the 1

sider Trading Sanctions Act (ITSA).

ITSFEA also specifically addresses controlling-person lia

Such liability in a private suit is still governed by section 20(a

1934 Act. However, ITSFEA imposes a more specific provi

controlling-person liability in SEC actions under ITSA. Under I

a court can impose ITSA’s treble damage penalties on a con

person of a primary violator only if (1) the controlling person k

acted in reckless disregard of the fact that the controlled pers

likely to engage in illegal insider trading, and (2) the controll

son failed to take adequate precautions to prevent the prohibi

duct from taking place. The establishment of a “Chinese Wall” 

wall” to keep confidential information confined to the proper 

of a multiservice firm may help protect against controlling-pe

ability.

500. Moss v. Morgan Stanley, Inc., 719 F.2d 5 (2d Cir. 1983), cert. denied

1025 (1984).

501. 1934 Act § 20A.

502. Controlling-person liability under the 1934 Exchange Act genera

erned by section 20(a) of the Act. In addition to the new controlling-person p

the 1988 legislation was amended to make it clear that tippers and tippees 

primary violators, so plaintiffs need not rely on aiding and abetting princip

Act § 20A(c).
138

In a further attempt to provide incentive for private person

pose illegal insider trading, ITSFEA also added a “bounty” pr

Section 21A(e) states that up to 10% of any civil penalty recov

the SEC may, at the SEC’s discretion, be paid to the private ind

who provided information leading to the imposition of the p

Persons associated with the SEC, the Department of Justice

self-regulatory organizations are not eligible to receive a bou

ward.

With the Securities Enforcement Remedies and Penny St

form Act of 1990, amendments to the 1934 Act gave the S

power in an administrative proceeding to require disgorgemen

gal profits.503

4. Insider Transactions and Section 16

Section 16 of the Exchange Act regulates directors, officers, a

(or greater) beneficial owners of any class of equity securities 

to section 12 registration requirements. This provision is desi

discourage corporate insiders from taking advantage of their a

information by engaging in short-swing trading. Section 16

tains reporting requirements; section 16(b) imposes liability fo

swing profits; and section 16(c) prohibits insider short sales.

Persons falling within the scope of section 16 (i.e., an office

tor, or 10% beneficial owner504 of a class of equity securities505 

503. These amendments also require additional disclosures about penn

See supra note 41 and accompanying text.

504. Beneficial ownership hinges on the direct or indirect pecuniary inter

shares, and that interest may be the result of “any contract, arrangement, un

ing, relationship, or otherwise.” Rule 16a-1(a)(2), 17 C.F.R. § 240.16a-1(a)

when several persons get together for the purpose of exercising control, t

will be considered a single person for the purpose of computing the 10% 

ownership threshold. See Morales v. Freund, 163 F.3d 763 (2d Cir. 1999); 

Kapp Inv. Advisors, Inc., [1999–2000 Transfer Binder] Fed. Sec. L. Rep

¶ 90,666 (S.D.N.Y. 1999). See also Rosenberg v. XM Ventures, 129 F. Supp

(D. Del. 2001).

505. The owner of convertible securities becomes a 10% beneficial ow

regard to the underlying securities once his or her conversion rights wou

10% ownership of the underlying securities. Medtox Scientific, Inc. v. Morga
139

to the 1934 Act reporting requirements) are required to file ap

ate notice with the SEC, including disclosure of all ownership 

in any of the issuer’s equity securities, within ten days of ac

that status.506 Thereafter, whenever they acquire or dispose of 

uity securities of the company, they must file notice thereof w

SEC within ten days of the end of the calendar month in wh

change takes place.507

In addition to its reporting requirements, section 16(a) det

who is subject to section 16(b)’s provisions for disgorgemen

sider short-swing profits. However, the Act does not precisely 

officer, director, or 10% beneficial owner. As a result, many qu

have been raised as to the scope of section 16’s coverage.

The courts and the SEC have both considered the scope of 

SEC Rule 3b-2 provides that under the Act, generally “‘officer’ m

president, vice president, treasurer, secretary, comptroller, a

other person who performs for an issuer, whether incorpor

unincorporated, functions corresponding to those performed 

foregoing officers.” Although expressly refusing to pass on the 

of Rule 3b-2, the Second Circuit adopted a similar functional 

lency test under the terms of the statute. 508 In 1991, the SE

pletely revamped its interpretive rules under section 16. As par

reform, for the purposes of section 16, officer is limited t

 

L.L.C., 50 F. Supp. 2d 896 (D. Minn. 1999). See also Chemical Fund, Inc. 

Corp., 377 F.2d 107 (2d Cir. 1967).

506. 1934 Act § 16(a).

507. Id. Violations of the filing requirements do not give rise to a privat

Scientex Corp. v. Kay, 689 F.2d 879 (9th Cir. 1982); C.R.A. Realty Corp. v. 

Tire & Rubber Co., 705 F. Supp. 972 (S.D.N.Y.), aff’d, 888 F.2d 125 (2d C

However, they can result in criminal sanctions. See, e.g., United States v. Gut

F.2d 742 (2d Cir.), cert. denied, 364 U.S. 871 (1960).

508. Colby v. Klune, 178 F.2d 872, 875 (2d Cir. 1949):

[“Officer”] includes, inter alia, a corporate employee performing important execut

ties of such character that he would be likely, in discharging these duties, to obta

fidential information about the company’s affairs that would aid him if he enga

personal market transactions. It is immaterial how his functions are labeled or h

fined in the by-laws, or that he does or does not act under the supervision of som

corporate representative.

Id. at 873.
140

ranking company officials in policy-making positions. 509 Sin

16a-1 specifically addresses section 16 of the Act, in this res

definition prevails over the more general definition in Rule 3b-2

Another problem in determining who is subject to sectio

arises in the context of deputization. The Supreme Court has h

where a partnership profited from short-swing transactions in 

poration’s stock and the partnership designated or deputized o

partners to sit on that corporation’s board of directors, the part

would be deemed a “director” under the doctrine of deputiz

The Supreme Court appeared to require the plaintiff to prove a

deputizing or agency relationship,511 but subsequent lower cou

sions suggest that it may be enough to show that the poten

abuse was more than a mere possibility.512 Although it is clear 

mere presence of an interlocking directorate will not be suffi

create a section 16 deputization,513 each situation must be ex

on its own facts.

Another issue to be considered under section 16 is the ef

timing of the transactions has regarding an officer’s or direc

sumption of office or resignation. In general, courts tend to 

ability if either purchase or sale occurred while the defendant 

officer or director;514 if both purchase and sale were before or a

defendant held the position, courts tend not to find liability.515

509. Rule 16a-1(f), 17 C.F.R. § 240.16a-1(f) (2002).

510. Blau v. Lehman, 368 U.S. 403 (1962).

511. Id. at 411.

512. See, e.g., Feder v. Martin Marietta Corp., 406 F.2d 260 (2d Cir. 19

denied, 396 U.S. 1036 (1970).

513. See, e.g., Popkin v. Dingman, 366 F. Supp. 534 (S.D.N.Y. 1973).

514. See, e.g., Feder v. Martin Marietta Corp., 406 F.2d 260 (2d Cir. 19

denied, 396 U.S. 1036 (1970) (defendant purchased shares while a director, 

them at a profit after resigning); Adler v. Klawans, 267 F.2d 840 (2d Cir. 1

fendant purchased shares before becoming an officer, then sold them after 

his position).

515. See Lewis v. Mellon Bank, 513 F.2d 921 (3d Cir. 1975) (officer who 

stock option immediately after resigning then sold at a profit was not liab

section 16, since he was not an insider at time of purchase or sale); Lewis v

505 F.2d 785 (2d Cir. 1974). Since this result appears justified by the lan

section 16, such conduct could be used to raise a presumption of reliance 
141

In contrast to cases dealing with officers and directors, sec

provides that where insider status attaches by virtue of 10% be

equity ownership, the section applies only where such perso

beneficial owner “both at the time of purchase and sale, or the 

purchase.” The Supreme Court has held that the threshold p

that pushes the defendant over the 10% threshold does not qua

purchase subject to section 16 and that only purchases made a

threshold purchase will give rise to liability. Similarly, when a 

of more than 10% first sells enough to bring his or her holding

to 9.9%, and on the next day liquidates the remaining holdin

second sale cannot be subject to section 16, even if the two sa

parts of a single prearranged scheme.516

Section 16(b) requires statutory insiders under section 16(a

gorge to the issuer any profit wrongfully realized as a result o

chase and sale or sale and purchase of covered equity securitie

ring within a six-month period. Congress saw section 16(

“crude rule of thumb” or objective method of preventing “the 

pulous employment of (corporate) inside information.”517 A

ingly, in light of its broad remedial purpose, section 16(b) r

disgorgement of insider short-swing profits even in the absenc

wrongdoing.

Section 16 does not prohibit officers, directors, and 10% 

shareholders from short-term trading in the stock of their com

it simply authorizes the company (or a shareholder suing on 

half) to recover the profits realized from such trading. The SEC

fore, has no enforcement responsibilities under section 16. 

however, adopted rules and regulations exempting transactio

the liability provisions if it finds them to be “not compre

within the purpose of” section 16(b).518

 

information to find a possible violation of Rule 10b-5. See 2 Hazen, su

205, 12.10.

516. Reliance Elec. Co. v. Emerson Elec. Co., 404 U.S. 418 (1972).

517. Hearings on S. Res. 84, S. Res. 97 Before the Senate Comm. on Banking 

rency, 73d Cong., 1st Sess. pt. 15 at 6557 (1934).

518. 1934 Act § 16(b). The SEC has in fact adopted a number of rules e

transactions: For example, it has exempted certain transactions by register
142

A section 16(b) action is not based on any injury to the p

but rather is a remedial provision designed to prevent certain 

insider trading abuses. Success in an action under section 16(b

dependent on the possession or use of inside information.519

An action may be brought under section 16(b) by a shar

after a demand has been made to and refused by the directors

tion 16(b) actions arise even though the SEC has no enfor

powers under section 16, corporate management is seldom in

in suing itself, and the financial stake for an individual shareh

generally very small. The greatest incentive for bringing a 

16(b) action is that attorneys’ fees will be awarded to the su

plaintiff’s attorneys out of the fund created by the recovery

may be filed by a person who is, at the time of the suit, a shar

of record, as long as that person continues to be a shar

throughout the trial. The commonplace contemporaneous ow

rule, requiring a shareholder who brings suit to have been 

holder at the time of the act complained of, does not apply in 

tion under section 16(b).522 Thus people who purchase thei

after the transactions in question may bring suit. Notwithstand

possible champerty implications,523 the courts have held that 

 

ment companies; certain large block transactions in connection with a distr

securities; qualifying employee benefit plans; certain securities acquired in co

with a redemption of another security; certain option exercises and most co

of convertible securities; and certain transactions involving share subscript

details and a more complete list of exemptions, see SEC Rules 16b-1 through 

519. Hearings on S. Res. 84, S. Res. 97 Before the Senate Comm. on Banking 

rency, 73d Cong., 1st Sess. pt. 15 at 6557 (1934).

520. Dottenheim v. Murchison, 227 F.2d 737 (5th Cir. 1955), cert. de

U.S. 919 (1956); Benisch v. Cameron, 81 F. Supp. 882 (S.D.N.Y. 1948).

521. See, e.g., Super Stores, Inc. v. Reiner, 737 F.2d 962 (11th Cir. 1984).

522. Dottenheim, 227 F.2d 737; Blau v. Mission Corp., 212 F.2d 77 (2d C

denied, 347 U.S. 1016 (1954); Portnoy v. Kawecki Berylco Indus., Inc., 607 

(7th Cir. 1979).

523. Champerty is the impermissible practice of a lawyer purchasing th

bring a lawsuit or encouraging a client to bring suit so that the lawyer ca

attorneys’ fees. Since section 16(b) does not have a contemporaneous owner

it is possible to purchase the right to bring suit by purchasing or having a 

purchase a share of the company’s stock after the impermissible act.
143

defense to an action under section 16(b) that the suit was m

primarily by an attorney’s desire to obtain attorneys’ fees. Cou

erally reason that Congress must have accepted this price in 

achieve effective enforcement of the provision.524 An action un

tion 16(b) for disgorgement of profits may be brought in law o

uity.

If a person is found to fall within one of the categories cov

section 16, the next question is whether there has been a “pu

and “sale.” Where there is a “garden variety” cash-for-stock 

tion, section 16(b)’s application will be determined by an o

test.525 However, the courts have also had to decide whethe

transactions—so-called “unorthodox” transactions—fall with

tion 16(b)’s reach. The exercise of an option or a conversion p

or the exchange of one security for another, either in a merg

voluntary transaction, may or may not fall within the statute 

ing on the circumstances.

In Kern County Land Co. v. Occidental Petroleum Corp.,

526 

preme Court addressed the applicability of section 16(b) to 

the target company’s shares by a defeated tender offeror. In 

that a section 16(b) “sale” had not occurred, the Court used 

matic analysis of the transaction:

In deciding whether borderline [unorthodox] transactions 

within the reach of the statute, the courts have come to inq

whether the transaction may serve as a vehicle for the evil w

524. Magida v. Continental Can Co., Inc., 231 F.2d 843 (2d Cir.), cert. d

U.S. 972 (1956).

525. See, e.g., Arrow Distrib. Corp. v. Baumgartner, 783 F.2d 1274 (6th C

(with respect to cash-for-stock transactions, plaintiff need only show that b

actions occurred within a period of less than six months). Other transactions 

been viewed as “orthodox” transactions, requiring the application of the obje

See, e.g., Gund v. First Fla. Banks, Inc., 726 F.2d 682 (11th Cir. 1984) (sa

vertible debentures followed by purchase of underlying stock; objective test 

Oliff v. Exchange Int’l Corp., 669 F.2d 1162 (7th Cir. 1980), cert. denied, 450 

(1981) (court found “orthodox” transaction even where “purchase” was a re

under compulsion of paying a 205% penalty to the IRS for self-dealing in the 

and the IRS called the repurchase a “rescission” of the prior sale).

526. 411 U.S. 582 (1973).
144

Congress sought to prevent—the realization of short-swing pr

based upon access to inside information—thereby endeavorin

implement congressional objectives without extending the reac

the statute beyond its intended limits.527

This pragmatic approach was intended to take the place of 

jective test for unorthodox transactions, such as “stock conv

exchanges pursuant to mergers and other corporate reorgani

stock reclassifications, and dealings in options, rights, a

rants.”528 If there is no fear of or potential for section 16(b) a

the unorthodox transaction at issue, the pragmatic analysis 

find no purchase or sale.529

There has also been significant debate over the method of 

ing a profit within the meaning of section 16(b). The apparen

ity approach, when there has been a series of transactions with

month period, is to match the lowest purchase price against th

est sales price within that period.530 This method is the harshes

alternative interpretations, since it catches a profit even in sit

where an out-of-pocket loss may exist for all transactions ente

during the six-month period.531 Furthermore, there is authorit

effect that dividends declared on shares sold at a profit will be 

ered part of the section 16(b) profit, provided that insider st

plied at the time of declaration of the dividend.532

527. Id. at 594–95 (footnotes omitted). See also, e.g., Gwozdzinsky v. 

mark Fund, L.P., 156 F.3d 396 (2d Cir. 1998), aff’g 979 F. Supp. 263 (S.D.N.

528. Kern County Land Co., at 594 n.24.

529. See Thomas L. Hazen, The New Pragmatism Under Section 16(b) of t

ties Exchange Act, 54 N.C. L. Rev. 1 (1975).

530. Arrow Distrib. Corp. v. Baumgartner, 783 F.2d 1274 (6th Cir. 198

taker v. Whittaker Corp., 639 F.2d 516, 530–32 (9th Cir.), cert. denied, 454 

(1981); Smolowe v. Delendo Corp., 136 F.2d 231 (2d Cir.), cert. denied, 320 

(1943).

531. See Smolowe, 136 F.2d at 239.

532. W. Auto Supply Co. v. Gamble-Skogmo, Inc., 348 F.2d 736 (8th C

cert. denied, 382 U.S. 987 (1966). But see, e.g., Morales v. Lukens, Inc., 593 

1209, 1214–15 (S.D.N.Y. 1984) (relying on Blau v. Lamb, 363 F.2d 507, 528 

1966), cert. denied, 385 U.S. 1002 (1967) (dividends are excluded from sect

computation absent evidence that the defendant manipulated the dividend)).
145

Section 16(c) prohibits certain speculative activities by 

(10% beneficial owners, officers, and directors) who must file 

under section 16(a). Section 16(c) is aimed at two types of spe

transactions: (1) short sales,533 or selling the security of th

without owning the underlying security; and (2) sales aga

box,534 when the seller delays in delivering the securities. In b

stances, the investor’s hope is that the price will decline from t

of sale, thus enabling the seller to cover at a lower price. A

these are legitimate speculating devices in certain instances, th

tices of selling short and selling against the box are high-risk 

tions subject to speculative abuse, particularly by insiders. 

16(c) thus operates to make it unlawful to sell a security if the 

insider either (1) does not own the security or (2) owns the 

but does not deliver it within twenty days or deposit it in the 

five days.535

G. Regulation of the Marketplace and Securities Professionals

In addition to imposing disclosure requirements on issuers of p

traded securities, the 1934 Act regulates the marketplace. A

the SEC has direct authority, a great deal of market regulation 

ried out through its oversight of national exchanges an

regulatory organizations. Market regulation includes the establi

of fair market practices and minimum-capital requirements 

ker–dealers in order to minimize the risk of insolvency. A ma

of this regulation is to ensure orderly markets. There are also 

prohibitions against fraudulent and manipulative broker–dea

533. A short sale takes place when a seller, believing the price of a stock 

borrows stock from a lender and sells it to a buyer. Later, the seller buys sim

to pay back the lender, ideally at a lower price than he or she received on t

the buyer.

534. A sale against the box takes place when the seller, anticipating a d

the price of stock he or she owns, sells it to a buyer at the present market 

delivers it later, when (he or she hopes) the market price will have fallen 

sales price, thus creating a paper profit for the seller.

535. There is a good-faith exception provided within the statute. Further

SEC has exempted certain transactions deemed not to violate the policy of t

sion. See Rules 16c-1, 16c-2, and 16c-3.
146

duct. Additionally, the SEC and Federal Reserve Board work t

in regulating the extension of credit for securities transactions.

Section 15(a) of the 1934 Act requires registration with the 

all broker–dealers 536 engaged in interstate business involving se

transactions.537 Section 15(b)(4) empowers the SEC to hold h

and impose disciplinary sanctions ranging from censure to rev

of the registration of broker–dealers engaging in certain types 

scribed conduct.538 Section 15(b)(6) empowers the SEC to 

similar sanctions for the same types of conduct on persons w

though not themselves broker–dealers, are associated or seek 

come associated with broker–dealers.

In addition to imposing sanctions arising out of the SEC

broker–dealer regulation, the SEC is charged with supervising 

rities firm’s structure and taking measures to ensure its solven

tion 15(b)(7) requires broker–dealers to meet such operatio

financial competence standards as the SEC may establish. The 

tence requirements include provisions for maintenance of a

records and standards for supervisory and associated personn

SEC also has established financial responsibility requiremen

net capital rule, which sets out the minimum standards 

ker–dealer solvency based on the balance sheet.539

536. See generally Jerry W. Markham & Thomas L. Hazen, Broker-Deal

tions Under Securities and Commodities Law: Financial Responsibilities, Cre

lation, and Customer Protection (2001 supp.).

537. The only exemption from the registration requirements is for a brok

“whose business is exclusively intrastate and who does not make use of any 

a national exchange.”

538. For example, the SEC may impose sanctions after a hearing (1) wh

ker–dealer makes false filings with the SEC; (2) when the broker–dealer, w

past ten years, has been convicted of certain crimes or misdemeanors involv

turpitude or breach of fiduciary duty; (3) when the broker–dealer has wil

lated or aided in violating any federal securities law or rule; and (4) when 

ker–dealer has been barred by the SEC or enjoined from being a broker–dea

Act § 15(b)(4).

539. Rule 15c3-1, the net capital rule, is based on a complex balance she

solvency. See, e.g., SEC Study on the Financing and Regulatory Capital Ne

Securities Industry (Jan. 23, 1985).
147

Section 15(b)(8) requires that all broker–dealers be memb

qualifying self-regulatory organization (either a national exch

registered securities association).540

Section 15(c) of the 1934 Act contains a series of antifrau

sions designed to prohibit securities broker–dealers from enga

fraudulent practices and conduct. In addition to regulati

ker–dealers’ financial responsibilities, this provision and othe

used most often by the SEC and courts to regulate (1) excessiv

for over-the-counter securities;542 (2) activities of market mak

deal directly with individual customers;543 (3) generation of c

sions by excessive trading in customers’ accounts (“churnin

other fraudulent trading practices;544 and (4) undisclosed inte

investment advisers in the stocks they recommend.545

540. There are nine national exchanges registered under section 6 of th

one securities association registered under section 15A (the National Asso

Securities Dealers).

541. Most notably section 17(a) of the 1933 Act and section 10(b) of the 

and rules promulgated thereunder.

542. See, e.g., Charles Hughes & Co. v. SEC, 139 F.2d 434 (2d Cir. 194

tion of the securities laws where broker–dealer made high-pressure “cold ca

vincing purchasers to pay an undisclosed 16%–40% markup over market va

curities).

543. See, e.g., In re Alstead, Dempsey & Co., Exchange Act Release No. 2

SEC Docket 211 (Apr. 5, 1984) (in over-the-counter market, where marke

customers hold 95.7% of the stock of the company at issue, and market m

trols the market, markups of 11%–20% over transactions in the independ

dealer market are excessive); Chasins v. Smith, Barney, 438 F.2d 1167 (2d C

(failure to disclose market-maker status is nondisclosure of a material fact in 

of the securities laws). See also SEC Rule 10b-10.

544. See, e.g., Mihara v. Dean Witter, 619 F.2d 814 (9th Cir. 1980) (w

ker–dealer has control or de facto control of account, a high turnover rate, pa

of securities unsuitable to the complaining investors, generates excessive com

in violation of the securities laws); Nesbit v. McNeil, 896 F.2d 380 (9th Cir. 

a churning case, a successful plaintiff is entitled to receive at his or her optio

ages the decline in value of his or her portfolio, the amount of excess com

generated by churning in the account, or both).

545. See, e.g., SEC v. Capital Gains Research Bureau, Inc., 375 U.S. 18

(failure to disclose purchases of securities prior to making recommendatio

tuted a violation of Investment Advisers Act § 206).
148

Beyond the SEC rules and the additional requirements that 

imposed by the applicable self-regulatory organization

ker–dealers are, of course, subject to common-law duties and f

obligations. For example, a broker–dealer is prohibited from 

mending a security unless he or she has actual knowledge of t

acteristics and fundamental facts relevant to the security in q

Also, the recommendation must be reasonably supported 

facts.546

Furthermore, there are obligations imposed with regard to 

ker–dealer’s duty to “know the customer.” This duty is freque

posed by rules of self-regulatory organizations but also aris

general fiduciary duties between brokers and their custome

duty requires that a broker be certain that the customer unde

the risks of investment (or, in a discretionary account, that the 

understands the objectives of the customer, e.g., financial sec

opposed to speculation). Although the fiduciary obligations a

disciplinary actions have been few, and the overwhelming maj

cases have denied the existence of a private remedy by an inj

vestor based solely on the violation of an applicable rule o

regulatory organization.547 On the other hand, it is clear that 

jured customer can state the equivalent of a Rule 10b-5 viola

cluding showing the requisite scienter, materiality, reliance, ca

546. This “know your security” requirement is an extension of the com

doctrine of “holding out.” The Second Circuit has held that to satisfy thi

ment, a challenged broker–dealer must show that there was (1) an adequat

sonable basis for the recommendation; (2) a reasonable independent investig

standards of which vary based on the nature of the security); (3) disclosure 

tial information about the company to the investor; and (4) disclosure to th

of any lack of information and the risks that may therein arise. Hanly v. SEC

589 (2d Cir. 1969).

547. See, e.g., Carrott v. Shearson Hayden Stone, Inc., 724 F.2d 821 

1984); Colonial Realty Corp. v. Bache & Co., 358 F.2d 178 (2d Cir.), cert. d

U.S. 817 (1966); Klock v. Lehman Bros. Kuhn Loeb, Inc., 584 F. Supp. 210 

1984). Contra Buttry v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 410 

(7th Cir.), cert. denied, 396 U.S. 838 (1969).
149

damages, and deception, a violation of the know the custom

will be actionable.548

Relatively few broker–customer disputes end up in the co

pecially because of the 1987 Supreme Court decision holdi

predispute arbitration agreements are enforceable.549 Since th

sion, predispute arbitration agreements have been increasingl

lar. As is the case with arbitration generally, the scope of revie

tremely limited, and the appropriate standard of review is “m

disregard of the law.”550

548. See, e.g., Pelletier v. Stuart-James Co., 863 F.2d 1550 (11th Cir. 198

v. Dean Witter Reynolds, Inc., 591 F. Supp. 581 (N.D. Cal. 1984).

549. Shearson Am. Express, Inc. v. McMahon, 482 U.S. 220 (1987).

550. E.g., Merrill Lynch, Pierce, Fenner & Smith, Inc. v. Bobker, 808 

933 (2d Cir. 1986).
151

Appendix: Statutory Conversion Charts

Securities Act of 1933

Act § 15 U.S.C. §

1 77a Short Title

2 77b Definitions

3 77c Exempted Securities

4 77d Exempted Transactions

5 77e Prohibitions Relating to Interstate Comme

the Mails

6 77f Registration of Securities and Signing of

Registration Statement

7 77g Information Required in Registration State

8 77h Taking Effect of Registration Statements an

Amendments Thereto

8A 77h-1 Cease and Desist Proceedings

9 77i Court Review of Orders

10 77j Information Required in Prospectus

11 77k Civil Liabilities on Account of False Regist

Statement

12 77l Civil Liabilities Arising in Connection with

Prospectuses and Communications

13 77m Limitation of Actions

14 77n Contrary Stipulations Void

15 77o Liability of Controlling Persons

16 77p Additional Remedies

17 77q Fraudulent Interstate Transactions

18 77r State Control of Securities

18A 77r-1 Preemption of State Law

19 77s Special Powers of Commission

20 77t Injunctions and Prosecution of Offenses

21 77u Hearings by Commission

22 77v Jurisdiction of Offenses and Suits

23 77w Unlawful Representations

24 77x Penalties

25 77y Jurisdiction of Other Government Agencie

Securities
152

Act § 15 U.S.C. §

26 77z Separability of Provisions

27 77z-1 Private Securities Litigation

27A 77z-2 Application of Safe Harbor for Forward-Lo

Statements

28 77z-3 General Exemptive Authority
153

Securities Exchange Act of 1934

Act § 15 U.S.C. §

1 78a Short Title

2 78b Necessity for Regulation

3 78c Definitions and Applications

4 78d Securities and Exchange Commission

4A 78d-1 Delegation of Functions by Commission

4B 78d-2 Transfer of Functions with Respect to Assi

of Personnel to Chairman

5 78e Transactions on Unregistered Exchanges

6 78f National Securities Exchanges

7 78g Margin Requirements

8 78h Restrictions on Borrowing and Lending by

Members, Brokers, and Dealers

9 78i Prohibition Against Manipulation of Secur

Prices

10 78j Manipulative and Deceptive Devices

10A 78j-1 Audit Requirements

11 78k Trading by Members of Exchanges, Broker

Dealers

11A 78k-1 National Market System for Securities; Sec

Information Processors

12 78l Registration Requirements for Securities

13 78m Periodical and Other Reports

14 78n Proxies

15 78o Registration and Regulation of Brokers and

Dealers

15A 78o-3 Registered Securities Associations

15B 78o-4 Municipal Securities

15C 78o-5 Government Securities Brokers and Dealer

16 78p Directors, Officers, and Principal Stockhol

17 78q Records and Reports

17A 78q-1 National System for Clearance and Settlem

Securities Transactions

17B 78q-2 Automated Quotation Systems for Penny S

18 78r Liability for Misleading Statements

19 78s Registration, Responsibilities, and Oversig

Self-Regulatory Organizations
154

Act § 15 U.S.C. §

20 78t Liability of Controlling Persons

20A 78t-1 Liability to Contemporaneous Traders for 

Trading

21 78u Investigations and Actions

21A 78u-1 Civil Penalties for Insider Trading

21B 78u-2 Civil Remedies in Administrative Proceedi

21C 78u-3 Cease and Desist Proceedings

21D 78u-4 Private Securities Litigation

21E 78u-5 Application of Safe Harbor for Forward-Lo

Statements

22 78v Hearings by Commission

23 78w Rules, Regulations, and Orders; Annual Re

24 78x Public Availability of Information

25 78y Court Review of Orders and Rules

26 78z Unlawful Representations

27 78aa Jurisdiction of Offenses and Suits

27A 78aa-1 Special Provision Relating to Statute of

Limitations on Private Cause of Action

28 78bb Effect on Existing Law

29 78cc Validity of Contracts

30 78dd Foreign Securities Exchanges

30A 78dd-1 Prohibited Foreign Trade Practices by Issu

31 78ee Transaction Fees

32 78ff Penalties

33 78gg Separability of Provision

34 78hh Effective Date

35 78kk Authorization of Appropriations

35A 78ll Requirements for the EDGAR System

36 78mm General Exemptive Authority
155

For Further Reference

Securities Regulation

Thomas Lee Hazen, Treatise on the Law of Securities Regulatio

(Westgroup 4th ed. 2002)

Louis Loss & Joel Seligman, Securities Regulation (Aspen Law 

Business 3d ed. 1989)

Jerry W. Markham & Thomas Lee Hazen, Broker Dealer Opera

Under Securities and Commodities Law (Westgroup 1995; 2

2003)

Commodities Regulation

Phillip McBride Johnson & Thomas Lee Hazen, Commodities

Regulation (Aspen Law & Business 3d ed. 1998)

Jerry W. Markham, Commodities Regulation: Fraud, Manipula

and Other Claims (Westgroup 2001)
157

Table of Cases

Aaron v. SEC, 446 U.S. 680 (1980), nn.206, 313, 376–77

Abell v. Potomac Insurance Co., 858 F.2d 1104 (5th Cir. 1988), n.184

Ackerberg v. Johnson, 892 F.2d 132 (8th Cir. 1989), n.129

Adams v. Standard Knitting Mills, Inc., 623 F.2d 422 (6th Cir. 1980), n.312

Adler v. Klawans, 267 F.2d 840 (2d Cir. 1959), n.514

Advanced Computer Techniques Corp. v. Lecht, [1982 Transfer Binder] Fed. 

Rep. (CCH) ¶ 98,795 (S.D.N.Y. 1982), n.323

Affiliated Ute Citizens of Utah v. United States, 406 U.S. 128 (1972), nn.307, 

452, 459, 497

Agency Holding Corp. v. Malley-Duff & Associates, Inc., 483 U.S. 143 (1987)

Alabama Farm Bureau Mutual Casualty Co. v. American Fidelity Life Insuran

606 F.2d 602 (5th Cir. 1979), n.393

Amanda Acquisition Corp. v. Universal Foods Corp., 877 F.2d 496 (7th Cir. 

n.59

Ameribanc Investors Group v. Zwart, 706 F. Supp. 1248 (E.D. Va. 1989), n.2

American Bakeries Co. v. Pro-Met Trading Co., [1981 Transfer Binder] Fed. S

Rep. (CCH) ¶ 97,925 (N.D. Ill. 1981), n.357

Antinore v. Alexander & Alexander Service, Inc., 597 F. Supp. 1353 (D. Minn

n.220

Aries Aluminum Corp. v. King, 1999 U.S. App. LEXIS 24827 (6th Cir. Sept. 3

n.436

Armstrong v. McAlpin, 699 F.2d 79 (2d Cir. 1983), n.218

Arrow Distributing Corp. v. Baumgartner, 783 F.2d 1274 (6th Cir. 1986), nn

Atkins v. Tony Lama Co., 624 F. Supp. 250 (S.D. Ind. 1985), n.298

Austin v. Loftsgaarden, 675 F.2d 168 (8th Cir. 1982), n.196

Baffa v. Donaldson, Lufkin & Jenrette Securities Corp., 222 F.3d 52 (2d Cir. 2

n.233

Bailes v. Colonial Press, Inc., 444 F.2d 1241 (5th Cir. 1971), n.393

Bald Eagle Area School District v. Keystone Financial, Inc., 189 F.3d 321 (3d 

1999), n.436

Barker v. Henderson, Franklin, Starnes & Holt, 797 F.2d 490 (7th Cir. 1986)

Basic, Inc. v. Levinson, 485 U.S. 224 (1988), nn.300, 360, 369, 391, 395, 399

Bateman, Eichler, Hill Richards, Inc. v. Berner, 472 U.S. 299 (1985), n.190

Bath Industries v. Blot, 427 F.2d 97 (7th Cir. 1970), n.324

Beaumont v. American Can Co., 621 F. Supp. 484 (S.D.N.Y. 1984), n.330

Benisch v. Cameron, 81 F. Supp. 882 (S.D.N.Y. 1948), n.520
158

Berman v. Metzger, [1981 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 97,857 

1981), n.356

Bernstein v. Crazy Eddie, Inc., 702 F. Supp. 962 (E.D.N.Y. 1988), n.174

Blaich v. Employee Solutions, Inc., [1998 Transfer Binder] Fed. Sec. L. Rep. (

¶ 90,109, 1997 WL 842417 (D. Ariz. Nov. 21, 1997), n.230

Blau v. Lamb, 363 F.2d 507 (2d Cir. 1966), n.532

Blau v. Lehman, 368 U.S. 403 (1962), nn.510–11

Blau v. Mission Corp., 212 F.2d 77 (2d Cir. 1954), n.522

Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723 (1975), nn.388–91, 39

Board of Trade v. SEC, 187 F.3d 713 (7th Cir. 1999), n.49

Bosse v. Crowell Collier & MacMillan, 565 F.2d 602 (9th Cir. 1977), n.398

Bowman v. Legato Systems, Inc., 195 F.R.D. 655 (N.D. Cal. 2000), n.236

Bradshaw v. Jenkins, [1984 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 91,64

Wash. 1984), n.298

Brill v. Burlington Northern, Inc., 590 F. Supp. 893 (D. Del. 1984), n.344

Brockton Savings Bank v. Peat, Marwick, Mitchell & Co., 577 F. Supp. 1281 (

1983), n.33

Bryant v. Avado Brands, Inc. 187 F.3d 1271 (11th Cir. 1999), n.385

Buchholtz v. Renard, 188 F. Supp. 888 (S.D.N.Y. 1960), n.187

Buffo v. Graddick, 742 F.2d 592 (11th Cir. 1984), n.220

Buhler v. Audio Leasing Corp., 807 F.2d 833 (9th Cir. 1987), n.215

Burke v. Ruttenberg, 102 F. Supp. 2d 1280 (N.D. Ala. 2000), nn.232, 237

Burns v. Prudential Securities, 116 F. Supp. 2d 917 (D. Ohio 2000), n.270

Busch v. Carpenter, 827 F.2d 653 (10th Cir. 1987), nn.103, 106

Buttry v. Merrill Lynch, Pierce, Fenner & Smith, Inc. 410 F.2d 135 (7th Cir. 

n.547

Carpenter v. Harris, Upham & Co., 594 F.2d 388 (4th Cir. 1979), n.426

Carpenter v. United States, 484 U.S. 19 (1987), nn.39, 387, 447–50, 476, 478

Carrott v. Shearson Hayden Stone, Inc., 724 F.2d 821 (9th Cir. 1984), n.547

Castlerock Management Ltd. v. Ultralife Batteries, Inc., 68 F. Supp. 2d 480 (D

1999), nn.174, 195

Cattlemen’s Investment Co. v. Fears, 343 F. Supp. 1248 (W.D. Okla. 1972), n

Central Bank of Denver v. First Interstate Bank of Denver, 508 U.S. 959 (1993

nn.217, 430

Charles Chasins v. Smith, Barney, 438 F.2d 1167 (2d Cir. 1970), n.543

Charles Hughes & Co. v. SEC, 139 F.2d 434 (2d Cir. 1943), n.542

Chemetron Corp. v. Business Funds, Inc., 682 F.2d 1149 (5th Cir. 1982), n.3

Chemical Bank v. Arthur Andersen & Co., 726 F.2d 930 (2d Cir. 1984), n.30

Chemical Fund, Inc. v. Xerox Corp., 377 F.2d 107 (2d Cir. 1967), n.505
159

Cherednichenko v. Quarterdeck Corp., [1998 Transfer Binder] Fed. Sec. L. R

(CCH) ¶ 90,108 (C.D. Cal. 1997), n.92

Chiarella v. United States, 445 U.S. 222 (1980), nn.455–56, 460–62, 490

Chicago Mercantile Exchange v. SEC, 883 F.2d 537 (7th Cir. 1989), n.49

Chris-Craft Industries, Inc. v. Bangor Punta Corp., 426 F.2d 569 (2d Cir. 197

Chris-Craft Industries, Inc. v. Piper Aircraft Corp., 480 F.2d 341 (2d Cir. 197

Christy v. Cambron, 710 F.2d 669 (10th Cir. 1983), n.26

Chromalloy American Corp. v. Sun Chemical Corp., 611 F.2d 240 (8th Cir. 1

n.357

Citizens First Bancorp, Inc. v. Harreld, 559 F. Supp. 867 (W.D. Ky. 1982), n.3

Cleary v. Perfectune, 700 F.2d 774 (1st Cir. 1983), n.218

Coates v. Heartland Wireless Communications, Inc., 100 F. Supp. 2d 417 (N.

2000), n.383

Colby v. Klune, 178 F.2d 872 (2d Cir. 1949), n.508

Collins v. Signetics Corp., 443 F. Supp. 552 (E.D. Pa. 1977), n.186

Colonial Realty Corp. v. Bache & Co., 358 F.2d 178 (2d Cir. 1966), n.547

Commerford v. Olson, 794 F.2d 1319 (8th Cir. 1986), n.216

Conagra, Inc. v. Tyson Foods, Inc., 708 F. Supp. 257 (D. Neb. 1989), n.356

Condec Corp. v. Farley, 573 F. Supp. 1382 (S.D.N.Y. 1983), n.314

Corenco Corp. v. Schiavone & Sons, Inc., 488 F.2d 207 (2d Cir. 1973), n.323

Cort v. Ash, 422 U.S. 66 (1975), n.421

C.R.A. Realty Corp. v. Goodyear Tire & Rubber Co., 705 F. Supp. 972 (S.D.N

1989), n.507

Crookham v. Crookham, 914 F.2d 1027 (8th Cir. 1990), nn.209, 212, 373, 42

CTS v. Dynamics, 481 U.S. 69 (1987), n.59

Curran v. Merrill Lynch Pierce Fenner & Smith, 456 U.S. 353 (1982), n.421

Currie v. Cayman Resources Corp., 835 F.2d 780 (11th Cir. 1988), n.196

Cyber Media Group v. Island Mortgage Network, 183 F. Supp. 2d 559 (E.D.N

2002), n.442

Dahl v. Gardner, 583 F. Supp. 1262 (D. Utah 1984), n.223

Dalarne Partners, Ltd. v. Sync Research, Inc., 103 F. Supp. 2d 1209 (C.D. Cal

n.385

Dan River, Inc. v. Unitex Ltd., 624 F.2d 1216 (4th Cir. 1980), n.357

Dasho v. Susquehanna Corp., 380 F.2d 262 (7th Cir. 1967), n.392

Davis v. Avco Financial Services, Inc., 739 F.2d 1057 (6th Cir. 1984), n.202

Dietrich v. Bauer, 192 F.R.D. 119 (S.D.N.Y. 2000), n.239

Dirks v. SEC, 463 U.S. 646 (1983), nn.473–75, 491

Diskin v. Lomasney & Co., 452 F.2d 871 (2d Cir. 1971), n.194
160

District 65, UAW v. Harper & Row Publishers, 576 F. Supp. 1468 (S.D.N.Y. 1

n.297

Doran v. Petroleum Management Corp., 545 F.2d 893 (5th Cir. 1977), nn.12

Dottenheim v. Murchison, 227 F.2d 737 (5th Cir. 1955), nn.520, 522

Draney v. Wilson, Morton, Assaf & McElligott, 592 F. Supp. 9 (D. Ariz. 1984

Durham v. Kelly, 810 F.2d 1500 (9th Cir. 1987), n.215

Dyer v. Eastern Trust Co., 336 F. Supp. 890 (N.D. Me. 1971), n.330

Edgar v. MITE, 457 U.S. 624 (1982), n.59

Ellis v. Merrill Lynch & Co., 664 F. Supp. 979 (E.D. Pa. 1987), n.386

Energy Ventures, Inc. v. Appalachian Co., 587 F. Supp. 734 (D. Del. 1984), n

EP Medsystems, Inc. v. EchoCath, Inc., 255 F.3d 865 (3d Cir. 2000), n.384

Ernst & Ernst v. Hochfelder, 425 U.S. 185 (1976), nn.366, 375, 377, 433

Escott v. BarChris Construction Corp., 283 F. Supp. 643 (S.D.N.Y. 1968), n.1

Exchange National Bank v. Touche Ross & Co., 544 F.2d 1126 (2d Cir. 1976

Falls v. Fickling, 621 F.2d 1362 (5th Cir. 1980), n.398

Feder v. Martin Marietta Corp., 406 F.2d 260 (2d Cir. 1969), nn.512, 514

Feit v. Leaseco Data Processing Equipment Corp., 332 F. Supp. 544 (E.D.N.Y

n.177

Field v. Trump, 850 F.2d 938 (2d Cir. 1988), nn.344, 357

Financial General Bankshares v. Lance, [1978–1979 Transfer Binder] Fed. Sec

(CCH) ¶ 96,403 (D.D.C. 1978), n.323

Finkel v. Docutel/Olivetti Corp., 817 F.2d 356 (5th Cir. 1987), n.401

Florida State Board of Administration v. Brick, [1999–2000 Transfer Binder] F

L. Rep. (CCH) ¶ 90,758, 2000 WL 178416 (6th Cir. Feb. 8, 2000), n.231

Foltz v. U.S. News & World Report, Inc., 627 F. Supp. 1143 (D.D.C. 1986), n

Foster v. Jesup & Lamont Securities Co., Inc., 759 F.2d 838 (11th Cir. 1985)

Fradkin v. Ernst, 571 F. Supp. 829 (N.D. Ohio 1983), n.311

Franchard Corp., 42 S.E.C. 163 (1964), n.86

Franklin Savings Bank of New York v. Levy, 551 F.2d 521 (2d Cir. 1977), n.3

Frederiksen v. Poloway, 637 F.2d 1147 (7th Cir. 1981), n.26

Freeman v. Laventhol & Horwath, 915 F.2d 193 (6th Cir. 1990), n.402

Friedrich v. Bradford, 542 F.2d 307 (6th Cir. 1976), n.499

GAF Corp. v. Milstein, 453 F.2d 709 (2d Cir. 1971), n.323

Gaff v. FDIC, 814 F.2d 311 (6th Cir. 1987), n.210

Gaines v. Haughton, 645 F.2d 761 (9th Cir. 1981), n.86

G.A. Thompson & Co. v. Partridge, 636 F.2d 945 (5th Cir. 1981), n.215
161

Gateway Industries, Inc. v. Agency Rent A Car, Inc., 495 F. Supp. 92 (N.D. Ill

n.357

Gillette Co. v. RB Partners, 693 F. Supp. 1266 (D. Mass. 1988), n.311

Gilligan, Will & Co. v. SEC, 267 F.2d 461 (2d Cir. 1959), nn.114–15, 120

Global Intellicom, Inc. v. Thomson Kernaghan & Co., [1999 Transfer Binder

Sec. L. Rep. (CCH) ¶ 90,534, 1999 WL 544708 (S.D.N.Y. 1999), n.323

Goldberg v. Meridor, 567 F.2d 209 (2d Cir. 1977), n.392

Gould v. American-Hawaiian Steamship Co., 535 F.2d 761 (3d Cir. 1976), n.4

Greater Iowa Corp. v. McLendon, 378 F.2d 783 (8th Cir. 1967), n.209

Greebel v. FTP Software, Inc., 194 F.3d 185 (1st Cir. 1999), n.381

Green v. Ameritrade, Inc., 120 F. Supp. 795 (D. Neb. 2000), n.269

Green v. Occidental Petroleum Corp., 541 F.2d 1335 (9th Cir. 1976), n.405

Greenberg v. Boettcher & Co., 755 F. Supp. 776 (N.D. Ill. 1991), n.402

Greenstein v. Paul, 400 F.2d 580 (2d Cir. 1968), n.390

Griffin v. GK Intelligent Systems, Inc., 87 F. Supp. 2d 684 (S.D. Tex. 1999), n

Griffin v. GK Intelligent Systems, Inc., 196 F.R.D. 298 (S.D. Tex. 2000), n.24

Griffin v. PaineWebber Inc., [1999–2000 Transfer Binder] Fed. Sec. L. Rep. (C

¶ 90,762 (S.D.N.Y. 2000), n.174

Gund v. First Florida Banks, Inc., 726 F.2d 682 (11th Cir. 1984), n.525

Gustafson v. Alloyd Co., 513 U.S. 561 (1995), nn.173, 182

Gwozdzinsky v. Zell/Chilmark Fund, L.P., 156 F.3d 396 (2d Cir. 1998), n.52

Haas v. Wieboldt Stores, Inc., 725 F.2d 71 (7th Cir. 1984), n.294

Hackbart v. Holmes, 675 F.2d 1114 (10th Cir. 1982), n.378

Hahn v. Breed, 587 F. Supp. 1369 (S.D.N.Y. 1984), n.302

Hanly v. SEC, 415 F.2d 589 (2d Cir. 1969), n.546

Hanson Trust PLC v. SCM Corp., 774 F.2d 47 (2d Cir. 1985), n.330

Harmsen v. Smith, 693 F.2d 932 (9th Cir. 1982), n.434

Harris v. Union Electric Co., 787 F.2d 355 (8th Cir. 1986), n.404

Harrison v. Equitable Life Assurance Society, 435 F. Supp. 281 (W.D. Mich. 1

n.38

Henricksen v. Henricksen, 640 F.2d 880 (7th Cir. 1981), nn.216, 426

Herm v. Stafford, 663 F.2d 669 (6th Cir. 1981), n.434

Herman & MacLean v. Huddleston, 459 U.S. 375 (1983), nn.168, 433

Herskowitz v. Nutri/System, Inc., 857 F.2d 179 (3d Cir. 1988), n.311

Hill York Corp. v. American International Franchises, Inc., 448 F.2d 680 (5th 

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Hillsborough Investment Corp. v. SEC, 276 F.2d 665 (1st Cir. 1960), n.104

H.J., Inc. v. Northwestern Bell Telephone Co., 492 U.S. 229 (1989), n.443

H.K. Porter Co. v. Nicholson File Co., 482 F.2d 421 (1st Cir. 1973), n.363
162

Hochfelder v. Midwest Stock Exchange, 503 F.2d 364 (7th Cir. 1974), n.218

Hollinger v. Titan Capital Corp., 914 F.2d 1564 (9th Cir. 1990), nn.216, 426

Holstein v. UAL Corp., 662 F. Supp. 153 (N.D. Ill. 1987), n.330

Hooper v. Mountain States Securities Corp., 282 F.2d 195 (5th Cir. 1960), n.3

Hoover Co. v. Fuqua Industries, Inc., [1979–1980 Transfer Binder] Fed. Sec. 

(CCH) ¶ 97,107 (N.D. Ohio 1979), n.329

Hudson v. United States, 522 U.S. 93 (1997), n.494

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I. Meyer Pincus & Associates v. Oppenheimer & Co., 936 F.2d 759 (2d Cir. 1

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IIT v. Cornfeld, 619 F.2d 909 (2d Cir. 1980), n.222

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In re Advanta Corp. Securities Litigation, 180 F.3d 525 (3d Cir. 1999), n.384

In re Amino Acid Lysine Antitrust Litigation, 918 F. Supp. 1190 (N.D. Ill. 199

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In re Atlantic Financial Management, Inc., 784 F.2d 29 (1st Cir. 1986), nn.21

In re Baan Co. Securities Litigation, 186 F.R.D. 214 (D.D.C. 1999), n.236

In re Bankamerica Corp. Securities Litigation, 95 F. Supp. 2d 1044 (D. Mo. 20

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In re Burlington Coat Factory Securities Litigation, 114 F.3d 1410 (3d Cir. 19

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In re Cady, Roberts & Co., 40 S.E.C. 907 (1961), nn.454, 455, 457

In re Carl M. Loeb, Rhoades & Co., 38 S.E.C. 843 (1959), nn.64, 67

In re Carter–Wallace, Inc. Securities Litigation, 150 F.3d 153 (2d Cir. 1998), 

In re CBT Group PLC Securities Litigation, [2000-2001 Transfer Binder] Fed. 

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In re Data Access Sys., 843 F.2d 1537 (3d Cir. 1988), n.412
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In re Diamond Multimedia Systems, Inc. Securities Litigation, [1997 Transfer 

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In re F & M Distributors, Inc. Securities Litigation, [1999–2000 Transfer Bind

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In re Ikon Office Solutions, Inc. Securities Litigation, [1999–2000 Transfer Bi

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In re Sirrom Capital Corp. Securities Litigation, 84 F. Supp. 2d 933 (M.D. Ten

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164

In re Stratosphere Corp. Securities Litigation, 1 F. Supp. 2d 1096 (D. Nev. 19

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In re Ultrafem, Inc. Securities Litigation, 91 F. Supp. 2d 678 (S.D.N.Y. 2000), 

195

In re Union Carbide Corp. Consumer Products Business Securities Litigation, 

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Jacobson v. Peat, Marwick, Mitchell & Co., 445 F. Supp. 518 (S.D.N.Y. 1977)

Jensen v. Voyles, 393 F.2d 131 (10th Cir. 1968), n.390

J.I. Case Co. v. Borak, 377 U.S. 426 (1964), nn.287, 296, 420

Kademian v. Ladish Co., 792 F.2d 614 (7th Cir. 1986), n.306

Kaliski v. Hunt International Resources Corp., 609 F. Supp. 649 (N.D. Ill. 198

n.219

Kardon v. National Gypsum Co., 69 F. Supp. 512 (E.D. Pa. 1946), n.373

Kennecott Copper Corp. v. Curtis-Wright Corp., 584 F.2d 1195 (2d Cir. 1978

Kerbs v. Fall River Industries, Inc., 502 F.2d 731 (10th Cir. 1974), n.223

Kern County Land Co. v. Occidental Petroleum Corp., 411 U.S. 582 (1973),

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Ketchum v. Green, 557 F.2d 1022 (3d Cir. 1977), n.308

Kilmartin v. H.C. Wainwright & Co., 580 F. Supp. 604 (D. Mass. 1984), n.22

King v. Livent, 36 F. Supp. 2d 187 (S.D.N.Y. 1999), n.232

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Kirkpatrick v. J.C. Bradford & Co., 827 F.2d 718 (11th Cir. 1987), n.402

Kline v. First Western Government Securities, Inc., 24 F.3d 480 (3d Cir. 1994
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Kline v. Henrie, 679 F. Supp. 464 (M.D. Pa. 1988), n.38

Klock v. Lehman Bros. Kuhn Loeb, Inc., 584 F. Supp. 210 (S.D.N.Y. 1984), n

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Krause v. Perryman, 827 F.2d 346 (8th Cir. 1987), n.211

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Kubik v. Goldfield, 479 F.2d 472 (3d Cir. 1973), n.136

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Landreth Timber Co. v. Landreth, 471 U.S. 681 (1985), n.27

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422

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Leitner v. Kuntz, 655 F. Supp. 725 (D. Utah 1987), n.37

Letizia v. Prudential Bache Securities, Inc., 802 F.2d 1185 (9th Cir. 1986), n.2

Levin v. Marder, 343 F. Supp. 1050 (W.D. Pa. 1972), n.38

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Lopez v. Dean Witter Reynolds, Inc., 591 F. Supp. 581 (N.D. Cal. 1984), n.54

Luce v. Edelstein, 802 F.2d 49 (2d Cir. 1986), n.93

Ludlow Corp. v. Tyco Laboratories, Inc., 529 F. Supp. 62 (D. Mass. 1981), n.

Mader v. Armel, 402 F.2d 158 (6th Cir. 1968), n.392

Madison Consultants v. FDIC, 710 F.2d 57 (2d Cir. 1983), n.396

Magida v. Continental Can Co., Inc., 231 F.2d 843 (2d Cir. 1956), n.524

Maher v. Durango Metals, 144 F.3d 1302 (10th Cir. 1998), n.424

Maldonado v. Flynn, 597 F.2d 789 (2d Cir. 1979), n.319

Mansbach v. Prescott, Ball & Turben, 598 F.2d 1017 (6th Cir. 1979), n.396

Marbury Management, Inc. v. Kohn, 629 F.2d 705 (2d Cir. 1980), nn.216, 42
166

Marine Bank v. Weaver, 455 U.S. 551 (1982) nn.21, 33

Martin v. Pepsi-Cola Bottling Co., 639 F. Supp. 931 (D. Md. 1986), n.222

Mayer v. Oil Field Systems Corp., 803 F.2d 749 (2d Cir. 1986), n.198

McNamara v. Bre–X Minerals, Ltd., 57 F. Supp. 2d 396 (E.D. Tex. 1999), n.38

Medtox Scientific, Inc. v. Morgan Capital L.L.C., 50 F. Supp. 2d 896 (D. Minn

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Mendell v. Greenberg, 612 F. Supp. 1543 (S.D.N.Y. 1985), n.302

Merrill Lynch, Pierce, Fenner & Smith, Inc. v. Bobker, 808 F.2d 930 (2d Cir. 

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Metge v. Baehler, 762 F.2d 621 (8th Cir. 1985), n.431

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Mills v. Electric Auto-Lite Co., 396 U.S. 375 (1970), nn.296, 309

Mills v. Electric Auto-Lite Co., 552 F.2d 1239 (7th Cir. 1977), n.317

Mishkin v. Peat, Marwick, Mitchell & Co., 658 F. Supp. 271 (S.D.N.Y. 1987)

Morales v. Freund, 163 F.3d 763 (2d Cir. 1999), n.504

Morales v. Lukens, Inc., 593 F. Supp. 1209 (S.D.N.Y. 1984), n.532

Morrison Knudsen Corp. v. Heil, 705 F. Supp. 497 (D. Idaho 1988), n.356

Morrissey v. County Tower Corp., 717 F.2d 1227 (8th Cir. 1983), n.306

Moss v. Morgan Stanley, Inc., 719 F.2d 5 (2d Cir. 1983), nn.457, 500

Musick, Peeler & Garrett v. Employers Insurance of Wausau, 508 U.S. 286 (1

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National Bank v. All American Assurance Co., 583 F.2d 1295 (5th Cir. 1978)

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Nice Systems, Ltd. Securities Litigation, 188 F.R.D. 206 (D.N.J. 1999), n.236

Northern Kentucky Bank & Trust v. Rhein, [1984–1985 Transfer Binder] Fed

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167

Novak v. Kasaks, 216 F.3d 300 (2d Cir. 2000), nn.380, 383, 384

Newcome v. Esrey, 862 F.2d 1099 (4th Cir. 1988), n.211

Nutis v. Penn Merchandising Corp., 610 F. Supp. 1573 (E.D. Pa. 1985), n.302

Oliff v. Exchange International Corp., 669 F.2d 1162 (7th Cir. 1980), n.525

Osborne v. Mallory, 86 F. Supp. 869 (S.D.N.Y. 1949), n.373

Palumbo v. Deposit Bank, 758 F.2d 113 (3d Cir. 1985), n.297

Paul F. Newton & Co. v. Texas Commerce Bank, 630 F.2d 1111 (5th Cir. 198

nn.216, 426

Pelletier v. Stuart-James Co., 863 F.2d 1550 (11th Cir. 1989), nn.386, 548

Pinter v. Dahl, 486 U.S. 622 (1988), nn.183, 186, 188–89, 191–92

Piper v. Chris-Craft Industries, Inc., 430 U.S. 1 (1977), n.362

Polaroid v. Disney, 862 F.2d 987 (3d Cir. 1988), nn.354, 365

Police Retirement System of St. Louis v. Midwest Investment Advisory Service

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Popkin v. Dingman, 366 F. Supp. 534 (S.D.N.Y. 1973), n.513

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Press v. Chemical Investment Services Co., 166 F.3d 529 (2d Cir. 1999), n.38

P. Schoenfeld Asset Management LLC v. Cendant Corp., 47 F. Supp. 2d 546 (

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Quantum Overseas, N.V. v. Touche Ross & Co., 663 F. Supp. 658 (S.D.N.Y. 1

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Quincy Co-operative Bank v. A.G. Edwards & Sons, Inc., 655 F. Supp. 78 (D. 

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Raftery v. Mercury Financial Co., No. 97C624, 1997 WL 529553 (N.D. Ill. Au

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Rankow v. First Chicago Corp., 870 F.2d 356 (7th Cir. 1989), n.378

Ray v. Lehman Bros. Kuhn Loeb, Inc., 624 F. Supp. 16 (N.D. Ga. 1984), n.36

Reingold v. Deloitte Haskins & Sells, 599 F. Supp. 1241 (S.D.N.Y. 1984), n.4

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Rhodes v. Omega Research Inc., 38 F. Supp. 2d 1353 (S.D. Fla. 1999), nn.174

Richter v. Achs, 174 F.R.D. 316 (S.D.N.Y. 1997), n.257

Rochez Bros. v. Rhoades, 527 F.2d 880 (3d Cir. 1975), n.222

Romani v. Shearson Lehman Hutton, 929 F.2d 875 (1st Cir. 1991), n.93
168

Rondeau v. Mosinee Paper Corp., 422 U.S. 49 (1975), n.358

Roots Partnership v. Land’s End, Inc., 965 F.2d 1411 (7th Cir. 1992), nn.88, 

Rosenberg v. XM Ventures, 129 F. Supp. 2d 681 (D. Del. 2001), n.504

Ross v. A.H. Robins Co., 607 F.2d 545 (2d Cir. 1979), n.372

Rubin v. United States, 449 U.S. 424 (1981), n.396

Rubinstein v. Collins, 20 F.3d 160 (5th Cir. 1994), n.93

Ruckle v. Roto American Corp., 339 F.2d 24 (2d Cir. 1964), n.393

Rudolph v. Arthur Andersen & Co., 800 F.2d 1040 (11th Cir. 1986), n.221

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Sakhrani v. Brightpoint, Inc., 78 F. Supp. 2d 845 (S.D. Ind. 1999), n.237

San Francisco–Oklahoma Petroleum Exploration Corp. v. Carstan Oil Co., 76

962 (10th Cir. 1985), n.215

Sanders v. John Nuveen & Co., 619 F.2d 1222 (7th Cir. 1980), nn.197, 201

Sanders v. Robinson Humphrey/American Express, Inc., 634 F. Supp. 1048 (N

1986), n.402

Sanders v. Thrall Car Manufacturing Co., 730 F.2d 910 (2d Cir. 1984), n.357

Santa Fe Industries, Inc. v. Green, 430 U.S. 462 (1977), n.366

Sargent v. Genesco, Inc., 492 F.2d 750 (5th Cir. 1974), n.390

Schlick v. Penn-Dixie Cement Corp., 507 F.2d 374 (2d Cir. 1974), n.308

Schlifke v. Seafirst Corp., 866 F.2d 935 (7th Cir. 1989), n.211

Schnell v. Schnall, 550 F. Supp. 650 (S.D.N.Y. 1982), n.356

Schreiber v. Burlington Northern, Inc., 472 U.S. 1 (1985), nn.351–53, 366

Scientex Corp. v. Kay, 689 F.2d 879 (9th Cir. 1982), n.507

Scotch v. Moseley, Hallgarten, Eastabrook & Weeden, Inc., 709 F. Supp. 95 (

1988), n.186

Seaboard World Airlines, Inc. v. Tiger International, Inc., 600 F.2d 355 (2d C

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(CCH) ¶ 90,902 (E.D.N.Y. 2000), n.238

Sears v. Likens, 912 F.2d 889 (7th Cir. 1990), n.195

SEC v. Adler, 137 F.3d 1325 (11th Cir. 1998), n.480

SEC v. American Board of Trade, Inc., 830 F.2d 431 (2d Cir. 1987), n.488

SEC v. American International Savings & Loan Ass’n, 199 F. Supp. 341 (D. M

1961), n.98

SEC v. Beisinger Industries Corp., 552 F.2d 15 (1st Cir. 1977), n.487

SEC v. Boesky, [1986–1987 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 92,99

(S.D.N.Y. 1986), n.492

SEC v. Capital Gains Research Bureau, Inc., 375 U.S. 180 (1963), n.545
169

SEC v. Carter Hawley Hale Stores, Inc., 760 F.2d 945 (9th Cir. 1985), n.330

SEC v. Certain Unknown Purchasers of Common Stock & Call Options of Sa

International Corp., [1985–1986 Transfer Binder] Fed. Sec. L. Rep. (CCH

¶ 92,484 (S.D.N.Y. 1986), n.492

SEC v. Chinese Consolidated Benevolent Association, 120 F.2d 738 (2d Cir. 1

n.110

SEC v. Coffey, 493 F.2d 1304 (6th Cir. 1974), nn.218–22

SEC v. Cosmopolitan Investment Funding Co., Litigation Release No. 7366 (S

23, 1976), n.489

SEC v. Falstaff Brewing Corp., 629 F.2d 62 (D.C. Cir. 1980), n.320

SEC v. First City Financial Corp., 688 F. Supp. 705 (D.D.C. 1988), n.323

SEC v. First Jersey Securities, Inc., [1984–1985 Transfer Binder] Fed. Sec. L. 

(CCH) ¶ 91,923 (S.D.N.Y. 1985), n.487

SEC v. Florida Bank Fund, [1978 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 

(M.D. Fla. 1978), n.485

SEC v. Glenn W. Turner Enterprise, Inc., 474 F.2d 476 (9th Cir. 1973), n.24

SEC v. Guild Films Co., 279 F.2d 485 (2d Cir. 1960), n.113

SEC v. Jos. Schlitz Brewing Co., 452 F. Supp. 824 (E.D. Wis. 1978), n.86

SEC v. Kidder Peabody & Co., 19 Sec. Reg. & L. Rep. (BNA) 811 (S.D.N.Y. 1

n.492

SEC v. Manor Nursing Centers, Inc., 458 F.2d 1082 (2d Cir. 1972), nn.170, 4

SEC v. Mattel, Inc., [1974–1975 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 9

(D.D.C. 1974), n.484

SEC v. May, 134 F. Supp. 247 (S.D.N.Y. 1955), n.315

SEC v. McDonald Investment Co., 343 F. Supp. 343 (D. Minn. 1972), n.102

SEC v. National Student Marketing Corp., 457 F. Supp. 682 (D.D.C. 1978), n

SEC v. Ralston Purina Co., 346 U.S. 119 (1953), nn.123–24

SEC v. R.J. Allen & Associates, Inc., 386 F. Supp. 866 (S.D. Fla. 1974), n.488

SEC v. Rogers, 790 F.2d 1450 (9th Cir. 1986), n.221

SEC v. Savoy Industries, Inc., 587 F.2d 1149 (D.C. Cir. 1978), n.326

SEC v. Texas Gulf Sulphur Co., 401 F.2d 833 (2d Cir. 1968), nn.386, 458

SEC v. United Benefit, 387 U.S. 202 (1967), n.61

SEC v. United States Financial Group, Inc., 474 F.2d 354 (9th Cir. 1973), n.4

SEC v. VALIC, 359 U.S. 65 (1959), n.61

SEC v. Variable Annuity Life Insurance Co., 359 U.S. 65 (1959), n.99

SEC v. Vaskevitch, 657 F. Supp. 312 (S.D.N.Y. 1987), n.488

SEC v. Vesco, 571 F.2d 129 (2d Cir. 1978), n.484

SEC v. Wall Street Publishing Institute, Inc., 851 F.2d 365 (D.C. Cir. 1988),

nn.207–08
170

SEC v. Westgate-California Corp., Litigation Release No. 6142, 3 SEC Docket 

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SEC v. W.J. Howey Co., 328 U.S. 293 (1946), nn.22–23

SEC v. Yun, 148 F. Supp. 2d 1287 (M.D. Fla. 2001), n.464

SEC v. Zandford, 122 S. Ct. 1899 (2002), n.387

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The Federal Judicial Center

Board

The Chief Justice of the United States, Chair

Judge Pierre N. Leval, U.S. Court of Appeals for the Second Circuit

Judge Pauline Newman, U.S. Court of Appeals for the Federal Circuit

Judge Robert J. Bryan, U.S. District Court for the Western District of Washington

Chief Judge James A. Parker, U.S. District Court for the District of New Mexico

Judge Sarah S. Vance, U.S. District Court for the Eastern District of Louisiana

Chief Judge Robert F. Hershner, Jr., U.S. Bankruptcy Court for the Middle District of G

Magistrate Judge Robert B. Collings, U.S. District Court for the District of Massachuset

Leonidas Ralph Mecham, Director of the Administrative Office of the U.S. Courts

Director

Judge Fern M. Smith

Deputy Director

Russell R. Wheeler

About the Federal Judicial Center

The Federal Judicial Center is the research and education agency of the federal judicia

was established by Congress in 1967 (28 U.S.C. §§ 620–629), on the recommenda

Judicial Conference of the United States.

By statute, the Chief Justice of the United States chairs the Center’s Board, whi

cludes the director of the Administrative Office of the U.S. Courts and seven judges 

the Judicial Conference.

The Director’s Office is responsible for the Center’s overall management and it

with other organizations. Its Systems Innovation & Development Office provides tec

port for Center education and research. Communications Policy & Design edits, pro

distributes all Center print and electronic publications, operates the Federal Judicial 

Network, and through the Information Services Office maintains a specialized library 

of materials on judicial administration.

The Judicial Education Division develops and administers education programs an

for judges, career court attorneys, and federal defender office personnel. These inclu

tion seminars, continuing education programs, and special-focus workshops.

The Court Education Division develops and administers education and training 

and services for nonjudicial court personnel, such as those in clerks’ offices and pro

pretrial services offices, and management training programs for court teams of judge

agers.

The Research Division undertakes empirical and exploratory research on fede

processes, court management, and sentencing and its consequences, often at the req

Judicial Conference and its committees, the courts themselves, or other groups in 

system.

The Federal Judicial History Office develops programs relating to the history of t

branch and assists courts with their own judicial history programs.

The Interjudicial Affairs Office provides information about judicial improvemen

and others from foreign countries and identifies international legal developments of i

to personnel of the federal courts.