October 18

Will the Spitzer Wall Ever Come Down?

Since the global settlement of various enforcement actions in the investment banking industry in 2003 and 2004 timeframe (known as the “Spitzer Settlement” or “Global Settlement”), the industry has maintained a Chinese wall between equity research and investment banking functions. The purpose of the firewall is to prevent firms from putting out misleading research in favor of firm clients.

April 13

A Primer on the JOBS Act

There has been a lot of press recently about the JOBS Act and what it means for small investors and start-ups. The official short title of the act is the “Jumpstart Our Business Startups Act.” The main purpose of the Act is to stimulate business start-ups. Will it work? That depends on the SEC’s interpretation of the intent of the Act and what types of rules it imposes to carry out the Act while fulfilling its duty to protect investors.

What follows is a summary of the JOBS Act.

There are six main sections of the Act:

Title I – Reopening American Capital Markets to Emerging Growth Companies

Title II – Access to Capital for Job Creators

Title III – Crowdfunding

Title IV – Small Company Capital Formation

Title V – Private Company Flexibility and Growth

Title VI– Capital Expansion

Title VII – Outreach on Changes to the Law

Title I –Reopening American Capital Markets to Emerging Growth Companies (IPO On-ramp)

The first section of the Act strips away some of the investor protections that have been added over the years for a category of companies defined as “emerging growth companies.” Under the Act, during a company’s first five years as a public company or before its first year with total annual gross revenues of less than $1 billion (to be indexed for inflation every five years), whichever period is shorter, it is known as an “emerging growth company.” This definition relates back to include all such companies that have gone public since December 8, 2011.

A company loses its “emerging growth company” status if it issues more than $1 billion in non-convertible debt during a 3-year period or it meets the definition of a “large accelerated filer” under the Code of Federal Regulations (Title 17, Section 240.12b-2).

Removal of shareholder approval of executive compensation. Under the law before the JOBS Act, the Securities & Exchange Commission had the authority to exclude small companies from complying with the requirement that shareholders approve executive compensation every three years. The JOBS Act specifically exempts “emerging growth companies” from complying with the shareholder approval of executive compensation rule.

Exemption from Compensation Disclosure. The Securities Exchange Act requires public companies to disclose annually the compensation of certain executives as compared to the financial performance of the issuer. The JOBS Act exempts emerging growth companies from this requirement.

Financial Disclosures and Accounting Pronouncements. Emerging growth companies only need to present 2 years of audited financial statements for the registration statement for an initial public offering.

Emerging growth companies may not be required to comply with new or revised financial accounting standards until nonpublic companies are required to comply with those standards.

Removal of Internal Controls Audit. Emerging growth companies are exempt from the internal controls audit requirement of the Sarbanes-Oxley Act of 2002. Thus, the public accounting firm that prepares the companies audit report does not need to attest to and report on management’s assessment of the company’s internal controls.

Lower Auditing Standards. The Act takes away the discretion previously afforded to the Public Company Accounting Oversight Board to require mandatory audit firm rotation or supplementation to the auditor’s report. Emerging growth companies are specifically exempted from any rules concerning these matters and are also exempt from any additional rules adopted by the board unless the SEC determines that the application of the additional requirements is necessary or appropriate in the public interest.

The “This is Not a Pipe” Provision Otherwise Titled “Availability of Information about Emerging Growth Companies.” (Section 105 of the Act). This part of the Act eviscerates the research/investment bank firewall established by the Spitzer-banking industry settlement of 2003. If a broker provides a potential investor with a research report about an emerging growth company that is the subject of an IPO, the provision of that information is not considered to be an offer to sell that company’s stock, even if the broker will participate in the IPO. Thus, even if the report is clearly a suggestion that the investor should consider buying stock in the company, the law no longer deems it to be such so that the protections afforded a stock offering do not apply. UPDATE (9/12): The SEC has issued FAQs that state that the JOBS Act does not affect the Spitzer “Global Settlement” — http://www.sec.gov/divisions/marketreg/tmjobsact-researchanalystsfaq.htm

The Act also provides that neither the SEC nor any national securities association registered under section 15A (e.g. FINRA) may impose regulations restricting, based on a person’s job function (such as research v. banking), who at a broker-dealer may arrange for communications between a securities analyst and a potential investor. Nor may the SEC or FINRA restrict a securities analyst from participating in communications with management of an emerging growth company that are also attended by another non-analyst member of the broker-dealer (i.e. banker).

No More Quiet Period for Emerging Growth Companies. Prior to or following the filing of a registration statement with respect to a securities offering, an emerging growth company or anyone authorized to act on its behalf may engage in communications with potential investors that are qualified institutional buyers or institutions that are accredited investors. After the IPO, neither the SEC nor any national securities association registered under 15A of the Securities Exchange Act of 1934 (i.e. FINRA) may adopt rules preventing any broker/dealer from issuing research or making a public appearance concerning the company.

Submission of Confidential Draft Registration Statements. Prior to an IPO, an emerging growth company may submit its registration statement to the SEC in draft form for review so long as the initial confidential submission and all amendments are publicly filed not later than 21 days before the road show.

Tick Size Study. Within 90 days of the enactment of the Act, the SEC shall submit a report on the findings of a study examining the transition to trading and quoting securities in one penny increments. If the SEC determines that emerging growth companies should be traded and quoted using a minimum greater than one cent, the SEC may, by rule, no later than 180 days after the enactment of the Act, designate a minimum increment that is greater than one penny and less than ten cents for quoting and trading of securities.

Emerging Growth Companies May Opt in to Greater Regulation. An emerging growth company may choose to forgo any exemption provided by the Act, but if an emerging growth company chooses to comply with new or revised financial accounting standards required of all non-emerging growth company issuers, it must make this choice when it is first required to file a registration statement, periodic report or other report with the SEC under Section 13 of the Securities Exchange Act. It must comply with all such standards if it opts to comply with any of them and it must continue to comply with the standards for as long as it remains an emerging growth company.

SEC must undertake a review of Regulation S-K. The SEC is required to analyze current registration requirements and to issue a report including specific recommendations on how to streamline the registration process.

Title II – Access to Capital for Job Creators

This section of the law provides that private offerings made to accredited investors or qualified institutional investors may be generally advertised so long as the company offering the securities takes reasonable steps to verify that the purchasers of the securities are accredited investors or qualified institutional investors.

Although this section refers to the companies taking advantage of this rule as “job creators,” nothing in the new rule requires the company to use the capital acquired in reliance on the rule for job creation.

No general solicitation nor advertising prohibition. The Act requires the SEC to revise its rules to provide that the prohibition against general solicitation or general advertising does not apply to offers and sales made pursuant to section 230.506, provided that all purchasers of the securities are accredited investors. The rules to be issued by the SEC must require the issuer to take reasonable steps to verify that the purchasers of the securities are accredited investors.

No general solicitation nor advertising prohibition for Section 230.144A exemption. The Act requires the SEC to revise subsection (d)(1) of Section 230.144A of title 17, Code of Federal Regulations, to provide that securities sold under the private sale exemption may be offered to persons other than qualified institutional buyers, including by means of general solicitation or advertising, so long as the seller reasonably believes that the sale is to a qualified institutional buyer.

Title III – Crowdfunding

The short title of this section is “Capital Raising Online While Deterring Fraud and Unethical Non-Disclosure Act of 2012” or the “CROWDFUND Act.”

The CROWDFUND Act exempts certain small transactions of securities from the registration statement requirement of Section 5 of the Securities Act of 1933.

The CROWDFUND exemption applies if the aggregate amount of securities sold to all investors is not more than $1 million and if the aggregate amount sold to any one investor is not greater than (1) $2,000 or 5 % of the investor’s annual income or net worth if the annual income or net worth of the investor is less than $100,000 or (2) 10 % of the annual income or net worth of the investor, not to exceed $100,000, if either the annual income or net worth of the investor is equal to or more than $100,000. The exemption only applies if the transaction is conducted through a broker or funding portal that complies with new registration and disclosure requirements, including certain measures meant to reduce fraud, and the company selling the securities files certain information with the SEC, including details on ownership, nature of the business, financial condition of the business, intended use of the proceeds, target offering amount, etc.

Section 12(b) liability specifically reaches offers or sales of securities made pursuant to the CROWDFUND exception.

Securities purchased pursuant to the CROWDFUND exemption may not be transferred for one year after the date of purchase unless the transfer is to the issuer, to an accredited investor, is part of a registered offering, or is made to a family member of the purchaser or equivalent. The SEC may impose additional limitations on transfers by rule.

Companies must be organized under and subject to the laws of a state or territory of the United States or the District of Columbia to take advantage of the CROWDFUND exemption.

Investment companies may not use the CROWDFUND exemption to sell securities.

Within 270 days of the Act’s enactment, the SEC must issue rules for the protection of investors to carry out sections 4(6) and 4A of the Securities Act of 1933, created by the CROWDFUND exemption.

Shareholders who hold securities pursuant to the CROWDFUND exemption are excluded when calculating the number of shareholders to determine the applicability of Section 12(g) of the Securities Exchange Act, which requires that an issuer file a registration statement once certain shareholder caps are met.

Funding portals are exempted from registering as a broker or dealer under Section 15(a)(1) as long as certain requirements are met.

The SEC must issue rules to carry out this new legislation not later than 270 days after the enactment of the Act.

The rule also limits state regulation of registered funding portals.

Title IV – Small Company Capital Formation

The SEC previously had authority to exempt companies issuing less than $5 million in securities from enforcement under the Securities Act of 1933. The Act requires the SEC to create a new class of securities exempt from the Securities Act.

Small Company Capital Exemption

  • Aggregate offering of all securities offered and sold within the prior 12-month period based on the exemption shall be no greater than $50 million.
  • Securities may be offered and sold publicly.
  • The securities cannot be restricted securities.
  • 12(a)(2)’s civil liability shall apply.
  • Interest in the offering may be solicited prior to the filing of any offering statement, on terms and conditions that the SEC prescribes.
  • Audited financial statements may be required to be filed with the SEC.
  • The SEC may impose other terms, conditions, or requirements that it determines to be necessary in the public interest for the protection of investors.
  • Only equity securities, debt securities, and debt securities convertible or exchangeable to equity interests, including any guarantees of such securities may be exempted under this provision.
  • The SEC may also require companies using this exemption to make certain periodic disclosures.

Within 3 months of enactment of the Act, the Comptroller General is required to conduct a study on the impact of state laws regulating securities offerings and send a report on the study to the Committee on Financial Services of the House of Representatives and the Committee on Banking, Housing, and Urban Affairs of the Senate.

Title V – Private Company Flexibility and Growth

This provision allows a company to have a greater number of investors before it is required to register as a public company.

Previously, within 120 days after the last day of a fiscal year in which a company has total assets greater than $10 million dollars and a class of security (other than exempted securities) held by 500 or more people, the company would be required to file a registration statement.

Under the JOBS Act, a company does not need to file a registration statement until it has a class of equity security held of record by either 2,000 people or 500 people who are not accredited investors.

Securities held by employees pursuant to an employee compensation plan in transactions exempted from the registration requirements of section 5 of the Securities Act are not included in the definition of “held of record.”

The SEC is required to revise the definition of “held of record” to implement this amendment and is also required to adopt safe harbor provisions in connection with the definition.

The SEC is also required to determine if new enforcement tools are needed to enforce against improper evasion of the registration requirement by the holding of securities by exempt investors for the benefit of others.

Title VI – Capital Expansion

This provision provides that companies issuing securities that are either banks or bank holding companies do not need to register until 120 days after the last day of its first fiscal year on which the issuer has total assets exceeding $10 million and a class of equity security (other than exempted security) held of record by 2,000 or more persons. There is no requirement that banks or bank holding companies register if its securities are held by 500 or more investors who are not accredited.

For banks or bank holding companies, registration is terminated within 90 days of the submission of a certification that the number of investors is less than 1200. For every other type of entity, registration may only be terminated if the number of investors drops to less than 300.

The SEC is required to issue final regulations to implement this provision within 1 year of the date of enactment.

Title VII – Outreach on Changes to the Law

The SEC shall provide outreach to inform small- and medium-sized businesses, women-owned businesses, veteran-owned businesses, and minority-owned businesses of the changes made by this Act.


**Note: This is a summary. If you need specific advice about your situation, contact Felicello Law or another lawyer.**

March 8

Key Lessons From the NYC Bar Association’s “How-to” of Successful Motion Practice CLE Panel

On March 5th, Jane Chuang and Rosanne Felicello co-chaired an event at the NYC Bar Association on the “how-to” of successful motion practice. The panelists included Justice Barbara R. Kapnick, NY Supreme Commecial Division, NY County; Judge Jed S. Rakoff, U.S. District Court, Southern District of New York; Acting Justice Salliann Scarpulla, NY Supreme, NY County; and Peter Tomlinson, partner at Patterson Belknap Webb & Tyler LLP. Here are the key takeaways:

Motions to Dismiss

What you should consider before bringing one:

  1. Do you have grounds? If you make the motion and win, does the whole case go away? If you have grounds to make a partial motion to dismiss, will the value of the case change if you are successful? If you do not have grounds to make a complete dismissal of the case or substantially reduce the value of the case, you should consider not making a motion to dismiss.
  2. What court are you in? As a general rule of thumb, if you are in state court you are relatively less likely to be successful in getting out of the case with a motion to dismiss than if you are in federal court. First, the legal standards for a motion to dismiss are different in state and federal court. It is relatively more difficult to state a claim in federal court and a motion to dismiss may have a greater chance of prevailing. In state court, however, the standard on a motion to dismiss is more heavily weighted in favor of the plaintiff having the opportunity to develop its case during discovery. Second, the relative size of the court’s dockets should influence your decision regarding whether to bring a motion to dismiss. For example, if your case is in a general part in state court where the average docket is about 900 cases, you should not bother bringing a motion to dismiss if the main purpose for doing so is to educate the judge about your case. The caseloads in state court are too large for there to be much value in bringing a motion simply to educate the judge. More likely, you will end up annoying the judge if she feels that you have wasted her time. On the other hand, according to Judge Rakoff, if you are in federal court, a desire to educate the judge may be a valid reason to bring a motion to dismiss, if you have a colorable argument for relief, because the judge has more time available to devote to each case.
  3. What claim are you trying to dispose of? As a general rule, it is more difficult to dispose of a fraud claim on a motion to dismiss
  4. Is there a tactical benefit to bringing the motion? In NY state court, pursuant to CPLR § 3214(b)  a motion to dismiss automatically stays discovery unless the court orders otherwise. In practice, discovery is usually stayed pending resolution of the motion. Rule 11(d) of the Rules of the Commercial Division requires the court to make an affirmative decision about whether discovery will be stayed. It states that “court will determine . . . whether discovery will be stayed . . . pending the determination of any dispositive motion.”  The federal rules do not provide for an automatic stay of discovery pending resolution of a motion to dismiss, except for securities law cases where an automatic stay applies by statute.
  5. Will the plaintiff be able to re-plead to cure the defects that you point out? If the plaintiff will be able to remedy the defects with the complaint by re-pleading, you may want to hold off on bringing your motion to dismiss.  If, however, you are confident that the plaintiff cannot cure the defects, you should consider bringing the motion to dismiss.

What types of documents you can submit with your MTD:

You can submit admissible evidence in the form of affidavits or documents with your motion to dismiss. Although the rules in both federal and state court allow them to be converted to summary judgment motions, in practice judges rarely convert them. Justice Kapnick said that she almost doesn’t ever convert motions to dismiss and Judge Rakoff noted that he only converted a motion to dismiss to a motion for summary judgment when he was dealing with a statute of limitations issue.

Motions to Re-argue/Re-consider

Don’t bring a motion for re-argument or re-consideration unless you are pointing out an error in calculation. It is more cost-effective to simply appeal because is extremely unlikely that the judge is going to change his mind. And your new motion merely gives the judge an opportunity to improve the record to support his initial ruling, especially where the motion for re-argument or re-consideration is an (improper) attempt to add something to the record.

Motions for preliminary relief

  1. Think about what you are asking for. Judges understand that an injunction is extraordinary relief and they do not wield the power of an injunction without considering the harm that may be inflicted on the defendant. For instance, state court judges are loathe to shut down a business and will only do so if it is the only way of effecting the relief, there is no other way to avoid the ongoing harm to the plaintiff, and the plaintiff posts a significant bond. In other words, injunctions are not given out lightly.
  2. Notice is generally required. In state court, notice is required by statute except in very limited circumstances. In federal court, notice is usually required by practice.
  3. In federal court, you must post a bond for preliminary relief. In state court, judges have discretion to require the party seeking preliminary relief to post a bond.
  4. There are exceptions. In state court, Yellowstone injunctions are routinely granted to enjoin a commercial landlord from evicting a commercial tenant while the court determines if the tenant is in breach of the lease. Under maritime law, you can seize a ship in port on a fairly modest showing.

Motions to compel

The clear message from the panel was that motions to compel are the least-favored motions. Overbroad discovery requests will not be sustained. In state court, discovery disputes are almost always resolved by conference. In the commercial division of state court and in federal court, the rules require that the parties meet and confer before bringing a motion to compel.  In federal court, the Rule 26 conference at the beginning of the case sets the discovery that will be allowed. Many federal judges send discovery issues to their magistrate judges.

Because judges hate dealing with these motions and they generally turn on specific facts, it is better to resolve these issues orally either at a scheduled conference or via a teleconference to the court.

Summary judgment motions

If the opposing side can point to a dispute of a material fact, the summary judgment motion is a waste of time. Some cases are not winnable by summary motion. Don’t waste the court’s time making a SJ motion if there are issues of fact. In general, tort cases are less amenable to being resolved a motion for summary judgment than a contract case. If you are making a summary judgment motion, be sure to submit the evidence necessary for the court to rule in your favor. For instance, if you are filing a summary judgment motion in a contract case, be sure to attach a copy of the contract to the motion.

Motions in limine

Most judges allow motions in limine to deal with across the board issues regarding particular evidence, such as any mention of an ongoing investigation into the same subject matter by a third party. You do not need to use a motion in limine to exclude the evidence, you can ask that it be excluded at trial instead, but if you do you risk the cat getting out of the bag.

You should not make a motion for summary judgment in the guise of a motion in limine. Motions in limine should deal with evidentiary issues, not substantive issues.

Post-trial motions

Perhaps not surprisingly, judges dislike post-trial motions. It is easier to be successful on a post-trial motion if you are seeking to reduce a jury award rather than throw it out. Judges are not very receptive to motions to set aside the verdict. Further, if the award amount was determined by the bench, then there is little reason to make the motion.

Motions for sanctions

Judges do not often grant sanctions. Sometimes, you may be able to recover costs, but judges generally lean towards allowing zealous representation. If you cross the line with your advocacy, judges are generally inclined to let you know that they know rather than award sanctions.