What Rules Apply to Investor Relations Activity?
Investor relations or stock promotion involves the dissemination of information about a public company to increase its stock price and trading volume. The person who publishes this information is sometimes referred to as a “Stock Promoter”. Stock Promoters engaged in investor relations use spam email, internet, direct mail newsletters, stock websites, press releases and phone rooms to increase stocks trading volume and price. While investor relations activities are not per se illegal, Stock Promoters are often the target of securities enforcement actions.
Due to recent increases in SEC enforcement actions against investor relations providers and stock promoters, they should work closely with a securities lawyer to adopt a compliance program. SEC actions against investor relations providers often stem from violations of Section 17 (b) Section 5 of the Securities Act of 1933, (the “Securities Act”) and Section 15 of the Securities Exchange Act of 1934 (the “Exchange Act”).
Securities Act Section 17 (b) – Investor Relations
Section 17 (b) is an anti-fraud statute that requires publishers of investor relations and other information about public companies to provide full disclosure of their compensation including:
♦ Type of compensation (securities or cash) received;
♦ If the compensation is in securities, whether the securities are restricted or unrestricted;
♦ Amount of securities received or cash paid;
♦ If a corporate entity is the publisher of the information, the control persons of the corporate entity must be disclosed.
♦ Source of compensation (directly and indirectly) and if compensated by a third party shareholder or corporate entity, the shareholder or control persons of the entity must be identified by his or her individual name; and
17(b) also requires that the Publisher disclose his or her compensation in all investor relations materials, including but not limited to press releases, emails or faxes. The disclosure must state the relationship of the payer to the issuer and the Stock Promoter. In the case of an SEC reporting company engaging a Stock Promoter, the issuer should disclose the terms of the Stock Promoter’s engagement including compensation in its periodic filings.
Section 5 of the Securities Act – Investor Relations
Section 5 of the Securities Act makes it unlawful for any person, directly or indirectly, to make use of any means or instruments of transportation or communication in interstate commerce or of the mails to offer to sell or offer to buy any security, unless a registration statement has been filed as to such security.”
Stock Promoters are often paid for their services in securities of the public companies they promote. Stock Promoters receive free trading shares through a variety of methods; however, the shares are rarely issued in compliance with the securities laws. These methods include the issuance of free trading shares under Rule 504, transfers from third parties, debt and promissory note conversions. If an issuer participates in investor relations activity or arranges for a third party shareholder to pay for investor relations services with its shares, the shares are restricted securities.
The issuance of shares to Stock Promoters under these circumstances becomes an offering made on behalf of the issuer and unless the shares are registered, they are restricted securities. In the case of Stock Promoters paid in securities, they must either obtain registered stock or sell their shares in compliance with Rule 144.
Many stock promoters fail to recognize that Section 5 imposes strict liability for sellers of unregistered securities even where they have obtained a legal opinion from a securities attorney to opine their securities are “free trading”.
Section 15 l Investor Relations
Section 15 requires a person acting as a “broker” or a “dealer” in securities transactions to register with the SEC. Both brokers and dealers are persons who are “engaged in the business” of buying and selling securities. Brokers arrange securities transactions for others, whereas, dealers purchase and sell securities for their own accounts. For purposes of the Exchange Act, persons are “engaged in the business” of buying and selling securities if they demonstrate a “regularity of participation” in securities transactions. Participation in a single, isolated transaction is insufficient to require registration. Nevertheless, the SEC and the courts interpret the phrase “engaged in the business” broadly.
In determining whether a person has acted as an unregistered dealer, the primary question is whether they receive securities as compensation as a regular part of their business. If the Stock Promoter receives stock compensation from their clients routinely in exchange for services, they are a dealer and subject to the broker-dealer registration provisions.
In determining whether a person has acted as an unregistered broker, other factors are considered, including whether the person:
♦ solicited investors;
♦ advised investors as to the merits of an investment;
♦ received commissions or transaction-based remuneration;
♦ is selling, or previously sold, the securities of the same or other issuers; and
♦ made investment recommendations.
If the Stock Promoter has any contact other than making an introduction to investors or broker-dealers, he risks being deemed an unregistered broker.
The failure to be properly registered as a broker-dealer may subject that person to potential liability, including criminal penalties, fines, suspension, and disbarment. The potential harm to the company includes investor rescission rights. Investors have a rescission right, meaning that they could demand repayment of their entire investment without set-off or deduction. The company could also be subject to sanctions and penalties from federal securities regulators as an aider and abettor of the activities of the unregistered broker-dealer including fines, prohibition on future securities offerings, and criminal actions.
For further information about this securities law blog post, please contact Brenda Hamilton, Securities Attorney at 101 Plaza Real S, Suite 202 N, Boca Raton, Florida, (561) 416-8956, by email at [email protected] or visit www.securitieslawyer101.com. Please note that the prior results discussed herein do not guarantee similar outcomes.
Hamilton & Associates | Securities Lawyers
Brenda Hamilton, Securities Attorney
101 Plaza Real South, Suite 202 North
Boca Raton, Florida 33432
Telephone: (561) 416-8956
Facsimile: (561) 416-2855