What is a Penny Stock Bar? Securities Lawyer 101
The Securities & Exchange Commission (‘SEC)” has the authorization to bar an individual from certain conduct under the Securities Enforcement Remedies and Penny Stock Reform Act of 1990 (the “Remedies Act”). SEC Bars are injunctions that must be granted by a court. Upon court order, SEC Bars prohibit a variety of conduct. Bars may enjoin individuals from serving as officers or directors of a public company, from involvement with penny stock issuers, and from practicing before the SEC as an attorney or accountant.
To understand penny stock bar, it is necessary to be familiar with the definition of penny stock. Many penny stock market participants are unclear about the wide range of activities prohibited by a penny stock bar. The bar prohibits owning a penny stock even for one’s own account as well as any activity related to an offering of a penny stock, including drafting disclosures. The impact of a Penny Stock Bar is that he individual is barred from acting as a promoter, finder, consultant or agent or otherwise engaging in activities with a broker, dealer, or issuer for the purpose of the issuance or trading in any penny stock or inducing or attempting to induce the purchase or sale of any penny stock.
The term “penny stock” most often refers to a security issued by a very small company that trades for less than $5 per share but not always. Private companies can be penny stocks. The SEC issued guidance as to the application of the penny stock rules to private companies. (See Fast Answers Penny Stock Rules https://www.sec.gov/fast-answers/answerspennyhtm.html):
Penny stocks are often quoted on the OTC Markets OTC Link LLC. Penny Stocks may, however, also trade on securities exchanges, including NASDAQ, NYSE and even foreign securities exchanges . In addition, the definition of penny stock can include the securities of certain private companies with no active trading market.
The definition of penny stock is located at §240.3a51-1 of the Securities Exchange Act of 1934. That section provides that the term “penny stock” shall mean any equity security other than a security:
(a) That is an NMS stock, as defined in §242.600(b)(48)
(b) That is issued by an investment company registered under the Investment Company Act of 1940
(c) That is a put or call option issued by the Options Clearing Corporation
(d) Except for purposes of section 7(b) of the Securities Act and Rule 419 (17 CFR 230.419), that has a price of five dollars or more
(1) For purposes of paragraph (d) above:
(i) A security has a price of five dollars or more for a particular transaction if the security is purchased or sold in that transaction at a price of five dollars or more, excluding any broker or dealer commission, commission equivalent, mark-up, or mark-down; and
(ii) Other than in connection with a particular transaction, a security has a price of five dollars or more at a given time if the inside bid quotation is five dollars or more; provided, however, that if there is no such inside bid quotation, a security has a price of five dollars or more at a given time if the average of three or more interdealer bid quotations at specified prices displayed at that time in an interdealer quotation system, as defined in 17 CFR 240.15c2-7(c)(1), by three or more market makers in the security, is five dollars or more.
(iii) The term “inside bid quotation” shall mean the highest bid quotation for the security displayed by a market maker in the security on an automated interdealer quotation system that has the characteristics set forth in section 17B(b)(2) of the Act, or such other automated interdealer quotation system designated by the Commission for purposes of this section, at any time in which at least two market makers are contemporaneously displaying on such system bid and offer quotations for the security at specified prices.
(2) If a security is a unit composed of one or more securities, the unit price divided by the number of shares of the unit that are not warrants, options, rights, or similar securities must be five dollars or more, as determined in accordance with paragraph (d)(1) of this section, and any share of the unit that is a warrant, option, right, or similar security, or a convertible security, must have an exercise price or conversion price of five dollars or more;
(e)(1) That is registered, or approved for registration upon notice of issuance, on a national securities exchange that makes transaction reports available pursuant to §242.601, provided that:
(i) Price and volume information with respect to transactions in that security is required to be reported on a current and continuing basis and is made available to vendors of market information pursuant to the rules of the national securities exchange;
(ii) The security is purchased or sold in a transaction that is effected on or through the facilities of the national securities exchange, or that is part of the distribution of the security; and
(iii) The security satisfies the requirements of paragraph (a)(1) or (a)(2) of this section;
(2) A security that satisfies the requirements of this paragraph (e), but does not otherwise satisfy the requirements of paragraph (a), (b), (c), (d), (f), or (g) of this section, shall be a penny stock for purposes of section 15(b)(6) of the Act (15 U.S.C. 78o(b)(6));
(f) That is a security futures product listed on a national securities exchange or an automated quotation system sponsored by a registered national securities association; or
(g) Whose issuer has:
(1) Net tangible assets (i.e., total assets less intangible assets and liabilities) in excess of $2,000,000, if the issuer has been in continuous operation for at least three years, or $5,000,000, if the issuer has been in continuous operation for less than three years; or
(2) Average revenue of at least $6,000,000 for the last three years.
(3) For purposes of paragraph (g) of this section, net tangible assets or average revenues must be demonstrated by financial statements dated less than fifteen months prior to the date of the transaction that the broker or dealer has reviewed and has a reasonable basis for believing are accurate in relation to the date of the transaction, and:
(i) If the issuer is other than a foreign private issuer, are the most recent financial statements for the issuer that have been audited and reported on by an independent public accountant in accordance with the provisions of 17 CFR 210.2-02; or
(ii) If the issuer is a foreign private issuer, are the most recent financial statements for the issuer that have been filed with the Commission or furnished to the Commission pursuant to 17 CFR 240.12g3-2(b); provided, however, that if financial statements for the issuer dated less than fifteen months prior to the date of the transaction have not been filed with or furnished to the Commission, financial statements dated within fifteen months prior to the transaction shall be prepared in accordance with generally accepted accounting principles in the country of incorporation, audited in compliance with the requirements of that jurisdiction, and reported on by an accountant duly registered and in good standing in accordance with the regulations of that jurisdiction.
The Company is not listed on a national securities exchange or other trading platform such as the OTC Markets’ OTC Link; it is not an investment company and it has no puts or options issued by the Options Clearing Corporation. As such, the exclusions to the definition of a penny stock provided by Section (a)-(f) are not available. Section (g) contains an exemption for issuers with net tangible assets (i.e., total assets less intangible assets and liabilities) in excess of $2,000,000, if the issuer has been in continuous operation for at least three years, or $5,000,000, if the issuer has been in continuous operation for less than three years; or (2) average revenue of at least $6,000,000 for the last three years. Since the Company’s liabilities have exceeded its assets since inception and it has not generated revenue, the exemption provided by section (g) is not applicable.
Many penny stock market participants are unclear about the wide range of activities prohibited by a penny stock bar. The bar prohibits owning a penny stock even for one’s own account as well as any activity related to an offering of a penny stock, including drafting disclosures. The impact of a Penny Stock Bar is that he individual is barred from acting as a promoter, finder, consultant or agent or otherwise engaging in activities with a broker, dealer, or issuer for the purpose of the issuance or trading in any penny stock, or inducing or attempting to induce the purchase or sale of any penny stock.
Section 15(b)(6)(A)(iii) of the Exchange Act authorizes the SEC to prohibit persons from participating in an offering of penny stock also known as the “Penny Stock Bar”. Section 15(b)(6)(C) defines “person participating in an offering of penny stock” to include, among other things, any person “who engages in activities with a[n] issuer for purposes of the issuance or trading in any penny stock, or inducing or attempting to induce the purchase or sale of any penny stock.”
The wide reach of an SEC Penny Stock Bar is demonstrated in the case of the Securities and Exchange Commission v. Joseph P. Cillo, Civil Action No. 8:11-cv-02320 (M.D. Fla. October 14, 2011). On June 13, 1995, the Commission entered an order that “barred [Cillo] from participating in an offering of any penny stock.” In the Matter of Joseph P. Cillo, Admin. Proc. File No. 3-8670 (June 13, 1995).
The Court found that Cillo had violated his earlier Penny Stock Bar because he engaged in activities for purposes of issuing, trading, and inducing others to purchase the relevant issuer’s penny stock.
These prohibited activities included that Cillo:
• issued and/or offered shares of stock to third-parties,
• drafted and approved multiple press releases, and
• prepared, signed, and submitted periodic disclosure statements to the OTC Markets Group.
The Court agreed with the SEC and found that each of these acts constituted an activity engaged in for the purpose of issuing, trading and inducing others to purchase the issuer’s stock. The SEC successfully argued that Cillo’s conduct was precisely the conduct that was prohibited by the penny stock bar against Cillo that had been in place since 1995.
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, or [email protected] or www.securitieslawyer101.com. This securities law blog post is provided as a general informational service to clients and friends of Hamilton & Associates Law Group and should not be construed as, and does not constitute, legal advice on any specific matter, nor does this message create an attorney-client relationship. Please note that the prior results discussed herein do not guarantee similar outcomes.
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Brenda Hamilton, Securities Attorney
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