Private Offering Exemptions and Exclusions Under the New York
State Martin Act
and Section 18 of the Securities Act of 1933
by
The Committee on Securities Regulation
of the New York State Bar Association
This position paper was originally prepared for, and submitted to, the
Office of the New York State Attorney General in August 2002. The Committee on
Securities Regulation of the Business Law Section of the New York State Bar
Association ("Committee") is composed of members of the New York Bar, a
principal part of whose practice is in securities regulation. The Committee
includes lawyers in private practice and in corporation law departments. A draft
of this position paper was circulated for comment among members of the
Committee, and the views expressed in this position paper are generally
consistent with those of the majority of the members who reviewed the position
paper in draft form. The views set forth in this position paper, however, are
those of the Committee, and do not necessarily reflect the views of the
organizations with which its members are associated, the New York State Bar
Association, or its Business Law Section.
Introduction
New York State’s securities statute, Article
23-A of the General Business Law ("GBL"), known as the Martin Act, is unique
among state securities laws in two important respects. First, the Martin Act
does not require the registration of securities, other than securities sold in
real estate offerings, theatrical syndications or intra-state offerings.
Instead, it requires some issuers to register as dealers in their own
securities.
Second, the laws of every other state and the federal Securities Act of 1933
("Securities Act") require the registration of all securities offerings, and
then provide an exemption for non-public offerings if certain conditions are
met. In contrast, the Martin Act requires registration (whether of brokers,
dealers or special categories of offerings) only for offers and sales to, and
purchases and offers to purchase from, the public. The Martin Act is silent with
respect to private or non-public offerings, thus requiring no dealer
registration filings, and no filing exemptions, for private offerings (other
than intra-state offerings). The differences between the Martin Act and other
state securities laws, particularly the first, have resulted in the use of
registration and exemption forms and procedures that are unique among the
states. Concerns about lack of uniformity are not academic. The capital markets
in this country depend upon raising money in private placements, and New York is
at the center of this market. Yet the manner in which the Office of the New York
State Attorney General ("OAG") regulates private offerings exempt from
registration under (a) § 4(2) of the Securities Act, the "classic" private
placement exemption, and (b) Rule 506 of Regulation D under the Securities Act,
the safe harbor exemption adopted by the Securities and Exchange Commission
("SEC") under § 4(2), is in conflict with the federal law and the laws of other
states.
This paper addresses the regulation by the OAG of those offerings exempt from
registration under either § 4(2) or Rule 506, and the application of the
relevant provisions of the Martin Act and of § 18 of the Securities Act to those
offerings. In the course of the following discussion, the Committee states
several conclusions, which are summarized as follows:
- All offerings exempt under § 4(2) of the Securities Act, and all offerings
exempt under Rule 506 ("Rule 506 offerings"), are excluded from the registration
requirements of the Martin Act.
- An issuer that sells its own securities in New York exclusively to, from or
through a bank, dealer or broker, whether on a firm commitment or "best efforts"
basis, is excluded from the requirement to register as a dealer for that
transaction.
- Section 18 of the Securities Act pre-empts New York State from requiring any
filing with respect to securities offered under Rule 506, other than Form D (or
a substantially similar form), a consent to service of process and a fee.
- Section 15(h) of the federal Securities Exchange Act of 1934 ("Exchange
Act") preempts New York State from requiring federally-registered brokers to
file the Further State Notice form (described in GBL § 359-e(8)) for securities
offerings.
The Non-Public Offering Exclusion
GBL § 352-e requires
the registration of certain real estate syndication offerings. Section 352-e
provides that it is illegal "to make or take part in a public offering or sale
in or from the state of New York" of real estate securities as defined in that
section without filing a written offering statement or prospectus with the OAG
(unless an exemption is available). Securities covered by § 352-e include
interests in limited partnerships owning real estate or mortgages, shares in
real estate investment trusts, cooperative apartment shares, condominium units
and resort timeshare units.
GBL § 359-e requires the registration of dealers and brokers in securities.
Section 359-e(1)(a) defines a dealer as including a person "engaged in the
business of buying and selling securities from or to the public," and also a
person "selling or offering for sale from or to the public within or from this
state securities issued by it." Sections 359-e(2), (3) and (8) then require
brokers or dealers to make certain filings (State Notice, broker or dealer
registration statement and Further State Notice) if selling securities or
offering securities for sale to the public within or from the State.
When the provisions of GBL § 359-e were substantially rewritten in 1959, the
securities industry was concerned that New York State might interpret the term
"to the public" differently than it was interpreted under federal law, which
would result in a lack of uniformity and the risk of prosecution by the State
for failure to register as a dealer or broker for offerings considered to be
private offerings under the Securities Act. In response, the memorandum of
Governor Nelson Rockefeller, dated April 22, 1959, approving L. 1959, c. 692,
stated, in pertinent part:
The bill will make appropriate exemption for situations not requiring
regulation, including providing for exemptions for securities registered on a
national securities exchange and for private placements of securities. In this
latter connection it has been observed that there may be some ambiguity in the
bill with respect to the scope of the exemption and the need for specific
approval of the Attorney General in the case of limited offerings. I am
confident that the underlying spirit of the Act will compel a determination that
the bill is restricted in its application to situations tantamount to public
offerings and will be administered in accordance with a philosophy comparable to
that underlying the Federal Securities Act of 1933 which over the years has
proven to be entirely workable. 1959 N.Y. Sess. Laws 1767 at 1768.
The cases in New York State courts interpreting the concept of public
offering have consistently looked to federal case law interpreting the phrase
"not involving a public offering" under § 4(2) of the Securities Act.
People v. Landes, 84 N.Y.2d 655 (1994); People v. Glenn
Realty Corp., 106 Misc. 2d 46 (Sup. Ct. Spec. Term, N.Y. County 1980);
Puro v. Zimmerman, N.Y.L.J. at 14, col. 3, April 18, 1977 (Sup.
Ct.), aff’d, 61 A.D.2d 772 (1st Dep’t 1978). The OAG itself has looked to
federal law and rules in interpreting its statute; see, e.g.,
Interpretive Opinion, 2A Blue Sky L. Rep. (CCH) ¶42,584 (December
6, 1994) (advising that issuers are not "dealers" if selling "‘private
placements’ as that term is understood under federal securities law, solely
to institutional investors described in the last sentence of New York General
Business Law § 359-e(1)(a)" [emphasis supplied].
Rule 506 creates a safe harbor for non-public offerings under § 4(2) of the
Securities Act. As the SEC makes clear in Preliminary Note 3 to Regulation D,
while an offering satisfying Rule 506 will be deemed to be a non-public offering
under § 4(2), Rule 506 is not the exclusive means for establishing a § 4(2)
exemption. The Rule 506 exemption is not an exemption created by the SEC in the
exercise of the authority given to the SEC to create exemptions under § 3(b) of
the Securities Act, as are the exemptions under Rules 504 and 505. Rather, it is
a determination by the SEC that offerings meeting the conditions of Rule 506 are
not public offerings.
This determination by the SEC has been subsequently ratified by Congress in
§ 18(b)(4)(D) of the Securities Act, which preempts state registration
requirements for securities sold in a transaction exempt from registration
pursuant to "Commission rules or regulations issued under section 4(2)." At the
time § 18 was amended by the National Securities Markets Improvement Act of 1996
("NSMIA"), and at all times since, the only rule of the SEC describing an
offering exemption and issued under § 4(2) has been Rule 506.
In People v. Landes, the Court of Appeals discussed the factors to be
considered in determining whether an offering is public, looking for guidance to
the decision of the Supreme Court in SEC v. Ralston Purina Co., 346 U.S.
119 (1953). The decisive factor identified by the Supreme Court in Ralston
Purina is whether investors have such access to material information about
the offering and the issuer and its principals that they do not require a
prospectus registered with the SEC. Rule 506 has built into it conditions
designed to ensure that investors will have access to all material information
about the offering. Rule 502, incorporated into Rule 506, requires that a
disclosure document, meeting the requirements of specified SEC registration
forms, be provided to all non-accredited investors. Accredited investors, a
category that includes institutional investors and high net-worth and high
income individuals, have the financial leverage to obtain the information they
consider necessary to make the investment. Thus, the most important factor in
People v. Landes is satisfied in all Rule 506 offerings. The other
factors in People v. Landes are designed to test whether an offering is
being made as part of a public distribution, but the conditions to Rule 506
ensure that these factors are satisfied as well. A Rule 506 offering may not be
made using general advertising or general solicitation, and the resale of
securities purchased in a Rule 506 offering is restricted.
Given: (a) that the cases in New York State interpreting the concept of
public offering have looked to federal case law under § 4(2) of the Securities
Act, (b) that the requirements of People v. Landes are satisfied by
compliance with Rule 506, (c) the clear statement of legislative intent
reflected in Governor Rockefeller’s memorandum that the term "public offering"
under the New York law should be interpreted consistently with the federal
securities law, and (d) the clear statement of intent by Congress that Rule 506
should apply to state securities laws uniformly, we believe that all § 4(2)
offerings and all Rule 506 offerings are non-public offerings under GBL §§ 352-e
and 359-e. We further believe that the Attorney General should state publicly
his agreement with that conclusion.
Because § 4(2) and Rule 506 offerings are non-public offerings under GBL
§§ 352-e and 359-e, issuers are not required to file any form of notice or fee
with the OAG. If New York State wishes to receive a notice and fee for § 4(2)
and Rule 506 offerings, it must amend the Martin Act to require (or to permit
the Attorney General to require) notice filings in non-public offerings.
The Exclusion for Offerings "to, from or through" a Bank, Dealer or
Broker
GBL § 359-e(1)(a) excludes certain persons from the
definition of dealer, stating, in part, that "[n]o person shall be deemed to be
a ‘dealer,’ as defined in this subdivision, or a broker, as defined in
subdivision (b), solely by reason of the fact that he is engaged in the business
of (i) selling, offering for sale, purchasing or offering to purchase any
security or securities to, from or through any bank, dealer or broker…." The
meaning of this provision is clear on its face. An issuer selling securities
to an underwriter or underwriting syndicate in a firm commitment offering
is excluded from the definition of dealer, and an issuer selling securities
through a broker or group of brokers in a best efforts offering is
likewise excluded from the definition of dealer. Although the OAG has recognized
the exclusion for issuers selling in firm commitment offerings, to date it has
not publicly recognized the equally valid exclusion for issuers selling through
brokers in best efforts offerings. See, e.g., "Broker-Dealer and
Securities Registration Information Sheet, Part I(C), CCH Blue Sky L. Rep.
¶42,573 (revised May 1993).
The intent of the New York State legislature to exclude issuers in both kinds
of offerings is highlighted by the 1959 amendment to GBL § 359-e. Prior to that
amendment, § 359-e, in relevant part, (a) encompassed only "dealers," not
"brokers," (b) defined "dealer" as a person "who engages directly or through an
agent in the business of trading in securities in such manner that as part of
such business any of such securities are sold or offered for sale to the public
in this state," (c) did not explicitly include issuers as a type of "dealer,"
and (d) contained exclusions for (i) "any sale or offer of sale to any person
engaged in the business of acquiring securities for the purpose of resale to the
public," and (ii) "any sale or offer of sale to a banker, to a dealer or to a
corporation or to any syndicate or group formed for the specific purpose of
acquiring such securities for resale to the public directly or through other
syndicates or groups, or any sale or offer of sale upon the floor of any
exchange to a broker in securities." GBL § 359-e (McKinney 1957, as amended by
1958 N.Y. Laws ch. 750, §§ 4-6).
Thus, the prior version of the statute excluded only sales to the
designated persons, acting for their own account, and the 1959 addition of an
exclusion for sales or offers through banks or brokers was a significant
change. In particular, by excluding sales through brokers, who, by definition in
GBL § 359-e(1)(b), are "engaged in the business of effecting transactions in
securities for the account of others," the current exclusion must, by
definition, apply to "best efforts" offerings, since a broker may only act in an
agency capacity, not as a principal; i.e., one cannot sell securities
"to" a broker, but only "through" a broker. The rationale for the Legislature’s
amendment to expand the exclusion to also exclude sales through a bank or broker
is that as long as a bank or registered broker is interjected between an issuer
and the public investors, there is no basis for also requiring the issuer to
register as a dealer.
We realize there is a possibility that, in a best efforts offering, an issuer
may sell some securities directly to the public and may, therefore, be a dealer.
However, in best efforts offerings in which the issuer sells to the public
exclusively through a broker (even if it sells directly to persons who
are not banks, dealers or brokers in non-public offerings), the issuer is
entitled to claim the exclusion from the definition of dealer. We also note the
use of the disjunctive "or" introducing the clause following the "to, from or
through" exclusion, rather than the conjunctive "and." Thus it is clear that the
issuer does not also have to be selling to a syndicate, corporation or
group formed for the specific purpose of acquiring such securities for resale to
the public in order to be entitled to the exclusion. A contrary interpretation
would, mean among other things, that the 1959 amendment to the statute adding
the word "through" would have served no purpose.
We believe that the Attorney General should publish advice confirming that
issuers selling through brokers in best efforts offerings are excluded from the
definition of dealer, as clearly provided by GBL § 359-e(1)(a). In the absence
of such clarification, many issuers assume the unnecessary burden and expense of
filing a Form M-11 issuer-dealer registration statement or a Form 99
issuer-dealer registration statement for covered securities offerings,
compromising the privacy rights of the principals of issuers by doing so.
Section 18 Preemption for Rule 506
Offerings
Section 18(a)(1) of the Securities Act, as amended by
NSMIA in 1996, provides that no law, rule, regulation or order, or other
administrative action of any State "requiring, or with respect to, registration
or qualification of securities, or registration or qualification of securities
transactions, shall directly or indirectly apply to a security that (A) is a
covered security or (B) will be a covered security upon completion of the
transaction." Section 18(b)(4)(D) provides that a security is a covered security
in a transaction that is exempt from registration under the Securities Act under
"Commission rules or regulations issued under Securities Act § 4(2), except that
this subparagraph does not prohibit a State from imposing notice filing
requirements that are substantially similar to those required by rule or
regulation under § 4(2) that are in effect on September 1, 1996."
As discussed above, the only rule or regulation issued by the SEC under
§ 4(2) is Rule 506. The notice filing requirements in effect on September 1,
1996 were to file the first five pages (Parts A-D) of Form D within 15 days
after the first sale of securities in the Rule 506 offering. See, Rule
503 (Filing of Notice of Sales) and instructions to Form D.
It is clear that § 18 preempts the registration requirements under GBL
§ 352-e for real estate offerings made pursuant to Rule 506 (leaving aside the
fact that under New York statutory provisions, such offerings are private
offerings outside of the purview of § 352-e in any event). Section 18(a)(1)
provides that no such registration requirement, whether of securities or of
securities transactions shall apply, directly or indirectly, to a
covered security. Thus, because of §18 preemption, New York State may not
require the registration of issuers as dealers as a way of indirectly requiring
registration of transactions in covered securities. All New York State could do
(if it were permitted to do so under its statutory provisions) would be to
impose notice filing requirements substantially similar to those required by
Rule 503 and Form D.
If the Martin Act permitted New York State to receive anything at all under
GBL §§ 352-e or 359-e, it could receive only a fee, a consent to service of
process and the first five pages (Parts A-D) of Form D together with the "State
Signature" portion of page 6 of Form D, within 15 days after the first sale. In
particular, New York may not require a notice filing before the first offer, nor
may it require responses to questions 1-4 of Part E of Form D as regards
information about disqualification under the provisions of Rule 262 of SEC
Regulation A, undertakings to make other state filings, undertakings to provide
offering materials and representations about familiarity with the Uniform
Limited Offering Exemption provisions, as they are not part of the notice filing
requirements of the SEC under Rule 506.
We note that information about disqualification under Rule 262 of SEC
Regulation A, referenced in Part E on page 6 of Form D, was included in Part E
of Form D purely for purposes of the state Uniform Limited Offering Exemption,
which is no longer applicable to Rule 506 offerings. The Senate, House and
Conference reports on NSMIA make clear that Congress did not intend to permit
the states to use the enforcement powers reserved to them to "reconstruct in a
different form the regulatory regime for covered securities that Section 18 has
preempted." (See excerpts from reports attached as Appendix hereto.)
Section 15(h) Preemption of Further State Notice
Filing
GBL § 359-e(8) provides that no dealer may sell or offer to
sell securities to the public within New York State as principal or agent unless
the dealer has filed a form known as the Further State Notice. The Further State
Notice requirement is thus an operational reporting requirement for brokers or
dealers. For reasons discussed above, no Further State Notice should be required
in any § 4(2) or Rule 506 offering, because such offerings do not involve the
sale of securities to the public. To the extent that § 359-e(8) requires filing
of a Further State Notice by broker-dealers registered under § 15 of the
Exchange Act, that requirement is preempted in any case by § 15(h) of the
Exchange Act. Section 15(h)(1) provides, in pertinent part, that
[n]o law, rule, regulation, or order, or other administrative action of any
State or political subdivision thereof shall establish capital, custody, margin,
financial responsibility, making and keeping records, bonding, or financial or
operational reporting requirements for brokers, dealers, municipal securities
dealers, government securities brokers, or government securities dealers that
differ from, or are in addition to, the requirements in those areas established
under this title.
There is no equivalent to the Further State Notice under the Exchange Act.
Since the requirement to file a Further State Notice is an operational reporting
requirement for brokers or dealers that differs from, or is in addition to, the
requirements established by the SEC and self-regulatory organizations like the
NASD under the Exchange Act, §15(h) preempts the Further State Notice
requirement, and registered brokers and dealers may not be compelled to file
them.
We support the current efforts of the Attorney General to update and
streamline its regulation of private offerings. The U.S. Congress has made it
clear, through its amendment of Securities Act § 18 by NSMIA, that there is a
national interest in reducing the regulatory burden on small business capital
formation in connection with Rule 506 offerings. We believe that the Attorney
General should take this opportunity to review its interpretation of the Martin
Act, and to revise its filing requirements to comply with the provisions of
NSMIA. We hope that this position paper assists in that process, and we would be
pleased to make ourselves available for additional dialogue on the subjects
discussed here.
Drafting Committee
Charles H.B. Braisted
Guy P. Lander
Peter W. LaVigne
Ellen Lieberman
Alan M. Parness
Douglas B. Pollitt
Appendix
Excerpts from Committee Reports on NSMIA
Relating to Preemption of State Registration of Covered
Securities
From Conference Report H. Rept. No. 104-684. September 28, 1996
With respect to securities offerings, the Managers have allocated regulatory
responsibility between the Federal and state governments based on the nature of
the securities offering. Some securities offerings, such as those made by
investment companies, and certain private placements are inherently national in
nature, and are therefore subject to only federal regulation. Smaller, regional,
and intrastate securities offerings remain subject to state regulation. The
Managers have preserved the authority of the states to protect investors through
application of state antifraud laws. This preservation of authority is intended
to permit state securities regulators to continue to exercise their police power
to prevent fraud and broker-dealer sales practice abuses, such as churning
accounts or misleading customers. It does not preserve the authority of state
securities regulators to regulate the securities registration and offering
process through commenting on and/or imposing requirements on the contents of
prospectuses or other offering documents, whether prior to their use in a state
or after such use.
From United States Senate Report No. 104-293. June 26,
1996
In both cases, the bill preserves state fraud authority. This preservation of
authority makes clear that states would continue their role in regulating
broker-dealer conduct whether or not the offering is subject to state review.
The Committee believes that allowing the states to oversee broker-dealer conduct
in connection with preempted offerings will ensure continued investor
protection. As long as states continue to police fraud in these offerings,
compliance at the federal level will adequately protect investors. In preserving
this authority, however, the Committee expects the states only to police conduct
– not to use this authority as justification to continue reviewing exempted
registration statements or prospectuses. The Committee clearly does not intend
for the "policing" authority to provide states with a means to undo the state
registration preemptions. States will continue to receive notice filings and
fees as specified to facilitate their antifraud efforts.
From House Report No. 104-622. June 17, 1996
Section 18(a) prohibits State governments from requiring the registration of,
or otherwise imposing conditions on, offerings of "covered securities" as
defined in Section 18(b), subject to Section 18(d), which preserves State
authority to investigate and bring enforcement actions with respect to fraud or
deceit (including broker-dealer sales practices) in connection with securities
or securities transactions. Section 18(d) also preserves the authority of States
to require notice filings and fees with respect to certain offerings, and to
suspend the offer or sale of securities within a State as a result of the
failure to submit a filing or fee. Section 18(a) also limits State governments
from requiring the regulation or otherwise imposing conditions on offerings of
"conditionally covered securities" as defined in Section 18(c). Section 18(a)
specifically provides that States may not conduct merit reviews of these
offerings. In addition, Section 18(a) prohibits States from placing limits or
imposing conditions upon (including outright prohibition of) the use of offering
documents with respect to such "covered securities" offerings, including
advertising or sales literature used in connection with such offerings. It
further preempts State regulation or other disclosure documents such as proxy
statements and annual reports. In each case, the prohibition applies both to
direct and indirect State action, thus precluding States from exercising
indirect authority to regulate the matters preempted by section 18(a). Also, in
each case, the prohibitions are subject to the provisions of subsection (d). By
extending the prohibition to indirect State action, the Committee specifically
intends to prevent State regulators from circumventing the provisions of section
18(a) that expressly prohibit them from requiring the registration of, or
otherwise imposing conditions or limitations upon, offerings of covered
securities. The Committee does not intend, however, that the extension of the
prohibition to indirect actions by State regulators restrict or limit their
ability to investigate, bring actions, or enforce orders, injunctions, judgments
or remedies based on alleged violations of State laws that prohibit fraud and
deceit or that govern broker-dealer sales practices in connection with
securities or securities transactions.
* * *
Paragraph 18(d)(1) preserves specified State authority, pursuant to state
law, consistent with Section 18. The relationship between Section 18(d) and
Section 18(a) is especially important. The Committee intends to preserve the
ability of the States to investigate and bring enforcement actions under the
laws of their own State with respect to fraud and deceit (including
broker-dealer sales practices) in connection with any securities or any
securities transactions, whether or not such securities or transactions are
otherwise preempted from state regulation by Section 18. it is the Committee’s
intent that the limitations on State law established by Section 18 apply to
State law registration and regulation of securities offerings, and do not affect
existing State laws governing broker-dealers, including broker-dealer sales
practices. In preserving State laws against fraud and deceit, (including
broker-dealer sale practice abuse), however the Committee intends to prevent the
States from indirectly doing what they have been prohibited from doing directly.
The Committee intends that the authority that States retain over broker-dealers
to allow the States to impose conditions on, or otherwise to regulate, offerings
of securities. [sic] The legislation preempts authority that would allow the
States to employ the regulatory authority they retain to reconstruct in a
different form the regulatory regime for covered securities that Section 18 has
preempted.
Thus, for example, Section 18 precludes State regulators from, among other
things, citing a State law against fraud or deceit or regarding broker-dealer
sales practices as its justification for prohibiting the circulation of a
prospectus or other offering document or advertisement for a covered security
that does not include a legend or disclosure that the States believes is
necessary or that includes information that a State regulator criticizes based
on the format or content thereof. The Committee intends to eliminate States’
authority to require or otherwise impose conditions on the disclosure of any
information for covered securities.
