By this act, Congress extended the disclosure doctrine of investor protection to securities listed and registered for public trading on our national securities exchanges. Thirty years later, the Securities Act Amendments of 1964 extended disclosure and reporting provisions to equity securities in the over-the-counter market. This included hundreds of companies with assets exceeding $1 million and shareholders numbering 500 or more. Today, securities of thousands of companies are traded over-the-counter. The act seeks to ensure fair and orderly securities markets by prohibiting certain types of activities and by setting forth rules regarding the operation of the markets and participants.
Companies seeking to have their securities registered and listed for public trading on an exchange must file a registration statement with the exchange and the SEC. If they meet the size test described above, companies whose equity securities are traded over-the-counter must file a similar registration form. Commission rules prescribe the nature and content of these registration statements and require certified financial statements. These are generally comparable to, but less extensive than, the disclosures required in Securities Act registration statements. Following the registration of their securities, companies must file annual and other periodic reports to update information contained in the original filing. In addition, issuers must send certain reports to requesting shareholders. Reports may be read at the SEC's public reference rooms, copied there at nominal cost, or obtained at reasonable rates from a copying service under contract to the SEC. Since May, 1996, virtually all corporate filings are available electronically as well as on the SEC's internet website <www.sec.gov>.
Another provision of this law governs soliciting proxies (votes) from holders of registered securities, both listed and over-the-counter, for the election of directors and/or for approval of other corporate action. Solicitations, whether by management or shareholder groups, must disclose all material facts concerning matters on which holders are asked to vote. Holders also must be given an opportunity to vote "yes" or "no" on each matter. Where a contest for control of corporate management is involved, the rules require disclosure of the names and interests of all "participants" in the proxy contest. Thus, holders are enabled to vote intelligently on corporate actions requiring their approval. The Commission's rules require that proposed proxy material be filed in advance for examination by the Commission for compliance with the disclosure requirements. In addition, the rules permit shareholders to submit proposals for a vote at the annual meetings.
Tender Offer Solicitations
In 1968, Congress amended the Exchange Act to extend its reporting and disclosure provisions to situations where control of a company is sought through a tender offer or other planned stock acquisition of over ten percent of a company's equity securities. Commonly called the Williams Act, this amendment was further amended in 1970 to reduce the stock acquisition threshold to five percent. These amendments, and Commission rules under the act, require disclosure of pertinent information by anyone seeking to acquire over five percent of a company's securities by direct purchase or by tender offer. This disclosure also is required by anyone soliciting shareholders to accept or reject a tender offer. Thus, as with the proxy rules, public investors holding stock in these corporations may make more informed decisions on takeover bids. Disclosure provisions are supplemented by certain other provisions to help ensure investor protection in tender offers.
Insider trading prohibitions are designed to curb misuse of material confidential information not available to the general public. Examples of such misuse are buying or selling securities to make profits or avoid losses based on material nonpublic information - or by telling others of the information so that they may buy or sell securities - before such information is generally available to all shareholders. The Commission has brought numerous civil actions in federal court against persons whose use of material nonpublic information constituted fraud under the securities laws. The Insider Trading Sanctions Act, signed into law on August 10, 1984, allows imposing fines up to three times the profit gained or loss avoided by use of material nonpublic information.
Section 16 of the Exchange Act requires that all officers and directors of a company and beneficial owners of more than ten percent of its registered equity securities must file an initial report with the Commission, and with the exchange on which the stock may be listed, showing their holdings of each of the company's equity securities. Thereafter, they must file reports for any month during which there was any change in those holdings. In addition, the law provides that profits obtained by them from purchases and sales or sales and purchases of such equity securities within any six-month period may be recovered by the company or by any security holder on its behalf. This recovery right must be asserted in the appropriate U.S. District Court. Such "insiders" are also prohibited from making short sales of their company's equity securities.
Margin trading in securities also falls under certain provisions of the Exchange Act. The Board of Governors of the Federal Reserve System is authorized to set limitations on the amount of credit which may be extended for the purpose of purchasing or carrying securities. (The Federal Reserve periodically reviews these limitations, which are promulgated in Regulations T, U, X, and G.) The objective is to prevent the excessive use of credit for the purchase or carrying of securities. While the credit restrictions are set by the Board, investigation and enforcement is the responsibility of the SEC.
Trading And Sales Practices
Securities trading and sales practices on the exchanges and in the over-the-counter markets are subject to provisions designed to protect the interests of investors and the public. These provisions seek to curb misrepresentations and deceit, market manipulation, and other fraudulent acts and practices. They also strive to establish and maintain just and equitable principles of trade conducive to maintaining open, fair, and orderly markets.
These provisions of the law establish the general regulatory pattern. The Commission is responsible for promulgating rules and regulations for its implementation. Thus, the Commission has adopted regulations which, among other things:
- define acts or practices which constitute a "manipulative or deceptive device or contrivance" prohibited by the statute;
- regulate short selling, stabilizing transactions, and similar matters;
- regulate hypothecation (use of customers' securities as collateral for loans); and
- provide safeguards with respect to the financial responsibility of brokers and dealers.
Registration of Exchanges, Associations and Others
As amended, the Exchange Act requires registration with the Commission of:
- "national securities exchanges" (unless the SEC grants a limited securities trading volume exemption);
- brokers and dealers who conduct securities business in interstate commerce;
- transfer agents;
- clearing agencies;
- government and municipal brokers and dealers; and
- securities information processors.
To obtain registration, exchanges must show that they are organized to comply with the provisions of the statute as well as the rules and regulations of the Commission. The registering exchanges must also show that their rules contain just and adequate provisions to ensure fair dealing and to protect investors.
By a 1938 amendment to the Exchange Act, Congress also provided for creation of a national securities association. The only such association, the National Association of Securities Dealers, Inc. (NASD), is registered with the Commission under this provision of the law. This association is responsible for preventing fraudulent and manipulative acts and practices, and for promoting just and equitable trade principles among over-the-counter brokers and dealers. The establishment, maintenance, and enforcement of a code of business ethics by the NASD is one of the principal features of this provision of the law.
Each exchange or national securities association is a self-regulatory organization (SRO). Its rules must provide for the expulsion, suspension, and other disciplining of member broker-dealers for conduct inconsistent with just and equitable principles of trade. The law intends that SROs shall have full opportunity to establish self-regulatory measures ensuring fair dealing and investor protection. The SEC must approve all proposed SRO rule changes to ensure that they are consistent with these and the other standards under the Exchange Act. In addition the SEC has the authority by rule to amend the rules of SROs if necessary to effectuate the purposes of the Exchange Act. However, most rule changes are proposed by the SROs and generally reach their final form after discussion between representatives of both bodies and an opportunity for the public to comment.
The registration of brokers and dealers engaged in soliciting and executing securities transactions is an important part of the regulatory plan of the act. Broker-dealers must apply for registration with the Commission and amend registrations to show significant changes in financial conditions or other important facts. Applications and amendments are examined by the Commission. Brokers and dealers must conform their business practices to the standards prescribed by the law and the Commission's regulations for protecting investors, and to rules on fair trade practices of their association. Additionally, brokers and dealers violating these regulations risk suspension or loss of registration with the Commission (and thus the right to continue conducting an interstate securities business) or of suspension or expulsion from a SRO.
Interstate holding companies engaged, through subsidiaries, in the electric utility business or in the retail distribution of natural or manufactured gas are subject to regulation under this act. Today, 15 systems are registered. These systems must register with the SEC and file initial and periodic reports. Detailed information concerning the organization, financial structure, and operations of the holding company and its subsidiaries is contained in these reports. However, if a holding company or its subsidiary meets certain specifications, the SEC may exempt it from part or all of the duties and obligations otherwise imposed by statute. Holding companies are subject to SEC regulations on matters such as structure of the system, acquisitions, combinations, and issue and sales of securities.
Integration And Simplification
The most important provisions of the act are the requirements for physical integration and corporate simplification of holding company systems. Integration standards restrict a holding company's operations to an "integrated utility system." Such a system is defined as one:
- capable of economical operation as a single coordinated system;
- confined to a single area or region in one or more states; and
- not so large that it negates the advantages of localized management, efficient operation, and effective regulation.
The capital structure and continued existence of any company in a holding company system must not unnecessarily complicate the corporate structure of the system or distribute voting power inequitably among securityholders of the system.
The Commission may determine what action, if any, must be taken by registered holding companies and their subsidiaries to comply with act requirements. The SEC may apply to federal courts for orders compelling compliance with Commission directives.
Voluntary reorganization plans for many divestments of nonretainable subsidiaries and properties, recapitalizations, dissolutions of companies, and other adjustments may be used to satisfy act requirements. The SEC may approve voluntary plans it finds to be fair and equitable to all affected persons and to be necessary to further the objectives of the act. If the company requests, the Commission will apply to a federal district court for an order approving the plan and directing its enforcement. All interested persons, including state commissions and other governmental agencies, have full opportunity to be heard in proceedings before the Commission and before the federal courts.
To be authorized by the SEC, the acquisition of securities and utility assets by holding companies and their subsidiaries must meet the following standards:
- the acquisition must not tend toward interlocking relations or concentrating control to an extent detrimental to investors or the public interest;
- any consideration paid for the acquisition (including fees, commissions, and other remuneration) must not be unreasonable;
- the acquisition must not complicate the capital structure of the holding company system or have a detrimental effect on system functions; and
- the acquisition must tend toward economical, efficient development of an integrated public utility system.
Issuance and Sale of Securities
Proposed security issues by any holding company must be analyzed and evaluated by the staff, and approved by the Commission, to ensure that the issues meet the following tests under prescribed standards of the law:
- the security must be reasonably adapted to the security structure of the issuer and of other companies in the same holding company system;
- the security must be reasonably adapted to the earning power of the company;
- the proposed issue must be necessary and appropriate to the economical and efficient operation of the company's business;
- the fees, commissions, and other remuneration paid in connection with the issue must not be unreasonable; and
- the terms and conditions of the issue or sale of the security must not be detrimental to the public or investor interest.
Subject to satisfaction of certain conditions, issuances of securities by subsidiaries of registered holding companies are, for the most part, exempt from the requirement of prior Commission approval.
Other Regulatory Provisions
Other provisions of the act concern regulating dividend payments (in circumstances where payments might result in corporate abuses); inter-company loans; solicitation of proxies, consents, and other authorizations; and insider trading. "Upstream" loans from subsidiaries to their parents and "upstream" or "cross-stream" loans from public utility companies to any holding company in the same holding company system require Commission approval. The act also requires that all services performed for any company in a holding company system by a service company in that system be rendered at a fair and equitably allocated cost.
Changes in the utility industry, its structure, and regulation are causing the act, in many cases, to be out of step with the realities of operation of the industry it regulates. In 1994, the Commission staff undertook a study of the future of public utility holding company regulation, culminating in a June 1995 report. The report concluded that, because of the increased role of state and other federal regulators, the federal securities laws, and the financial markets, many provisions of the act are no longer essential for protecting investors and consumers. The report's primary recommendation was repeal of the act, conditioned on preservation of some aspects of the act that continue to provide needed consumer protections. Specifically, the report recommended transfer of audit functions and jurisdiction over transactions among affiliated companies in holding company systems to the Federal Energy Regulatory Commission, and access to the books and records of companies in holding company systems to state utility commissions. The report also recommended, pending legislative action, administrative measures under the act to streamline and modernize regulation.