“Blue-sky laws” are state laws regulating the sale of securities within that state. These laws are so named from early laws passed in Kansas and in the Midwest to protect investors from undertaking investments that had no more substance than the blue sky. Issuers of securities must comply with these state laws as well as the previously discussed federal regulations. Blue-sky laws may allow for both civil and criminal penalties against violators. The requirements of state blue-sky laws will differ among the states, but they are all based closely on the Uniform Securities Act, promulgated in 1956.
Are all issuers of securities required to comply with state blue sky laws?
Generally, no. In 1996, Congress passed the National Securities Markets Improvement Act (NSMIA) with the purpose of simplifying the registration process for issuers of securities. The NSMIA preempted any state regulation of certain “covered securities”. Covered securities include:
• those traded on a national exchange (such as the NYSE or CME);
• securities of registered investment companies, and
• offers of securities exempt from Federal registration under Regulation D, Rule 506.
NSMIA effectively limited the ability of states to regulate many security offerings. In addition to these preempted offerings, states also recognize any number of exemptions for certain issuances of securities:
• isolated transactions involving the issuance of securities;
• offers or sales to a limited number of offerees or purchasers within a stated time period;
• issuances qualifying as private offerings under Rule 504; and
• issuances to a predefined, but limited, number of purchasers.
Another optional model law is known as the Uniform Limited Offering Exemption. This provision excuses certain securities offerings, such as offerings issued pursuant to Regulation D, Rule 505.
• Discussion: Why do you think federal securities law sought to exempt certain securities issuances from state regulation? Why do you think that some states choose to either adopt or not adopt the Uniform Limited Offering Exemption?
• Practice Question: Under what circumstances does federal law limit the ability of states to regulate the issuance of securities?
What are the registration requirements under state law?
Registration pursuant to federal law focuses on disclosure of information to offerees and purchasers. States adopt this approach, but also may impose a test to make certain the security being issued meets certain quality standards. This is known as a “merit review”. The merit review examines certain qualities, such as the financial stability of the company making the issuance. Other examinations may focus on the terms or rights associated with the issued security. With this in mind, states generally employ one of three registration methods for issuers of securities:
• Registration by Qualification – Some states require issuers to undergo a full-blown registration, complete with a merit review. Issuers registering with the SEC must file duplicate documents with the state’s administrative agency regulating securities. Unless a state official objects, the state registration becomes effective automatically when the federal registration statement is deemed effective.
• Registration by Notification – Some states permit issuers with an established track record to simply file a notice before offering their securities. This allows issuers to offer securities for sale automatically after a stated time period expires unless the state administrative agency takes action to prevent the offering.
• Registration by Coordination – Some states permit issuers that have registered with the SEC to file copies of the federal registration statement (and perhaps some additional documents) with the state. This process requires a more detailed disclosure by the issuer. A security cannot be offered for sale until the administrative agency grants the issuer a license or certificate to sell securities.
⁃ Note: Alternatives forms of coordinated registration exist and are discussed below.
• Discussion: Why do you think states employ the additional layer of registration beyond the federal requirements? How do you feel about state merit reviews? Should the Federal Government employ a merit review for issuances? Why or why not?
• Practice Question: ABC Corp is issuing securities for sale in a number of states. ABC plans on seeking a federal exemption from registration under Rule 505. ABC is curious about the different registration requirements that it could face in different states. Can you describe the three major types of state-level registration?
What types of coordinated registration are available under state laws?
There are two primary options for registration by coordination that ease the process of complying with state securities requirements.
• Coordinated Review-Equity – This type of review is designed for use during an IPO that is seeking registration (not seeking a statutory or rule-based exemption from registration). It is generally not allowed for limited registrations under Regulation A. Under this program, the issuer files to register its securities in Pennsylvania. Pennsylvania Securities Commission (PSC) acts as an administrator and collects the required disclosure documents. The PSC will also choose another state that requires a merits review and solicit this state to review the offering. The issuer may then register this disclosure and merit review in any other state in which it seeks to sell securities. One state takes the lead on all disclosure concerns, while another assumes responsibility for any merit issues.
⁃ Note: This process is advantageous, as it allows the issuer to only deal with two states in the disclosure and review process. The alternative is to undergo disclosure and review requirements in every state of issuance.
⁃ Example: ABC Corp is undertaking an IPO. As part of the IPO process, ABC will be forced to register its securities in each state in which it is directly offering securities for sale. ABC seeks to undertake the coordinated review-equity process to circumvent the need to comply with the disclosure and review requirements of every state.
• Coordinated Review-Small Company Offering Registration – Most states permit the use of CR-SCOR for offerings under Rule 504 or Reg A, Tier 1. Under this program, registration only requires a simplified disclosure form. The issuer would be able to submit this form in lieu of going through the standard state disclosure or merit review requirements. Also, the SCOR system separates the US into five filing regions. Rather than filing a SCOR disclosure in each state where securities will be sold, the issuer can file in a region to cover all the states in that region.
⁃ Note: The issuer would have to file a disclosure in each region in which an issuance state is located.
⁃ Example: ABC Corp is undertaking a small offering issuance. It is seeking an exemption from federal registration under Rule 504. ABC will primarily offer securities for sale in Delaware, District of Columbia, Maryland, New Jersey, Pennsylvania, Virginia and West Virginia. All of these states are part of the Mid-Atlantic SCOR regions. As such, ABC may file the SCOR disclosure documents with each state rather than going through the state-mandated disclosure and review processes.
• Discussion: How do you feel about the coordinated-review programs available for IPOs and small offerings? What do you think is the state purpose behind allowing for these exemptions? Do you think these systems are effective in accomplishing those objectives? Why or why not?
• Practice Question: ABC Corp is considering issuing securities pursuant to rule 504. It needs to raise approximately $1 million in funds to grow operations. ABC is concerned with having to comply with state disclosure and review requirements? What options may be available for ABC? Please describe any procedures necessary in this process.