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Many businesses seek additional financing from time to time. In their
quest, they may encounter laws and regulations not ordinarily faced in day-to-day
operations. One area of concern relates to federal and state securities laws.
If the securities laws apply, a business may face a maze of legal and
regulatory burdens. If they are violated, a business and its principals may face
substantial civil, administrative, and even criminal sanctions. Because of increased
enforcement efforts by the North Carolina Secretary of State and continuing enforcement
efforts by the SEC, it is imperative that a business understand when the securities laws
will apply to a transaction.
To trigger the applicability of the securities laws, the purchase or
sale of a "security" must be involved. Certain registration and disclosure
requirements then may apply.
The definition of a security is very broad. Generally, a securities
transaction occurs if a person invests in an enterprise and expects profits from the
managerial efforts of others. A security may also be involved if a person provides the
risk capital for an enterprise and expects profits without receiving the right to exercise
practical and actual control over managerial decisions.
Determining whether an investment constitutes a security may be
difficult. Some investments, such as stocks and bonds, are traditional forms of
securities.
Other investments, however, may or may not be securities, depending upon
the circumstances. While limited partnership interests will almost always be securities,
general partnership and limited liability company interests may not be securities,
depending upon the number and type of partners or members involved and the distribution of
powers and control in the partnership or limited liability company.
Another investment that may constitute a security is the promissory
note. The traditional business loan in which a business borrows money from a bank and
delivers its promissory note will generally not trigger the securities laws. On the other
hand, if the business issues its promissory notes to a number of investors as a means of
raising capital, such notes may be determined to be securities.
Other investments not ordinarily thought to be securities
may be considered so under certain circumstances. For example, while a condominium unit is generally an
interest in real estate and not a security, a separate security may exist if the unit is
offered together with the opportunity to participate in a rental pool. Similarly, the sale
of real estate tied with a management agreement may involve the sale of a security. While
a country club membership is generally not thought to be a security, a typical start-up
country club membership offering in most instances will be found to be a securities
offering under North Carolina law.
Because of the potentially devastating risks associated with
noncompliance with the federal and state securities laws, it is imperative that a business
raising capital review the proposed transaction carefully to determine first whether a
security is involved and, if so, whether it complies with the securities laws.
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