Government Regulation of Business
Introduction
Federal and state governments regulate business activity to protect investors, consumers, employees, and the environment. The REG exam focuses on federal securities regulation, the Foreign Corrupt Practices Act, and key employment and environmental laws. This chapter provides a comprehensive overview of each area.
Federal Securities Regulation
Securities Act of 1933 — Registration and Disclosure
The Securities Act of 1933 regulates the initial issuance (primary market) of securities. Its core requirement is that securities must be registered with the SEC before being offered to the public, unless an exemption applies.
A registration statement includes:
- A prospectus (the portion delivered to investors) with financial statements, risk factors, and management information
- Additional exhibits and schedules filed with the SEC
Registration Exemptions
| Exemption | Key Features |
|---|---|
| Regulation A (Reg A+) | Simplified registration for offerings up to $75 million; two tiers with different disclosure requirements |
| Regulation D — Rule 504 | Offerings up to $10 million in a 12-month period; generally limited to state-level registration |
| Regulation D — Rule 506(b) | Unlimited offering amount; up to 35 non-accredited investors (who must be sophisticated); no general solicitation |
| Regulation D — Rule 506(c) | Unlimited amount; only accredited investors; general solicitation permitted if issuer verifies accredited status |
| Rule 144 | Resale of restricted or control securities after a holding period (6 months for reporting companies, 1 year for non-reporting) |
| Intrastate offering (Rule 147/147A) | Offered and sold only to residents of a single state where the issuer is organized and does business |
Accredited investors include individuals with net worth exceeding $1 million (excluding primary residence) or annual income exceeding $200,000 ($300,000 jointly), as well as institutional investors such as banks, insurance companies, and registered investment companies.
Example: Kingfisher Industries wants to raise $5 million from private investors. It uses Rule 506(b) to sell securities to 10 accredited investors and 5 sophisticated non-accredited investors without registering with the SEC. No general solicitation is permitted.
Securities Exchange Act of 1934
The Securities Exchange Act of 1934 regulates the secondary market (trading of securities after initial issuance). Key provisions include:
- Registration of exchanges, brokers, and dealers
- Periodic reporting requirements (10-K, 10-Q, 8-K) for public companies
- Proxy solicitation rules
- Anti-fraud provisions (Section 10(b) and Rule 10b-5)
Anti-Fraud Provisions
Section 10(b) and Rule 10b-5 make it unlawful to:
- Employ any device, scheme, or artifice to defraud
- Make untrue statements of material fact or omit material facts
- Engage in any act that operates as a fraud upon any person in connection with the purchase or sale of any security
:::tip Exam Tip
Rule 10b-5 applies to all securities (whether or not registered) and reaches both buyers and sellers. It requires proof of scienter (intent to deceive).
:::
Insider Trading
Insider trading occurs when a person trades securities based on material, nonpublic information in breach of a fiduciary duty. Insiders include officers, directors, and significant shareholders, as well as tippees who receive material nonpublic information from insiders.
Penalties for insider trading include:
- Civil penalties up to three times the profit gained or loss avoided (treble damages)
- Criminal fines up to $5 million for individuals and $25 million for entities
- Imprisonment up to 20 years
Example: The CFO of MAS Inc. learns that the company will announce a major acquisition. Before the announcement, he buys 10,000 shares. This is classic insider trading — trading on material, nonpublic information in breach of a fiduciary duty.
Foreign Corrupt Practices Act (FCPA)
The FCPA has two main components:
Anti-Bribery Provisions
It is unlawful for any U.S. person, company, or their agents to make payments to foreign government officials to obtain or retain business. The prohibition covers:
- Direct payments and payments through intermediaries
- Cash, gifts, travel, entertainment, or anything of value
- Facilitation payments (routine governmental actions like processing permits) are a narrow exception
Accounting and Recordkeeping Provisions
SEC-reporting companies must:
- Maintain books and records that accurately reflect transactions
- Maintain a system of internal accounting controls sufficient to provide reasonable assurance that transactions are properly authorized and recorded
The FCPA's accounting provisions apply to all SEC registrants, regardless of whether they do business overseas. Violations can result in criminal penalties, civil fines, and disgorgement of profits.
Example: Illini Security, a publicly traded U.S. company, pays $100,000 to a foreign official to secure a government contract overseas. This violates the FCPA's anti-bribery provisions, and the company's failure to record the payment accurately violates the accounting provisions.
Employment Law
Key Federal Employment Statutes
| Statute | Key Provisions |
|---|---|
| Fair Labor Standards Act (FLSA) | Minimum wage, overtime pay (1.5× for hours over 40/week), child labor restrictions |
| OSHA (Occupational Safety and Health Act) | Workplace safety standards; employers must provide a workplace free of recognized hazards |
| Workers' Compensation | State-mandated no-fault insurance for employees injured on the job; employees give up the right to sue the employer in tort |
| Title VII (Civil Rights Act of 1964) | Prohibits employment discrimination based on race, color, religion, sex, or national origin; applies to employers with 15+ employees |
| Age Discrimination in Employment Act (ADEA) | Protects employees age 40 and older; applies to employers with 20+ employees |
| Americans with Disabilities Act (ADA) | Prohibits discrimination against qualified individuals with disabilities; requires reasonable accommodations |
| Family and Medical Leave Act (FMLA) | Up to 12 weeks of unpaid leave for qualifying events (birth/adoption, serious health condition); applies to employers with 50+ employees |
:::tip Exam Tip
Workers' compensation is a no-fault system — the employee does not need to prove employer negligence. In exchange, the employee generally cannot sue the employer in tort for the workplace injury.
:::
Example: An employee of BIF Partners is injured while operating machinery. Under workers' compensation, the employee receives medical benefits and wage replacement regardless of fault, but cannot sue BIF Partners for negligence.
Environmental Law
Key Environmental Statutes
| Statute | Purpose |
|---|---|
| CERCLA (Superfund) | Imposes strict, joint and several liability for cleanup of hazardous waste sites on current owners, past owners, transporters, and generators of waste |
| Clean Air Act | Regulates air emissions from stationary and mobile sources; establishes National Ambient Air Quality Standards |
| Clean Water Act | Regulates discharge of pollutants into U.S. waters; requires permits for point-source discharges |
| RCRA (Resource Conservation and Recovery Act) | Regulates the generation, transportation, treatment, storage, and disposal of hazardous waste ("cradle to grave") |
Under CERCLA, liability is strict (no fault required), joint and several (any single responsible party can be held liable for the entire cleanup cost), and retroactive (applies to contamination that occurred before the statute was enacted).
Antitrust Law
Key Antitrust Statutes
| Statute | Prohibits |
|---|---|
| Sherman Act §1 | Contracts, combinations, or conspiracies in restraint of trade (e.g., price-fixing, market allocation, bid rigging) |
| Sherman Act §2 | Monopolization or attempts to monopolize a market |
| Clayton Act | Specific anticompetitive practices: price discrimination, exclusive dealing, tying arrangements, mergers that substantially lessen competition |
| Federal Trade Commission Act | Unfair methods of competition and unfair or deceptive acts or practices |
Violations of the Sherman Act can result in criminal penalties (fines up to $100 million for corporations) and civil suits seeking treble damages (three times actual damages).
Summary
| Topic | Key Rule |
|---|---|
| 1933 Act | Regulates initial issuance; registration required unless exempt |
| 1934 Act | Regulates secondary market; periodic reporting, anti-fraud |
| Rule 10b-5 | Scienter required; applies to all securities |
| Insider trading | Trading on material, nonpublic information; up to 3× civil penalties |
| FCPA | Prohibits bribes to foreign officials; requires accurate books and records |
| FLSA | Minimum wage and overtime requirements |
| Workers' comp | No-fault system; bars tort suits against employer |
| CERCLA | Strict, joint and several liability for hazardous waste cleanup |
| Sherman Act | Prohibits restraints of trade and monopolization |