October 31, 2008

Keeping an Eye on Counterparty Credit Risks

Depressed stock prices inevitably raise the temptation for stock buybacks, and recently a number of large buybacks have been announced. Further, the SEC recently sought to encourage repurchase activity by temporarily relaxing the timing and volume conditions of Rule 10b-18. Stock buybacks remain controversial, however, and it is likely that the benefits and costs of buybacks will continue to be debated in these volatile times.

One approach to buybacks that has emerged over the past few years is the “accelerated share repurchase program" or “ASR.” (For a description of ASR programs, take a look at this blog from earlier this year.) In a recent research piece, Michael Gumport, Founding Partner of MG Holdings/SIP, notes that counterparty credit risk is potentially a big consideration in entering into ASR programs. In the piece, Mike notes that “[i]n light of current economic dislocations, companies contemplating execution of complex ASRs (or with ASRs in progress) ought to weigh whether counterparty risk is attached and, if so, the adequacy of compensation.”

I think that this piece highlights the need to evaluate counterparty credit risk in a wide variety of transactions where previously the future performance of the institutional counterparty was pretty much taken as a given. Today, the assessment of counterparty credit risk is complicated by concerns about credit ratings, which often serve as the basis for evaluating risk, and (as demonstrated by Bear Stearns and Lehman Brothers) the extent to which circumstances can change very rapidly. As companies consider their overall risk management practices, the continuous evaluation of counterparty risks of all kinds needs to be high on the list of priorities.

Mark-to-Market Roundtable

On Wednesday, the SEC held its first of two roundtables on mark-to-market accounting. The purpose of the two roundtables is to develop information for the study of fair value accounting that was mandated by the Emergency Economic Stabilization Act. Wednesday’s roundtable was focused on how fair value is used by financial institutions.

In his opening remarks at the roundtable, Chairman Cox noted:

“As we begin our panel discussions, it is important to keep firmly in mind the primary role of financial reporting as a direct communication with investors. Financial reporting serves several other purposes as well, including its use by safety and soundness regulators of financial institutions. Because of the many uses of financial information, today's topic is not simply an accounting matter. It is important that these differences between the uses of financial information by investors, regulators, and businesses themselves, among others, be recognized and appreciated.”

Earlier this week, Robert Denham, Chairman of the Financial Accounting Foundation (which is responsible for oversight of the FASB) sent a letter to Chairman Cox asking that the SEC not bow to the pressure being put on fair value accounting, noting that “it would be detrimental to investor confidence to overturn a FASB standard or otherwise suspend or restrict independent standard-setting activities of the FASB in the current environment and in response to political pressure from some financial industry groups.”

A Blow to F-Cubed Litigation?

We have posted several memos in our “Securities Litigation” Practice Area concerning the recent decision of the Second Circuit Court of Appeals in the case of Morrison v. National Australia Bank Ltd., No. 07-0583-cv, 2008 (Oct. 23, 2008). This case is notable because it has now provided some clarification on issues concerning the extraterritorial reach of the US federal securities laws that have arisen in a recent rash of “f-cubed” litigation, where foreign investors sue foreign issuers over losses incurred on foreign securities exchanges.

At the invitation of the Second Circuit, the SEC filed an amicus brief in this case which supported the views of the plaintiffs.

- Dave Lynn

October 30, 2008

A New Chapter in the CSX Dispute

As noted in this WSJ article, a Section 16(b) claim has been filed against the two hedge funds that were locked in a dispute with CSX Corp. earlier this year. A CSX shareholder has filed suit against The Children’s Investment Fund Management and 3G Capital Partners, seeking to recover (on behalf of CSX and its shareholders) alleged short swing profits arising from the funds’ transactions in CSX securities and derivatives. This could be a very interesting case, as was the earlier litigation, which focused attention on the funds’ use of derivatives in the contest for control of CSX.

Posted: More Memos on Expiring Shelf Registrations

As Broc noted in the blog last summer – and as we recently covered in the latest issue of The Corporate Counsel in the context of the recent sharp decline in stock prices – the clock is ticking on issuers who will have shelf registrations expire soon under the 3-year sunset provision of Rule 415(a)(5). We have been posting lots of memos on this topic in our “Form S-3” Practice Area. Be sure to check them out before it is too late!

The Rise of Sovereign Fund Investing

We have posted the transcript from our popular DealLawyers.com webcast: "The Rise of Sovereign Fund Investing."

What Are You Going to Be for Halloween?

Sadly, Halloween has become almost a non-event in my household this year. I think that this is the first time in a few years that I did not get a Halloween costume for myself, so I won’t be wandering around the neighborhood tomorrow as Jack Sparrow, Darth Vader or Chewbacca. Plus, I was disappointed that my local costume shop didn’t have any Hank Paulson masks. Maybe next year…

- Dave Lynn

October 29, 2008

CD&A at a Crossroads

With November just around the corner and, for many companies, perhaps the last compensation committee meeting of the year scheduled in the next two months, it is now critically important to start thinking about your Compensation Discussion & Analysis for the 2009 proxy statement. There is still time for companies and compensation committees to take appropriate actions that can serve as the foundation for the analytical disclosure in the CD&A that the SEC and others expect. Many of these actions were discussed in detail last week at our two conferences, “Tackling Your 2009 Compensation Disclosures: The 3rd Annual Proxy Disclosure Conference” and the “5th Annual Executive Compensation Conference,” as well as at the “16th Annual NASPP Conference.”

To kick off the CD&A panels at the 3rd Annual Proxy Disclosure Conference, I noted my view that CD&A is really at a crossroads this coming proxy season. In many ways, the 2009 proxy season will likely determine whether CD&A slides into irrelevance like its predecessor, the old Board Compensation Committee Report, or whether it will finally provide the crucial analytical background to the compensation numbers that was intended all along. I don’t think that the possibility for irrelevance is overblown – complaints are surfacing that institutional investors are skipping over CD&A and going straight to the compensation tables, because they are not finding useful information presented in the CD&A. This trend was confirmed by Pat McGurn and others on “The Investors and Proxy Advisors Speak” panel at the 3rd Annual Proxy Disclosure Conference. This trend, in my view, can only lead to trouble, because investors are only getting part of the story if they skip the explanation and rationale that is supposed to be included in the CD&A.

Several factors will certainly contribute to the focus on CD&A in 2009 and beyond. If some form of say-on-pay is enacted and investors are given the opportunity to cast an advisory vote on the CD&A and the other compensation disclosures, then what is said this next proxy season will be an important backdrop for voting decisions, even if mandatory say-on-pay votes don’t occur until 2010. Further, while the recent Emergency Economic Stabilization Act and the TARP program implementing that legislation included executive compensation provisions that are only applicable to participating financial institutions, the existence of these provisions in the federal legislation are reason enough to compel companies to consider taking action now on executive pay concerns – whether analogous to the Act’s provisions or in other areas that remain a significant focus of investor criticism. As Broc noted in the blog last week, John White’s speech at our 3rd Annual Proxy Disclosure Conference included White’s views on how the executive compensation provisions of the TARP may be instructive for other companies on how they should approach their executive compensation programs. Finally, with 2008 being a year when many companies faced significant challenges given the markets and the economy, all eyes will be on the CD&A in the 2009 proxy to see what compensation committees did do – or did not do – to address executive pay in the face of difficult conditions.

It may be that we now find ourselves at a broader tipping point on executive pay, marked by the recognition of some pay excesses in recent federal legislation and a clearly rising level of anger among investors over how compensation decisions may have contributed to the current situation.

Now it is up to all boards and their advisors to take the public and shareholder anger to heart when making compensation decisions. These developments make this year very different from what we have been dealing with in the past. As a result, disclosures must be different, and the company and compensation committee actions described in those disclosures need to be different. I don’t think that this is a situation where you can just look at the disclosure in a vacuum and try to tweak it here are there – there needs to be some deep consideration in the next two months as to how the compensation policies and decisions are going to be explained to investors in 2009.

For more on John White’s speech and how executive compensation disclosure should be changing in 2009, take a look at Mark Borges’ initial blog and follow-up blog on the 3rd Annual Proxy Disclosure Conference.

Waxman Seeks Wall Street Compensation Data

In a sure sign of how much things have changed, the focus on excessive compensation seems to be shifting from the executive suite to the broader employee population at those major financial institutions receiving an infusion of government money. In the wake of press reports on Monday about the size of Wall Street bonuses this year, Henry Waxman (D-CA), Chairman of the House Committee on Oversight and Government Reform, sent letters to nine major banks seeking detailed data about overall employee compensation at the banks. In the letter, Waxman states: “While I understand the need to pay the salaries of employees, I question the appropriateness of depleting the capital that taxpayers just injected into the banks through the payment of billions of dollars in bonuses, especially after one of the financial industry’s worst years on record.” Chairman Waxman asks that the information be provided no later than November 10, 2008.

For more on this development, see Broc's entry today in The Advisors' Blog on CompensationStandards.com.

More Executive Compensation Data in XBRL Format

Last week, a company by the name of Xtensible Data announced that its recently released interactive data website now includes 2006 and 2007 executive compensation data reported in XBRL for more than 4000 companies. This is a significantly greater data set than the SEC provides in its own executive compensation viewer, which only includes 2006 data for 500 large companies.

Like the SEC’s viewer, Xtensible Data’s Corporate Pay interactive tool focuses on the information provided in the Summary Compensation Table. The data is based on information from public filings, and the company has converted the data from HTML or standard text into an interactive XBRL format. The database can be searched based on company name and ticker, stock index, and industry, and the results can be sorted by each column of the Summary Compensation Table, and filtered by executive type and fiscal year. The method used to determine the value of stock and option awards may also be selected by the user. The Corporate Pay tool also allows users to graph the executive compensation information (including comparative graphs) and the data may be downloaded into Excel.

- Dave Lynn

October 28, 2008

The Perils of Pledging

One of the topics discussed several times at last week’s “Tackling Your 2009 Compensation Disclosures: The 3rd Annual Proxy Disclosure Conference” and the “5th Annual Executive Compensation Conference” was pledging of securities by executives, typically done under margin arrangements. A NY Times article from last week was among the latest media reports to note the rise in insider sales of securities necessary to satisfy margin requirements. The article notes the inadequacy of disclosure regarding pledged securities, despite the fact that the SEC specifically required disclosure of pledged shares in the Beneficial Ownership Table when it adopted the 2006 amendments to the executive compensation disclosure requirements.

Volatility in the stock market will continue to drive this trend – along with all of its potential pitfalls for executives and their companies. Because company stock may be pledged as collateral for margin on an account where an executive maintains a more diversified portfolio of securities, broad market swings can result in margin calls and the forced liquidation of company securities even in situations where the company’s share price remains relatively stable. Unfortunately, this issue may often be a “blind spot” in company policies on stock ownership, insider trading, codes of conduct, etc. As a result, many companies will need to re-examine this issue in light of the current turmoil - and before year-end - so that any necessary changes can be highlighted in the Compensation Discussion & Analysis for the 2009 proxy statement.

Look for more on this critical topic in the upcoming issue of The Corporate Executive. If you aren't a subscriber to The Corporate Executive, take advantage of a "Rest of '08 for Free" no-risk trial. If you are a current subscriber, be sure to renew for '09 since all subscriptions are on a calendar-year basis.

A Banner Year for SEC Enforcement?

Last week, the SEC announced that the agency had the second highest number of enforcement actions take place in fiscal 2008, with 671 actions brought through the September 30, 2008 end of the fiscal year. The glowing press release notes that the SEC brought the highest number ever of insider trading cases during fiscal 2008, as well as a sharp increase in the number of market manipulation cases. The press release also notes the obvious uptick in Foreign Corrupt Practices Act cases, with 15 such cases filed in 2008 and a total of 38 FCPA cases brought since January 2006. Interestingly, the press release does not note how many cases the agency brought to suspend trading in and/or revoke the registration of delinquent filers, which has been a significant focus (in terms of the number of cases) over the past few years. The SEC notes that, for a second year in a row, more than $1 billion was returned to harmed investors through Fair Funds distributions.

The Division of Enforcement and the Commission’s attitude toward Enforcement matters have been under quite a lot of scrutiny recently, so it is good to still see these impressive numbers. While much might be made of the mix of cases that the SEC has brought (i.e., too much insider trading and not enough accounting fraud), it is important to keep in mind that priorities change over time and the agency always has to make due with its limited resources by focusing its enforcement efforts. Further, the Enforcement process – even with the many improvements made in recent years – remains relatively slow and will lag to a great extent the issues that are in the immediate public consciousness. All in all, these results should be taken as a positive sign that the SEC remains “on the beat.”

Unfortunately, the same might not be said for the FBI in its efforts to investigate financial fraud. This NY Times article notes that the FBI’s staff of white collar investigators shrank as the agency’s role shifted toward terrorism and intelligence. Most disturbing is the possibility that the shrinking ranks of white collar investigators may have thwarted efforts to investigate financial fraud occurring in the housing market in 2003 and 2004, when perhaps the criminal authorities could have made a real difference in how the financial crisis ultimately played out.

PCAOB Proposes Audit Risk Standards

Last week, the Public Company Accounting Oversight Board announced seven proposed auditing standards relating to “the auditor's assessment of and responses to risk.” The PCAOB notes that these proposed standards would supersede the interim auditing standards related to audit risk and materiality, audit planning and supervision, consideration of internal control in an audit of financial statements, audit evidence, and performing tests of accounts and disclosures before year end. These new standards are all built around the concept of audit risk, which is the risk that an auditor will express an inappropriate opinion when financial statements are materially misstated. The titles of the proposed standards are:

- Audit Risk in an Audit of Financial Statements
- Audit Planning and Supervision
- Identifying and Assessing Risks of Material Misstatement
- The Auditor's Responses to the Risks of Material Misstatement
- Evaluating Audit Results
- Consideration of Materiality in Planning and Performing an Audit
- Audit Evidence

The proposals are out for a generous 120-day comment period, ending February 18, 2009.

- Dave Lynn

October 27, 2008

Dave's New Journey

During our Conferences, I announced that my co-blogger - Dave Lynn - would be taking on a new role as a Partner for Morrison & Foerster, working out of their DC office. We are happy for Dave, particularly because he also will continue to work with us. So you will continue to see him on our sites and print publications - just like Alan Dye splits time with Hogan & Hartson and us.

Not only is Dave a great guy, but he truly is a securities law genius. In my unique role setting up numerous conferences and panels over the years, I've worked with all the greats and I can honestly say I've never seen anyone quite like Dave. And I'm not the only one who thinks so, many of the greats regularly confer with Dave even though they have more experience. So seek Dave out in his new capacity if you need smart counsel.

Catch-Up Now: Register for Video Archive of the Executive Compensation Conferences

You will be hearing quite a bit from your clients and colleagues about last week's “Tackling Your 2009 Compensation Disclosures: The 3rd Annual Proxy Disclosure Conference” and the "5th Annual Executive Compensation Conference."

Not only was John White's speech noteworthy, but every panel made an effort to provide practical implementation guidance for the challenges ahead of us. And given the likelihood that say-on-pay legislation will be adopted soon that will require shareholder votes on executive pay in 2010, the importance of your upcoming proxy disclosure can't be overstated as investors will use that when they decide whether to include your company on a "watch list" and set your company on a path to not earn shareholder approval. You can still catch-up and register to watch the archived video of the Conferences (and obtain the critical Course Materials).

The Sights & Sounds of the Executive Compensation Conferences

Over 1800 Watch John Olson and Crew

The plenary session for the "5th Annual Executive Compensation Conference" was large (with several thousand more online):

The "We Want Heat" Chant

It got a little nippy during the "3rd Annual Proxy Disclosure Conference," so I led the audience in a chant:

Baker & McKenzie's Voodoo Dolls

Our Conference swag is always among the best; this year's breakout hit was Baker & McKenzie's voodoo dolls. Attendees were trading them like crazy:

Shiny Swag from Citi Smith Barney

Perfect for New Orleans - so shiny:

Merrill Lynch's Photos

Many service providers took out clients after our receptions (one hired Howie Mandel for a private gig; another hired the singer Jewel). On Wednesday night, three different parades with marching bands left the hotel to private events. The hotel said that was two more than any other conference held there. Merrill Lynch provided keepsakes for their clients:

'Living Room' Exhibit Space

This exhibit booth from Stock & Options Solutions was the coolest I've seen in years:

Dude Singing 'Time to Go'

My personal favorite moment was this dude telling the folks in the exhibit hall that the panels were back in session. Rather than ring a bell, he sang the schedule and more:

- Broc Romanek

October 24, 2008

Rock Bottom: Here We Come...

As I get on the plane to leave our Conferences in New Orleans, CNBC has this headline on its site: "Furious Stock Selloff Takes Historic Tone." I believe we are just at the beginning of a dramatic restrucuring of our financial markets, particularly our regulatory framework. I know this is not going out on a limb at this point, but it bears repeating as we all think about our own career paths and immediate situations.

Yesterday's US Senate Committee on Oversight and Government Reform hearing on the future of regulation was predictably sobering. Former Fed Reserve Alan Greenspan was grilled by angry Senators and Greenspan said he made a mistake for being too deregulatory. Here is the testimony from SEC Chair Chris Cox.

I know there is plenty to blog about regarding daily headline developments, but we are going to try to blog about the many other developments that impact the "bread and butter" of our members' daily practices - partly to keep the tone from being so darn depressing...

Despite Conviction: Advancement Rights Continue Through Appeal

Travis Laster notes: In Sun Times Media Group v. Black, issued back on July 30th, Delaware Vice Chancellor Strine resolved a single question: Is a guilty verdict a "final disposition" for purposes of mandatory advancement rights, or do advancement rights continue through post-conviction proceedings and appeal? In a thorough 47-page opinion, the Vice Chancellor holds that advancement rights continue until the decision is truly final and not subject to potential reversal on appeal.

This decision resolves an issue that has arisen with increasing frequency in recent years, as corporations have bridled at providing advancements to individuals they believed had breached their fiduciary duties or engaged in bad or even criminal conduct. After a series of decisions from the Court of Chancery making clear that the corporation's beliefs as to such matters were not a basis to cut off mandatory advancement rights, corporations began to focus on events that might otherwise provide a cutoff point, with guilty pleas and criminal convictions serving as the leading candidates.

In Sun Times, Vice Chancellor Strine holds that advancement rights continue through appeal based on the plain language of Section 145, Delaware public policy, and the unworkable regime that would result from advancement rights that started or stopped at each phase of a proceeding. Prior to this opinion, practitioners had only the language of Section 145 and two transcript rulings from scheduling conferences for guidance. Although these authorities pointed strongly in favor of the outcome reached in Sun Times, the issue has now been definitively resolved.

As I noted in discussing the recent CA decision, the next round on mandatory advancement rights likely will involve a board arguing that a mandatory advancement bylaw cannot compel the directors to provide advancements if they believe that by doing so they would breach their fiduciary duties. This argument was not viable under prior advancement decisions, but it could be asserted in good faith after the Supreme Court's broad language against mandatory bylaw provisions set forth in CA. The argument also could be made to challenge a contract-based advancement right, but in my view remains non-viable against charter-based advancement rights.

Introducing the Lead Director Network

In this podcast, Jeff Stein of King & Spalding discusses a new group for lead directors, presiding directors and non-executive board chairs, called the "Lead Director Network" (see the LDN's first issue of Viewpoints) including:

- What is the Lead Director Network?
- What is the exact purpose of the Network? For example, will the Network engage in advocacy on behalf of corporate directors or boards? Why do members choose to participate in the Network?
- So who are the initial members of the Network?
- How does the Lead Director Network differ from other director organizations (for example, NACD and the Millstein Center's independent chair's group)?
- What topics did the members of the Network cover in their first meeting, held this past July?
- What are the some of the topics that may be addressed by the Lead Director Network in the future? What do you see on the horizon for the Lead Director Network?

- Broc Romanek

October 23, 2008

Economic Crisis Impacts: Disclosure in 1934 Act Reports

In the September-October issue of The Corporate Counsel - which was just mailed - the primary focus is on issues you need to consider for your upcoming Forms 10-Q and 10-K. It's a great issue, which includes pieces on:

- Economic Crisis Impacts: Disclosure in 1934 Act Reports
- More Meltdown Fallout—Falling Share Prices Can Affect S-3 Eligibility, WKSI Status, Listing
- SEC Regulation of Investment Banking—R.I.P.
- Legal Opinions in Rule 14a-8 No-Action Letter Requests
- Rule 701 Heads-Ups—Measurement Date(s) for Restricted Stock/RSUs
- New 1934 Act CDIs—Staff Confirms 10-K Delinquency Date Where Issuer Doesn't File Proxy Statement Within 120 Days After Yearend
- The Recent Short Sale Ban—Impact on Counterparty Transactions
- A Few More Meltdown Thoughts
- It's Here! Lynn, Romanek & Borges' Executive Compensation Treatise

If you aren't a subscriber yet, take advantage of a "Rest of '08 for Free" no-risk trial to have this issue sent to you immediately. Current subscribers will want to start renewing for '09 since all subscriptions are on a calendar-year basis.

Trends: Retail Ownership Continues to Drop

Not a big surprise that the concentration of ownership of US companies among institutional investors continues to grow, but it's nice to get confirmation of this trend via this Conference Board press release with plenty of statistics, including that retail ownership of US stocks has fallen to a record low of 34% of all shares and 24% for the top 1,000 companies at the end of 2006.

Fallout from the Market Dip: Preferred Shareholders Sue

In his "D&O Diary" Blog, Kevin LaCroix notes how preferred shareholders have begun securities class action lawsuits for the first time.

- Broc Romanek

October 22, 2008

John White: Musing on How TARP May Impact All Executive Compensation Disclosures (Not Just Big Banks)

At our "3rd Annual Proxy Disclosure Conference" yesterday, Corp Fin Director John White delivered an important speech - entitled "Executive Compensation Disclosure: Observations on Year Two and a Look Forward to the Changing Landscape for 2009" - during which John talked briefly about how the TARP's executive compensation provisions could potentially spill-over and impact the many companies not directly subject to TARP. Specifically, John addressed the TARP provision that requires participating financial institution's compensation committees to meet with the senior risk officers of the institution to ensure that the incentive compensation arrangements do not encourage the senior executive officers to take "unnecessary and excessive risks that threaten the value of the financial institution." Here is an excerpt from John's remarks on this topic:

Most of you are not from financial institutions, so let's talk for a moment about non-participating companies. This new Congressionally-mandated limitation on having compensation arrangements that could lead a financial institution's senior executive officers to take unnecessary and excessive risks that could threaten the value of the financial institution obviously applies on its face only to participants in the TARP.

But, consider the broader implications and ask yourself this question: Would it be prudent for compensation committees, when establishing targets and creating incentives, not only to discuss how hard or how easy it is to meet the incentives, but also to consider the particular risks an executive might be incentivized to take to meet the target — with risk, in this case, being viewed in the context of the enterprise as a whole? I'll let you think about what Congress might want. We know what our rules require. That is, to the extent that such considerations are or become a material part of a company's compensation policies or decisions, a company would be required to discuss them as part of its CD&A. So please consider this carefully as you prepare your next CD&A.

Also, more broadly speaking, I expect that current market events are already affecting many companies' compensation decisions and thus should be affecting the drafting of their upcoming CD&A's. Regardless of whether your company participates in the TARP and consequently finds itself having to make new material disclosures, you should not merely be marking up last year's disclosure. Instead, you should be carefully considering if and how recent economic and financial events affect your company's compensation program.

For example, have you modified outstanding awards or plans, or implemented new ones? Have you reconsidered the structure of your program, or the relative weighting of various compensation elements? Have you waived any performance conditions, or set new ones using different standards? Have you changed your processes and procedures for determining executive and director pay, triggering disclosure under Item 407? These questions and more should be addressed as you consider disclosure for 2008.

Corp Fin's '09 Narrowly Selected Review of Executive Compensation Disclosures

Regarding Corp Fin's review of compensation disclosures filed during the upcoming proxy season, John said this during his speech:

We also are looking at how we will shape our Corporation Finance review program for 2009 in light of recent market events, including the new executive compensation provisions in TARP and continued investor interest in executive compensation. As you know, our selective review program is guided by Section 408 of Sarbanes-Oxley, which requires that we review all public companies on a regular and systematic basis, but in no event less frequently than once every three years. The Act also sets out criteria for us to consider in scheduling these regular and systematic reviews, including considering companies that "experience significant volatility in their stock price," companies "with the largest market capitalizations," and companies "whose operations affect any material sector of the economy." As you also will recall, in 2007 we did a targeted review of the executive compensation disclosure under our then-new rules for 350 companies of all sizes.

Our plan for 2009 will be responsive to current conditions. In 2009 we will select for review and review the annual reports of all of the very largest financial institutions in the U.S. that are public companies. This group will include the nine large financial institutions that have already agreed to participate in the Treasury's capital purchase program. Our reviews will include both the financial statements and the executive compensation disclosures of these companies. We also intend to monitor the quarterly filings on Form 10-Q and current reports on Form 8-K of these companies.

Today: "5th Annual Executive Compensation Conference"

Today is the “5th Annual Executive Compensation Conference.” Note you can still register to watch online - and note that the archived video for yesterday's "3rd Annual Proxy Disclosure Conference" is now available.

- How to Attend by Video Webcast: If you are registered to attend online, just log in to TheCorporateCounsel.net or CompensationStandards.com to watch it live or by archive (note that it will take about a day to post the video archives after it’s shown live). A prominent link called “Enter the Conference” on the home pages of those sites will take you directly to today's Conference.

Remember to use the ID and password that you received for the Conferences (which may not be your normal ID/password for TheCorporateCounsel.net or CompensationStandards.com). If you are experiencing technical problems, follow these webcast troubleshooting tips. Here is the Conference Agenda; times are Central.

- How to Earn CLE Online: Please read these FAQs about Earning CLE carefully to see if that is possible for you to earn CLE for watching online – and if so, how to accomplish that. Remember you will first need to input your bar number(s) and that you will need to click on the periodic “prompts” all throughout each Conference to earn credit. Both Conferences will be available for CLE credit in all states except Pennsylvania (but hours for each state vary; see the list for each Conference in the FAQs).

- Broc Romanek

October 21, 2008

Today: “Tackling Your 2009 Compensation Disclosures: The 3rd Annual Proxy Disclosure Conference”

Today is the “Tackling Your 2009 Compensation Disclosures: The 3rd Annual Proxy Disclosure Conference”; tomorrow is the "5th Annual Executive Compensation Conference." Note you can still register to watch online by using your credit card and getting an ID/pw kicked out automatically to you without having to interface with our Staff (but you can still interface with them if you need to).

- How to Attend by Video Webcast: If you are registered to attend online, just log in to TheCorporateCounsel.net or CompensationStandards.com to watch it live or by archive (note that it will take about a day to post the video archives after it’s shown live). A prominent link called “Enter the Conference” on the home pages of those sites will take you directly to today's Conference.

Remember to use the ID and password that you received for the Conferences (which may not be your normal ID/password for TheCorporateCounsel.net or CompensationStandards.com). If you are experiencing technical problems, follow these webcast troubleshooting tips. Here is the Conference Agenda; times are Central.

- How to Earn CLE Online: Please read these FAQs about Earning CLE carefully to see if that is possible for you to earn CLE for watching online – and if so, how to accomplish that. Remember you will first need to input your bar number(s) and that you will need to click on the periodic “prompts” all throughout each Conference to earn credit. Both Conferences will be available for CLE credit in all states except Pennsylvania (but hours for each state vary; see the list for each Conference in the FAQs).

- How Directors Can Earn ISS Credit: For those directors attending by video webcast, you should sign-up for ISS director education credit using this form. This is meant to facilitate providing information to ISS; they are the ones in charge of accreditation and any disputes will need to be taken up with them.

Soliciting Queries for Our "Compensation Consultants Speaks" Panel

Among the more popular panels during Wednesday's "5th Annual Executive Compensation Conference" will be the panel entitled "The Consultants Speak: Straight Talk from the Top Experts." I am soliciting issues or questions to be addressed by the panel if you want to shoot me an email beforehand (they will be posed anonymously).

Moral Hazard and Executive Compensation

Setting the tone for our big executive compensation conferences, we have posted an important new alert on CompensationStandards.com from Fred Cook, founder of Frederic W. Cook & Co. In his piece - "Moral Hazard and Executive Compensation" - Fred addresses what moral hazard means and lays out a number of steps that you can take to mitigate it. We strongly urge you to read this piece and show it to your CEO and directors.

- Broc Romanek

October 20, 2008

Here They Come: First Batch of North Dakota Reincorporation Proposals

In response to a no-action request, the SEC's Corp Fin Staff recently decided that Hain Celestial could not exclude a shareholder proposal calling for the company to reincorporate to North Dakota from its proxy statement (the company had hoped to exclude the proposal on procedural grounds; there don't appear to be substantive grounds to argue for exclusion). Hain Celestial is incorporated in Delaware; the other two companies with this proposal so far - Oshkosh and Whole Foods - are incorporated in Wisconsin and Texas, respectively. Here is a copy of the proposal.

More companies can expect this type of proposal this proxy season as proponents attempt to leverage the North Dakota Publicly Traded Corporations Act, enacted in mid-'07 to provide for a host of shareholder-friendly measures (as noted in this blog).

As noted in this Reuters article, hold-til-retirement and say-on-pay will be two popular shareholder proposals topics during this proxy season as investors turn their attention to pay practices that encourage excessive risk-taking.

An Opportunity to Comment on RiskMetric's '09 Proxy Policies

Last week, RiskMetrics' ISS Division put up a "Request for Comment" for a number of potential modifications to its policies for 2009. Take advantage of this opportunity to influence these important proxy voting policies through an easy-to-use online form. This year, the topics include:

- Poor Accounting Practices (U.S.)
- Discharge of Directors (Europe)
- Independent Chair (U.S.)
- Names of Director Nominees Not Disclosed (Global)
- Net Operating Loss Poison Pills (U.S.)
- Peer Group Selection for Executive Compensation Comparisons (U.S.)
- Poor Pay Practices (U.S.) Pay for Performance (U.S.)
- Corporate Social Responsibility Compensation Related Proposals (U.S.)
- Share Buyback Proposals (Global)

This Gibson Dunn memo summarizes RiskMetrics' proposed policy changes. In addition, RiskMetrics has made these survey results from institutional investors available.

How Do You Feel About the Upcoming Proxy Season?

- Broc Romanek

October 17, 2008

Nasdaq Proposes Suspension of Bid Price and Market Value Tests

Nasdaq has made a rule filing with the SEC seeking to temporarily suspend the exchange’s bid price and market value of publicly held securities continued listing requirements until January 16, 2009, given the current state of the market. The last time the Nasdaq imposed an across-the-board, three-month moratorium on the application of its minimum bid and public float requirements for continued listing was during the market turmoil following September 11, 2001.

In its filing, Nasdaq notes that, as of September 30, 2007, there were only 64 securities trading below $1 on Nasdaq, while by September 30, 2008 that number had jumped to 227, and by last Thursday, the number of securities trading below a $1 was 344. Nasdaq further notes that “during this time there was no fundamental change in the underlying business model or prospects for many of these companies, but the decline in general investor confidence has resulted in depressed pricing for companies that otherwise remain suitable for continued listing. These same conditions make it difficult for companies to successfully implement a plan to regain compliance with the price or market value of publicly held shares tests.”

Nasdaq is requesting that the SEC waive the 30-day operative delay period so that the rule change can be put in place immediately.

I think that this is a very positive step to help both issuers and investors at a time when neither can afford to experience unnecessary delistings.

Time to Choose Prime over LIBOR?

Earlier this year, I blogged about the troubles with LIBOR, that ubiquitous short-term rate used in so many lending arrangements. Now, with the extraordinary conditions in the credit markets (including a near collapse of inter-bank lending – yikes!), LIBOR has shot up, hitting new highs in recent weeks.

In an alert issued earlier this week, Foley Hoag LLP discussed the impact of the inversion of LIBOR relative to the US Prime Rate and the potential impact on credit agreements:

“U.S. Companies that borrow under bank credit facilities that provide for the borrower to elect payment of interest at either a LIBOR-based rate (sometimes called a "Eurodollar" loan) or a Prime Rate-based rate (sometimes called a "Base Rate" loan) need to be aware of a significant development resulting from the recent turmoil in the world’s credit markets.

Under normal market conditions, the Prime Rate generally exceeds LIBOR rates. Given this, borrowers generally elect to pay interest at a LIBOR-based rate on loans that will be outstanding for more than a short time.

However, in recent days, certain LIBOR rates have at times exceeded the Prime Rate quoted by most major U.S. banks. Because of this, chief financial officers and treasurers need to carefully monitor their LIBOR/Eurodollar interest periods and consider whether to elect the Prime Rate/Base Rate when those interest periods next roll over. Furthermore, borrowers may wish to consider whether to "break funding" on some or all of their existing LIBOR/Eurodollar contracts and convert their outstanding loans to Prime Rate/Base Rate loans – depending on how LIBOR rates have moved since the beginning of the current interest period for an outstanding LIBOR/Eurodollar loan, borrowers may have to pay minimal or no "breakage costs" for doing so. The ability to “break funds” on an outstanding LIBOR/Eurodollar loan and convert it to a Prime Rate-based loan will depend on, among other factors, the language of the relevant loan agreement and whether the relevant loan is a revolver loan or a term loan, and borrowers should discuss this option with their lender before doing so.

It’s impossible to predict how long this anomalous situation will last, but the savings to alert companies could be substantial. When and if this rate inversion is reversed and more normal conditions prevail, borrowers under typical loan agreements should again be able to elect LIBOR on short notice and resume their normal interest rate strategies.”

Walk-in Registration for New Orleans

For our big executive compensation conferences next week, online registration for New Orleans attendance closed last night. However, you can walk-in and register in New Orleans with a check or credit card. In light of current economic conditions, we are waiving the standard walk-in fee this year.

Note that you will still be able to register for the video webconference at any time as this deadline doesn't apply to that method of attendance.

I look forward to seeing you either in New Orleans or on the web!

- Dave Lynn

October 16, 2008

Treasury Guidance on Executive Compensation Provisions of the EESA

This week, the Treasury Department and the IRS rushed out guidance and rulemaking on the executive compensation provisions included in the Emergency Economic Stabilization Act. The guidance comes out as Treasury seeks to implement the $250 billion Capital Purchase Program (CPP), as well as other programs under the Troubled Asset Relief Program (TARP). The new rules and guidance are included in:

- A Treasury interim final rule release for participants in the CPP.

- An IRS notice regarding the Section 162(m) and 280G provisions of the EESA.

- A Treasury notice describing golden parachute restrictions applicable to institutions participating in the Troubled Asset Auction Program (TAAP).

- A Treasury notice describing (much tougher) golden parachute restrictions applicable to institutions participating in the Programs for Systematically Significant Failed Institutions (PSSFI).

For an excellent summary of the rulemaking and guidance, see Mark Borges’ Proxy Disclosure blog and Mike Melbinger’s Compensation blog, both on CompensationStandards.com.

These provisions are only applicable to a relatively narrow group of financial institutions. While this NY Times article notes some doubt about the real impact of the provisions on executive pay at financial institutions – much less on other companies – I think that it is starting to feel like we are at a broader tipping point with the recognition of some pay excesses in this federal legislation. Now it is up to all boards to take the public and shareholder anger to heart when making compensation decisions. This will certainly be a topic that we will discuss in more detail at next week’s “3rd Annual Proxy Disclosure Conference” & “5th Annual Executive Compensation Conference.” Don’t miss them!

Accounting Guidance: It Keeps on Flowing

The accounting guidance for fair value and other financial meltdown issues continues to flow at a rapid pace:

1. Last Friday, the FASB issued FASB Staff Position No. 157-3, Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active. This FSP amends FAS 157 by incorporating “an example to illustrate key considerations in determining the fair value of a financial asset” in an inactive market. FSP No. 157-3 is effective upon issuance, and should be applied to prior periods for which financial statements have not been issued – including in upcoming third quarter 10-Qs. The FSP notes that the guidance included in the Statement is consistent with the guidance provided by the SEC’s Office of Chief Accountant and the FASB Staff in last month's press release. The FSP’s example illustrates how a company can determine the fair value of an investment in a collateralized debt obligation security that is no longer quoted in an active market, emphasizing that approaches other than the market value may be appropriate for determining fair value.

2. On Tuesday, under intense political pressure, the IASB amended IAS 39, Financial Instruments: Recognition and Measurement. The amendment, which is effective immediately and to be applied retrospectively to July 1, 2008, will permit financial instruments that had been measured at fair value through profit or loss to be reclassified to a different accounting basis (to, i.e., held-to-maturity). The restrictions on reclassification had been in place to stop companies from gaming the system by, e.g., marking to market in the good times and then ceasing to mark to market in the bad times. The IASB shift may tilt the playing field in favor of international standards, because, under US GAAP, reclassifications among trading, available for sale and held-to-maturity are only permitted (under FAS 115) in rare circumstances. So much for “convergence” when the going gets tough.

3. Also on Tuesday, SEC Chief Accountant Conrad Hewitt sent a letter to FASB Chairman Robert Herz on interpretive issues arising in how to assess declines in fair value for perpetual preferred securities under the existing other-than-temporary impairment model in FAS No. 115, Accounting for Certain Investments in Debt and Equity Securities. In the letter, Hewitt states that for perpetual preferred securities, which are treated like equity securities under FAS 115, the Staff (in consultation with the FASB Staff), “would not object to an issuer, for impairment tests in filings subsequent to the date of this letter, applying an impairment model (including an anticipated recovery period) similar to a debt security. OCA would not object to this treatment provided there has been no evidence of a deterioration in credit of the issuer (for example, a decline in the cash flows from holding the investment or a downgrade of the rating of the security below investment grade) until this matter can be addressed further by the FASB.” The Staff expects sufficient disclosure about the impairment analysis, so that investors can understand all of the information considered in determining that the impairment is other than temporary and what was considered in determining that there was no evidence of credit deterioration in the perpetual preferred securities.

Short Sale Disclosure (Only to the SEC) Now In Place

Yesterday the SEC adopted an interim final temporary rule requiring specified institutional investment managers to file information on Form SH concerning their short sales and positions of Section 13(f) securities, other than options. The rule is effective on October 18 and will continue in place until August 1, 2009.

The disclosures about short positions will not be available to the public, only to the SEC. The SEC stated that Form SH “will provide useful information to the staff to analyze the effects of our rulemakings relating to short sales and in evaluating whether our current rules are working as intended, particularly in times of financial stress in our markets. The reports will supply the Commission with important information about the size and changes in short sales of particular issuers by particular investors. That information will be available to the Commission to consider when questions about the propriety of certain short selling occur.”

- Dave Lynn

October 15, 2008

Course Materials Now Available

You are now able to obtain – and print out – the course materials related to our next week's Conferences: "Tackling Your 2009 Compensation Disclosures: The 3rd Annual Proxy Disclosure Conference" & "5th Annual Executive Compensation Conference." If you want to print just the key materials for each conference, we have bundled them together into one pdf here: "3rd Annual Printable Set" - and "5th Annual Printable Set."

Note that you will need your Conference ID and password to access the course materials (if you'll be in New Orleans, a set will be handed out to you). It's not too late to register!

Instructions for Those Watching Online Next Week: Come to the home page on the day of the Conference and click the prominent link that will be posted that day. Watch the Conference live by clicking a video link that will be on the Conference page that matches the type of player installed on your computer (ie. Windows Media Player or Flash) and the speed of the connection that you have. Panels will be archived a day after they are shown live.

Short Sale Tuesday

Yesterday, the SEC issued three separate releases taking action on short sale rules. All of these rule changes are effective this Friday, October 17. The changes include:

1. In Release 34-58773, the SEC adopted Rule 204T of Regulation SHO as an “interim final temporary rule” (I think that is a whole new flavor of rule). Rule 204T was first adopted in a September 17 Emergency Order and was set to expire on Friday, October 17. Now, a revised version Rule 204T will be effective until July 31, 2009, and the SEC will consider comments on the rule and respond to those comments “in a subsequent release.” The new version of Rule 204T includes some tweaks from the version adopted in the September 17 Emergency Order to address operational and technical concerns. The rule generally requires that securities be purchased or borrowed to close out any fail to deliver position in an equity security by no later than the beginning of regular trading hours on the settlement day following the date on which the fail to deliver position occurred, as a means for discouraging potentially abusive “naked” short selling.

2. In Release 34-58774, the SEC adopted Exchange Act Rule 10b-21, the naked short selling antifraud rule. This rule is actually being adopted in the “normal” way – it was proposed back in March and comment was solicited on the rule. In the September 17 Emergency Order, the SEC had adopted Rule 10b-21, but only through this Friday. New Rule 10b-21 is aimed specifically at short sellers (including broker-dealers acting for their own accounts) “who deceive specified persons, such as a broker or dealer, about their intention or ability to deliver securities in time for settlement and that fail to deliver securities by settlement date.” Such deception could include lying to a broker about the source of the borrowable securities under the locate requirement of Regulation SHO, or lying about whether the short seller owns the securities to be sold short.

3. In Release 34-58775, the SEC adopted previously proposed changes that eliminate the options market maker exception to the close-out requirement of Regulation SHO. With these amendments, fails to deliver in threshold securities resulting from hedging activities by options market makers will no longer be excepted from Regulation SHO’s close-out requirement. In the September 17 Emergency Order, the SEC had adopted and made immediately effective the elimination of the options market maker exception to Regulation SHO’s close-out requirement, which was also set to expire this Friday. The Release also provides some interpretive guidance on activities that constitute bona fide market making activities.

These rule changes are by and large targeted at naked short selling, and may finally go a long way toward stamping out the shady side of the short sale business. However, these changes may not be the last word on short selling regulation – calls for reviving the uptick rule will continue, as will perhaps the overall mistrust of short selling that the SEC has contributed to with its emergency short sale ban. Also, the SEC should be publishing interim final rules in the next day or so to implement the new Form SH filing requirement (for the SEC’s eyes only) on a permanent basis.

What’s Next for the SEC’s Emergency Actions?

With the markets’ big comeback on Monday and the rally cries of “capitulation” emerging, is the SEC going to ban long purchases next? I think not, but that would make about as much sense as banning short sales, in my opinion. What the SEC could do now is adopt some interim final temporary rule changes to continue the relaxation of the Rule 10b-18 volume and timing conditions to facilitate long purchasers by issuers. The timing of the SEC’s Emergency Order relaxing the 10b-18 requirements was not particularly good, since many issuers were in possession of material nonpublic information as a result of being so close to the end of the quarter, and thus had concerns about implementing any new repurchase plans or doing any sort of one-off repurchases. The potential benefits of encouraging issuers into the market to support their shares could actually be realized soon, as earnings get announced and issuers get back into windows where they could be in a position to repurchase their own securities.

- Dave Lynn

October 14, 2008

The Market Dip: Consequences of Losing WKSI Status

The recent market crash has knocked quite a few companies out of WKSI status and some might not recognize the implications. In this podcast, Stephen Quinlivan of Leonard, Street and Deinard discusses the impact of the market drop on WKSI issuers, including:

- How has the recent market drop impacted some WKSI issuers?
- What are the implications of no longer being classified as a WKSI?
- Is there anything an issuer can do about it?
- What is the effect on registration statements of other issuers?
- Any other effects of the market drop?

CII's New Policies: Gross-Ups, Severance Pay and More

During last week's Council of Institutional Investors meeting, seven new corporate governance policies were adopted, including these four:

- Gross-ups: “Senior executives should not receive gross-ups beyond those provided to all the company’s employees.”

- Severance Pay: “Executives should not be entitled to severance payments in the event of termination for poor performance, resignation under pressure, or failure to renew an employment contract. Company payments awarded upon death or disability should be limited to compensation already earned or vested.”

- Proxy Solicitation: “Advance notice bylaws, holding requirements, disclosure rules, and any other company imposed regulations on the ability of shareowners to solicit proxies beyond those required by law should not be so onerous as to deny sufficient time or otherwise make it impractical for shareowners to submit nominations or proposals and distribute supporting proxy materials.”

- Executive Stock Sales: “Executive should be required to sell stock through pre-announced 10b5-1 program sales or by providing a minimum 30-da7 advance notice of any stock sales. 10b5-1 program adoptions, amendments, terminations and transactions should be disclosed immediately, and boards of companies using 10b5-1 plans should: (1) adopt policies covering plan practices; (2) periodically monitor plan transactions; and (3) ensure that company policies discuss plan use in the context of guidelines or requirements on equity hedging, holding and ownership.”

The other three polices relate to timely disclosure of voting results, shareholder rights to call special meetings and independence of accounting/auditing standard setters.

Delaware Court of Chancery Directs Hexion/Huntsman Merger To Go Forward

From Travis Laster, as posted on the DealLawyers.com Blog recently (here are the firm memos on the opinion): A few weeks ago, Delaware Vice Chancellor Lamb issued his much anticipated post-trial decision on the Hexion/Huntsman deal. In the opinion and implementing order, Vice Chancellor Lamb holds that (i) Huntsman had not suffered an MAE, (ii) Hexion "knowingly and intentionally" breached its obligations under the merger agreement such that potential damages are not limited to the $325 million termination fee, (iii) whether or not the combined entity would be insolvent is an issue that is not yet ripe, and (iv) Hexion must specifically perform its obligations under the merger agreement (which does not include an obligation to close). This decision is a blockbuster that will occupy center stage for a while. Here are some highlights from this major ruling.

Practitioners should start with the implementing order. It is a partial final order that Vice Chancellor Lamb certified as final pursuant to Court of Chancery Rule 54(b), thereby setting up an appeal as of right for Hexion.

Several paragraphs leap out of the order. In paragraphs 3-7, Vice Chancellor Lamb orders Hexion to move forward with the actions necessary to complete the merger. This is the type of open-ended, affirmative relief that Delaware courts often resist giving. Even more strikingly, in paragraph 8, Vice Chancellor Lamb prohibits Hexion from terminating the merger, and in paragraph 11, Vice Chancellor Lamb orders that "If the Closing has not occurred by October 1, 2008, the Termination Date under the Merger shall be and is hereby extended until five (5) business days following such date that this Court determines that Hexion has fully complied with the terms of this Order." This language would appear to eliminate the drop dead date and make the Merger Agreement effectively open-ended, requiring Huntsman consent or court approval to terminate the deal. To my knowledge, this is unprecedented relief.

Turning to the opinion, VC Lamb first holds that there was no MAE. This is largely a fact-driven application of IBP and Frontier Oil; however, three points are particularly noteworthy. First, the Huntsman MAE contained a carveout for industry-wide effects, with an exception for effects with a disproportionate effect on HUN. Hexion argued that this required comparing Huntsman's performance against the chemical industry's performance to determine whether an MAE had occurred. VC Lamb rejects this reading and holds squarely that the initial inquiry is whether the target suffered an MAE at all. "If a catastrophe were to befall the chemical industry and cause a material adverse effect in Huntsman's business, the carve-outs would prevent this from qualifying as an MAE under the Agreement. But the converse is not true--Huntsman's performance being disproportionately worse than the chemical industry in general does not, in itself, constitute an MAE." (37-38). This interpretive approach should apply to MAE carveouts generally and will affect how they are read and the leverage respective parties have.

Second, addressing the expected future performance of Huntsman, VC Lamb holds that whether Huntsman suffered an MAE is NOT measured by how it performed versus its projections. This is principally because in the merger agreement, Hexion disclaimed reliance on any Huntsman projections. "Hexion agreed that the contract contained no representation or warranty with respect to Huntsman's forecasts. To now allow the MAE analysis to hinge on Huntsman's failure to hit its forecast targets during the period leading up to closing would eviscerate, if not render altogether void, the meaning of [that section]." (46).

Third, in assessing the past performance aspect of the claimed MAE, VC Lamb concurred with Huntsman's expert that the terms "'financial condition, business or results of operations' are terms of art, to be understood within reference to their meaning in Reg S-X and Item 7, the 'Management's Discussion and Analysis of Financial Conditions and Results of Operation' section" of SEC filings. That section requires companies to disclose their results for the reporting period as well as their results for the same time period in each of the previous two years. Therefore, VC Lamb, holds that the proper benchmark for assessing whether changes in a company's performance amount to an MAE is an examination of "each year and quarter and compare it to the prior year's equivalent period." (47-48) Though it addresses only one aspect of the MAE analysis-i.e. past performance not expected future performance-this is the clearest guidance the Court of Chancery has yet provided on the appropriate metrics for evaluating an MAE.

As in IBP and Frontier, burden of proof appears to have played a significant role in the ruling, and VC Lamb suggests in a footnote that parties to a merger agreement contractually allocate the burden of proof for establishing an MAE. (41 n.60).

In the next major ruling in the opinion, VC Lamb holds that Hexion committed a "knowing and intentional breach" of its obligations under the merger agreement. Hexion argued that the phrase "knowing and intentional" requires that a party (i) know of its actions, (ii) know that they breached the contract, and (iii) intend for them to breach of contract. (57). VC Lamb rejects this view as "simply wrong." (57). He rather holds that a "knowing and intentional" breach is "a deliberate one -- a breach that is a direct consequence of a deliberate act undertaken by the breaching party, rather than one which results indirectly, or as a result of the breaching party's negligence or unforeseeable misadventure." (59). It thus simply requires "a deliberate act, which act constitutes in and of itself a breach of the merger agreement, even if breaching was not the conscious object of the act." (60).

Having interpreted "knowing and intentional breach" in this fashion, VC Lamb turns to Hexion's actions over the past few months, during which Hexion identified a concern about the combined entity's solvency, retained Duff & Phelps to analyze the issue, obtained an "insolvency" opinion, and then went public with its insolvency contentions and filed a lawsuit in Delaware. VC Lamb holds that this course of conduct breached (i) Hexion's covenant to use its reasonable best efforts to consummate the financing and (ii) Hexion's obligation to keep Huntsman informed about the status of the financing and to notify Huntsman if Hexion believed the financing was no longer available.

VC Lamb notes that "[s]ometime in May, Hexion apparently became concerned that the combined entity ... would be insolvent." (62). He remarks that a "reasonable response" at that time would have been to contact Huntsman and discuss the issue. But rather than doing that, Hexion hired counsel and began analyzing alternatives. At this stage, however, he observes that was not Hexion "definitively" in breach of its obligations. (63). But Hexion and its counsel then hired Duff & Phelps, which developed an insolvency analysis. At that point, "Hexion was ... clearly obligated to approach Huntsman management to discuss the appropriate course to take to mitigate these concerns." (63). Hexion's failure to do so "alone would be sufficient to find that Hexion had knowingly and intentionally breached." (64). Rather than doing so, Hexion obtained an insolvency opinion from Duff & Phelps and delivered it to the banks, which VC Lamb regarded as a clear, knowing and intentional breach. (67-68).

Vice Chancellor Lamb then wraps up by writing that "In the face of this overwhelming evidence, it is the court's firm conclusion that by June 19, 2008 Hexion had knowingly and intentionally breached its covenants and obligations under the merger agreement." (77). He holds that if it is later necessary to determine damages, "any damages which were proximately caused by that knowing and intentional breach will be uncapped and determined on the basis of standard contract damages or any special provision in the merger agreement." (77). The merger agreement in fact contains a provision contemplating damages based on the lost value of the merger for stockholders. VC Lamb also rules that Hexion will have the burden to prove that any damages were not caused by its knowing and intentional breach.

After addressing two major issues, VC Lamb declines to make any ruling on the solvency of the combined entity, which was the issue that consumed the bulk of the parties' litigation efforts at trial. VC Lamb holds that the question of the solvency of the combined company is not ripe "because that issue will not arise unless and until a solvency opinion is delivered to the lending banks and those banks either fund or refuse to fund the transaction." (78). He notes that solvency of the combined entity "is not a condition precedent to Hexion's obligations under the merger agreement," and the lack of a solvency opinion "does not negate [Hexion's] obligation to close." (79). The issue is only relevant to the obligation of the lending banks. (79). He therefore leaves it for another day.

Finally, VC Lamb holds that Hexion must specifically perform its obligations under the merger agreement, while noting that the merger agreement specifically exempts Hexion from having the obligated to close. He finds the specific performance provision of the merger agreement to be "virtually impenetrable" and ambiguous, and he therefore resorts to extrinsic evidence, including the testimony of Hexion's counsel, to interpret its meaning. He concludes that the Court can require Hexion to comply with all of its obligations short of consummation, but cannot order Hexion to consummate. "[I]f all other conditions precedent to closing are met, Hexion will remain free to choose to refuse to close. Of course, if Hexion's refusal to close results in a breach of contract, it will remain liable to Huntsman in damages." (87).

The Hexion decision joins IBP and Frontier as the major guideposts for MAE analysis. Hexion applies and elaborates on IBP and Frontier; it does not appear to open up any inconsistencies in Delaware's approach. The opinion rather tends towards greater clarity in MAE application by establishing a rubric for interpreting carveouts, putting projections off limits when reliance on them has been disclaimed, and establishing a securities law-based standard for evaluating past performance. It is not readily apparent to me what the long-term impact of this greater clarity will be. Some MAE threats will likely not be made and others may be more readily rejected. But since part of the leverage to recut deals and resolve MAE issues flows from uncertainty over how the MAE issues will play out, the existence of more defined judicial standards could result in parties being more aggressive in their MAE positions and less willing to compromise. This ironically could lead to more MAE litigation.

The Hexion opinion is also a reminder of the importance Delaware places on contracts and contractual obligations. Both the URI decision from December 2007 and the Hexion ruling provide examples of Delaware courts enforcing bargained-for contractual provisions. In URI, those provisions favored the acquiror. In Hexion, they favored the target.

- Broc Romanek

October 13, 2008

Posted: The "SEC Enforcement Manual"

Last week, the SEC Staff posted a 129-page Enforcement Manual. I believe that this document is new and not something the Staff has been sitting on behind closed door - although I don't think the content itself is anything new. It's a great idea since it seems to pull together all of the key Enforcement positions and policies in one place. I'm not sure why the SEC made it public, but I'm glad they did.

Gibson Dunn has written this memo summarizing some of the key areas of the SEC's Enforcement Manual, including waiver of privilege, document production and the process by which the Staff may contact employees of a company under investigation.

The RiskMetrics' 2008 Postseason Report

RiskMetrics Group has released its 2008 Postseason Report (and a series of unique industry sector reports). We have posted an executive summary of the Postseason Report in our "Proxy Season" Practice Area. Some key takeaways from the report include:

-Board declassification proposals received the greatest backing this year, averaging 67% support at 76 firms, up from 64% in 2007.

-Proposals calling for an independent board chair saw average support climb by more than 5% to nearly 30% of votes cast “for” and “against.”

-While the global credit crisis resulted in fewer transactions this year, hedge funds and other activists continue to target underperforming companies, leading to another record year for U.S. proxy contests.

-While most directors were elected with broad support, investors have become increasingly willing to withhold support from board members in uncontested elections, even in the absence of a high-profile "vote no" campaign. In fact, directors at 82 S&P 500 companies received more than 10% opposition this year, up from 64 firms in 2007 and 57 in 2006.

How to Change Your Advance Notice Bylaws

We have posted the transcript from the popular webcast: "How to Change Your Advance Notice Bylaws."

- Broc Romanek

October 10, 2008

The Trust Has Left the Building: $23,000 on Spa Treatments

It looks like the folks at AIG have taken "tone at the top" to heart. Unfortunately, their tone isn't of the type that is good news for taxpayers, who now own 80% of AIG. As this Washington Post article describes, two former AIG CEOs were grilled during a House Committee on Oversight and Government Reform hearing this week (one of whom received a $5 million performance bonus just before he left - in addition to a $15 million golden parachute - and another AIG executive was fired who still receives $1 million per month for consulting services). The former CEOs expressed no remorse for their actions that drove AIG into the arms of the government and didn't acknowledge making any mistakes. Rather, they blamed the accounting. The House committee members were visibly disturbed by the sheer audacity of these so-called corporate leaders. Given the long list of troubling practices at AIG described in this front-page WSJ article, we may well see these two in pinstripes someday.

The topper is the fact that AIG is now getting an additional $37.8 billion loan from the taxpayers, which is lumped on top of the $80 billion load the government provided last month. This came a day after it was revealed that the company held a junket for sales reps at a resort, spending unbelievable amounts of the taxpayer's money. How exactly does one spend $23,000 on spa treatments or $5,000 at the bar? The story is outrageous and listening to the radio, it's fair to say that AIG already has become the posterchild of all that is broken in Corporate America. If this doesn't get you mad, nothing will.

Reflecting on a True Corporate Leader

Kevin LaCroix does a masterful job reviewing the new uncensored - and authorized - biography of Warren Buffett in his "The D&O Diary Blog. In my opinion, Warren is one of the few leaders in Corporate America deserving of the title "leader." Reading Kevin's description, you can see that Warren values his reputation more than money. How many CEOs can you say that about?

It's worth noting that Warren's annual letter to shareholders is one of the only "straight talk" pieces out there when it comes to disclosure documents for shareholders. I've never understood why other CEOs haven't followed his lead. Just like few have followed his lead in the face of today's crisis to speak up, take actions to show they are accountable and try to produce calm.

So What Now? Does Board-Centric Oversight Really Work?

Given the events leading up to this crisis (and continuing today, see the AIG story above), there certainly will be a rash of regulatory reforms. It's clear that there are numerous practices that need fixing and right now, Corporate America doesn't seem capable of doing it on its own.

Exhibit A is excessive executive compensation. As I often state when debating defenders of today's pay packages, would you be motivated to work to 100% of your abilities if you made $10 million per year? If the answer is "yes," what purpose does paying you $20 million serve?

Apologists then trot out the argument that another company may pay you that $20 million - thus, your current employer should pony up. That may well be true in relatively rare circumstances - but the reality is that there are very few CEO superstars that could easily move from one company to another (just like there are few superstars in sports that could command top dollar from another team).

Boards continue the status quo of handing out oversized pay packages because it's the easy thing to do. Having that hard negotiation with a sitting CEO is tough to do - most directors have day jobs where they face tough situations every day and I imagine that it would be rough to go to a board meeting and continue fighting the good fight. But that is their job and they need to do it - or they need to drop off the board. As I blogged recently, I hear that the few companies that really make responsible changes are the ones where the CEO speaks up and voluntarily asks for the change. Sadly, boards and compensation committees are not the ones driving responsible change.

In the wake of the ongoing crisis, there may well be a push to dramatically alter the board-centric oversight model that exists today. In his most recent column, Jim Kristie of "Directors and Boards" looks at this topic, first noting Marty Lipton's speech defending the board-centric model from a few months ago, then pointing out that growing evidence of a lack of confidence in the board-centric model today and ending with the thought that "shareholder-centric governance may be one of the ways out of this financial crisis, widely thought to be the worst since the Great Depression."

Powerful food for thought. Are boards listening - and acting - to stave off this possibility? Like most others, I'm cynical at this point. My guess is that most would rather blame the accounting or short sellers than take responsiblity for their own oversight failures. True leadership is a rare commodity these days.

The Bottom Line: We Need Trust

I believe the reason that the government's daily solutions to the credit crunch are not working is because the trust within our system has evaporated. It is widely reported that banks refuse to lend to each other. The approval rating of our politicians are at historical lows.

And I wouldn't be surprised if many of the retail investors now leaving the stock market never return, particularly the older baby boomers who don't have the time to wait this out. And even though our markets are now dominated by institutional investors, their size often is attributable to participation by the masses. Look for their sizes to shrink as coffee cans are buried in the backyard. Without true leadership - setting the proper tone at the top and taking responsibility - I don't think this market will turn around. To start down the path to true leadership, CEOs can start by voluntarily reining in their excessive pay packages.

- Broc Romanek

October 9, 2008

Bailout Legislation and the Credit Crisis: Memos Galore

With many law firms suffering from a dearth of transactional work - compounded by the biggest market crisis of our generation - the sheer number of firm memos being produced has been overwhelming lately. Here is where we have been posting the hordes of memos related to the crisis:

- Memos re: Bailout Legislation
- Memos re: Implementing TARP (includes memos on Money Market Guaranty Program)
- Memos re: Fair Value Accounting
- Memos re: CDOs/Credit Default Swaps
- Memos re: SEC's Emergency Orders
- Memos re: Lehman Bankruptcy
- Memos re: Covered Bonds
- Memos re: International Developments

In addition, we have posted these memos regarding related developments on these sites:

- Memos re: Fed’s Rule Relaxation for Non-Controlling Bank Investments (on DealLawyers.com)
- Memos re: Executive Compensation Provisions in Bailout Legislation (on CompensationStandards.com)

Work on Congressional Fair Value Study Commences: Comments Solicited

The SEC has commenced its study on "mark-to-market" accounting - and is authorized by Section 133 of the Emergency Economic Stabilization Act - and is soliciting comment. The Act requires the study to be completed by January 2nd and the SEC must consult with Treasury and the Federal Reserve. Notably, the IASB announced that it believes last week’s SEC-FASB clarification on fair value is consistent with IAS 39.

Last month, Corp Fin Director John White and Deputy Chief Accountant James Kroeker (who is heading up the SEC's study now) gave this testimony on transparency in accounting before the Senate Banking Committee.

The Brackets: A "Credit Crunch" Pool

bailout pool.jpg

- Broc Romanek

October 8, 2008

Today's "21st Century" Roundtable: Another Ten Cents

A few weeks ago, I blogged about the SEC's new "21st Century Disclosure Initiative," including a summary of a proposal from Joe Grundfest and Alan Beller - as well as my ten cents on the entire idea. Today, the SEC is holding a roundtable on the idea - and has posted these FAQs and this strategic plan.

Trotting this new initiative out now seems like a bad idea when it won't really bear on any of the problems associated with the current credit crisis. Bizarrely, the SEC issued this press release yesterday that revised the title of this roundtable so it's framed as if it's dealing with transparency in the credit crisis (here is the original press release).

At least, this illustrates that the SEC understands the need to tackle the credit crisis topic - unfortunately though, this roundtable isn't about it. During the roundtable, if one was to hold a drinking game with "credit crunch" as the trigger term, I fear there wouldn't be much action outside of the Chairman's opening remarks. This perceived inaction by the SEC in the face of a major crisis will continue to provide fodder for folks like those over at "The Conglomerate" blog, which recently wrote a daily list of regulatory actions to combat the crisis - with the SEC penciled in as "The SEC did nothing." The SEC should be in crisis mode and setting aside any unrelated projects.

- Is This Project Dealing with "Form over Substance"? - When I read the SEC's strategic plan, I was disappointed that the direction of the initiative clearly seems to be in the vein of "form over substance." The SEC's vision of this project seems to consist of creating a "Company File System," where all the core information about a company would be in a centrally and logically organized interactive data file. When you read that description, a fair question might be: "Isn't that what Edgar does today?" And a straight-faced answer would be: "For the most part, yes."

As I mentioned in my last ten cents on this topic, I believe the SEC should be focused more on updating its substantive requirements - without that kind of meat involved in this project, I find the phrase "21st Century Disclosure Initiative" to be undeserving. This rulemaking simply doesn't carry that kind of importance and it's misleading.

Nothing personal about Bill Lutz (who is leading this initiative), but as his biography shows, he is an English Professor - and that's not the best background to lead us down the path to better substantive requirements. At this point, this is Chairman Cox's baby and I don't feel a heavy Corp Fin presence in this project - and it's supposed to be about disclosure.

- Why a "Hash Mark System" Might Not Work - Putting aside my reservations about the timing of this initiative, I do have some thoughts about a "Company File System." I think it's important for companies to be required to file their core information - whatever the format (ie. HTML, XBRL) - on a single government site that is common for all reporting companies, like EDGAR is today. It's very efficient to be able to go directly to one site and type in the name or trading symbol of a company and go directly to a company's filings.

One of the ideas being considered is that companies would fill out online questionnaires and then they wouldn't file their questionnaire responses directly with the SEC - rather they would post the responses on their own websites, with a ‘hash' that authenticates the document as well as the date and time of posting. I have three concerns regarding this idea:

1. Challenges of Maintaining Content - I think this "hash mark" idea may be challenging for companies to implement. They would be required to ensure that those links stay active. You would think that this would be easy to accomplish, but I find that companies change the URLs of their IR web pages much more frequently than you would think. (I know this because I try to maintain a list of links to the IR web pages of widely-held companies and it requires constant updating).

2. Security Considerations - Another consideration for companies is the fear that the "official" documents now required to be on their servers would get hacked.

3. Investor Trust - Finally, and most importantly, investor studies show that investors trust documents filed - and found - on a government website more than documents found on a company's site. Rightfully so, investors tend to view documents posted on corporate websites as marketing material.

The SEC: Under Fire

Even before Senator McCain was calling for SEC Chairman Cox to be fired, the SEC has been under attack. The latest is a claim that the SEC censored a report to hide its role in the Bear Stearns implosion. According to this Bloomberg article, the SEC's Inspector General released a report a few weeks ago that "deleted 136 references, many detailing SEC memos, meetings or comments, at the request of the agency's Division of Trading and Markets that oversees investment banks" (the SEC's IG also released this companion report regarding the SEC's broker-dealer risk assessment program). An unedited version of this report is posted on Senator Grassley's website.

The SEC's Inspector General has issued another report - also requested by Senator Grassley (see his letter from yesterday) - regarding the 2005 firing of Gary Aguirre, an SEC lawyer who claimed superiors impeded his inquiry into insider trading at hedge fund Pequot Capital Management. This report was released by the Senate Finance Committee yesterday, but is not yet posted on the SEC's website - the articles states that the report "said the agency should consider punishing the director of enforcement and two supervisors over the firing."

Perhaps in response to the pressure, Chairman Cox hired a former head of the Congressional Budget Office as a senior adviser yesterday - and according to this article, recently hired two new public relations officers.

Treasury Department: Implementing TARP ASAP

As required by the Emergency Economic Stabilization Act, the Treasury Department is moving quickly to choose advisers, issue regulations, and hire companies to serve as asset managers for its "Troubled Asset Relief Program" (known as "TARP").

The first big move by Treasury was issuing a number of interim guidelines (egs. asset manager selection process; conflicts of interests) - as well as three "solicitations for financial agents," which have a deadline for comments by 5:00 pm today.

Neel Kashkari - age 35! - has been named the interim head of the new Office of Financial Stability, which will implement the TARP (he was the Assistant Secretary for International Economics and Development and has been a key adviser to Hank Paulson). This office will hire a small staff with expertise in asset management, accounting and legal issues.

- Broc Romanek

October 7, 2008

Test Your Access for Our Upcoming Conferences

We thank the many of you who have registered to attend our upcoming conferences - to be held on October 21-22 – via video webcast: "Tackling Your 2009 Compensation Disclosures: The 3rd Annual Proxy Disclosure Conference" & "5th Annual Executive Compensation Conference." And of course, we thank the many of you coming to New Orleans - for you, here are check-in/breakfast instructions.

For those watching by video webcast, to ensure you don’t have any technical snafus for the conferences, please test your access today.

- How to Test: Use this link to test for access (this test is only available this week) by using your ID and password that you received for the Conferences (which may not be your normal ID/password for TheCorporateCounsel.net or CompensationStandards.com). If you are experiencing problems, follow these webcast troubleshooting tips.

- How to Earn CLE Online: Please read these FAQs about Earning CLE carefully to see if that is possible for you to earn CLE for watching online – and if so, how to accomplish that. Both Conferences will be available for CLE credit in all states except Pennsylvania (but hours for each state vary; see the list for each Conference in the FAQs).

When you test your access, you can test our CLE Tracker as well as input your bar numbers, etc. You also will be able to input your bar numbers anytime during the days of the Conferences too (remember that you will need to click on the periodic “prompts” all throughout each Conference to earn credit).

- How Directors Can Earn ISS Credit: For those directors attending by video webcast, you should sign-up for ISS director education credit using this form.

- How to Attend by Video Webcast: If you are registered to attend online, just log in to TheCorporateCounsel.net or CompensationStandards.com on the days of the Conference to watch it live or by archive (it will take about a day to post the video archives after it’s shown live). A prominent link called “Enter the Conference” on the home pages of those sites will take you directly to the Conference.

More Companies Using Internal Pay Equity as Alternative Benchmarking

During our Conferences, some of the most respected compensation consultants will describe how companies can implement internal pay equity as an alternative to peer group benchmarking (see the Conferences' agendas). With so much attention right now on excessive executive compensation, we predict that this methodology will really take off over the next year given how existing peer group surveys are comprised of inflated data.

Some companies have already taken the leap. In its 2008 proxy statement for Cerner Corporation, the company discloses that it uses internal pay equity guidelines that provide that its "CEO’s total cash compensation shall not be more than three times that of the next highest total cash compensation (the company's board must approve any exception to these guidelines)."

My Ten Cents: Overcoming Objections to Internal Pay Equity

To the extent there is pushback from compensation consultants about clients using internal pay equity as an alternative benchmark to peer groups, I can understand it - because internal pay likely will reduce the level of the consultant's role in the pay-setting process. With internal pay, consultants can advise clients about how to implement internal pay equity methodologies, but they wouldn't make money for the use of their peer group database. This is because internal pay equity is an "internal look" at the company's own pay scale.

But for the life of me, I can't understand why lawyers would advise their clients not to consider internal pay equity. Over the past few years, peer group benchmarking has been criticized by many quarters. It's not that peer group analysis is not useful per se, it's just that the current batch of CEO pay data is tainted because most boards sought to pay their CEOs in the top quartile for 15 years - thus driving CEO pay inflation through the roof.

Given that most boards rely on peer group benchmarks as the paper trail to show that they were informed when exercising their fiduciary duties - and given that peer group benchmarking is now widely discredited - shouldn't lawyers be advising boards to find another source of documentation for their files? Or urging them to obtain at least an additional layer of protection by balancing peer group benchmarking with internal pay equity?

The old adage that "everyone else is doing it" simply doesn't work anymore with regulators and courts. Imagine a courtroom where several experts are brought in to show how peer group data is tainted and that everyone "should have known" it. It's easy if you try...

Learn how to implement internal pay equity from the resources in our "Internal Pay Equity" Practice Area on CompensationStandards.com.

- Broc Romanek

October 6, 2008

After the Bailout: What to Expect for Capital Market Deals Now

Want to know how your future looks in the wake of the bailout legislation? Tune in tomorrow for this webcast - "Latest Developments in Capital Market Deals" - to hear how the markets are functioning right now and what the future holds. The panel includes both an equity and a debt banker, as well as legal experts from the East Coast, West Coast and the Midwest. The panelists include:

- Edward Best, Partner, Mayer Brown
- Michael Kaplan, Partner, Davis Polk & Wardwell
- J. Maurice Lopez, Managing Director, Citigroup Global Markets
- Patrick Schultheis, Partner, Wilson Sonsini Goodrich & Rosati
- Bill Schreier, Head of Equity Capital Markets, BM Capital Markets

Coming Soon? Code of Ethics for Proxy Advisory Services

For the past few months, Meagan Thompson-Mann, a visiting fellow at Yale’s Millstein Center for Corporate Governance and Performance, has been soliciting comment regarding voting integrity in the proxy voting process in response to a draft study she drafted. Among other things, her study suggests a code of ethics for proxy advisory services and includes a proposed code. It raises the possibility of sharing information with companies, but leaves it up to the advisor (p. 21) - and it also provides that a proxy advisor should not give companies any assurances of a particular recommendation prior to its release (p. 15). Weigh in with your thoughts if you can.

RiskMetrics Begins Advising on Tender Offers

As I noted recently on the DealLawyers.com blog, RiskMetrics' ISS Division recently broke with tradition and advised its clients not to tender Longs Drug Stores' shares into CVS' tender offer. Historically, RiskMetrics has only made recommendations on shareholder votes and left tender offers alone. So changing the structure of a deal from a merger to a tender offer will no longer have the incidental effect of removing RiskMetrics from the equation...

- Broc Romanek

October 3, 2008

Credit Default Swaps: Regulation Du Jour

In testimony last week before the Senate Banking Committee, SEC Chairman Cox pointed out the enormous regulatory black hole in which credit default swaps have come of age since pretty much the dawn of the 21st century. He pointed out that the SEC’s Enforcement Division was focused on using its antifraud authority in this area, and noted that credit default swaps provided a way for market participants to “naked short” the debt of companies without restriction. Cox asked that Congress “provide in the statute the authority to regulate these products to enhance investor protection and ensure the operation of fair and orderly markets,” but he didn’t say who should have such authority. Interestingly enough, I don’t recall any similar discussion of the lack of authority to regulate credit default swaps and other derivatives up until this point, while the excesses in the market - and the lack of transparency - have been known for some time.

A day earlier, New York Governor Paterson and the New York Insurance Department announced that, beginning on January 1, 2009, the New York Insurance Department would regulate some credit default swaps as a form of financial guaranty insurance, whenever the credit default swap is issued in New York or issued to a New York purchaser who “holds, or reasonably expects to hold, a ‘material interest’ in the reference obligation.” Governor Paterson also called on the federal government to regulate credit default swaps.

One interesting thing pointed out by the statements of Chairman Cox and Governor Paterson is that no one seems to know for sure how big the market is for credit default swaps. Chairman Cox cited in his testimony “the $58 trillion notional market,” while Governor Paterson referred to the “$62 trillion market.” Any estimates such as these are pretty much educated guesses, since there really isn’t any transparency into the scope of the credit derivatives market. Also, these types of notional amount estimates are often cited to state the size of derivatives markets, but really those amounts overstate the actual exposure that these derivatives present, since the notional amount is really just the basis on which payments are calculated - but not how much any counterparty owes on the actual derivative contract. Something closer to $2 trillion in fair value is perhaps a better estimate of the size of the credit default swap market, at least up until the events of the last few months.

Congress did not yet heed the calls for more federal authority over credit default swaps, as no provisions have been included in the two versions of the bailout bill that would vest regulatory authority over credit derivatives with the SEC or any other agency; however, this may be an issue that Congress will turn to quickly once the latest fire drill has died down.

While I am by no means running for president of the credit default swaps fan club, I think that now is the absolute worst time to start beating the drum for more regulation of derivatives in general and credit derivatives in particular. While speculative activity in credit default swaps no doubt contributed to some of our problems today, credit derivatives have also mitigated risk for countless institutions by spreading the risk of default around the globe. Policymakers should have been paying attention long ago, before the market has grown to the size – and level of interconnectedness – that prevails today. Now, vague talk of regulation only serves to call into question the enforceability of agreements, make counterparties even more nervous about ultimately collecting on their contracts, and put further pressure on credit markets when those markets are least able to handle the pressure.

A Change to the Audit Committee Report

Back in the summer, the SEC approved the PCAOB’s new rule regarding communications with audit committees regarding independence. Last week, the SEC made a conforming amendment to Item 407 of Regulation S-K to change the language of the audit committee report. Previously, the audit committee report referred to “Independence Standards Board No. 1 (Independence Standards Board No.1, Independence Discussions with Audit Committees), as adopted by the Public Company Accounting Oversight Board in Rule 3600T.” Now, the audit committee report must refer to “applicable requirements of the Public Company Accounting Oversight Board regarding the independent accountant’s communications with the audit committee concerning independence.” The applicable requirement is PCAOB Rule 3526, but apparently the SEC does not want to refer directly to the rule itself.

The SEC didn’t amend Item 407 Regulation S-B, which is hanging around for transition purposes until March 15, 2009. But the SEC said interpretively that any filers using Regulation S-B should follow the Regulation S-K language in their audit committee report.

The change to Item 407 of Regulation S-K was effective on September 30.

September-October Issue: Deal Lawyers Print Newsletter

This September-October issue of the Deal Lawyers print newsletter was just sent to the printer and includes articles on:

- Boards Can’t Watch a Sale Unfold from the Balcony: Nine Take-Aways from Lyondell
- Dealing with State Anti-Takeover Statutes in Negotiated Acquisitions
- Cross-Border M&A: Checklist for Successful Acquisitions in the US
- Outside Termination Dates: No Way Out from a Purchase Agreement
- Broken Deals: Validation of Naked No-Vote Termination Fee
- Lessons Learned: Seeking Block Bids as Schedule 13D Discloseable Events
- The Shareholder Activist Corner: Spotlight on Steel Partners

Try a 2009 no-risk trial to get a non-blurred version of this issue (and the rest of '08) for free.

- Dave Lynn

October 2, 2008

Bailout Version 2.0: The Senate Easily Adopts a Bailout Plan

Last night, the Senate voted 74 to 25 in favor of Emergency Economic Stabilization Act of 2008, seeking to create an offer that members of the House can’t refuse when the bill goes up for a vote there by Friday. Here is a Summary and Section-by-Section Analysis of the 451-page bill. As noted in this NY Times article, some of the “sweeteners” added to the Senate bill have nothing to do with the credit crisis or the bailout, including $150 billion in tax breaks for individuals and businesses and legislation requiring insurers to afford parity between mental health conditions and other health problems. The Senate also adopted a temporary increase in the FDIC’s limit on insured bank deposits, raising the ceiling from $100,000 to $250,000.

As Mark Borges noted last night in his CompensationStandards.com blog, the only substantive change to the corporate governance and executive compensation provisions of the House bill was in Section 111, where the limits on compensation that Secretary of the Treasury must adopt to exclude incentives for encouraging executives to take unnecessary and excessive risks now applies to “senior executive officers,” rather than just “executive officers.” As Mark notes, this change is consistent with the application of the other two standards in Section 111 and thus limits all of these provisions to the “named executive officer” group. Apparently, the Senate did not see the need to add any real teeth to the executive compensation and corporate governance provisions of the bill, perhaps because any changes along those lines might not have improved the bill’s success in the House.

Now the market will be on pins and needles until the House acts. After the market’s swoon on Monday, it seems much less likely that constituents will be beating down members’ doors opposing the plan. At this point, whether there will be enough support to pass the bill in the House is anyone’s guess.

SEC Extends Emergency Orders

The SEC announced that it has extended its short sale emergency orders, as well as the emergency order loosening the timing and volume conditions on issuer repurchases in Exchange Act Rule 10b-18. The SEC also announced that the Form SH filing requirement for Exchange Act Section 13(f) filers is also extended, and will become a permanent requirement under interim final rules that the SEC plans to adopt. Based on the language of the press release, it doesn’t appear that information filed on Form SH (under the emergency order at least) will be made public. What the SEC plans to do with the information on short positions obtained on Form SH remains a mystery, and the fact that the information is not being made public seems a little at odds with the SEC’s “full disclosure” mission.

The SEC stated in a press release that the orders are being extended to “allow time for completion of work on the anticipated passage of legislation,” referring to the Congressional efforts to pass a bailout plan. The order banning short selling in “financial” companies is extended until 11:59 p.m. eastern time on the third business day after enactment of the legislation, but in any case no later than October 17th. The order requiring the filing Form SH will be extended until October 17th, but the requirement will remain in place after the expiration of the order under to-be-adopted interim final rules. The relaxed Rule 10b-18 conditions will be extended through October 17th.

The emergency order specifically directed at naked short selling – through Rule 204T, the repeal of the options market maker exception from short selling close-out provisions in Reg. SHO, and Exchange Act Rule 10b-21 – has been extended through October 17th. The SEC also adopted the Staff’s guidance on the application of the initial order. It appears from the press release that the SEC plans to adopt interim final rules to implement this order on a permanent basis as well.

It seems odd that the outright short sale ban on shares of financial companies is now tied to the legislative efforts in Congress. That approach seems to pin a lot of hope on the fact that just the enactment of the legislation (no matter how the legislation comes out) will restore order and calm to the markets. For those companies who are not on the list of companies subject to the ban but who have seen their competitors added to the list, it makes it tougher to judge whether they should contact the exchange to get added, since there is now significant uncertainty as to how long the order will actually remain in effect. In any event, this much is assured: when the ban is lifted, people will go right back to shorting companies with bad assets, bad management and little prospect for success.

Our October Eminders is Posted!

We have posted the October issue of our complimentary monthly email newsletter. Sign up today to receive it by simply inputting your email address!

- Dave Lynn

October 1, 2008

Corp Fin’s New Exchange Act Compliance and Disclosure Interpretations

Last night, Corp Fin posted a series of new Compliance and Disclosure Interpretations replacing three sections of the Manual of Publicly Available Telephone Interpretations. The new Compliance and Disclosure Interpretations cover:

- Exchange Act Sections

- Exchange Act Rules

- Exchange Act Forms

These Compliance and Disclosure Interpretations include many of the old Telephone Interpretations, as well as a number of new notable interpretations that answer some fundamental, recurring questions.

For example, Question 130.02 of the Exchange Act Sections Compliance and Disclosure Interpretations notes that a delinquent filer must file all delinquent reports in order to be considered current in its Exchange Act reporting. Delinquent filers often ask the Staff if they can become current by filing the latest Form 10-K or some sort of consolidated “catch-up” filing, and now this interpretation makes clear that all missed reports must be filed. Further, Questions 116.04 through 116.06 of the Exchange Act Sections Compliance and Disclosure Interpretations address the issues around the automatic effectiveness of a Form 10, including the ability to withdraw the Form 10 in limited circumstances prior to effectiveness and the necessity of filing Exchange Act reports once the Form 10 is automatically effective, even if the Staff’s review of the Form 10 is ongoing.

In the Exchange Act Rules Compliance and Disclosure Interpretations, the Staff includes some detailed guidance on the ability of companies to use an effective Form S-3 during and after the Rule 12b-25 period, as well as some helpful guidance on delisting and deregistration mechanics. Further, following up on some helpful guidance in the Regulation S-K Compliance and Disclosure Interpretations posted over the Summer about correcting CEO/CFO certifications (see our discussion of those interpretations in the July-August 2008 issue of The Corporate Counsel) , the Staff has consolidated much of its guidance on CEO/CFO certifications in new Compliance and Disclosure Interpretations under Exchange Act Rule 13a-14.

Fair Value Accounting Guidance from the SEC and FASB Staff

In the face of intense lobbying calling for the suspension of fair value accounting, the SEC’s Office of Chief Accountant and the FASB Staff issued a press release outlining a series of “clarifications” on fair value accounting.

The press release answers the following questions on the application of FAS 157:

1. Can management's internal assumptions (e.g., expected cash flows) be used to measure fair value when relevant market evidence does not exist?

2. How should the use of “market” quotes (e.g., broker quotes or information from a pricing service) be considered when assessing the mix of information available to measure fair value?

3. Are transactions that are determined to be disorderly representative of fair value? When is a distressed (disorderly) sale indicative of fair value?

4. Can transactions in an inactive market affect fair value measurements?

5. What factors should be considered in determining whether an investment is other-than-temporarily impaired?

While the new Staff guidance is not inconsistent with what has been said before, it appears that the intent is to provide at least some flexibility for issuers to depart from market prices in certain circumstances, particularly when an active market does not exist.

It seems unlikely that the latest round of guidance will satisfy the mounting criticism of fair value accounting. Yesterday, a bipartisan group of 65 House members sent a letter to Chairman Cox asking that the SEC immediately “suspend” mark to market accounting in favor of a “mark to value” mechanism that “better reflects the value of the asset.” The Congressmen state that until new guidance is put in place, the fair value of assets should be estimated by “using the best available information of the instrument’s value, including the entity’s intended use of that asset, from the point of view of the holder of that instrument.”

Some opposition to the suspension of fair value is emerging. Last week, Federal Reserve Chairman Bernanke told the Senate Banking Committee that abandoning fair value “would only hurt investor confidence because nobody knows what the true hold-to-maturity price is” (as noted in this Reuters article), while this article by Judith Burns of the Dow Jones Newswires reports that US accounting firms are now opposing calls for rescinding mark to market accounting.

The Rise of Sovereign Fund Investing

Tune in tomorrow for this DealLawyers.com webcast - "The Rise of Sovereign Fund Investing" - and hear about the role of sovereign wealth funds in this crisis marketplace and more:

- G. Christopher Griner, Partner, Kaye Scholer
- Michael Hagan, Partner, Morrison & Foerster
- Jerry Walter, Partner, Fried Frank Harris, Shriver & Jacobson
- Steven Wilner, Partner, Cleary Gottlieb Steen & Hamilton

- Dave Lynn