The first-ever criminal conviction based on the abuse of Rule 10b5-1 plans ended in late June with the sentencing of defendant Peizer, CEO & Chair of a healthcare company, to 42 months in prison and $17.9 million in fines and forfeitures. (The DOJ had sought a 97-month sentence, $10.25 million in fines and $12.7 million in forfeiture judgment.)
As Liz blogged when the charges were announced, the facts were in the DOJ’s favor. Peizer entered into two 10b5-1 trading plans shortly after learning bad news about a relationship with the company’s largest customer and refused to use any cooling-off period despite warnings from two brokers. In fact, he “shopped” for a broker who wouldn’t require one. Plus, the facts of this case are unlikely to recur now that Rule 10b5-1 requires a 90-day minimum “cooling-off” period for directors and officers.
That said, there are still some important takeaways from the sentencing. This Winston blog notes that the government made clear in its sentencing memorandum that it plans to continue to investigate and pursue insiders who effectuate suspicious trades through Rule 10b5-1 plans — one unfortunate potential consequence of this (coupled with stiff penalties and prison time) is that it may chill the use of such plans by insiders who are operating in good faith and without MNPI. When 10b5-1 plans are used, the blog highlights the need to carefully consider the “good faith” requirement and the importance of having counsel review plans and policies:
The “good faith” requirement is subjective and must be thoroughly evaluated when taking any actions with respect to a trading plan: As discussed above, the 2022 amendments expanded existing requirements that trading plans be entered into in good faith, leading to heightened scrutiny of compliance with, and additional avenues for enforcement of, insider trading rules. It’s important that those considering entering into a plan – or taking any action with respect to a plan – remember that good faith is evaluated on a facts-and-circumstances and insider-by-insider basis. At the center of the Peizer case was an evaluation of his motivations and reasons for not just entering into the trading plan, but pursuing the stock sales at the time and in the magnitude in which he did. Additionally, it is essential that individuals are not in possession of MNPI when entering into a plan.
Counsel should review 10b5-1 plans and policies: Before entering into a Rule 10b5-1 plan, individuals should engage legal counsel to review the plan in light of all the conditions of Rule 10b5-1 and discuss whether there are any risks involved in entering into the plan. Issuers should also engage legal counsel prior to making changes to their insider trading policies.
Join us tomorrow Wednesday, July 16, at 2:00 pm Eastern for our “Securities Offerings During Blackout Periods” webcast to hear Willkie Farr’s Eddie Best, O’Melveny’s Ryan Coombs, Perkins Coie’s Allison Handy and Jones Day’s Michael Solecki discuss all the things issuers considering tapping the capital markets during a “blackout period” have to think about. Our panel of experienced practitioners will explore these issues:
– Challenges blackout periods present for capital raising
– Factors to consider in deciding whether to offer securities during a blackout period
– Issues surrounding use and content of “flash numbers” in a prospectus
– SEC staff and judicial views on flash numbers
– Perspective of underwriters & their counsel
– Differences between recently completed quarter and one in-process
– Due diligence and comfort letter issues
– Offering-specific issues
– Process of updating prospectus disclosure
As a junior associate, I worked on a lot of debt capital markets transactions representing the underwriters, so I have negotiated my fair share of comfort letters. I’m thankful I had the benefit of a forward-thinking and training-focused partner sitting me down the first time I worked on an offering during a blackout period and explaining to me why and how the comfort letter would differ a bit and that we might need a CFO certificate. Not all junior associates are so lucky, and I would especially encourage any new capital markets attorneys to join this webcast to benefit from the valuable practice pointers our panelists will share about navigating the challenges posed by these transactions.
Members of this site can attend this critical webcast at no charge. If you’re not yet a member, try a no-risk trial now. Our “100-Day Promise” guarantees that during the first 100 days as an activated member, you may cancel for any reason and receive a full refund. The webcast cost for non-members is $595. You can sign up with a credit card online. If you need assistance, send us an email at info@ccrcorp.com – or call us at 800.737.1271.
We will apply for CLE credit in all applicable states (with the exception of SC and NE which require advance notice) for this 60-minute webcast. You must submit your state and license number prior to or during the program using this form. Attendees must participate in the live webcast and fully complete all the CLE credit survey links during the program. You will receive a CLE certificate from our CLE provider when your state issues approval; typically within 30 days of the webcast. All credits are pending state approval.
This program will also be eligible for on-demand CLE credit when the archive is posted, typically within 48 hours of the original air date. Instructions on how to qualify for on-demand CLE credit will be posted on the archive page.
In late April, John shared some tips for companies preparing their first quarter 10-Qs, noting that the “timing of the President’s actions and the potential for another shoe to drop in less than 90 days create almost perfect conditions for companies to stumble into traps for the unwary when addressing these line-item disclosure requirements.” While companies were grappling with tariffs — and the resulting disclosure considerations — at 10-K and first quarter 10-Q time, we now find ourselves assessing new information and a possible August 1st effective date that presents timing challenges for second quarter 10-Qs.
It seems tariff-related disclosure reminders are once again timely. Since this is a déjà vu / glitch-in-the-matrix situation, I’ve got the easy task of gathering a blog roundup, thanks to my brilliant colleagues who shared excellent tips earlier this year:
Tariffs aren’t the only major news coming out of Washington this month. You may have heard about a little thing called the “One Big Beautiful Bill Act,” which President Trump signed into law on July 4. The potential impacts of this legislation on certain industries (like energy, real estate, semiconductors, EVs, defense and manufacturing more broadly) have been widely reported. For companies in these industries (and any others I missed), the bill will be a major topic of discussion on earnings calls and in 10-Q and earnings release disclosures. At least one company has already publicly addressed the potential impacts of the bill on its business.
But, as you know, the legislation also has significant business tax provisions that, according to the many memos we’ve already posted, are expected to impact virtually every business in the country. And these tax provisions (see this interactive table) come with accounting and disclosure implications. BDO has this to say about the accounting implications generally:
The legislative changes will affect income tax accounting in accordance with Accounting Standards Codification (ASC) 740, Income Taxes. Notable corporate provisions include the restoration of 100% bonus depreciation; the creation of Section 174A, which reinstates expensing for domestic research and experimental (R&E) expenditures; modifications to Section 163(j) interest limitations; updates to the rules for global intangible low-taxed income (GILTI) and foreign-derived intangible income (FDII); amendments to the rules for energy credits; and the expansion of Section 162(m) aggregation requirements.
Those provisions could have important implications for the calculation of current and deferred taxes, including the assessment of valuation allowances. However, because the bill was signed after the June 30 period-end and its provisions have varying effective dates, only some changes – such as those affecting valuation allowance assessments – might affect the current year’s financial statements.
The alert goes on to discuss accounting considerations — including assessing the impact on income tax provision calculations (including current and deferred tax balances), the estimated annual effective tax rate and valuation allowances — some of which may be relevant in the near term to the upcoming second-quarter 10-Q for calendar-year filers. Here’s what it has to say about related disclosures.
Companies need to consider disclosing the expected effects of new tax laws in the notes to the financial statements, management’s discussion and analysis, and risk factors.
If a law is enacted after the interim balance sheet date but before financial statements are issued, the tax law change would be considered a Type II nonrecognized subsequent event under ASC 855, Subsequent Events. In that case, companies must disclose the nature of the event and either estimate its effect (if material) or state that an estimate cannot be made. If a law is enacted during an interim period, major variations in the relationship between income tax expense and pretax income must be explained.
In addition to considering tariffs and tax law changes in drafting risk factors, MD&A and financial statement notes, this Fenwick alert highlights foreign currency exchange risk as another topic to be mindful of when preparing your second quarter Form 10-Q.
As of June 30, the U.S. dollar index was down ~10.8% this year. In light of this significant decrease, companies should review their disclosures about foreign currency exchange risk. For example, some companies include a statement that a hypothetical 10% increase or decrease in the relative value of the U.S. dollar to other currencies would not have a material effect on their operating results. With the value of the U.S. dollar decreasing by 10%, companies should evaluate the continued accuracy of this statement.
Non-SRCs may want to take a look at their 10-K disclosures under Quantitative and Qualitative Disclosures about Market Risk. Here’s a reminder from our immensely helpful “Market Risk of Derivatives Disclosure” Handbook.
Under Item 305(c), when preparing a Form 10-Q, companies need to assess their outstanding market risk disclosure to determine whether there have been material changes since the end of the most recent fiscal year. If so, disclosure under Item 3 of Form 10-Q is necessary including discussion and analysis so that investors can assess the sources and effects of those material changes as noted in Question 112.01 of Corp Fin’s Regulation S-K CDIs. If there haven’t been any material changes during the last quarter, disclosure under Item 305 is not required in that Form 10-Q.
All of our handbooks are indispensable, but our “Market Risk of Derivatives Disclosure” Handbook is one I wish I had known about much earlier in my career. If you had asked me to pick a least favorite item of Regulation S-K as an associate, when I was regularly doing form checks, I’m sure I would have said Item 305. The Handbook acknowledges that “this Item is one of the least understood disclosures—and the mechanics of writing the disclosure can be mysterious.” It also says these disclosures become more important when there is volatility in exchange rates.
To date, the DExit movement has mostly been “all hat and no cattle,” but that changed yesterday, when Andreessen Horowitz, one of Silicon Valley’s biggest names, announced that it was leaving Delaware, and recommended that others follow its lead:
It used to be a no-brainer: start a company, incorporate in Delaware. That is no longer the case due to recent actions by the Court of Chancery, which have injected an unprecedented level of subjectivity into judicial decisions, undermining the court’s reputation for unbiased expertise. This has introduced legal uncertainty into what was widely considered the gold standard of U.S. corporate law. In contrast, Nevada has taken significant steps in establishing a technical, non-ideological forum for resolving business disputes. We have therefore decided to move the state of incorporation of our primary business, AH Capital Management, from Delaware to Nevada, which has historically been a business friendly state with fair and balanced regulatory policies.
We could have made this move quietly, but we think it’s important for our stakeholders, and for the broader tech and VC communities, to understand why we’ve reached this decision. For founders considering a similar move, there is often a reluctance to leave Delaware, based in part on concerns for how investors will react. As the largest VC firm in the country, we hope that our decision signals to our portfolio companies, as well as to prospective portfolio companies, that such concerns may be overblown. While we will continue to fund companies incorporated in Delaware, we believe Nevada is a viable alternative and may make sense for many founders.
The statement goes on to make a tendentious argument in favor of abandoning Delaware for Nevada’s supposedly greener corporate pastures. But the merits of Andreessen Horowitz’s argument don’t really matter. What matters is that a16z is moving, and it’s sounding the clarion call for others to do so as well.
I’ve argued that the real threat to Delaware’s dominance isn’t a mass exodus of public companies, but the possibility that the Andreessen Horowitzs of the world might decide that other jurisdictions offered them a greater ability to control their post-IPO portfolio companies than Delaware does. Andreessen Horowitz’s move is the first example of this, but given the firm’s prominence, it’s unlikely to be the last. The 21st Century’s “race to the bottom” has officially begun.
We’ve previously blogged about some of the big picture issues associated with the use of AI tools in the boardroom, but this Debevoise memo focuses more narrowly on the use of AI to draft minutes, and what companies should consider when deciding whether to use AI tools for that purpose.
The memo discusses, among other things, confidentiality and cybersecurity concerns, state law notice and consent requirements that come into play when meetings are recorded, privilege issues, and implications for document retention policies. In his recent D&O Diary blog on this topic, Kevin LaCroix highlights another topic for consideration:
I have a particular concern here, and that has to do with the kinds of allegations plaintiffs’ lawyers raise in “duty to monitor” type cases. The plaintiffs lawyers will use books and records requests to obtain board minutes and will scour the records to see the extent to which the minutes show that the board discussed a “mission critical” topic.
The risk is that the minutes do not show the topic being discussed, allowing the plaintiffs’ lawyers to make the argument that “the board didn’t even discuss” the critical topic. The possibility of overly terse board minutes omit discussion of key topics is always present. I fear that with AI-generated minutes this risk is increased. Even if humans review the minutes, they may not spot the omission (as it is always harder to spot an omission than an error). This type of litigation risk highlights the need for heightened vigilance with respect to board use of AI tools.
Kevin cautions that all decisions concerning the use of AI tools in the boardroom should be informed by the need to ensure that boards are in the appropriate position to defend themselves in the event they face a subsequent lawsuit. As for me, when it comes to using AI to draft minutes, I think I’m aligned with the analog version of Bartleby the Scrivener – “I prefer not to.”
Check out our latest “Timely Takes” Podcast featuring Cleary’s J.T. Ho & his monthly update on securities & governance developments. In this installment, J.T. reviews:
– The SEC’s “Executive Compensation” Roundtable
– Director Interlocks Study
– PwC Board Study
– DEI Executive Order Updates
– DExit Scorecard Study
This month’s podcast includes a “bonus round” featuring J.T.’s thoughts on potential disclosure implications of the Iran conflict.
As always, if you have insights on a securities law, capital markets or corporate governance issue, trend or development that you’d like to share in a podcast, we’d love to hear from you. You can email me and/or Meredith at john@thecorporatecounsel.net or mervine@ccrcorp.com.
The PCAOB recently issued a new Audit Focus report on engagement acceptance by accounting firms. Like most PCAOB publications targeted toward auditors, this one is also worth reading by public company audit committees and their advisors. The report covers a variety of issues that auditors should consider before accepting particular engagements. This excerpt lays out questions that auditors should consider in connection with any new engagement:
– Were there any recent changes in ownership, company management, the board of directors, or the composition of the audit committee related to the prospective engagement? What were the reasons for the changes?
– What are the qualifications of the company’s current management team and the audit committee associated with the prospective engagement, and do these qualifications enable them to execute their roles and responsibilities effectively?
– Has the audit firm considered any previous restatements or material weaknesses (e.g., nature of restatements, nature of deficiencies, whether they are long-standing, etc.)?
– Were there any risk factors that indicate that company management and those charged with governance lack integrity?
– Has the audit firm thoroughly considered whether its personnel are free from any obligation to, or interest in, the prospective engagement, company management, or the company’s owners?
– Is the audit firm independent or will the audit firm be able to become independent for the audit and professional engagement period?
– Does the audit firm have sufficient knowledge and experience or appropriate access to subject matter experts, including relevant industry expertise, to undertake the work?
– Was the company’s management or audit committee aware of any improper activities conducted by the former auditor during interim reviews or annual audits, including activities related to the supervision of the audit or to the engagement quality review?
– Was the company’s management or audit committee aware of any illegal acts identified by the predecessor auditor and not reported to the U.S. Securities and Exchange Commission or any other relevant regulators?
The report also addresses inquiries that an audit firm must make if a company is changing auditors and reviews certain responsibilities of successor auditors. Audit committees and their advisors likely will find the report helpful in identifying potential areas of concern to a new auditor in connection with its engagement and in developing strategies to address those concerns.
Last week, in Hanna v. Paradise and Skillz Inc., (Del. Ch.; 7/25), the Delaware Chancery Court refused to dismiss insider trading allegations against corporate insiders arising out of their sales of company stock in a public offering conducted during a blackout period. mandated by the company’s insider trading policy. The plaintiff alleges that the company failed to disclose material negative information about its performance of which the board was aware until after the offering, which permitted insiders to sell their shares in the offering at an inflated price.
This case doesn’t involve a 10b-5 claim; instead, it’s a so-called “Brophy claim” alleging that the defendants’ actions involved a breach of fiduciary duty. The lawsuit was filed as a derivative action, so this decision focuses on issues like demand futility and director independence and does not address the substance of the plaintiff’s allegations. Chancellor McCormick declined to dismiss the case, so the possibility exists that she may address some of the more interesting issues raised by the case in subsequent proceedings.
Even if the Chancellor doesn’t address those issues, the case gives me an excuse to plug our upcoming “Securities Offerings During Blackout Periods” webcast – which I assure you will focus on the substantive issues surrounding a decision to move forward with a public offering during a blackout period.
