E-Minders November 2020

In This Issue:

E-Minders is our monthly e-mail newsletter containing the latest developments and practical guidance for corporate & securities law practitioners.

We view TheCorporateCounsel.net as the gathering place for the community and encourage those who may not yet be members to take advantage of a "Free for Rest of '20" Trial" to see what you are missing. Here are "12 Good Reasons" to try us now.

You can subscribe below to receive a complimentary E-Minders newsletter - even if you aren't a member TheCorporateCounsel.net. Our hope is that once you get to know us, you will understand the true value of joining our community. Note that members of TheCorporateCounsel.net should sign up below for E-Minders too, as you won't automatically receive it by being a member (since we may not have your email address).

It's Here! 2021 Edition of Dunshee & Jokela's "Proxy Season Disclosure Treatise": Liz Dunshee & Lynn Jokela wrapped up the 2021 Edition of the definitive guidance on proxy season disclosure: Dunshee & Jokela's "Proxy Season Disclosure Treatise." The entire treatise spans 1900 pages and 33 chapters - all carefully organized for easy navigation. Here's the "Detailed Table of Contents" listing the topics so you can get a sense of the Treatise's practical nature. Plus, we will be providing an e-book supplement this winter to incorporate the latest amendments to Regulation S-K and Rule 14a-8. Order on TheCorporateCounsel.net so that you can have your copy in time for the upcoming proxy season.

It's Here! 2021 Edition of Dunshee & Jokela's "In-House Essentials Treatise": Liz Dunshee & Lynn Jokela wrapped up the 2021 Edition of the definitive guidance on securities law for the in-house lawyer: Dunshee & Jokela's "In-House Essentials Treatise." With over 2000 pages - spanning 22 chapters - you will need this practical guidance for the challenges ahead. Here's the "Detailed Table of Contents" listing the topics so you can get a sense of the Treatise's practical nature. Order on TheCorporateCounsel.net.

It's Here! Lynn & Borges' "Executive Compensation Disclosure Treatise": The highly anticipated 2021 edition of Lynn & Borges' "Executive Compensation Disclosure Treatise" is here. With heightened attention being paid to executive & director pay, and new proxy advisor rules, the latest edition is critical for the upcoming proxy season. Here's the "Detailed Table of Contents" listing the topics so you can get a sense of the Treatise's practical nature. Order a hard copy on CompensationStandards.com. As always, Dave Lynn and Mark Borges have ensured that the treatise is comprehensive and practical.

Over 300 Checklists: Dunshee's "Practical Corporate Governance Treatise": If you're looking for "A to Z" practical guidance, you need Dunshee's "Practical Corporate Governance Treatise." The "Detailed Table of Contents" is posted on TheCorporateCounsel.net listing the topics so you can get a sense of the variety of topics covered. With over 1700 pages—including over 300 checklists—this tome is the definition of being practical. You can return it any time within the first year and get a full refund if you don't find it of value. Order on TheCorporateCounsel.net today!

Deal Lawyer Training: Jenkins' "Practical M&A Treatise": Based on his 30+ years of deal work, members are saying that John Jenkins' "Practical M&A Treatise" should be required reading for all M&A associates. Spanning 659 pages, John writes in a practical style — using stories & examples to make even the most complex deal issues easy-to-understand. Here's the "Detailed Table of Contents" listing the topics so that you can see for yourself.

Don't miss out on this popular training tool – order it today. And for your convenience, we're offering it as either a hard-copy print book — or as just an online version. So there are two different ways to order the "Practical M&A Treatise":

  1. Order the hard-copy of the "Practical M&A Treatise"
  2. Order the online version of the "Practical M&A Treatise

"101 Pro Tips — Career Advice for the Ages" Paperback! If you're working with junior associates, get them off on the right foot. Read — or share — career insight from Broc Romanek & John Jenkins by ordering their paperback — "101 Pro Tips — Career Advice for the Ages". Here's the "Table of Contents." It's free for members of TheCorporateCounsel.net (but it does cost $20 in shipping & handling).

This book is designed for fairly young lawyers — both in law firms and in companies. It's written in an "easy to read" style, complete with some stories & anecdotes to make it interesting. This is a unique offering in our field — and we've heard more than one member say that they're getting copies for all of their new associates. Members can request it now.

Our "In-House Accelerator": If you're relatively new to being in-house - or you want to gain that perspective - take advantage of our "In-House Accelerator." This online - and offline - training program is free for members of TheCorporateCounsel.net. In addition to the "In-House Accelerator" paperback (paperback consists of 221 FAQs; here's the "Table of Contents"), there is a series of podcasts & other comprehensive materials covering these four areas:

1. Corporate Governance
2. Proxy Season
3. '34 Act Reporting
4. Other

"Deal Tales" - A Three Volume Set! Education by entertainment! This “Deal Tales” series of three paperback books teaches the kind of things that you won't learn at conferences, nor in treatises or firm memos. Here's the "Table of Contents" for each volume rolled into one. With the set containing over 600 pages, John Jenkins - a 30-year vet of the deal world - brings his humorous M&A stories to bear. Order "Deal Tales" today!

Upcoming Webcasts on TheCorporateCounsel.net: Join us on November 12th for the webcast - "The Top Governance Consultants Speak" - to hear Laura Wanlass of Aon, Rob Main of Sustainable Governance Partners, Allie Rutherford of PJT Camberview and Chris Young of Jefferies discuss what you should be focusing on in fall engagements and what proposals are emerging for the upcoming year.

And join us on December 10th for the webcast - "Modernizing Your Form 10-K: Incorporating Reg S-K Amendments" - to hear Scott Kimpel of Hunton Andrews Kurth, John Newell of Goodwin Procter and Kenisha Nicholson of Wilson Sonsini discuss how the SEC’s recent amendments to modernize Regulation S-K will affect your next Form 10-K, including, among other things, how to tackle human capital disclosures, the impact on disclosure controls & procedures and other interpretive issues.

There is no cost for these webcasts if you are a member of TheCorporateCounsel.net. If you are not a member, take advantage of our no-risk trial to access the programs. You can sign up for this no-risk trial online, send us an email at info@ccrcorp.com - or call us at 800.737.1271.

Upcoming Webcast on DealLawyers.com: Join us on November 17th for the webcast: "Doing Deals Remotely" - to hear Joseph Bailey of Perkins Coie, Murad Beg of Provariant Equity Partners and Avner Bengara of Hughes Hubbard & Reed discuss adjusting to doing deals remotely, including lessons learned and emerging best practices for completing a successful transaction in this strange new environment.

No registration is necessary - and there is no cost - for this webcast for DealLawyers.com members. If you are not a member, take advantage of our no-risk trial to access the programs. You can sign up online, send us an email at info@ccrcorp.com - or call us at 800.737.1271.

Upcoming Webcasts on CompensationStandards.com: Join us on November 19th for the webcast - "Pay Equity: What Compensation Committees Need to Know" - to hear Anne Bruno of Mintz, Tanya Levy-Odom of BlackRock, Josh Schaeffer of Equity Methods and Heather Smith of Impax Asset Management | Pax World Funds discuss pay equity including why it's in the spotlight, the difference between "pay equity" & "pay gap", shareholder expectations, disclosure trends on pay gaps & pay equity, pay ratio interplay, mechanics of board & committee oversight and preparing for shareholder engagements & proposals.

And join us on January 21st for the webcast - "The Latest: Your Upcoming Proxy Disclosures" - to hear Mark Borges of Compensia and CompensationStandards.com, Alan Dye of Hogan Lovells and Section16.net, Dave Lynn of TheCorporateCounsel.net and Morrison & Foerster and Ron Mueller of Gibson Dunn discuss all the latest guidance - including the latest SEC positions - about how to use your executive & director pay disclosure to improve voting outcomes and protect your board, as well as how to handle the most difficult ongoing issues that many of us face.

No registration is necessary - and there is no cost - for these webcasts for CompensationStandards.com members. If you are not a member, take advantage of our no-risk trial to access the programs. You can sign up online, send us an email at info@ccrcorp.com - or call us at 800.737.1271.

Financial Reporting: SEC Amends Auditor Independence Rules

The SEC announced amendments to the auditor independence requirements set forth in Rule 2-01 of Regulation S-X. Here's the 130-page adopting release. The amendments are intended to update the independence rules to address recurring fact patterns that triggered technical independence rule violations without necessarily impairing the auditor's objectivity and impartiality.

Among other things, the amendments address independence issues that arise when sister companies with a common PE fund owner have engaged an audit firm to provide non-audit services that could impair the independence of the audit firm with respect to another sibling company. The amendments also shorten the look-back period for auditor independence from three years to one year for first time filers, which will provide increased flexibility for IPO companies to address potential disqualifying relationships with their audit firms.

The SEC's press release summarizes the changes implemented by the amendments & provides a couple of examples of how they will work. According to the release, the amendments will:

- Amend the definitions of "affiliate of the audit client," in Rule 2-01(f)(4), and "investment company complex," in Rule 2-01(f)(14), to address certain affiliate relationships, including entities under common control;

- Amend the definition of "audit and professional engagement period," specifically Rule 2-01(f)(5)(iii), to shorten the look-back period, for domestic first time filers in assessing compliance with the independence requirements;

- Amend Rule 2-01(c)(1)(ii)(A)(1) and (E) to add certain student loans and de minimis consumer loans to the categorical exclusions from independence-impairing lending relationships;

- Amend Rule 2-01(c)(3) to replace the reference to "substantial stockholders" in the business relationships rule with the concept of beneficial owners with significant influence;

- Replace the outdated transition provision in Rule 2-01(e) with a new Rule 2-01(e) to introduce a transition framework to address inadvertent independence violations that only arise as a result of a merger or acquisition transactions; and

- Make certain other miscellaneous updates.

We'll give you three guesses how the SEC's vote on this went down – and the first two don't count. Anyway, here's Chair Clayton's statement on the adoption of the amendments, and here's the customary dissenting statement from Commissioners Lee and Crenshaw. The dissenters expressed concern with the increased discretion provided to audit firms when assessing their own independence and the lack of any mechanism to provide visibility into how auditors are exercising this discretion. We'll be posting memos in our "Auditor Independence" Practice Area.

SEC Proposes Conditional Exemption for "Finders" Involved in Capital Raising

More than three years after the SEC's Advisory Committee on Small and Emerging Companies issued a recommendation, the SEC voted 3-2 to propose a conditional exemption from the broker registration requirements of Section 15(a) of the Exchange Act for "finders." The proposed exemption would permit "finders" to engage in certain capital raising activities involving accredited investors and is intended to provide clarity to smaller businesses and their investors, and "finders" who assist them in raising capital. Under the proposed exemption, "finders" would be classified in two tiers with conditions tailored to the scope of their respective activities. Here's the proposing release. This excerpt from the SEC's press release summarizes the two classes of finders – see the complete press release for a summary of the applicable conditions:

Tier I Finders
A Tier I Finder would be limited to providing contact information of potential investors in connection with only a single capital raising transaction by a single issuer in a 12 month period. A Tier I Finder could not have any contact with a potential investor about the issuer.

Tier II Finders
A Tier II Finder could solicit investors on behalf of an issuer, but the solicitation-related activities would be limited to: (i) identifying, screening, and contacting potential investors; (ii) distributing issuer offering materials to investors; (iii) discussing issuer information included in any offering materials, provided that the Tier II Finder does not provide advice as to the valuation or advisability of the investment; and (iv) arranging or participating in meetings with the issuer and investor.

For additional information, the Office of the Advocate for Small Business Capital Formation posted a video and a chart showing a comparison of some of the permissible activities, requirements and limitations for Tier I Finders, Tier II Finders, and registered brokers. The proposal is subject to a 30-day comment period.

Over the years, many small companies needing capital have found it difficult to determine when it's appropriate to engage "finders." In her statement in support of the proposal, Commissioner Hester M. Peirce found a way to acknowledge Eddie Van Halen's "ebullient guitar-playing" by thanking Chairman Jay Clayton, the Division of Trading and Markets and others "for recognizing that the make-up-your-own-path approach works better for rock 'n' roll than it does for finders" – describing the current approach for finders as being ad-hoc and based on gut-feeling and guideposts gleaned from no-action letters and enforcement actions. Commissioner Peirce said the proposal provides a framework for finders and questioned whether the scope of the proposal should be expanded to secondary offerings.

Commissioners Allison Herren Lee and Caroline A. Crenshaw each issued dissenting statements criticizing the proposal for a lack of empirical support and investor protection concerns. In her statement, Commissioner Lee said she could have supported a rulemaking process that proposed a scaled registration format that required some form of record keeping and examination authority. Commissioner Lee continued by saying the proposal relies too much on the continued applicability of antifraud provisions as comfort for investor protections.

More on "Reg S-K 'Modernization' Amendments Published in Federal Register!"

In early October, Lynn blogged that the SEC's amendments to modernize Items 101, 103 and 105 of Regulation S-K were published in the Federal Register. The effective date of the rules is Monday, November 9th – and in practice, that probably means that you need to comply for any filings made after 5:30 pm ET on Friday, November 6th, since those filings will have a Monday filing date. If you haven't done so already, take a look at last year's filing dates for your clients/your company to get a handle on exactly when you'll need to incorporate these new requirements.

There's been more back & forth in our Q&A Forum about the new rules (see Topic #10,435) – thanks to Bass Berry's Jay Knight and Goodwin's John Newell for keeping the conversation going. Jay noted that the Staff has informally said that early compliance with the modernization rules is not permitted, and shared that for Form 10-Ks filed after the effective date that contain more than 15 pages of risk factors, it may be acceptable to have the "forward-looking statement" section also serve as a risk factor summary, if it otherwise satisfies the requirements of Item 105. Many companies will try to keep their risk factors below 15 pages, in order to avoid that requirement altogether. Remember that our Q&A Forum is a good place to exchange ideas and ask questions about topics like this.

The SEC's amendments to the definitions of "accredited investor" and "QIB" were also published in the Federal Register – those rules will go effective on December 8th.

Human Capital: Addressing the New Disclosure Requirement

One of the problems with adopting a principles based disclosure requirement is that you often end up with some poor soul staring at a blank sheet of paper trying to come up with something to say. If you're worried about finding yourself in that position, this Freshfields blog provides some advice about how to address the SEC's new human capital disclosure requirement. This excerpt lays out some potential disclosure topics:

Diversity and inclusion: Programs or initiatives related to recruitment and retention of diverse candidates and other corporate partners, programs or initiatives to mentor and ensure equal opportunities at the company for diverse employees, unconscious bias trainings, and community involvement. For instance, if a company has adopted the Rooney Rule for directors or other positions, it could be helpful to provide that disclosure.

Workforce compensation and pay equity: Company-wide compensation program design and implementation more generally, including incentive structures, internal minimum rates of pay, as well as efforts to promote gender and diversity pay equity. This may include involvement of outside compensation advisors or use of benchmarking data. This coming year, we expect to see disclosures around changes made to compensation programs in response to COVID-19 and the considerations that were involved. In the case of companies that had to reduce compensation or furlough employees, we expect to see disclosure of actions taken to ease departures or reduced wages that demonstrate a commitment to the workforce. For example, many companies provided severance packages, extended health insurance to part-time employees or furloughed employees, offered paid sick leave, or established wellness initiatives and mental health services.

Talent acquisition and retention: Competitive trends affecting recruitment and retention of employees (including, if material, voluntary and involuntary turnover rates), trends in overall workforce composition and talent needs, and succession planning for senior leadership roles.

Other potential topics include employee engagement and wellness, development and training, company culture, and oversight and governance. If you're looking for more insights into the new human capital disclosure requirement, we're posting memos in our "Human Capital Management" & "Regulation S-K" Practice Areas.

NYSE Again Extends Temporary Shareholder Approval Relief

In April 2020, the NYSE adopted a temporary rule easing the shareholder approval requirements applicable to listed companies looking to raise private capital during the Covid-19 crisis. That temporary rule, which was originally set to expire at the end of June, was extended through the end of September. In October, the SEC approved the NYSE application to extend it again.

In case you've forgotten what the temporary rule is all about, here's an excerpt from this Wilson Sonsini memo on the latest extension:

Generally, Section 312.03 of the NYSE Listed Company Manual requires listed companies to obtain shareholder approval prior to the issuance of common stock, or securities convertible into or exercisable for common stock, in certain circumstances. This temporary relief provides for a waiver, subject to the satisfaction of several conditions, from certain of the limitations and approval requirements set forth in Section 312.03 of the NYSE Limited Company Manual, including relating to (1) private placements involving 20 percent or more of a company's outstanding shares of common stock or voting power at a price that is lower than the "minimum price" and (2) related party transactions.

The temporary rule is now scheduled to expire on December 31, 2020. However, since there's a good chance that either a plague of locusts will descend upon us or the sea will turn to blood before then, our guess is another extension may be on the horizon.

SEC Enforcement: HP Cited for Alleged MD&A "Known Trends" Violations

The last day of the SEC's fiscal year included the announcement of a settled enforcement proceeding against HP, Inc. Among other things, the proceeding involved HP's alleged failure to comply with Item 303's "known trends" disclosure requirement regarding the implications of certain sales practices. This excerpt from the SEC's press release summarizes the agency's allegations:

According to the SEC's order, from early 2015 through the middle of 2016, in an effort to meet quarterly sales targets, regional managers at HP used a variety of incentives to accelerate, or "pull-in" to the current quarter, sales of printing supplies that they otherwise expected to materialize in later quarters. The order further finds that, in an effort to meet revenue and earnings targets, managers in one HP region sold printing supplies at substantial discounts to resellers known to sell HP products outside of the resellers' designated territories, in violation of HP policy and distributor agreements.

The order finds that HP failed to disclose known trends and uncertainties associated with these sales practices. The order further finds that HP failed to disclose that its internal channel inventory ranges, which it described in quarterly earnings calls, included only channel inventory held by channel partners to which HP sold directly and not by channel partners further down the distribution chain, thereby disclosing only a partial and incomplete picture of HP's channel health.

The HP proceeding is the second enforcement action involving trend disclosure that the SEC has brought against a major public company this year. This excerpt from the SEC's order summarizes the company's alleged shortcomings:

In its 2015 Form 10-K, HP failed to disclose the known trend of increased quarter-end discounting leading to margin erosion and an increase in channel inventory, and the unfavorable impact that the trend would have on HP's sales and income from continuing operations, causing HP's reported results to not necessarily be indicative of its future operating results. The failure to disclose that material trend caused HP's 2015 Form 10-K to be materially misleading.

The SEC's order also focused on HP's disclosure controls & procedures, and alleged that the company's disclosure process "lacked sufficient interaction with operational personnel who reasonably would have been expected to recognize that the known trends" attributable to these discounting practices. Without admitting or denying the SEC's findings, HP consented to a cease & desist order and agreed to pay a $6 million penalty.

Enforcement: SEC Provides $20MM Reminder That You'd Better Know What You Know. . .

In mid-October, the SEC announced a settled enforcement proceeding against Andeavor LLC arising out of alleged internal controls violations that resulted in the company engaging in a stock buyback while it was engaged in preliminary merger negotiations with a potential buyer.

According to the SEC's order, the company's CEO directed its CFO to initiate a $250 million stock buyback two days before the CEO was scheduled to meet with his counterpart at Marathon to resume confidential discussions about Marathon's potential acquisition of Andeavor at a significant premium. The next day, Andeavor's law department approved a Rule 10b5-1 plan to repurchase $250 million of stock. It made that authorization after concluding that these discussions did not constitute MNPI.

According to the order, that conclusion was "based on a deficient understanding of all relevant facts and circumstances regarding the two companies' discussions." As this excerpt from the order notes, the SEC contended that this deficient understanding was the result of a breakdown in internal accounting controls:

This lack of understanding was the result of Andeavor's insufficient internal accounting controls. Andeavor used an abbreviated and informal process to evaluate the materiality of the acquisition discussions that did not allow for a proper analysis of the probability that Andeavor would be acquired. Andeavor's informal process did not require conferring with persons reasonably likely to have potentially material information regarding significant corporate developments prior to approval of share repurchases.

In particular, nobody involved in the process discussed with the CEO the prospects that the two companies would reach a deal, which the SEC said resulted in a miscalculation of its probability (remember, we're in Basic v. Levinson territory here). The company ultimately consented to a C&D against violations of the book & records provisions of the Exchange Act and a $20 million penalty.

The trouble with contingency cases is that there's a huge potential for hindsight when you know how things ended up, and this case is no exception. The parties ultimately did agree on a deal at a valuation of $150 per share in April 2018 – compared to an average price of $97 paid for shares acquired in the buyback during February & March of the same year. That's not exactly an ideal fact pattern for defending a position that the preliminary merger negotiations weren't material.

A key takeaway from this proceeding seems to be that one of the key functions of internal controls – whether you're talking about disclosure controls & procedures or ICFR – is to enable companies to "know what they know." That's even more important when dealing with contingency disclosure. Companies that want to defend claims that are brought with the benefit of hindsight need to demonstrate that their control procedures were robust & well-functioning at the time a critical judgment call was made.

Misleading Disclosures: SEC Enforcement is Watching...Everything

Enforcement Division Director Stephanie Avakian recently gave this speech to recap actions over the past 3 years (also see the speech from SEC Chair Jay Clayton) – the walk down memory lane touched on these headline-grabbing allegations:

– Fraudulent accounting practices intended to misrepresent a company's underlying financial condition, as in the Commission's actions against Theranos, Hertz, and Penn West and their former executives

– Intentionally distorted non-GAAP metrics and key performance indicators, as in the Commission's actions against Wells Fargo, Fiat Chrysler, Valeant, and Walgreens

– Misrepresentations or omissions in connection with risk factors, as in the Commission's actions against Facebook and Mylan

– Materially misleading and incomplete disclosures, as in the Commission's actions against Nissan and Volkswagen and their former executives

Stephanie acknowledged that the Division's focus on financial fraud isn't new – but she emphasized the expansion of the types of info that Enforcement is tracking. If her remarks had a theme song, it would be Rockwell's "Somebody's Watching Me" – and it's a reminder to companies to watch all forms of disclosure. Here's an excerpt:

Our focus on financial fraud and issuer disclosure cases resulted in some significant changes in how we approach identifying and investigating potential misconduct. Our proactive efforts to identify cases has employed a variety of research, approaches, internal and external tools, and other information sets. We routinely look at all public information about an issuer – statements made by a company or its officers, in filings, during investor presentations, in tweets or blog posts; related commentary by others including analysts, shorts, competitors, shareholders – to develop a deep understanding of the company's reporting environment and industry. This is not a low cost investment, but it has provided substantial value in identifying potential financial fraud.

Further, in appropriate cases, we are employing strategies to streamline these investigations in an effort to substantially accelerate the pace of our investigations. This has come through a purposeful effort by our investigative teams to efficiently triage issues, increase staffing, make more targeted requests at the outset, substantively engage early with relevant parties, and leverage cooperation. We have already seen some success in our acceleration efforts and expect to see those successes continue in the near and long term.

This recap actually occurred before the flurry of enforcement activity that we saw earlier in October – so you can add those settlements to the tally. Also see this Davis Polk memo – noting that the speech signaled that the SEC may seek increased penalties in future insider trading cases, rather than disgorgement.

Board Racial Diversity Disclosure: Letter Campaign to Entire Russell 3000!

Lynn blogged earlier about a letter writing campaign focused on climate lobbying disclosure. With diversity disclosure getting a lot of attention these days, there's now another effort focused on that too. The "Russell 3000 Board Diversity Disclosure Initiative" issued a press release saying the group is calling on Russell 3000 companies to disclose the racial/ethnic and gender composition of their boards in 2021 proxy statement filings. The initiative is being led by the State Treasurers of Illinois and Connecticut and includes investors representing over $3 trillion in assets under management. Here's an excerpt about the initiative from the Illinois Treasurer's website:

Many institutional investors, including the Illinois Treasurer, have advocated for gender diversity on corporate boards through proxy voting policies and through direct shareholder-company engagement. These actions, now broadly adopted by institutional investors across the world, have helped generate an increase in gender diversity on corporate boards. The lack of data on racial/ethnic composition, however, makes it difficult to apply the same tools and creates unnecessary barriers to investment analysis and academic study.

The Black Lives Matter movement and the widespread outrage sparked by the murder of George Floyd have prompted a national conversation on issues of racial equity and inclusion. Many companies have issued statements in support of racial justice, and in some cases announced responsive efforts at their operations. This initiative urges companies to harness this national movement and the momentum on gender diversity to consider publicly reporting the racial/ethnic and gender composition of the Board of Directors in their annual proxy statement for the 2021 filing.

Members of the initiative have or are examining policies to vote against nominating committees with no reported racial/ethnic diversity in their proxy statements and expanding more direct shareholder engagement. Members agree that voluntary corporate reporting in the proxy statement is the most reliable data source.

The website includes a sample letter sent to Russell 3000 companies and the letter includes a proxy statement excerpt as an example of the disclosure the group would like to see. The example shows racial/ethnic and gender information by director as additional information at the bottom of a "director skills matrix." We've blogged before about potentially gathering some of this information as part of annual D&O questionnaires and it looks like more companies could be headed down that path...

ISS' Proposed Board Diversity Policy Change: Aggregated Data Won't Cut It

The comment period for ISS' policy changes closed on October 26th and when Liz blogged about the potential changes a couple of weeks ago, one U.S. change that has received a fair amount of attention is the proposed change relating to board diversity. Under that proposed policy, beginning in 2022, at companies where there are no identified racial or ethnically-diverse board members, the proposed U.S. policy will be to recommend voting against the chair of the nominating committee (or other relevant directors on a case-by-case basis). If the proposed policy is adopted, all companies in the Russell 3000 and S&P 1500 indexes would be subject to it.

As stated in ISS' proposed policy changes document, as of Sept. 21, 2020, 1,260 of the Russell 3000 companies, 492 of the S&P 1500 and 71 of the S&P 500 do not have minority ethnic and/or racial board representation. The document also states that in 2021, ISS research reports will highlight boards that lack racially or ethnically diverse board members (or lack disclosure of such) to help investors identify companies they may want to engage with to foster dialogue on the topic. A recent AgendaWeek piece (subscription required) includes commentary from Marc Goldstein, head of U.S. research at ISS, that sheds more light on information ISS wants to see:

'The real problem for us is when companies disclose diversity and then aggregate race, ethnicity and gender all together and say, for example, that '30% of our board is diverse,' but then they don't say what that means,' says Goldstein. 'We don't consider that good enough.'

Instead, says Goldstein, ISS wants to see companies that haven't provided specific disclosure to disclose what percentage of the board is composed of women, what percentage is racially diverse, and what percentage is ethnically diverse. 'We want to see gender diversity separated out from racial and ethnic diversity. And obviously, there are other ways to define diversity too, including background, thought, nationality - lots of things. But we're specifically interested in racial and ethnic diversity for the purposes of this policy.'

ISS expects to announce its final 2021 benchmark policy changes in the first half of November, so we'll find out soon if the proxy advisory firm adopts this board diversity policy. In the event ISS adopts this policy change, given that ISS research reports will begin flagging companies for lack of disclosure in 2021, even companies that have historically included aggregated director diversity information in their proxy statements might want to consider updating their disclosure or prepare for potential questions from investors.

Insights on Deducting "Legitimate Expenses" from Disgorgement Awards

One open question from the Supreme Court's Liu decision relates to determining "legitimate expenses" that must be deducted from disgorgement awards so the "net profits" can be distributed to victims. At a recent SEC Speaks conference, Enforcement Division Chief Counsel Joseph Brenner and Chief Litigation Counsel Bridget Fitzpatrick provided insight for those trying to understand what might constitute "legitimate expenses" in context of a disgorgement award. This McGuireWoods memo summarizes remarks from the conference, including these relating to determining legitimate expenses:

Chief Counsel Brenner noted that the Enforcement Division would be on the lookout for "expenses" that in its view were just wrongful gains under another name, such as expenses that furthered the scheme, or deductions for the defendant's personal services to the fraudulent enterprise. If defense counsel believe there are legitimate expenses that should be deducted from a potential disgorgement amount, Chief Counsel Brenner recommended counsel to consider the following questions:

1. What makes the expense legitimate within Liu's framework - in particular, did the expense provide actual value to investors, was the expense consistent with how investors understood their money would be used, or is the expense really just disguised profits?

2. If the expenses are legitimate, how closely were those expenses tied to the unlawful profits? Thus, the Enforcement Division may not view all "legitimate" expenses as deductible if they were in furtherance of the violation.

3. What is the right amount of the offset?

With respect to the third point, Chief Counsel Brenner stated that, in the Enforcement Division's view, counsel must come prepared to demonstrate both the entitlement to a deduction for a legitimate expense and its amount. Based on practical experience gained since Liu, the Staff stated that counsel can make a more persuasive case for a reduction from the full amount of disgorgement by doing the work up front to support both the basis for the deductible legitimate expense and, critically, its amount. In the Staff's view, it is not sufficient for counsel to claim it is too difficult or resource-intensive to quantify the expense, or to claim that the analysis supporting a request was work product that the Staff could not review.

D&O Questionnaires: Few Changes for 2021 Proxy Season

This Stinson blog highlights things to think about for the upcoming proxy season – meeting format, issuer status, recent SEC guidance, and other developments. Here's an excerpt explaining that very few changes will be needed to D&O questionnaires:

As noted in previous years, the Tax Cuts and Jobs Act eliminated the exception to IRC §162(m) for performance-based compensation, subject to a transition rule. We continue to urge caution in eliminating questions in directors' and officers' questionnaires related to §162(m) for compensation committee members unless it is clear the compensation committee is not required to administer any compensation arrangements under the transition rule. The same can be said for eliminating references to §162(m) in compensation committee charters.

In February 2020, the SEC approved a Nasdaq proposal to amend the definition of "Family Member" used in its corporate governance rules, which is incorporated into the definition of "Independent Director." The definition will no longer include step-children and will include a carve out for domestic employees who share a director's home. The issuer's board must still affirmatively determine that no relationship exists that would interfere with a director's ability to exercise independent judgment.

As Lynn recently blogged, companies may want to consider adding a "demographics" question in order to gather diversity info – but undertaking that kind of addition is less straightforward than it might seem at first blush. This Dorsey blog offers a sample question.

Whistleblowers: Just . . . WOW!

What else can you say when the SEC announces that somebody just rang the whistleblower bell to the tune of $114 million? Here's an excerpt from the SEC's press release:

The Securities and Exchange Commission today announced an award of over $114 million to a whistleblower whose information and assistance led to the successful enforcement of SEC and related actions.

The $114 million award consists of an approximately $52 million award in connection with the SEC case and an approximately $62 million award arising out of the related actions by another agency. The combined $114 million reward marks the highest award in the program's history, and eclipses the next highest award of $50 million made to an individual in June 2020.

It sounds like the award came at the end of a tough road for the whistleblower. The SEC's press release says that the individual repeatedly reported that person's concerns internally, and then, "despite personal and professional hardships," the whistleblower alerted the SEC and the other agency of the wrongdoing and provided ongoing assistance that was critical to the success of the proceeding.

Now for the fun part – guessing which company is involved in the underlying case. For what it's worth, here's the SEC's order, but it won't be much help. The order contains more redactions than the average CIA response to a FOIA request.

Given the size of the award & the reference to another agency's involvement, some might guess that it's related to the Goldman Sachs 1MDB settlement that was also announced that same day, but we're pretty sure that this doesn't relate to that proceeding. For one thing, the SEC hasn't yet issued a Notice of Covered Action for that case, which is required for any potential whistleblower case in which more than $1 million in sanctions have been imposed.

We have far too much journalistic integrity to speculate on such matters – but not enough to prevent us from pointing you to a Twitter thread where lots of people are doing just that.

Forum Selection: ISS Policy Proposal Backs Exclusive Forum Bylaws

Liz blogged earlier in the month about ISS's benchmark policy document. In addition to the ESG & diversity policy changes that she mentioned, page 34 of the document sets forth a proposed policy under which ISS would generally endorse Delaware exclusive forum bylaws for Delaware corporations. Here's an excerpt from Wachtell Lipton's memo on the proposed policy:

Institutional Shareholder Services (ISS) has released its proposed 2021 voting policy updates and, for the first time, proposes expressly recognizing the benefits of Delaware choice of forum provisions for Delaware corporations and generally recommending in favor of management-sponsored proposals seeking shareholder approval of such charter or bylaw provisions. Under the new ISS policy, ISS would:

(1) generally vote for charter or bylaw provisions that specify Delaware, or the Delaware Court of Chancery, as the exclusive forum for corporate law matters for Delaware corporations, "in the absence of serious concerns about corporate governance or board responsiveness to shareholders" (and continue to decline to vote against the directors of Delaware companies who adopt such bylaw provisions "unilaterally");

(2) continue to take a case-by-case approach with respect to votes regarding exclusive forum provisions specifying states other than Delaware; and

(3) generally vote against provisions that specify a state other than the state of incorporation as the exclusive forum for corporate law matters or a specific local court within the state (and apply withhold vote recommendations to a board's "unilateral" adoption of such a provision).

When it comes to federal forum bylaws, ISS's proposed policy would generally support charter or bylaw provisions that specify "the district courts of the United States" as the exclusive forum for federal securities law matters. However, the memo notes that ISS would recommend against against provisions that limit the forum to a particular federal district court. As with ISS's other proposed policy changes, the time period to submit comments on this proposal ends on October 26th.

Financial Reporting: About Those Covid-19 One-Time Charges. . .

We've blogged quite a bit about the financial reporting issues created by the pandemic (here's a recent one), but this WSJ article raises another one – how long can companies characterize Covid-19 related costs as "one time charges"? Here's an excerpt:

More than six months into the pandemic, company executives say they expect to be dealing with the effects of Covid-19 for much longer than they initially anticipated. Still, some companies continue to treat virus-related costs as special, one-time items, which can give the impression that a business's costs are lower than they actually are. This in turn can boost its non-GAAP financial results. Companies often highlight these metrics when also reporting earnings figures that comply with generally accepted accounting principles as required.

Some investors and accounting professionals suggest that after two quarters of reporting Covid-19-related costs, companies should consider treating these items as regular costs of doing business as they close the books for the third quarter and not adjust their non-GAAP earnings.

The article says that many prognosticators suggest that current conditions – and the heightened expenditures for PPE and other Covid-19 related costs – are going to continue at least until a vaccine becomes widely available. In that kind of environment, the appropriateness of continuing to back out these costs from non-GAAP numbers on the basis that they're "one-time charges" is questionable.

California Board Diversity Mandate Faces Legal Challenge

A couple of months ago, Lynn blogged about California Assembly Bill (AB) 979 that would require public companies headquartered in California to include directors from "underrepresented communities" on their boards. California's Governor Gavin Newsom signed it into law on September 30 and it's quickly been challenged in court. This Judicial Watch press release says that the group filed a lawsuit challenging the enforceability of AB 979. Cydney Posner's blog provides a good overview of the lawsuit and notes that it's patterned after the lawsuit challenging California's board gender diversity law, SB 826:

Framed as a "taxpayer suit" much like Crest v. Padilla I, the litigation seeks to enjoin Alex Padilla, the California Secretary of State, from expending taxpayer funds and taxpayer-financed resources to enforce or implement the law, alleging that the law's mandate is an unconstitutional quota and violates the California constitution.

The complaint requests entry of a judgment declaring any expenditures of taxpayer funds to implement or enforce AB 979 to be illegal and issuance of an injunction permanently prohibiting the Secretary from expending taxpayer funds to enforce or implement the provisions of the legislation. Presumably, California will file an answer contesting these claims; however, unless and until a court issues the requested injunction, the law will go into effect.

This Wilson Sonsini blog outlines the law and discusses potential reporting obligations. The blog suggests companies subject to the law start planning for compliance. For companies that don't already have director diversity data, the blog says they may want to consider adding a question to their annual director and officer questionnaire to solicit the information. Not too long ago, Lynn blogged about the quest for director diversity information and included one sample D&O question for consideration – and, this Dorsey blog includes another sample question.

September-October Issue of "The Corporate Counsel" Print Newsletter

The September-October issue of The Corporate Counsel print newsletter was just posted – and also sent to the printer (try a no-risk trial). The topics include:

– SEC Engages in a Flurry of Rulemaking

– Regulation FD Turns 20: Our Take

– Something to Look Forward to in 2021: Less Non-Issuer Financial Information

September-October Issue of "The Corporate Executive" Print Newsletter

The September-October issue of The Corporate Executive was just posted - & also sent to the printer. It's available now electronically to members of TheCorporateCounsel.net who also subscribe to the electronic newsletter (try a no-risk trial). This issue includes articles on:

– Companies Changing Incentive Compensation Plan Performance Targets or Metrics Due to Covid-19

– ISS Releases Preliminary Guidance on the Pandemic and Pay Decisions

– Perks and the Pandemic: The SEC Staff Weighs In

– Human Capital Disclosure: Are You Ready?

Conference Calendar

What's New on Our Websites

Among other new additions, we have posted:

  • An "Inside Track with Liz" podcast featuring Jean Lee, President and CEO of the Minority Corporate Counsel Association - a national organization focused on hiring, promoting and retaining women and diverse attorneys by providing cutting-edge research, best practices and training. In the podcast, Jean discusses the work that MCCA has been doing and why it's important to have diverse corporate lawyers.
  • "The Dave & Marty Radio Show - The Fond Farewell Episodes," in which Dave Lynn welcomes a series of eminent guests to remember his great friend and "Radio Show" co-host Marty Dunn, who died on June 15, 2020:
  • A series of podcasts featuring Dave Lynn and Marty Dunn. The series covered the following insightful and entertaining topics:
    • "Integration, COVID-19 Risk Factors and Quarantine Attic Finds" – Dave and Marty discuss the SEC's integration proposals in the harmonization of securities offering exemptions release, observations regarding COVID-19 risk factor disclosures and quarantine attic finds.
    • "Filing and Disclosure Obligations during the COVID-19 Pandemic" – Dave and Marty discuss when and what to disclose about the impact of COVID-19, Form 8-K disclosure triggers arising from COVID-19, the SEC's COVID-19 exemptive order and the latest Staff interpretations, and importantly, a quarantine movie list.
    • "Coronavirus, Rule 144(i) and Which is Better?" – Dave and Marty discuss the latest developments in securities laws, corporate governance and pop culture. Topics include disclosure considerations for public companies arising from the coronavirus, the curious case of Securities Act Rule 144(i) and which is better?
    • "Dave & Marty – Revisiting Risk Factors & LPs" – they discuss recommendations for tuning up your risk factors, early trends in the shareholder proposal season and evolving musical tastes in a world of technological innovation.
    • "Dave & Marty – Back in Black" – they discuss the top 10 expectations for 2019 – 2020 shareholder proposal season and the latest issues with non-GAAP financial measures and key performance indicators.
  • A podcast series - "Women Governance Gurus" - that Liz has been hosting with Courtney Kamlet of Vontier. So far, these illustrious guests have joined Liz & Courtney to talk about their careers in the corporate governance field - and what they see on the horizon:
    • Darla Stuckey - President & CEO, Society of Corporate Governance
    • Jurgita Ashley - Partner, Thompson Hine
    • Susan Permut - Adjunct Professor, Boston University School of Law, and Founder & Principal Consultant at Royce Road Advisors
    • Courtney Kamlet - VP, Associate General Counsel & Corporate Secretary, Vontier
    • Liz Dunshee - Managing Editor, TheCorporateCounsel.net
    • Alane Barnes - SVP & Chief Legal Officer at BioCryst Pharmaceuticals
    • Dannette Smith - Secretary to the Board & Senior Deputy GC at UnitedHealth Group
    • Lisa Beth Lentini Walker - CEO & Founder of Lumen Worldwide Endeavors
    • Stacey Geer - EVP, Chief Governance Officer, Deputy GC and Corporate Secretary at Primerica
    • Kellie Huennekens - Head of Americas, Nasdaq Center for Corporate Governance
    • Anne Chapman - Managing Director, Joele Frank
    • Hope Mehlman - EVP, Chief Governance Officer at Regions Bank

The following memos & insights:

- Memos: SEC's Auditor Independence Amendments
- "Statement on Diversity & Equity" - Business Roundtable (10/20)
- "Audit Committee Survey: COVID-19 Disclosures" - KPMG (10/20)
- "SEC Targets Accounting Adjustments in EPS Initiative" - Covington (10/20)
- Memos: SEC's Proposed "Finders" Exemption
- "Mid-Year Virtual Meeting Stats" - Broadridge (10/20)
- "Between a Rock and a Hard Place: OFAC Issues Advisory on Ransomware Payments" - Ropes & Gray (10/20)
- "H&M's Massive GDPR Fine for Wrongful Processing of EU Employee Data" - Orrick (10/20)

People: Who's Doing What & Where

Corp Fin Director Bill Hinman to Depart: The SEC issued a press release announcing that Corp Fin Director Bill Hinman intends to leave the SEC later this year. The range of rulemaking adopted under Director Hinman's leadership has been impressive. SEC Chairman Jay Clayton released a statement commending Director Hinman for all that he's accomplished at the agency during his tenure and thanked him for his sage advice.  Upon Director Hinman's departure, Deputy Director Shelley Parratt will serve as Acting Director as she has done in previous transitions.

Jessica Kane Named Director of Corp Fin's Disclosure Review Program: In mid-October, the SEC announced that Jessica Kane was named as Director of the Division of Corporation Finance's Disclosure Review Program. In this role, Kane will lead Corp Fin's work reviewing transactional, periodic and current reports and she will lead initiatives to monitor and enhance the effectiveness, relevancy and transparency of disclosures. In the SEC's press release, Corp Fin Director Bill Hinman said "Jessica is recognized through the agency as an effective leader and practical lawyer. She is a terrific additional to the Division's leadership team, and I am confident that she will effectively lead the Disclosure Review Program in our ongoing efforts to promote collaboration, transparency and efficiency." Kane has served in various roles with the SEC since joining the agency in 2007 as an attorney in the Division's Disclosure Review Program. Most recently, Kane served as Director of the Office of Credit Ratings.

Tamara Brightwell named as Deputy Director of Corp Fin's Disclosure Review Program: In mid-October the SEC also announced that Tamara Brightwell was named as Deputy Director of the Division of Corporation Finance's Disclosure Review Program. In this role, Brightwell will join with Jessica Kane in overseeing reviews of transactional filings and periodic and current reports. In the SEC's press release, Corp Fin Director Bill Hinman said "Tamara is a skilled lawyer with a reputation for brining complex matters to a successful conclusion." Brightwell previously served as Deputy Chief Counsel in the Division of Corporation Finance's Office of Chief Counsel since 2018. Prior to that, Brightwell rejoined Corp Fin in 2017 as a Senior Advisor to the Director after serving as a Senior Advisor to Chair Mary Jo White throughout her tenure.

Nichola Timmons named as Chief of Bankruptcy, Collections, Distributions and Receiverships: In October, the SEC announced that Nichola Timmons was named as the Chief of the newly-formed Office of Bankruptcy, Collections, Distributions, and Receiverships in the Division of Enforcement. Timmons joined the SEC as a staff attorney in 1998 and since 2018, she has served as Supervisory Trial Counsel where she led the SEC's distribution function. The new office will centralize existing functions and Timmons will oversee the process, and staff dedicated to those functions, through which the SEC collects outstanding monetary judgments, both in district court and bankruptcy proceedings, and returns money to harmed investors through distributions and the work of court-appointed receivers.

Your Input, Please

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