February 26, 2004

Our New Survey on Compensation

On, we have kicked off an online survey regarding how companies are dealing with compensation committees and compensation consultants. Go ahead and participate now!

We have posted the final results on our recent survey about how shareholders are allowed to contact directors. Among the results from 74 respondents, at 64% of the companies, corporate secretaries handle shareholder communications – it’s the GC at 15% of the companies responding. Of these companies, 62% allow shareholder communication via regular mail; 32% allow emails and 21% allow telephone calls.

Chewing the Fat about Martha Stewart

As Martha’s trial winds up, Alan Dye and I were discussing how the Martha Stewart case raises interesting issues about news of an insider’s trades. The first question is whether an insider’s planned or even completed – but not reported – sales are material information. In a Waksal-style panic dump, it seems the information would likely be considered material. A small sale of an insignificant percentage of the insider’s stock, on the other hand, might not be viewed as material.

If the news is material, trading on it violates Rule 10b-5 only if trading breaches a duty (as the S.Ct. said in Dirks). In the Martha Stewart case, the government’s theory is that Bacanovic breached a contractual duty to his employer, Merrill Lynch, by tipping Martha – and that Martha was a knowing tippee (ie., she knew she was getting the information in violation of Bacanovic’s duty). Query what the breach of duty would have been if Sam had told Martha himself.

The Martha Stewart case also raises interesting issues regarding an issuer’s obligations when it knows an insider plans to sell stock. Consider this: the company has a pre-clearance policy and a ten day quarterly window period for trading. The window is open, and no material company news is pending. Several of the executives sit around and decide that this would be a good time to sell some stock. They all pre-clear through the GC, who also plans to sell some stock. Would you tell any of the execs, or the GC, that they can’t sell unless they publicly announce, in advance, that they plan to sell? A group of ABA members are going to get together to brainstorm these issues at the ABA’s Business Law Section Spring Meeting in April.

IASB Requires Expensing in ’05

Last week, the International Accounting Standards Board (IASB) adopted International Reporting Standard 2 that will require issuers in the European Union to treat the costs of providing stock options as an expense on their financial statements. This new standard becomes effective on January 1, 2005.

In the United States, the Financial Accounting Standards Board is expected to issue its own exposure draft in March. The FASB has indicated that it will recommend not only the Black-Scholes method but also a binomial or similar method for valuing the stock options.

The IASB is selling copies of the new standard from its website – so much for regulatory transparency. They should follow the FASB’s lead, who started posting its standards for free a few months ago.

SEC Proposes Mutual Fund Mandatory Redemption Fee/ 401(k) Plans

Yesterday, the SEC proposed Rule 22c-2 under the Investment Company Act to require open-end investment companies to impose a 2% redemption fee on the proceeds of shares that an investor redeems within 5 business days after purchasing the shares. The vote by the Commission for putting the proposal out for comment was 4 in favor with Commissioner Atkins voting no.

From our roving reporter Mike Holliday comes this summary – based on brief notes from the meeting and subject to the actual wording of the proposed rule and the proposing release:

The proposed redemption fee is aimed at the costs created by market timers in mutual funds. The proposal would affect and impose requirements on 401k plans, and 401k plans were included in the discussion at the meeting. For example, Ch Donaldson referred to the reported market timing by certain members of a Boilermakers Union Local in the union’s 401k-type retirement plan. Paul Royce, Director of the Division of Investment Management, referred to market timing in accounts without fees and tax consequences through retirement plans.

Much of the investment in funds is held through financial intermediaries such as banks, broker-dealers, insurance companies and retirement savings plans. Financial intermediaries would be required to participate in implementation of the rule. The financial intermediaries would have to assess the fees and forward the proceeds to the fund, or provide enough information to the funds so they could assess the fees.

There will be three “exceptions” to the fee:

1. The fee will be calculated against the shares held the longest, which would be considered the shares redeemed first – similar to the FIFO accounting concept – so that any shares held more than five business days would be used up first before any fee would be imposed.

2. There would be a di minimus exception of $2,500

3. There would be a provision for a fee waiver for financial emergencies (with a $10,000 limit).

In addition, certain funds would be exempt such as money market funds, exchange traded funds, and funds geared to attract market timers if they provide adequate disclosure.

The financial intermediaries would be required to deliver enough information to funds to permit the funds to oversee the intermediaries’ efforts to collect the fees, and to permit fund managers to bar frequent traders from the fund.

The Commission will also seek comments on fair value pricing and seek other solutions to combat abusive market timing activity.