Monthly Archives: June 2007

June 15, 2007

A Coupla Executive Compensation Notables

Earlier this week, SEC Chairman Cox gave an interview for this article where he talked briefly about the Staff’s executive compensation rules and more.

And on Monday’s “Nightline,” AFLAC’s CEO Dan Amos talked about why the company is the first one to adopt “say on pay” in the US, allowing his company’s shareholders to have a non-binding vote on the CEO’s pay package starting in 2009.

Finally, no surprise that a majority of Americans believe that CEOs are unethical and overpaid, as noted in a new survey discussed in this Bloomberg article. Here is an excerpt:

“More than six in 10 people surveyed say CEOs are ‘not too ethical’ or ‘not ethical at all,’ versus 33 percent who call them ‘mostly ethical.’ An overwhelming majority, more than eight in 10, say executives are paid too much. At the same time, Americans remain upbeat about the state of the

By the way, the SEC will hold an open Commission meeting next Wednesday to consider adopting universal e-Proxy and propose rules that would permit foreign private issuers to file in the US using IFRS without having to provide a reconciliation to US GAAP.

[Congrats to Herb Scholl: Herb celebrated his retirement yesterday at the SEC after four decades of public service. Herb started working at the SEC in 1967. If you have ever had Edgar problems, you likely spoke to Herb – whose “claim to fame” is picking the name of “Edgar.” We will miss ya Herb!]

SEC Acts on Short Selling; Coming Soon? Demystifying Vote Lending Practices

This week, the SEC voted to adopt changes that will rein in naked short selling, which in turn should help prevent inappropriate vote lending. These changes are important; remember that one of the arguments made to slow down the SEC on a possible path towards shareholder access is that the entire voting system needs to be better understood – these changes should simplify the system (albeit this issue is just one of many issues that need demystifying). I tend to agree with this argument – the voting system is complex, with numerous moving parts and layers of intermediaries.

We may soon know more about the world of stock lending. Here is an excerpt from a recent Business Week article:

“Sources say authorities from the U.S. Attorney’s office are looking into allegations that some employees on the stock loan desks received kickbacks or other improper cash payments from so-called stock-loan finders, independent middlemen who sometimes track down shares for Wall Street firms to lend to investors. It is anticipated that the prosecutors will likely claim that some employees on the stock loan desk unnecessarily referred work to the finders, who did little to justify their fees and only added to the cost of arranging a stock loan.”

From Clearly Gottlieb, below are notes about what the SEC acted on during Wednesday’s open Commission meeting:

– Remove Rule 10a-1 under the Securities Exchange Act of 1934 (the “Exchange Act”) and amend Regulation SHO to provide that no tick test or other price test, including any price tests of any self-regulatory organization (“SRO”), shall apply to short sales of any securities;

– Amend Regulation SHO to eliminate the “grandfather provision” so that fail to deliver positions existing at the time a security became a “threshold security” would no longer be exempted from Regulation SHO’s close-out requirement;

– Amend Regulation SHO to extend the grace period before a broker-dealer is required to close out fail to deliver positions resulting from sales of threshold securities pursuant to Rule 144 under the Securities Act of 1933 (the “Securities Act”) to 35 settlement days (from the otherwise applicable settlement grace period of 13 days);

– Re-propose for comment the elimination of the options market maker exception to Regulation SHO’s close-out requirement, along with two alternatives providing for the close-out of options market makers’ fail to deliver positions in threshold securities within specified time frames; and

– Propose for comment amendments to Regulation SHO to require that broker-dealers marking a sale as “long” document the present location of the securities being sold.

Although the agenda for the Open Meeting also listed consideration of a pending proposal to amend Rule 105 of Regulation M (which applies to short sales in connection with public offerings), that topic was not addressed at the meeting and, we understand, will instead be discussed at the Commission’s next open meeting scheduled for June 20, 2007.

– Broc Romanek

June 14, 2007

Sample Time & Responsibility Schedule for Proxy Season: Post E-Proxy

In time for today’s webcast – “How to Implement E-Proxy: Avoiding the Surprises and Making the Calculations” – we have posted this “Sample Time & Responsibility Schedule for Proxy Season,” courtesy of John Newell of Goodwin & Procter. John notes this is a draft and welcomes any thoughts you have (which you can send to John and/or me). This sample is comprehensive, covering time periods/due dates for NAFs, AFs and LAFs.

What’s Your Rating?

A new service from Avvo is creating a stir, a new site that rates and profiles lawyers. The site’s purpose is to allow consumers to easily obtain information about lawyers. The ratings are “unbiased,” culled from publicly available data. Here is the ratings formula (don’t look too hard as not much is revealed). As noted in this article, lawyers are not happy about their ratings or the process – and an examination of other reviews show that the primary beefs with Avvo are: numeric scoring, incorrect/missing data and poor functionality.

At first, I was miffed by my rating of 6.3 out of 10; after all, I graduated in ’88 and have learned a thing or two since then. But then I saw that some of my favorite lawyers got similar ratings – folks that I know are among the smartest securities lawyers out there. For example, Ron Mueller is only a 6.4 – and Amy Goodman a 6.0. Alan Dye and Mark Borges topped them with a 6.5. Hey, I’m proud of my 6.3! [Note the Avvo rating default falls somewhere between 6.1-6.5, until you input your credit card information to update your “profile” on the site.]

Full disclosure: Avvo’s founder, Mark Britton, is a dear friend of mine (but I have not discussed his site with him, it was in stealth mode until this week’s launch). Personally, I’ve gotten away from benchmarking against peers; I hear it’s a bad practice…

Some (Silly) Thoughts about Avvo’s Rating Service

Maybe my rating was so low because I got into a flap with the DC Bar and I’m “suspended” because I now refuse to pay dues to them? [My rating is higher now because I updated my profile yesterday.] Or maybe Avvo got wind of my intention to assume a new fabulous alter ego: “Captain XBRL.” Based on my distinguished awards (click “Recognition” tab), I feel entitled to an alter ego. Feel free to give me a whacky peer endorsement on my profile if you wish; the whackier, the better.

The funny thing about my Avvo profile is that I didn’t manipulate it to list me as a DUI lawyer in Seattle, it did that by itself. Genius! On the other hand, my parents tagged me at birth with the legal name of “Barak,” a story for another day.

Below are two of many comments posted on a WSJ Blog (these commentors appear to be imposters):

– “I only got a 6.5! I invented the poison pill!” – Comment by Marty Lipton – June 12, 2007 at 8:17 pm

– “Tell me about it Marty! I represented the VO of the United States, who shoulda been president, and all I got was a lousy 6.5!” – Comment by David Boies – June 12, 2007 at 8:19 pm

And here are some other thoughts I’ve heard:

– I think that a more fair way to rate us is by height (wasn’t that Chevy Chase’s methodology for measuring himself against other golfers?)

– Maybe ISS will develop a service to help lawyers increase their rating scores

– I guess I’ll continue to use Martindale, since they are kinder and gentler to me

– Abe Lincoln is rated! See this article.

[Note to Avvo Censors: Please don’t kill my profile; there’s no risk of me being hired because I won a “Tiny” Dancer award. My Avvo profile is the closest thing I will get to Facebook at my age.]

– Broc “6.3/10” Romanek

June 13, 2007

This Year’s Sleeper: E-Proxy

Even though it’s voluntary, many of you will soon be evaluating whether the costs savings promised by e-Proxy truly exist. In my opinion, that issue actually is a drop in the bucket compared to some of the other issues that you need to learn about when it comes to e-Proxy. For example, even if your company doesn’t use e-Proxy, dissidents can use it if they contest a director election or another matter on the annual meeting ballot.

To learn more, tune in to tomorrow’s webcast – “How to Implement E-Proxy: Avoiding the Surprises and Making the Calculations” – which has just been bumped up to 90 minutes since there is so much material to cover. With e-Proxy effective at the end of this month, this will be a very timely – and practical – webcast. Join these experts:

– Tom Ball, Senior Managing Director, Morrow & Co.
– Joe Frumkin, Partner, Sullivan & Cromwell
– Carl Hagberg, Independent Inspector of Elections and Editor of The Shareholder Service Optimizer
– Dominic Jones, Editor, IR Web Report
– Alan Singer, Partner, Morgan Lewis & Bockius
– Sid Rodrigue, Vice President, Broadridge (formerly known as ADP)

Among the topics to be discussed are:

– What does voluntary e-Proxy involve? Will voting patterns change?
– What should be considered in determining whether to forego paper next proxy season?
– How third-parties might use e-Proxy to wage proxy campaigns?
– What are the latest drafting tips to design “usable” proxy materials for the Web?
– How should your proxy solicitation and IR strategies change in the wake of e-Proxy?

E-Proxy Webcast: Important Course Materials to Print

For tomorrow’s e-Proxy webcast, please print these two sets of course materials:

Alan Singer’s Presentation

Morrow & Co.’s Sample Calculation of Potential E-Proxy Costs

Broadridge on Issuer Options and Concerns

You can print all of these off from here.

NYSE Finally Revises Its Corporate Governance Proposal

Last Friday, the NYSE filed Amendment No. 1 to its proposal to modify the corporate governance listing standards set forth in Section 303A of the Listed Company Manual with the SEC. The original proposal, filed way back in late 2005, provided clarifications to the current standards and codified certain NYSE and SEC interpretations.

The most significant change in the original proposal related to the Section 303A.02(a) independent director disclosure requirements. However, last August, the SEC adopted amendments to Item 407 of Regulation S-K that consolidated director independence and related corporate governance requirements under a single disclosure item. Since the SEC’s new rules sometimes duplicate (or require more detailed disclosures) than the NYSE’s governance standards, the amended proposal seeks to eliminate those disclosure requirements currently set forth in Section 303A that are also required by Item 407. Here are some of the highlights of the amended proposal:

1. Eliminate the controlled company exemption disclosure requirement to avoid duplication with Item 407.

2. Add a new component to Section 303A.00 regarding disclosure requirements to give a listed company the option of providing the required disclosures in its annual proxy statement or, if it does not file a proxy, in its annual report filed with the SEC; or on or through its website.

3. Eliminate the original proposal that required disclosures may not be summarized or incorporated by reference.

4. Eliminate the NYSE requirement that a company disclose in its proxy (or Form 10-K) that its audit, nominating and compensation committee charters, code of business conduct and ethics and corporate governance guidelines are available on its website and in print to any shareholder who requests them to avoid duplication with Item 407.

5. Eliminate the Section 303A.02(a) independent director disclosure requirements to avoid duplication with Item 407.

6. Increase the Section 303A.02(b)(ii) direct compensation bright line test dollar threshold from $100,000 to $120,000 to bring the standard in line with Item 404 of Regulation S-K.

7. Amend the Section 303A.02(b)(iii) external and internal auditor bright line test as it applies to a director with an immediate family member so that it applies only to an immediate family member who:
– is a current partner of such a firm;
– is a current employee of such a firm and personally works on the listed company’s audit; or
– was within the last three years a partner or employee of such a firm and personally worked on the listed company’s audit within that time.

8. Clarify that all interested parties, not only shareholders, must be able to communicate their concerns regarding the listed company to the presiding director or the non-management/independent directors as a group.

9. Eliminate the Section 303A.05(b)(i)(C) requirement relating to the preparation of the compensation committee report to avoid duplication with Item 407.

10. Eliminate the Section 303A.07(c)(i)(B) requirement relating to the preparation of the audit committee report to avoid duplication with Item 407.

11. Redesignate the Section 303A.14 website requirement, adopted in August 2006, as Section 307.00 of the Listed Company Manual and eliminate the current Sections 307.00 and 314.00 regarding related party transactions.

In the amended proposal, the NYSE is also proposed changes to Section 203.01 – the annual financial statement requirement – to provide that a listed company that is subject to the SEC’s proxy rules, or is a foreign private issuer that provides its audited financial statements (as included on Forms 10-K, 20-F and 40-F) to beneficial shareholders in a manner that is consistent with the physical or electronic delivery requirements applicable to annual reports set forth in the SEC’s proxy rules, is not required to issue the press release or post the undertaking required by Section 203.01.

– Broc Romanek

June 12, 2007

How Climate Change Impacts Director Duties & Liabilities

Today, catch the complimentary full-day online audio conference on “Tackling Global Warming: Challenges for Boards and their Advisors.” There is no need to register or pay; just click and learn.

We are providing this webconference as a “thank you” to our community – and due to the seriousness of the issues related to climate change. All of the panels will be archived if you can’t catch it today. Below is the agenda:

1. What the Studies Show: A Tutorial: Margaret Leinen, Chief Scientific Officer, Climos

2. The Business Case for Tackling Global Warming :
– John Stowell, Vice President, Environmental Health & Safety Policy, Duke Energy
– Bill Ellis, Visiting Fellow, Yale School of Forestry and Environmental Studies

3. The Board’s Perspective: Strategic Opportunities and Fiduciary Duties:
– Michael Gerrard, Partner, Arnold & Porter
– Stephen Jones, Shareholder, Greenberg Traurig

4. The Investor’s Perspective: What They Seek and Their Own Duties:
– Janice Hester Amey, Director of Corporate Governance, CalSTRS
– Doug Cogan, Deputy Director of Social Issues Services, Institutional Shareholder Services
– David Gardiner, Founder, David Gardiner & Associates
– Mindy Lubber, President, Ceres

5. Why You Need to Re-Examine Your D&O Insurance Policy:
– Wylie Donald, Partner, McCarter & English
– Peter Gillon, Shareholder, Greenberg Traurig

6. Disclosure Obligations under SEC and Other Regulatory Frameworks:
– Miranda Anderson, VP, Investor Analysis, David Gardiner & Associates, LLC
– Maureen Crough, Partner, Sidley & Austin
– Jeff Smith, Partner, Cravath Swaine & Moore

7. How (and Why) to Modify Your Contracts: Force Majeure and Much More:
– Wylie Donald, Partner, McCarter & English
– Michael Gerrard, Partner, Arnold & Porter

8. Due Diligence Considerations When Doing Deals:
– Maureen Crough, Partner, Sidley & Austin
– Jeff Smith, Partner, Cravath Swaine & Moore

In addition to the webconference, there are plenty of other complimentary resources related to boards and climate change.

ESG = Environmental, Social and Governance

If you aren’t familiar with the acronym “ESG,” you will be soon as investors have reached a broad consensus that non-financial factors have a significant impact on investment performance. Just listening to Mindy Lubber, President of Ceres, during today’s webconference – “Tackling Global Warming: Challenges for Boards and their Advisors” – brings this point home. Ceres leads the Investor Network on Climate Risk, a group of leading institutional investors with collective assets of over $4 trillion.

To learn how some of the largest pension funds deal with ESG, see this new report (which gives a comprehensive overview of the different approaches taken by funds in various parts of the world). Also, ISS recently blogged about how ESG is playing a role in the investment process.

Bellwether Analysis: Delaware Chancery Court Dismisses Backdated Options Derivative Case

From Travis Laster: On June 7th, Vice Chancellor Strine of the Delaware Court of Chancery issued his opinion in Desimone v. Barrows, thereby providing a third major Delaware decision on stock option practices. There is much to digest in this 75-page opinion (which is posted in the “Backdated Options” Practice Area). Here are some highlights:

1. On pages 38-43, VC Strine charts two scenarios involving backdating, one which he states would not give rise to any claim against directors and another which would. The core difference in the scenarios is whether the directors had reason to know that their actions were contrary to law. VC Strine’s paradigms will provide significant guidance to practitioners addressing option situations.

2. VC Strine rejects the idea that a “continuing wrong” exists when there have been a series of backdated options. Consistent with Ryan v. Gifford, VC Strine views each grant as a separate event. In Desimone, that meant that the plaintiff could not challenge grants pre-dating his stock ownership under Delaware’s continuous ownership rule.

3. As many commentators predicted, VC Strine holds that a board comprised of a majority of disinterested and independent directors can obtain a Rule 23.1 dismissal of stock option backdating claims. The Vice Chancellor distinguishes Ryan as a case in which half the board was conflicted and Tyson as a case in which there were detailed allegations of domination and control. VC Strine reaches this conclusion despite the fact that “Sycamore has essentially admitted in public filings that many [grants] were backdated.” The key issue under Rule 23.1, however, is not whether misconduct occurred, but rather “whether the … Board should be divested of its authority to address that misconduct.”

4. VC Strine notes at several points that he doubts whether any recognizable claim, other than a theoretical claim of waste based on overcompensation, could be asserted based on “bullet-dodging.” At that point, negative information has been disclosed to the markets and a grant at fair market value should not be problematic. Indeed, he observes that a contrary rule would incentivize option grants before the release of negative information, creating a counter-intuitive compensation strategy.

5. Desimone challenged various officer grants made under a plan that did not require fair-market-value grants, expressly permitted below-market-value grants, and under which virtually all employee grants were handled by a single executive officer without direct board oversight or involvement. VC Strine concludes that a challenge to these grants at most implicates a Caremark theory. He finds that Desimone failed to plead sufficient red flags to support any type of Caremark claim.

6. VC Strine holds that large grants of options to executive officers permit a pleading-stage inference of director knowledge of the terms of the grants. At the same time, however, VC Strine explicitly rejects the argument that the knowledge of any one director can be imputed to the others for purposes of demand excusal. Prior to this decision, Delaware courts had not meaningfully addressed imputation of knowledge among directors. VC Strine concludes that the complaint at most called into question the two members of the Compensation Committee and did not impugn the independence or disinterestedness of a majority of the board.

7. With respect to grants made to the outside directors, VC Strine considered the board to be interested without conducting any type of materiality analysis. He then held that the complaint did not state a claim as to these grants because the stockholder-approved plan provided for an automatic grant of 30,000 market priced options each year, as of the date of the annual meeting. Because the directors “took the good with the bad” in accordance to what the stockholders approved, no breach of fiduciary duty claim was stated.

Because of its overarching treatment of a variety of stock option scenarios, Desimone is likely to become the bellwether case for backdating analysis. The holding on director imputation of knowledge is also quite significant and potentially has far reaching implications, particularly because the questions of directors knew and when they knew it frequently create the dividing line between a care and loyalty claim.

– Broc Romanek

June 11, 2007

Jail Bait? Failure to File Schedule 13Ds and Forms 3

A couple of recent cases have highlighted situations where beneficial ownership reporting by hedge funds is called into question, in one instance with a particularly draconian result – potential imprisonment.

The U.S. Attorney for the Southern District of New York announced that the founder and manager of two hedge funds pleaded guilty to three counts of violating federal securities laws arising from the activities of his funds in acquiring substantial positions in the securities of two public companies. In addition to defrauding the funds’ investors about transactions that resulted in losses of $88 million, the manager was charged with failing to file on Schedule 13D to report an interest of 5% or more of one company’s stock (he and his funds controlled over 80 percent of the stock), and failing to file a Form 3 to report his beneficial interest of more than 10% in another company (while falsely reporting ownership of under 10% in a Schedule 13D).

The SEC also commenced a civil action in this case back in 2005 that is still pending. Actions such as this one should come as no surprise to those who have heard the SEC Staff publicly express the point that compliance with the beneficial ownership reporting requirements has been – and will remain – a high priority.

While the failure to file accurate beneficial ownership reports was obviously important for the markets in the common stock of the companies involved, the lack of accurate beneficial ownership information was also crucial for the manager to carry out his fraudulent scheme, as any reporting of his interests would have informed his investors that he was not acting in accordance with the funds’ investment policies. Alan Dye has blogged more about this case on his Blog.

And Another Schedule 13D/G Action…

Recently, the Delaware Chancery Court addressed the situation of a hedge fund that reported its “investment only” intent on Schedule 13G when it was potentially considering the nomination of a short slate of directors to the company’s board. While the case of Openwave Systems Inc v. Harbinger Capital Partners principally involved the hedge fund’s failure to timely nominate its director candidates under Openwave’s advance notice bylaw provisions, the court took particular note of the fund’s status as a Schedule 13G filer in assessing whether it was really in a position to nominate its own directors within the required timeframes of the advance notice bylaw provisions, as well as in rejecting the fund’s allegation that the board of Openwave reduced the number of directors in response to Harbinger’s potential “threat.”

On, we have posted a copy of the opinion in our “Schedule 13Ds” Practice Area.

NASPP’s “15th Annual Conference”: Program Announced!

The full program – with over 40 panels! – for the NASPP Annual Conference was just announced. This conference brochure lists all the panels. Register today.

This year’s conference will be held at the San Francisco Marriott from October 10-12 – and already is on track to have well over 2000 attendees. Make your hotel reservations now before the hotel is sold out. With the October 9th pre-conference – “Tackling Your 2008 Compensation Disclosures: The 2nd Annual Proxy Disclosure Conference” – being so popular, this will happen very soon…

– Dave Lynn

June 8, 2007

Foreign Private Issuers: Checking Out of the SEC’s “Hotel California”

Starting this past Monday, non-US issuers were able to deregister from their ’34 reporting obligations if they met the requirements of the SEC’s new rules. As noted in this article on Dominic Jones’ IR Web Report, some foreign private issuers already have taken advantage of the new rules and headed out of the SEC’s door. In our “Foreign Private Issuers” Practice Area, we have posted plenty of memos on the SEC’s new rules.

A Wild Proxy Season: A Worst Case Scenario

As many of us weathered what amounted to another wild proxy season, have you ever thought about the worst case scenario? How about dissidents storming your headquarters! This happened back in January during a proxy “fight” for Competitive Technologies. As noted in this press release from the company, an ex-CEO and three of his associates arrived at the company’s headquarters and demanded entry because they believed they won the proxy fight. A few weeks later, the ex-CEO became the new CEO after the annual meeting was reconvened (and held at the AMEX) and the dissidents won the election.

Interestingly, one of the additional solicitation material filings filed by the dissident group – when the battle was raging – included a complaint letter sent to the SEC. While it’s common for opposing parties in proxy contests to privately send complaint letters to the SEC Staff, it’s not common to publicly file a complaint letter. So cheer up, your situation couldn’t have been as bad as this one…

Management Always Wins the Close Votes?

Some academic food for thought over at the Prawfs Blawg with this entry from Yair Listokin of Yale Law School. Yair’s work in progress investigates the theory that management wins “close” votes on proxy statement proposals more often then would be expected.

[Letters about “Scooter” Libby: As you may have read in the press, the Judge from the Scooter Libby sentencing hearing allowed the letters submitted to the court to be made publicly available; in this batch of the letters, the one on page 41 is from Jonathan Burks, the head of the SEC’s Office of Legislative Affairs – and the letter on page 57 is from SEC Chairman Cox.]

– Broc Romanek

June 7, 2007

Lost Corporate Tax Deductions: Personal Use of Corporate Aircraft

Not many companies have disclosed the lost corporate tax deductions caused by an executive’s personal use of aircraft, which often can result in some pretty sizable numbers. In this 30-minute podcast, Terry Kelley, Chairman & CEO of Gold Jets, provides some insight into issues related to personal use of corporate aircraft (see this 91Plus brochure and this letter that notes there may be disclosure issues relating to lost tax deductions), including:

– Can you provide a brief overview of the tax issues facing companies when they allow executives to use the corporate aircraft for personal use?
– The new disclosure rules say that you have to present the “incremental cost” of providing a benefit to the executive. I know that you have reviewed numerous proxies – what have you seen?
– What is 91Plus and how does it help companies and their executives?

Climate Change: The Time to Learn How It Impacts Your Practice is Now!

I really encourage you to catch at least one panel from next Tuesday’s complimentary webconference on entitled: “Tackling Global Warming: Challenges for Boards and their Advisors.” There are quite a few disclosure, due diligence and other fiduciary duty issues raised by climate change – and not many corporate & securities practitioners are very familiar with them. If you can’t catch this program next Tuesday, each panel will be archived indefinitely (and still available for free).

To get a sense of the issues raised by climate change, check out a snapshot of how D&O insurance comes into play, as written up in the The D&O Diary Blog (and here is a follow-on blog). Note that next Tuesday’s Conference includes a panel on “Why You Need to Re-Examine Your D&O Insurance Policy.”

Another View: Why Have Audit Fees Risen So Much?

One of the primary reasons there is a battle over how much to reform the SEC’s and PCAOB’s internal controls rules is the rapid rise in audit fees. I was taken with last Friday’s opinion column by the President and CEO of SVB Financial Group, Kenneth Wilcox, in last Friday’s WSJ.

In his op-ed, Mr. Wilcox wondered: “My company is paying accountants five times more than it did three years ago. Why?” His response: “It turns out that only a diminishing portion of this increase is due to Sarbox.” Other factors driving the cost increase, he said, included “the significantly increased amount of time that audits are taking, and the much larger number of people that they involve.” FEI’s “Financial Reporting” Blog has commented on this op-ed recently.

On Tuesday, SEC Chair Cox testified that AS #5 will reduce internal controls compliance costs for smaller companies; PCAOB Chair Olson testified similarly. I haven’t yet been convinced that costs will drop significantly, as it seems to me that one cause of the high cost results from the dictates of Auditing Standard No. 3 regarding documentation and work papers, which has not been revised. I’m not sure why this standard wasn’t tweaked when AS #2 was replaced with AS #5 as they seem to go hand-in-hand. Then again, I’m not an accountant, so what do I know…

Learn more about what questions that you – and your audit committee – should be asking about the SEC’s and PCAOB’s new internal controls guidance in this upcoming webcast: “Internal Controls Update: AS #5, Management Reports and All that Jazz,” featuring John Huber, Linda Griggs and an expert from a Big Four firm.

– Broc Romanek

June 6, 2007

Rethinking Analyst Presentations: IBM Settles SEC Enforcement Action

Yesterday, IBM settled an enforcement action in which the SEC found that IBM had violated the Form 8-K reporting requirements and Rule 12b-20’s requirement to disclose additional material information so as to make required statements not misleading. Here is the SEC’s press release.

The case focused on a Form 8-K filed under Item 7.01 – regarding Regulation FD disclosure – that included as one of its exhibits some presentation materials used for an analyst conference call and webcast. The SEC found that IBM made materially misleading statements in a chart – included as part of those materials – concerning the impact of IBM’s decision to expense employee stock options in its quarterly and fiscal year results.

According to the SEC’s Order, while the company’s management did not specifically mention the expected quantitative impact of stock option expensing during the course of the conference call, they did encourage analysts to update their models to reflect the accounting change. At the same time, the chart included information suggesting stock option expense numbers that were higher than management’s expectations. Management rejected the idea of providing more specific guidance about the stock option expense numbers during the call, partly due to concerns about how the analysts would factor that information into their forecasts and the potential effect on the company’s projected growth rate.

This settlement highlights the importance of ensuring that the total mix of information presented in conference calls and webcasts is complete and accurate – and should no doubt cause folks to take a second look at their powerpoint slides and how they compare to the related script and Q&A responses.

CFOs Catch a Break: IRS Updates Guidance on Section 162(m) Covered Employees

Earlier this week, the IRS issued Notice 2007-49, which provides some much needed guidance on identifying “covered employees” under Section 162(m) in the wake of last summer’s amendments to the executive compensation disclosure rules. It won’t be published until June 18th. Mark Borges has blogged several times about the circumstances under which a chief financial officer may now be considered a “covered employee.”

Below is what Mike Melbinger had to say about this guidance in “Melbinger’s Compensation Blog” on

Section 162(m)(3) defines a “covered employee” as any employee of the company if, (A) as of the close of the taxable year, such employee is the chief executive officer of the company or is an individual acting in such a capacity, or (B) the total compensation of such employee for the taxable year is required to be reported to shareholders under the Securities Exchange Act of 1934 by reason of such employee being among the 4 highest compensated officers for the taxable year (other than the chief executive officer). Regulations Section 1.162-27(c)(2)(ii) provides that whether an individual is the chief executive officer or among the four highest compensated officers (other than the chief executive officer) is determined pursuant to the executive compensation disclosure rules under the Exchange Act.

When the SEC issued its new rules relating to executive compensation disclosure last year, it altered the composition of the group of executives that are covered by the disclosure rules (“named executive officers”) The definition of covered employee in 162(m)(3) mirrored the definition of named executive officers under the old disclosure rules, but it is not the same as that definition under the amended disclosure rules. The amended disclosure rules increase the number of executives who are named executive officers by virtue of their position from one to two, and reduce the number of executives who are named executive officers based on their compensation level from four to three.

To reconcile this difference, Notice 2007-49 indicates that the IRS will interpret the term “covered employee” for purposes of Section 162(m) to mean any employee of the company if, as of the close of the taxable year, such employee is the chief executive officer (within the meaning of the amended disclosure rules) of the company or an individual acting in such a capacity, or if the total compensation of such employee for that taxable year is required to be reported to shareholders under the Exchange Act by reason of such employee being among the 3 highest compensated officers for the taxable year (other than the chief executive officer or the chief financial officer). Accordingly, the term covered employee for purposes of 162(m) does not include those individuals for whom disclosure is required under the Exchange Act on account of the individual being the company’s chief financial officer (within the meaning of the amended disclosure rules) or an individual acting in such a capacity.

The Art of the Cross-Border Deal

Join us tomorrow for a webcast – “The Art of the Cross-Border Deal” – to hear Tina Chalk of the SEC, Frank Acquila of Sullivan & Cromwell, Greg Wolski of E&Y and Peter King of Shearman & Sterling analyze the latest M&A tactics in cross-border deals.

[Broc’s Ten Cents: Tune into today’s free webcast from the SEC Historical Society: “Beyond Borders: A New Approach to the Regulation of Global Securities Offerings.”]

– Dave Lynn

June 5, 2007

Options Backdating: Another Milestone

Last week, the SEC announced the settlement of options backdating actions against Mercury Interactive (now a subsidiary of Hewlett-Packard) and Brocade Communications Systems. In these enforcement actions, the SEC reached settlements with the companies themselves for the payment of civil penalties and the entry of permanent injunctions against future violations. In the settlements, Mercury agreed to pay a whopping $28 million penalty, while Brocade agreed to pay a $7 million penalty. Up until now, options backdating settlements have focused on the individuals involved, while the SEC’s Commissioners pondered what sort of penalties should be imposed on the companies where backdating occurred.

Back in January 2006, the SEC published a framework for how it would assess whether and to what extent civil penalties should be imposed on companies. This document resulted from some discomfort among the SEC Commissioners on when to penalize a company (and in turn its shareholders) for wrongdoing. The options backdating cases have proven to be difficult to evaluate from a penalties perspective, as evidenced by this Bloomberg article from January 2007 discussing the delay in consideration of Brocade’s settlement.

With the announcement of last week’s settlements, perhaps the logjam will be broken and more backdating settlements will come closer to resolution in the coming weeks. [Broc’s Ten Cents: “The D&O Diary” Blog has some interesting analysis about these new settlements – such as all 45 of Mercury’s option grants during the period 1997 to April 2002 were backdated; Kevin also has blogged about the emerging backdating case theme of blame the gatekeeper.]

Options: More Congressional Interest

This morning, the Senate’s Permanent Subcommittee on Investigations (which is a subcommittee of the Committee on Homeland Security and Governmental Affairs) will hold a hearing entitled “Executive Stock Options: Should the IRS and Stockholders be Given Different Information.”

Among the things the Subcommittee plans to look into are: the role of stock options in executive compensation, the incidence of stock option abuses, and the difference between GAAP and federal tax reporting of compensation from stock options. Panelists will include, among others, Acting IRS Commissioner Kevin Brown and Corp Fin Director John White. In his testimony to the Subcommittee, John White provides an overview of option compensation trends, a discussion of past abuses and a description of the disclosure, accounting and tax requirements applicable to options.

The Permanent Subcommittee on Investigations has wide-ranging interests that sometimes touch on SEC and IRS regulations. Last summer, the Committee’s Staff put out a report on the abusive use of off-shore tax havens, citing as one of its case studies the activities of the Wyly family in using 58 offshore trusts and corporations to transfer stock option compensation offshore.

Earlier this year, Senator Carl Levin – who serves as Chairman of the Subcommittee – introduced a still pending bill entitled the Stop Tax Haven Abuse Act that would, among other things, create a rebuttable presumption of control for any offshore entities operating in secrecy jurisdictions, and impose a penalty of up to $1 million per violation of U.S. securities law on public companies or their officers, directors, or major shareholders who knowingly fail to disclose offshore holdings that should have been reported to the SEC.

Our June Eminders is Posted!

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

– Dave Lynn

June 4, 2007

How to Recognize an Inadvertant Investment Company

Recently, there have been a few examples of why it’s important to know how to recognize an inadvertent investment company. A few weeks ago, the AFL-CIO wrote this letter to the SEC expressing concerns that if the Blackstone Group conducts its IPO, it should be required to register as an investment company.

Then Judge Easterbrook out of the Seventh Circuit Court of Appeals delivered this opinion in National Presto. The case involves some rather unusual facts (and includes some sharp judicial digs at the SEC) raising the issue of whether the company is an inadvertant investment company. National Presto had been ordered by the District Court to register as an investment company. After registering, the company reorganized its assets so that the amount of its assets was below the 40% trigger under Section 3(a)(1)(C) of the ’40 Act – and the SEC would not give its consent to deregistration. It is on this point that Judge Easterbrook takes the SEC to task, with some notable quotes.

I think the case is important beyond its ’40 Act findings because it reminds us that Staff positions (no-action letters and telephone interps and the like) are just that – courts may not necessarily follow them. Thanks to Sheldon Krause for pointing this case out and Keith Bishop for his ten cents!

Learn more in our “Inadvertent Investment Companies” Practice Area – including this new podcast with Rob Rosenblum of K&L Gates, who provides some insight into the issues involved with inadvertent investment companies, including:

– What is an “inadvertent investment company”?
– What are the findings of the National Presto case?
– How are the facts of that case different than what the AFL-CIO is alleging regarding Blackstone in its letter to the SEC?
– What should companies do if they think they might inadvertently be an investment company?

Course Materials: The Nasdaq Speaks – Latest Developments and Interpretations

Don’t forget tomorrow’s webcast – “The Nasdaq Speaks: Latest Developments and Interpretations” – to hear key Nasdaq Staffers talk about all the latest. You’ll want to print out these course materials in advance…

Confusion Reigns: Has the SEC Decided to Support Investors in “Scheme” Liability Case?

According to this Saturday Washington Post article, the SEC has decided to throw its weight behind investors in a big-money dispute that could resolve whether shareholders can sue bankers who enabled their corporate clients to engage in fraud (today’s WSJ has a similar article, but as noted below, there is uncertainty as to whether this is true – and if so, exactly which case the SEC has decided to weigh in on). Here is an excerpt from the article:

“The Securities and Exchange Commission has asked the U.S. solicitor general to file court papers supporting investors in an upcoming Supreme Court case, an action that has not been made public. The agency’s decision follows intense lobbying by industry groups, unions and plaintiff lawyers, including well-known California attorney William S. Lerach.

The move is a significant victory for Lerach, who won $7.3 billion in settlements with banks and law firms that helped Enron disguise its financial problems. If the Supreme Court adopts the agency’s position, it could breathe new life into a stalled case filed by Enron shareholders against Merrill Lynch and Barclays Bank. But the SEC backing comes at a bittersweet time for Lerach, whose own future is in question because of government scrutiny.”

As points out, the article might be read several different ways (and SEC officials have declined to comment so far). Here is an excerpt from the commentary on that site:

“A reader suggests that the Washington Post article is actually talking about Stoneridge though the article does not mention that case by name. That is a plausible interpretation that would make the Washington Post article make more sense; the reporter may have been limited by the constraints of space and forced to leave out information such as the name of the case the SEC was planning to file a brief in, even as it mentions the larger Enron case. If the Solicitor General does not veto the SEC’s politically-motivated recommendation, the Stoneridge amicus brief would be due June 11.”