Monthly Archives: July 2007

July 17, 2007

The Whole Foods’ CEO Message Board Fiasco: It’s the ’90s All Over Again!

Over the last few days, plenty has been written in the media about how the Whole Foods CEO John Mackey has been posting messages – anonymously – about his company and his competitor on this Yahoo! message board devoted to Whole Foods’ competitor Wild Oats (if you want to read some of the CEO’s posts related to Wild Oats, scroll down for the URLs in this blog). Wild Oats is now in the process of being bought by Whole Foods, but first needs anti-trust clearance from the Federal Trade Commission – and the FTC has sued to block the deal. The CEO’s postings came to light when they were mentioned in the FTC’s memo filed last week to support its motion for a preliminary injunction (and here is the FTC’s original complaint). According to this NY Times article regarding “sock puppets,” Mackey has been posting anonymously for 8 years.

Lord knows why Mackey has been doing this, particularly given that he is one of those rare CEOs that has his own blog, which he can use to express his views. For more on issues raised by employees that blog, see our “Employee-Blogger” Practice Area.

My take on the provocative story is that I didn’t realize that folks were still using message boards. That’s so ’90s! Back then, everyone was concerned about cybersmears and message boards – and how they could impact your stock price. It was such a big issue that I got halfway through writing a book on the topic, that I ended up scrapping because the issue dropped off the edge of a cliff, as everyone migrated away from message boards as “bigger and better” things to do on the Web emerged.

Apart from potential legal issues and liabilities, the biggest problem I have with this CEO’s activities is that it sets a poor example by the company’s leader. Back when I wrote on this topic, one area I would focus on is how companies should adopt policies to ensure employees didn’t post messages about their employer due to legal and other reasons. Here is a set of FAQs on Cybersmears and Message Boards that I wrote at least five years ago – note that it includes a section on “Potential Employer Obligations Arising from Employee Messages” that probably holds water even today. I didn’t think to include a statement that anonymous postings by a CEO could tank a merger…

The Whole Foods Fiasco: What are the Disclosure and Securities Laws Issues?

On his “The Race to the Bottom” Blog, Professor Jay Robert Brown does a great job of analyzing the securities law issues implicated by the Whole Foods anonymous posting incident as follows:

“The WSJ has reported that the Commission has opened an investigation into the activities of Whole Foods CEO John Mackey. It seems that Mackey over an eight year period made posts on an online stock forum run by Yahoo using a pseudonym. Mackey, according to the WSJ report, “lauded Whole Foods’ stock, cheered its financial results and bashed a company Whole Foods made a bid to acquire.” Some of the posts are here. The Journal speculated that the SEC might be looking into whether Mackey’s statements contradicted statements made by the company, were “were overly optimistic about the firm’s performance,” or violated Regulation FD.

We talk often about SOX, particularly in the context of investor confidence. Accurate disclosure is, in the end, at the core of investor confidence. But, while Mackey may have exercised very poor judgment, does that equate to a violation of the securities law?

There are two broad categories of possible violations. They include fraud (making materially incomplete or inaccurate statements) and selective disclosure (providing material information to select persons in the market). My book, The Regulation of Corporate Disclosure, examines these topics in detail.

Selective disclosure is not per se improper, a legacy of Chiarella. (We have criticized the awful reasoning of this case on my blog. Suffice it to say that it validated deliberate selective disclosure by corporate insiders in some cases). Regulation FD was a regulatory response to this case and the problem of selective disclosure. Regulation FD does not exactly prohibit selective disclosure. Instead, to the extent a company (through its agents) deliberately discloses material non-public information to certain investors/market professionals, it must simultaneously make public disclosure of the information. A company that accidentally disclosed material non-public information on a selective basis has 24 hours to disclose it to the entire market. See 17 CFR 243.100, et seq.

These provisions will be very difficult to apply to Mackey. First, with respect to Regulation FD, the SEC will have to show that Mackey disclosed material nonpublic information. Second, once disclosure occurs, it is not the disclosure of the information that violates Regulation FD but the failure to disclose the information to the entire market. This burden rests with Whole Foods. The SEC will need to show that Whole Foods knew about the disclosure and failed to meet the requirements of Regulation FD. While the CEO made the disclosure and he is an agent of Whole Foods, the SEC and courts may have a hard time attributing the information to the company given Mackey’s the possible stealth involved (indicated by the reported use of a pseudonym). Finally, Regulation FD only applies to disclosure to certain types of investors or market professionals such as analysts. It really was not intended to apply to disclosure that was arguably to the entire market. Disclosure in the Yahoo forum is arguably to the entire market (and, in any event, would arguably meet the defintion of “public dislcosure” for purposes of Regulation FD).

As for the antifraud provisions (primarily Rule 10b-5), there is no question that the prohibition on fraud applies to material disclosed on the Internet. Posting false information or making inaccurate statements in chat rooms or threaded discussions can be the basis of a fraud suit much the same was as false statements in press releases. The SEC will need to show that Mackey made materially false or incomplete statements. The problem here is materiality. Since he used a pseudonym, the market was arguably unaware that he was directly connected to Whole Foods. As a result, the market may have not treated his statements as material but instead viewed them no different than uninformed statements from ordinary investors.

This is not, however, the end of the story. Even without disclosing his identity or role in the company, the depth of the comments, the accuracy over time, and the uniqueness of the information, may well have alerted the market to the fact that he had unique information that could only come from an insider (either because he was an insider or because he was communicating with an insider). In those circumstances, those in the market may well have treated the statements as material. Analysts who follow Whole Foods in Yahoo could probably resolve this.

We shall see where this case goes. At a minimum, it suggests that top officers ought not to be communicating (perhaps at all but certainly not through pseudonyms) in chat rooms and investor forums.”

Romeo & Dye Analyze New Section 16 Interps

Recently, the SEC Staff issued long-awaited Staff interpretations on Section 16 issues. In the latest issue of Romeo & Dye Section 16 Updates – which was just mailed – Peter and Alan analyze the numerous new and modified interps, including a controversial one regarding aggregate reporting that will have a widespread impact on many Section 16 filings.

Act Now: To receive this critical guidance, take advantage of our “Half-Off for the Rest of 2007” No-Risk Trial for Romeo & Dye’s Section 16 Annual Service. Note that this Annual Service is a print service and this guidance is NOT available on

– Broc Romanek

July 16, 2007

Final Piece of E-Proxy Puzzle: Broadridge’s Fees

With voluntary E-Proxy now effective, many companies have been waiting to see what fees will be charged by Broadridge (formerly known as ADP) in order to run a cost-benefit analysis and determine whether cost savings would truly be realized by using E-Proxy (don’t forget our “Cost-Benefit Worksheet“). Broadridge’s fees have finally been announced – and I believe they work like this:

1. Existing fee rates remain in place for beneficial owner processing.

2. If an issuer decides to use voluntary E-Proxy, the following incremental/step-based fees apply for sending a notice, etc. to beneficial owners:

– First 10,000 accounts @ $0.25 per
– Next 10,001 – 100,000 accounts @ $0.20 per
– Next 100,001 – 200,000 accounts @ $0.15 per
– Next 200,001 – 500,000 accounts @ $0.10 per
– 500,001 + accounts @ $0.05 per

Regardless of the number of accounts that an issuer wants to “E-Proxy,” Broadridge will charge a minimum fee of $1500. In other words, if an issuer wants to E-Proxy to just a few accounts, the fee will be $1500 regardless of step-based fee formula above (but this floor is not a fee that is tacked onto the step-based fee).

As an example of how this works, an issuer using E-Proxy for 100,000 beneficial owner accounts would incur fees as follows:

– First 10,000 accounts @ $0.25 = $2,500

– Next 90,000 accounts @ $0.20 = $18,000

Total Cost = $20,500

3. Rather than have separate fees for various services, Broadridge will provide the following services as part of the step-based fees above (ie. they are “inclusive”): print and fulfillment (ie. mail) services for the notice; fulfillment and fulfillment support for hard copy requests; 800# set up; Internet and 800# voting, support two work flows (sending notices and hard copy proxy materials), and will also provide a standard landing web page (ie. where shareowner inputs control number) and standard shareowner portal (ie. where shareowner arrives once the control number is recognized; this is where proxy materials, voting platform and place to request hard copy is located).

Issuers can upgrade and have a customized landing page and shareowner portal, where the fee will vary depending on what features an issuer wants. Annual storage fees for hard copies are approximately $1,000 per document (so storage is cheaper if you have a combined proxy and annual report vs. two separate documents) for the first 5,000 copies and $800 for every 5,000 after that.

4. Note that same rates in #2 above apply if Broadridge is hired to send notice, etc. to registered owners. However, when calculating costs, the registered accounts are not combined with beneficial accounts. In other words, when making your registered owners calculation, you start at the top of the step-based fee ladder.

5. Broadridge’s suppression fees remain in place for large issuers (>200,000 positions) at $0.25 per suppression, and changes slightly for small issuers (<200,000 positions) to $0.40 per suppression for householding, etc. The e-delivery suppression fee, however, remains at $0.50 for small issuers. The NYSE’s and SEC’s (Lack of) Role in Broadridge’s E-Proxy Fee-Setting

Note that the NYSE and SEC aren’t directly involved in Broadridge’s fee-setting process regarding E-Proxy. In contrast, the SEC requires issuers, brokers and banks to ensure that proxy materials are distributed to beneficial owners – and NYSE Rule 465 governs the fees paid by listed companies to brokers and banks for their distribution of proxy materials and other communications to the shareholders. Nearly every broker and bank have contracted with Broadridge to perform the functions related to these beneficial ownership obligations, including distribution of proxy materials, proxy tabulation and responses to requests for shareholder lists; resulting in a near-monopoly.

Under Rule 465, the NYSE and SEC are required to bless how much Broadridge charges brokers and banks to forward proxy materials to shareholders (issuers reimburse these brokers and banks – in practice, issuers directly get billed by Broadridge). This rate-setting exercise occurs every few years, with the last rate-setting transpiring in 2002. As part of this fee-setting process, the public is allowed to comment.

Under E-Proxy, Rule 465 comes into play only to the extent an issuer continues to rely on affirmative consents to e-delivery – or chooses to send paper to some beneficial owners. So, the SEC and NYSE largely remain uninvolved in setting Broadridge’s E-Proxy fees – something that has a number of issuers concerned, judging by the e-mails I recently have been receiving from some in-house members.

E-Proxy: The Issue of “Usability”

When E-Proxy was proposed, one fear expressed by commentators was that companies aren’t sufficiently prepared to provide proxy materials and a voting platform that enables shareholders to easily access the materials and vote. By looking at the first handful of companies that have revealed that they are trying E-Proxy, this fear may not have been far off the mark.

Here is one thought from an anonymous member: “What gets me about these initial E-Proxy companies is that everyone is following the prevailing vendors’ (some say manipulative) leads – in requiring people to enter their voting codes in order to view the proxy materials. The voting code should only be required to execute a proxy – not to view or print.

To my eyes, the SEC rule plainly states that the url/link provided to shareholders needs to link directly to the materials, no navigation required. I’d venture that the fact that a code is required to view could be interpreted by some as not being “public” in the general understanding of the word, as well. This technique is likely to make the first shareholder experiences less palatable and chase people back to paper. All those people who try to go to a site without the code in hand will bail and opt for paper. We have nanosecond tolerances these days on the web.”

If you read the transcript from our recent E-Proxy webcast (or listen to the audio archive), Dominic Jones did a great job talking about usability. Here are three recent blogs from Dominic that delve more into the usability of the first E-Proxy volunteers:

AMERCO’s shareholder forum, e-proxy

Is client breaching SEC privacy rules?

My bad experience with first e-proxy notice

“E-Proxy: Chilly”

Speaking of E-Proxy, check out the latest adventures of “Billy Broc” Oxley and Dave “The Animal” Sarbanes in this segment called: “E-Proxy: Chilly.”

– Broc Romanek

July 13, 2007

Executive Compensation Disclosures: 51 Tips

Let the games begin! Our new game is called “Executive Compensation Disclosures: 51 Tips.” Our goal is to generate a bunch of practical tips that can increase the effectiveness of the processes for – and content of – your company’s executive compensation disclosures.

What’s In It For You? Four things:

1. You participate in a fun game.
2. You learn practical tips to improve your compensation disclosure skills.
3. You share some practical tips with an eager audience.
4. You achieve fame (if you want). You get points and – if you are one of the five top scorers – get your name placed in the Hall of Fame. If you wish to remain anonymous, that is fine too. No one will be acknowledged publicly unless they consent.

How to Play: Send us some practice tips on how to best navigate or improve the compensation disclosure drafting process or draft better disclosures, including things that you have seen a lot of companies do wrong this proxy season. Keep your tips brief (three or four sentences and not more than 50 words). Send us at least one tip and not more than five tips before the deadline.

How to Win: Any tip earns you 10 points. The best tips receive a bonus score of 50 points, the second-best ones earn 30 points, and the third-best ones earn 15 points. If you are among the top five scorers, your name is added to our Hall of Fame (if you consent to being named). All participants will be sent an email with their point total.

How to “Cheat”: Reflect on your own experience and derive important tips. We also encourage you to borrow ideas from your friends and coworkers. This really isn’t cheating – but my kids are always looking for the “game cheats,” so I felt compelled to act like there might be “cheats” involved.

How to Send Your Tips: Just email them to Remember the limit of five tips. The deadline is close of business on Wednesday, August 1, 2007.

The Latest Compensation Disclosures: A Proxy Season Post-Mortem

We have posted the transcript from our recent webcast: “The Latest Compensation Disclosures: A Proxy Season Post-Mortem.”

It’s a Wrap! California’s Stock Option Proposal

A few weeks ago I blogged about the status of the proposed changes to the California Department of Corporations’ proposed stock option regulations. These regulations are now final – and we have posted related memos in our “Rule 701″ Practice Area. Below is an excerpt from a Fenwick & West memo (which contains a nice chart):

“Effective July 9, 2007, California liberalized its regulations concerning the permissible provisions of stock option plans. Practically every stock option plan of a privately-held company that has employees in California that participate in the plan can take advantage of this liberalization.

For decades, California was unique among the 50 states in the stringency of its regulation of the scope of permissible provisions that a stock option plan or restricted stock plan could contain. For example, only California required that stock options granted to non-officer employees in California must “vest” (meaning that the shares could not be repurchased on termination of employment by refunding the purchase price) at an annual rate of at least 20% of the shares subject to the stock option.

Non-compliance with even one of the regulatory requirements meant that rather than the company being able to file a simple notice, and pay a small fee to, California, the company would have to submit a pages-long application to the California Dept. of Corporations, which could easily cost $10,000 or more to prepare. The liberalization of the regulations means this is far less likely to occur.”

Congress Tightens “National Security” Reviews of Foreign Investment in the US

On Wednesday, Congress passed the “Foreign Investment and National Security Act of 2007” to formalize and tighten the process for reviews of foreign acquisitions of businesses in the US that raise potential national security concerns. The new Act amends the “Exon-Florio Amendment to the Defense Production Act” and codifies – as well as extends – recent trends toward more stringent review of foreign acquisitions by the Committee on Foreign Investment (CFIUS), which is an interagency committee chaired by the Treasury Secretary and composed of various representatives of the executive branch. There are also enhanced Congressional reporting requirements.

The new Act cleans up many of the provisions of earlier proposals considered problematic by the business community. We have posted memos regarding this development in our “National Security” Practice Area.

Friday the 13th: Be Scared

Did you know that thieves can steal your checks, etc. by having the ink “wash” off the payee and amount (with acetone), leaving your signature, write in any amount, and cash it? Check out this video to understand more (it may take a while to load as its 6 minutes long). Apparently, the Uniball 207 is the only pen whose ink chemically bonds to the paper so it won’t wash off…

– Broc Romanek

July 12, 2007

Proxy Access: The Numbers Game Begins

An article in yesterday’s WSJ previewed the SEC’s plans for providing shareholder access to the proxy statement. The near-term timing of this proposal should come as no surprise, given that Chairman Cox committed to an aggressive timetable during his appearance before the House Committee on Financial Services last month. Unfortunately, the SEC is already generating controversy around the proposal because it is apparently considering a 5% ownership threshold for those seeking to propose a shareholder access bylaw amendment.

According to the WSJ article (written by Judith Burns):

“Critics of the SEC’s proposal say a 5% ownership stake is so high that it would make the plan usable only by hedge funds. Mr. [Richard] Ferlauto [director of pension investment policy at AFSCME] called that ‘totally irresponsible,’ and predicted that if the SEC sticks with such an approach, it would ‘create a field day for hedge funds.’ Some think the 5% level is meant to be a starting point for discussion and could be lowered to 3%, a level that would still be seen as too high by some pension fund groups and might be viewed as too low by business groups. … Mr. Cox is aiming to have the five-member commission consider floating a proxy-access proposal at a public meeting on July 25, according to individuals familiar with the matter. Final adoption of any changes would require a second vote by the SEC. Even many large institutional investors would have to band together in order to meet a 5% threshold. The SEC proposal calls for such groups to comply with the current disclosure requirements for individual owners holding 5% or more of a company’s shares. Such an approach would require groups seeking to propose proxy-access plans to file reports on their finances, an annual process for passive investors. Requiring shareholders who individually hold less than 5% of a company’s shares to file such reports may be a deterrent to some activists, including hedge funds, say those familiar with the proposal.”

Of course, the SEC’s last attempt at proxy access never made it past the comment stage, as the Commissioners divided over the best approach. Whether the current proxy access efforts devolve into a numbers game remains to be seen, but there is no doubt that – as with 2003 proposals – the SEC is going to have a hard time satisfying the various sides in this debate.

[By the way, whatever happened to the good old “Sunshine Act Notice” for announcing the date of SEC open meetings?]

XBRL for Mutual Fund Risk/Return Summaries

The SEC published an adopting release for rules extending its interactive data voluntary reporting program to the risk/return summary section of mutual fund prospectuses. Under these rules, mutual funds will now be able to voluntarily tag the information included in the risk/return summary. The release notes the SEC’s accomplishments so far in realizing the potential of XBRL, including notable progress toward developing standard taxonomies.

The risk/return summary section of a mutual fund prospectus is largely presented in a narrative format, so the voluntary participants will be breaking some new ground when tagging that type of data. The SEC is relying on a taxonomy developed for this purpose by the Investment Company Institute. The final rules include generous protections from liability for the tagged exhibits, including express protection from liability under Section 11 of the Securities Act.

Now all the SEC needs to do is to sign up some volunteers for the program, and mutual fund investors can start to see XBRL’s potential for disclosures beyond just financial schedules. That potential could be realized for operating companies as well, if interactive data concepts are ultimately deployed to narrative portions of prospectuses, proxy statements and 10-Ks.

SEC Speaks on Recent Private Equity Fund IPOs

Andrew Donohue, Director of the SEC’s Division of Investment Management, provided testimony yesterday to both the House Domestic Policy Subcommittee of the Oversight and Government Reform Committee and the Senate Committee on Finance. Those Committees are considering issues around the recent IPOs of private equity titans Fortress Investment Group and Blackstone Group. In his testimony, Donohue provided very specific information about the SEC Staff’s consideration of whether Fortress and Blackstone are investment companies.

The testimony notes that Corp Fin Staff referred the Fortress and Blackstone registration statements to Investment Management, following the normal procedures when Corp Fin is reviewing a filing. My experience has been that the Corp Fin Staff is always on the lookout for investment company issues, particularly in IPO reviews.

Donohue provides a great primer on what the Staff looks at when determining whether an entity is actually an “orthodox” investment company or an “inadvertent” investment company. In the case of Fortress and Blackstone, Donohue indicated that they do not meet the orthodox investment company test because they “are engaged primarily (and hold themselves out as being engaged primarily) in the business of providing asset management and financial advisory services to others and not primarily in the business of investing in securities with their own assets.” With respect to inadvertent investment company status, the Staff’s analysis apparently turned on the predominance of Fortress’s and Blackstone’s investments in general partnership interests that would not be deemed investment securities for the purposes of the ’40 Act.

For more resources about inadvertent investment companies, be sure to check out our “Inadvertent Investment Companies” Practice Area.

– Dave Lynn

July 11, 2007

Plaintiffs Take a Break: Securities Class Action Litigation Remains Low

The latest study from Stanford’s Securities Class Action Clearinghouse and Cornerstone Research finds that securities class action filings remain at historically low levels in the first six months of 2007, with only 59 filings made in courts nationwide. We have posted a copy of this study, along with other securities litigation studies, in our “Securities Litigation” Practice Area.

While the study notes that filing activity was up slightly compared to 53 filings in the same period last year, the overall trend for the past two years has been surprisingly low filing rates when compared to historical averages. The types of allegations made in the filings for the first half of 2007 remained relatively steady, with 92% of cases alleging misrepresentations in financial documents (unchanged from 2006), and a slight drop-off in the number of cases alleging false forward looking statements at 64% of all cases (down from 72% in 2006). Among the new developments noted in the study is that there have been at least 3 filings so far this year with allegations relating to the meltdown in the subprime mortgage market.

The obvious question is: are we living in a brave new world where directors and executive officers of public companies have less to fear from securities class action lawsuits? The Securities Class Action Clearinghouse/Cornerstone Research study examines two possible hypotheses for explaining the recent trends, citing the stepped-up SEC and Justice Department as deterring fraud and the overall strength and low volatility of the stock market as providing little reason to sue. Professor Joseph Grundfest of Stanford states his opinion that “increased enforcement activity and a heightened awareness among corporate insiders may have led to a permanent shift in the incidence of securities fraud litigation.” On the other hand, John Gould of Cornerstone Research notes in the study that he “would not be surprised to see filings move back to the 200 per year level if the stock market were to weaken.” I suspect that the market hypothesis may be the stronger of the two for explaining the most recent trends – any observer of the federal securities laws could attest to the fact that the regulatory zeal of the government and the litigiousness of investors each swing with the overall strength or weakness of the markets and the broader economy.

Further, class actions only tell part of the story. As noted in this recent PricewaterhouseCoopers 2006 Securities Litigation Study, the recent options backdating scandal demonstrates that even when federal securities class actions may not be attractive because there is little in the way of potential damages to recover, shareholders still opt to express their disapproval in court by filing state derivative actions. Further, while the number of securities class action cases remains relatively low, the PwC study notes that settlement costs remained high at a whopping $6.17 billion in 2006, which was down 20% from $7.67 billion in 2005.

Is There a Milberg Weiss Effect?

In the Securities Class Action Clearinghouse/Cornerstone Research study, Professor Grundfest rejects the notion that the recent downtick in securities class action filings is attributable to a chilling effect from the indictment of legendary plaintiffs’ firm Milberg Weiss & Bershad. I guess that remains to be seen, as the controversy around the practices of Milberg Weiss and its principals continues to play out. Earlier this week, the US Attorney for the Central District of California announced that name partner David Bershad agreed to plead guilty to a federal conspiracy charge. Under the plea deal, Bershad will forfeit $7.75 million, pay a fine of $250,000 and cooperate with the government’s efforts to prosecute the other participants in the alleged conspiracy. Along with Bershad, one of the former Milberg Weiss named plaintiffs Steven Cooperman also agreed to plead guilty to a conspiracy charge.

The allegations concerning kickbacks to named plaintiffs came into sharper focus with the Bershad plea, as the details of scheme start to sound more like an episode of the Sopranos than a day in a life of your typical plaintiff’s attorney. As Kevin LaCroix notes in his D&O Diary Blog: “Another interesting feature of the Statement of Facts is its description of the personal cash pool that Bershad and other Milberg partners supposedly formed to be ‘used by the Conspiring Partners to supply cash for secret payments to paid plaintiffs and others.’ The contributions to the pool, which was maintained in Bershad’s office, were proportionate to the contributing partners’ respective partnership interests. The contributing partners then ‘caused Milberg Weiss to award “bonuses” to them’ to reimburse them for the cash contributions to the pool. Among the partners alleged to have contributed to and made cash payments out of the fund are the pseudononymous ‘Partner A’ and ‘Partner B’ whom some commentators (refer here and here) believe to refer to Melvyn Weiss and Bill Lerach, respectively. Neither Weiss nor Lerach has been charged with any crime, nor even mentioned by name in any of the government documents in the criminal matter.”

There is no doubt that this case has the attention of other class action firms, although there seems to be nothing yet to suggest that the practices at Milberg Weiss were more widespread.

Latest Developments about the European Union Whistleblower Laws

In this podcast, Mark Schreiber of Edwards Angell Palmer & Dodge discusses the latest developments as several more countries have issued whistleblower guidelines in recent months, including:

– What are the latest whistleblower developments in the European Union?
– What are the new German guidelines?
– What should companies with operations in the EU be doing in response?

– Dave Lynn

July 10, 2007

More SEC Relief: Simplified Reporting for Smaller Companies

The summer reading just keeps on coming from the SEC, with last week bringing two more releases geared toward reducing regulatory burdens for smaller companies. Under proposed changes to rules and forms outlined in last Friday’s proposing release, a significantly expanded category of “smaller reporting companies” could benefit from reduced disclosure and reporting requirements that would be integrated into the big company rules and forms. Regulation S-B as we know it today, along with the associated S-B forms, would be eliminated under these proposals.

The SEC’s proposed changes to the reporting requirements for smaller public companies come out of specific recommendations from the Advisory Committee on Smaller Public Companies. The Advisory Committee had raised concerns that, among other things, the current definition of “small business issuer” picks up only the smallest companies, and that Regulation S-B and the S-B forms carry with them a stigma making life difficult for small business issuers using the system. The SEC did not fully embrace the Advisory Committee’s recommendation to establish a tiered disclosure regime for microcap and smallcap companies, opting instead to extend scaled-back disclosure and reporting requirements to essentially those companies that fall under the definition of “non-accelerated filer.” A new proposed term “smaller reporting company” will be defined to include companies with a public float of less than $75 million, or revenues below $50 million if the issuer cannot calculate its public float. As with some other recent SEC proposals, the dollar thresholds in the definition will be automatically adjusted for inflation on a 5-year timetable.

Under the proposals, Regulation S-B would be folded into Regulation S-K by expanding the relevant S-K items to include a scaled down version for smaller reporting companies, with some slight tweaking of the current S-B requirements along the way. The reduced financial statement requirements under Item 310 of Regulation S-B would remain intact and would be extended to the broader group of smaller reporting companies. If adopted, these proposed changes could result in a very long, and perhaps a little more complicated, version of Regulation S-K. An interesting component of the proposed changes is that smaller reporting companies could choose, on an “a la carte” basis, whether to comply with regular or modified S-K requirements. As a result, a company could choose in a particular filing to comply with the full-blown Item 101 of S-K requirement for its description of business, while in the same filing providing executive compensation disclosure under the stripped-down smaller reporting company requirement. Transitioning into and out of smaller reporting company status would be easier to determine than under current small business requirements, by essentially following the current model for accelerated filer status. The proposed rule and form changes will be out for a 60-day comment period.

Proposed Registration Relief for Employee Stock Options

The SEC also published its proposing release for two new Exchange Act registration exemptions for compensatory employee stock options. As with the S-B proposals, this idea also comes out of the Advisory Committee report. I think that these proposals should be welcome news for companies that are not yet public (and don’t want to be public just yet, or ever for that matter) and that use stock options as a means of compensating employees. It can be quite a shock to find out that you are all of the sudden a public company just because you granted options to 500 or more employees. I know from experience that it can be even more of a shock to try to get a no-action letter from the Staff in order to avoid the registration requirements.

Under the proposed exemptions, the SEC would eliminate the need for companies faced with this uncomfortable situation to either avoid crossing the 500 holder threshold or seek individual no-action relief. An exemption for companies that are not already reporting would be conditioned on the compensatory nature of options that are granted to eligible Rule 701 option plan participants, restrictions on transferability, and the delivery of risk and financial information required by Rule 701 when the $5 million threshold is exceeded. For reporting companies, a proposed exemption would be available so that the compensatory employee stock options would not give rise to an independent obligation to register those securities under the Exchange Act. The SEC notes in the proposing release that public reporting companies may be “unclear” regarding the need to comply with Exchange Act Section 12(g) for compensatory employee stock options, so the exemption would provide some welcome relief for a problem that many quite possibly did not know that they have.

The SEC is soliciting comments for 60 days on these proposals, so hopefully they could be in place before the next round of mandatory Exchange Act registrations surface for companies with a fiscal year ending on December 31.

Reverse Mergers: Latest Developments

Join us tomorrow for a webcast – “Reverse Mergers: Latest Developments” – to hear David Feldman of Feldman, Weinstein & Smith, Tim Keating of Keating Investments and Nanette Heide and Michael Dunn of Seyfarth Shaw discuss the latest issues in the area of reverse mergers.

– Dave Lynn

July 9, 2007

First Companies Try Voluntary E-Proxy

With the effective date of voluntary E-Proxy just a week old, a few companies have already filed proxy materials indicating that they will be the first to “give it a go.” In our “E-Proxy” Practice Area, we have begun a list of those companies, complete with a link to their proxy materials.

Interestingly, one company’s proxy statement even has a statement from the company’s President in the “Letter to Stockholders” touting the use of E-Proxy:

“I am also pleased that we are one of the first companies to take advantage of the new Securities and Exchange Commission rules allowing issuers to furnish proxy materials over the Internet. Please read the proxy statement for more information on this alternative, which we believe will allow us to provide our stockholders with the information they need while lowering the costs of delivery and reducing the environmental impact of our annual meeting.”

This particular company also includes a FAQ about E-Proxy on its IR web page. I would expect many companies that utilize voluntary E-Proxy to include a note on their IR web page to explain what they are doing this year – and I understand that some companies have already posted explanations (even though I haven’t seen any others; if you do, let me know). Remember that the more complete – and clearer – an explanation about what the company is doing on your website, the fewer the number of calls to your IR department…

Note that the SEC’s new rules require the Notice & Access to inform shareholders that they have an option to request a paper copy, but there is no requirement for companies to make that statement on their IR web page.

How to Implement E-Proxy: Avoiding the Surprises and Making the Calculations

We have posted the transcript from our recent two-hour webcast: “How to Implement E-Proxy: Avoiding the Surprises and Making the Calculations.” It was a great webcast and the panelists fleshed out a lot of issues that I believe many companies have not yet considered. And the course materials are superb. Hats off to our fine panelists on this one!

More on the E-Proxy California Conflict

Here is a query from our “Q&A Forum”: “Following up on #2881 and Broc’s blog on Monday about California conflict with e-proxy, I note that Section 18(a)(2)(B) of the Securities Act (added by the NSMIA) provides that no law, regulation etc. of any state shall “directly or indirectly prohibit, limit, or impose any conditions upon the use of . . . any proxy statement, report to shareholders, or other disclosure document relating to a covered security or the issuer thereof that is required to be and is filed with the Commission or any national securities organization registered under section 15A of the Securities Exchange Act of 1934, except that this paragraph does not apply to laws, rules, regulations, or orders or other administrative actions of the State of incorporation of the issuer.” Doesn’t this solve the dilemma?”

And here is an answer from Keith Bishop: “I don’t think that this preemption would apply to the the California provision. Section 1501 does not refer to either a proxy statement or the annual report to shareholders required by the federal proxy rules. Section 1501 applies to both SEC reporting companies and non-reporting companies. It requires that a corporation send a report containing basic financial statements. While this requirement can be fulfilled by sending a Rule 14a-3 annual report to shareholders, the requirement itself in no way prohibits or imposes any conditions on the use of the 14a-3 annual report.

If, for example, the SEC were to amend Rule 14a-3 to eliminate the requirement that the annual report include financial statements, Section 1501 would not prohibit a corporation from sending that annual report. In other words, compliance with the SEC’s annual report requirement is independent of the requirement of Section 1501.

I think that the only possible argument is that by imposing an independent requirement, Section 1501 indirectly “limits” the use of a report to shareholders. However, I think that interpretation is a stretch. Also, Rule 14a-3 annual reports are technically not required to be filed with the SEC and I’m not certain that the NYSE and Nasdaq requirements are encompassed by the reference to any national securities organization registered under Section 15A of the SEA.”

– Broc Romanek

July 6, 2007

The SEC’s “Anti-Terrorism” Tool: Needs Some Work

Back in early 2004, as part of an omnibus appropriations bill, Congress has been requiring companies to disclose business activities in countries designated by the State Department as sponsoring international terrorism. Since then, Corp Fin’s Office of Global Security Risk has been gradually growing in size and issuing comments eliciting such disclosure (see this memo as well as #2911 in our Q&A Forum to better understand the specific rules that allow the Staff to seek such disclosure). And remember that SEC Chair Chris Cox served as the Chairman of the House’s Committee on Homeland Security before he came to the SEC (and often is rumored to be the next head of the Department of Homeland Security).

I was on the road last week when the SEC launched its new “anti-terrorism” tool, but just by reading the SEC’s press release, I guessed that it would be an imperfect “blacklist” and could mislead investors about which companies are truly doing business in countries associated with terrorists.

This opinion column from yesterday’s WSJ does a great job of explaining how my hunch appears to be right.

Here is an excerpt from that column, penned by Todd Malan, president of the Organisation for International Investment (which represents the interests of the roughly 1,200 foreign companies with US stock market listings):

“Under U.S. law, corporations listing on American capital markets must disclose ties to state sponsors of terror. Many (but not all) companies have been doing so for years, but without the wherewithal to comb through thousands of filings, investors are unlikely to be fully informed. In that light, the SEC’s Web tool appears a welcome response to those investors and policy makers who are hungry for such data.

Unfortunately, the SEC simply compiles a list of companies with the words “Sudan,” “Iran,” “North Korea,” “Syria” or “Cuba” in their annual reports without regard to context.

The SEC’s tool could easily mislead investors. For example, Baker Hughes, a company on the SEC’s Sudan page, states in its 2006 annual report that its subsidiaries will ‘prohibit any business activity that directly or indirectly involves or facilitates transactions in Iran, Sudan or with their governments, including government-controlled companies operating outside of these countries.’ In other words, Baker Hughes withdrew from Sudan nearly two years ago.

Another company on the SEC’s Sudan page, Immtech Pharmaceuticals, appears because it conducted clinical studies for the treatment of first-stage African sleeping sickness in Sudan. We hope this isn’t the sort of corporate behavior the SEC would define as “subsidizing a terrorist haven or genocidal state.’

Not only has the SEC named and shamed the wrong companies, it’s missed many with significant operations in countries like Sudan. Not one of the companies generally identified as enabling the Sudanese government’s genocidal capacity appears on the SEC list even though some (such as PetroChina) list on U.S. capital markets.”

Last Chance: Early Bird Discount Extended Until July 20th

In the wake of the mad rush for last week’s Early Bird deadline, we have decided to extend the deadline – just this once – until July 20th. So this is your last chance to take advantage of a nice discount on the Member Appreciation Package to catch these three October Conferences by video webcast:

– “Tackling Your 2008 Compensation Disclosures: The 2nd Annual Proxy Disclosure Conference” (10/9)
– “Hot Topics and Practical Guidance Conference: The Corporate Counsel Speaks” (10/10)
– “4th Annual Executive Compensation Conference” (10/11)

[Media Oddity: Detroit rocker Ted Nugent pens an opinion column for WSJ. Egads.]

Disclosing Spousal “Leisure Activities”

Mark Borges continues to do excellent work in his blog. Here is an item he blogged about on Tuesday: Joann Lublin had an interesting article in Saturday’s Wall Street Journal on executive spouses who get to enjoy corporate perquisites (see “For CEO Spouses, Corporate Jets are the Perfect Perk” (subscription required)). Using the disclosures in this year’s proxy statements, she writes about how the families of top corporate officials often get to indulge in many of the perquisites and other personal benefits provided to the executives.

One particular item – leisure activities – caught my eye since Alan Dye and I had spoken about this in our session about perquisites at last year’s Proxy Disclosure Conference. This is one of those tricky areas, where the disclosure decision often turns on the tiniest of details.

As I recall, we highlighted several of the challenges in determining whether the ancillary activities (such as spa treatments or sightseeing trips) provided to spouses who attend a business-related function are disclosable perquisites. Take, for example, a typical situation where a company’s senior executives attend a Board of Directors’ retreat at which golf and other recreational events are paid for by the company. Frequently, the executives’ spouses also attend the retreat, with the company incurring expenses for their airfare, meals with the directors, and “leisure activities.”

To me, these events raise two questions: are the executives’ recreational activities considered a perquisite and, even if not, what about the activities for the spouses?

While any perquisites analysis is going to be situation-specific, I typically start with the assumption that the executives’ leisure activities are related to the business purpose for the event. In the case of spousal activities, I start from the opposite end of the spectrum, and assume that they should be considered perquisites. Of course, in both cases, I have to apply the SEC’s “directly and integrally related” test to the specific facts. If, ultimately, I conclude that the activities constitute a personal benefit to the named executive officer then they will need to be included as part of his or her total compensation if aggregate perquisites exceed the $10,000 disclosure threshold, and quantified if their incremental cost to the company is $25,000 or more (which is highly unlikely). For an example of a company that included spousal “leisure activities” as part of its executives’ perquisites disclosure, see the Rockwell Automation proxy statement (see footnote 1).

The other question that comes up here is whether describing a spa experience as a “leisure activity” is sufficient for disclosure purposes. I think it is. The Adopting Release only requires that a company’s perquisite description give investors a sense of the particular nature benefit received – it doesn’t seem necessary to me to disclose whether the spouse spent an hour in the amethyst steam room or received a hot stone massage.

– Broc Romanek

July 5, 2007

A Chat with One of the Activist Nuns

For those of you that deal with shareholder proposals, you undoubtedly have heard about the “nuns” that are shareholder activists. A recent Washington Post article prompted me to call upon one of the more active nuns to discuss what led her into this field.

In this podcast, Sister Valerie Heinonen draws upon her experiences from three decades of shareholder activism to give us a perspective on the shareholder proposal process from the proponent’s viewpoint, including:

– How did you get started in the shareholder proposal arena?
– What do you find most challenging about the shareholder proposal process? What do you find the most frustrating?
– If you could change the shareholder proposal process, what would you change?
– In terms of communicating with proponents, what do you recommend to companies that they do?

[Personal Note: My family and I walked in the DC “4th of July” parade yesterday carrying a large 5-point fabric star. Quite a trip marching past thousands and thousands. Next year, we graduate to manning the ropes on a big balloon.]

A Director “Retirement”: Two Tales

Below is a stark example of the differences between why a director really resigns from a board and what a company is willing to disclose about it:

1. Here is a Tuesday press release from the CtW Investment Group:

“Last night, CVS/Caremark shareholders succeeded in removing embattled director Roger Headrick from the company’s board of directors and, in so doing, holding him accountable for his past failures to protect Caremark shareholders. As lead independent director and audit committee chair at Caremark, Mr. Headrick bears principal responsibility for approving a sweetheart deal with CVS that nearly cost shareholders $3.3 billion and for the ongoing DOJ and SEC investigations into possible stock option backdating.

Mr. Headrick’s resignation required extraordinary efforts after the CVS/Caremark board initially failed to respect the shareholder vote in its May 9 director election. In addition to communications from major institutional shareholders—including the California Public Employees’ Retirement System, New York City Comptroller William C. Thompson, Jr. and North Carolina State Treasurer Richard H. Moore—members of the House Committee on Financial Services questioned SEC Chairman Christopher Cox regarding the impact of the broker vote on Mr. Headrick’s tainted election during last Tuesday’s hearing on investor protection and market oversight.

The adoption of majority vote standards in director elections by hundreds of companies, including CVS/Caremark, should finally make director elections meaningful. The extraordinary measures required to remove Mr. Headrick, however, underscore the need for swift SEC approval of the NYSE proposal to eliminate the broker vote in all director elections to ensure their integrity going forward.”

2. Here is CVS/Caremark’s version of the director departure, as disclosed in the company’s Form 8-K:

“CVS Caremark Corporation has announced that Roger L. Headrick has decided to retire from its Board of Directors, effective immediately. The Company also announced that its Board of Directors has designated William H. Joyce to succeed Mr. Headrick as Chairman of its Audit Committee.

‘We are enormously grateful to Roger Headrick for the many years of distinguished service he has provided to Caremark,’ said Mac Crawford, Chairman of the Board of Directors of CVS Caremark Corporation. ‘During his tenure on the Caremark board, Roger helped guide Caremark through a series of large and successful transactions that rewarded Caremark shareholders and transformed our company into the nation’s leading pharmacy services provider. He will be greatly missed by me and his fellow directors of CVS Caremark.’

‘We thank Roger Headrick for his service to CVS Caremark and will miss his wise counsel and stewardship,” added Tom Ryan, President and Chief Executive Officer of CVS Caremark. “We wish him well in his retirement. We are also grateful to Bill Joyce for agreeing to succeed Roger as Chairman of our Audit Committee.’”

Survey Results: Blogging Anniversary

With five years of blogging under my belt (and now, a new partner-in-crime), I asked a few questions last month about how you might want to see the direction of this blog change. Here are the results:

1. I have been reading Broc’s blog since:

– Way back when Broc was blogging on (ie. 2002) – 41.5%
– For two-three years – 38.5%
– Just the past year – 20.0%

2. If I had my druthers, Broc would:

– Never mention his personal life again – 6.6%
– Mention his personal life occasionally, just as he does now – 83.8%
– Blog more about his personal life (because it makes my life appear so much better in comparison) – 9.6%

3. On, I wish Broc would do more of these types of podcasts:

– More podcasts about offering techniques – 34.7%
– More podcasts about governance practices – 64.5%
– More podcasts about disclosure analysis – 69.4%
– More podcasts about latest legal developments – 62.9%
– More podcasts of a human interest nature – 8.1%

Thanks for the feedback; Dave and I will heed your wishes about podcast topics – and letting our personal lives only occasionally pop up in our daily musings…

– Broc Romanek

July 3, 2007

SEC Posts IFRS Proposing Release

Yesterday, the SEC posted its proposing release for accepting financial statements without a US GAAP reconciliation when they are prepared in accordance with International Financial Reporting Standards (IFRS), as published by the International Accounting Standards Board (IASB) in its English language version. The SEC posted a Staff Observations Report and Staff Review Correspondence.

Under the proposed amendments to Form 20-F, portions of Regulation S-X, Rule 701 and various Securities Act forms, in order to be eligible to omit the US GAAP reconciliation, an issuer must state “unreservedly and explicitly” that the financial statements comply with IFRS as published by the IASB, and the independent auditors’ report must similarly opine on compliance with IASB-IFRS. The proposing release describes and solicits comments concerning a number of areas where the IASB has not yet developed standards or where IFRS permits disparate treatment. These areas include: accounting for insurance contracts and extractive activities; accounting for mergers of entities under common control, recapitalizations, reorganizations and similar transactions; and the lack of any specific conventions for the format and content of income statements.

The SEC has established a 75-day comment period for the proposed amendments, which should keep this proposal on track toward being effective for reports filed in calendar year 2008.

ISS Reports on the 2007 Proxy Season

ISS highlights trends from the 2007 proxy season in its latest “Corporate Governance Bulletin.” As noted in the bulletin, clearly the come-from-behind shareholder proposal of 2007 was the “say on pay” proposal. This season saw nearly 40 proposals seeking an annual shareholder vote on executive compensation, which is a significant jump from the handful of such proposals last year. The “say on pay” proposals were remarkably successful (as these things go), with four proposals garnering a majority vote.

Beyond the “say on pay” proposals, over 60 proposals sought shareholder input on improving the link between executive pay and performance. Among the notable developments with these proposals was more shareholder support for “clawback” proposals, which generally call for recouping payments made to executives in the event that a later investigation or restatement results in their incentive goals having not been met. Also, not surprisingly, investor support for proposals requesting a shareholder vote on golden parachute packages saw an uptick in 2007, with a number winning majority votes. ISS notes that among the new executive pay proposals this year were those requesting that companies disclose, cap or permit shareholder votes on supplemental executive retirement plans, those addressing a company’s option grant practices, and those seeking information relating to the independence of compensation consultants.

ISS reports that proposals seeking majority voting continued to fare well in the 2007 season, with the most novel approach seeking to have companies reincorporate in Delaware. Proxy access proposals at H-P and UnitedHealth received strong, but less than majority support. Proposals seeking a separation of the Chairman and CEO positions did not fare as well as they had in the past. ISS also highlights continued strong shareholder support for proposals targeting anti-takeover defenses, most notably poison pills, classified boards, supermajority voting and dual-class equity structures.

Options Backdating: SEC Staff Provides Guidance on RSU Awards

One of potential collateral consequences faced by companies in the midst of investigations and pending restatements arising from options backdating troubles is that they find themselves in the unenviable position of having to suspend their equity-based employee benefit plan transactions while the company gets its financial house back in order. Oftentimes, switching over to cash-based incentive compensation can present a financial hardship at the worst possible time for the company.

Recently, the Corp Fin Staff addressed these circumstances in a no-action letter to Verint Systems. Verint had been a wholly-owned subsidiary of Comverse Technology until an IPO in 2002, and is still majority-owned by Comverse. Verint’s options backdating troubles are intertwined with those of Comverse, and the company switched to cash awards in order to retain employees while it remained delinquent and delisted. As an alternative, Verint proposed to make broad based grants of restricted stock units and deferred stock to non-affiliate, non-management employees. These awards vest in at least 3 installments over a 3-year period, except that the awards would not vest on the applicable vesting date if Verint is not current in its Exchange Act reporting obligations or if its shares are not listed on an exchange. Awards failing to vest due to either of these circumstances only vest when the later of these events occur. Further, Verint indicated that it will not deliver any shares under the awards until it is current, and that any issued shares will be treated as restricted securities (in the Rule 144 sense, that is), so that no shares can be sold until the company has an effective registration statement in place.

The Staff indicated that it would not recommend enforcement action if the awards were made to Verint employees without Securities Act registration, based on counsel’s opinion that the grants did not constitute an offer or sale under Securities Act Section 2(a)(3). In providing this relief, the Staff did not stray too far from its prior precedent in this area, most notably its no-action letter to Goldman Sachs (Aug. 24, 1998).

– Dave Lynn