– “This aggression will not stand, man” – “The Dude” from “The Big Lebowski”
– Broc Romanek
– “This aggression will not stand, man” – “The Dude” from “The Big Lebowski”
– Broc Romanek
Built in the same simple format as our own “Blue Justice League,” I love this casual game – “Cheese or Font” – where a name pops up and you need to click on whether it’s a type of cheese or font. If you want to play something more “legal,” our “Blue Justice League” competition still goes on. It remains the only casual game for lawyers I’ve seen online.
This new “Alice in Wonderland” trailer starring Johnny Depp looks awesome.
An Inspirational Site for the New Year
My college bud, Dino, turned me onto this inspirational site: “The Fun Theory.”
Second Circuit: Investor Ceased to be 10% Owner 26 Minutes Before Purchase
Below is a new entry from Alan Dye on his “Section16.net Blog“:
In December of last year, I blogged about Donoghue v. Local.com Corp., 2008 WL 4539487 (S.D.N.Y.), in which the court held that an alleged ten percent owner’s simultaneous purchase and sale of issuer securities at 4:32 p.m. on August 1, 2007 were not subject to Section 16(b) because the issuer had issued common stock to a group of third party investors 26 minutes earlier, diluting the former ten percent owner’s ownership to 9.75%. The Second Circuit has now affirmed that decision. 2009 WL 4640653 (2d. Cir.).
The case involved a purchase of Local.com common stock and warrants by Hearst Communication, Inc., pursuant to a stock purchase agreement executed in February 2007, as a result of which Hearst became a ten percent owner subject to Section 16. The stock purchase agreement prohibited Local.com from selling any additional shares of common stock for the next 90 days without Hearst’s written consent. Within that time, Local.com entered into an agreement to sell common stock to a group of third party investors. One of the conditions to closing was that Local.com obtain all required consents to the transaction. Hearst agreed to consent to the transaction if Local.com would reduce the exercise price of Hearst’s warrants by $0.50 a share, provided that Local.com filed a Form 8-K disclosing the terms of the consent by 5:00 p.m. on August 1, the date of closing.
Here is the sequence in which the pertinent closing events occurred:
– 12:46 p.m.–Local.com notified its transfer agent to prepare the stock certificates to be delivered to the new investors, but to wait for final approval before releasing them
– 4:06 p.m.–the new investors wired payment for their shares
– 4:32 p.m.–Local.com filed the Form 8-K disclosing Hearst’s consent
– 4:45 p.m.–Local.com instructed its transfer agent to release the stock certificates
Once the new shares were issued to the third party investors, the number of shares outstanding was sufficient to dilute Hearst’s ownership to below 10%. The question was whether the warrant amendments, which the plaintiff alleged constituted a cancellation and re-grant (an issue the court found it unnecessary to address), occurred before or after the new shares were outstanding.
The Second Circuit affirmed the district court’s holding that the private placement shares were issued and outstanding at 4:06 p.m., when Local.com received payment for the shares. This was a case that could have gone either way, based on the technicalities of the closing conditions, but the outcome is appropriate and clearly supportable.
– Broc Romanek
Investment banks spend a lot of time tailoring their M&A engagement letters to address the perceived risks involved in advising widely-held public companies. Those engagements are often perceived as presenting greater liability risks than M&A advisory engagements for private companies, and that’s probably true most of the time, but a recent Massachusetts federal court decision provides a sobering reminder to investment banks that this isn’t always the case.
What’s more, the Baker v. Goldman Sachs case – here is the opinion – also shows how some of the provisions of an engagement letter designed to protect bankers in public company deals can under certain circumstances have the opposite effect in a private company transaction.
The Baker case arose out of Goldman’s service as a financial advisor to Dragon Systems, Inc. in connection with its ill-fated sale to Lernout & Hauspie Speech Products, a Nasdaq-listed Belgian company that collapsed in the aftermath of an accounting scandal that surfaced shortly after the deal was completed. L&H acquired Dragon in an all stock deal, and the buyer’s subsequent collapse resulted in a loss to Dragon’s controlling shareholders of approximately $300 million.
Dragon’s two controlling shareholders filed a lawsuit against Goldman Sachs and related entities. The plaintiffs alleged that Goldman Sachs negligently advised Dragon to merge with L & H without adequately investigating the buyer’s value. The plaintiffs made a variety of contractual and other common law claims, including breach of fiduciary duty and negligent misrepresentation, and also alleged that Goldman’s conduct violated the Massachusetts Unfair Trade Practices statute.
With the exception of the novel statutory claim, most of the plaintiffs’ claims were consistent with what you typically see in investment banker liability cases. The most common legal theories used to sue bankers are the tort of negligent misrepresentation, and breach of contract claims premised on agency or third-party beneficiary principles. More recently, breach of fiduciary duty claims have become more prominently featured as well. With some high profile exceptions, investment bankers have generally been pretty successful in defending against these claims.
Plaintiffs relying on negligent misrepresentation or contract law principles premise their claims on allegations that they were intended beneficiaries of the contractual relationship between the banker and the company, and were thus entitled to rely upon the banker’s efforts. Since these claims depend on the contractual relationship between the bank and its client, investment bankers’ engagement letters have played a prominent role in their efforts to fend off such claims. Those letters typically include very specific statements about the parties to whom the investment bank is providing its services, together with broad disclaimers of liability to corporate shareholders or other third parties.
Interestingly, Goldman’s engagement letter with Dragon included customary language intended to accomplish this objective. The letter explicitly stated that “any written or oral advice provided by Goldman Sachs in connection with our engagement is exclusively for the information of the Board of Directors and senior management of the Company.” What’s even more interesting, however, is that the plaintiffs were able to use this language as the basis for their third party beneficiary and negligent misrepresentation claims.
What the plaintiffs did was to simply point out to the court that one of the two controlling shareholder-plaintiffs was a member of the Board, and was thus within the group entitled to the benefits of the agreement. Goldman argued that in using the quoted language, it was referring to the board in its representative capacity. However, the court looked at some other potentially ambiguous phrasing in the engagement letter, including the fact that the letter was addressed to the shareholder-director and the letter’s use of the personal pronoun “you” instead of “the company” in describing the persons to whom it was providing its services, to justify its conclusion that Goldman appreciated that others aside from the board in its representative capacity would benefit from its advice.
The treatment of the plaintiffs’ fiduciary duty claim is another area where the Company’s closely-held nature appears to have played a significant role in the court’s analysis. While the fact that the engagement letter did not include a disclaimer of fiduciary duties played an important role in the court’s decision not to dismiss these claims, the close contact that Goldman allegedly had with the plaintiffs throughout the course of the engagement was another important factor in leading the court to conclude that the plaintiffs sufficiently alleged that “special circumstances existed to create a fiduciary relationship apart from the terms of the contract.”
It is important to keep in mind that Baker involved a motion to dismiss, so this litigation is at a very preliminary stage and it is inappropriate to draw broad conclusions from it. Nevertheless, the Baker case drives home the point that although the risk profile in engagements involving widely-held public companies may generally be higher than private company engagements, private companies (and public companies with controlling shareholders) present distinct risks of their own that banks may want to take into account in drafting and negotiating engagement letters.
SEC Approves PCAOB’s 2010 Budget
Last week, the SEC issued this order approving the PCAOB’s budget and annual support fee for ’10. The PCAOB received a 16% increase for its 2010 budget, from $157.6 million to $183.3 million (raising the Staffing level to 636). The order includes three specific measures that the PCAOB should address during the year – one of which is that the PCAOB should consult with the SEC about any “plans to implement changes in response to legislative actions.” Between an active Congress and the pending Supreme Court case, it should be an interesting year for the PCAOB…
– Broc Romanek
Taking it easy this week and re-running some of the best entries recently posted on some of our other blogs. This first one comes from Fred Whittlesey of the Hay Group. It ran on CompensationStandards.com’s “The Advisors’ Blog” earlier this month:
A company’s Compensation Committee decided to provide the CEO with a company car and asked what color car he wanted. The CEO wanted to ensure that his choice of color was consistent with market norms so he asked the HR department to research the car color of the CEOs of its ten peer companies.
The results were presented to the CEO, indicating that, on average, CEOs in the peer group drove a pink car. The CEO, who knew his peer CEOs well, commented that it was hard for him to believe that so many CEOs were driving pink cars (given the absence of any multi-level cosmetics marketing organizations in their peer group.) “Is that the average or the median?” he asked. “Both the average and the median are pink” was the reply. He asked to see the raw data which indicated that five of the CEOs drove a red car and the other five a white car.
Is this a silly parable? Would such a simplistic analytical shortcoming really occur? I recently spoke with the head of compensation for a technology company who was questioning the data for their peer group data cut from a well-known survey. The data indicated that equity grants at the executive level among the peer group companies were averaging a mix of 50% stock options and 50% RSUs. His anecdotal knowledge of the peer practices made him feel that this couldn’t possibly be correct. When the raw data was examined, however, it turned out that only two of their 20 peers had an options/RSU mix near the 50/50 average. Nine were granting all or almost all (80% to 100%) options and the other nine were granting all or almost all (80% to 100%) RSUs. The pink car problem.
At a time when more individuals and organizations than ever are collecting, analyzing, and opining on executive pay levels and practices, it is critical that the underlying data be collected, analyzed, and reported correctly. Could the CEO have identified the pink car problem without access to raw data? Of course. Simply looking at the 10th, 25th, 75th, and 90th percentiles would have told the story. And when n=10 (or any even number), after all, the median is a computed number in a spreadsheet. While “ratcheting” to the median is an oft-mentioned flaw with the benchmarking process, summary statistics can contribute to flawed decision-making even absent any such intent.
The three-legged analytical stool of collection, valuation, and reporting of data needs to receive more integrated attention. Accurate collection has been made more difficult over the past 18 months due to the prevalence of “special actions” taken during the economic crisis. Valuation continues to be a challenge as experts continue to disagree on how to measure pay. The reporting of pay reflects the turmoil in collection and valuation, sometimes exacerbated by the media. Compensation professionals cannot assume that push-button data provides the answer – that data only provides a starting point for questions.
In my next blog posting, I will provide an illustration of another variant of the Pink Car Problem which created a recent headline indicating that a CEO’s pay was “cut by about half.” (the perceived difference was not “about half” and pay was not “cut.”)
SEC’s IM Division Issues FAQs on Effective Date of New Rules
Last week, the SEC’s Division of Investment Management issued their own set of FAQs regarding the effective date of the new proxy disclosure enhancement rules as they apply to registered investment companies (Corp Fin had released their own set that apply to public operating companies).
– Broc Romanek
Yesterday, Corp Fin issued five new Compliance and Disclosure Interpretations to deal with some of the transitional issues posed by the February 28th effective date of the new executive compensation and proxy disclosure enhancement rules adopted last week, thereby tackling the “big question” that I blogged about last week. Learn more in Mark Borges’ “Proxy Disclosure Blog.”
Our Practical Guidance to Help Implement the New Rules
As all memberships expire in a week, you need to renew for this site (and our other publications) now to obtain practical guidance on how to comply with the SEC’s new rules. We have two companion webcasts lined up for just after the new year begins – we pushed up our CompensationStandards.com webcast to January 7th – “The Latest Developments: Your Upcoming Compensation Disclosures – What You Need to Do Now!” – featuring Mark Borges, Alan Dye, Dave Lynn and Ron Mueller.
And to handle the other new SEC rules that don’t deal with compensation issues, we have a webcast on TheCorporateCounsel.net – “How to Implement the SEC’s New Rules for This Proxy Season” – featuring Marty Dunn, Amy Goodman, Ning Chiu, Howard Dicker and Dave Lynn to be held on January 6th. Renew for both sites now (or try a no-risk trial if you are not a member).
Sample D&O Questionnaire Items
In response to the SEC’s new rules, Dave Lynn and Mark Borges are drafting up the new items you will need now in your D&O questionnaire as part of the Winter issue of “Proxy Disclosure Updates,” which will be delivered just after the new year begins. This issue will not just rehash the new rules – it will provide practical implementation guidance.
Remember that “Proxy Disclosure Updates” is a quarterly publication that is part of Lynn, Borges & Romanek’s “Executive Compensation Service (which includes the just-completed 2010 Executive Compensation Disclosure Treatise in both hard-copy and online on CompensationDisclosure.com). Try a no-risk trial now to obtain this important issue hot off the press when it’s done…
– Broc Romanek
Even though the federal government was closed due to snow, the SEC issued a proposing release yesterday to amend Rule 163(c) so that it would allow a WKSI to authorize an underwriter to act as its agent to communicate about an offering before filing a registration statement (the press release came out a day later).
As noted in the release, the purpose of the proposed amendment is to remove some impediments to capital-raising since not as many WKSIs have automatic shelfs (or shelfs that don’t include all the types of securities the issuers may decide to offer) – this proposal would allow WKSIs to gauge investor interest without revealing confidential information about the issuer’s capital-raising plans.
PCAOB Reproposes Risk Assessment Standards
Last week, the PCAOB voted to repropose seven auditing standards relating to risk assessment and the auditor’s response to risk, including risk of fraud. Learn more from FEI’s “Financial Reporting Blog.”
More on “The Mentor Blog”
We continue to post new items daily on our new blog – “The Mentor Blog” – for TheCorporateCounsel.net members. Members can sign up to get that blog pushed out to them via email whenever there is a new entry by simply inputting their email address on the left side of that blog. Here are some of the latest entries:
– Study: Larger Companies Less Likely to Have Independent Board Chairs
– Some Venture Capital Firms Lower Fees
– Launched: Google Scholar
– More On CalPERS and Placement Agents
– IROs: Use Single Investor RSS Feed
– FINRA’s “Social Networking Task Force”
– Promoting Issuer Stock on Product Labels
– Should Brokers Really Be Treated Like Advisers?
– Alan Dye’s Latest Thoughts on NY’s Power of Attorney Law
– Shareholders: Part of the Solution or Part of the Problem?
– Life Balance Issues for Executive Spouses
– Broc Romanek
We just mailed the November-December Issue of The Corporate Executive, which includes a comprehensive recap of important things said at our recent “6th Annual Executive Compensation Conference,” among other things:
– Treasury Speaks about Executive Pay
– Consultant Independence and Accountability
– Fixing Benchmarks and Internal Pay Equity
– Say-on-Pay and Plan Design
– Risk Assessment & Pay
– What Compensation Committees (and Consultants and Counsel) Should Now Be Doing
– Hold-Through-Retirement and Clawbacks
– How to Implement Say-on-Pay Successfully
– SEC Staff: No More “Free Passes” on Material Noncompliant Disclosure
– One Final Reprieve on Section 6039 Returns–And Our Guidance
– Trap for the Unwary: Grant Date Under Section 423
– Section 162(m): The Buck Stops Here
What is the “Shareholder Communication Coalition”?
Recently, a mailing by the Shareholder Communication Coalition to the CEOs of the S&P 500 – asking for general support on proxy plumbing issues – led a number of members to ask me for more information about this organization. In this podcast, I caught up with Niels Holch, Executive Director of the Shareholder Communications Coalition, to learn more about the activities of the Shareholder Communication Coalition, including this white paper that outlines the Coalition’s recommendations for reforming the proxy voting and shareholder communications system:
– What is the Shareholder Communication Coalition? How – and why – was it formed?
– What has been its focus to date? Can you tell us about the letters that some CEOs recently received?
– Any other activities on the near horizon?
– How can members of the associations involved in the Coalition give their input to the Coalition? Where can people sign-up for email alerts to keep up with Coalition activities?
SEC’s Rating Agency Regulatory Scheme Heighten Risk of Insider Trading
You can’t imagine how difficult it is to draw up rules and cover all the possible implications until you try it yourself. There is always some unintended consequence hiding around the corner. That’s why federal agencies are required to allow the public to comment on proposed rules.
A few months ago, Floyd Norris nailed what he thinks is a crucial flaw in the SEC’s attempt to regulate the rating agencies in this column. Here is an excerpt from that column:
It did that in the name of reforming the credit rating agency system. The new rule shows the dangers of trying to solve one problem without thinking about others. At the heart of the problem is that it is legal for companies and other issuers of securities to give confidential information to rating agencies. Back before the crisis, the fact the agencies had access to such information served to enhance the respect given to their opinions.
Now we know that the major rating agencies — Standard & Poor’s, Moody’s and Fitch — disgraced themselves in rating structured finance products. They relied on bad assumptions, and in some cases may have been lied to by issuers. Their models turned out to be spectacularly wrong. A lot of people think a root cause of the problem was the conflict of interest created by the fact the agencies were paid by the creators of those products, and therefore were dependent on their good will for additional business.
But regulators are unwilling to outlaw the old system, in part because that would leave investors without access to ratings unless they paid for them. So the solution chosen by the S.E.C. is to encourage other rating agencies to rate the products. The rule adopted last week says that whatever information is given to the agency hired by the issuer to rate the structured finance security must be given to other rating agencies, including those that provide analyses only to investors who pay for them.
The result will be that analysts for the other rating agencies, like Egan-Jones Ratings, will have access to information not available to the general public, and their analyses will go only to clients. Those clients will have the benefit of nonpublic information, or at least of their agent’s analysis of what it means.
– Broc Romanek
With insider trading so much in the news lately, it’s worth recalling that back in the summer there was a fuss that members of Congress are permitted to trade with knowledge of nonpublic information (see this recent WaPo article). In fact, there was even a “Stop Trading on Congressional Knowledge Act” bill floated to close the “loophole” that allows members of Congress to trade even when they have access to nonpublic information. I am told that this is not the first time that efforts have been made to change the ethics rules and hold Congress to more of a corporate standard.
Hearings were held in July on this topic, as noted in this article (and here is the testimony given) – but I don’t believe the bill has gone anywhere since. ProCon.org has a resource page about whether insider trading by Congress should be allowed.
The SEC’s Enforcement Division continues to track down bankers and lawyers who are engaging in insider trading. For example, see this recent action against a former law firm lawyer – and this new one against some bankers.
New SEC Filing Fees: Effective on Monday
On Wednesday, President Obama signed the government’s appropriations bill that includes funding for the SEC. As a result, as noted in this SEC advisory, the new registration statement fee rates take effect as of Monday. As announced a while back, the fee rate will increase to $71.30 per million dollars from $55.80 per million, a 28% hike.
More on our “Proxy Season Blog”
With the proxy season now looming in many of our minds, we are posting new items regularly on our “Proxy Season Blog” for TheCorporateCounsel.net members. Members can sign up to get that blog pushed out to them via email whenever there is a new entry by simply inputting their email address on the left side of that blog. Here are some of the latest entries:
– RiskMetrics’ 2009 Proxy Season Scorecard
– Remuneration Reports Receive More Dissent in Australia
– Study: “Private Ordering” is Not a Viable Alternative to Proxy Access
– Walden Asks Broadridge Not to Eliminate In-Person Shareholder Meetings
– Broc Romanek
Not only did the SEC adopt new proxy disclosure enhancement rules yesterday at its open Commission meeting, it actually posted the adopting release later in the day (a same-day practice that the PCAOB follows often). Here is the SEC’s press release – and the SEC Chair’s opening statement. We are posting memos regarding these new rules in our “Law Firm Memos” Portal, with a direct link to these memos from our “Hot Box” on the home page.
The Big Question: When Do the SEC’s New Rules Take Effect?
The reason for the hurry is simple – these new rules apply to the coming proxy season as they are effective February 28th. My guess is that the effective date is pushed out so far because a “major” rulemaking requires a 60-day waiting period before implementation – and perhaps the SEC has deemed this a “major” rulemaking (or the OMB forced that determination upon the SEC). The “major rule” determination comes out of SBREFA – the “Small Business Regulatory Enforcement Fairness Act.”
Unfortunately, the SEC barely addressed the issue of compliance dates during its open Commission meeting – and then continued to be opaque in the adopting release (the release says nothing about effective dates other than the February 28th date on the cover). During the course of yesterday, I easily received over 100 emails and calls on this topic and continue to do so. So I imagine Corp Fin is receiving many more.
We are assuming that the February 28th effective date applies to the filing of proxy statements, not the annual meeting dates. Since there is no transition discussion in the adopting release (as Mark Borges has blogged), I’m not sure how this effective date applies to preliminary vs. definitive proxy statements for those that straddle both sides of this date. Or what about companies that file their Form 10-Ks in early February who decide to include the Part III information when they file? If you decide to voluntarily comply beforehand, do you also need to comply with the old rules (only issue is whether to use new or old SCT rules)? I’ll update this blog as we find out more on this critical topic.
I know complying with these new rules is gonna be a real bear for those of you that need to revise D&O questionnaires – or send out supplemental ones – so we just pushed up our CompensationStandards.com webcast to January 7th – “The Latest Developments: Your Upcoming Proxy Disclosures – What You Need to Do Now!” – featuring Mark Borges, Alan Dye, Dave Lynn and Ron Mueller. And to handle the other new SEC rules that don’t deal with compensation issues, we just announced a companion webcast on TheCorporateCounsel.net – “How to Implement the SEC’s New Rules for This Proxy Season” – featuring Marty Dunn, Amy Goodman, Ning Chiu, Howard Dicker and Dave Lynn to be held on January 6th.
The Surprise: Disclosure of How Diversity Is Considered in the Director Nomination Process
Much of the SEC’s rulemaking was anticipated (although the timing was feared – I bet more than one holiday plan has been ruined), but I’m not sure many expected the SEC to adopt its proposal to require disclosure of how diversity is considered in the director nomination process. I imagine boards will be adopting diversity policies in the very near future so that they have something to disclose…we’ll be discussing this during our January 6th webcast.
More on “SEC Re-Opens Proxy Access Comment Period: What Does It Mean?”
Two days ago, I blogged about what the SEC’s “re-opening” of the proxy access period might mean. I have been troubled by the possible conflicting meanings between what the SEC’s press release on the matter says – and what is stated in the extension release.
And here is my conclusion after further pondering: the comment period is not really “re-opened,” meaning that the SEC is not seeking hordes of new comment letters on its proposal. Rather, I think the SEC seeks something more limited in scope – they only want folks to focus on commenting on the “additional data and related analyses” (eg. costs) provided in the comment letters received so far, particularly these three from third-parties mentioned in the extension release:
– NERA’s Report on Capital Formation Efficiency (starts at page 126) submitted by BRT
– BRT Study on “Why Some Banks Perform Better During the Credit Crisis? A Cross-Country Study of the Impact of Governance and Regulation” submitted by the BRT
– Beth Young’s “Private Ordering Study” submitted by The Corporate Library, CII and Shareowners.org
The SEC also wants comments on this new study from its Division of Risk, Strategy & Financial Innovation regarding share ownership and holding patterns (the data was derived from Schedule 13Fs filed with the SEC).
So as strange as “commenting upon the comments” may seem, the SEC is probably trying to ensure it gets all the facts straight (and that its own study is officially in the rulemaking record) before it rulemakes in a very controversial area…
Poll: How Many Proxy Access Comment Letters This Decade?
Take a moment to participate in this anonymous poll about how many comment letters have been submitted to the SEC on its various reiterations of proxy access proposals since 2003 – the total does include form letters (I’ll post the answer after the holidays):
– Broc Romanek
In this podcast, Dave Lynn and Marty Dunn weigh in on the latest developments regarding shareholder proposals and transparency of the SEC Staff’s positions – as well as discuss muscle cars.
Speaking of Staff transparency, here are slides regarding areas of frequent comment from the Corp Fin Staff to financial institutions that were presented by the Staff at last week’s AICPA Conference.
Another US Supreme Court Case: Conrad Black’s Fraud
The day after I went to the Supreme Court, Conrad Black’s fraud case came before SCOTUS as a test case to determine whether the “honest services” clause (ie. deprive[s] another of the intangible right of honest services) in the wire and mail fraud statute is so broad that it should be invalidated. Here is the transcript of that case’s oral arguments – and here is a blog analyzing the arguments: ” When Is Fraud Really Fraud? The Case of Conrad Black.”
Canadian Securities Regulators Decide Not to Overhaul Corporate Governance Regime
Here is an excerpt from this Tory’s memo: “Canada’s securities regulators have decided not to proceed with the overhaul of our corporate governance regime proposed last December. The proposals would have introduced a more principles-based regime focusing on disclosure in relation to nine high-level corporate governance principles and eliminating the bright-line tests in the current definition of independence, leaving independence determinations to the reasonable judgment of the board of directors. In so doing, the proposals would have moved Canada’s corporate governance regime further away from the U.S. regime, which focuses increasingly on mandatory requirements.”
– Broc Romanek