March 27, 2020

CARES Act: Want Federal Money? Forget About Buybacks

Late Wednesday, the Senate unanimously passed the Coronavirus Aid, Relief and Economic Security (CARES) Act.  This Tax Foundation blog provides a detailed summary of the Senate bill, which is scheduled to go to the House for a final vote this morning. It’s expected to pass overwhelmingly, but passage might be delayed because one member is apparently asking the question, “what would Ayn Rand do?”

Although I suppose it’s conceivable that the House might try to tinker with the bill at the last minute, it seems unlikely that, with a Democratic majority, it would mess with one of the key conditions that the Senate bill imposes on companies seeking federal aid.  As this excerpt from the blog points out, if a company wants taxpayer money, it can forget about doing stock buybacks for a while:

The bill provides $454 billion in emergency lending to businesses, states, and cities through the U.S. Treasury’s Exchange Stabilization Fund. Additionally, this includes $25 billion in lending for airlines, $4 billion in lending for air cargo firms, and $17 billion in lending for firms deemed critical to U.S. national security. Firms taking loans must not engage in stock buybacks for the duration of the loan plus one year and must retain at least 90 percent of its employment level as of March 24, 2020.

In case you’re wondering, dividends are also off the table for these companies for that same period of time. The loans also impose not terribly onerous limits on compensation and severance pay, and will be subject to oversight by Congress & a special inspector general.

Buybacks:  Are Airlines Supposed to be Treated Differently?

Nobody is likely to shed any crocodile tears over companies receiving yet another federal bailout being prohibited from this type of financial engineering, but as I read through the bill, I noticed something interesting. Airlines have been the poster children for the buyback ban, and whether or not that’s the rationale, the language of the buyback restriction that applies to airlines & related entities is different than the language of the restriction that applies to companies getting money under the Treasury-backed Fed program.

Here’s the language of Section 4003(c)(3)(A)(ii)(I) (page 518) that applies to recipients of the Fed’s largesse. It requires them to agree that:

Until the date 12 months after the date on which the direct loan is no longer outstanding, not to repurchase an equity security that is listed on a national securities exchange of the eligible business or any parent company of the eligible business while the direct loan is outstanding, except to the extent required under a contractual obligation that is in effect as of the date of enactment of this Act;

Here’s the language of Section 4003(c)(2)(E) of the bill (page 516) that applies to the airlines. It requires them to agree that:

Until the date 12 months after the date the loan or loan guarantee is no longer outstanding, neither the eligible business nor any affiliate of the eligible business may purchase an equity security that is listed on a national securities exchange of the eligible business or any parent company of the eligible business, except to the extent required under a contractual obligation in effect as of the date of enactment of this Act

Similar language appears in Section 4114 of the bill, which deals with payroll support for air carrier employees. I took a quick look, and it appears that while the term “affiliate” is defined for at least one part of the CARES Act, it’s undefined in this particular part.  So, it seems that without further clarification, the highlighted language might well be construed to prohibit airline officers and directors from purchasing shares of their own company’s stock. As I mentioned, there are limits on comp that apply to recipients of the bailout (Section 4004), but is that what is intended?

Since it’s so sweeping & came together so fast, I’m sure that the CARES Act is full of little interpretive grenades like this one – which means that Congress hasn’t forgotten to take care of America’s lawyers as it prepares to fire its cash bazooka.

That reminds me of an old adage that I once saw on a coffee mug: “Every business has its own best season. That is why they say that June is the best month of the year for preachers. Lawyers have the other eleven.”

Undisclosed SEC Investigations & Company Performance

Francine McKenna recently posted an article on her website that discusses some SEC investigations that weren’t disclosed for quite some time after they were initiated. Although she acknowledges that companies aren’t generally obligated to disclose investigations, she cites some new research that says there’s a negative correlation between undisclosed investigations and company performance, and notes that the researchers suggest that could give insiders a trading advantage:

Undisclosed investigations, if investors knew about them, could help explain the subsequent economically meaningful declines in firm performance and increased share price volatility the researchers say occurs. Because the investigations are secret, the performance declines are slow and gradual, and are not quickly reflected in share prices. That suggests, the researchers write, that insiders who know the details of the investigation have a substantial information edge.

My own experience with SEC investigations has been that when companies are subject to them and opt not to make public disclosure, they usually close the trading window for those in the loop at some point fairly early in the process (usually when an informal investigation becomes formal, if not sooner). The research Francine cites suggests that it would prudent for any company that’s the subject of an SEC investigation that it hasn’t disclosed to take the same approach.

John Jenkins