The SEC sure isn’t shying away from controversial topics this summer. Less than a month after adopting a somewhat watered-down version of its proposed proxy advisor regulations, the SEC has calendared an open meeting for next month to consider amendments to the shareholder proposal rules. Here’s an excerpt from the Sunshine Act Notice:
The Commission will consider whether to modernize and enhance the efficiency of the shareholder-proposal process for the benefit of all shareholders by adopting amendments to certain procedural requirements for the submission of shareholder proposals and the provision relating to resubmitted proposals under Rule 14a-8. The amendments being considered seek to modernize the system for the first time in over 35 years and reflect many years of engagement by Commission staff with investors, issuers and other market participants.
The SEC issued proposed rules last November that would increase the ownership thresholds for submission of proposals for inclusion in a company’s proxy statement & substantially raise the bar in terms of the favorable vote required to allow shareholders to resubmit proposals in subsequent years. Other proposed changes to Rule 14a-8(b) would subject shareholders using representatives to enhanced documentation requirements with respect to the authority of those agents, and require shareholder-proponents to express a willingness to meet with the company and provide contact & availability information.
The proposals have produced an avalanche of comments – both real and, apparently, of the “Astroturf” variety. For example, the proposal’s comments page discloses that the SEC received over 5,000 identical form comment letters opposing the proposal, but that it has also “received messages from certain of the email addresses that sent this comment letter indicating that the owner of the email address did not submit a comment letter.”
The meeting is scheduled for September 16th, which means that if rules are adopted, we’ll be all over them at our upcoming “Proxy Disclosure” & “Executive Pay” Conferences – which will be held entirely virtually over three days – September 21 – 23. We’ve offered a Live Nationwide Video Webcast for our conferences for years – one of the only events to do so – and we’re excited to build on that platform and make your digital experience better than ever. Act now to get the best price – here’s the registration information.
Proxy Advisor Regulation: ISS’s Lawsuit Against the SEC Marches On
The SEC’s new rules regulating proxy advisors may be a weaker broth than what was originally proposed, but ISS is still not happy about being on the receiving end of the proxy rules. Last year, ISS sued the SEC over its efforts to regulate the proxy advisory industry. The parties agreed to stay the proceedings pending the SEC’s action on its rule proposals, but now that those are in place, ISS says it’s “game on!” Here’s an excerpt from a statement from ISS’s CEO that was issued last week:
While last month’s rulemaking provides for certain exemptions to aspects of the SEC’s solicitation rules, we remain concerned that the rule will be used or interpreted in a way that could hamper our ability to continue to deliver to clients the timely and independent advice that they rely on to help make decisions with regard to the governance of their portfolio companies. We have today informed the U.S. District Court for the District of Columbia and the Commission of our intent to resume our lawsuit for many of the same core reasons we outlined in our October 31 complaint, as well additional concerns that we will articulate in the weeks ahead.
Over on her Twitter feed, Prof. Ann Lipton flagged a recent court filing indicating that it looks like ISS is going to amend its complaint – which originally focused on the guidance the SEC issued last August – to tackle the new rules directly. Check out the whole thread.
“Mr. Bad Example”: A Barry Minkow Docuseries?
When it comes to securities fraud, before there was Bernie Madoff, there was Barry Minkow. Then again, after there was Bernie Madoff, there was still Barry Minkow. Whether he’s scamming investors in the ZZZZ Best fraud, using his post-conviction “fraud investigation” business to faciliate his own insider trading, or fleecing the congregation of the San Diego church for which he improbably served as pastor, the guy positively sparkles with larceny. Now, this article from “Deadline” says that somebody is trying to put together a documentary series on Minkow.
I wish them better luck than the folks who got into bed with Minkow several years ago to make a movie about his life. As the article recounts, that project ran into some problems:
His life story was turned into the movie Con-Man, which he starred in alongside James Caan and Mark Hamill, but, as production was finishing, Minkow was charged with insider trading, having secretly used his Institute to short the stocks of the businesses he was investigating. While in jail, he also admits to defrauding his own church to help pay for his film.
Yeah, so that happened – and the movie was apparently horrible too. I don’t know what they plan to call the documentary, but as a big fan of the late, great Warren Zevon, may I suggest “Mr. Bad Example”?
Earlier this week, McDonald’s filed a Form 8-K to announce that it had filed this complaint in the Delaware Court of Chancery against its former CEO, Steve Easterbrook, who was terminated without cause last year following a board investigation of a consensual relationship with an employee in violation of the company’s Standards of Business Conduct. The complaint seeks to claw back severance payments – and to prevent the exercise of stock options and sale of stock issuable under outstanding equity awards. The collective value of that compensation is estimated at $57.3 million, according to this WSJ article.
The complaint alleges that Mr. Easterbrook acted fraudulently in negotiating his termination, in claiming that he did not have physical relationships with any company employees. In July, McDonald’s received an anonymous employee tip that caused the board to reopen its internal investigation. During the new investigation, the board uncovered photographic evidence of prohibited physical relationships with multiple employees in Easterbrook’s company emails. According to the complaint:
The Company was not aware of these photographs before July 2020, when it discovered them in the course of investigating the allegations regarding Easterbrook and Employee-2. Neither these photographs, nor the e-mails to which they were attached, were present on Easterbrook’s Company-issued phone when it was searched by independent outside counsel in late October 2019 because Easterbrook, with the intention of concealing their existence from the Company, had deleted them from his phone. Unbeknownst to Easterbrook, however, the deletion of the e-mails from the mail application on his Company-issued phone did not also trigger the deletion of those e-mails from his Company e-mail account stored on the Company’s servers.
The Board would not have agreed to the terms of the Separation Agreement had it then been aware of Easterbrook’s physical sexual relationships with three McDonald’s employees, his approval of a discretionary stock grant for Employee-2 while they were in a sexual relationship, and the falsity of his representation to outside counsel that he had never engaged in a physical sexual relationship with a Company employee. That conduct constituted a clear legal basis to terminate Easterbrook for cause.
The complaint references “cause” because Easterbrook’s separation agreement incorporates clawback provisions from the company’s standard severance plan, which require repayment if the plan administrator determines that the recipient committed an act that would constitute “cause” while employed. This case highlights that boards may want the “cause” definition to do more work in this day & age – and why revisiting narrowly-formulated versions on a clear day could afford the board with some additional room to maneuver if it comes to light that an executive has engaged in conduct causing reputational harm. This NYT article observes:
The lawsuit represents an extraordinary departure from the traditional disclose-it-and-move-on decorum that American corporations have often embraced when confronted with allegations of wrongdoing by senior executives. More than a few chief executives in recent years have lost their jobs after allegations of sexual or other misconduct, but for the most part they have departed quietly and the companies haven’t aired the ugly details.
In the #MeToo and Black Lives Matter eras, however, more companies are striving to position themselves as good corporate citizens, responsible not only to shareholders but also to customers, employees and society at large. Mr. Easterbrook’s successor at McDonald’s, Chris Kempczinski, has called for a new corporate emphasis on integrity, inclusion and supporting local communities.
The company launched its lawsuit just before a books & records action that Bloomberg reported was brought against the company by a group of Teamsters pension funds on Wednesday, alleging “a pervasive sexual harassment & gender discrimination problem.” This follows a class action suit filed last fall and other complaints.
The McDonald’s board is taking some heat for relying on Easterbrook’s representation that he had only one affair and not digging deeper in the initial investigation. The anonymous tip came to light last month after McDonald’s held a town hall meeting in which employees were encouraged to come forward with concerns, and the board immediately investigated the complaint. After the board & comp committee chair weathered a “vote no” campaign at this year’s meeting, they now have many months to engage with shareholders and resolve this issue. It’s probably good that the town hall wasn’t in April or May.
On a related note, this CFO.com article reports that the former COO of Pinterest is suing the company for gender discrimination and wrongful termination. Boards are busy right now – and they need to continue to pay attention to #MeToo risks as well as risks arising from the social movement for equity & inclusion. For guidance on navigating potential landmines, visit our checklist on board oversight of sexual harassment policies.
SEC Preparing Proposals to Regulate Chinese Audits
Late last week, the “President’s Working Group on Financial Markets” released a report to address the ongoing issue of the PCAOB being unable to review the work papers for audits of US-listed companies who use Chinese accounting firms – who say, according to this Bloomberg article, that “Chinese law bars them from sharing those documents on the grounds that the documents may contain state secrets.” Because of this stance, China is known as a “Non-Cooperating Jurisdiction.”
The report makes 5 recommendations – but the upshot, as explained in this WSJ article, would be to ban Chinese companies from listing on US exchanges unless they comply with US audit requirements. Here’s more detail from the report:
The PWG recommends enhanced listing standards to require,as a condition to initial and continued exchange listing in the United States, PCAOB access to audit work papers of the principal audit firm for the audit of the listed company.
Companies that are unable to satisfy this standard as a result of governmental restrictions on access to audit work papers and practices in NCJs may satisfy this standard by providing a co-audit from an audit firm with comparable resources and experience where the PCAOB determines it has sufficient access to audit work papers and practices to conduct an appropriate inspection of the co-audit firm.
In addition:
The PWG recommends that,as a specific listing standard, a more specific disclosure requirement or both, requiring enhanced and prominent issuer disclosures of the risks of investing in issuers from NCJs. These actions could include rulemaking and/or issuing interpretive guidance to clarify the disclosure requirements to increase investor awareness, and more general awareness of the risks of investing in such companies.
John blogged a few months ago about a statement from SEC & PCAOB officials on this topic. The Senate has also passed legislation that would amend Sarbanes-Oxley to prohibit the trading of securities – on an exchange or over the counter – for companies that retain an auditor whose reports cannot be inspected completely (and similar legislation has passed the House).
Now, in light of the Administration’s report, SEC Chair Jay Clayton and five other senior SEC officials, including Corp Fin Director Bill Hinman, have issued a statement to say that the SEC will prepare proposals in response to the report’s recommendations. The statement also says that the SEC staff stands ready to assist Congress with technical assistance in connection with any potential legislation regarding these matters.
These tensions don’t appear to be deterring Chinese companies from pursuing US listings – this WSJ article notes that more than 20 companies from China have gone public so far this year on Nasdaq or the NYSE, raising $4 billion in total.
Podcasts: More “Women Governance Gurus” With Courtney Kamlet & Liz
I continue to team up with Courtney Kamlet of Vontier to interview leaders in the corporate governance field about their career paths – and what they see on the horizon. Check out our latest episodes:
– Darla Stuckey, President & CEO, Society for Corporate Governance
This 40-page memo – recently commissioned & released by COSO – explains how companies can use blockchain technology to create more robust internal controls – and also highlights new controls that will be necessary because of the risks that blockchain creates. According to the memo, business use of blockchain will implicate the 5 components of COSO’s 2013 Internal Control Framework as follows:
1. Control Environment: Blockchain may be a tool to help facilitate an effective control environment (e.g., by recording transactions with minimal human intervention). However, many of the principles within this component deal primarily with human behavior, such as management promoting integrity and ethics, which, even with other technologies, blockchain is not able to assess. The greater challenge relates to the intertwining of an entity with other entities or persons participating in a blockchain and how to manage the control environment as a result.
2. Risk Assessment: Blockchain creates new risks and simultaneously helps to mitigate extant risks, by promoting accountability, maintaining record integrity, and providing an irrefutable record (i.e., a person ororganization cannot deny or contest their role in authorizing/sending a message or record).
3. Control Activities: Blockchain can act as a tool to help facilitate control activities. Blockchain and smart contracts can be a powerful means of effectively and efficiently conducting global business (e.g., by minimizing human error and opportunities for fraud). The collaborative aspects of blockchain, however, can introduce additional complexity, particularly when the technology is decentralized and there is no single party accountable for the systems that fall under ICFR.
4. Information & Communication: The inherent attributes of blockchain promote enhanced visibility of transactions and availability of data, and can create new avenues for management to communicate financial information to key stakeholders faster and more effectively. One aspect, in particular, for management to consider in applying blockchain is the availability of information to support the financial books and records, and related auditability of information transacted on a blockchain.
5. Monitoring Activities: The promise of blockchain to facilitate monitoring more often, on more topics, in more detail, may change practice considerably. The use of smart contracts and standardized business rules, in conjunction with Internet of Things (IoT) devices, may alter how monitoring is performed.
Audit Adjustment Waivers: Red Flag for Restatements & Audit Costs
Using a sample of 3,144 audits, this recent study found that the decision to waive auditor-proposed adjustments to financials may have unforeseen consequences of increased restatement risks, incentives to manage earnings, and higher audit costs. Here’s an excerpt:
We estimate that at least 80% of pre-audited financial reports contain misstatements detected by auditors, and management frequently does not make the proposed adjustments. Perhaps surprisingly, management corrects all misstatements only about 12% of the time and waives all proposed adjustments about 50% of the time.
We find that waived adjustments are linked both to lower financial reporting quality measured by material misstatements and to incentives to meet/beat analyst forecasts; the latter finding suggests disposition decisions can be an earnings-management mechanism.
We find that auditors respond to the increased restatement risk associated with management’s decisions to waive audit adjustments by increasing audit effort this period and are able to pass along at least some of these costs to their clients. The auditor’s response is persistent: auditors are likely to propose more next-year audit adjustments when clients waive adjustments in the current year, leading to increased effort (audit hours) and costs (audit fees) next year. Finally, we identify one reason managers may waive adjustments – to meet or beat analyst consensus forecast estimates.
The professors conclude that many of these waivers result from focusing on quantitative thresholds – and overlooking qualitative facts that impact the materiality of missatements.
Call for Photos: Marty Dunn Tribute
Our “Proxy Disclosure & Executive Pay Conferences” are coming up next month – and while I’m very excited about our agendas & speakers, the conference won’t be the same without Marty Dunn on the roster. We’ll be running a tribute to Marty and would appreciate any photos from the community that could help make it special. Please email me with anything you’d like to share – liz@thecorporatecounsel.net.
Some felt the statement pushed the theory of “shareholder primacy” aside – and we’ve been going around & around since then on whether this was simply a return to the BRT’s original position, whether it affects directors’ fiduciary duties, whether investors care, and whether corporate practices align with the statement. Many have steadfastly emphasized that this is just a debate on semantics and that the BRT statement didn’t change anything about how management or boards actually function, since the promotion of other stakeholders can typically be justified as something that also benefits shareholders in the long run.
Consistent with that view, this forthcoming article from Harvard Law Profs Lucian Bebchuk and Roberto Tallarita, which was also the subject of a WSJ op-ed last week, found that very few signatories involved their boards in the decision to sign the statement. Here’s an excerpt:
To probe what corporate leaders have in mind, we sought to examine whether they treated joining the Business Roundtable statement as an important corporate decision. Major decisions are typically made by boards of directors. If the commitment expressed in the statement was supposed to produce major changes in how companies treat stakeholders, the boards of the companies should have been expected to approve or at least ratify it.
We contacted the companies whose CEOs signed the Business Roundtable statement and asked who was the highest-level decision maker to approve the decision. Of the 48 companies that responded, only one said the decision was approved by the board of directors. The other 47 indicated that the decision to sign the statement, supposedly adopting a major change in corporate purpose, was not approved by the board of directors.
Bebchuck & Tallarita also looked at the corporate governance guidelines of the companies whose CEOs signed the BRT statement – and found that most of them reflect a “shareholder primacy” approach – e.g., stating that the business judgment of the board must be exercised in the long-term interest of shareholders.
I haven’t been in any of these c-suites or boardrooms, but I’d venture a guess that many had already been discussing long-termism and stakeholder governance prior to the BRT’s statement (even if they weren’t using those specific catchphrases) – with a view towards maximizing long-term shareholder value. Were the BRT commitments illusory, or just within the scope of those prior discussions? Either way, the absence of board involvement seems to indicate that no change to director fiduciary duties was intended.
This article from UCLA Law Prof Stephen Bainbridge agrees that the evidence is that most BRT members remain committed to shareholder value maximization – and suggests two possible reasons why the BRT publicly shifted its position:
First, the members may be engaged in puffery intended to attract certain stakeholders for the long-term benefit of the shareholders. Specifically, they may be looking to lower the company’s cost of labor by responding to perceived shifts in labor, lower the cost of capital by attracting certain investors, and increase sales by responding to perceived shifts in consumer market sentiment. They may also be trying to fend off regulation by progressive politicians. Second, some BRT members may crave a return to the days of imperial CEOS.
Corporate Purpose: Take 2 for the “Takeover Titans”?
Last month, I blogged about some back & forth between Skadden and Wachtell on the ongoing “corporate purpose” debate. One member pointed out that this is a revival of the old 1980s Skadden v. Wachtel debates when Joe Flom (now deceased) and Marty Lipton (clearly alive) made themselves famous in the hot times of corporate raiding by touring with show about their rival forms of takeovers and defenses.
Here’s an old University of Michigan newsletter that recounts a panel discussion including these two giants. And here’s a recent interview of Marty Lipton in “Business Law Today,” in which he comments that those touring days might have been the point when he knew he was a leader in the field:
JP: Was getting attacked by the folks from the Chicago School the time that you felt like, “OK—I’ve made it on the national stage”? When did you realize that you’re a leader in this field?
ML: I don’t know whether that’s possible to answer. I would say mid-’80s with the poison pill more than anything else. I certainly wasn’t an intellectual leader. From 1976, when Steve Brill wrote an article (“Two Tough Lawyers in the Tender-Offer Game,” NY Mag., 1976) about Flom and myself being the two lawyers on opposite sides in tender offers, I was a known quantity, and people were calling who didn’t know me but just from reputation were seeking representation in takeover situations. So it’s hard to say.
Tomorrow’s Webcast: “CEO Succession Planning in the Crisis Era”
Tune in tomorrow for our webcast – “CEO Succession Planning in the Crisis Era” – to hear Kerry Burke of Covington, Rusty O’Kelley of Russell Reynolds and Amy Seidel of Faegre Drinker discuss the CEO succession planning alternatives that are available to boards, analyze how to maintain a succession plan that’s adaptable to a dynamic business environment and highlight legal, contractual and disclosure minefields to avoid.
Last month, John blogged that the universal proxy proposal was on the SEC’s Reg Flex Agenda for finalizing in the near-term. Now, this letter from an informal “Universal Proxy Working Group” – consisting of 15 heavy-hitters from Wachtell, CII, Broadridge, CalSTRS, DF King, Wilson Sonsini, Trian, and others – is urging Corp Fin to consider common observations on the proposal as the Commission potentially nears the finish line. While the letter mostly supports the 2016 proposal, it makes a few suggestions. Here’s an excerpt:
– We support requiring disclosure on the universal proxy cards or in their accompanying materials (as well as in the definitive proxy statements), of the effect of: voting on the universal proxy card for more candidates than available board seats; voting on the universal proxy card for fewer candidates than available board seats; and signing and returning an otherwise unmarked universal proxy card.
– We support the Proposing Release’s presentation and formatting requirements, which advance the above objectives without compelling opposing sides to produce identical cards or co-ordinate the creation of a single universal proxy card. We believe both of these alternative models could cause unnecessary disruption for market participants accustomed to the circulation of two competing cards. The core improvement we seek is the ability of shareholders to use any proxy card they choose to vote for any combination of board nominees they prefer.
– We acknowledge that the presentation and formatting requirements described in the Proposing Release are not necessarily exhaustive of all appropriate requirements to ensure clarity, ease of use and fairness in an orderly process, and that further requirements, e.g., uniform presentation and formatting of the vote boxes beside the nominees, as well as standardized general colors for respective registrant and dissident cards, could be appropriate and helpful.
– While the Proposing Release centers on the universal proxy card, we would favorably view the SEC Staff having authority where necessary and appropriate to also facilitate the fair presentation of all nominees on vote instruction forms (VIFs) and electronic proxy voting platforms in the context of proxy contests.
– While the Proposing Release requires the dissident to solicit holders of shares representing a simple majority of outstanding voting power, the majority of the UPWG participants believe that requiring the solicitation of holders of two-thirds of outstanding voting power could also be workable,while commanding broader comfort that the threshold strikes an appropriate balance between providing the utility of the universal proxy system and precluding dissidents from capitalizing on the inclusion of dissident nominees on the registrant’s card without undertaking meaningful solicitation efforts. A requirement to solicit the holders of all outstanding votes would ensure that no shareholder is disenfranchised, but would not strike an appropriate balance, in the view of the majority of UPWG participants, especially taking into account the fact that dissidents generally are not reimbursed for their proxy solicitations (regardless of whether the solicitation fails or succeeds).
Other near-term SEC rulemaking initiatives appear to have less consensus support. As reported in this blog from Cooley’s Cydney Posner, an appropriations bill recently passed by the House says that SEC funding can’t be used to finalize, implement, administer or enforce rules that would:
– Change procedural requirements or raise resubmission thresholds for shareholder proposals
– Harmonize private offering exemptions without strengthening filing requirements for exempt offerings in the same or stronger manner as proposed in 2013
Cydney notes the possibility that these provisions could be jettisoned in the Senate’s version of the bill.
More on “What Does ESG Mean to You and Me?”
Lynn ran a guest blog last week from Rhonda Brauer about the meaning of ESG. We received several responses, including this 39-minute interview that our friend Keir Gumbs gave to Berkeley Law’s “ESG Beat.” It’s an engaging recap of how Keir came to work at Uber, what the company is doing on ESG issues, and who is driving that progress.
SEC Personnel Changes: On a Roll
Not only did we see Senate confirmations last week for two SEC Commissioners, the Commission also announced that Enforcement Co-Director Steven Peikin is stepping down, after three years on the job. Stephanie Avakian will remain as the Enforcement Division Director.
In addition, Lindsay McCord was named Chief Accountant in Corp Fin. The SEC’s press release notes that Lindsay has served as Acting Chief Accountant since March, and prior to that was a Deputy Chief Accountant in the Division.
The SEC isn’t the only organization making changes. The CII bid farewell to its leader Ken Bertsh last week, with Amy Borrus taking over as planned as Executive Director. Congratulations to both Ken and Amy!
Last week, the WSJ reported that the SEC is investigating the circumstances around Eastman Kodak’s announcement of a $765 million government loan to make COVID-19 pharmaceuticals at its US factories (which is now apparently on hold due to the probe). As a case study in “what not to do,” this is a pretty good one. Don’t:
1. Grant options the day before a positive announcement – especially if the options can be immediately exercised, and even if the recipients say they won’t sell the shares
2. Allow insiders to buy or sell shares while in discussions about a material deal
3. Share unembargoed press releases with media outlets before the company’s official announcement
As we see time and time again with insider trading allegations around big corporate news events, even if trading activity is consistent with prior transactions, the optics are terrible. Several members of Congress sent this letter to SEC Chair Jay Clayton to request an investigation into the Kodak transactions – as did Senator Elizabeth Warren (D-Mass.) in her own letter.
Senator Warren’s letter also calls attention to the Reg FD implications of non-intentional disclosure of material nonpublic information. The alleged problem here was that Kodak sent a news advisory to media outlets a day before its official announcement. The WSJ confirmed that the company didn’t provide any embargo instructions to prevent the press from sharing the info.
I don’t think that you could call what happened a “leak,” given the info was intentionally released – but at any rate, shares spiked as the news trickled out, and arguably not everyone had access to the same information. For example, investment firm “bots” had a big advantage as they crawled the web. Instead of immediately making its own announcement, Kodak asked the reporters to remove their articles. However, that may have been an incomplete solution since some stories had already been captured by screen shots, social posts and search engines.
Don’t let this happen to you. Read our “Reg FD Handbook” for more guidance on how embargoes can protect you from a violation. And if you’re a “Reg FD junkie” – as many of us are – check out the podcast series that our very own Dave Lynn has been curating for the SEC Historical Society, to celebrate the 20th anniversary of its adoption.
Remote Work: Questions Audit Committee Chairs Are Asking
The risks of remote work are top of mind for audit committee chairs right now, according to this PCAOB memo. Here are some questions they’re discussing with their auditors (also see this Cooley blog – and my blog last month about disclosure controls):
1. Will additional time be needed to get the audit work done remotely?
2. What complexity does working remotely add to the audit?
3. Will working remotely affect productivity of audit engagement team members?
4. If so, does the audit plan need to be updated, and do fees need to be revisited?
5. Has remote work affected the company’s ICFR? If so:
– Is the auditor including new controls in their assessment, or evaluating changes to existing ones?
– Has the auditor identified any concerns with respect to segregation of duties?
6. If a review of the issuer’s interim financial information has been completed already, are there any lessons learned that can be applied to the year-end audit?
7. Are there any technology enhancements or collaborative tools that should be considered to support longer-term remote work?Has the auditor assessed potential risks of material misstatement related to cybersecurity, and how does the auditor plan to respond to those risks?
Transcript: “Coronavirus: Next Steps For Disclosure & Governance”
We have posted the transcript for our recent webcast: “Coronavirus: Next Steps For Disclosure & Governance.”
Late yesterday evening, the Senate confirmed the nominations of Hester Peirce and Caroline Crenshaw to serve as SEC Commissioners by a voice vote. SEC Chair Jay Clayton and Commissioners Elad Roisman and Allison Lee issued a statement of congratulations and news was first reported in ThinkAdvisor. Commissioner Peirce was first sworn in on January 11, 2018 and her new term will end on June 5, 2025, while Commissioner Crenshaw’s term will end on June 5, 2024.
CPRA: California 2020 Ballot Initiative Means Potential Changes to CCPA
Back in May, I blogged on the Mentor Blog about California’s ballot initiative – the California Privacy Rights Act (CPRA). And, earlier this summer, I also blogged about the release of final CCPA regulations as California’s Attorney General began enforcement of the regulations July 1. Now, as has been widely reported, the CPRA initiative has qualified to be on California ballots in November. This Sidley blog says the initiative has a strong chance of passing and provides an overview of what this might mean:
In the short term, the CPRA will help businesses by preserving through 2022 the employee and business-to-business exemptions that are otherwise scheduled to sunset on December 31, 2020. Some of the potential changes, among others, relate to new duties imposed on businesses that collect personal information and their service providers, new rights for sensitive personal information and expansion of data breach liability to include email addresses with passwords.
The blog notes that the CPRA would create a requirement for annual cybersecurity audits and regular risk assessments for high risk data processors – Businesses whose processing of consumers’ personal information “presents a significant risk to consumers’ privacy or security” would be required to perform annual cybersecurity audits and submit to the new California data protection agency, “on a regular basis,” risk assessments weighing the benefits of processing personal information to the business, the consumer, other stakeholders, and the public, against the potential risks to the consumer.
Presuming the initiative passes, Sidley’s blog suggests company compliance efforts begin soon thereafter – while most of the CPRA would not go into effect until January 2023, obligations of businesses with respect to the personal information covered by the amended CCPA would relate to personal information collected beginning in January 2022.
More on “The Mentor Blog”
We continue to post new items daily on our 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 entering their email address on the left side of that blog. Here are some of the latest entries:
– IPOs: Company-Friendly Directed Share Programs
– Considerations for Mitigating ESG Disclosure Risk
– Main Street Lending Program: Updated Fed Guidance
In this third 30-minute podcast tribute to his friend & “Radio Show” co-host Marty Dunn, who died on June 15, 2020, Dave Lynn welcomes Marty’s colleagues from Corp Fin, private practice and the conference circuit to share their memories of Marty. Highlights include:
– The art of being subtle
– Marty’s fondness for the ‘Original Ledos’
– Marty’s humble leadership
– Crazy, cool new projects Marty couldn’t resist
– Work on the 2007 Reg D Proposing Release as Marty prepared to leave the SEC for private practice
– Marty’s reaction when seeing himself on the “big screen” at conferences
– Marty’s personable, friendly nature
Secure FTP for Supplemental Materials & Rule 83 CTRs
Earlier this week, in response to continued health and safety concerns from Covid-19, Corp Fin issued a statement providing a temporary secure file transfer process for submission of supplemental materials pursuant to Securities Act Rule 418 and Exchange Act Rule 12b-4 and information subject to Rule 83 confidential treatment requests.
Supplemental Materials: Securities Act Rule 418 and Exchange Act Rule 12b-4 permit the Commission or its staff to request certain supplemental materials. The secure file transfer process allows for electronic submission to the Division of supplemental materials submitted pursuant to Rules 418 and 12b-4 during this temporary accommodation, including supplemental materials subject to a Rule 83 confidential treatment request.
Rule 83 Confidential Treatment Requests: The Commission’s Rule 83 provides a procedure by which persons submitting information may request confidential treatment for portions of that information where no other confidential treatment process applies. Information subject to a Rule 83 confidential treatment request must be, to the extent practicable, submitted separately from information for which confidential treatment is not requested, appropriately marked as confidential, and accompanied by a separate written request in paper format for confidential treatment. Although Rule 83 requires that confidential treatment requests be submitted in paper format, the rule also permits the designation of alternative procedures. The secure file transfer process allows for electronic submission to the Division of Rule 83 requests for confidential treatment together with the confidential information during this temporary accommodation. A copy of the request for confidential treatment (but not the confidential information itself) must also be submitted to the Commission’s Office of FOIA Services.
Anyone wishing to submit information using FTP should contact the staff member associated with the matter to request the initiation of FTP. The statement also advises not to send supplemental information or Rule 83 CTRs through email. Supplemental information and information subject to Rule 83 CTR can still be sent to the SEC mailroom, however, the statement says there will be delays in processing the documents.
This Gibson Dunn memo reviews SEC enforcement activity during the first half of 2020. The memo includes discussion of the SEC’s Enforcement Division priorities in light of the Covid-19 pandemic as well as several enforcement actions against parties that allegedly sought to take advantage of the pandemic. In terms of public company cases, here’s an excerpt about financial reporting enforcement actions:
In February, the SEC instituted a settled action against a financial institution for allegedly misleading representations concerning the success of its cross-selling business strategy. According to the settled order, the cross-sell metric reflected accounts and services that were unused and unauthorized by customers, and that had been opened through sales practices inconsistent with the company’s disclosure of a needs-based selling model. Without admitting or denying the allegations, the firm agreed to cease and desist from future violations and to pay a civil penalty of $500 million for distribution to investors. The settlement was part of a broader resolution with the Department of Justice.
Also in February, the SEC filed an action against a parent company, two of its former executives, and its energy subsidiary for allegedly making misleading statements about the subsidiary’s nuclear power plant expansion. According to the complaint, which was filed in federal court in South Carolina, the defendants represented that the company was on track in its plan to build two plants and receive nearly $1 billion in tax credits, even though they knew the company was behind schedule and the plan was eventually abandoned.
Commissioner Roisman recently shared his thoughts on ESG and asked what the term means to “You and Me”. Such keynote speeches are often meant to be provocative, and reasonable minds can differ. Given my experience advising both corporate and investor representatives, this is what ESG means to me:
(1) ESG is a three-syllable acronym that has come to be associated with significant issues that impact the long-term sustainability of companies, our capital markets, capital formation and society. You can find different articles about its origin, but that’s not really the point. Environmental, Social and Governance issues vary in importance across companies and industries, and they appropriately evolve over time. It is important that management teams and boards think about whether and how these issues are financially material to their companies over different time horizons, generally acknowledging that they need to get their “G” right in order to get their “E” and “S” issues right.
(2) It is well established that “financial materiality” under our federal securities laws is what a reasonable investor would consider important in making investment or voting decisions. Nevertheless, I still see some confusion as to which ESG disclosures belong in SEC-filed documents. Many reasonable investors have decided that both filed and unfiled ESG information is material to their investment and voting decisions, which is supported by research (see note 10) linking positive financially material ESG indicators to superior financial results. These investors want to find this information in the public domain, and want the information to be accurate, relevant and comparable, which I believe necessitates explicit disclosure requirements.
The SEC has considered mandated disclosures in the past (see notes 37-39) as a way to provide relevant and comparable data, as opposed to the inconsistent “private ordering” of ESG disclosures championed by Commissioner Roisman. In the meantime, manyinvestors are urging their portfolio companies to disclose information pursuant to the Sustainability Accounting Standards Board (SASB) standards and the recommendations of the Task Force on Climate-related Financial Disclosures (TCFD). Both of these frameworks use the SEC definition of financial materiality. The SASB identifies financially material issues using their research, back-testing and feedback from shareholders, companies and other financial market participants.
(3) ESG is part of Enterprise Risk Management (ERM). ERM oversight is a core board responsibility. Companies generally consider ESG as part of their long-term ERM, to understand, monitor and address risks to, and opportunities for, them and their businesses. Contrary to Commissioner Roisman’s statements, this is not a feel-good company exercise about “doing its part” in the world. Effective board understanding and oversight of ERM are relevant to investors and the long-term viability of their portfolio company investments. The SEC has recognized the importance of this board role by requiring that companies explain the board’s risk oversight to their investors in their annual proxy statements.
(4) Investors want and use ESG data to analyze and protect their financial interests and those of their clients or beneficiaries, not – again in Commissioner Roisman’s words — because they are “thinly veiled political operatives pushing their own agendas”, nor are they “grandstanding” or “conflat[ing] greater societal debates” and “blur[ing] their personal views” with what should be required disclosures. The U.S. Government Accountability Office (GAO) recently published a report, confirming that investors want corporate ESG disclosures to better understand and compare their investment risks, as well as to inform their decisions on voting and buy/sell actions.
Investors and other stakeholders may share their ESG concerns with companies, but these concerns are not presumptively “demands” and “pressure”. Hopefully companies are already monitoring ESG issues that they consider to represent financially material risks and opportunities, as well as making the related capital allocation decisions that benefit their businesses and our capital markets more broadly. Risk management of ESG issues is not a simple corporate responsibility, especially as the issues become more complex and interrelated for companies and our financial markets, communities, and planet.
The G&A Institute has reported that 90% of S&P 500 companies are already publishing voluntary sustainability reports, using many of the sustainability disclosure frameworks as guides. Yet, this voluntary reporting, accompanied by the principles-based approach currently used for disclosure in SEC filings, seems to fall short of providing comparable and reliable information to investors and does not provide a consistent framework to companies, making it difficult for them to discern which information and formats are relevant to investors. Mandated ESG disclosures would more strongly and efficiently support the three-part SEC mission on which Commissioner Roisman is rightly focused.
Comment Letters Pouring in for DOL’s Proposal on ESG Investing
Earlier this summer, Liz blogged on our “Proxy Season Blog” about the Department of Labor’s proposed amendments to the “investment duties” regulations for ERISA plan fiduciaries. The full impact of the proposed rule isn’t exactly known but as this Groom Law Group memo explains, it’s generally viewed as creating significant challenges for ERISA plan fiduciaries considering ESG investing. The proposal had a relatively short comment period, but even so, it’s generated a flurry of comment letters – this DOL web page catalogs over 1000! As the headline for this ThinkAdvisor blog notes, the proposal is drawing quite a bit of criticism – here’s an excerpt:
Opposition to DOL’s proposal to limit ESG-focused investments in 401(k) plans is growing, along with requests for a longer comment period. Morningstar, Heartland Capital Strategies, Principles for Responsible Investment and ISS have written comment letters opposing the proposal along with 41 Democratic members of the House, 13 Democratic members of the Senate and others. In addition, a coalition of trade groups representing financial institutions with business in the defined contribution space requested an extension to the 30-day comment period that ended on July 30. Opposition to the proposal centers on these primary arguments:
– Negative impact on investors: limiting ESG investments could increase risks and costs of plans, threaten performance and discourage plan participation by those who want to match investments to their values
– Inconsistency with other DOL rules: the proposal singles out one type of investment focus when it doesn’t do the same for others
– Burden for plan sponsors: this could have the effect of discouraging their use of ESG-focused investments, causing ‘even worse outcomes for plan participants’ according to Morningstar
– An outdated understanding of the role that ESG factors play in the current investment environment
For more, these letters from American Benefits Council, CII, ISS, Investment Company Institute and Wagner Law Group criticize the rule proposal, with some offering suggestions for modifications. Also, Cyrus Taraporevala, SSGA’s President & CEO, penned an opinion piece in the Financial Times saying the DOL’s proposed rule “misunderstands what matters to performance and should be withdrawn.” In addition to the proposed rule, the DOL Employee Benefits Security Administration is apparently looking into ESG investments – attached is a sample inquiry letter that it has sent to some plan sponsors. It’s not clear if EBSA will treat this as a formal investigation – so stay tuned!
Tomorrow’s Webcast: “ESG Data: Investor Use-Cases and Corporate Adoption”
Tune in tomorrow for the webcast – “ESG Data: Investor Use-Cases and Corporate Adoption” – co-hosted by ISS Corporate Solutions and CCRcorp – to hear to hear Nicole Bouquet of ISS Corporate Solutions, Rhonda Brauer of RLB Governance and Mary Morris of CalSTRS discuss an overview of the ESG landscape and how investors are increasingly using ESG data to make investment decisions.
Following the killing of George Floyd, attention has increased on diversity and inclusion, among other matters. Earlier this summer, Liz blogged on our “Proxy Season” Blog that company “anti-racism” statements could lead to more scrutiny of corporate political spending.
Now, with increased focus on “E&S” as a backdrop, this “Conflicted Consequences“ report from the Center for Political Accountability finds that corporate political spending through non-profit, tax-exempt “527” organizations often doesn’t align with company statements in support of environmental & social issues. The report examines corporate political spending over the last decade and how those funds were used to fund political efforts that have turned out to be contradictory to company public statements. CPA made a bit of a splash with this report, as it received coverage in the NYT and Financial Times the same day of the report’s release. Here’s an excerpt from the Foreword, explaining the concern with “527” political spending:
The intermediate organizations that these companies finance often direct that money in ways that belie companies’ stated commitments to environmental sustainability, racial justice, and the dignity and safety of workers. To take just one of the many instances this report recounts, large donations channeled through these organizations helped North Carolina Republicans take control of the state legislature in 2010. They used that control to institute extreme gerrymanders of both the state legislature and the state’s delegation to Congress, and to pursue a range of divisive and anti-democratic policies, including restrictions on LGBTQ rights and new rules designed to impede the access of black voters to the polls.
Both the NYT and FT cite specific examples of apparent disconnects between company support for issues and ultimate beneficiaries of company “527” donations. Cydney Posner’s blog discusses the report and cites a 2018 CPA report with guidance for companies to address heightened risk of potentially conflicting messages. Among other suggestions, it suggests companies conduct due diligence of risks associated with any donation, including how the funds will be used and with whom the company is being associated by virtue of the donation. If this heightened scrutiny continues as we move into election season and beyond, it could be a big deal for companies, especially in light of the increased focus lately on corporate purpose.
What to do About “Social” Risk
Besides conducting due diligence on risks associated with donations, boards delegate various oversight responsibilities among its committees and social risk is a responsibility likely shared among all committees and the full board. Social risk can be more difficult to get your arms around as it’s not entirely clear when or where an event might arise nor exactly how it will be triggered but it’s one risk that can invite scrutiny from customers, employees, regulators and the general public. A recent article from researchers at Stanford’s Corporate Governance Research Initiative examined social risk, noting that the primary cause of damage is reputational, such as risk from unwanted scrutiny of corporate political spending.
The article provides the following recommendations to help boards prepare for, manage and mitigate social risk:
– Use knowledge of the past to inform future plans: examine social risk events that have impacted peer groups and related industries and evaluate patterns about how risk events have evolved over time
– Conduct scenario planning to identify the highest likelihood risk events: based this analysis on events most likely to manifest given the company’s industry, profile and vulnerabilities and quantify the potential impact by looking at brand, product, suppliers, employees and overall reputation
– Prepare responses and identify the resources necessary to prevent or mitigate the highest likelihood risks: consider both preventative and responsive measures over both short-term and long-term time horizons and develop resources, programs and policies to protect the company going forward
July-August Issue of “The Corporate Counsel”
The July-August issue of “The Corporate Counsel” print newsletter was just posted – and also sent to the printer (try a no-risk trial). The topics include:
– In Memoriam: Marty Dunn
– What’s in a Name? The SEC Amends “Accelerated Filer” and “Large Accelerated Filer” Definitions
– The Curious Case of Public Companies and the PPP
– COVID-19 Disclosure: What Does the SEC Want to See in Your MD&A?
– Covid-19: Chief Accountant’s Statement Emphasizes Financial Reporting Process
– “Going Concern” Rears Its Ugly Head
– SEC Amends Proxy Rules to Address Voting Advice by Proxy Advisors