Activist hedge funds are usually considered a potential threat by public company management, but that’s not always the case. A recent study takes a look at the phenomenon of “validation capital,” where hedge funds take a position in a company and protect management from other activists as they implement the company’s strategy. Here’s an excerpt from the abstract:
Although it is well understood that activist shareholders challenge management, they can also serve as a shield. This Article describes “validation capital,” which occurs when a bloc holder’s—and generally an activist hedge fund’s—presence protects management from shareholder interference and allows management’s pre-existing strategy to proceed uninterrupted.
When a sophisticated bloc holder with a large investment and the ability to threaten management’s control chooses to vouch for management’s strategy after vetting it, this support can send a credible signal to the market that protects management from disruption. By protecting a value-creating management strategy that might otherwise be misjudged, providers of validation capital benefit all shareholders, including themselves.
These arrangements often involve side payments to the hedge funds providing the muscle, which the authors acknowledge creates the potential for a corrupt bargain – but they conclude that legal and market forces make that an unlikely outcome. They claim that empirical data from hedge fund activism events supports that conclusion. This “Institutional Investor” article discusses the study, and cites Trian’s 2014 investment in BNY Mellon as an example of validation capital.
Earlier this month, Sen. Pat Toomey (R-PA) & other Republican members of the Senate Banking Committee sent a letter to Acting SEC Chair Allison Herren Lee urging the SEC to reject Nasdaq’s board diversity listing proposal.
While acknowledging the potential benefits of board diversity, the letter contends that Nasdaq’s proposal would interfere with “a board’s duty to follow its legal obligations to govern in the best interest of the corporation and its shareholders,” violate the materiality principle that governs securities disclosure & harm economic growth by imposing costs on public companies and discouraging private companies from going public. Okay, those may be reasonable criticisms – but I rolled my eyes at this part of the letter:
The materiality doctrine prevents the development of an unstable, politicized securities regime that would be ripe for abuse of power. Without it, political factions could use securities regulations to advance the latest social policy fad, sidestepping democratic deliberation. Securities regulation would become a political football, as all sides of a social policy issue would fight to enshrine their perspective into regulation.
Sen. Toomey & his colleagues undoubtedly intended their statement about securities regulation becoming a “political football” as a warning about a future regulatory dystopia. Unfortunately, it seems more like a pretty accurate description of the past several years at the SEC, where the outcome of virtually all major regulatory proposals has been decided by a 3-2 vote along unbending partisan lines. That’s a situation that seems unlikely to change in the near future.
Contracts: SDNY Says the Pandemic is a “Force Majeure”
This Shearman blog reviews the SDNY’s recent decision in JN Contemporary Art v. Phillips Auctioneers, (SDNY; 12/20), in which Judge Denise Cote held that an auction house was permitted to terminate an agreement because the pandemic constituted a “natural disaster” within the meaning of the agreement’s force majeure clause. This excerpt discusses Judge Cote’s reasoning:
The Court held that the COVID-19 pandemic and related government restrictions on business activity were “squarely” within the agreement’s force majeure clause, which allowed the auction house to terminate the contract if the auction were postponed due to “circumstances beyond [the parties’] reasonable control.” First, the Court concluded that it could not be “seriously disputed” that COVID-19 constituted a “natural disaster” as the pandemic was an event “brought about by nature” and a “natural event that cause[d] great damage or loss of life.”
Second, the Court determined that the COVID-19 pandemic was the type of “circumstance” envisioned by the clause because the enumerated examples included environmental calamities and “also widespread social and economic disruptions.” The COVID-19 pandemic fell within that category, the Court noted, as it was “a worldwide public health crisis that has taken untold lives and upended the world economy.”
The blog says that this decision is among the first to explicitly hold that the pandemic qualifies as a “natural disaster” under a contractual force majeure clause.
In news that may throw an 11th hour monkey wrench into the finalization of a number of 10-K filings, Acting SEC Chair Allison Herren Lee issued a statement yesterday in which she directed Corp Fin to take a hard look at companies’ climate change disclosures. Here’s an excerpt:
Today, I am directing the Division of Corporation Finance to enhance its focus on climate-related disclosure in public company filings. The Commission in 2010 provided guidance to public companies regarding existing disclosure requirements as they apply to climate change matters.
As part of its enhanced focus in this area, the staff will review the extent to which public companies address the topics identified in the 2010 guidance, assess compliance with disclosure obligations under the federal securities laws, engage with public companies on these issues, and absorb critical lessons on how the market is currently managing climate-related risks. The staff will use insights from this work to begin updating the 2010 guidance to take into account developments in the last decade.
You may recall that a few years ago, the GAO took a look at the SEC’s actions since it issued climate change disclosure guidance. The GAO report expressed some concern with the Staff’s level of training on climate related disclosures, so that may present some challenges for everyone involved in the review process. Those training shortcomings may well have been addressed in the years following the GAO report, but there’s still the matter of the lack of uniformity in climate change disclosures that the GAO report also noted.
Finally, the SEC hasn’t exactly been cracking the disclosure whip on climate change in recent years, so the Staff’s likely to find a fairly target rich environment when it reviews existing climate disclosures. Add all of that up, and, well, in the words of Bette Davis, “fasten your seat belts, it’s going to be a bumpy night.”
Now is probably a good time to refresh yourself on the SEC’s 2010 guidance, and to review the other resources in our “Climate Change” Practice Area. If you want to get a sense for where the SEC may be heading in this area and the broader ESG disclosure category, check out this blog from Cooley’s Cydney Posner.
Disclosure: ESG Top Priority for Corp Fin’s Acting Director
Acting Chair Lee & Corp Fin’s Acting Director John Coates are clearly “singing from the same hymnal” when it comes to increasing the agency’s emphasis on climate change and other ESG disclosures. In fact, according to this Bloomberg Law article, ESG is Coates’ top disclosure priority. Here’s an excerpt:
A Harvard Law School professor who has pushed the SEC to update its corporate disclosure requirements on climate change and other ESG issues is now planning to turn his words into action as an agency insider. John Coates, who joined the Securities and Exchange Commission on Feb. 1 as acting director of its Division of Corporation Finance, is poised to play a leading role in any agency action to boost companies’ environmental, social, and governance disclosures, following his work on the issues at Harvard and on an SEC advisory panel.
Under his guidance, the SEC’s Division of Corporation Finance could enhance its focus on climate disclosures when it reviews companies’ filings. It also could start working on rules to mandate more corporate reporting on climate change and other ESG matters. He may even play a role in requiring disclosures on companies’ political spending, if Congress allows the SEC to act.
“If I were to pick a single new thing that I’m hoping the SEC can help on, it would be this area,” Coates said about ESG in an interview with Bloomberg Law.
A recent Reuters article also quotes Coates as saying that the SEC “agency ‘should help lead’ the creation of a disclosure system for environmental, social and governance (ESG) issues for corporations.”
Zoom Etiquette: No Jammies in Chancery Court!
It turns out that “Cat Lawyer” wasn’t the only member of the bar who fumbled a Zoom hearing in recent months. Francis Pileggi recently provided some guidance on his blog about “protocols & professionalism” for remote hearings. He included a number of helpful links to information from the Delaware courts, but it was a link to a recent letter from Vice Chancellor Slights that caught my eye. This excerpt from that letter suggests that one lawyer involved in a hearing would have been better off using a cat filter instead of taking a “come as you are” approach:
Mr. Weisbrot’s email states that I would not consider an application from him because he was “not wearing a tie.” That is true, as the record reflects. What the record also reflects is that Mr. Weisbrot appeared in court for trial (via Zoom) on Tuesday in either a printed tee-shirt or pajamas (it was difficult to discern).
Egads! Look, we long ago established that I don’t know much about fashion, but even I would think twice about showing up for a Chancery Court hearing in my “Dragnet” tee-shirt.
This Bryan Cave blog provides some helpful input about the SEC’s recently adopted electronic signature process – a topic that we’ve received a lot of questions about in our Q&A Forum. Here’s an excerpt addressing a common area of uncertainty: will the authentication requirements be met if a company emails a document for signature and asks that the recipient reply by email affirmatively indicating approval of the filing?
Many take the more conservative view that affirmative reply emails, without added features, are not sufficiently secure to authenticate the signer’s identity. For example, someone other than the signer may have access to his or her email account and the ability to send affirmative reply emails on his or her behalf. Similarly, someone could theoretically walk by an unoccupied computer and send a reply email.
Another view is that an affirmative reply email in and of itself should be a sufficient “logical or digital” authentication as long as the attestation form confirms the signatory’s email address to be used for that purpose.
We recommend that unless and until the SEC provides guidance, companies proceed with caution in using “affirmative reply” emails to authenticate signatures, and that, to the extent practicable, they consider adding features such as those discussed in Item 3 below.
As the blog’s response suggests, the details surrounding the authentication requirement are somewhat murky, and this is an area where experienced practitioners disagree on the right approach. Some guidance from the Staff on this and other electronic signature-related topics would be helpful. Sure, this is pretty mundane stuff – but worrying about the mundane stuff probably accounts for the vast majority of sleepless nights among securities lawyers.
Activism: The Pandemic as a Catalyst
Last year’s proxy season saw a decrease in the number of activist campaigns, as pandemic-related disruptions during the early spring early raised investor concerns about the potential for opportunistic behavior among activist hedge funds. This recent Deloitte report suggests that this year may be a different story – and that some of the changes brought about by the pandemic may serve as a catalyst for activism. Here’s an excerpt:
In another intriguing example of how dramatically things have changed in the past year, labor productivity in the United States jumped even as companies scrambled to adjust to the economic upheaval. Worker productivity growth in the United States had been essentially flat in the decade since the Great Recession, but through the first three quarters of 2020, it jumped.
This may be a macroeconomic clue that points to unexpected value in our new ways of doing business—increased digital interaction with their customers, or workforce changes such as work-from-home. Activists are likely to see in this and other “disconnects” new opportunities for boosting margins that can be added to their playbooks. As a result, we may see activists pushing companies to pursue digital transformation or change product mix based on the lessons of the crisis.
The report suggests that the typical advice to boards – “think like an activist” – is even more important this year. The focus on margin improvement is a case in point. Activists will typically look for opportunities to improve a company’s performance in three main areas: revenue growth, margin enhancement, or portfolio changes. Boosting margins is often a more attractive option than revenue growth, because smaller gains can have a bigger impact on the bottom line.
Transcript: “Shareholder Proponents Speak – 14a-8 Fallout & Other Initiatives”
We have posted the transcript for the recent webcast – “Shareholder Proponents Speak: 14a-8 Fallout & Other Initiatives.”
In response to the events of last summer, many companies announced actions designed to showcase their commitment to racial & ethnic diversity. Global private equity colossus The Carlyle Group was one of them. Last August, Carlyle announced a new policy calling for at least one candidate who is Black, Latino, Pacific Islander or Native American to be interviewed for every new position. Carlyle also committed to ensuring that that 30% of its portfolio companies’ boards were ethnically diverse.
Corporate commitments like these were a dime a dozen in the long, hot summer of 2020, but Carlyle looks like it just might mean business. This recent NYT article describes a new $4.1 billion credit facility that the firm established for its portfolio companies that ties pricing to the diversity of a company’s board:
The credit facility is an extension of Carlyle’s goal for the boards of the companies in its portfolio to have a diversity rate of at least 30 percent by next year. Nearly 90 percent of its companies now meet its 2016 goal of having at least one director who is a woman or ethnic minority for companies in the United States or, for companies outside the United States, one director who is a woman.
The firm says the effort is good for business: In a study of its portfolio companies, Carlyle found that firms with two or more diverse board members recorded annual earnings growth 12 percent higher than those with fewer diverse directors.
The Times article says that Carlyle’s effort to use the tools of private equity to promote diversity initiatives is part of a broader trend in ESG investments. It points out that debt issuance in support of sustainability efforts hit a record $732 billion last year – a 26% increase from the prior year.
ESG: The Rise of Sustainable Finance
If that $732 billion number caught your eye, check out this Wachtell Lipton memo, which highlights how rapidly the market for ESG-related debt financing is growing and broadening. Here’s the intro:
In the midst of the Covid pandemic, issuances of green, social, sustainable and sustainability-linked financing products have surged. Once solely available in the investment grade space, ESG-related debt issuance has expanded into the high-yield market. Likewise, sustainable finance is not just for European issuers anymore; it has jumped the pond and landed in the mainstream in the United States. Notably, private equity sponsors and their portfolio companies have recently joined strategic companies as ESG issuers.
As we expected, the credit markets have sent two unequivocal messages as companies increasingly signal their commitment to accountability on ESG issues: (i) ESG risk is credit risk and (ii) investors are willing to pay modest subsidies to support progress on ESG issues. Massive inflows into ESG-oriented investment funds and seemingly insatiable demand for ESG-related issuances have led to “greenium” pricing (i.e., a lower cost of capital for issuers) of many ESG-related issuances. Moreover, credit rating agencies are increasingly factoring ESG risks – including related regulatory risks – into their ratings, as are credit committees at banks into their determinations.
The memo reviews common sustainable finance product types and urges companies considering tapping into this financing to consider in advance what KPIs could form the basis for an ESG-related bond or loan. Those companies also need to consider how their existing sustainability reporting can support sustainable finance, because investors will want periodic disclosure on the relevant metrics & their drivers.
Key Performance Indicators: Recent Staff Comments
Early last year, the SEC issued an interpretive release providing guidance on disclosure of key performance indicators in MD&A. Just to make sure they had everyone’s attention, they quickly followed that up with an enforcement action targeting allegedly misleading KPI disclosures. KPI disclosures have remained the subject of close Staff scrutiny since that time, and this recent Bass Berry blog looks at recent Staff comments touching on these disclosures.
The blog focuses on comments directed at the determination of whether a KPI was a non-GAAP financial measure or an operational metric & on disclosure of KPI trends, and includes excerpts from Staff comment letters & responses. It’s definitely worth reading before your next SEC filing.
Compliance with the changes to Reg S-K’s financial disclosure rules doesn’t become mandatory until August 9th, but companies are permitted to early adopt the changes on a line item-by-line item basis as of the February 10th effective date. One of those changes eliminates Item 301 of S-K and its requirement to include selected financial data in a company’s 10-K filing. If you’re still trying to decide what to do about selected financial data in your 10-K, Jenner & Block has some help for you.
The firm surveyed 100 Form10-K filings made after the February 10th effective date of the rules by large accelerated filers & accelerated filers to see what companies were doing about selected financial data disclosure. This excerpt summarizes the survey’s findings:
Approximately 40% of the Sample Eliminated Item 301 Disclosure: On the balance, we found that companies were slightly more likely to include the selected financial data than to omit such information based on the sample we reviewed.
– 61 companies within the sample included the selected financial data in the Form 10-K
– 39 companies within the sample omitted the selected financial data in the Form 10-K
No Distinct Patterns within the Sample: We did not detect any concrete patterns with respect to industry or company size. Companies of all industries and sizes elected to include and omit the selected financial data.
For Companies that Early Adopted, Use of Disclosure Varied: Some companies elected to explain why the information was omitted, some omitted the item entirely from the Form 10-K, and some used “Reserved” or similar disclosure.
On this last point, I think that if you’re going to eliminate Item 301 disclosure, the better approach from a technical standpoint is to continue to include the caption “Item 6 – Selected Financial Data” in the 10-K. Here’s why – Item 6 is still included in Form 10-K, and Rule 12b-13 says that an Exchange Act report “report shall contain the numbers and captions of all items of the appropriate form. . .” It also says that unless the form provides otherwise, “if any item is inapplicable or the answer thereto is in the negative, an appropriate statement to that effect shall be made.”
So, while I doubt very much anybody will end up in SEC prison for just omitting Item 6 in its entirety, Rule 12b-13 indicates that you should continue to include it in your 10-K along with an appropriate statement about why you’re not disclosing the selected financial data that it calls for. Looking for an example? Check out Zillow Group’s 10-K.
Delaware Chancery: “You Do NOT Have the Right to Remain Silent. . .”
The last 12 months have certainly lent themselves to TV binge-watching. While most people binged on shows like “Tiger King” or “The Queen’s Gambit,” I took the road less traveled and binged on “Dragnet” reruns. Yeah, I know that’s a pretty eccentric choice, but I simply can’t get enough of Sergeant Joe Friday & his partners.
Sure, the acting’s wooden & the world view’s problematic, but the 1950s version of the show just may be TV’s greatest example of the film noir style. The preachy 1960s version wasn’t nearly as good as its predecessor, and was often absurdly campy, but whatever its faults, Dragnet remains the seminal police procedural. Like Jack Webb or loathe him, he’s an auteur, and you don’t get “Hill Street Blues,” “NYPD Blue,” “Law & Order” – or even “LA Confidential” – without him.
By now, you’re probably asking yourself – “Okay, how is this goofy boomer going to tie his odd Dragnet obsession into something corporate law related?” Well, hold my beer. . .
Back in the 1950s, Joe and his partners (of whom Frank Smith was indisputably the greatest) didn’t have to worry about niceties like Miranda warnings. That changed in the swingin’ 60s, and although you could always hear the edge in their voices when they did it, Joe & Bill Gannon never failed to advise a perp that he had “the right to remain silent.”
Now, unlike the perps Joe & Bill sent to San Quentin at the end of every show, a corporation doesn’t have a 5th Amendment right against self-incrimination. That’s because of something known as the “collective entity doctrine,” and a recent decision from – of all places – the Delaware Chancery Court makes it clear that’s the case even if you’re dealing with a single owner entity. The case involved a discovery dispute in which one of the parties, a single-member LLC, asserted the 5th Amendment in response to a document production request. Vice Chancellor Laster said no deal:
The overwhelming weight of federal decisions from the courts of appeals recognizes that the collective entity doctrine applies with equal force to a single-person entity. The United States Court of Appeals for the First Circuit has held that “the sole shareholder of a one-man corporation has no ‘act of production privilege’ under the [F]ifth[A]mendment to resist turnover of corporate documents.” The court explained that the choice to incorporate brings with it “all the attendant benefits and responsibilities of being a corporation,” including the responsibility “to produce and authenticate records of the corporation . . . .”
I just know that Joe Friday and Bill Gannon would have loved working a white collar beat. Dum-de-dum-dum. . .
Tomorrow’s Webcast: “Your CD&A – A Deep Dive on Pandemic Disclosures”
Tune in tomorrow for the CompensationStandards.com webcast – “Your CD&A: A Deep Dive on Pandemic Disclosures” – to hear Mike Kesner of Pay Governance, Hugo Dubovoy of W.W. Grainger and Cam Hoang of Dorsey discuss how to use your CD&A to tell your story and maintain high say-on-pay support, trends and investor expectations for COVID-related pay decisions, addressing “red flags” through storytelling, linking your CD&A to your broader ESG and human capital initiatives and ensuring consistency between your CD&A and minutes.
If you attend the live version of this 60-minute program, CLE credit will be available! You just need to submit your state and license number and complete the prompts during the program.
Members of CompensationStandards.com are able to attend this critical webcast at no charge. If not yet a member, subscribe now to get access to this program and our other practical resources. The webcast cost for non-members is $595. You can renew or sign up online – or by fax or mail via this order form. If you need assistance, send us an email at firstname.lastname@example.org – or call us at 800.737.1271.
Allianz has issued its annual “risk barometer” – which identifies the top 10 risks for the upcoming year based on a survey of nearly 2800 brokers, underwriters, senior managers and claims experts in the corporate insurance sector. It’s always a helpful read for identifying macro trends and issue spotting for your risk factors, although of course you need to tailor those to explain how the macro factors specifically affect your business.
“Business interruption” has been the top risk for 5 of the last 6 years – last year was the exception, with people worrying that cybersecurity would be the thing that kept us up at night in 2020. For 2021, “business interruption” is back at the top – which seems prescient in light of this week’s power grid failure in Texas and the SEC’s informal reminders to companies that they should have contingency plans to be able to carry on operations during emergencies. The risk of a pandemic outbreak is #2. Cyber incidents are hanging in there at #3 and are considered a potential “Black Swan.”
Here’s an excerpt:
When asked which change caused by the pandemic will most impact businesses, Allianz Risk Barometer respondents cited the acceleration towards greater digitalization, followed by more remote working, growth in the number of insolvencies, restrictions on travel/less business travel and increasing cyber risk. All these consequences will influence business interruption risks in the coming months and years.
The knock-on effects of the pandemic can also be seen further down the rankings in this year’s Risk Barometer. A number of the climbers in 2021 – such as market developments, macroeconomic developments and political risks and violence – are in large part a consequence of the coronavirus outbreak. For example, the pandemic was accompanied by civil unrest in the US related to the Black Lives Matter movement, while anti-government protest movements simmer in parts of Latin America, Middle East and Asia, driven by inequality and a lack of democracy. Rising insolvency rates could also affect supply chains.
All that said, only 3% of survey participants were worried about a pandemic at this time last year. So, one of the main takeaways I gleaned this year was that it’s pretty difficult to predict the “next big thing.”
Transitioning to “Non-Accelerated” Filer Status: What Year Do You Use for the Revenue Test?
We’ve been fielding a ton of questions from members in our Q&A Forum these past few weeks. Here’s one that could affect your 10-K deadline (#10,573):
Company is currently an accelerated filer and a smaller reporting company. As of June 30, 2020, their public float was between 75 and 250 million (approx. 100 million). Its FY 2019 revenue was above 100 million; however, its FY 2020 revenue is below 100 million.
My question is for determining whether it transitions to non-accelerated status, should company use the FY 2019 or FY 2020 revenue for the SRC revenue test exception to accelerated filer status? The rule says it is the revenue as of the most recently completed fiscal year but do not know if that determination is made as of June 30 like with public float or now. If company uses FY 2019, then they would still be an accelerated filer but using FY 2020 I believe they would be a non-accelerated filer.
Under Rule 12b-2, accelerated filer status is assessed at the end of the issuer’s fiscal year, and the applicable SRC revenue test is based on the most recently completed fiscal year for which financial statements are available. Since the 2020 financial statements won’t be available at the time when the assessment is made, I believe that you will continue to look at the 2019 financials in determining whether the issuer remains an accelerated filer during 2021.
I think that position is also consistent with footnote 149 of the adopting release, which indicates that a company will know of any change in its SRC or accelerated filer status for the upcoming year by the last day of its second fiscal quarter. Here’s an excerpt:
“Public float for both SRC status and accelerated and large accelerated filer status is measured on the last business day of the issuer’s most recently completed second fiscal quarter, and revenue for purposes of determining SRC status is measured based on annual revenues for the most recent fiscal year completed before the last business day of the second fiscal quarter. Therefore, an issuer will be aware of any change in SRC status or accelerated or large accelerated filer status as of that date.”
The SEC has redesigned Corp Fin’s Rule 14-8 no-action page – and the layout is very user-friendly for those of us who spend proxy season monitoring incoming requests & responses. The old page was more spread out in narrative form, whereas this new version organizes into easy-to-read boxes the no-action response chart, incoming requests and final materials for responses – as well as reference materials and info from prior seasons. Bravo!
Filing Relief for Texans: Case-By-Case, But Proceed With Caution
As a Minnesotan who relies heavily on heat & electricity during the winter months, I’ve been flabbergasted by this week’s dispatches from Texan friends & colleagues. We are keeping y’all in our thoughts and hoping your power is restored soon.
We’ve had some inquiries on whether the SEC is offering weather-related filing relief to companies located in the Lone Star State. A gracious member shared this info in our Q&A Forum (#10,619):
This is what I was told today by the SEC Staff (Office of Chief Counsel). By the way, I am in Austin and we have no water, over 48 hours no power and I am working from a phone hotspot/makeshift solar panel attached to batteries, so yes, it is truly a survivalist situation out here in Texas — I hope everyone is staying safe!
• The SEC is aware of the power grid failures/inclement weather and related challenges in Texas and wants to help issuers experiencing the effects of these challenges.
• If you are an issuer with a filing deadline that you cannot meet due to the situation in Texas, such as an 8-K or Section 16 filing, the SEC encourages you or your counsel to contact the SEC staff to make them aware of the situation (via email@example.com and follow-up with a call to the staff) and you can request a date adjustment of the filing per Rule 13(b) of Regulation S-T: “If an electronic filer in good faith attempts to file a document with the Commission in a timely manner but the filing is delayed due to technical difficulties beyond the electronic filer’s control, the electronic filer may request an adjustment of the filing date of such document. The Commission, or the staff acting pursuant to delegated authority, may grant the request if it appears that such adjustment is appropriate and consistent with the public interest and the protection of investors.” The filing should be made as soon as it is practicable to file and the staff can assist the issuer in adjusting the filing date afterwards.
• For the upcoming 10-K filing deadline (March 1 for LAFs), the SEC is monitoring the situation and *may* issue more broad filing relief (as it did last year around this time at the beginning of the COVID pandemic), but they will not make that call unless there are still issues going into next week and it believes that broad relief is warranted by the situation.
• In short, they are monitoring the situation but in the time being, they are only working with issuers on a case-by-case basis.
That being said, issuers may want to be judicious about requesting relief, because it might suggest that the company does not have sufficient contingency plans to continue normal operations during emergencies such as prolonged power outages. But the SEC will work with issuers who are experiencing a hardship.
More on “Proxy Season Blog”
As we enter the height of proxy season, make sure to follow our daily posts on the “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 entering their email address on the left side of that blog. Here are some of the latest entries:
– Norges Urges Greater Board Gender Diversity, Focus for Engagement Meetings
– “How To’s” for Engaging with Proxy Advisors
– Virtual Shareholder Meetings: Fix For “Beneficial Owner” Admission Issues
As this recent Cooley blog recounts, since the Rule 10b5-1 safe harbor was adopted 21 years ago, it’s been a magnet for controversy. In the wake of trading gains realized by pharma execs when positive vaccine news came to light last fall, which were followed by remarks from outgoing SEC Chair Jay Clayton about “good corporate hygiene” for trading plans (also see this Cohen & Gresser memo), the safe harbor has been back in the spotlight.
Earlier this month, John blogged about “best practices” suggested by Glass Lewis that would promote transparency around these arrangements. People are now also talking about the “red flags” identified by this Stanford research as signs of potentially opportunistic trades. The paper caught the attention of three Democratic US Senators – who used the research as a basis for this letter to Acting SEC Chair Allison Herren Lee. In it, the lawmakers urge the SEC to reexamine its policies on Rule 10b5-1 plans to improve “transparency, enforcement and incentives.”
Specifically, the Senators note these possible remedies for “abusive” Rule 10b5-1 practices:
1. Requiring a four-to-six month “cooling off period” between adoption or amendment of a plan before trading under the plan may begin or recommence
2. Requiring public disclosure of the content of 10b5-1 plans, as well as trades that are made pursuant to such plans
3. Enforcement of existing filing deadlines – and requiring that forms disclosing 10b5-1 adoption dates are posted on Edgar
4. Enforcement of penalties when executives “benefit from short-term windfalls that don’t translate into long-term gains” – by way of modifying Exchange Act Section 16(b) to apply to 10b5-1 profits that follow disclosure of material information, if the share price falls immediately after that disclosure
The letter asks the SEC to respond by next week to a series of questions about its actions on this topic. One recommendation that the Senators didn’t pull in from the Stanford research – for now – was a disqualification of single-trade plans. The professors contend that these plans are no different than traditional limit orders – and that Rule 10b5-1 should only apply to multiple transactions spread over a certain time period.
While that recommendation might seem reasonable to people who aren’t dealing with administration of these plans, people in the trenches view it as further evidence of the “great divide” on this topic. A member wrote in with this feedback:
One recommendation that caught my eye is to disqualify single-trade plans. They say that single-trade plans aren’t different from traditional limit orders (which wouldn’t qualify for the safe harbor). I disagree. A trading plan can just set a tranche of shares to sell at a future date without specifying a price – they can be sold at whatever the market price is, which of course differs from a limit order.
My understanding of why an insider might have a single-trade plan is to diversify holdings following vesting of a large award. They know the vesting is coming up, they already hold a bunch of shares, and they want to diversify. So, they set up a trade sometime down the road, which allows the sale to happen even if there’s an unscheduled blackout and also allows them to avoid dealing with executing the trade when they’re busy with other things six months from now.
Also, we have a process with our captive broker where any limit order is automatically terminated when the trading window closes, as we don’t want it to execute during a blackout period. So for our execs, a limit order wouldn’t solve the issue of being able to trade during a blackout period – but a trading plan would.
SOX Compliance in Pandemic Times
Does it seem like everything is taking longer and requiring more planning in pandemic times? Between masking up, thorough hand-washing and navigating crowds, I’m factoring in at least an extra 30 minutes for any encounter with the outside world. Good luck buying a car or “dropping in” to fitness classes or hair salons. And if you want to mail anything, you’d better plan for at least 6 weeks of delivery time.
Well, according to this Toppan Merrill memo (pg. 2), you’re probably also going to need to allot more time to compliance processes this year. It’s taking longer to test SOX controls in the remote environment, and many of the people involved are overworked and tired. External auditors also want to be brought into the tent earlier so that they can spend more time digging through any non-routine transactions.
To maintain the rigor of compliance programs, the memo recommends spending more time on quality employee training, and revisiting the basics of your controls and documentation, to make sure everything is working. Especially if your company is suffering a revenue downturn, “minor” transactions could end up having a bigger impact than you’d typically expect.
Tomorrow’s Webcast: “Activist Profiles and Playbooks”
Tune in tomorrow for the DealLawyers.com webcast – “Activist Profiles & Playbooks” – to hear Joele Frank’s Anne Chapman, Okapi Partners’ Bruce Goldfarb, Spotlight Advisors’ Damien Park and Abernathy MacGregor’s Patrick Tucker discuss lessons from 2020’s activist campaigns & expectations for what the 2021 proxy season may have in store.
Bonus: If you attend the live version of this 60-minute program, CLE credit will be available! You just need to submit your state and license number and complete the prompts during the program.
Members of DealLawyers.com are able to attend this critical webcast at no charge. If not yet a member, subscribe now to get access to this program and our other practical resources. The webcast cost for non-members is $595. You can renew or sign up online – or by fax or mail via this order form. If you need assistance, send us an email at firstname.lastname@example.org – or call us at 800.737.1271.
Last week, Acting SEC Chair Allison Herren Lee announced that she’s restored to senior Enforcement Staff the power to approve the issuance of Formal Orders of Investigation, which designate who can issue subpoenas in an investigation. That means that Enforcement Staffers will be able to act more quickly to subpoena documents and take sworn testimony.
This is a reversal of the policy that then-Acting Chair Mike Piwowar implemented in the early days of the Trump administration – and departure from the traditional requirement for Enforcement Staff to obtain sign-off from the Commissioners on a Formal Order of Investigation before issuing subpoenas. Former Chair Mary Shapiro first expanded the subpoena power back in 2009, in the wake of the Bernie Madoff fiasco.
Decentralizing the power to pursue enforcement actions is a sign that the pendulum is currently swinging toward the “investor protection” aspect of the SEC’s mission. This job posting suggests that the Enforcement Division also might be staffing up. We don’t know for sure that these steps will lead to a higher number of investigations – see this Jenner & Block memo for key open questions that will determine how aggressive things could get. Nevertheless, companies are unlikely to view them as a positive development.
Also last week, Acting SEC Chair Allison Herren Lee issued this statement to reverse the Clayton-era policy of simultaneously considering enforcement settlements and requests for waivers from “bad actor” consequences – e.g., loss of WKSI status, Rule 506 eligibility and PSLRA safe harbors. Commissioners Hester Peirce and Elad Roisman followed with their own statement to object to the policy change.
The move means that waiver requests will revert to the domain of Corp Fin and the Division of Investment Management, rather than everything being negotiated by the Enforcement Division and companies being able to condition their settlement offers on the grant of a “bad actor” waiver. This Sullivan & Cromwell memo explains the three-fold impact of separating settlement & waiver conversations:
First, the change in policy signals greater skepticism on the part of the SEC with respect to granting waivers to settling entities. We expect that waivers will become more difficult to obtain and, when granted, may include additional, and potentially more burdensome, conditions.
Second, the change in policy creates increased uncertainty for entities settling with the SEC because they can no longer be guaranteed Commission review of the settlement of their enforcement matter simultaneously with their requested waivers. The impact of this change as a practical matter is unclear. If a settling party is denied a waiver and then seeks to withdraw its settlement offer, it remains to be seen whether the SEC will nevertheless proceed to seek judicial approval of the settlement in the face of such attempted withdrawal.
Third, the change in policy indicates the SEC’s intent to keep waiver discussions substantially separate from enforcement recommendations. Our understanding is that these discussions generally happen separately in any case, so we do not view this as a substantive change.
Tomorrow’s Webcast: “Private Offerings – Navigating the New Regime”
Tune in tomorrow for the webcast – “Private Offerings: Navigating the New Regime” – to hear Rob Evans of Locke Lord, Allison Handy of Perkins Coie and Richie Leisner of Trenam Law discuss the SEC’s rule amendments simplifying and harmonizing the rules governing private offerings – and how to prepare to take advantage of them.
Bonus: If you attend the live version of this 60-minute program, CLE credit will be available! You just need to submit your state and license number and complete the prompts during the program.
Members of this site are able to attend this critical webcast at no charge. If you’re not yet a member, subscribe now. The webcast cost for non-members is $595. You can renew or sign up online – or by fax or mail via this order form. If you need assistance, send us an email at email@example.com – or call us at 800.737.1271.
Yesterday, I blogged about how investors want to see companies enhance ESG reporting. ESG ratings are just one information source but it’s an area highlighted by investors for improvement. Some ratings firms release a “combined ESG” score at no charge and now, Refinitiv is one ratings firm taking things a step further. Recently, Refinitiv began making its ESG rating information available for free on its website and this includes sub-theme scores within each of “E”, “S” and “G” beyond just the overall combined ESG rating. Refinitiv has an extensive database – this blog post says it provides access to ESG scores on 10,000 companies.
With Refinitiv’s sub-theme scores freely available, investors and other stakeholders can find a company’s Refinitiv score for human rights, product responsibility, innovation, etc. Even if a company’s major investors don’t typically cite Refinitiv scores, with thematic scores freely available, this information could become fodder for questions during shareholder engagement meetings and it’s possible ESG ratings questions could start coming from directors, employees and other stakeholders. For example, if a company talks up its commitment to community, knowing Refinitiv’s “community” sub-theme score can be helpful and if it doesn’t seem to jive, check out whether Refinitiv has pulled accurate information to generate its score.
Dealing with ESG rating challenges can seem like climbing a never-ending hill and for companies without a chief sustainability officer, ESG ratings challenges might increase the odds that they start thinking about appointing one. Given the usual responsibilities of corporate secretaries and IR professionals, it’s hard to imagine either would have time to dive into ESG ratings to the extent needed. If other rating firms follow Refinitiv’s lead in sharing ESG thematic scores freely, anyone dealing with understanding and validating ESG rating provider data just got a whole lot more work.
A recent Paul Weiss memo discusses implications from ESG ratings and serves as a reminder of actions companies can take to protect themselves from ratings inaccuracies. As a first step, companies should actively monitor their current ESG ratings and develop an approach to engage with ESG rating agencies to ensure an accurate assessment of the company’s ESG performance. This includes confirming that ESG rating agencies are using correct data for their analysis. In addition to Refinitiv, the memo identifies MSCI, ISS, RobecoSAM, Sustainalytics and RepRisk AG as common ESG ratings firms but also says there are at least 125 organizations providing ESG ratings and research.
Chief Sustainability Officer Focus: Doing Good or Doing Less Bad
I blogged back in December about continued growth in ESG investing and that’s another reason, among many, helping motivate companies to appoint a chief sustainability officer. Appointing a CSO is one way companies can show various stakeholders that they’re prioritizing and focused on sustainability. This INSEAD Knowledge blog notes CSOs are fast becoming a fixture and provides insight about the impact of the CSO.
The blog discusses research of 400 large US companies that found CSOs have an impact by improving a company’s sustainability record. What was interesting to me was a finding about the degree of a CSO’s impact on company engagement in “socially responsible” activities versus reducing “irresponsible” activities. Here’s an excerpt:
As expected, companies with a CSO engage in more socially responsible activities (e.g. investments to reduce carbon emissions) and fewer socially irresponsible activities (e.g. polluting the environment). Significantly, we found that CSO presence has a greater effect on companies ‘doing less bad’ than ‘doing more good.’ This effect is particularly pronounced in companies in so-called “sin” or culpable industries like tobacco, and, notably, in companies with a board committee for sustainability.
The researchers attribute this to more condemnation companies would likely receive it they were found to have polluted a river than the goodwill they would earn from granting more generous sick leave. The blog also says that they’ve found ‘doing good’ pays and they hope the study’s findings spur companies to design CSO contracts to incentivize the CSO to channel more resources to socially responsible activities even while striving to reduce those that are irresponsible.
January-February Issue of “The Corporate Counsel” – New Podcast!
The January-February Issue of “The Corporate Counsel” newsletter is in the mail (try a no-risk trial). It’s also available now online to members of TheCorporateCounsel.net who subscribe to the electronic format – an option that many people are taking advantage of in the “remote work” environment. The issue includes articles on:
– Virtual Reality: Investors Want More from 2021 Virtual Meetings
– Form 10-K Tidbit: Can You Drop Rule 3-09 Financial Statements?
– A Form 8-K Pitfall: Fallout from Changes to Section 162(m)
– Wither The Integration Doctrine? A New Approach Dawns this Spring
For those who haven’t previously subscribed to the newsletter, you may not realize what a wealth of information these publications provide. That’s part of the reason our intrepid editors, Dave Lynn & John Jenkins, also got together to tape this 28-minute podcast about the latest issue. The podcast is available to all members. Check it out!