Yesterday, the SEC voted 3-1 – with Commissioner Jackson dissenting – to propose changes to Exchange Act Rule 12b-2’s definitions of “accelerated filer” & “large accelerated filer.” Here’s the 150-page proposing release. This excerpt from the “fact sheet” in the SEC’s press release announcing the proposal summarizes the proposed changes (we’ll be posting memos in our “Accelerated Filers” Practice Area):
The proposed amendments would:
– Exclude from the accelerated and large accelerated filer definitions an issuer that is eligible to be an SRC and had no revenues or annual revenues of less than $100 million in the most recent fiscal year for which audited financial statements are available
– Increase the transition thresholds for accelerated and large accelerated filers becoming a non-accelerated filer from $50 million to $60 million and for exiting large accelerated filer status from $500 million to $560 million
– Add a revenue test to the transition thresholds for exiting both accelerated and large accelerated filer status
As Liz noted in her blog last week about the SEC’s decision to put these proposals on the agenda for yesterday’s meeting, the SEC didn’t change these definitions last year when it adopted rules increasing the size limit for companies to qualify as “smaller reporting companies” from $75 million to $250 million in public float – and that was a point of contention among some Commissioners.
The rule proposals would allow more companies to file periodic reports on a non-accelerated basis. But seriously, who cares about that? What’s likely to generate some fireworks during the comment period is the fact that the proposals would increase the number of companies that won’t have to obtain an auditor’s attestation on management’s report on ICFR.
The two sides of the argument didn’t waste any time lining up – here’s SEC Chair Jay Clayton’s statement in favor of the rule proposals, and here’s Commissioner Jackson’s statement on his dissent from the SEC’s decision to issue them.
Internal Investigations: The Consequences of Government “Outsourcing”
The SDNY attracted quite a bit of attention last week with Judge McMahon’s opinion in United States v. Connolly and Black – a decision indicating that government entanglement in an internal corporate investigation could raise the 5th Amendment concerns if the government tried to use testimony provided in the investigation in a subsequent criminal proceeding.
This Wachtell Lipton memo summarizes the implications of the case for companies using internal investigations as a tool for cooperating with governmental authorities:
The lesson for companies conducting internal investigations is not, of course, to stop cooperating with governmental inquiries. Indeed, the judicial admonitions of the Connolly and Black decision are directed principally at the government itself. The opinion is nonetheless important for companies and their counsel; it plainly suggests that, when designing an internal investigation, care must be taken from the outset to ensure that the company (or, in appropriate cases, the board) directs and supervises the investigation, selecting the witnesses to be interviewed, developing the questions to be asked, and assessing the record.
Yes, as the government has often signaled, companies should provide proactive, constructive cooperation in order to secure maximum credit for their efforts. When done properly, such efforts discharge the company’s fiduciary obligations to act in the best interests of its shareholders and other constituents to achieve the best possible resolution under the circumstances.
But the memo goes on to say that, thanks to the Connolly and Black decision, companies should not be afraid to push back if the government attempts to take control over its own internal investigation, and notes that such pushback is consistent with the DOJ’s own guidance to its prosecutors that the DOJ “will not take any steps to affirmatively direct a company’s internal investigation efforts.”
SEC Settlement Policy: Another Former Enforcement Target Challenges “Gag Rule”
Earlier this year, I blogged about The Cato Institute’s lawsuit seeking to have the SEC’s rule mandating that enforcement targets agree to “neither admit nor deny” the allegations against them declared unconstitutional on 1st Amendment grounds. This recent blog from Steve Quinlivan reports that another individual who settled with the SEC on these terms – former Xerox CFO Barry Romeril – has filed a lawsuit seeking relief from the gag rule. Here’s an excerpt:
The New Civil Liberties Alliance has filed a Motion for Relief from Judgment with the U.S. District Court for the Southern District of New York on behalf of Barry D. Romeril. Mr. Romeril served as the Chief Financial Officer of the Xerox Corporation from 1993-2001. NCLA has asked the court to remove a gag order placed on Mr. Romeril on June 5, 2003 as part of a Consent Order with the Securities and Exchange Commission (SEC) because it violates the First Amendment of the U.S. Constitution. Despite the passage of nearly 16 years, Mr. Romeril continues to be bound by the gag order provision. You can find the associated Memorandum of Law here.
Like The Cato Institute’s action, the motion in this case contends that the gag rule is a content-based restriction on speech, and an unlawful prior restraint under the 1st Amendment.
Check out this truly wild “Institutional Investor” article about hedge funds’ use of private investigators to dig up dirt on executives of potential targets. Some of the tactics these investigators use definitely push the envelope – but “hokey smoke, Bullwinkle” what they sometimes find!
The article tells one story involving the president of a large U.S. asset manager who was discovered by investigator Peter Barakett to have been arrested twice for art theft. The guy even had one of the stolen paintings hanging in his office. He avoided prison only because the statute had run, but is still managing $2 billion of other people’s money. This excerpt reveals a few other eye-opening discoveries:
Another case involved a Bear Stearns executive whose murder conviction had previously gone undetected because, Barakett suspects, a casual background check either did not look at records in every state he had lived in or checked the wrong name or date of birth. “Our client [an asset manager who was considering hiring the man for an IR position] could not believe it, and we showed him the proof,” he recalls.
Work for activist hedge funds is a particularly revealing task, according to Barakett. “I’m never surprised by what we find,” he says, mentioning a public company executive who had a “wife and kids in one city, and another wife and kids in another city in another — nonadjacent — state.”
The article also makes it pretty clear that hedge funds won’t hesitate to use the information they find as leverage. I guess the takeaway is that when people say certain activist hedge funds take no prisoners, they aren’t kidding around. So, if you’re a public company CEO with any skeletons in your closet, you’ve now got something else to worry about when one of these hedge funds comes knocking. And I’m sure they wouldn’t have it any other way.
ESG: New York Comptroller Releases Decarbonization Panel Report
Okay, I served dessert as the first course this morning – now you’ve got to eat your vegetables. And by that I mean it’s time for a couple of very earnest ESG blogs that may make your eyes glaze over. That’s ESG’s problem in a nutshell isn’t it? Some people think that the future of humanity may hinge on what nations & companies do about some of this stuff, but so help me, the nuts & bolts of it are often more boring than C-SPAN.
Anyway, it’s my duty to report that New York’s Comptroller recently released a 38-page report containing the recommendations of the “Decarbonization Advisory Panel” that the Governor convened last year. The panel was composed of experts from a variety of fields and was tasked with offering strategies for NYS’s Common Retirement Fund to use to identify, assess & manage the investment risks and opportunities of climate change. The Comptroller issued a press release summarizes the panel’s recommendations, and this excerpt lays out some of the specifics:
– The Fund should establish a new climate solutions investment program and increase its funding of investments with a proactive approach to climate risk and opportunity.
– The Fund should establish minimum standards to measure the readiness of its investments for climate change impacts and the transition to a low-carbon economy. These standards may vary by asset class, sector of the economy or geography, but could be used to construct indices, evaluate managers, direct engagement and define exclusion from the Fund’s portfolio.
The press release also said that the panel did not recommend divestment of specific stocks, but said that setting minimum standards could guide subsequent divestment decisions and provide guidance to help the Fund avoid investment managers with non-sustainable operations and strategies. The panel recognized that its recommendations would take time to implement, but encouraged the Fund to start working on a plan “with urgency.”
ESG: Not Just for Institutional Investors
ESG issues are usually considered to be priorities for certain institutional investors, but this Corporate Secretary article reviews a recent Allianz survey that says some of those issues move the needle with retail investors too. Here’s an excerpt:
Respondents were asked to rate the importance of a range of factors when deciding whether to invest in a company. The two highest-rated issues both fall under the ‘social’ section of the ESG umbrella, with 84% of respondents pointing to ‘the impact of [the company’s] product/service on people’s health or well-being’ and 84% pointing to ‘workplace safety/working conditions of employees.’
The next two highest-rated factors are both governance-related. ‘Transparency in business practices and finances’ is cited by 81% of respondents, while ‘wages provided to their employees’ is important to 80% of those taking part. The top two highest-rated environmental issues are ‘natural resource conservation (such as water conservation, species conservation)’ at 76% and ‘[the company’s] carbon footprint/impact on climate change’ (69%).
The article acknowledges that companies face challenges in communicating information about ESG issues to investors. There are no uniform disclosure standards, an assortment of intangible factors to assess & often an avalanche of data to sort through. It didn’t say anything about the need to tackle the “more boring than C-SPAN” issue though.
This Steve Quinlivan blog summarizes a recent derivative action filed against Facebook’s directors in connection with alleged insider trading involving sales of stock by Facebook’s CEO Mark Zuckerberg, its COO Sheryl Sandberg, and its former director & WhatsApp co-founder Jan Koum. Here’s an excerpt from the blog addressing the insider trading allegations:
In a wide ranging derivative action, a Facebook shareholder has filed a 193 page complaint in the Delaware Court of Chancery alleging three Facebook directors sold a total of $1.5 billion of stock while in possession of inside information. Specifically, the complaint alleges that at the time of the stock sales Facebook faced a looming crisis over privacy concerns and that the value of Facebook equity shares did not reflect such “inside information.” According to the complaint, when the directors sold their respective shares of Facebook stock, Facebook had been aware of the activities of Cambridge Analytica and the other misconduct referred to in the complaint.
The complaint also alleges violations of the proxy rules and breaches of fiduciary duty by the board in connection with Facebook’s repurchases of stock during the relevant period. In addition to 10b-5 claims against the three directors who traded during the relevant period, the complaint also alleges that “The sales of defendants Zuckerberg, Sandberg and Koum’s shares of Facebook common stock while in possession and control of this material adverse non-public information was a breach of their fiduciary duties of loyalty and good faith.”
Bringing fiduciary duty claims based on insider trading may seem somewhat incongruous given the pervasiveness of federal law in this area, but Delaware has recognized these so-called “Brophy claims” ever since the Delaware Supreme Court’s 1949 decision in Brophy v. Cities Service.
After a long period of relative dormancy, Brophy claims have become increasingly popular among plaintiffs in recent years. Part of the reason for that is a 2011 Delaware Supreme Court decision holding that disgorgement of all gains from insider trading is a potential remedy for the breach of fiduciary duty. But as this 2014 Business Law Today article suggests, there’s more to its increasing popularity than that:
The incentives of stockholder plaintiffs and their counsel to bring Brophy claims would seem to have increased with the confirmation that disgorgement of all gain by the alleged wrongdoer is a potential measure of damages. And, not only are the potential awards higher, but in certain circumstances, successfully pleading a Brophy claim will be less of a burden than a federal securities claim which is subject to the heightened pleading standards imposed by PSLRA.
Like other derivative claims, Brophy claims are generally subject to the heightened standard of pleading demand futility. But when it comes to the demand futility requirement, one of the interesting aspects of the Facebook complaint is that the plaintiffs allege that they made a demand on Facebook’s board – and received no response to that demand letter during the more than 10 months preceding the filing of the complaint.
IPOs: Founder’s Letters Get Some Love
If you’ve read my recent blog on Uber’s IPO, you know that I’m not a fan of founder’s letters in IPO prospectuses. I think they’re one of the many tech IPO clichés that investors could do without. But others hold them in much higher esteem than I do. This recent Olshan blog mounts a spirited defense of the founder’s letter & also reviews how the SEC looks at them during the comment process:
Based on our review of publicly available SEC comments, the SEC has frequently remarked in its comment letters that IPO letters need to serve a supplementary purpose that is meaningful to investors and directly relevant to the public offering. Given that the SEC’s prescriptive disclosure regime is designed to capture all material disclosures necessary for an investment decision, the SEC staff appears to have carefully reviewed the content and bounds of IPO letters.
Without specific rules applicable to such letters, however, the SEC appears to look primarily to the closest regulatory guidance, which is Item 503 of Regulation S-K. Item 503 requires a brief, clear and plain English business overview for the prospectus summary and risk factors touching on the most significant aspects of the company’s business and the offering.
In its reviews of IPO filings, the SEC has commented that IPO letters should be limited to a discussion of the company’s current business (particularly if the issuer is in its preliminary stage of development) and the risks of investing in the offering. The IPO letter must present a balanced summary of the business including, if presented, its current financial condition, future prospects and challenges.
The blog also discusses specific SEC comments on founder’s letters – including directives to discuss topics addressed only in those letters in other relevant prospectus sections, such as MD&A, as well as comments focusing on perceived inconsistencies between those letters and the other information in the filing.
IPOs: Here’s Why Founders Like High Vote Stock
Speaking of both Uber & founders, this recent letter from CtW Investment Group to Uber’s Board Chair Ronald Sugar is “Exhibit A” when it comes to why founders are so fond of sticking the public with low vote stock. After first acknowledging that “the company has a single voting structure, annual director elections, and a separate Chair and CEO,” the letter goes on to demand sweeping changes to its board over the course of the next 3 single-spaced pages.
Specific demands include the removal of John Thain as a director & that Sugar reduce his outside board commitments “prior to Uber’s stock being listed on the NYSE.” CtW also wants an overhaul of the board so that it is “more representative of its potential investor base.” I guess that’s not as urgent as the other stuff though – CtW gives the company until September 1, 2019 to get its act together on this.
It’s not lost on founders that while Uber’s shareholder-friendly governance structure is rewarded with investor ultimatums even before the IPO launches, a dual class company that received a letter like this could simply crumple it up & throw it in the waste basket. Investor advocates may find that appalling. Many entrepreneurs find it very reassuring.
As Liz blogged last week, the SEC & Tesla resolved their latest bit of unpleasantness late last month. The revised settlement gets pretty granular about what types of information Musk has to run by an “experienced securities lawyer.”
Statements that need to be run by this lawyer include those addressing the company’s financial results, including earnings of guidance, potential M&A activity, production, sales & delivery information, new business lines, previously undisclosed projections about the company’s business, and information relating to “events regarding the Company’s securities,” including Musk’s own transactions in them.
The settlement’s reference to the need to run all this past an “experienced securities lawyer” raises the question of “who will bell the cat?” According to this Law.com story, that particular position hasn’t been filled yet. I bet. It’s not exactly a plum assignment. After all, here’s what I think is a pretty realistic summary of the job description:
“The position involves telling our supervillain CEO who tweets at all hours and at a Trumpian pace that he can’t say what he wants to say on a regular basis. Oh, and just so you know, it’s entirely possible that he’ll be baked out of his gourd when you’re called upon to try to talk him into putting down his phone. Thoughts & prayers!”
And when Elon inevitably does fire off a non-compliant tweet, who wants to sign-up to be on the receiving end of the fire-breathing telephone calls from the Division of Enforcement, the Tesla board – and just maybe a federal judge?
Putting aside the job’s inherent undesirability, what makes anybody think that some lawyer is going to have any more success in keeping Elon’s fingers off the keyboard than his board, the plaintiffs’ bar and the SEC have had? Yeah, this is not gonna end well. . .
Quick Poll: How Does the SEC v. Musk Saga End?
Please take part in this anonymous poll on how the SEC v. Musk situation plays out.
Tune in tomorrow for the DealLawyers.com webcast – “M&A Stories: Practical Guidance (Enjoyably Digested)” – to hear Mayer Brown’s Nina Flax, Baker Bott’s Sam Dibble, Shearman & Sterling’s Bill Nelson and our own John Jenkins share M&A “war stories” designed to both educate and entertain.
On Friday, the SEC issued this 224-page proposing release that would make significant changes to the rules governing the financial information that public companies must provide for significant acquisitions and divestitures. Here’s the SEC’s press release – and we’ll be posting memos in our “Accounting Overview” Practice Area.
The “fact sheet” that the SEC included with its press release summarizes the changes that it proposes to make. As this excerpt indicates, they are fairly extensive and, in some cases, quite significant:
The proposed changes would, among other things:
– Update the significance tests under these rules by revising the investment test and the income test, expanding the use of pro forma financial information in measuring significance, and conforming the significance threshold and tests for a disposed business;
– Require the financial statements of the acquired business to cover up to the two most recent fiscal years rather than up to the three most recent fiscal years;
– Permit disclosure of financial statements that omit certain expenses for certain acquisitions of a component of an entity;
– Clarify when financial statements and pro forma financial information are required;
– Permit the use in certain circumstances of, or reconciliation to, International Financial Reporting Standards as issued by the International Accounting Standards Board;
– No longer require separate acquired business financial statements once the business has been included in the registrant’s post-acquisition financial statements for a complete fiscal year;
The changes would also impact financial statements required under Rule 3-14 of Regulation S-X (which deals with acquisitions of real estate operations), amend existing pro forma requirements to improve the content and relevance of required pro forma financial information, and make corresponding changes in the rules applicable to smaller reporting companies under Article 8 of Regulation S-X.
Interestingly, while Commissioner Jackson voted in favor of moving forward with the rule proposal, he also issued a statement in which he expressed concern that the proposals seem to proceed from the assumption that mergers and acquisitions are “an unalloyed good.” He expressed some skepticism about that, contending that the proposals ignore “decades of data showing that not all acquisitions make sense for investors.”
Ultimately, Jackson urged investors “to help us engage more carefully and critically with longstanding evidence that corporate insiders use mergers as a means to advance their private interests over the long-term interests of investors.”
For more detail on the rule proposals, check out this blog from Cooley’s Cydney Posner.
Exclusive Forum Bylaws: Fertile Ground for Corp Fin Comments
This Bass Berry blog says that companies that have adopted exclusive forum provisions in their charter or bylaws shouldn’t be surprised to receive comments on their disclosures about them in SEC filings. The blog includes links to a handful of recent comment letters touching on various aspects of exclusive forum provisions. Check it out!
Tomorrow’s Webcast: “Termination – Working Through the Consequences”
Tune in tomorrow for the CompensationStandards.com webcast – “Termination: Working Through the Consequences” – to hear Orrick’s JT Ho, Pillsbury’s Jon Ockern, Equity Methods’ Josh Schaeffer and PJT Camberview’s Rob Zivnuska discuss how the timing of when an executive officer becomes entitled to severance benefits can impact accounting, SEC disclosures, taxes, say-on-pay and shareholder relations. Please print out these “Course Materials” in advance.
Broc recently blogged about SEC Commissioner Robert Jackson’s concerns that insiders were using buybacks as an opportunity to cash out. Well, it turns out that they aren’t alone – buybacks are providing a frightening amount of the overall demand for corporate equities. This excerpt from a recent Bloomberg article on the effects of a ban on corporate buybacks just blew me away:
With political scrutiny of stock buybacks growing, Goldman Sachs started assessing an extreme scenario: “a world without buybacks.” The picture doesn’t look pretty. That’s because corporate demand has far exceeded that from all other investors combined, according to strategists led by David Kostin. Since 2010, net buybacks averaged $420 billion annually, while buying from households, mutual funds, pension funds and foreign investors was less than $10 billion for each, Federal Reserve data compiled by Goldman showed.
The article says that corporate repurchases represent the “largest source of U.S. equity demand,” and says that because other potential buyers are pretty saturated with equity investments, they’re unlikely to step in if companies pull back. According to Goldman, “aggregate equity allocation totals 44% across households, mutual funds, pension funds and foreign investors — and that ranks in the 86th percentile relative to the past 30 years.”
So, on the one hand, if buybacks stop, the market will lose its largest source of demand for equities, which is really bad news. But on the other hand, the market’s dependence on buybacks to provide demand cannot possibly be healthy – or sustainable – over the long term. And that may be even worse news.
According to this recent WSJ article, shareholders continue to gain clout in public companies, and the latest sign of that is increasing support for ESG shareholder proposals. Here’s an excerpt:
The median level of support for environmental and social shareholder proposals as a percentage of votes cast rose from the middle single digits from 2000 until 2008 to 24% in 2018, representing record levels of support, according to proxy-advisory firm Institutional Shareholder Services Inc.
But the real measure of success is the record 48% of proposals characterized as social or environmental that were filed and then withdrawn in 2018, according to ISS. That’s up from an average of 38% over the prior seven years. Such proposals are often withdrawn after a company accedes to at least some of the shareholder demands.
That’s all interesting, but to me, the best example of how much things have changed when it comes to shareholder clout is another WSJ piece from an earlier time that’s referenced in the article. That 1996 piece describes the response of ever-combative former Cypress Semiconductor CEO T.J. Rodgers to a letter from Sister Doris Gormley pressing for women to be represented on the company’s board.
While Rodgers’ letter was praised by some at the time as a strike against “political correctness,” today it reads as both condescending & more than a little misogynistic. For instance, can you imagine a CEO today responding to a shareholder seeking board gender diversity by saying that only a person with an advanced technical degree or CEO experience was qualified – and that few women or minorities “fit the bill?”
Fast Act Rules: Informal Staff Guidance on Expanded Hyperlinking Requirement
As part of the new Fast Act disclosure simplification rules, companies will be required to hyperlink to information incorporated by reference into a registration statement or report if the information is publicly available on EDGAR “at the time the registration statement or form is filed.”
This recent blog from Bass Berry’s Jay Knight discusses some informal Staff guidance on how this new requirement applies to information incorporated by reference from one item to another within the same filing. Here’s an excerpt:
The SEC staff has provided informal interpretive guidance that they believe it is reasonable for registrants to interpret the phrase “at the time the registration statement or form is filed” to mean that such information would need to be on EDGAR prior to the time the registration statement or form is filed.
In other words, an active hyperlink would not be required by the new rules if such hyperlink would be to information within the same filing. The SEC Staff noted that companies are permitted, if technically feasible, to include such hyperlinks to information within the same filing, but that they do not view the rule as requiring this.
I know that Delaware’s Chief Justice Leo Strine is the kind of guy who could make his breakfast order sound provocative, but you’ve really got to check out his recent interview with “Directors & Boards.” The Chief Justice has all sorts of interesting things to say about the role of independent directors – including suggesting that perhaps we’d be better off with a few less of them. Here’s an excerpt:
We have a lot of unrealistic expectations for independent directors, and I think it would be better to rebalance boards a little bit. We need folks who are genuinely independent directors, but we also need directors with expertise, and we need directors who were active in business and who understand the industry. And some of the rules and incentives can get so tight that we actually discourage people with the right kind of qualities from serving on boards.
It doesn’t really matter if you’re independent if you don’t have expertise. But can you be independent and also have the expertise and the knowledge? I’m sure you can. We just independent director-ized the world. We went from having a bare majority of them to having a supermajority of them. We don’t actually empower them. We take away their ability to think long term because we put in place Say on Pay. We don’t do Say on Pay every four years or five years, where you would really have a long-term pay plan, we do it every year as a vote on generalized outrage.
Corporate management and employees are the most important thing to corporate success, especially employees — who, frankly, boards of directors, managers and institutional investors have undervalued for 30 years — which is part of why there are the tensions we have in society right now.
It’s refreshing to hear somebody with influence in the corporate governance debate finally say something like this. As I’ve blogged previously, my guess is that in 50 years people may really wonder why we thought it was a good idea to demand that the boards of the world’s largest corporations be comprised overwhelmingly of people with no ties to or experience with the company. Who knows? Maybe Chief Justice Strine’s remarks are a signal that we won’t have to wait 50 years for people to start asking that question.
Insider Trading: Another Lawyer in the Cross-Hairs
Earlier this year, I blogged about the SEC’s insider trading enforcement action against a former Apple lawyer who exploited his access to the company’s draft earnings releases. The SEC recently brought another proceeding against an in-house lawyer for SeaWorld who allegedly engaged in similar conduct. Here’s an excerpt from the SEC’s press release announcing the action:
The SEC alleges that Paul B. Powers had early access to key revenue information as the company’s associate general counsel and assistant secretary, and he purchased 18,000 shares of SeaWorld stock the day after he received a confidential draft of the 2018 second quarter earnings release that detailed a strong financial performance by the company after a lengthy period of decline. According to the SEC’s complaint, Powers immediately sold his SeaWorld shares for approximately $65,000 in illicit profits after the company announced its positive earnings and the company’s stock price increased by 17 percent.
“As alleged in our complaint, Powers blatantly exploited his access to nonpublic information by misusing SeaWorld’s confidential revenue data to enrich himself,” said Kurt Gottschall, Director of the SEC’s Denver Regional Office. “Investors should feel confident in the integrity of corporate officers, particularly attorneys. The SEC is committed to swiftly pursuing insiders who breach their duties to investors.”
According to the SEC, the defendant consented to a permanent injunction and disgorgement in an amount to be determined by the court. As seems to be almost standard operating procedure in these cases, parallel criminal proceedings were also filed. Sigh. Don’t insider trade.
Insider trading cases involving corporate officials who trade ahead of good or bad news are like shooting fish in a barrel for the SEC. Whenever I read about one, I’m reminded of the story of a buddy of mine, who while he was in college at Georgetown got good & liquored up one night and decided to jump into the Tidal Basin with a few equally inebriated cohorts. Upon pulling himself out of the water, he found himself at the feet of a very large & completely unamused member of the National Park Police. The officer looked down at my friend, shook his head, and inquired – “How stupid can you be?”
Tesla Tweets: Will The D&O Carriers Ultimately Rein in Elon Musk?
This recent article from MarketWatch’s Francine McKenna tries to answer the question: “how do you handle a problem like Elon?” Several notables weighed in with their views, but the response that I found most intriguing came from Betsy Atkins, a Wynn Resorts director:
Atkins believes that market forces will cause the correction needed before any regulatory sanction, even a bigger fine for Musk, does. “If I were on that board, I would be very concerned and want the company to buy additional liability insurance for directors,” Atkins told MarketWatch. “Plaintiffs attorneys are already circling and at some point the current directors and officers insurance carrier may become fatigued and potentially unwilling to immunize the board from the public and private litigation.”
It’s a truism that there’s always somebody out there who will provide some kind of D&O insurance if you’re willing to pay enough for it – but whether that price is something that an increasingly independent Tesla board would be willing to stomach in order to allow Elon Musk to keep on tweeting is another issue.
I’ve always been very skeptical about whether most institutional investors really care about “corporate governance” when it comes to decisions to part with their investment dollars – and the continued willingness of non-index funds to buy into IPOs for dual class companies is a big reason for that skepticism. But this article from TheStreet.com suggests that institutional investors may finally be pushing back:
Much has been written about the advantages and pitfalls of the multi-class system, which grants founders who own relatively small stakes in the company disproportionate control of votes. On one hand, founders can drive growth unencumbered by squabbling activists; on the other, it can be extremely difficult to remove founders who underperform.
In the case of Uber, it took the dramatic ouster of founder and ex-CEO Travis Kalanick by the company’s board in August 2017 to ditch the dual-class structure it favored in its earlier days. Once the founder-knows-best mentality collides with institutional money, companies are increasingly facing pushback from institutional investors or would-be activists whose authority to push for changes is kneecapped.
Once dual-class stocks are traded publicly, unicorns can find themselves “instantly unpopular” among those constituencies, said Wei Jiang, a Chazen Senior Scholar at Columbia Business School. “I certainly think they will need to get used to it,” Jiang said of the growing pushback, some of which was codified in a 2018 letter co-signed by Blackrock, pension plans and other long-term investors, which condemned the dual-class model as poor corporate governance.
So, that’s it? Dual class companies will be “unpopular” & won’t be able to sit at the cool kids table during lunch at investor conferences? If that’s the sanction, my guess is that most of these companies will tough it out & see how much more popular they become if they beat their growth forecasts. (Spoiler alert: they will become very popular).
Do you know what makes me dubious about claims that dual class companies are “increasingly facing pushback” from institutions? TheStreet.com wrote the exact same story a year and a half ago. And yet, here we are. . .
Activism: A Watershed Moment for Active Fund Managers?
According to this Barron’s article, active fund managers are becoming. . . well. . . more “active” – and Wellington Management’s recent decision to publicly oppose Bristol-Myers Squibb’s acquisition of Celgene may represent a watershed moment for them:
In the past, fund managers simply sold a stock if they didn’t like what a company was doing. Today, more and more are nudging companies whose shares are trading far less than they should be to make changes that will close the valuation gap. Why ghost a company when you can help it become the investment you need it to be? These new voices are being heard: Whether they shout or they whisper, the market listens.
Consider Wellington Management, the venerated, press-shy $1 trillion firm that, for the first time ever, has publicly opposed management. In late February, Wellington, which runs $359 billion for Vanguard, announced it would oppose Bristol-Myers Squibb ’s plan to acquire Celgene. Celgene shares fell 8% in a matter of hours. Wellington’s protest coincided with a behind-the-scenes critique by Dodge & Cox, another old-school money-management firm with $300 billion in assets. In every story about the Celgene deal, Dodge & Cox was described as a detractor.
“If I were asked to rank the most important moments of this era and name the one event that figures to have the most lasting impact, I would save the top spot for Wellington and its decision to become a public shareholder activist,” says Don Bilson, head of event-driven research at Gordon Haskett. “Corporate America had better take note, because the folks who actually pick stocks have finally decided to flex their muscles.”
I’m a lot less skeptical about institutions speaking up when it comes to opposing deals they don’t like than putting their money where their mouths are when it comes to dual class structures. As I’ve previously blogged over on DealLawyers.com, there’s some pretty good evidence that this kind of buy-side M&A activism pays tangible dividends for investors.
Wells Fargo Annual Meeting: “That Went Well . . .”
According to this Dallas Morning News report, it sounds like yesterday’s Wells Fargo annual meeting was kind of a train wreck. Here’s an excerpt:
C. Allen Parker was interrupted more than a dozen times during Wells Fargo & Co.’s annual meeting by activists who called executives “frauds” and “criminals” and demanded the interim chief executive officer turn the scandal-plagued bank around. “Frauds, all of you,” one heckler shouted as Parker tried to deliver his opening remarks in Dallas on Tuesday. “Wells Fargo, you cannot be trusted,” yelled another.
In what will likely turn out to be 2019’s least sincere CEO statement, Parker responded to the heckling by saying, “One of the wonderful things about shareholder democracy in this country is that we have meetings like this. . .”
In the “all’s well that ends well” department, Wells Fargo announced that the board was reelected, say-on-pay was approved & a new comp plan passed.
There’s no love lost for corporate CEOs on Capitol Hill these days – particularly among Democratic lawmakers. Here’s a case in point – Sen. Elizabeth Warren (D – Mass.) has introduced “The Corporate Executive Accountability Act,” which would impose criminal liability on any executive officer who negligently permits or fails to prevent a violation of law by their company. Yup, she said “negligently.” Here’s an excerpt from this Cleary Gottlieb blog:
If enacted, the bill would constitute a dramatic departure from the typical requirements for a criminal conviction. Traditionally, crimes require both a wrongful action and a particular mental state—the mens rea, or guilty mind. The required mental state is usually (at a minimum) knowledge with respect to the actions that constitute the crime.
The Supreme Court has observed that “[t]he contention that an injury can amount to a crime only when inflicted by intention . . . is as universal and persistent in mature systems of law as belief in freedom of the human will and a consequent ability and duty of the normal individual to choose between good and evil.” Negligence—which is the mental state required for conviction under the Corporate Executive Accountability Act—is a much lower threshold, requiring only that a person act unreasonably, and is usually reserved for the context of civil liability.
The blog notes that there’s precedent for imposing criminal liability on executives who aren’t directly involved in or aware of wrongdoing – the “Responsible Corporate Officer Doctrine” has made that possible under a handful of federal statutes. The blog points out that this doctrine has been applied narrowly to offenses against public health & welfare.
In contrast, Sen. Warren’s proposed legislation – which could not conceivably have anything to do with the fact that she’s running for president – would expand the doctrine’s reach to any crime committed by a company with at least $1 billion in revenue, “regardless of whether the crime affects the public health or welfare or impacts the general public at all.”
China IPO Pig Outs: Credit Where It’s Due
Last fall, I blogged about the new standard in management pig-outs being set by Chinese tech IPOs – apparently, several newly public companies were giving their CEOs $1+ billion bonuses for their role in taking the companies public.
According to this recent article from The Guardian, one of the recipients of that corporate largesse – Xiaomi founder & CEO Lei Jun – has opted to give his bonus to charity. At a measly £750 million, it doesn’t even amount to $1 billion at current exchange rates, but it’s the thought that counts.
Inside the SEC’s Investor Advisory Committee
If you’re looking for insight into the role that the SEC’s Investor Advisory Committee plays in the agency’s regulatory initiatives, check out this recent “Dimensions” interview of IAC member & UVA law professor Paul Mahoney. Here’s what Prof. Mahoney says about why you should keep an eye on IAC findings & recommendations:
The statute mandates that the SEC review any findings or recommendations that the IAC brings it. Moreover, the SEC must respond publicly to those findings and recommendations and disclose what action, if any, it intends to take in response. So, of course, securities lawyers and financial-reporting professionals should want to know what the IAC is doing because we have, at a minimum, the power to draw the SEC’s attention to an issue.
Beyond that, the IAC has a statutorily mandated consultative role in the SEC’s ongoing work to modernize and simplify the ongoing disclosure requirements for public companies under Regulations S-K and S-X, which the SEC calls the Disclosure Effectiveness Project.
As we’ve previously blogged, much of the clamor for proxy advisor regulation on the part of “main street” investors has been coming from the “Main Street Investors Coalition” – an organization that is essentially a sock puppet for the U.S. Chamber of Commerce & the National Association of Manufacturers.
It looks like we may finally have some data on what real retail investors actually think. That’s because Spectrem Group recently surveyed over 5,000 retail investors to get their views on proxy advisors. And guess what? If you buy into the survey’s results – which not everybody does – it appears that the sock puppet may have had its finger on the pulse of retail investors all along. Here’s an excerpt from the intro:
The results of an extensive survey of 5,159 retail investors points to a growing disconnect between the expectations of those everyday investors and the increasing influence of proxy advisors, companies that provide voting services to the investment firms managing retail investor money. The survey presented here directly asks retail investors about issues raised in the debate over proxy advisory firms, revealing retail investors’ level of concern with fundamental flaws in the proxy advisor industry, including, but not limited to, conflicts of interest, robo-voting and insufficient transparency.
The increased focus of fund managers and proxy advisors on political and social activism, rather than maximizing returns, is out of sync with the expectations of ordinary investors. This practice has the potential to negatively impact returns for all retail investors by increasing the burden on public companies with no clear link to shareholder value. The absence of the inclusion of retail investors in the proxy process – as demonstrated by the participation levels and their inability to influence institutional shareholder voting – means that the voice of retail investors, who own 30 percent of public corporations in the United States, is being drowned out.
In terms of specific issues, 36% of investors cited conflicts of interest as their top concern with proxy advisors, 23% named lack of transparency & 20% identified errors in proxy advisor reports. Enabling robo-voting was named as the top concern by only 13% of investors – but 40% ranked it in their top 3.
Reminder: Your 10-Q Needs a Statement of Changes in Shareholders’ Equity!
Since a lot of companies are closing the books on Q1 of 2019, here’s a timely reminder from this SEC Institute blog on a new requirement for your Form 10-Q:
As a quick reminder for first quarter-end, the SEC’s Disclosure Update and Simplification Rule last fall added a requirement to the Form 10-Q to include a statement of changes in stockholders’ equity. This requirement was added via this addition to Article 10-01(a) of Regulation S-X:
(7) Provide the information required by §210.3-04 for the current and comparative year-to-date periods, with subtotals for each interim period.
Article 3.04 referred to in the paragraph above is the requirement to provide a statement of changes in stockholders’ equity.
When the disclosure simplification changes went into effect last fall, the Staff issued Exchange Act Forms CDI 105.09 indicating that companies wouldn’t be required to provide this disclosure in their 10-Qs for the 3rd quarter, but that the disclosure would be required in subsequent 10-Q filings – and for most companies, that means the upcoming Q1 filing.
Transcript: “Activist Profiles & Playbooks”
We have posted the transcript for the recent DealLawyers.com webcast: “Activist Profiles & Playbooks.”
