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.”
Disdain for the “Administrative State” is an article of faith among conservatives – and this Politico article discusses a recent OMB memo that’s likely to be music to their ears. Here’s an excerpt:
The White House on Thursday moved to curb the power of federal regulators by directing them to submit nonbinding guidance documents to the budget office for review, a step that could slow down the enactment of any rule with a potentially large impact on the economy. A memo from acting Office of Management and Budget Director Russell Vought would vastly broaden Congress’s ability to reject such guidance, subjecting the documents to the same scrutiny as regulations that carry the force of law.
The move is the latest salvo in a war waged by corporations and their Republican allies in government against what they view as backdoor rulemaking: agencies issuing regulatory documents that don’t go through the formal notice-and-comment process but can still be used as a cudgel against certain behavior.
The memo will have a potentially sweeping impact on agencies throughout the government including independent regulators like the Federal Reserve and the SEC. It calls on the agencies to regularly notify the Office of Information and Regulatory Affairs of upcoming guidance, along with determinations of whether it qualifies as “major” — the threshold for notifying Congress under the Congressional Review Act. Any guidance document deemed major by OIRA would need to be sent to Congress, which would then have the ability to strike it down under the review act, a law that gives lawmakers a short window to roll back a rule.
Compliance professionals should be very wary of what the Trump White House is trying to do here. In theory, restrained rulemaking is a reasonable idea — but time and again, we’ve seen this president and his sycophants in the White House playing with forces they’re too ignorant to use, bollixing up life for the rest of us.
For example, compliance officers of a certain age can remember the summer of 2008, and the feverish, improvisational rulemaking banking regulators tried back then to stave off the financial crisis. You’d really want OIRA review in the middle of something like that? You’d want Congress slowing down the process with 60-day approval windows?
In the real world, of course, if another crisis were to come along, you could bet your mortgage payment that the Trump Administration and Congress would grant some emergency stay of OIRA review, so regulators could move more quickly — and be left as the scapegoats, should the crisis explode anyway.
This isn’t the first time the Trump Administration has moved to curtail what it views as “rulemaking by guidance” – in 2017, former AG Jeff Sessions banned the DOJ from issuing guidance purporting to “create rights or obligations binding on persons or entities outside the Executive Branch.”
ESG: Trump Executive Order May Signal ERISA Fiduciaries to Watch Their Step
Last week was a big week for corporate America. In addition to the OMB memo, President Trump issued an executive order that contains a section directing the Secretary of Labor to “complete a review of available data filed with the Department of Labor by retirement plans subject to the Employee Retirement Income Security Act of 1974 (ERISA) in order to identify whether there are discernible trends with respect to such plans’ investments in the energy sector.”
That sounds innocuous enough, but this Davis Polk blog suggests that something more significant may be afoot:
While the section does not directly address environmental, social and governance (ESG) disclosure, it restates the definition of materiality from the U.S. Supreme Court case, TSC Industries, Inc. v. Northway, Inc., and reiterates a company’s fiduciary duties to its shareholders to strive to maximize shareholder return, consistent with the long-term growth of the company.
This order comes on the heels of last week’s U.S. Senate Committee on Banking, Housing, and Urban Affairs hearing on ESG Principles in Investing and the Role of Asset Managers, Proxy Advisors and Other Intermediaries, as well as ongoing activity at the U.S. Securities and Exchange Commission level, with certain institutional investors agitating for additional ESG disclosure requirements.
The blog says that while the order is silent about how the study might be used, it may well serve as the starting point for a crackdown on plan fiduciaries’ ESG activism. One “obvious use” of the study’s results could be to enforce the DOL’s April 2018 guidance prohibiting plan fiduciaries from focusing on ESG factors “solely to benefit the greater societal good.”
SEC Staff Guidance: A “Secret Garden” of Private Law?
You know who else has some issues with regulatory guidance? SEC Commissioner Hester Peirce. In a recent speech, Commissioner Peirce expressed concern about the extent to which the SEC Staff provides non-public guidance about unresolved regulatory questions. Here’s an excerpt:
Some requests for clarification or guidance are inappropriate for handling through a time-consuming process that results in a published response. Indeed, as a Commissioner, I hope that the staff is engaging productively and responsively with market participants. I would not want to see this engagement become so burdensome to either staff or market participants that it discourages people from seeking informal guidance or the staff from providing it.
However, when staff provides non-public guidance, Professor Davis’s concerns become much more pronounced, and I believe that there is a line that can be crossed where non-public staff guidance goes from being merely helpful “l-o-r-e” lore to something that is more akin to secret law that, for all practical purposes, binds at least some (though perhaps not all) market participants without any opportunity for review or appeal.
Commissioner Pierce suggests that private interactions between the Staff and private parties in certain areas have created a “secret garden” of guidance that raises questions of fairness & transparency. Peirce isn’t suggesting eliminating the practice of providing private guidance, but does see a need to “take down the walls of the secret gardens at the SEC, or at least to make doorways into these gardens, so that the public can get a glimpse inside, assess the quality of what is growing within, and hold us accountable for what is found there.”
Yesterday, Corp Fin announced a streamlined procedure for extending previously granted confidential treatment orders covering information in material contracts. The announcement notes that, when it comes to extensions, simply filing the redacted exhibit as contemplated by the new Fast Act rules will not provide confidential treatment for information in the previously filed CTR. This excerpt from the announcement summarizes the new procedure:
We have developed a short form application to facilitate and streamline the process of filing an application to extend the time for which confidential treatment has been granted. It is a one-page document by which the applicant can affirm that the most recently considered application continues to be true, complete and accurate regarding the information for which the applicant continues to seek confidential treatment. With that affirmation, the applicant indicates its request that the Division extend the time period for confidential treatment for an additional three, five or 10 years and provides a brief explanation to support the request.
Companies don’t have to refile the unredacted contract with the extension request, and if the supporting analysis remains the same as presented in the most recent CTR, they won’t have to refile that either. If the applicant reduces the redactions, the revised redacted version of the contract must be filed with the short form extension application.
The short form application may only be used if the contract has already been the subject of an order granting a CTR, and it can’t be used to add new exhibits to the application or make additional redactions. For a deeper dive into the new process, check out this Cydney Posner blog. We’ve also updated our “Checklist on Confidential Treatment Requests” to reflect this new procedure.
Cybersecurity: Beware Cyberinsurance’s War Exclusion
This recent NYT article says that the cyberinsurance policy you pay big bucks for may have a big hole in it – thanks to the standard “war exclusion” contained in most policies. Here’s an excerpt:
Mondelez, owner of dozens of well-known food brands like Cadbury chocolate and Philadelphia cream cheese, was one of the hundreds of companies struck by the so-called NotPetya cyberstrike in 2017. Laptops froze suddenly as Mondelez employees worked at their desks. Email was unavailable, as was access to files on the corporate network. Logistics software that orchestrates deliveries and tracks invoices crashed.
Even with teams working around the clock, it was weeks before Mondelez recovered. Once the lost orders were tallied and the computer equipment was replaced, its financial hit was more than $100 million, according to court documents. After the ordeal, executives at the company took some solace in knowing that insurance would he lp cover the costs. Or so they thought.
Mondelez’s insurer, Zurich Insurance, said it would not be sending a reimbursement check. It cited a common, but rarely used, clause in insurance contracts: the “war exclusion,” which protects insurers from being saddled with costs related to damage from war.
The U.S. government said that Russia was responsible for the cyberattack, which made Mondelez & other companies “collateral damage in a cyberwar” & gave insurers an opening to deny coverage under the war exclusion. Mondelez & Merck, which was also denied coverage, sued their insurers & the issue is working its way through the courts. The stakes are high – given the prevalence of state-sponsorship when it comes to big cyberattacks, the article suggests that the outcome could go a long way to determining whether cyberinsurance is worthless.
ICOs: Reg D Remains the Preferred Route
I blogged last year about a MarketWatch article highlighting coin offerings’ increased reliance on Regulation D following the Staff’s 2017 guidance on coin offerings. This recent MarketWatch article says that while the volume of coin offerings is down, Reg D still seems to be the preferred route. Here’s an excerpt addressing the number of Form D filings for token deals:
MarketWatch counted 33 ICO-related fundraisings accepted by the SEC in the first quarter of 2019, with a total stated value of $1.9 billion. That is down from a peak of 99 in the second quarter of 2018. MarketWatch estimated there were 287 ICO-related fundraisings accepted by the SEC with a total stated value of $8.7 billion in 2018. That was a significant increase from 44 fundraisings filed with a total stated value of $2.1 billion in 2017.
