Yesterday, Corp Fin issued 2 new CDIs addressing the interplay of Form 12b-25 and Corp Fin’s modified Covid-19 exemptive order that it issued last week providing SEC filing relief for companies affected by the Covid-19 crisis. Here they are:
Question 135.12
Question: A registrant expects that due to COVID-19 it will be unable to file a report of the type covered by Rule 12b-5 on timely basis without incurring an unreasonable effort or expense. It is uncertain as to its ability to file the required report within the applicable 12b-25(b)(2)(ii) period. Should the registrant instead furnish a report on Form 8-K or 6-K, as applicable, relying on the COVID-19 Order (Release No. 34-88465 (March 25, 2020))?
Answer: As a condition to its use, the COVID-19 Order requires, among other things, that the registrant furnish certain specified statements by the later of March 16, 2020 or the original due date of the required report. If the registrant only files a Form 12b-25 by the original due date of the required report, it will have not met the condition of the COVID-19 Order to provide the statements called for by the original filing deadline on a furnished Form 8-K or Form 6-K. Unless this condition is met, the 45 day relief period provided in COVID-19 Order will not be available. Registrants unable to rely on the COVID-19 Order are encouraged to contact the staff to discuss collateral consequences of late filings. [March 31, 2020]
Question 135.13
Question: Can a registrant that filed a Form 12b-25 subsequently rely on the COVID-19 Order (Release No. 34-88465 (March 25, 2020)), to extend the filing deadline for the subject report?
Answer: The COVID-19 Order is conditioned on a registrant having furnished a Form 8-K or Form 6-K by the later of March 16, 2020 or the original due date of the report. A Form 12b-25 filing does not extend the original due date of a report. Therefore, unless a registrant that filed a Form 12b-25 also furnished a Form 8-K or Form 6-K by March 16, 2020 or the original due date of the report, it would not be able to rely on the COVID-19 Order.
On the other hand, a registrant that relies on the COVID Order for a report will be considered to have a due date 45 days after the original filing deadline for the report. As such, the registrant would be permitted to subsequently rely on Rule 12b-25 if it is unable to file the report on or before the extended due date. Registrants unable to rely on the COVID-19 Order are encouraged to contact the staff to discuss collateral consequences of late filings. [March 31, 2020]
Heightened Insider Trading Risk
With the ongoing Covid-19 pandemic, there is heightened risk for insider trading as more people might have access to material non-public information (MNPI). We’ve blogged before about the need to maintain confidentiality of MNPI and with nearly everyone working remotely, this seems especially important now. The SEC has made clear that it’s focused on securities fraud during the current crisis. Last week, the Co-Directors of the SEC’s Division of Enforcement issued a statement about the impact of Covid-19 on market integrity. Here’s an excerpt:
In these dynamic circumstances, corporate insiders are regularly learning new material nonpublic information that may hold an even greater value than under normal circumstances. This may particularly be the case if earnings reports or required SEC disclosure filings are delayed due to COVID-19. Given these unique circumstances, a greater number of people may have access to material nonpublic information than in less challenging times. Those with such access – including, for example, directors, officers, employees, and consultants and other outside professionals – should be mindful of their obligations to keep this information confidential and to comply with the prohibitions on illegal securities trading.
In this interview transcript on CNBC, SEC Chairman Clayton reiterated this message saying “anyone who is privy to private information about a company or about markets needs to be cautious about how they use that private information. That’s sort of fundamental to our securities laws and that applies to government employees, public officials, etc. And the STOCK Act codifies that.”
These recent statements come on the heels of reports about Congressional trades right before the market downturn, which are now reportedly being investigated by the DOJ and SEC. But if companies haven’t already done so, now would be a good time to review who has access to inside information and compliance procedures to see whether extra steps are necessary to minimize insider trading risk.
Transcript: “The Coronavirus: What Should Your Company Do Now?”
We have posted the transcript from our recent webcast: “The Coronavirus: What Should Your Company Do Now?”
Last fall, Broc ran the 2nd Annual “Cute Dog” Contest. Baker Botts earned bragging rights with Jude Dworaczyk’s “Penny the Hair Bow Aficionado” representing the firm. Some members responded asking that we run the contest again and some suggested a future “cute cat” contest, which we will try to get on deck for some time in 2020. So, with all the heavy news lately, let’s take a look at more “cute dog” photos – and one cute rabbit! The poll is at the bottom of the blog.
1. Gibson Dunn’s Lori Zyskowski – Snickers the “Snowdoodle”
2. Norfolk Southern’s Ginny Fog – Barnaby the “Chillin’ Lounger”
3. Covington & Burling’s Reid Hooper – Midnight and Hercules the “Dynamic Duo”
4. Travelers’ Wendy Skjerven – Mulligan the “Prince of Second Chances”
5. Our own John Jenkins – Shadow the “Backseat Driver”
6. Sidley Austin’s Andrea Reed – Peaches the “City Slicker”
Vote Now: “Cutest Dog Contest”
Vote now in this poll – anonymously – for the dog that you think is the cutest:
survey hosting
Cyan Agonistes: Del. Supreme Ct. Upholds Federal Forum Provisions
Sharing a blog entry here that John posted yesterday on DealLawyers.com as it’s of interest to many: In its 2018 Cyan decision, the SCOTUS unanimously held that class actions alleging claims under the Securities Act of 1933 may be heard in state court. It also held that if those claims are brought in a state court, they can’t be removed to federal court. Some corporations responded to Cyan by adopting “federal forum” charter provisions compelling shareholders to bring 1933 Act claims only in federal court. Much to the chagrin of the defense bar, the Delaware Chancery Court struck those provisions down in Sciabacucchi v. Salzberg, (Del. Ch.; 12/18).
Yesterday, the Delaware Supreme Court unanimously reversed the Sciabacucchi decision. In Justice Valihura’s sweeping 53-page opinion, the Court rejected claims that federal forum provisions were contrary to any Delaware law or policy, and read Section 102(b) of the DGCL as a broad enabling statute that provides Delaware corporations with more than enough flexibility to include a federal forum provision in their certificates of incorporation.
Section 102(b)(1) authorizes the certificate to include “any provision for the management of the business and for the conduct of the affairs of the corporation” and “any provision creating, defining, limiting and regulating the powers of the corporation, the directors, and the stockholders, or any class of the stockholders.” While that authority can’t be used to adopt provisions that violate law or public policy, the Court concluded that a federal forum provision, or FFP, didn’t raise either of those concerns:
First, Section 102(b)(1)’s scope is broadly enabling. For example, in Sterling v. Mayflower Hotel Corp., this Court held that Section 102(b)(1) bars only charter provisions that would “achieve a result forbidden by settled rules of public policy.” Accordingly, “the stockholders of a Delaware corporation may by contract embody in the [certificate of incorporation] a provision departing from the rules of the common law, provided that it does not transgress a statutory enactment or a public policy settled by the common law or implicit in the General Corporation Law itself.”
Further, recognizing that corporate charters are contracts among a corporation’s stockholders, stockholder-approved charter amendments are given great respect under our law. In Williams v. Geier, in commenting on the “broad policies underlying the Delaware General Corporation Law,” this Court observed that, “all amendments to certificates of incorporation and mergers require stockholder action,” and that, “Delaware’s legislative policy is to look to the will of the stockholders in these areas.” Williams supports the view that FFPs in stockholder-approved charter amendments should be respected as a matter of policy. At a minimum, they should not be deemed violative of Delaware’s public policy.
The Court rejected claims that the language added to Section 115 of the DGCL in 2015 codifying the Boilermakers decision permitting exclusive forum bylaws represented an implicit recognition that FFP provisions were impermissible. It also rejected the Chancery’s effort to limit Section 102(b)’s reach to matters covered by the “internal affairs” doctrine, and said that the Chancery’s decision took a narrower approach to what constituted “internal affairs” than either applicable federal or Delaware precedent.
On a personal note, I’d like to express my thanks to the Delaware Supreme Court for giving me something to blog about that’s completely unrelated to the Covid-19 pandemic & for allowing me to fulfill my dream of using the word “agonistes” in a blog title. Now, when somebody googles John Milton or Gary Wills, they may stumble across me! That’s the closest thing to literary immortality that a fat guy in pajamas pounding on a keyboard can reasonably hope to achieve. . .
COVID-19: First Securities Lawsuits Filed
With all the market turmoil, one more unfortunate outcome from COVID-19 is possible securities lawsuits – and it didn’t take long. A memo from Jenner & Block says stock drop class actions have been filed against two companies. First, there’s a suit against a cruise line operator alleging the company misrepresented the impact of COVID-19 by minimizing the likely impact on its operations.
Another suit has been filed against a pharmaceutical company. In this case, the suit alleges the company misrepresented its progress on a COVID-19 vaccine. Hopefully these cases aren’t indicative of a coming trend. Bottom line as noted in the memo – it’s hard to say whether these cases will be successful but companies should take extra care when making any public statements about the potential impact of COVID-19 on their business.
According to this report, Chief Audit Executives (CAEs) don’t think that companies are doing a very good job evaluating corporate governance. The report was issued by the Institute of Internal Auditors and the Neel Center for Corporate Governance at the University of Tennessee. The report says that IIA and the Neel Center partnered to develop what they call the “American Corporate Governance Index” (ACGI) that’s based on eight guiding principles of corporate governance.
The report is based on survey responses from 128 Chief Audit Executives of publicly traded U.S. companies. Survey respondents answered questions anonymously, so scores aren’t assigned to individual companies, by indicating their level of agreement or disagreement with specific statements and scenarios.
Emphasizing the difficulty in overseeing corporate governance across all levels of an organization, the report’s survey questions were designed to capture the effectiveness of corporate governance enterprise wide. Key findings include:
– 10% of Index companies scored an F
– Many companies are willing to sacrifice long-term strategy in favor of short-term interests
– More than one-third of board members are not willing to offer contrary opinions or push back against the CEO
– Boards fail to verify the accuracy of information they receive
– Independent boards drive stronger governance
– Companies are vulnerable to corporate governance weaknesses or failures – the report says that the majority of respondents reported no formal mechanism for monitoring or evaluating the full system of corporate governance
– Regulation does not correlate with stronger governance
Aside from the report’s key findings, it also said that CAE’s reported when corporate governance is formally evaluated, internal audit completes the evaluation 75% of the time, and when not, it’s often done by the GC’s office or under the direction of the board governance committee, at which point “it is more likely to be a compliance ‘check-the-box’ exercise”. Reading that CAE’s say regulation doesn’t correlate with stronger governance, regulations aside, I suspect many wouldn’t support dropping ‘check-the-box’ governance evaluations.
Insider Trading: Ex-Legal Department Employee Gets Caught
Last year, John blogged about how lawyers seemed to be getting caught in the cross-hairs of insider trading cases. It can be a little unnerving to read of these cases, especially when lawyers know better and company legal departments have policies and safeguards in place to mitigate insider trading risks.
But, here we are again. I recently saw this story about a SEC settlement involving a now ex- in-house legal department employee. According to the story, the employee, who was a legal assistant, got his hands on an update to the company’s board about a pending acquisition – the update was marked “strictly confidential”. The ex-employee then purchased shares in the target company and tipped his 86-year old father who also purchased the target’s shares. The story says the ex-employee got cold feet and sold his shares in the target but his father hung on for the acquisition announcement and resulting gain. Both the son and father agreed to pay civil penalties of about $20,000 with the father also giving up the illicit profit.
Bottom line – just don’t do it! For anyone wanting to brush-up on insider trading considerations, check out the “Insider Trading” Handbook available on our website that includes a sample insider trading policy as well as discussion of the scope and content for insider trading policies.
Our March Eminders is Posted!
We have posted the March issue of our complimentary monthly email newsletter. Sign up today to receive it by simply entering your email address!
It looks like the SEC didn’t waste much time in finding its big company poster child for key performance indicators (KPI). Yesterday, the SEC issued a press release announcing an enforcement proceeding where it brought charges against Diageo plc for disclosure failures. The enforcement proceeding is right on the heels of the SEC’s KPI interpretive release that John blogged about just a couple of weeks ago. Here’s the crux of what the SEC had to say:
According to the SEC’s order, employees at Diageo North America (DNA), Diageo’s largest and most profitable subsidiary, pressured distributors to buy products in excess of demand in order to meet internal sales targets in the face of declining market conditions. The resulting increase in shipments enabled Diageo to meet performance targets and to report higher growth in key performance indicators that were closely followed by investors and analysts. The order finds that Diageo failed to disclose the trends that resulted from shipping products in excess of demand, the positive impact the overshipping had on sales and profits, and the negative impact that the unnecessary increase in inventory would have on future growth. The order further finds that investors were instead left with the misleading impression that Diageo and DNA were able to achieve growth in certain key performance indicators through normal customer demand for Diageo’s products.
Without admitting or denying the findings in the SEC’s order, Diageo agreed to cease and desist from further violations and to pay a $5 million penalty.
You can find memos about the SEC’s KPI interpretive release posted in our “MD&A” Practice Area.
SEC Public Statement on Coronavirus
Yesterday, the SEC issued a public statement on the effects of the coronavirus on financial reporting. In late January, John blogged about Chairman’s Clayton’s statement addressing disclosure implications from the coronavirus outbreak.
Yesterday’s statement said SEC Chairman Clayton, Corp Fin Director Hinman, SEC Chief Accountant Teotia and PCAOB Chairman Duhnke met with the leaders from the Big 4 audit firms to continue discussions around difficulties in conducting audits in China and other emerging markets. In these discussions, they also discussed the “potential exposure of companies to the effects of the coronavirus and the impact that exposure could have on financial disclosures and audit quality, including, for example, audit firm access to information and company personnel.” Here’s an excerpt from the SEC’s statement:
The coronavirus effects on any particular company may be difficult to assess or predict, because actual effects may depend on factors beyond the control and knowledge of issuers. However, how issuers plan and respond to the events as they unfold can be material to an investment decision, and we urge issuers to work with their audit committees and auditors to ensure that their financial reporting, auditing and review processes are as robust as practicable in light of the circumstances in meeting the applicable requirements.
Specifically, we emphasized: (1) the need to consider potential disclosure of subsequent events in the notes to the financial statements in accordance with guidance included in Accounting Standards Codification 855, Subsequent Eventsand (2) our general policy to grant appropriate relief from filing deadlines in situations where, in light of circumstances beyond the control of the issuer, filings cannot be completed on time with appropriate review and attention. In addition, if issuers have questions regarding the reporting of matters related to the potential effects of the coronavirus, including potential subsequent event disclosure, we welcome engagement on these matters.
The SEC’s statement says that companies are encouraged to contact the SEC regarding any need for relief or guidance.
PCAOB Conversations with Audit Committee Chairs
The PCAOB recently issued a report that summarizes information gathered from conversations with nearly 400 audit committee chairs. The conversations were primarily focused on audit quality and provide insight on a variety of topics including audit committee perspectives of the auditor, new auditing and accounting standards and technology and innovation. Here’s an excerpt about what audit committees are saying works well:
– Reviewing other audit firms’ inspections reports to see if there are any lessons learned or questions about potentially similar issues that could be discussed with your auditor
– Conducting an assessment – on at least an annual basis – of the engagement team and audit, including discussions around what went well and what could be improved
– Using outside consultants or experts to educate the audit committee on new or complex accounting standards
The report also provides an overview of PCAOB 2019 inspections and touches on how the PCAOB selects audits for inspection, what an inspection entails and what happens when a deficiency is identified.
When it comes to “cyber response plans,” the planning stage is a lot more useful if it’s actually been tested. A blog discussing the recently issued SEC OCIE Cybersecurity and Resiliency Observations says if you’re not practicing what to do when you experience a cyber attack, you’re not being realistic about your chances of effectively responding to it.
Although the SEC OCIE observations are primarily directed toward broker-dealers and investment advisors, the recommendations seem worthwhile for any company, one being testing and monitoring:
Establishing comprehensive testing and monitoring to validate the effectiveness of cybersecurity policies and procedures on a regular and frequent basis. Testing and monitoring can be informed based on cyber threat intelligence.
It also recommends testing the incident response plan and potential recovery times, using a variety of methods including tabletop exercises. If an incident occurs, implement the plan and assess the response after the incident to determine whether any changes are necessary.
This recent blog from McGuireWoods is helpful because it summarizes how to run an effective tabletop exercise to test your response plan. Here’s a few recommendations:
– Objectives – set ground rules for the exercise, who speaks first, is there a budget for the response, level of detail to be provided, determine the focus of the exercise – detection, containment, etc.
– Evaluation – think about how to evaluate the exercise, identify a note-taker during the exercise, detail the evaluation process
– Full participation – ensure key participants coordinated their responses, ensure contractual partners are included, determine who has authority to resolve disagreements
– An experienced facilitator – bringing in an experienced facilitator can help ensure all areas have a voice and that the exercise stays on track so the result is measurable
Tips for Improving Data Privacy Provisions
Besides testing your cyber response plan, another thing to consider is the data privacy provision in contracts. I recently came across this memo in CFO.com that provides 8 tips for improving data privacy provisions in contracts. Most of us can think of a few service provider arrangements at our companies that we know house sensitive customer or employee data. The last thing we want is for that service provider to experience a data breach and soon we are pulled into the crisis with them.
Improving data privacy provisions of these contracts can boost risk management efforts – here’s an excerpt from the memo with some of the tips:
– Synch the indemnification and limited liability provisions – no need to have a great indemnification provision if it’s all wiped away by a limited liability provision that says the vendor’s liability is limited to some small dollar amount
– Avoid early termination fees – especially important if you’ve already been working with the vendor in certain capacities, early termination as a result of a data breach seems reasonable and it’s hard to see what costs the vendor would have a right to recover
– Vendor should agree to comply with all applicable data privacy and security laws – with rapidly changing laws, the vendor may not want to do so but stressing that you don’t accept carve outs for this is necessary – how do you explain to the board that you have a vendor that doesn’t agree to abide by all applicable laws?
Tomorrow’s Webcast: “Audit Committees in Action – The Latest Developments”
Tune in tomorrow for the webcast – “Audit Committees in Action: The Latest Developments” – to hear Deloitte’s Consuelo Hitchcock, EY’s Josh Jones and Gibson Dunn’s Mike Scanlon discuss recent SEC, FASB & PCAOB guidance impacting audit committees, evolving practices for audit committee charters, agendas and meetings and how the audit committee should manage its relationship with the independent auditor.
Don’t miss the latest episode of the “Dave & Marty Radio Show” – in which Dave Lynn and Marty Dunn engage in a lively discussion of the latest developments in securities laws, corporate governance, and pop culture. Topics in this 24-minute episode include:
– Recommendations for tuning up your risk factors
– Early trends in the shareholder proposal season
– Evolving musical tastes in a world of technological innovation
Newer Sustainability Reporting Frameworks are Picking up Global Endorsements
This year has already seen significant endorsements of the newer sustainability reporting frameworks: the Sustainability Accounting Standards Board (SASB) and the Task Force for Climate-related Financial Disclosures (TCFD).
As Lynn blogged last month, Blackrock’s annual letters from CEO Larry Fink note that Blackrock is more strongly encouraging its portfolio companies to provide sustainability disclosure in accordance with SASB’s industry-specific standards and the TCFD’s recommendations, including a company plan for operating under a global warming scenario of 2 degrees Celsius or lower. To back up its “encouragement”, Blackrock will increasingly vote against management and boards whose companies aren’t “making sufficient progress on sustainability-related disclosures and the business practices and plans underlying them.”
A related endorsement came out of Davos last month, where the World Economic Forum’s International Business Council (IBC) – which includes 140 large global companies — supported the development of an ESG reporting framework that also relies on existing disclosure frameworks, including SASB and TCFD. A draft framework has been proposed by the Big Four accounting firms, which have actively supported many of the sustainability reporting initiatives and are well placed to do third-party audits of the corporate ESG disclosures.
This growing support for SASB and TCFD is consistent with the report that Glenn Davis and I co-authored last September, “Sustainability Reporting Frameworks: A Guide for CIOs”, for the Council of Institutional Investors (CII). The text of this Guide is intended to be a quick read for pension fund CIOs and other readers, who want to learn:
The main differences between the primary reporting frameworks (summarized further in a brief Appendix)
Related considerations for fund CIOs and their staffs
Open issues for the future
For ESG reporting geeks who want more, the 50+ footnotes link to related research and articles, plus helpful disclosure examples.
Skipped Class the Day Insider Trading was Covered?
Insider trading stories really do make me shake my head in disbelief and I did that when reading a recent story. In this case, the SEC caught up with a recent college grad for insider trading – within the grad’s first year on the job as a junior investment banker. The action seems pretty cut and dry – within the first year out of college and while working as a junior investment banker, the grad learned of a pending deal, bought call options and sold them for a profit shortly after the deal was announced. Here’s an excerpt from the SEC’s press release:
The grad agreed to settle with the SEC and consented to the entry of a judgment permanently enjoining him from violating the antifraud provisions of Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder and ordering him liable to pay disgorgement of his ill-gotten trading profits, with interest, which will be offset by the amount of any forfeiture ordered against the grad in a parallel criminal action. In a separate administrative proceeding instituted on December 23, 2019, the grad consented to be barred from association with any broker, dealer, investment adviser, municipal securities dealer, municipal advisor, transfer agent, or nationally recognized statistical rating organization, and from participating in any penny stock offering.
On the same day the SEC filed its action, the U.S. Attorney’s Office for the Southern District of New York announced parallel charges against him. The grad pleaded guilty in the criminal action, and in January 2020 he was sentenced to five years of probation and ordered to forfeit approximately $126,000.
According to this story, the grad is reportedly the former study body president at NYU’s Stern School of Business and at one time gave advice to first-year students to “hold on to your values”. Not sure what values this person had in mind. It’s hard to imagine that someone wouldn’t understand the concept of insider trading even if the person missed class the day the prof covered it. But, it’s sad to think this could be another case where the person just thought they wouldn’t get caught…
This memo from the Journal of Accountancy gives me LSAT flashbacks. Based on remarks from an SEC Professional Accounting Fellow, it explains that while critical audit matters tend to be a subset of critical accounting estimates, some CAMs have not been reported as critical accounting estimates by management. Here’s an excerpt:
For example, one auditor reported that evaluation of the identification of related parties and related-party transactions was a critical audit matter, but there wasn’t a critical accounting estimate related to that topic.
Sometimes, Collins said, an auditor identifies a critical audit matter that is a component of a related critical accounting estimate. For example, one critical audit matter related to a goodwill impairment analysis for a specific reporting unit that was considered at risk for impairment. Management’s critical accounting estimate, meanwhile, related to goodwill impairment more broadly.
The memo also quotes SEC Deputy Chief Accountant Marc Panucci as urging auditors and companies to approach critical audit matters as a blank sheet of paper each year. Often, they might end up being the same from year to year, but auditors won’t know that until they’ve considered the facts & circumstances of each each individual audit.
Disclosure Reform: Are ESG Risks “Material”?
Over the past couple of years, the SEC has taken a few small steps toward “disclosure reform” – with its 2018 “Disclosure Update & Simplification” and 2019 “Fast Act Modernization” amendments – as well as with its more recent proposal to modernize Items 101, 103 and 105 of Reg S-K. Although the most recent proposal drew thousands of comments – including from Big Yoga! – none of the recent or anticipated rule changes would overhaul ESG risk disclosure in the way that some investors say they want.
One of the main objections to even considering rules on this topic is that the info wouldn’t be material. To get a sense of who shares that view, a recent study published in the Villanova Law Review takes a closer look at the comment letters submitted in response to the SEC’s 2016 Concept Release – apparently there were 25,000 comments but only 375 “unique” responses. Here’s an excerpt:
The findings here confirm that concerns about investors’ disclosure overload are overblown and indeed, outdated. While many investors support some streamlining of risk-related disclosure, most investor comments focus on the under-disclosure of material information, not the reverse.
The empirical results discussed in Part III below confirm that respondents’ support for, or opposition to, ESG disclosure reform has less to do with ESG and more to do with their underlying views on materiality, the value of prescriptive disclosure, and how satisfied they are with the current state of reporting.
At the same time, this study also finds a surprising level of agreement among respondents on a number of the SEC’s proposals to simplify risk-related disclosures, particularly with regard to market risk disclosures and MD&A.
What I found refreshing was that the study confirmed the SEC, investors and business community all agreed that risk disclosures are extensive but frequently generic and boilerplate – and there was general agreement for more principles-based disclosure. The study provides another entry point for conversations about ESG risk disclosure – e.g., consideration needs to be given to not only increased compliance costs that companies would incur with expanded disclosure but also costs to investors of under-disclosing material ESG information.
Tomorrow’s Webcast: “Conflict Minerals – Tackling Your Next Form SD”
Join us tomorrow for the webcast – “Conflict Minerals: Tackling Your Next Form SD” – to hear our own Dave Lynn of Morrison & Foerster, Ropes & Gray’s Michael Littenberg, Lawrence Heim of the Responsible Minerals Initiative and Deloitte’s Christine Robinson discuss what you should now be considering as you prepare this year’s Form SD.
With the comment period for the SEC’s proposed rules on regulating proxy advisors and the shareholder proposal process closing today – February 3rd – let’s take a peek at some of the comment letters submitted so far on these topics – available here and here, respectively.
First, among other things, T. Rowe Price has asked the SEC to refocus on proxy infrastructure – e.g. end-to-end vote confirmation – and to go back to the drawing board. That’s similar to recent recommendations from the SEC’s Investor Advisory Committee – I blogged last week on our “Proxy Season” Blog that the Committee wants the SEC to revisit its priorities and re-do the proposals.
Some letters focus primarily on the proposal dealing with regulation of proxy advisors (see this letter from Value Edge Advisors, Nell Minow), while others focus primarily on the proposal dealing with the Rule 14a-8 shareholder proposal process (like this one from First Affirmative) – and some address both (e.g., Neuberger Berman).
The Council of Institutional Investors issued a press release criticizing the proposals and then submitted two letters, one on the regulation of proxy advisors and another on the Rule 14a-8 shareholder proposal process, each is 65 pages long. Here’s an excerpt from CII’s press release:
The two proposals are the most significant attempt by the SEC to limit the voice of shareholders since the Commission was created in 1934. They would tighten regulation of proxy advisory firms and shareholder proposals in ways that CII believes are fundamentally flawed and unnecessary. If adopted, both proposals would introduce complexity and micromanagement in proxy voting and in shareholder-company engagement processes that have worked well for decades. CII urges the SEC to withdraw both proposals and focus instead on festering problems in the proxy voting system.
Here are a few other letters worth noting:
– Boston Trust Walden (signatories include, among others, As You Sow, Mercy Investment Services, NYC Comptroller, Trillium Asset Management)
– Principles for Responsible Investment (sign-on letter – signatories include, among others, BMO Global Asset Management, ClearBridge Investments, Legal & General Investment Management, MFS Investment Management, New York State Comptroller, Wellington Management Company)
Aside from traditional comments to the SEC, at least one asset manager has criticized the proposed rules in a letter to clients – here’s a client letter from Daniel Loeb’s Third Point (comments on rule proposal on pg 4).
As reported in the NY Times and Reuters, in a speech last week, SEC Commissioner Roisman defended the proposals and said that some of the comments are based on misinformation but he is “open to changing his mind” on the direction of the proposals.
And, even though the comment period closes today, comments will continue to roll in…
CalPERS and CalSTRS Report on Climate-Related Financial Risk
CalPERS has issued its first report on climate-related financial risk of its public market portfolio, including the fund’s alignment with the Paris Agreement and California climate policy goals and the exposure of the fund to long-term risks.
Among information included in the report is a summary of public market exposures and anticipated climate-related financial risks in sectors noted by the TCFD as most exposed to climate risks and opportunities. The report also provides an analysis of how CalPERs work on climate change is aligned with the Paris Agreement and California climate policy goals and it outlines some of CalPERS engagement activities. Engagement activities have included meeting in person with company management and in some cases board members about climate risk.
CalSTRS also filed its first report on climate-related financial risk under California Senate Bill 964. CalSTRS’ report, titled “Green Initiative Task Force“, includes additional content compared to prior reports in that it says the report analyzes CalSTRS climate risk exposure and describes how it supports California’s climate goals. The report also is structured to align with the TCFD framework of recommended climate-related financial disclosures – governance, strategy, risk management, and metrics and targets.
The reports also summarize CalPERS and CalSTRS proxy voting on environmental proposals during the 2019 proxy season – each fund typically supports proposals asking for improved environmental risk reporting unless it believes that the company already provides adequate disclosure about these risks. In 2019, CalPERS and CalSTRS each supported 54% of environmental proposals.
As noted in the reports, California Senate Bill 964 requires CalPERS and CalSTRS to publicly report this information every three years until January 31, 2035. Because this was CalPERS first report, in the report CalPERS states that it welcomes the California legislature’s feedback. So, let’s check back in three years and see how the report has evolved. In the interim, CalSTRS report says that it will provide an annual update highlighting its low-carbon transition activities.
Our February Eminders is Posted!
We have posted the February issue of our complimentary monthly email newsletter. Sign up today to receive it by simply entering your email address!
Some of you might know that we’re soon moving to “zone defense” in my house – my husband & I are expecting our third child any day now. We also took on parenthood later in life, and we love a challenge, so they’re all under age 5.
At about this point with our second, I went way out of my comfort zone and blogged about some of the issues I was facing. I loved that many of you responded with your own anecdotes, words of encouragement and advice. Even more gratifying was that a few people confided that they were facing similar issues and felt less alone after reading that post. I’ll say that most of the things in that list still apply the third time around, but I have a few more to add:
1. Living the Cliche: The biggest difference this time around is my “time flies” mindset. With our oldest starting kindergarten next year and our “baby” (soon-to-be middle child) well into the toddler phase, I’m really starting to grasp how quickly this all goes. I’ve barely accepted the fact that I’m pregnant and it’s already over!
2. ESG Is Everywhere: People are mad at Fisher Price/Mattel and the Consumer Product Safety Commission for failing to share stats about infant deaths caused by the Rock ‘n Play, a super popular product that we used for both of our kids. The info came to light, and the product was recalled, only because the CPSC accidentally shared product-specific info with Consumer Reports. So that’s not too reassuring. Only read the report if you can stomach the tragic human element of the story. This truly is a “buyer beware” world – which is scary when you’re desperate, sleep-deprived, faced with loads of conflicting info and in charge of keeping a defenseless human alive.
Will there be long-term legal or reputational fallout for the company or the agency? At least one well-known “baby sleep” author (yes, that’s a thing – she also runs a 45,000-member Facebook group) has renounced her trust of any products and is rewriting her book. I’m left wondering what kind of info the company’s board was getting and whether there’s an advisory board that will get more attention in future disclosures, since there don’t appear to be any pediatricians or child safety experts on the board itself. This WaPo article about “voluntary safety standards” set by companies is also…interesting. I guess that’s good for shareholders, at least in the short-term?
3. My Kids Make Me Better: I suspect that many in our community – myself included – can identify with this HBR article about overworking. Sometimes I try to do some “light work” around the family on nights & weekends. But lately, my 2-year-old walks up, shuts my laptop and carries it away – then he grabs my phone too, saying, “No more, mommy!!” Unfortunately, that’s the kind of “tough love” that I need right now to be able to live in the moment. Among other things, our kids are also constantly teaching me patience, new perspectives, organization, appreciation for beauty in small things and a nuanced understanding of bathroom humor. After seeing the two of them interact over the last couple years, I’m even more excited to see how the new baby’s personality will fit into the mix.
4. Transitions Aren’t Easy: I blogged last time about “transition mechanics,” which are very important. This is more about the “transition mindset.” I’m lucky in being afforded an opportunity to take leave – not everyone has that. However, I feel I’m not “optimizing” that benefit because – rather than gradually ramping down – I tend to work excessively until the moment it’s physically impossible. I know from personal experience that this makes the birth and recovery much more difficult and I’ll spend a few weeks or months afterwards regaining the ability to function and beating myself up for not taking better care of myself and the baby during pregnancy. I also have to set really firm boundaries for myself during leave, because I know I’ll struggle with not feeling “productive” (despite producing a brand new person and having the primary responsibility to feed and keep that new, helpless person alive).
I recall that returning from leave can be pretty rough too, though I’m not in that moment yet. Whether you’re “leaning in” or “leaning out,” it takes a while to find a rhythm – and this NYT piece points out that for many, the “push-pull” doesn’t ever fully disappear. I try to remind myself that – while parenting continues forever – leave itself is such a short time period in the big picture and it’s best to stay healthy and present. Parenthood is also just one example of a big transition – everyone has “life” stuff going on throughout their career, and we’re doing ourselves a disservice if we glorify robotic compartmentalization.
5. Cultural Shift: Last time around, I blogged that professional networking while pregnant is particularly awkward. I do enjoy bonding over the shared parenting journey, but I know there are other things that we can also talk about, and regularly fielding “body” comments can make even the most confident person self-conscious. I’ve experienced much less of that this time, which I love. One person was surprised when I mentioned I was expecting and said they now look at people only from the neck up – bravo!
Another positive change I’ve noticed in the last few years is that many more men are unapologetically – even proudly – taking parental leave. One fellow lawyer has been posting daily updates about the time away from his “easier” job and told me that the expectation at the firm these days is that everyone (birthing & non-birthing parents) will take their full leave – it’s frowned upon to do otherwise. Shortly after that, I received a to-the-point auto reply from another male contact – “I’m out on parental leave and will not be responding to messages” – with contact info for colleagues. Two thumbs up to that team approach.
I (still) know I’m not alone on this journey of balancing pregnancy, parenthood & lawyering. I’d welcome more emails with any experiences & “lessons learned” that you want to share – just don’t be surprised if you get an auto reply! I’m extremely grateful to John, Lynn, Dave, Alan, Mike, Mark and the folks in our HQ for being so on top of their game and willing to handle some “extras” these next few months.
California’s “Board Gender Diversity” Law: FAQs
It’s official – California-headquartered companies are now required to have at least one female director. This WSJ article says that 244 California-based companies have added a woman to their board since the law went into effect, and 41 companies added two. For companies with five or more directors, the law requires having 2-3 female directors by the end of next year. This Wilson Sonsini memo provides some up-to-date info on how reporting and enforcement will work in the days ahead. Here’s an excerpt:
Are there any reporting obligations for companies under SB 826? Yes and no. Because the California secretary of state has not yet adopted implementing regulations under SB 826, there is currently no official regulatory mechanism for reporting that would result in a fine (see list in next section). However, the secretary of state has modified the current annual Corporate Disclosure Statement for publicly traded companies to include questions regarding the number of female directors currently serving on a company’s board (see question 5 in the statement).
Based on our conversations with an individual handling SB 826 matters at the secretary of state’s office, during calendar 2019 and as of the date of this Alert, responding to those questions on the Corporate Disclosure Statement is the only current way a company can inform the secretary of state’s office regarding compliance with SB 826. We do not expect the secretary of state’s office to review a company’s annual report on Form 10-K, proxy statement, website, or any other documentation to determine whether a company had a female director serving during a portion of calendar 2019.
The memo goes on to say that it’d be unlikely at this point for a company to be fined for being out of compliance based on 2019 board composition. However, there’s a “public shaming” factor that could motivate companies to comply:
If there are currently no official reporting obligations, why should my company report on the Corporate Disclosure Statement? SB 826 requires the California secretary of state to publish on its website a report documenting the number of companies whose principal executive offices are located in California and who have at least one female director. An initial report was published in July 2019, and with no official reporting mechanism there were a number of anomalies reported.
No later than March 1, 2020, and then on an annual basis, the secretary of state must publish a more detailed report on its website regarding the number of:
• companies subject to SB 826 that were in compliance with the law during at least one point during the preceding calendar year;
• publicly held corporations that moved their U.S. headquarters to California from another state or out of California into another state during the preceding calendar year; and
• publicly held corporations that were subject to SB 826 during the preceding year, but are no longer publicly traded.
Based on our conversations with an individual handling SB 826 matters at the California secretary of state’s office, the March 2020 report is currently being prepared based on responses received during 2019 from the Corporate Disclosure Statement. If companies want to be named on the secretary of state’s annual report as being compliant because a female director has served on their board for at least a portion of the calendar year, they will need to inform the secretary of state’s office through the Corporate Disclosure Statement.
California isn’t the only state to be taking a closer look at board diversity – New York is the latest jurisdiction to adopt a law on the topic. Starting in June of this year, companies will be required to report the number of directors on their boards and how many of those people are women. See this Ogletree Deakins memo for more info…
Auditor Independence: Proposed Rule Changes are Good News for Dealmakers
Here’s something John recently blogged on DealLawyers.com (and also see this four-part piece in Francine McKenna’s newsletter about the SEC’s auditor independence proposal): This recent blog from Weil’s Howard Dicker & Lyuba Goltser reviews the potential benefits to PE funds, IPOs & participants in M&A transactions associated with proposed changes to the SEC’s auditor independence rules. This excerpt discusses how the rule changes would address inadvertent independence violations that can arise in M&A transactions when the buyer’s auditor has also performed impermissible non-audit services for the target:
The SEC proposes a transition framework to address these types of inadvertent independence violations. An accounting firm’s independence will not be impaired because an audit client engages in a merger or acquisition that gives rise to a relationship or service that is inconsistent with the independence rules, provided that the accounting firm:
– is in compliance with applicable independence standards from inception of the relationship or service;
– corrects the independence violations arising from the merger or acquisition as promptly as possible (and in no event later than six months post-closing); and
– has in place a quality control system to monitor the audit client’s M&A activity and to allow for prompt identification of potential independence violations before closing.
The blog also points out that for PE funds, rule changes would codify Staff practice concerning independence issues that arise when sister companies with a common PE fund owner have engaged an audit firm to provide non-audit services that could impair the independence of the audit firm with respect to another sibling company. The rule changes would also shorten the look-back period for auditor independence from three years to one year, which would provide increased flexibility for IPO companies to address potential disqualifying relationships with their audit firms.
A public company currently has up to four business days after the occurrence of a material corporate event before it must file or furnish a Form 8-K (the 8-K Gap Period). Current law does not prohibit insider trading per se during the 8-K Gap Period, absent a showing that the insiders have traded on material nonpublic information in their possession or violated the prohibition against “short swing” trading under Section 16(b) of the Exchange Act.
The purpose of the Act is to address this perceived loophole by directing the SEC to issue rules, no later than one year after its enactment, to require a reporting company under the Exchange Act to “establish and maintain policies, controls, and procedures that are reasonably designed to prohibit executive officers and directors of the issuer from purchasing, selling, or otherwise transferring any equity security of the issuer, directly or indirectly” during the 8-K Gap Period.
Under the current version of the bill, the SEC would be permitted to exempt transactions under Rule 10b5-1 plans that were adopted outside of the gap period – and the prohibition wouldn’t be triggered when an event is announced in a press release or publicly disseminated in a Reg FD-compliant way. A similar bill has been introduced in the Senate.
This follows another insider trading bill that the House passed last month. Meanwhile, a former Congressman was just sentenced to 26 months in prison for insider trading (a case that Broc and John blogged about when it broke).
XBRL: Check Your Public Float!
Time to double check your XBRL data. Here’s a recent announcement about XBRL “scaling errors” from the SEC’s Division of Economic Risk & Analysis:
DERA staff has observed that some filers are inconsistently reporting public float values. For example, one filer reported a public float of $800 million in its HTML filing, but reported a public float of $8 billion in its XBRL data. Filers should carefully review their XBRL data to ensure scaling accuracy. Furthermore, filers should verify that information in their HTML filing is consistent with their XBRL data.
Non-Financial Disclosure: What “Audit Assurance” Looks Like
One of the suggestions that keeps turning up for ESG disclosures is that companies should explain how they verify the accuracy of the info or provide some external assurance – for example, see the Chamber’s recent “best practices.” This 16-page memo from the Center for Audit Quality discusses shareholders’ increasing interest in non-financial info and notes some industry guidance for auditors on how to review it.
From the company perspective, this 52-page guide – from the World Business Council for Sustainable Development and the Institute of Chartered Accountants in England & Wales – is even more helpful because it explains what the assurance process would look like, how to decide whether it’s right for your company, and how to enter into an assurance engagement. The report shows that this endeavor doesn’t have to be “all-or-nothing” – e.g. a project’s scope could range from:
– Site visits to head office only, no detailed tests, only reviews
– Site visits to 5 of 10 locations, detailed tests at 2 sites and a review of information at other locations
– Site visits to 7 of 10 locations, detailed tests at all 4 major sites and a review of information at other locations
