Snow is in the forecast here this week, which is a reminder that annual report season will soon be upon us – and it’s time to start assessing whether you need to update your risk factors. This 14-page memo from White & Case gives color on 10 macro developments that may affect your risk factors this year:
1. Market Conditions
2. Inflation & Interest Rates
3. Covid-19 Impact
4. ESG Issues
5. Ukraine Conflict
6. Cybersecurity
7. Supply Chain Disruptions
8. Human Capital & Labor Issues
9. Regulatory Developments (e.g., the Inflation Reduction Act)
10. Trade Sanctions
The memo goes on to give 4 important drafting reminders – e.g., avoiding hypotheticals. For additional practical tips on that front, see our article from the January-February 2018 issue of The Corporate Counsel newsletter on “Best Practices for Drafting Your Risk Factors” – and our “Risk Factors Disclosure” Handbook. Also see the memos we’ve posted on “Risk Trends” in our “Risk Management” Practice Area. If you don’t already have access to these resources, email sales@ccrcorp.com.
Korn Ferry & Gibson Dunn recently published this survey of board evaluation practices in the S&P 500, based on public disclosures. Anthony Goodman, who leads Korn Ferry’s Board Effectiveness Practice, shared these highlights from the 440 companies that provided details in their proxy statements:
– 60% are evaluating individual directors, not just the board or its committees
– 53% are using interviews as part of the process, rather than relying purely on surveys
– 32% use a third party evaluator either annually or periodically
While individual director evaluations appear to be getting more common, Anthony notes that it’s rare for them to yield constructive feedback for directors. Using independent evaluators to conduct interviews can help overcome that challenge – and make it more likely that the board & individuals receive candid, nuanced & actionable feedback.
Right now, the survey concludes that the lack of feedback could be hampering the usefulness of board evaluations: only 23% of companies disclosed that they made changes as a result of the evaluation.
That seems low, but it’s important to keep in mind that there are a variety of reasons why companies might not spell out changes that resulted from the evaluation process – so a lack of disclosure doesn’t necessarily prove that changes aren’t happening. Yet, there are ways to make the board’s efforts at “continuous improvement” more transparent. Anthony suggests describing:
– An overview of the process
– Key takeaways
– Updates on the key takeaways from prior year evaluations
As outlined in this Cozen O’Connor memo, the Fifth Circuit heard oral arguments in late August for the lawsuit that challenges the SEC’s approval of Nasdaq’s board diversity rule, which we’ve blogged about a few times. While we await the outcome of that case, Nasdaq has also filed notice that it is extending its program to provide eligible companies with complimentary board recruiting services – and the updated terms for this service are immediately effective. Here’s more detail:
Nasdaq is proposing to extend its program, described in IM-5900-9, providing Eligible Companies (as defined in IM-5900-9) with complimentary board recruiting services. The rule currently requires Eligible Companies to request services by December 1, 2022; as revised that deadline would be extended to December 1, 2023. Nasdaq also proposes to make clarifying changes to reflect the approval of Rule 5605(f).
Under Nasdaq Rule 5605(f)(7), the earliest that a Nasdaq listed company will need to explain why it does not have at least one Diverse director (as defined in Nasdaq Rule 5605(f)(1)) is August 6, 2023; and the earliest it will have to explain why it does not have at least two Diverse directors is August 6, 2025.
Earlier this fall, John blogged that the Division of Enforcement had gotten something it has coveted for quite some time – an insider trading case involving senior executives allegedly misusing a Rule 10b5-1 plan. Bloomberg reported last week that the SEC is looking to add to that tally, using data analytics. Here’s an excerpt:
The Justice Department and Securities and Exchange Commission are using computer algorithms in a sweeping examination of preplanned equity sales by C-suite officials, according to people familiar with the matter. Investigators are concerned that some people are manipulating the stock-sale programs, which are intended to shield executives from misconduct allegations by letting them schedule transactions in advance and on preset dates.
The article says that the agencies are preparing to bring “multiple cases,” following information requests that were made earlier this year, and that at least one company has disclosed that it received subpoenas about a former executive’s trading activity under a Rule 10b5-1 plan.
If the SEC successfully uncovers violations, it may use those findings to refine & support final rules that restrict the use of prearranged trading plans, as proposed last year. The securities law community has expressed concern that, as proposed, the rules would be a departure from insider trading law and should be targeted more closely to address demonstrable abuses. If the investigations come up empty, the Commission may still adopt the rules using data it has already relied on – and may also keep looking for violations.
Insider trading is just one of the many topics that the SEC’s Enforcement Division is focused on right now, according to a PLI speech last week from SEC Chair Gary Gensler. He noted that all of this activity has added up to massive fines & penalties:
In the fiscal year that just ended on September 30, 2022, we filed more than 700 actions. We obtained judgments and orders totaling $6.4 billion, including $4 billion in civil penalties.
This Reuters article says that’s a record level of collections for the agency. Gensler also had a message for securities lawyers:
You also have a role as gatekeepers in upholding the law.
For instance, today’s event takes place in the State of New York, where the state courts describe the role of attorney as a position of duty, trust, and authority, conferred by governmental authority for a public purpose.
We want you to succeed in meeting these standards of rectitude.
When lawyers—or other gatekeepers, like auditors and underwriters—breach their positions of trust and violate the securities laws, we will not hesitate to take action.
During the recent fiscal year, for example, we charged an attorney for his role in an unregistered, fraudulent securities offering, and we suspended him from practicing before the SEC as an attorney.
We also are litigating an action against an attorney for his alleged role in a would-be pump-and-dump scheme. In addition to other remedies, we seek an injunction to prohibit him from providing legal services regarding securities offers or sales.
These examples may be just a couple of bad apples, but they serve as a reminder to “Just Say No” to any sketchy propositions. Chair Gensler also noted that the SEC has been pursuing auditors and underwriters, in some of the largest and/or first actions of their kind.
Late last week – one day after Vanguard announced a pilot program for retail investors in certain index funds to have a greater say in proxy voting – BlackRock issued this update on its “Voting Choice” program that was launched last year and expanded this summer.
The update – which was accompanied by a letter to clients & corporate CEOs from BlackRock CEO Larry Fink – says that about 25% of eligible assets are participating. That’s consistent with the participation rate that I blogged about in June. Here’s what else is new:
1. Extension of the voting policies clients can choose from: Participating clients in global SMAs and eligible pooled vehicles can now select one of seven Glass Lewis proxy voting policies, including an upcoming global policy, the Glass Lewis Governance-Focused Policy. These options are in addition to seven Institutional Shareholder Services (ISS) policies that have been available since the launch of BlackRock Voting Choice on January 1, 2022. This broader array of policy choices enables clients to choose a policy that more closely aligns with their investment views and preferences.
2. An expansion of investment strategies eligible: In addition to certain institutional pooled funds tracking index equity strategies, certain institutional pooled funds that implement Systematic Active Equity (SAE) strategies are now also eligible for BlackRock Voting Choice. Rather than tracking an index, SAE investment strategies use a forecasting model and an optimization process to select stocks. The expansion of BlackRock Voting Choice to institutional pooled funds using these SAE investment strategies includes eligible clients representing $90 billion as of September 30, 2022, in assets under management in both pooled funds and previously eligible SMAs.
3. Aiming to enable investors in select UK mutual funds to exercise choice in the upcoming 2023 proxy voting season: BlackRock has agreed with Proxymity, a digital investor communications platform, to work together on building a solution that aims to offer pass-through technology to enable investors to exercise choice in how their portion of eligible shareholder votes are cast for the upcoming 2023 proxy voting season. BlackRock and Proxymity will share further details on the collaborative efforts in the coming months.
4. An update on continued client adoption; demonstrating desire for expanded proxy voting choices: Since May of this year, the number of index equity clients newly committed to BlackRock Voting Choice has more than doubled. Despite market volatility, newly committed index equity AUM has increased more than 30% in the past six months to $157 billion as of September 30, 2022, from $120 billion as of March 31, 2022. In total, including SAE, BlackRock equity clients have committed $472 billion as of September 30, 2022 – or a quarter of eligible assets ($1.8 trillion) – to voting their own preferences through BlackRock Voting Choice.
The jury is still out on what this shift in the direction of “pass-through voting” could mean for companies, other than making voting outcomes less predictable and investor influence more dispersed. Over time, we’ll get a better sense for whether this raises the importance of certain proxy advisor policies and whether it calms concerns that the world’s largest asset managers have too much sway.
I had been collecting various cryptocurrency-related updates for this blog, but then Bloomberg’s Matt Levine wrote a 40,000-word essay for the latest issue of Businessweek that says it all – and then some. This is only the second time in Businessweek’s 93-year history that a single author has written the entire issue, so kudos to Matt, who is one of my favorite opinion columnists and lunch valuation analysts.
Matt’s article pretty much nails why – even if you’re not a “crypto enthusiast” – you’ll still learn a lot by keeping up with the happenings. And for capital markets lawyers, much of it will even be useful! Here’s an excerpt that explains why:
I don’t have strong feelings either way about the value of crypto. I like finance. I think it’s interesting. And if you like finance—if you like understanding the structures that people build to organize economic reality—crypto is amazing. It’s a laboratory for financial intuitions. In the past 14 years, crypto has built a whole financial system from scratch. Crypto constantly reinvented or rediscovered things that finance had been doing for centuries. Sometimes it found new and better ways to do things.
Often it found worse ways, heading down dead ends that traditional finance tried decades ago, with hilarious results.
Often it hit on more or less the same solutions that traditional finance figured out, but with new names and new explanations. You can look at some crypto thing and figure out which traditional finance thing it replicates. If you do that, you can learn something about the crypto financial system—you can, for instance, make an informed guess about how the crypto thing might go wrong—but you can also learn something about the traditional financial system: The crypto replication gives you a new insight into the financial original.
Matt walks through how this asset class came about, the similarities & differences from traditional finance, and shares predictions about where it could be going. He shares an important reminder on DAOs that the members will be treated like general partners if the entity isn’t incorporated – i.e., liable for its debts.
The essay doesn’t delve too far into securities regulation issues – if you’re practicing in this area, that’s what our “Crypto Financings” & “Blockchain” Practice Areas are for. Another Bloomberg article reported this week that SEC enforcement activity is making both retail and professional investors feel more likely to “invest” in cryptocurrency, so there could be more work coming for securities lawyers on all sides of this:
Almost 60% of the 564 respondents to the latest MLIV Pulse survey indicated they viewed the recent spate of legal action in crypto as a positive sign for the asset class, whose trademark volatility has all but dissipated in recent months. Major interventions include the US regulatory investigations of bankrupt crypto firms Three Arrows Capital and Celsius Network, as well as an SEC probe into Yuga Labs, the creators of the Bored Ape collection of nonfungible tokens, or NFTs.
Like Matt, I don’t have strong feelings about the value of crypto. I find it puzzling in many ways, but also fascinating and informative from several angles: finance, securities regulation, and sociologically. And if people are going to be out there using this ecosystem, I do think there have to be some rules and guidance around it. Thankfully, there are very bright securities lawyers out there who are navigating this – a few of them just spoke on our recent webcast.
In full disclosure, I own a nominal amount of crypto. Because I’m writing about it, I wanted to see how it worked to get into the system and to buy a web3 domain name. I found it confusing and complicated, I don’t even know if I accomplished my goal, and I don’t expect to ever see that money in dollar form again. But if the target audience right now is gamers and people who enjoy internet hype, financial engineering and gambling, that’s…not me. I’m just a 40-something professional who needs a type of currency that can buy snacks for my kids.
Regardless of where you stand on cryptocurrency, we can probably all agree that companies that hold these digital assets need to be able to properly value them on their balance sheets, and that it is probably something more than “0” and maybe also different than the current trading value, which is difficult to predict.
Some companies have treated digital assets as indefinite-lived intangibles. At a meeting earlier this month, the FASB reached a different (tentative) conclusion on how to account for digital assets, which is part of its project on this topic. Here’s an excerpt from the notes on “tentative Board decisions”:
The Board decided to require an entity to:
1. Measure crypto assets at fair value, using the guidance in Topic 820, Fair Value Measurement.
2. Recognize increases and decreases in fair value in comprehensive income each reporting period.
3. Recognize certain costs incurred to acquire crypto assets, such as commissions, as an expense (unless the entity follows specialized industry measurement guidance that requires otherwise).
The Board also considered:
1. Various measurement alternatives for crypto assets with inactive markets and decided not to pursue those alternatives.
2. Whether to provide implementation guidance relative to the application of fair value measurement of crypto assets and decided not to provide additional measurement guidance as part of this project.
3. Whether there should be a difference for private companies for the measurement of crypto assets and decided that the measurement and recognition requirements should be the same for all entities.
The Board will consider presentation, disclosure, and transition at a future meeting.
Crypto folks have been saying that they want the SEC to regulate these assets and related transactions with tailored rules. That was a theme in our recent webcast, “Cryptocurrency: Making Sense of the State of Play” – with Ava Labs’ Lee Schneider, Liquid Advisors’ Annemarie Tierney, Cooley’s Nancy Wojtas, and Coinbase’s Jolie Yang.
The transcript for that program is now available, which will be a helpful guide to anyone looking to responsibly navigate the securities law complexities of this work. Lee, Annemarie, Nancy & Jolie covered:
1. Overview of Regulatory Issues & Risks
2. Structuring Deals, Resales & Products in the Current Regulatory Environment
3. How to Handle Cryptocurrency Use in Transactions
4. Learnings from Recent High-Profile Token Collapses
5. Will the Ethereum Merge Affect the SEC’s Analysis?
6. Predictions & How to Prepare
One recurring takeaway was that practicing in this space is best suited for people who like a challenge.
Loss contingency disclosures are never easy, but there are some “do’s & don’ts” that can keep you out of hot water. This Troutman Pepper memo shares takeaways from a recent SEC enforcement action that show “what not to do.” Here’s more detail:
Between January and May 2018, defendants — the former CEO, the former CFO, and a former director of the Company — allegedly violated federal securities laws when they made false and misleading statements to outside auditors about an ongoing SEC investigation into the Company’s investment in a biotechnology company (the Biotech Investment). Despite knowing of the investigation and the SEC’s intention to recommend charging the Company with violating federal securities laws, the defendants told the auditors that they were not aware of “any situations where the company may not be in compliance with any federal or state laws or government or other regulatory body regulations.”
The veracity of this assertion was rendered false once it was discovered that, between March 2015 and November 2018, the SEC’s Division of Enforcement sent multiple subpoenas to the Company, its officers, and directors, requesting documents and seeking testimony related to the SEC’s investigation into the Biotech Investment. Moreover, in April 2017, the SEC’s Division of Enforcement sent a Wells notice to the Company notifying it of the SEC staff’s intention to recommend charges.
The memo goes on to note that the former CEO & CFO were also in trouble under anti-fraud rules for signing a Form 10-K and Form 10-Q that the SEC says omitted required “loss contingency” disclosure under GAAP. The defendants paid civil penalties and agreed to temporary D&O bans. The memo concludes:
Situations like the above are not isolated events. In today’s ecosystem, companies are more likely than ever to be faced with the potential for investigation or other enforcement action by any number of regulatory bodies — whether it be the SEC, FINRA, NASDAQ, DOJ, FTC, OSHA, and so on. In the face of such investigations or enforcement actions, companies often struggle with assessing when events have escalated such that they are subject to disclosure requirements. This assessment can be difficult, therefore it is crucial that companies undertake a diligent review and engage appropriate assistance to ensure the accuracy and rigor of that review.
Indeed, as noted by the SEC in its order, ”…[the Company and its officers] never conducted a good faith assessment as to whether the possible pending enforcement action needed to be disclosed. Instead, the Company and its officers did the opposite — they mislead [the Company’s] auditors and failed to disclose the existence and status of the SEC’s [] investigation.” Casting a blind eye will not aid in the avoidance scrutiny, but rather will heighten the degree of attention focused on each and every deficiency.
