On the heels of an insider trading action and reported investigation into Coinbase, the SEC is sending another strong signal that it intends to regulate digital assets (one way or another). Earlier this week, the agency announced charges against a group of entities and their founder for their roles in unregistered crypto offerings. Here are some of the allegations from the 17-page complaint:
1. From at least 2017 through the present, Dragonchain conducted an unregistered offering of a crypto asset called a “Dragon” (“DRGN”), illegally raising over $16 million in proceeds through unregistered offers and sales of these securities to approximately 5,000 investors in the United States and abroad. Dragonchain used these proceeds to try to develop a type of blockchain technology – a peer-to-peer database spread across a network of computers – that businesses can incorporate into their daily activities. Dragonchain offered and sold DRGN tokens through channels that included a Dragonchain website, social media, conference appearances, and Telegram.
2. In 2017, Dragonchain minted DRGNs and conducted an offering of 55% of them in two phases: (1) a discounted “presale” in August 2017 to members of a crypto investment club, and (2) an initial coin offering (“ICO”) in October and November 2017 marketed predominately to crypto investors. Through this offering, Dragonchain raised approximately $14 million.
5. Dragonchain’s marketing materials explicitly stated that the value of the token would increase as adoption of its technology grew. Dragonchain told purchasers that the value of DRGNs would rise as the Dragonchain “ecosystem” matured. Dragonchain also stated that it would use proceeds of the offering to develop additional features and market its technology to businesses, thereby promoting adoption of its technology.
6. Dragonchain also made clear to investors that DRGNs would be “listed” on trading platforms. Roets, Dragonchain’s founder, personally told investors that he understood that liquidity and the ability to exit an investment quickly was an advantage of being a crypto investor over a traditional investor.
7. Dragonchain retained social media forum moderators and crypto influencers who regularly discussed DRGNs’ investment value, trading prices, and market capitalization, and Dragonchain’s Twitter profile regularly reposted others’ investment value-related tweets about DRGNs.
11. The Dragon Company, meanwhile, used DRGNs to pay service providers for a variety of services provided to Dragonchain during 2019 through 2022, thereby selling DRGNs through an illegal unregistered offering.
After painting that picture, the SEC refers back to its 2017 Section 21(a) Report, which was issued before Dragonchain’s offering and found that the crypto assets at issue there were “investment contracts” – and therefore, securities. The complaint then continues with another 7+ paragraphs of facts that the SEC believes show a violation of Sections 5(a) and 5(c) of the Securities Act. The SEC is seeking permanent injunctions, disgorgement, and civil money penalties.
The company had been notified in advance of this investigation – and sent an open letter to the SEC in response. With the way things are going, there will probably be more crypto enforcement actions to come.
In an attempt to support growth in retail investing, the World Economic Forum recently partnered with BNY Mellon and Accenture to survey what leads people to participate – or not – in capital markets. The 95-page report includes this sad finding:
– Gaps in financial education are the primary barrier to investing: In France, Germany, the UK and US, retail investors feel they have a comparatively better understanding of newer, less established products (e.g. cryptocurrency and non-fungible tokens or NFTs) compared to more traditional asset classes (e.g. bonds and stocks).
Diving deeper, nearly 40% of investors said they don’t understand stocks or bonds. Another 18-24% said they don’t know where to access these products! Meanwhile, 40% of global retail investors hold crypto, and Bitcoin is making its way into retirement portfolios.
Having spent my entire career to-date in the public company and capital markets space, being the type of person who mostly just holds boring old index funds, and having just written a blog about complicated regulatory questions & uncertainties surrounding digital assets, this news fills me with both dismay and FOMO. Maybe what stocks need is a spokesperson who is younger than 90 (no offense, Warren & Charlie). According to the survey, 70% of retail investors are under 45 years of age.
Despite crypto’s rise, we’re nowhere near an inflection point. This Reuters article says that the value of the global equity & bond markets still dwarf crypto – $124.4 trillion and $126.9 trillion in 2021, respectively, compared to $3 trillion for crypto (and that’s before the 2022 slide). The survey details how this class of “investments” (?) comes with its own challenges…
The SEC’s Enforcement Division is taking a close look at ESG funds’ share lending & proxy voting practices and related disclosures, according to this Bloomberg article. Specifically, the SEC wants to know whether ESG funds that market their influence on corporate action are recalling loaned shares before votes occur.
As covered in our “Share Lending” Practice Area, this complicated practice can impact voting outcomes. Here’s an excerpt from Bloomberg explaining why the SEC is now connecting it to ESG claims:
Investment firms typically lend out shares to other financial firms to settle trades or to help short sellers wagering against a company. Asset managers have argued publicly that there are policies in place to prevent firms from borrowing securities solely for the purpose of voting on shareholder resolutions.
For ESG fund managers, the practice of short-selling can raise specific challenges. Short-term bets against companies could make it harder for an ESG fund manager to influence a portfolio company to become more sustainable over a longer period. It also creates the awkward appearance of aiding investors who are betting against the companies that the fund has deemed worthy investments.
Furthermore, supporters of the practice say, money managers can recall shares if they want to vote on shareholder resolutions to exercise their influence and power over an ESG-related issue facing a company.
The SEC has been signaling for a while that ESG funds’ proxy votes are of interest. John predicted over a year ago that ESG-themed mutual funds would be a “target-rich environment” for the SEC’s ESG enforcement task force, and that seems to be playing out with first-of-their kind enforcement actions.
On top of that, in May, the Commission issued a pair of proposals that would require funds to disclose more info about their proxy voting & ESG engagement strategies and would tighten ESG-fund naming conventions. (Lawrence blogged about those proposals – and the impact on portfolio companies – on PracticalESG.com.) Just this week, SEC Chair Gary Gensler tweeted a reminder that comments are due. Enforcement could get even more active if and when those rules are adopted. And as investors are held to closer account for their proxy votes, companies may see support for ESG proposals tick upward.
As I noted last week on the Proxy Season Blog, a record 797 shareholder proposals were submitted for meetings through June 30th of this year. Just over 500 of those came from members of the ICCR coalition, according to the 4-page proxy-season recap that it recently published. Here are a few key themes:
– New resolution topics more than doubled last year and included carbon credits, competitive employment standards, and ghost guns.
– Banking was the leading industry receiving ICCR member proposals. There was also an increase in the number of companies receiving multiple resolutions.
– The most successful proposals requested lobbying expenditures disclosure, racial equity audits, and Paris-aligned climate lobbying.
If you want a sense for the types of proposals that might cross your desk in 2023, the tea leaves seem to be pointing towards continued momentum for climate disclosure & lobbying, transparency on other lobbying/political spending, racial justice audits and DEI disclosure. Governance topics are still in the mix, too. If you’re looking to benchmark & strategize on responses, the ICCR write-up includes “featured withdrawals” by topic, showing what certain companies agreed to do.
We’ll be providing lots of practical guidance about preparing for the next wave of shareholder proposals at our upcoming “Proxy Disclosure & 19th Annual Executive Compensation Conferences” – which are being held virtually, October 12-14th. Don’t miss these sessions:
– Climate Disclosure: What to Do Now
– Environmental Proposals: Beyond Climate
– Social Proposals: What’s Next
– Shareholder Proposals: Working with the Staff
– Navigating ISS & Glass Lewis
Here’s the full agenda – 18 sessions over 3 days, with a lineup of leading speakers who will tell it to you straight. Sign up online, email sales@ccrcorp.com, or call 1-800-737-1271.
Out of this year’s 797 shareholder proposals, 43 were submitted by so-called “anti-ESG” proponents who are trying to push for things like “non-discrimination audits” and reports on the impact of DEI initiatives on groups that do not have a history of under-representation. That’s according to this Morningstar article, which also says that these proposals averaged only 7% support this year. Only 4 received support of 20% or more, and none passed.
Emily flagged this emerging issue back in March. Because the actions for which these proposals advocate often twist what investors are trying to support through voting policies, it’s forcing stewardship teams to read resolutions & supporting statements even more carefully. For that reason, companies may want to give more context in the proxy statement by including the proponent’s identity, as John noted more recently.
Morningstar says that the anti-ESG proposals primarily have been submitted by the National Legal and Policy Center, the National Center for Public Policy Research, and Steven J. Milloy. The article gives a full breakdown of who received the proposals, what topics they covered, and the level of support they received.
It’s likely that these proponents will keep at it next year – and they may get savvier. Sometimes, the resolutions and supporting statements do actually match what “mainstream” investors tend to support and, as has always been the case, are just a way for the proponent to speak their mind at the meeting. The part that’s harder to swallow is that many of the proposals appear to be motivated more by gamesmanship, attention-seeking and calling out “Corporate America” than by a sincere view that the requested action promotes business success.
If you aren’t already getting ESG-related questions during your earnings call Q&As, you probably will be soon. According to this recent Nasdaq MarketInsite article, 65% of Russell 3000 firms covered ESG topics in their Q1 earnings calls this year – with mentions jumping especially quickly for these topics:
– Climate transition – covered by 24% of Russell 3000 companies in Q1 2022, compared to 16% in Q4 2021
– Human capital management – covered by 25% of Russell 3000 companies in Q1 2022, compared to 18% in Q4 2021
– Supply chain management – covered by 23% of Russell 3000 companies in Q1 2022, compared to 17% in Q4 2021
– “Sustainability” – covered by 19% of Russell 3000 companies in Q1 2022, compared to 14% in Q4 2021
– Company culture – covered by 19% of Russell 3000 companies in Q1 2022, compared to 16% in Q4 2021
The prevalence is even greater among the “MSCI USA ESG Leaders” Index, with climate transition coming up in nearly half of Q1 calls (that number may be even higher now).
According to Nasdaq’s research, part of the reason that ESG is coming up more often is that sell-side analysts asking about it during earnings call Q&As. Although topics vary by industry sector, most companies need to be especially ready to answer about their climate transition plans, because analysts are asking 3-4x as many questions about that than any other ESG topic.
That tracks with last week’s announcement from the New York State Comptroller that it’s evaluating publicly traded oil & gas companies to determine whether they’re ready for transition to a low-carbon economy, along with the New York State Common Retirement Fund’s latest progress report on its Climate Action Plan. As part of the Comptroller’s 2019 Climate Action Plan and goal for a “net zero” investment portfolio by 2040, the Fund has already divested from 55 companies.
While ESG is more likely to be discussed in large-cap earnings calls, Nasdaq’s research team says it is starting to trickle down to mid-caps – and will likely reach small-caps eventually too. This Investment Monitor article takes an even deeper dive – tracking how ESG mentions in earnings calls align with UN Sustainable Development Goals.
To make sure that your company is on the right track, join us virtually on October 11th for our 1st Annual Practical ESG Conference. Here’s the full agenda – and in light of the fact that climate disclosures are keeping everyone up at night, we’ve just added a new session to help you jumpstart those efforts. Sign up online, email sales@ccrcorp.com, or call 1-800-737-1271. You can also bundle the Practical ESG Conference with our “Proxy Disclosure & 19th Annual Executive Compensation Conferences” for a reduced price.
Last week marked the deadline for the first round of Nasdaq’s newly required board diversity disclosure. I blogged a few months ago about example matrix disclosures in proxy statements. More recently, in our “Q&A Forum” (#11,199), a member recently asked for more examples of website-specific disclosures. John responded with over a dozen links!
It’s been an active summer on the Q&A Forum! If you aren’t already a member with access to that resource and all of our other practical guidance, sign up now and take advantage of our no-risk “100-Day Promise” – during the first 100 days as an activated member, you may cancel for any reason and receive a full refund. The prices for an annual membership increase on September 1st, so act now to lock in the best deal! You can sign up online, email us at sales@ccrcorp.com, or call 1-800-737-1271.
For those looking ahead to future “diversity matrix” disclosures, Nasdaq recently posted FAQ 1837:
The deadline for filing a subsequent Matrix is the same as the Effective Dates pursuant to Rule 5605(f)(7) (i.e., after filing the initial Matrix, a company will have the later of: (ii) two calendar years after August 6, 2021; or (ii) the date the company files its proxy statement or its information statement (or, if the Company does not file a proxy, in its Form 10-K or 20-F) for the Company’s annual shareholders meeting during the 2023 calendar year).
So far, Nasdaq has posted 50 Listing FAQs on its board diversity rule – which you can find by searching with “diversity matrix” key words. Check out the resources in our “Nasdaq” Practice Area and our “Board Diversity” Practice Area for more guidance on navigating NASDAQ’s disclosure rule – and other legal and investor-based requirements.
On Friday, the SEC approved updated PCAOB standards that apply to audits involving multiple audit firms. The standards require lead auditors to plan, supervise & evaluate the work of other auditors, by:
– Specifying certain procedures for the lead auditor to perform when planning and supervising an audit that involves other auditors; and
– Applying a risk-based supervisory approach to the lead auditor’s oversight of other auditors – so that the higher-risk areas in the audit are prioritized.
If you’re like me, your eyes glaze over when it comes to accounting standards. But there’s some info in here that will be relevant to anyone advising audit committees. First, the amendments require the lead auditor to collect independence & relationship info from the contributing auditors – so be on the lookout for that. The PCAOB also amended AS 1301 – regarding communication by the lead auditor to the audit committee about the overall audit strategy. In addition to the lead auditor communicating all participants in the audit to the audit committee, this excerpt from the 185-page adopting release gives more color on what the PCAOB expects those enhanced discussions to address:
Investors also may benefit from the amendments indirectly. For example, under existing standards, the auditor is required to communicate to the audit committee its overall audit strategy, significant risks, and results of the audit, including work performed by other auditors, among other things. Because of the lead auditor’s enhanced involvement in the work of other auditors, the quality of communications with audit committees could also be enhanced, specifically as it relates to risks of material misstatements in the financial statements related to the component(s) of the company audited by the other auditor(s).
Such enhanced discussions with the audit committee could improve the audit committee’s oversight of the audit by highlighting areas where audit committees and companies should increase attention to ensure the quality of their financial statements, including related disclosures. This increased attention by audit committees and companies could result in higher quality financial reporting, which benefits investors.
The PCAOB first proposed these requirements 2016, with supplemental requests for comment in 2017 and 2021. There’s some lead-time on the compliance date – the amendments will take effect for audits of financial statements for fiscal years ending on or after December 15, 2024.
The new PCAOB requirements for audits involving multiple firms come at a time of heightened tension and complexity for international business, particularly if part of the audit relates to China-based operations. Since I last blogged about the SEC’s continued angst on this topic, the HFCAA determinations have continued to roll in – with Alibaba now among the 7 “provisionally” identified companies. There are now 155 “conclusively” identified companies, up from 128 in May.
Issuers on this list may face trading prohibitions & delistings – but that will take a while to come to fruition, and there’s still time for the Chinese & US governments to strike a deal. In the meantime, though, a handful of companies have started to voluntarily excuse themselves, with this MarketWatch article identifying 4 announcements as of Friday. It won’t be surprising if more companies follow suit.
