The Northwestern Securities Regulation Institute kicked off yesterday with the Alan B. Levenson Keynote Address, and for the second year in a row an SEC Commissioner addressed the topic of Regulation D reform. Commissioner Mark Uyeda delivered a speech addressing potential changes to Rule 506 of Regulation D and other offering exemptions, one year after Commissioner Crenshaw outlined controversial proposals for Rule 506 of Regulation D at the 2023 Securities Regulation Institute. In his speech, Commissioner Uyeda addressed the complexity of exempt offering alternatives that issuers face today, noting:
Our regulatory regime should have an offering exemption tailored to each of the common capital raising scenarios. The requirements to raise capital for a start-up company in the “friends and family” round should be different from the requirements to raise capital for a billion-dollar company shortly before its IPO. The conditions for an operating company seeking money for working capital should be different from the conditions for a pooled investment vehicle seeking subscriptions for the fund.
Addressing the definition of “accredited investor” in Regulation D, Commissioner Uyeda noted how any efforts to raise the net worth and annual income thresholds in the definition as it applies to individuals could have profound implications for racially and ethnically diverse investors and younger investors:
The first group is racially and ethnically diverse investors. Black and Hispanic investors qualify as accredited investors at a lower rate than White and Asian American investors. Increasing the net worth and annual income requirements would have a disproportionate impact on these groups and heighten the disparity. This may be particularly consequential because diverse investors are more likely to fund diverse founders. Entrepreneurs of color may not have adequate access to traditional financial systems, including bank loans, and they may not benefit from an existing network of accredited investors. Accordingly, any reduction in the pool of diverse accredited investors may also adversely affect the ability of persons of color to finance their start-ups.
The second group is younger investors. These investors may not have had the time or opportunities to build more than $1 million in net worth or exceed $200,000 in annual income. However, they may have less need for liquidity, longer investment horizons, and greater risk tolerance compared to a person nearing retirement. The profile of younger investors may make them better suited for investments in private companies, but more stringent net worth and annual income thresholds do not reflect those considerations. By making it more difficult for younger people to qualify as accredited investors, our rules may deny them opportunities to invest in private companies at an earlier age and build wealth through that investment as they age and the company grows.
As an alternative to revisiting net worth and annual income thresholds, Commissioner Uyeda suggested that the Commission should consider new approaches for defining the pool of eligible investors that can invest in private companies. He suggested a “sliding scale” approach, described as follows:
With a sliding scale approach, a person would be able to invest up to a certain percentage, based on a personal financial metric, in private companies during a rolling time period. The percentage would increase as the amount of the financial metric increases. The financial metric could be the dollar value of a person’s investments in securities. For example, if a person’s securities investments were less than $100,000, then the person could invest up to 5% of such amount in private companies during a rolling 12-month period. If securities investments were between $100,000 and $500,000, then the person could invest up to 10%. The percentage would increase until it reaches 100% when the person’s securities investments exceed a certain level.
This approach, as opposed to simply indexing the net worth and annual income tests to inflation, is rooted in the notion that investor protection cannot be achieved through paternalistic policies. Investments in private, growth-stage companies that are higher-risk, higher-reward may be beneficial as part of a person’s diversified portfolio. Our regulatory regime should allow an investor to include these investments in their portfolio to some degree if the investor believes that the risk is appropriate. Prohibiting individuals who fall below net worth and annual income thresholds from making such investments, under the guise of investor protection, may ultimately harm those individuals by depriving them a source of wealth accumulation and reducing their risk diversification. Such prohibition also harms entrepreneurs and start-up companies by denying them potential sources of capital.
On the topic of the growth and size of private markets that has been the subject of recent debate, Commission Uyeda noted the important point that the vast majority of capital raised under Rule 506 of Regulation D is raised by private funds as opposed to operating companies.
With potential amendments to Regulation D on the Commission’s agenda for 2024, we will likely see more debate on this topic in the months ahead.
Corp Fin Director Erik Gerding and Corp Fin Chief Counsel Michael Seaman discussed the latest developments in the Corp Fin yesterday at the Northwestern Securities Regulation Institute. Here are the top five highlights from their comments:
1. On the topic of cybersecurity, Gerding noted that when the Staff is reviewing the new cybersecurity disclosures, they will not be in the business of issuing “gotcha” comments. He noted that the Staff has provided guidance through Compliance and Disclosure Interpretations and Gerding’s statement on cybersecurity. He also noted that he continues to encounter misconceptions about the incident reporting aspect of the new cybersecurity rules, in that there seems to be a belief that the reporting obligation kicks in after the incident occurs, rather than after the issuer has determined that the incident is material. Gerding noted that the adopting release addresses how the materiality determination is nuanced and not anticipated to be a snap judgment, recognizing that assessing materiality is a deliberative process that can take some time.
2. On the topic of disclosure developments, Gerding noted that the Staff has been focused on disclosure in filings by financial institutions concerning interest rate and liquidity risk. The Staff has been seeking more particularized and meaningful disclosure concerning these risks in the current environment and the actions taken to address those risks. Gerding also reviewed the Staff’s guidance over the course of the past few years regarding China-based issuers and the Holding Foreign Companies Accountable Act.
3. Seaman noted that Corp Fin will be hiring a new Chief of the Office of Enforcement Liaison, and also addressed the current shareholder proposal season. He indicated that the submission of shareholder proposal no-action requests is up this year, with 167 requests coming into Corp Fin at this point as compared to 123 no-action requests last year. He indicated that the topics of the subject proposals is pretty consistent with recent years, including corporate governance, environmental and discrimination. Seaman noted that the new topic this season is artificial intelligence (AI), with a number of proposals addressing AI issues. He noted that there are a number of no-action requests pending that represent issues of first impression. Finally, he noted that the Staff is receiving shareholder proposal no-action requests through its new web-based form; however, if an one encounters technical difficulties with the SEC’s website, you can continue to email no-action requests to the Staff.
4. On the topic of AI, Gerding noted that the Staff is focused on what companies are saying in their SEC filings about AI. He noted that companies should have a basis for their claims and should address the impact on the company in terms of its results of operations and financial condition. Gerding indicated that boilerplate is showing up in AI disclosures, particularly in the context of risk factors. Gerding noted that there may be Staff guidance on this topic.
5. Addressing the first year of implementing the pay versus performance disclosure, Seaman pointed out the Staff’s approach to its review of filings and the Compliance and Disclosure Interpretations that the Staff issued in the Fall to address a number of interpretive issues. He highlighted the frequent comment topics, including omitting relationship disclosure, providing a description of how non-GAAP financial measures are calculated when they are listed as the Company Selected Measure, and using required headings and formatting for tables while following the Commission’s guidance from the adopting release when providing supplemental information.
At the Northwestern Securities Regulation Institute yesterday, the SEC representatives participating in the conference were not able to offer any further guidance on the timing of the SEC’s proposed rules (other than the SPAC rules, which are to be considered tomorrow). There is certainly no surprise on this front, given that the Commissioners and the Staff are always trying to avoid being seen as front running the Commission’s determinations as to the timing of rulemakings. The timing questions are getting more interesting as we are now in the midst of the presidential election season, which will inevitably put pressure on the SEC to move forward with the more controversial topics on the rulemaking agenda, such as climate disclosure.
On a panel titled “Tackling Your ESG Disclosures in an Evolving World” at the Securities Regulation Institute, the panel speculated about a very specific date for Commission action on the climate disclosure rules. It was discussed that March 8th might be a date by which this rulemaking is considered by the Commission, given the possibility of another government shutdown upon the expiration of the current continuing resolutions and the prospect of invalidation of the rulemaking under the Congressional Review Act.
Lawrence Heim recently noted on the PracticalESG.com blog that, last Wednesday, the NYSE withdrew its Natural Asset Company (“NAC”) listing standard proposal that had been pending with the SEC since September 2023. Liz blogged about the NYSE’s proposal when it was initially filed with the SEC, noting that an NAC would be a corporation with the primary purpose of actively managing, maintaining, restoring, and growing the value of natural assets and their production of ecosystem services.
The proposed listing standards, which were at least two years in the making before being submitted to the SEC, would have required a listed NAC to periodically publish an “Ecological Performance Report,” which would provide key information about the NAC’s performance under a framework developed by Intrinsic Exchange Group (“IEG”), which had been collaborating with the NYSE on the NAC product. An example of how an NAC might have been used in real life would be that a government or individual controlling a natural resource such as a rain forest could set up an NAC and raise capital through an offering of securities listed on the NYSE that would be invested in managing and maintaining that rain forest.
I have been closely following NACs for some time, because potential clients were interested in the novel concept. Admittedly, the proposal was somewhat difficult for people to understand and was potentially controversial, so it was difficult to predict exactly how this effort would ultimately play out once the SEC considered the proposal. It seemed at times that the proposal was somehow tied to the SEC’s efforts to adopt climate disclosure rules, because the NYSE would require its own standards for the information that investors would use when evaluating the performance of the product.
What actually happened with the proposal that ultimately resulted in last week’s withdraw by the SEC pretty unusual. Back in December, the SEC had taken the rare step of instituting proceedings under Section 19(b)(2)(B) of the Exchange Act to determine whether to approve or disapprove the proposed rule change, which involved soliciting additional comment on specific areas of concern and providing until January 18 for those additional comments. It is unusual for exchange proposals to get to this phase, because typically the exchanges will work closely with the SEC to avoid this embarrassing outcome. It appears that the NAC proposal encountered significant opposition, particularly with respect to how NACs could impact the management of public lands. The proposal faced opposition from the House Natural Resources Committee, trade groups, local and state public officials and others. The level of opposition suggests that we are unlikely to see a revised version of NACs come back to life.
As John mentioned on Friday, I am in Coronado, California along with John, Liz and Meredith for the 51st Annual Securities Regulation Institute. This is my first year serving as vice chair of SRI, working with Dixie Johnson of King & Spalding, who serves as chair of the program. It has been an honor to work with Dixie organizing this outstanding program, and I appreciate all of the efforts of our outstanding faculty and the Northwestern staff. I plan to bring you some key insights from the conference in the blog this week.
Proxy season is upon us, so be sure to mark your calendar for January 30 from 2:00 to 3:30 pm Eastern, when I will be joined by Mark Borges, Alan Dye and Ron Mueller for our annual webcast taking a deep dive into what to expect for the proxy season. We plan to address a wide range of topics, including:
– Clawbacks
– Pay vs. Performance Disclosures
– CD&A Enhancements & Trends
– Shareholder Proposals
– Proxy Advisor & Investor Policy Updates
– Perquisites Disclosure
– ESG Metrics & Disclosures
– Say-on-Pay & Equity Plan Trends, Showing “Responsiveness” to Low Votes
– Status of Related Rulemaking
Members are able to attend this critical webcast at no charge. If you’re not yet a member, subscribe now. The webcast cost for non-members is $595. If you need assistance, send an email to info@ccrcorp.com – or call us at 800.737.1271.
Yesterday, the SEC announced an open meeting to held at 10:00 am eastern on Wednesday, January 24th. This excerpt from the meeting’s Sunshine Act notice indicates that the SEC is ready to act on the SPAC rule proposals that it teed up nearly two years ago:
The Commission will consider whether to adopt new rules and amendments to enhance disclosures and provide additional investor protections in initial public offerings by special purpose acquisition companies (SPACs) and in subsequent business combination transactions between SPACs and target companies (de-SPAC transactions), and to address investor protection concerns more broadly with respect to shell companies.
SPACs were red hot during the first few years of this decade, but they haven’t exactly covered themselves in glory in terms of public investor outcomes and the proposed rules are intended to rein them in by leveling the playing field between SPACs and other IPOs. That being said, I think many industry participants would argue that the rules as proposed wouldn’t just rein SPACs in – they would likely do them in. It will be interesting to see what next Wednesday brings.
If an officer exculpation charter amendment is on your agenda for this year’s annual meeting & you’ve got multiple classes of stock outstanding, I’ve got some good news for you. Last year, the Delaware Chancery Court held that companies with this capital structure didn’t have to hold a separate class vote on these charter amendments, and earlier this week, in In re Fox Corp./SNAP Inc. Section 242 Litigation, (Del.; 1/24), the Delaware Supreme Court affirmed that decision. This excerpt summarizes the court’s decision:
We affirm the Court of Chancery’s judgment. Based on long-standing precedent, which the Class A Stockholders have not asked us to overrule, the powers, preferences, or special rights of class shares in Section 242(b)(2) refers to the powers, preferences, or special rights authorized for a class by Section 151(a) and expressed in the charter as required by Sections 102(a)(4) and 151(a).
The powers, preferences, or special rights of class shares expressed in the charter include default provisions in the DGCL, which are part of every charter under Section 394. The ability to sue directors or officers for duty of care violations is an attribute of the Companies’ stock, but not a power, preference, or special right of the Class A common stock under Section 242(b)(2).
The annual Northwestern Securities Regulation Institute will be held next week in San Diego. I know that many of our members will be there and wanted to let you know that we’ll be there in force. Dave’s vice chairing the event, and Liz, Meredith & I will all be in attendance as well. We hope to have the chance to meet many of the members our community in person, so if you see us, please stop by and say hello!
We shouldn’t be hard to find – Dave will be at the podium, and if you’re looking for the rest of us, just keep your eyes peeled for two very professional looking young women standing next to an old guy who looks like Sir Topham Hatt.
A recent Morgan Lewis memo on white collar issues says that the DOJ is prioritizing corporate criminal enforcement for misconduct implicating national security issues. Here’s an excerpt:
Since the beginning of the Biden administration, the DOJ has loudly proclaimed an interest in increased corporate criminal enforcement in traditional white-collar spaces. However, in recent months, the DOJ has signaled an additional priority: corporate enforcement related to national security issues. In the fall of 2023, the DOJ announced the appointment of the National Security Division’s first chief counsel for corporate enforcement. Ian Richardson, a former federal prosecutor in the US District Court for the Eastern District of New York, was appointed to coordinate and oversee the prosecution of corporate crime relating to US national security. Additionally, Christian J. Nauvel was named as Deputy Chief Counsel for Corporate Enforcement.
Given some of the national security issues that have emerged in recent years, from trade secret theft to the visibility of non-state actors, the DOJ is looking for opportunities to send a message to companies that they need to crack down on misconduct that could have serious national security implications. The DOJ’s focus on national security extends to processes like the CFIUS regulatory process, which is focused on reviewing cross-border investments and not on criminal activity.
The memo says that this increased emphasis on enforcement means that the DOJ will likely increase the number of investigations and subpoenas, and that companies with activities in regions such as China, the Middle East, and Central Asia face the most significant risk of attracting the DOJ’s attention.
