June 10, 2019

Cyber Breaches: New California Law Discourages Disclosure?

At a recent meeting of the Twin Cities Chapter of the Society for Corporate Governance, Dorsey’s Bob Cattanach shared details on California’s Consumer Privacy Act – or as he called it, “the single most difficult cyber development in the US over the last decade.”

With the legislation set to become effective next January, Bob & other litigators are predicting a surge in class actions for companies that do business in that state. That’s because the provision that allows consumers to recover up to $750 in damages per incident makes it much easier to show that the breach caused injury (and as this Womble Bond Dickinson chart says, a pending amendment may even allow consumers to sue for violations other than data breaches). So plaintiffs’ firms are lining up – and there’s reason to think twice about automatically treating any cyber incident as a “breach,” before you’re certain that breach notification & disclosure requirements have been triggered.

Bob noted that practicing mock breach scenarios under your “incident response plan” is now all the more important. With so much more soon to be at stake, you will need to anticipate the challenges of assessing your many overlapping disclosure obligations, and the likely lack of sufficient & reliable information necessary to make decisions under increasingly shortened time periods, in advance.

For more details on California’s law – and similar legislation that is cropping up in other states – check out the memos in our “Cybersecurity” Practice Area

Cyber Breach Disclosure: 90% of Incidents Aren’t “Material”?

One of the many things that makes cyber breach disclosure a tricky issue is that the market can get info from notices that are required by state law, even if a company doesn’t disclose the incident in a press release or 8-K. Last summer, I blogged that SEC Commissioner Rob Jackson was concerned that this creates an opportunity for “arbitrage” – and market overreactions.

Disclosure of cyber incidents seems to be trending up, but it’s still rare. That’s according to this WSJ article, which says that Rob is still focused on the issue – and that he thinks companies might benefit from a bright-line disclosure rule. According to his latest research, 10% of known cyber incidents were disclosed in SEC filings in 2018. That compares to 3% in 2017, before the SEC issued its disclosure guidance.

Consistent with those findings, this Audit Analytics blog reports that 121 breaches were disclosed in SEC filings last year – compared to the thousands of breaches & “incidents” identified in Verizon’s latest “Data Breach Investigations Report.” Audit Analytics also found that it takes companies a little over a month to discover a breach and another 4-6 weeks to report it – i.e. 2-5 months between the time of the initial breach and the time of disclosure – and companies vary widely in the level of detail they disclose about the breach.

Meanwhile, this blog says that the SEC’s Enforcement Division remains focused on cybersecurity controls & inadequate disclosure. Relevant factors for investigations include “how the information was accessed, whether there were sufficient walls in place, when the company knew about the intrusion, what the company did in response to the intrusion, and when the company came forward.”

Cybersecurity: When the Threat Comes From Inside

A significant number of cybersecurity incidents & breaches are the result of “privilege misuse” by employees and independent contractors, according to Verizon’s 11th annual “Data Breach Investigations Report.” It also says that “miscellaneous errors” are the second-most common cause of breaches! Hacks can happen if an employee or director is using a personal email account to send confidential documents, or faxing information to an unconfirmed number.

This “Insider Threat Report” – also from Verizon – suggests ways to minimize these internal risks through internal controls. The report’s sample fact patterns could serve as “table top exercises” to help you simulate all of the issues that arise when a data breach happens – including the need to make disclosure & insider trading decisions. Note that Verizon recommends limiting employee access to sensitive data (pg. 9), which is a step some companies are also taking to prevent insider trading. Also see this blog about how law firms can help clients address the risk of internal threats.

Liz Dunshee

June 7, 2019

Audit Committees: PCAOB Guidance on Auditor Independence Communications

PCAOB Rule 3526 requires auditors to communicate with audit committees concerning relationships that might impact their independence.  Last week, the PCAOB issued guidance concerning the communications that are required under this rule when the auditor identifies one or more violations of applicable independence rules – but doesn’t think the violations disqualify it from continuing to serve as the auditor.  The PCAOB also issued this summary of the guidance. This excerpt from the guidance document details the disclosures required by the rule:

The Firm would comply with Rule 3526 by:

a. summarizing for the audit committee each violation that existed during the year;

b. summarizing for the audit committee the Firm’s analysis of why, for each violation and notwithstanding the existence thereof, the Firm concluded that its objectivity and impartiality with respect to all issues encompassed within its engagement had not been impaired, and why the Firm believes that a reasonable investor with knowledge of all relevant facts and circumstances would have concluded that the Firm was capable of exercising objective and impartial judgment on all issues encompassed within the Firm’s engagement;

c. if more than one violation existed during the year, providing to the audit committee a separate analysis of why, notwithstanding all of the violations taken together, the Firm concludes that its objectivity and impartiality with respect to all issues encompassed within its engagement has not been impaired, and why the Firm believes that a reasonable investor with knowledge of all relevant facts and circumstances would conclude that the Firm was capable of exercising objective and impartial judgment on all issues encompassed within the Firm’s engagement;

d. engaging in dialogue with the audit committee regarding the violation(s) and the Firm’s related analyses (as described in (a)-(c) above);

e. documenting the substance of the Firm’s discussion(s) with the audit committee (as described in (d) above); and

f. affirming in writing to the audit committee that, except for the violation(s) expressly identified, the Firm would be independent in compliance with Rule 3520.

In a nutshell, the auditor must consider the impact of the violation or violations on its objectivity and impartiality. It then communicates that analysis to the audit committee, which makes its own decision about whether to continue to retain the audit firm.

There are several other components to the guidance, and one of the more interesting is the PCAOB’s view that in this situation, the auditor “should not state in its required annual affirmation that the auditor is independent, but instead indicate that the auditor would be independent except for the violation or violations that it has identified and discussed with the audit committee.”

However, the auditor may issue its report without altering the required title: “Report of Independent Registered Public Accounting Firm.” The PCAOB views this as stating a legal requirement, and not a specific assertion of compliance with the applicable PCAOB rule.

Internal Controls: More ICFR Risk Factors in Wake of SEC Enforcement Action

I’ve blogged a few times (here’s the most recent) about the SEC’s enforcement action against a handful of companies that couldn’t get their acts together when it came to addressing material weaknesses in ICFR. Now, this Audit Analytics blog says that some companies with material weakness disclosures extending over multi-year periods are including “Risk Factor” disclosure specifically addressing the risk of SEC enforcement resulting from their inability to resolve those issues.

This excerpt suggests that we’re likely to see more disclosure along these lines as the year progresses:

It appears public companies are taking notice of the SEC’s January statement that merely disclosing ICFR material weakness is not enough. This year we may see more companies disclose ineffective controls, and this is meaningful because of the SEC’s scrutiny.

In conclusion, analysts and investors need to be on guard for more companies disclosing material weakness with ICFR. Further, they need to consider that admission of weak internal controls doesn’t necessarily mean 2018 was the first year the firm had problems. It’s possible historical filings could show years of ineffective ICFR.

Transcript: “How to Handle an SEC Enforcement Inquiry Now”

We have posted the transcript for our recent webcast: “How to Handle an SEC Enforcement Inquiry Now.”

John Jenkins

June 6, 2019

Survey Results: Drafting Proxies, Glossy ARs & Form 10-Ks

Here are the results of our recent survey on drafting annual reports, proxy statements, glossy annual reports & Form 10-Ks:

1. At our company, the lead for drafting our proxy statement is (ie. running the master):

– Corporate secretary’s department – 20%
– Legal department – 70%
– Accounting department – 2%
– IR department – 0%
– Outside counsel – 8%
– None of the above – 0%

2. At our company, the lead for drafting our glossy annual report is:

– Corporate secretary’s department – 4%
– Legal department – 7%
– Accounting department – 6%
– IR department – 46%
– Outside counsel – 2%
– None of the above – 35%

3. At our company, the lead for drafting our 10-K is:

– Corporate secretary’s department – 2%
– Legal department – 6%
– Accounting department – 90%
– IR department – 0%
– Outside counsel – 1%
– None of the above – 1%

4. At our company, the lead group for conducting our disclosure committee meetings for our proxy statement is:

– Corporate secretary’s department – 14%
– Legal department – 48%
– Accounting department – 18%
– IR department – 0%
– Outside counsel – 4%
– None of the above – 16%

5. At our company, the lead group for conducting our disclosure committee meetings for our 10-K and 10-Q is:

– Corporate secretary’s department – 2%
– Legal department – 17%
– Accounting department – 73%
– IR department – 1%
– Outside counsel – 1%
– None of the above – 6%

Please take a moment to participate anonymously in these surveys:

Management Representation Letters
Ending Blackout Periods

Whistleblowers: Can In-House Lawyers Walk the Ethical Tightrope?

Under the attorney conduct rules adopted by the SEC following Sarbanes-Oxley, there are limited circumstances under which attorneys may be obligated to “report out” – i.e., blow the whistle to the SEC – on client misconduct. These obligations are not consistent with many states’ ethics rules, but the SEC brushed those concerns aside by saying that its rules preempted those standards. Now, according to this recent “Dimensions” article, the federal courts are starting to weigh in:

A California federal court held that in-house counsel could be a whistleblower under the federal statutes because the SEC rules preempt the state’s very strict duty of confidentiality. The case is on appeal and, the authors surmise, the holding will be limited because counsel reported internally, not to the SEC, before being fired (and thus falling outside the Dodd-Frank definition of a whistleblower).

Timing is also key to a case now pending in the Eastern District of Pennsylvania. In-house counsel seeks Dodd-Frank protection from retaliation for reporting to the SEC while still an employee. The company has counterargued that, prior to the report, it gave notice that counsel would be fired. A decision in the District of New Jersey denied Dodd-Frank protection to an attorney fired for reporting to FINRA, rejecting the argument that this was tantamount to reporting to the SEC, which supervises FINRA, while still employed.

The article notes that the 9th Circuit subsequently remanded the California federal court’s decision, affirming it in part and remanding it in part. This Sheppard Mullin blog has more details on the case.

Whistleblowers: Internal Whistleblower Rings the Bell for $4.5 Million

While lawyers may get tied-up in ethical knots for decades over whistleblower issues, for those who are unencumbered by such concerns, the SEC recently provided another example of just how lucrative whistleblowing can be. Late last month, it announced a $4.5 million award to a whistleblower, but as this excerpt from the SEC’s press release points out, this award had a unique fact pattern:

The whistleblower sent an anonymous tip to the company alleging significant wrongdoing and submitted the same information to the SEC within 120 days of reporting it to the company. This information prompted the company to review the whistleblower’s allegations of misconduct and led the company to report the allegations to the SEC and the other agency. As a result of the self-report by the company, the SEC opened its own investigation into the alleged misconduct.

Ultimately, when the company completed its internal investigation, the results were reported to the SEC and the other agency. This is the first time a claimant is being awarded under this provision of the whistleblower rules, which was designed to incentivize internal reporting by whistleblowers who also report to the SEC within 120 days.

As I blogged at the time, in 2018 the SCOTUS held that purely internal whistleblowers weren’t entitled to the protections of Dodd-Frank. Concerns were subsequently expressed that the decision would incentivize people to go to the SEC before the company was even aware of the potential problem.

That didn’t happen here – but because the whistleblower dropped a dime on the company to the SEC within 120 days of making an internal report, the person was credited with the results of the company’s investigation. As the SEC’s release noted, the policy establishing that 120 reporting period was intended to promote internal reporting, and in this case, it seems to have worked.

This WSJ article says that whistleblower lawyers are skeptical that this will be anything more than a one-off event, and that since internal whistleblowers are at risk for retaliation without Dodd-Frank’s protections, blowing the whistle to the SEC first is likely to remain the preferred path.

John Jenkins

June 5, 2019

Cryptocurrencies: Kik’s “Defend Crypto” Enforcement Gambit

Yesterday, the SEC announced an enforcement proceeding against Kik Interactive, which allegedly has engaged in a $100 million unregistered token offering.  Here’s the SEC’s complaint. Ordinarily, the SEC’s decision to bring an enforcement action is the big news, but I’ve kind of buried the lede here.  Why?  Because this Forbes article says that Kik & its affiliated entity, the Kin Ecosystem Foundation, are positively itching for a fight:

Two years ago, messaging app Kik raised about $100 million in an initial coin offering for the Kin token. Three days later, the SEC reached out, and after much back and forth, finally notified Kik last fall that it intended to pursue an enforcement action against both Kik and the Kin Ecosystem Foundation.

However, Kik and Kin made a surprise move: It published its response to the SEC, detailing what seems like a pretty strong case for why their token sale was not an offering of securities and why their token currently does not meet the definition of a security. They also announced in the Wall Street Journal their plan to fight this out in court.

In order to fund their defense, these crypto folks did a very crypto thing – they started a legal defense fund called “Defend Crypto” to which people can contribute bitcoin & other cryptocurrencies. What’s the sales pitch? In short, they say that “the future of crypto is on the line,” & they’re fighting Cryptomageddon:

For the future of crypto, we all need Kin to win. This case will set a precedent and could serve as the new Howey Test for how cryptocurrencies are regulated in the United States. That’s why Kin set up the Defend Crypto fund to ensure that the funds are there to do this the right way.

The message seems to be resonating with its intended audience. The fund raised over $4.5 million even before the SEC filed its action. What’s more, these guys seem positively thrilled that they’ve been sued. This WSJ article quotes KiK’s CEO as saying in reaction to the SEC’s complaint that what’s “exciting” to him “is that this industry is finally going to get the clarity it so desperately needs.”

“Clarity” is a word that crypto-evangelists use a lot when it comes to the securities laws. Sure, there are aspects of the SEC’s position on digital assets that are murky, but every time I hear somebody from the crypto crowd speak, I get the sense that they believe “clarity” means having regulators tell them what they want to hear. Anyway, enjoy the heck out of your enforcement proceeding. . .

Endangered Species: Quarterly Guidance on the Way Out?

It wasn’t all that long ago that most public companies seemed to view providing quarterly forecasts as just one of the costs of being public. That sure doesn’t seem to be the case anymore. In fact, this recent OZY article reports that the practice of providing quarterly guidance may be going the way of the Dodo:

The number of American companies releasing guidance every three months has dropped from 75 % in 2003 to 27% in 2017, according to a new report by the nonprofit FCLT Global, which advocates against quarterly earnings guidance. The phenomenon is even rarer outside the United States. Among listed companies on the Euro Stoxx 300, less than 1 percent issued quarterly guidance between 2010 and 2016.

Several publicly listed companies that release quarterly sales and revenue information are joining the chorus against short-term financial thinking. Large publicly traded companies such as Cisco, GSK, Barclays and Unilever, along with some state pension funds and global investment firms, are among the members of FCLT, an acronym for Focusing Capital on the Long Term. The group presents data showing that such forecasting does not, as many argue, reduce stock price volatility.

Despite this research and the calls of prominent investor & corporate advocates to end quarterly guidance, I suspect that the practice will remain pretty resilient at the lower end of the food chain. Smaller caps are often desperate to please analysts and maintain whatever coverage they may have, so until securities analysts jump on the bandwagon, some of these companies are likely to still keep sticking their necks out.

More On “NYSE Proposes to Tweak Equity Compensation Plan Rules”

Last week, I blogged about the NYSE’s proposed changes to the definition of “fair market value” in Rule 303A.08.  Troutman Sanders’ Brink Dickerson points out that there seems to be a bit of a disconnect between the NYSE’s proposal & the approach taken by Item 402 of S-K:

The change to 303A.08 is interesting in that it does not reconcile nicely with S-K 402(d)(2)(vii), which requires a separate column when the exercise price is “les than the closing market price of the underlying security.” A lot of my clients now use the closing price on the date of grant (1) to avoid this extra disclosure, and (2) because they would prefer the stock price to be unknown at the time of grant to minimize bullet-dodging, etc. Surprising that the NYSE would not go with the SEC’s default approach. Under the NYSE construct, you can only avoid the extra column with certainty if you make a grant after the market closes but not on the next day.

John Jenkins

June 4, 2019

Animal House? SEC Targets Frat Boy for Alleged Ponzi Scheme

You’ve got to hand it to college fraternities – their members have an uncanny knack for getting themselves into serious trouble.  Most fraternity misconduct is the predictable result of their often over-the-top drinking culture & reckless hazing practices. But while that kind of stuff has become a cliché, it doesn’t mean that frat boys are incapable of more innovative misconduct.

Here’s a case in point: according to this SEC press release, one enterprising young man has allegedly been running a Ponzi scheme out of a University of Georgia frat house!  This excerpt from the press release indicates that the Division of Enforcement decided that when it comes to dealing with this kind of alleged misconduct, Dean Wormer had it right – “the time has come for somebody to put his foot down, and that foot is me”:

The Securities and Exchange Commission today announced an emergency action charging a recent college graduate with orchestrating a Ponzi scheme that targeted college students and young investors. The SEC is seeking an asset freeze and other emergency relief.

The SEC’s complaint alleges that Syed Arham Arbab, 22, conducted the fraud from a fraternity house near the University of Georgia campus in Athens, Georgia. Arbab allegedly offered investments in a purported hedge fund called “Artis Proficio Capital,” which he claimed had generated returns of as much as 56% in the prior year and for which investor funds were guaranteed up to $15,000.

Arbab also allegedly sold “bond agreements” which promised investors the return of their money along with a fixed rate of return. The SEC’s complaint alleges that at least eight college students, recent graduates, or their family members invested more than $269,000 in these investments.

According to the SEC’s complaint, no hedge fund existed, Arbab’s claimed performance returns were fictitious, and he never invested the funds as represented. Instead, as money was raised, Arbab allegedly placed substantial portions of investor funds in his personal bank and brokerage accounts, which he used for his own benefit, including trips to Las Vegas, shopping, travel, and entertainment.

As noted in the press release, the SEC is seeking an asset freeze & a whole bunch of other emergency relief. Still, I was a little disappointed to find no reference to “double secret probation” in the SEC’s complaint.

SCOTUS Punts on “Duty to Update”

The SCOTUS has managed to dodge some pretty controversial issues in recent weeks, and according to this D&O Diary blog, the question of whether the securities laws impose a “duty to update” is another controversy that you can add to the list.  Here’s an excerpt:

In a little noticed-development last week, the U.S. Supreme Court denied the petition for a writ of certiorari in Hagan v. Khoja, in which former officials of a bankrupt pharmaceutical company sought to have the Court review a decision by the Ninth Circuit to revive a securities class action lawsuit against them.

Had the petition been granted, the Court would have been called upon to consider the controversial question of whether public companies have a duty to update prior disclosures that were accurate when made. The Court’s cert denial leaves the Ninth Circuit’s ruling standing and the questions surrounding the existence and requirements of a duty to update remain unsettled.

Insider Trading:  Don’t Look Now, But Here Comes Congress. . . 

This NYT DealBook article reports on “The Insider Trading Prohibition Act,” which recently cleared the House Financial Services Committee.  The proposed legislation is intended to eliminate some of the uncertainty surrounding insider trading law – and expand the government’s ability to bring insider trading cases. This excerpt provides an example of the greater flexibility the legislation would provide to prosecutors:

The legislation also would move insider trading law away from its focus on a duty to keep information confidential by more broadly describing what constituted “wrongful” trading or transmission of confidential information. There would be four ways to show that the information had been obtained wrongfully: by theft, bribery or espionage; by violation of any federal law protecting computer data; by conversion, misappropriation or unauthorized and deceptive taking of information; and by breach of a fiduciary duty or breach of “any other personal or other relationship of trust and confidence.”

By expressly including a breach of a federal data privacy law or theft of information, the legislation would eliminate some of the uncertainties surrounding the application of insider trading law to the kind of “outsider trading” schemes exemplified by the 2016 hack on the SEC’s Edgar database.

This WilmerHale memo suggests that prosecutors have already found a work-around for some of the issues that Congress is trying to address with this legislation – a federal statute that was added to their arsenal as part of the Sarbanes-Oxley Act.

John Jenkins

June 3, 2019

In-House Counsel Compensation: Recent Trends

Check out the latest report from BarkerGilmore – a boutique executive search firm – about in-house counsel compensation trends. Among the findings:

– The average annual salary increase rate for all positions across industries increased to 4.4%, up 0.6% from the previous year.

– 41% of all respondents believe their compensation is below or significantly below that of their peers in other organizations, with labor & employment lawyers and insurance reporting the greatest dissatisfaction.

– 38% of respondents indicate that they would consider a new position within the next year due to compensation issues, 3% less than the previous year.

– Public company lawyers make more than private company lawyers, and public company GCs make a lot more – 41% more to be precise.

– On average, female in-house counsel earn 85% of what male in-house counsel earn. The disparity is largest at the General Counsel level, with a 17% gap, 5% smaller than the previous year.

On a completely unrelated note, when I saw BarkerGilmore’s press release on the study, I noticed that they were headquartered in Fairport, NY. This charming canal town is the hometown of the late Philip Seymour Hoffman, who once described it as being “like Kansas, if Kansas was in New York.” Why do I know so much about this little upstate New York burg? Well, Mr. Hoffman isn’t the only one who grew up there. (Hi Mom!)

“Finders”: Lawsuit Pushes Back Against SEC on Broker Registration

The SEC has historically taken a very limited view of the role that “finders” who are not registered broker-dealers can play in financings. But this recent blog from Andrew Abramowitz notes that one company has filed a lawsuit that pushes back against the SEC’s position. Here’s an excerpt:

A company proposing to do business as an unregistered finder, Platform Real Estate Inc., has now filed suit in the Southern District of New York against the SEC, seeking a declaratory judgment to the effect that broker-dealer registration is not required for the plaintiff and similar companies acting as a finder on behalf of private companies.

The essence of Platform Real Estate’s argument is that the Exchange Act generally, and Section 15(a) (the section requiring registration of those acting as broker-dealers) in particular, are intended to protect investors in the secondary market, like those purchasing shares traded on an exchange. The transactions that Platform Real Estate would be involved in, in contrast, are primary transactions, where a company issues and sells new shares to accredited investors who represent as to their intent to hold the shares potentially indefinitely.

In discussing the case, Andrew makes a point that I think a lot of lawyers representing small companies would agree with – most registered broker-dealers don’t want to deal with this segment of the market. There’s just not enough money to be made in these financings to justify their commitment of resources. That means there’s a real market need that is being filled by finders, and makes it critical to get some clear rules governing what they can and can’t do.

Our June Eminders is Posted!

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John Jenkins

May 31, 2019

Proxy Rules: SEC Relief Permits Unaudited Company to Solicit Proxies

Yesterday, Corp Fin Director Bill Hinman issued an exemptive order permitting a company that was unable to provide the audited financial statements required under Rule 14a-3(b) to nevertheless solicit proxies for its upcoming annual meeting. Companies that don’t have audited financials are in a tough spot if they need to hold an annual meeting. Rule 14a-3(b) requires them to provide an annual report containing that information along with the proxy materials, and if they can’t do that, they can’t solicit proxies.

Many companies in this position opt to delay their annual meeting until they can comply with the proxy rules, but that’s not a viable strategy if you’ve received a court order compelling an annual meeting. That’s the situation in which Mimedx Group found itself & what prompted it to seek the exemptive order. Companies finding themselves in this kind of a bind should note both the potential availability of exemptive relief & the existence of the following conditions upon which the Mimedx Group order was premised:

– MiMedx is required to hold the Delayed 2018 Meeting as a result of an action taken by security holders pursuant to Florida law and the Florida Court ordering such meeting to be held on June 17, 2019;

– The company has made good-faith efforts to furnish the audited financial statements required by Rule 14a-3(b) before holding the Delayed 2018 Meeting but is unable to comply with this requirement;

– MiMedx has made a determination that it disclosed to security holders all available material information necessary for security holders to make an informed voting decision in accordance with Regulation 14A;

– Absent the grant of exemptive relief, MiMedx would be forced to violate either Florida law or the rules and regulations administered by the Commission; and

– The company faces a proxy contest with respect to the matters to be presented at the Delayed 2018 Meeting, with certain MiMedx security holders filing a definitive proxy statement soliciting proxies for, among other things, the election of their own director nominees.

These conditions weren’t pulled out of thin air. With the exception of the reference to the proxy contest, they mirror the requirements of Rule 30-1(f)(18), which sets forth the circumstances under which the Director of Corp Fin has been delegated authority to grant exemptive relief from the requirements of Rule 14a-3(b).

Chief Accountant Wes Bricker to Leave SEC

The SEC announced yesterday that Chief Accountant Wes Bricker is leaving the agency.  It also announced that Deputy Chief Accountant Sagar Teotia will serve as Acting Chief Accountant when Bricker leaves next month.

Enforcement: What’s in a Name?

I was kind of taken aback a few days ago when I saw the SEC’s litigation release announcing an enforcement proceeding against “Henry Ford.” Obviously, the SEC isn’t bringing an action against the long-dead father of the Model T, but as a Clevelander, the case made me think of the great Harvey Pekar & his famous “What’s in a Name?” story. I know the connection with securities law is pretty tenuous, but hey, it’s Friday.

John Jenkins

May 30, 2019

Reg Flex Agenda: Proxy Advisors & Rule 14a-8 in the Spotlight

Last week, the SEC published its latest Reg Flex Agenda, and it looks like the Commissioners may wade into some pretty controversial areas in the near future – including proposing rules relating to proxy advisory firms & shareholder proposals.  This excerpt from a recent Gibson Dunn blog highlights the significant additions to the agenda:

Notably, the Reg Flex Agenda for the first time now identifies the following four rulemaking projects as among those that the SEC expects to address over the coming year:
– Proposing rule amendments regarding the thresholds for shareholder proposals under Rule 14a‑8;
– Proposing rule amendments to address certain advisors’ reliance on the proxy solicitation exemptions in Rule 14a-2(b);
– Proposing rule amendments to modernize and simplify disclosures regarding Management’s Discussion & Analysis (MD&A), Selected Financial Data and Supplementary Financial Information; and
– Proposing rule amendments to Securities Act Rule 701, the exemption from registration for securities issued by non-reporting companies pursuant to compensatory arrangements, and Form S-8, the registration statement for compensatory offerings by reporting companies (previously listed as a longer term project.).

The blog says that the SEC is generally expected to propose increases in the ownership & resubmission thresholds under Rule 14a-8. What the SEC is going to propose about the ability of proxy advisors to continue rely on exemptions from proxy solicitation rules is less clear – but some commenters have called for the SEC to reconsider those exemptions as part of a broader initiative to regulate the proxy advisory industry.

Potential changes to the shareholder proposal regime & the possible regulation of proxy advisors are likely to garner the most attention from the media, but my guess is that most of us will take an equal or greater interest in what the SEC proposes to do with MD&A, Rule 701 & Form S-8.

NYSE Proposes to Tweak Equity Compensation Plan Rules

Under NYSE rules, equity compensation plans are generally subject to shareholder approval.  However,  plans that allow participants to buy shares at a price equal to their “fair market value” are excluded from that requirement.  Last week, the NYSE filed a proposed rule change with the SEC that would codify its long-standing practice for determining fair market value for purposes of this exclusion.  This excerpt from a recent Steve Quinlivan blog summarizes the proposed change:

For purposes of the above exclusion from the definition of equity compensation plan, the Exchange has always interpreted “current fair market value” as requiring that the price used be the most recent official closing price on the Exchange. For the avoidance of doubt, the Exchange now proposes to include in Section 303A.08 text specifying how the fair market value of the issuer’s common stock should be calculated for this purpose. “Fair market value” will be defined as the most recent official closing price on the Exchange, as reported to the Consolidated Tape, at the time of the issuance of the securities.

The blog says that this means if the securities are issued after the close on a Tuesday, then Tuesday’s official closing price will be used. If they are issued at any time between the time of Monday’s close and Tuesday’s close, then Monday’s official closing price will be used.

Nasdaq Proposes to Tighten Initial Listing Standards

Since we’re on the topic of amendments to stock exchange rules, I confess that I somehow overlooked proposed rule changes that Nasdaq originally filed in March. In any event, Nasdaq wants to tighten its original listing standards and help assure adequate liquidity for listed securities. Here’s an excerpt from the proposal explaining what it’s proposing to do:

– First, Nasdaq proposes to revise its initial listing criteria to exclude restricted securities from the Exchange’s calculations of a company’s publicly held shares, market value of publicly held shares and round lot holders (“Initial Liquidity Calculations”). To do so, Nasdaq proposes to add three new definitions to define “restricted securities”, “unrestricted publicly held shares” and “unrestricted securities” and proposes to amend the definition of “round lot holder”.

– Second, Nasdaq proposes to impose a new requirement that at least 50% of a company’s round lot holders must each hold shares with a market value of at least $2,500.

– Third, Nasdaq proposes to adopt a new listing rule requiring a minimum average daily trading volume for securities trading over-the-counter (“OTC”) at the time of their listing.

No changes to continued listing standards are being proposed. I don’t feel too bad about missing this rule proposal when it was initially filed, because the SEC just extended the comment period to July 8th.

John Jenkins

May 29, 2019

Are the Big Four Competing With Your Law Firm?

Looks like there is a brewing “turf war” as the Big 4 audit firms continue to provide more legal services – see this article about how EY just acquired a UK alternative legal services provider. And, as noted in this article, some general counsels are using the Big 4 for legal services (but remain wary). This blog suggests the ABA should get out of the way of this trend.

Here are a few thoughts contributed anonymously from members that I polled:

– The auditors are marketing machines, and I think they’d get a shot at ordinary course ’34 Act compliance stuff pretty readily. They are more sophisticated than regional law firms on budgeting, and Six Sigma/process management stuff. I think that would be really appealing to GCs who’ve been driven nuts by law firms blowing through budgets.

– I don’t know if it’ll catch on with hard-core US securities work since my recollection is that the ethics rules prohibit non-lawyers from owning law firms in the US. But I think that’s something that the legal industry disruptors keep predicting will change or be sidestepped…eventually. They’ll probably get their foot in the door with governance and executive comp work and go from there?

– Can’t see them getting a lot of high end stuff outside of tax, which they already own. The problem with the Big 4 is that once you get past their ability to initially form relationships, they generally aren’t very good substantively at anything. All their best people leave and the partners are politically astute empty suits.

– The GC-Big 4 article is intriguing. My predecessor at my last in-house job went to a law firm run by EY about a dozen years ago. He lasted two years. It wasn’t a fun job.

– My guess is they’ll push the regulatory envelope by following the virtual law firm model in some fashion.

Also see this Bloomberg article, which notes how some law firms are cognizant of the competition coming from the Big 4 – and what they are doing to stave them off…

Society’s Annual Conference: Come Say ‘Hello’!

As usual, Liz & I will be attending the Society for Corporate Governance’s annual conference – coming up at the end of June in San Diego – and this will be the first year that we will have a booth in the exhibit hall! Come by & say ‘hello’ – and meet some of the new members of our team: Mel, Albert, Larissa, Paige and Justin.

Vintage eRaider Swag!

A while back, I blogged a “vote counting” story that involved eRaider, a widely-media covered fund during the Internet boom in ’90s that hoped to cash in on “message board” activism. eRaider’s business model was to buy a 5% stake in small companies with good products, then get shareholders together to push for governance changes that would improve the company. The idea got a lot of publicity – but little “real life” traction and eRaider shut down in 2004.

Anyway, Lois Yurow sent in this pic of her vintage swag!

Broc Romanek

May 28, 2019

Copies of “The Corporate Counsel” Galore…

Over a decade ago, this is what our HQ looked like with the storage of many extra copies of “The Corporate Counsel” & “The Corporate Executive” print newsletters – various editions that spanned decades. Back then, we kept extra copies of back issues for when subscribers called in a panic because they lost their copy. So this is sort of what our “factory” looked like:

PCAOB Staff Guidance: Deeper Dive into CAM Communcations

Last week, the PCAOB Staff issued this 4-pages of guidance on CAMs. See this blog by Mike Gettelman – and this blog by Steve Quinlivan…

May-June Issue: Deal Lawyers Print Newsletter

This May-June Issue of the Deal Lawyers print newsletter includes (try a no-risk trial):

– The Culture of Counterparties
– Cross-Border Carve-Out Transactions: Conditions & Staggered Closings
– California Consumer Privacy Act and Its Impact on M&A Transactions
– The Millenials Strike Back: 29 Tips for Older Deal Lawyers

Remember that – as a “thank you” to those that subscribe to both & our Deal Lawyers print newsletter – we are making all issues of the Deal Lawyers print newsletter available online. There is a big blue tab called “Back Issues” near the top of – 2nd from the end of the row of tabs. This tab leads to all of our issues, including the most recent one.

And a bonus is that even if only one person in your firm is a subscriber to the Deal Lawyers print newsletter, anyone who has access to will be able to gain access to the Deal Lawyers print newsletter. For example, if your firm has a firmwide license to – and only one person subscribes to the print newsletter – everybody in your firm will be able to access the online issues of the print newsletter. That is real value. Here are FAQs about the Deal Lawyers print newsletter including how to access the issues online.

Broc Romanek