Yesterday, the SEC’s Spring 2023 Reg Flex Agenda, which reflects the targeted timeframe for planned rulemaking, was released. Generally, it looks like the most significant, unfinished rulemaking previously targeted for April has been pushed out to October. Here are some highlights for rulemaking in the final rule stage:
Of course, these dates are aspirational and signify general timeframes versus precise dates. The Reg Flex Agenda can give insight into current (or, at least, as of April 10th) priorities of the Chair, but it isn’t a definitive guide for anyone trying to predict SEC rulemaking for purposes of specific board agendas, budget and workflow.
In mid-March, FASB issued an Exposure Draft to solicit public comment on proposed changes to ASU Topic 740: Income Taxes. Per FASB’s press release, comments were due May 30, 2023. As reported by CFO Dive, the proposal, which is the third time FASB has attempted to tackle this topic, would require more explicit accounting breakdowns of the taxes companies pay, and has elicited extensive feedback from companies and business and investor groups.
The comments ranged from something akin to “this is a non-starter” from the US Chamber of Commerce to investor groups stating that the new disclosures “fall short.” As a middle-of-the-road example, the comment letter from one corporate stakeholder urged FASB to provide companies sufficient time to comply since tax systems and controls will need to be updated. The FASB staff will now analyze the comments and present to the Board.
As Liz has blogged, “tax impact” has been growing as an ESG issue for a number of years, and tax transparency shareholder proposals are on the rise. So companies may be moving toward more tax disclosure whether or not FASB approves the proposed accounting standards update.
We’ve posted the transcript for our recent “Managing the New Buyback Disclosure Rules” webcast featuring Era Anagnosti of DLA Piper, Robert Evans of Locke Lord, Allison Handy of Perkins Coie, and Dave Lynn of Morrison Foerster and TheCorporateCounsel.net. Here’s an excerpt from Era Anagnosti’s comments on disclosure controls related to the new requirement to disclose the objectives or rationale of the repurchase program and the process or criteria for determining the amount of repurchases:
I also would focus on ensuring proper documentation for substantiating the objectives and the process used to determine the amount of repurchases. The board approves these repurchases, so it’s critical that in carrying out their fiduciary duties, the board’s process for determining these criteria and establishing the repurchase program is sound from a risk and liability perspective, considering the new disclosure requirements put a spotlight on this process.
We had several clients raise questions around, “What about existing repurchase programs that may still be effective by the time the rules go live?” Go back to look at what the board articulated as an objective and criteria at the time. That may not necessarily be up to par with a new disclosure requirement. It’s important for the board to reassess the objective and criteria of previously approved plans.
If you are not a member of TheCorporateCounsel.net, email sales@ccrcorp.com to sign up today and get access to the full transcript – or sign up online.
Last week, the SEC announced settled charges against a company and two of its former officers related to revenue recognition practices that caused the company to file materially misstated financial statements. Here’s an excerpt from the administrative summary:
According to the SEC’s order, under which USAT neither admitted nor denied the SEC’s findings, USAT attempted to maximize end-of-quarter revenue and meet its internal sales targets in two ways. First, they entered into purported bill-and-hold sales transactions that did not conform to the relevant accounting standards at the time of the transactions or the company’s publicly-stated sales and revenue recognition policies. Second, they inflated quarterly sales revenue by deliberately shipping devices to its customers that the customers had not ordered or explicitly told USAT they did not want in the face of inventory shortfalls.
With respect to the bill-and-hold practice, the order explains that, on two occasions during the period in question, the company billed customers for payment (even though it didn’t expect to collect until after delivery), held the related devices for future delivery (even if it had them in stock) and treated these purported sales as a bill-and-hold transaction. But these transactions didn’t actually meet the criteria to recognize revenue from a bill-and-hold transaction — in that the company initiated the bill-and-hold treatment, there was no fixed commitment to purchase, and the transactions lacked a fixed delivery date — plus the company didn’t disclose its use of such transactions.
With respect to shipping the wrong inventory, the company lacked inventory to fulfill customer orders for one device and allegedly engaged in various shenanigans involving shipping another device to meet sales goals for the quarter — including sending the unwanted device and allowing future exchanges, shipping the unwanted devices to a third party when a customer wouldn’t accept the delivery and shipping the wrong devices and blaming “shipping mistakes.” In each case, the company knew the devices would be returned when the correct product became available and shouldn’t have recognized revenue at the time of shipment. Eventually, the issues were identified and the company restated past financials.
While this enforcement action may be more a case of alleged wrongdoing than a trap for the unwary, these types of accounting fraud proceedings are a good reminder of the topics that continue to top the list of focus areas for the Enforcement Division.
The D&O Diary recently shared a guest post from Ed Whitworth and Yera Patel of Inigo summarizing the results of a recent survey they conducted of securities defense counsel. The full summary is worth a read, but here are some of the top takeaways:
– Derivative settlements are continuing to increase in severity. The Caremark standard is holding but continues to be eroded in places. Derivative cases are an increasingly attractive option for the Plaintiff Bar.
– SEC investigations are going formal much earlier and naming individuals at the outset. These cases are therefore becoming much more expensive to defend.
The report also includes some predictions for 2023, which Ingio will assess next year once the data is available:
– Dismissal rates will fall by at least 5% in 2023 relative to the average for the past 10 years.
– Securities class action filing rates will be higher in 2023 than in both 2022 and 2021.
– There will be at least five derivative settlements of more than $100m each in 2023.
– Bankruptcy filings will increase, leading to more breach of fiduciary duty and fraudulent transfer claims.
– SEC investigations will be a major exposure for companies and insurers over the next 24 months.
Tune in at 2 pm Eastern today for the webcast “Pay Vs. Performance: Lessons From Season 1” to hear Weil’s Howard Dicker, Freshfields’ Nicole Foster, Aon’s Daniel Kapinos, and Mercer’s Carol Silverman discuss how companies approached pay-versus-performance disclosures in year one. This webcast will cover:
– Challenges in the first year and approaches to interpretive questions
– Common mistakes and misconceptions
– Most frequently used company-selected measures
– Trends in the tabular list and relationship disclosures
– Use and placement of supplemental disclosures
– Recommendations for shareholder engagements and voting impact
– Longer term impacts on compensation programs & disclosures
If you attend the live version of this 60-minute program, CLE credit will be available. You just need to fill out this form to submit your state and license number and complete the prompts during the program. All credits are pending state approval.
Members of CompensationStandards.com are able to attend this critical webcast at no charge. The webcast cost for non-members is $595. If you’re not yet a member, try a no-risk trial now. Email sales@ccrcorp.com – or call us at 800.737.1271.
There’s been a lot of chatter recently about using ephemeral messaging and off-channel communications. This topic got a lot of air time from SEC Staff members and other panelists at Securities Enforcement Forum West 2023, with the acronym “BYOD” (D for device) repeatedly used throughout the day, highlighting that some companies are rethinking BYOD policies. If this is news to you, this Holland & Knight blog reviews recordkeeping requirements that apply to broker-dealers and investment advisers and recent, related SEC and DOJ actions. Then, the blog goes on to say this:
But what about public company issuers? Currently, under the federal securities laws, issuers are not subject to direct regulations on preservation of business communications. However, much like investment advisers, these types of communications may need to be retained by public companies if they satisfy another statutory recordkeeping obligation. For example, under Exchange Act Section 13(b)(2)(A), issuers are required to make and keep certain books and records that accurately and fairly reflect the transactions and dispositions of the assets of the issuer. But the scope of messages that issuers need to consider retaining may have increased exponentially. As detailed further below, recent DOJ guidance has brought these issues to their compliance doorstep as well.
This new DOJ guidance is from earlier this year. The DOJ expects all companies — not just regulated entities — to maintain and enforce policies to ensure that business-related (note how broad this is) electronic data and communications are preserved and can be accessed. During a DOJ inquiry, it will scrutinize a company’s policy environment and risk management framework around device use and message retention. This means that using certain platforms for electronic communication creates some compliance risks. In light of this guidance, here are some suggestions from the blog for all companies to consider:
– reviewing relevant document retention and other policies to ensure electronic communications are preserved, particularly when there is a threat of litigation or a government investigation
– assessing compliance policies concerning supervisory responsibilities of managers to subordinates
– the implications of a bring your own device (BYOD) policy – whereby employees are allowed to utilize their own devices for company purposes – as such policies are increasingly becoming an early discussion point between defense counsel and government attorneys on the scope of documents under company control
– written personnel certifications that they are complying with preservation and record retention requirements
– implementing, as appropriate, technological restrictions and surveillance programs – and regularly audit them – to ensure compliance with ongoing preservation obligations
– corrective action and employee discipline matrices to address instances of non-compliance
For more information, we’re posting related memos in our “Records Retention” Practice Area.
Liz blogged last week that the NYSE and Nasdaq proposed amendments to their listing standards to implement the Dodd-Frank clawback rules. The amendments would extend the effective date of the rules to October 2, 2023. The consequence is that companies will have until December 1, 2023 to adopt compliant clawback policies and that they’ll apply to incentive-based compensation received by executive officers on or after October 2, 2023.
The open question was whether and how the SEC would approve these amendments, since Friday was the last day that they could act on the original proposals. The Commission came through at the 11th hour with notices for the NYSE and Nasdaq (and other exchanges) that granted accelerated approval of each exchange’s proposal, as modified by the amendment.
Although a number of companies have already adopted a Dodd-Frank clawback policy in anticipation of these listing standards, there are also a significant number who were going to be attempting to cram it into summer board agendas. This is a welcome development that gives companies & boards more breathing room to carefully consider their policies. We’ve posted several helpful samples in our “Clawbacks” Practice Area on CompensationStandards.com!
While companies may not need to rush out and adopt a new clawback policy over the summer, there are a few discretionary considerations that companies may be grappling with as they look to adopt the required policy. I recently discussed some of these with Ali Nardali of K&L Gates in the first episode of our new Pay & Proxy Podcast series over on CompensationStandards.com. To better understand how companies are handling some of these considerations, we’re also running a short, anonymous survey on clawback policies. Please take a moment to participate!
For future episodes of this new podcast series, the idea is to focus on topics of interest to the members of CompensationStandards.com, including executive and director pay trends, compensation governance and disclosure considerations. Like our other podcasts, we hope to talk to folks—in the compensation space—willing to spend 15 minutes sharing a little bit about themselves, their work, or topics they find interesting. If you have something you’d like to talk about, please feel free to reach out to me via email at mervine@ccrcorp.com.
In a big decision last week that has immediate implications for companies facing derivative claims in the 9th Circuit and may eventually head to the US Supreme Court, the 9th Circuit Court of Appeals issued a decision in Lee v. Fisher that could have the practical impact of abolishing federal derivative suits. The court, re-hearing the case en banc after a 3-judge panel decision last year in favor of the company, once again upheld a forum selection bylaw at Gap that designated the Delaware Court of Chancery as “the sole and exclusive forum for . . . any derivative action or proceeding brought on behalf of the Corporation.”
The plaintiff in this case had brought a derivative suit in federal court in California, alleging that the company and its directors violated Section 14(a) of the Exchange Act and Rule 14a-9 by making false or misleading statements to shareholders about the company’s commitments to diversity. The decision affirmed the district court’s dismissal of the case on the basis of the exclusive forum bylaw. Since Delaware courts don’t have jurisdiction to hear federal claims, this case could essentially eliminate this type of shareholder suit, at least in the 9th Circuit.
In this blog and her related paper, Tulane law prof Ann Lipton walks through in detail why she believes this decision is problematic:
As a policy matter, my problem with the decision is that, contra the Ninth Circuit, in fact, direct claims do not function as a complete substitute for derivative claims. Suppose an acquiring company needs a shareholder vote to complete a merger, and the proxy statement is misleading. Suppose the merger is a bad deal for the company. Under Delaware law, that’s an injury to the company, not the shareholder – and, in fact, in the very Delaware cases cited by the Ninth Circuit for the proposition that these should be brought as direct claims, Delaware also held that it could not identify any injury that would justify an award of damages directly to the stockholders, because the only harms were derivative.
…All of which to say: There is no remedy under Delaware law for negligent proxy statements whether the claim is brought directly or derivatively (with an asterisk), and if federal law is following Delaware, there’s no remedy for shareholders suing directly under federal law for transactions that harm the company, at least not unless shareholders manage to act quickly enough to halt the transaction entirely. That’s the hole that derivative Section 14(a) claims can fill.
The Court of Appeals took a different view – one that tracks with the arguments from U Oregon Law Prof Mohsen Manesh and Stanford Law’s Joe Grundfest set forth in this amici brief and reiterated post-decision in this blog on UCLA Law Prof Steve Bainbridge’s site. (Yes, we have a “who’s who” of corporate governance scholars who all make compelling arguments about what the proper outcome should be here.) Here’s the view that Mohsen Manesh shared:
As Grundfest and I have explained, in recent years, as Delaware courts have cracked down on meritless shareholder litigation, the plaintiff’s bar has sought refuge in federal courts by bringing derivative Borak claims. These federal derivative suits allege corporate harm arising from the board’s mismanagement of matters ranging from executive compensation, to oversight of regulatory compliance, to corporate policies concerning diversity, equity and inclusion.
Stated differently, these derivative suits concern internal corporate affairs—matters that are traditionally governed by state corporate law and, therefore, more sensibly litigated in the Delaware Chancery. But rather than bringing a state law claim for breach of fiduciary duty in Delaware courts, these federal derivative suits make the more tortured argument that the alleged corporate harm was a result of the shareholders being misled by the company’s proxy statement. In doing so, derivative Borak lawsuits transparently aim to establish federal court jurisdiction and, thereby, avoid the likely fate that such suits would face before a skeptical Delaware judge.
The suit in Lee exemplified this trend. In Lee, the plaintiff-shareholder brought a derivative Borak claim in federal court against the directors and officers of The Gap, alleging failures in the management’s efforts to promote racial diversity within the company’s leadership ranks. As a derivative suit, the Lee plaintiff alleged that The Gap’s proxy statements had included materially false or misleading statements about the company’s efforts to pursue diversity, which in turn harmed The Gap by enabling the re-election of the company’s incumbent directors and approval of the officers’ compensation packages.
This side of the argument emphasizes that the decision doesn’t affect direct claims under Section 14(a) and advocates that those are still a distinct and valuable way that shareholders can pursue recovery.
There is one thing that everyone agrees on, though: the Ninth Circuit’s holding squarely conflicts with the 2022 Seventh Circuit ruling in Seafarers v. Bradway. John blogged about that case last year when it was issued. This is a significant circuit split that SCOTUS eventually may be interested in resolving, if & when it gets asked to do so. Ann Lipton lays out a parade of horribles that could follow if SCOTUS takes up this topic and affirms the 9th Circuit’s view, culminating in:
…leaving aside what the effect might be on private contracts, the whole mess is dumped back into Delaware’s lap. Delaware will have to decide how far companies can go in charters and bylaws to waive private securities fraud claims. Delaware will have to decide when enforcing such waivers is a violation of directors’ fiduciary duties, and when directors are conflicted in enforcing such waivers, and whether enforcement of a waiver is a conflict transaction that needs to be reviewed under entire fairness.
It will add a whole separate layer of state litigation on top of the federal, where Delaware will decide the contours of the federal right. And it will be doing so in the shadow of jurisdictions like Nevada, which may very well adopt permissive rules.
We might even start with whether Delaware does, in fact, agree that directors may, consistent with their fiduciary duties, completely bar derivative Section 14(a) claims, especially if a situation comes up where, whether due to 102(b)(7) or Delaware’s vision of the direct/derivative distinction, Delaware would not provide any remedy but federal law would provide a derivative one. And of course, arbitration provisions may make a comeback – even apart from the FAA, Delaware then gets to decide whether and to what extent invoking arbitration for securities claims is consistent with Delaware-imposed fiduciary duties. This is the race to the bottom on the Autobahn.
