Perhaps one of the most controversial proposals that the SEC has not yet acted on is a proposal to amend the “held of record” definition for purposes of Section 12(g) of the Exchange Act. The contours of this plan were originally floated by then-Commissioner Allison Herren Lee, who in a speech raised concerns about the “explosive growth of private markets.”
Today under the Exchange Act, a company that reaches either 2,000 holders of record or 500 holders of record that are not accredited investors (whichever happens first) must register a class of equity securities under the mandatory registration provision of Section 12(g) of the Exchange Act. Key to this calculation is how one determines what securities are “held of record,” which historically has not involved looking through to the beneficial ownership of the securities that are listed on the company’s stock records.
In the post-JOBS Act era, back when the SEC was compelled to try to actually encourage capital formation and promote the use of private markets, the SEC implemented the JOBS Act’s higher Section 12(g) mandatory thresholds (discussed above) and actually excluded persons from the definition of “held of record” if they hold only securities issued to them pursuant to an employee compensation plan in transactions exempted from the registration requirements of the Securities Act.
Now, the SEC is talking about going in the other direction. When she discussed the issue at SEC Speaks in 2021, Lee pointed out that most shares in U.S. markets are held in street name, with the result that “record ownership has plummeted and in most cases has no meaningful relationship to the number of actual investors.” Lee suggested that the Commission “should consider whether to recalibrate the way issuers must count shareholders of record under Section 12(g) (and Rule 12g5-1) in order to hew more closely to the intent of Congress and the Commission in requiring issuers to count shareholders to begin with. In other words, it’s time for us to reassess what it means to be a holder of record under Section 12(g).”
It should be noted that the practical effect of this recalibrating would be that more companies would get swept into the mandatory registration provisions of Section 12(g) of the Exchange Act, and would thus be forced to become public companies – that are then subject to all of the extensive disclosure requirements about climate change risk, etc. that the SEC is currently seeking to put in place.
Those of you who have been at this a while might recall that, prior to the JOBS Act amendments, a number of very large private technology companies were forced to go public by virtue of the “held of record” definition and the mandatory registration provision in Section 12(g), such as Facebook and Google. If the SEC were to ultimately adopt the proposed changes to the definition of “held of record,” we would likely see the same “forced” going public scenario for large private companies that played out in the mid-2000s.
Clearly, Lee’s departure from the SEC last year did not scuttle the SEC’s plans to move forward with this proposal, because it has remained on the SEC’s Reg Flex Agenda.
Yet another proposal that remains on the SEC’s Reg Flex Agenda is “Regulation D and Form D Improvements,” which the SEC describes as involving “amendments to Regulation D, including updates to the accredited investor definition, and Form D to improve protections for investors.” On this particular proposal, the exact scope of the amendments is less clear.
Undoubtedly, some surgery will be undertaken with respect to the accredited investor definition, based on concerns that today’s standards are too low, which in the eyes of some leads too many individual investors making risky bets without adequate protection. There has been discussion of raising the wealth threshold in particular, which currently stands at $1 million excluding the value of the individual’s personal residence.
Form D is also a likely target of the SEC’s rulemaking, particularly because of the abysmal compliance with Form D filing requirements. Making the filing of Form D a condition to relying on Reg D has been proposed before, but ultimately was not adopted. But one could envision an environment now where that approach, along with perhaps an earlier deadline for filing Form D, might be seen as more attractive alternatives for addressing the perceived gamesmanship that goes in Reg D land.
Even though we are already one full week into the new year, I thought it was still appropriate to share some of my reflections for what we can expect for 2023.
As John pointed out in the blog on Friday, we are in for a “bomb cyclone” of SEC rulemaking in 2023, so it is time to batten down the hatches. Given the complexity of the rules that were adopted during 2022 and the significant reach of the rules that may potentially be adopted in just the next few months, it is a good time now to set some priorities on how you are going to approach these developments over the coming months. It is also a good time to consider whether you have the right resources on hand to quickly get up to speed on any new requirements that will be coming from the SEC. Many of the rule proposals that are expected to be adopted in the near term require multi-disciplinary teams (e.g., climate change, cybersecurity risk governance, share repurchase modernization), so having the team fully briefed and ready to go when the rules are adopted will be important. Finally, don’t forget all of the resources that we make available to you here on TheCorporateCounsel.net and through our other websites and publications – we will be providing you with the practical guidance that you will need as these rules are adopted.
It is also worth noting that the SEC staff will be looking very closely at your Form 10-K (and other) disclosures this year. Over the course of the past two years, we have been seeing an uptick in the extent to which the Staff has been issuing comments on filings, with a noticeable lowering of the level of materiality applied in determining whether to comment on disclosure in SEC filings, earnings releases, etc. As John noted in the blog back in December, the Staff issued updated and new Non-GAAP Financial Measure Compliance and Disclosure Interpretations, which could mean more scrutiny of non-GAAP financial measure disclosures in the coming months. Further, with new rules such as pay versus performance disclosure coming into effect this proxy season, the Staff will most likely undertake to monitor compliance with those new requirements. The Staff has also been focused on the impact of external events, such as COVID-19, the war in Ukraine and inflation, on company operations and liquidity. Given these developments, it is a good time take a fresh look at your disclosures going into the annual reporting and proxy season. Be sure to check out our “Annual Season Items” article in the November-December 2022 issue of The Corporate Counsel for guidance on this year’s disclosures.
Also in 2023, it is time to get ready for another dynamic proxy season. As we have now emerged from the lingering pandemic considerations, the proxy advisory firms, institutional investors and activist investors are going to be more focused than ever on the compensation and ESG issues that they care about, and companies will be feeling that pressure at their annual meetings. For the first time in a quite a while, we have experienced a prolonged negative trajectory in stock prices during 2022, so investors and proxy advisory firms are going to be laser-focused on how that change in direction has been reflected in executive compensation. When we had a pandemic-induced market correction back in 2020, the proxy advisory firms and investors were in a forgiving mood – now, things are very different. Be sure to check out our highlights of the 2022 Proxy Disclosure Conference and the 19th Annual Executive Compensation Conference in the November-December 2022 issue of The Corporate Executive for a discussion of the topics that are likely to dominate this year’s proxy season.
Finally, many indicators seem to point toward the strong possibility of a rough economic situation in the coming months. While it is impossible to say how bad things might get or how long a downturn may last, I encourage you to try to keep things in perspective as much as possible. We were fortunate to have experienced a prolonged period of growth and prosperity for about a decade, so a downturn at some point is all but inevitable. As we have done in past downturns, we just muddle through as best we can, telling ourselves “this too shall pass.”
Right before the holidays, the SEC voted to approve the 2023 budget of the PCAOB and the related annual accounting support fee.
As noted in the press release announcing the action, the 2023 PCAOB budget totals $349.5 million. The accounting support fee totals $329.4 million, of which $300.3 million will be assessed on public company issuers and $29.1 million will be assessed on SEC registered broker-dealers.
Join us tomorrow at 2:00 pm eastern time here on TheCorporateCounsel.net for our latest webcast, “ISS Forecast for 2023 Proxy Season.” Hear from ISS’s Head of US Research Marc Goldstein, Davis Polk’s Ning Chiu and Gunster’s Bob Lamm about what transpired during the 2022 proxy season and what steps to take to prepare for 2023 issues.
This webcast is free to members of TheCorporateCounsel.net and is available to non-members for $595. If you’re not yet a member, try a no-risk trial now. Our “100-Day Promise” guarantees that during the first 100 days as an activated member, you may cancel for any reason and receive a full refund.
Earlier this week, the SEC released its Fall 2022 Reg Flex Agenda. Based on the dates the agency has targeted for action on some major rule proposals, it looks like it’s going to have a very busy first quarter. Here are some of the more consequential rule proposals that the SEC says it wants to act on in the next few months:
Whenever we blog about these Reg Flex Agenda dates, we always point out that they are by no means etched in stone. That being said, the only major item on the last edition of the SEC’s Reg Flex Agenda where final action was postponed was the agency’s climate change disclosure proposal. So, it looks like could be in for a veritable “bomb cyclone” of rulemaking over the next few months.
The SEC’s effort to require some companies to provide disclosure about Scope 3 emissions is probably the most controversial part of its proposed climate change disclosure rules. Now, this PlanSponsor article reports that comments at a recent House Financial Services subcommittee hearing suggests that political support for a Scope 3 disclosure requirement among House Democrats may be getting a little wobbly:
At the December 8 hearing, Subcommittee Chairman Brad Sherman, D-California, said, “Scope 1 and Scope 2 being proposed by the SEC, I think, make a lot of sense. It is going to be hard to go into Scope 3, and that may be a bridge too far; it may give us effects far beyond what we are trying to achieve.”
Sherman is far from alone in this opinion. A letter by Representative Cynthia Axne, D-Iowa, signed by four other House Democrats in October, also expressed concern about Scope 3. In particular, the letter called for clarity and greater protections for farms and small businesses that would have to collect data for their publicly listed customers and suppliers.
The article points out that in light of strong opposition from Republicans to mandatory disclosure of Scope 3 emissions data, erosion in support among Dems may increase the likelihood that this disclosure requirement won’t make the final cut. The Reg Flex Agenda suggests that we’ll find out pretty soon. Stay tuned.
Liz’s change in status has prompted us to rethink how we email our blogs to you each morning. At the end of the month, we’re going to change over from our current practice of having our blogs come from the email address of one of our editors. Going forward, all of our blogs will be sent from Editorial@TheCorporateCounsel.net. Our objective is to establish a sender address that won’t need to be changed every time there’s a change on the editorial masthead, which hopefully means that this will be the last time we have to ask you to take the time to whitelist our email addresses.
We know that whitelisting is kind of a pain in the neck, so we’ve put together this whitelisting instruction page to help you and your IT department understand what actions you may need to take in order to ensure there’s no disruption in delivery. We’re going to begin to send blogs from the Editorial@TheCorporateCounsel.net address over the course of the next several weeks, so please be sure to whitelist the new address at your earliest convenience. We’re going to do this incrementally across our sites, and we’ll keep you apprised of when we plan to make the change for a specific site.
There are a couple of things that I also want to mention about this change. First, the name of the author of a blog will always appear in the email, so if you want to respond to the author, you can just click on the author’s name and their email address will pop up. Second, Editorial@TheCorporateCounsel.net isn’t a black hole. If you hit reply, your message will go to a folder that I’ll have access to. I’ll check that every few days and forward your email to the appropriate editor. Finally, thanks for your patience and cooperation.
I think most securities lawyers are a little paranoid when it comes to their public company clients’ interactions with securities analysts. After all, the 2nd Cir. famously compared these interactions to “a fencing match conducted on a tightrope” in SEC v. Bausch & Lomb, (2d. Cir. 9/77), and we’ve become accustomed to advising clients of the parade of horribles that can result when a discussion with securities analysts goes awry. However, a recent 4th Cir. decision provides a refreshing reminder that a company isn’t always on the hook for the spin that analysts put on its management’s remarks to them.
Boykin v. K12 Inc., (4th Cir. 11/22), arose out of statements made by a public company’s CEO concerning a potentially lucrative business relationship with the Miami-Dade School District. These comments were characterized by analysts as the CEO essentially confirming the existence of a “signed contract” between the parties. The potential deal subsequently unraveled, and the plaintiffs sued the company alleging that its CEO had made material misstatements about the status of the business deal. The Court disagreed, and this excerpt from the 10b-5 Daily’s blog on the decision explains the court’s reasoning:
On appeal from the district court’s dismissal of the complaint, the Fourth Circuit found that the company’s statements about the Miami-Dade deal “could well have factored into the run-up of K12 shares during the summer of 2020.” As to the falsity of the statements and the defendants’ scienter (i.e., fraudulent intent), however, the court was less convinced.
First, the falsity element is based on a reasonable investor’s view of the company’s statements, “not any individual investor’s reaction.” If the analysts believed that the CEO had confirmed the existence of a done deal, they were simply incorrect given that the CEO never “attested unambiguously to having a signed agreement.” And to the extent that the CEO “was gesturing to an extensive working relationship between K12 and Miami-Dade,” that was factually accurate at the time. Indeed, Miami-Dade’s superintendent even signed the completed contract in mid-August, but it was never returned to K12.
The Court also concluded that the plaintiffs’ failed to adequately allege scienter, noting both that the timeline was consistent with the CEO’s “anticipation in mid-August of a consummated deal with Miami-Dade” and that if the CEO’s goal had been to inflate K12’s stock price, “he could have chosen far less ambiguous language than he did.”
While this case’s result is somewhat reassuring, I suppose it’s still a bit of a cautionary tale about the risks of letting analysts’ mischaracterizations of management comments go unaddressed. After all, the company only got to this outcome after a couple of years of litigation involving a not insignificant amount of expense and distraction.
Will the fallout from 2022’s crypto meltdown lead to an SEC enforcement sweep targeting crypto exchanges in 2023? Former SEC Internet Enforcement Chief John Reed Stark says “you bet!” In fact, a looming enforcement sweep tops his list of 12 crypto predictions for 2023:
An Enforcement sweep carried out by the U.S. securities and Exchange Commission (SEC) of crypto-intermediaries is clearly coming in 2023. Senior SEC crypto-officials have promised as much too many times for a crypto-sweep not to happen. Just read the following recent quotes from the three most important SEC crypto-enforcement officials. In my experience, the SEC does not make idle threats and the “runway” no longer runneth over:
November 15, 2022: Per SEC Crypto Unit Chief David Hirsch at the SEC Enforcement Forum: “We want people to come in and register so that investors can decide on what risks they would like to take. There is a runway for crypto intermediaries and exchanges to come in and get registered, but I think that RUNWAY is growing shorter and SEC enforcement is willing to move forward and bring enforcement actions as appropriate.” (emphasis added)
December 8, 2022: Per SEC Chair Gary Gensler on Speaking with Yahoo!: “I’ve got one goal is that these platforms, the exchanges, the lending platforms come into compliance. They can do that appropriately working with the SEC. Or we can continue on the course with more enforcement actions. And I would have to say that the RUNWAY is getting shorter.” (emphasis added)
December 13, 2022: Per SEC Enforcement Director Gurbir Grewal at the DOJ FTX Press conference: “Grewal warned investors and customers to remain cautious on crypto platforms, which he said “don’t provide [customers] with the same robust level of disclosures and protections against fraud and conflicts of interest” as SEC-registered platforms do. As Chair Gensler has made clear, the RUNWAY is getting shorter for them to come in to register with us. And for those who do not, the Enforcement Division stands ready to take action.” (emphasis added)
Stark goes on to give the crypto industry a thorough – and quite entertaining – thrashing. Here’s an example:
Gensler, Gurbir and Hirsch could not say it any plainer. Fail not at your peril crypto-ecosystem, you are all squarely within the SEC’s sights. By calling themselves “exchanges,” “brokers,” and “market-makers,” crypto firms co-opt historically powerful nomenclature that implies trust, oversight and consumer protection, etc. This is a material ruse. It’s like if a drug dealing gang suddenly offered to perform brain surgery for customers, yet had never gone to med school, never done a hospital internship or residency and their only health training consisted of watching a few TikTok videos.
