The SEC signaled again that it may not be all in on SPACs the way some might be hoping. Last week, the SEC issued an Order disapproving Nasdaq’s proposed rule change relating to SPACs. Nasdaq’s proposed rule change would’ve allowed SPACs that plan to complete one or more business combinations an additional 15 calendar days following the closing of a merger to demonstrate that the SPAC had satisfied the round lot shareholder requirement. As part of the rationale for proposing the rule change, Nasdaq noted difficulty SPACs can encounter when gathering evidence to demonstrate satisfaction of the shareholder requirement because SPAC shareholders may redeem their shares right up until the time of the merger.
As noted in the SEC Order, CII submitted a comment letter to the SEC expressing concern about whether Nasdaq’s proposed rule change was consistent with the protection of investors and the public interest. The SEC shared that concern, and in disapproving the proposal said that Nasdaq didn’t explain how the proposal addresses regulatory risks to fair and orderly markets, investor protection and the public interest and manipulation concerns.
While Nasdaq has amended its proposal to require certain public disclosure, the Commission does not believe the disclosure required by the proposed rule adequately addresses the potential risks associated with trading during a time period in which the minimum number of round lot shareholders may not be present, nor has Nasdaq explained why subjecting shareholders to this potential risk is consistent with the protection of investors and the public interest, and the other requirements of Section 6(b)(5) of the Exchange Act.
Direct Listings: SEC Approves Nasdaq Proposal
At the end of last year, I blogged about Nasdaq’s primary direct listing proposal, which was awaiting SEC review following the SEC’s approval of the NYSE direct listing rule. After a bit of a wait, last week the SEC approved Nasdaq’s proposed rule to permit primary direct listings. This Paul Weiss memo summarizes the rule, which is effective immediately.
The rule will allow companies to undertake an IPO and concurrent Nasdaq listing without the use of underwriters – previously direct listings were only available for secondary offerings by existing shareholders. Over time we’ll see to what extent primary direct listings take off. Direct listings aren’t without risks, but they do offer certain advantages, which may be best suited for companies with strong name recognition.
PPP Loan Forgiveness Review: Consider Preparing for Potential Forgiveness Appeal Now
Last year, when the SBA rolled out the paycheck protection program, questions arose about whether companies made their “need certifications” in good faith. A borrower’s need certification was important because it could impact whether the SBA denied a PPP loan or ultimately forgiveness of a loan. Recent data on the SBA website showed it had approved over 11 million PPP loans, forgiven over three million and thousands more were under review.
A Baker Donelson memo summarizes procedures relating to the PPP need certification and notes that the SBA never stated that it would only analyze the need certification during the loan review. Should the SBA deny forgiveness of a PPP loan, John blogged earlier this year about the short window to file an appeal. Baker Donelson’s memo says PPP borrowers should prepare a record for any potential appeal during the SBA’s review process, here’s an excerpt with more about reasons some companies should prepare now:
Significantly, the standard of review for PPP loan appeals “is whether the SBA loan review decision was based on clear error of fact or law” and the appellant has the burden of proof by a preponderance of the evidence.4 Therefore, when appealing any decision related to a PPP loan, the appellant will be in the best possible position if it can show that the SBA made a clear error of fact or law based on the information that was before SBA at the time when SBA made its decision. This means that the PPP loan borrower should include as much helpful information as possible in the record before SBA makes its final decision. For example, when OHA decides size appeals in the government contracts context, it frequently rules that information that was not before SBA when the formal size determination was made is not relevant to the appeal.5 While SBA size protest cases show that OHA does sometimes allow supplementation of the record when the new evidence “is relevant to the issues on appeal, does not unduly enlarge those issues, and clarifies the facts on those issues,”6 it is still best for the borrower to include as much helpful information as possible in the administrative record. Therefore, borrowers should make every effort to get information into the administrative record that it believes will assist its PPP loan review by the SBA or any appeal of the SBA’s decision.
The memo also outlines steps for companies to consider so they can get as much helpful information into the record to help in an appeal process.
Last month, the SEC threw a monkey wrench into the SPAC market when the Corp Fin Director & the Chief Accountant issued a joint statement on accounting for SPAC warrants. To make a long story short, the Staff’s position is that a lot of SPACs may have been incorrectly classifying certain warrants as equity instead of as a liability. As Lynn suggested it might when she blogged about the joint statement last month, the Staff’s position has led to a wave of restatements.
But a wave of restatements might not even have been the biggest problem arising out of this guidance for SPACs. That’s because SPAC IPOs have essentially come to a halt due to uncertainties about what tweaks to warrant terms would satisfy the SEC. Now, according to this CFO Dive article, a fix may be in the works:
A form of warrant that isn’t accounted for as a liability for special purpose acquisition companies (SPACs) is under development, but until that process is completed and gets an okay by the Securities and Exchange Commission, sponsors and others with an interest in the market face uncertain terrain, Gerry Spedale said in a Gibson, Dunn Crutcher webcast last week.
“You have accounting firms and law firms working together on that form, and that needs to get blessed by the SEC before everyone’s going to be comfortable moving forward with that approach,” said Spedale, a Gibson, Dunn & Crutcher partner.
The article says that this process is going to take several weeks, which means the SPAC IPO market is going to continue to face significant uncertainty for a while longer. Then again, maybe that’s not such a bad thing.
SEC Enforcement: “Known Trends” Continues to Trend
Earlier this month, the SEC announced a settled enforcement proceeding against Under Armour arising out of allegedly misleading disclosures concerning the reasons for revenue growth and failing to disclose known uncertainties about future revenue growth. This Locke Lord blog points out that efforts to manage earnings to meet analyst expectations may have consequences for MD&A disclosure even if they don’t involve improper accounting:
According to the SEC order, Under Armour, in order to meet analyst projections and sustain its 20% quarter over quarter revenue growth record, pressured customers to move purchases forward into the current quarter, and did this for a number of consecutive quarters. There was no finding that Under Armour’s accounting for these sales as revenues was improper since the sales were actually made.
However, Under Armour gave the same reasons for revenue growth as it had before in earnings releases and its MD&A, without indicating that it was pulling revenues forward to maintain its growth and that this was an unsustainable practice, especially since doing so made it harder to sustain the rate of growth as a result of increasing the prior year’s base and taking revenues from the later year.
Without admitting or denying the findings in the SEC’s order, Under Armour agreed to cease and desist from violations of Section 17(a) of the Securities Act and certain reporting provisions of the securities laws, and to pay a $9 million penalty.
It’s worth noting that this is the third “known trends” enforcement proceeding against a high-profile public company that the SEC has brought since the beginning of 2020. Diageo PLC settled similar charges in February 2020, and HP did the same last September. All of these proceedings involved MD&A disclosure shortcomings concerning the future implications of actions taken to enable companies to meet current period earnings estimates.
In Memoriam: Jason Morse
This has been a difficult week for all of us at CCRcorp. On Monday, May 17th, our friend and colleague Jason Morse passed away unexpectedly. Jason had been an Account Executive with our company for more than two years, and our office will be closed today in honor of his memory. On behalf of everyone at CCRcorp, I want to offer our sincere condolences to Jason’s family and friends, and in particular to his sons, of whom he was so proud.
Over the past several days, many colleagues have shared remembrances of Jason on our Intranet page. As I read them, I was struck by the repeated references to his kindness, generosity, and good cheer. One colleague remembered Jason as “the person who without fail would always wish me a “Good Morning!” with a big smile on his face, as soon as I walked into the office.” Several others mentioned how Jason made them feel so welcome when they first joined the company. Another told the story of how Jason gave away his own lunch to a colleague who had forgotten to bring his from home.
Many years ago, I read William Wordsworth’s poem “Tintern Abbey.” At one point in the poem, Wordsworth speaks of “that best portion of a good man’s life / His little, nameless, unremembered, acts / Of kindness and of love.” Those words resonated with me, and I found comfort in reflecting upon them when my own father passed away. Reading what my colleagues had to say about Jason brought those words to mind again. I hope they will serve as a source of comfort to his family and friends as they remember the life of this good man. May he rest in peace.
Last year, Lynn blogged about a Sanford Bernstein report that suggested stock buybacks were fading as a result of the pandemic & predicted that they were likely to be “severely curtailed” for the next several years. That seemed like a safe bet at the time, particularly when the CARES Act banned recipients of government bailouts from engaging in buybacks.
But according to this WSJ article, that prediction turned out to be about as good as the infamous Sports Illustrated cover that predicted the Cleveland Indians would win the AL pennant in 1987. A year later, and this excerpt says that buybacks are back with a vengeance:
After a year of hoarding cash, American corporations are ready to reward investors again. Companies across industries have been buying back stock and raising dividends at a brisk pace this year. That is a sharp reversal from 2020, when they suspended or cut such programs, warning of the urgent need to preserve liquidity in the early stages of the Covid-19 pandemic.
Already this year, U.S. companies have authorized $504 billion of share repurchases, according to Goldman Sachs Group data through May 7, the most during that period in at least 22 years. The pace of announcements trounces even the 2018 bonanza that followed the sweeping tax overhaul of late 2017.
Cleveland finished the 1987 season with a record of 61-101, 37 games behind the Tigers in the AL East. Still, I’m hard pressed to say Sports Illustrated did worse on that call than Sanford Bernstein did on this one.
Last year, it appeared that derivative claims based upon allegedly false or misleading corporate statements about diversity and other ESG-related areas might be the next big thing from the plaintiffs’ bar. But this Sidley blog says that, so far, these cases have fizzled.
Complaints in these cases generally allege breaches of fiduciary duty arising out of directors’ failure to address board diversity, and – in order to get into federal court – claims under Section 14(a) of the Exchange Act premised on allegedly false statements about diversity efforts in proxy statements. This excerpt from the blog says that these claims haven’t gotten much traction with courts:
The Facebook case was the first one decided. On March 19, 2021, Magistrate Judge Beeler held that the breach of fiduciary duty claims failed because the plaintiff did not establish that pre-suit demand was excused. In reaching this decision, the court stated that to show that demand would have been futile, the plaintiff needed to plead “actual or constructive knowledge that their conduct was legally improper” and that, in reviewing the actual composition of the board which included two black directors, four women directors and one director who is openly gay, the plaintiff had not satisfied the requirement.
These same facts also helped defeat the Section 14(a) claim of misleading statements about diversity in the company’s proxy. In addition, the court found that the statements in the proxy were immaterial as they were inactionable puffery and further, that there was no corporate loss that could be connected to the statements.
Of particular interest to those following Delaware law is that the court also held that the case had been filed in the wrong forum because Facebook had adopted a Delaware Chancery forum selection clause which was applicable to these claims.
The case against the board of Gap Inc. was similarly dismissed on April 27, 2021, on the basis of the company’s forum selection bylaw, which designated the Delaware Court of Chancery as the exclusive jurisdiction for derivative claims or breach of fiduciary duty claims. The plaintiff argued that applying the forum selection bylaw to this case was against public policy as it deprived her of the right to assert her Section 14(a) proxy statement claim, which can be brought only in federal court. Magistrate Judge Sallie Kim rejected the plaintiff’s arguments on the grounds that the plaintiff was not without remedy as she could bring her breach of fiduciary duty state law claims in Chancery Court.
The blog goes on to note that the more significant aspect of these decisions may be that both ND Cal. courts upheld Delaware forum selection bylaw provisions even when the result was that the plaintiffs’ Section 14(a) claims had no forum in which they could be brought. I recently blogged about that aspect of these decisions over on DealLawyers.com
Investor Conferences: Most Still Virtual for 2021
The country is finally starting to open up again as the pandemic begins to fade and the percentage of the vaccinated population continues to grow, but this IR Magazine article says that most sponsors of investor conferences aren’t ready to go back to fully in-person or hybrid events just yet:
While some investment banks are preparing for a tentative return to small in-person events in the coming months, the majority of investor events will likely continue to be held virtually this year, according to a study conducted by OpenExchange. Three out of four investor conferences during the second half of 2021 will be entirely virtual, according to OpenExchange’s survey of 139 decision-makers at 30 financial institutions.
The article says that sponsors are preparing for hybrid events, with 1/3rd expecting to hold their first hybrid investor conference by October and 2/3rds by the end of the year. Going forward, hybrid formats for investor conferences are expected to be the new normal, with 70% of 2022 events and 58% of 2023 events expected to have both physical and virtual components.
According to this Reuters article, the NY AG is preparing to file an insider trading lawsuit against Eastman Kodak and its CEO. The allegations arose out of last summer’s debacle surrounding insider transactions in Kodak stock in advance of the announcement of a potentially transformational new loan from the federal government. Here’s an excerpt from the Reuters piece:
The New York attorney general’s office is preparing an insider-trading lawsuit against Eastman Kodak Co and its top executive, focusing on stock purchases that preceded an ill-fated deal with the Trump administration to finance a pharmaceutical venture during the COVID-19 pandemic, according to the company and people familiar with the matter.
The emerging civil case centers on Executive Chairman Jim Continenza’s June 23, 2020, purchase of nearly 47,000 Kodak shares, Kodak said in a quarterly Securities and Exchange Commission filing on Monday. Continenza, the company chairman starting in September 2013 and executive chairman since February 2019, took on the additional role of CEO in July 2020.
The trades occurred weeks before the Trump administration unveiled a tentative agreement to lend the company $765 million backing production of pharmaceutical components for help fighting the pandemic. Kodak’s stock experienced a roller coaster following the late-July announcement, skyrocketing more than 1,000% before falling.
As Lynn blogged last September, a report by independent counsel retained by a Kodak special committee concluded, among other things, that the company’s CEO did not trade while in possession of MNPI (see the discussion beginning at p. 36). Among other things, the report noted that the CEO traded during an open window, and pre-cleared his trades with the company’s GC, who indicated that he didn’t believe that discussions about the potential loan had risen to the level of MNPI at the time of the CEO’s transactions.
That combination of factors would appear to make it difficult to satisfy Rule 10b-5’s scienter requirement, but that’s not a problem for NY AG Letitia James. She has the Martin Act at her disposal – and there’s no need to prove scienter for civil or even misdemeanor criminal securities fraud claims under that nightmare of a statute.
As I’ve mentioned before, I grew up in Rochester, NY, and the parade of negative news about our fallen giant over the past several decades depresses me more than anybody who didn’t grow up there can begin to imagine. I remember how things used to be with Kodak, and it’s fair to say that I have a sentimental attachment to this company. As somebody once put it, “nostalgia – it’s delicate, but potent.”
Update: Here’s a statement on the matter I received from a spokesperson for Kodak:
“The Attorney General has threatened to file a lawsuit premised on an unprecedented and novel application of insider trading law that seeks to impose liability in the absence of evidence of intent. The threatened litigation would not be supported by legal precedent or the facts. Mr. Continenza did not engage in insider trading. He was not in possession of material non-public information when he made the trade at issue, and his small stock purchase fully complied with Kodak’s insider trading policies, was pre-approved by Kodak’s General Counsel, and was subsequently found to be compliant by outside counsel in an independent investigation. Importantly, Mr. Continenza has bought Kodak stock in virtually every open window period – and has never sold a single share. As we understand the Attorney General’s theory, the contemplated lawsuit would have a chilling effect on directors and executives of every public company, who could never invest in their own companies without fear of having good-faith decisions, pre-approved by counsel, second-guessed by regulators and charged as violations of law.”
PPP Fraud: Down the Shore, Everything’s Not Alright
Another place to which I have a pretty deep attachment is New Jersey. I was born there, still have lots of family there, and have been going “down the shore” for summer vacations on Long Beach Island for as long as I can remember. But it turns out – with apologies to Tom Waits – that down the shore, everything’s not alright. In fact, according to this ProPublica article, my favorite vacation spot is a target of opportunity for PPP fraudsters:
The shoreline communities of Ocean County, New Jersey, are a summertime getaway for throngs of urbanites, lined with vacation homes and ice cream parlors. Not exactly pastoral — which is odd, considering dozens of Paycheck Protection Program loans to supposed farms that flowed into the beach towns last year.
As the first round of the federal government’s relief program for small businesses wound down last summer, “Ritter Wheat Club” and “Deely Nuts,” ostensibly a wheat farm and a tree nut farm, each got $20,833, the maximum amount available for sole proprietorships. “Tomato Cramber,” up the coast in Brielle, got $12,739, while “Seaweed Bleiman” in Manahawkin got $19,957.
None of these entities exist in New Jersey’s business records, and the owners of the homes at which they are purportedly located expressed surprise when contacted by ProPublica. One entity categorized as a cattle ranch, “Beefy King,” was registered in PPP records to the home address of Joe Mancini, the mayor of Long Beach Township.
“There’s no farming here: We’re a sandbar, for Christ’s sake,” said Mancini, reached by telephone. Mancini said that he had no cows at his home, just three dogs.
Anyway, much of the problems arose out of loans initiated by an online lender, Kabbage, and the article says that they’re in large part the result of the program’s efforts to shove money out the door as quickly as possible during the height of the pandemic’s economic impact. The bottom line is that this is yet another data point indicating that there’s going to be quite a mess to clean up over the next several years.
More on “Corporate Governance Gaming”: ESG Crusaders or Gritty Gadflies?
Last Friday, Liz blogged about the potential shareholder voting implications of the “gamification” of the stock market. She noted a forthcoming study that suggests the new Gen Z & Millennial investors who’ve recently entered the market might coalesce around ESG issues and drive greater corporate accountability. Liz expressed some skepticism about this potential outcome. Given what usually happens when the Internet gets its hands on anything, I’m downright dubious.
For example, remember when the British government decided to let the Internet name a new research ship, and ended up – hilariously – with “Boaty McBoatface”? How about when PepsiCo decided to hold an online “Dub the Dew” contest to let the Internet come up with a name for a new flavor of Mountain Dew? The top choices were “Hitler Did Nothing Wrong” and “Diabeetus.”
The bottom line is that “gamers gonna game,” and that on the Internet, the anarchy is the point. My guess is that with the meme stocks crowd, we’re more likely to see a push to elect Gritty to GameStop’s board than we are to see a push for a socially conscious ESG agenda.
If you follow the SEC’s social media accounts, you know that almost anything the agency or commissioners post on any topic receives a deluge of responses from crypto fans ranting about the SEC’s enforcement actions targeting digital assets. Regardless of the merits of those rants, a recent Cornerstone Research report shows that the SEC has brought quite a few crypto-related enforcement actions over the years. Here are some of the highlights:
– Through December 31, 2020, the SEC has brought 75 enforcement actions and issued 19 trading suspension orders against digital asset market participants
– More than 70% of the SEC’s actions involved allegations of unregistered securities offerings, while 58% of its cases involved allegations of unregistered offerings combined with fraud. Over half (52%) of the actions involved unregistered securities offering allegations relating to ICOs.
– Other allegations include failure to register as a broker or an exchange, failure to register swap offerings to non-eligible contract participants, and failure to disclosure promoter compensation.
– 43 enforcement actions were initiated in federal court, while 32 were brought as SEC administrative proceedings. Of the 43 federal court cases, 34 involved a mix of individuals and firms as defendants. In seven cases, the defendants were individuals only, while two cases involved firms only. In 19 of the 32 administrative proceedings, the respondents were firms only. The SEC charged individuals only in six actions, or a mix of individual and firms in seven actions.
Many involved in the digital asset space have speculated that the SEC might be a more crypto-friendly environment with Gary Gensler as chair, under the assumption that his greater understanding of crypto would lead to a lighter regulatory touch. Based on his recent statements, however, while his tenure may see a push for greater clarity when it comes to regulation of digital assets as securities, that doesn’t necessarily translate into a “light touch.”
Staff Comments: “Hey, Where’s Your Earnings Release 8-K?”
For most companies, furnishing an Item 2.02 Form 8-K is a routine part of the earnings release process. But in a recent comment letter to CSW Industrials on its 2020 Form 10-K, the Staff noted that it had seen earnings releases on the company’s website, but that the company had not furnished any Item 2.02 8-Ks. Naturally, the Staff’s comment was “please tell us why you have not furnished these earnings releases under Item 2.02 of Form 8-K.” The company’s response was interesting. Here’s an excerpt:
For many years, the Company has issued earnings releases related to completed fiscal periods after the Company has filed with the SEC its Quarterly Reports on Form 10-Q and Annual Reports on Form 10-K relating to such fiscal periods. Further, the Company believes, based on reviews performed as part of the Company’s disclosure control procedures, that its earnings releases report substantially the same information contained in the applicable Form 10-Q or Form 10-K filings and have not disclosed any additional material non-public information related to the applicable completed fiscal period.
As a result, the company said that it “has not been required to furnish such earnings releases under Item 2.02(a) of Form 8-K.” After the Staff raised a further comment questioning whether certain disclosure in the earnings releases was contained in the company’s periodic reports, the company responded by pointing to the relevant language in those reports. The Staff did not comment further.
Risk Factor Disclosures: Before & After
Last year, the SEC adoptedamendments to Item 101, 103 & 105 of Regulation S-K. The amendments were effective in November, and this recent SEC Institute blog reports how one company responded to the changes to Item 105’s risk factor disclosure requirements in its recent Form 10-K filing. Here’s an excerpt:
In Lumen Technologies’ Form 10-K for the year-ended December 31, 2019, risk factors are on pages 20 to 48, 28 pages long. Risks described range from “Risks Affecting Our Business” to “Other Risks.” It would be fair to say that some of the risk factors, such as “We may not be able to compete successfully against current and future competitors” might be “risks that could apply generically to any registrant or any offering.”
After implementing the new disclosure requirements, and a major amount of work, in Lumen Technologies’ Form 10-K for the year ended December 31, 2020, risk factors are on pages 21 to 32. This is a reduction from 28 to 11 pages! The revised disclosures start with “Business Risks,” a simpler and more direct heading, and finish with “General Risks” as required by the new rule. Interestingly, the General Risks are less than one page. Competitive issues are addressed in a more tailored risk factor titled “We operate in an intensely competitive industry and existing and future competitive pressures could harm our performance.”
The blog quotes Associate GC David Hamm as saying that the company used the amendments to “take a fresh look” at its risk factor disclosure, which resulted in a more direct and more investor-friendly presentation.
Speaking before the SEC’s 8th Annual Conference on Financial Market Regulation, SEC Chair Gary Gensler reportedly stated that the Staff was working on a new rule addressing disclosure of human capital metrics. If you’re thinking, “didn’t they just do this?” the answer is “sort of.” Last year’s S-K modernization rules addressed human capital, but from a principles-based perspective only. Now, they’re talking about mandatory line-item disclosures focusing on specific metrics.
What might those metrics be? Commissioner Lee’s dissenting statement on last year’s rule adoption might provide some insight. In that statement, she cited favorably comments on the rule proposal received from the Human Capital Management Association, which called for a combination of a principles-based & line-item disclosures. In particular, the HCMA cited four specific metrics that should be required disclosure for all registrants:
1. The number of people employed by the issuer, broken down by full-time and part-time employees along with contingent workers who produce its products or provide its services (independent contractors, supplied through subcontracting relationship, temporary employees, etc.);
2. The total cost of the issuer’s workforce, including wages, benefits and other transfer payments, and other employee expenses;
3. Turnover or similar workforce stability metric; and
4. Workforce diversity data, concentrating on gender and ethnic/racial diversity across different levels of seniority.
These four metrics also have been cited in media reports concerning Gary Gensler’s remarks about a new human capital rule proposal, and given Commissioner Lee’s prior favorable reference to the HCMA comment letter, it’s probably a pretty good bet that they are likely to be included in any proposal forthcoming from the SEC.
Reg D: 2013 Amendment Proposals Back On The Table?
In her keynote speech at last week’s conference, Commissioner Caroline Crenshaw expressed concern that the SEC has taken actions in recent years to make it easier for issuers and investors to access the private markets without having a lot of information about those markets. Here’s an excerpt:
So do the actions the Commission took to expand access to private markets further our agency’s mission? It is a question that is harder than it should be to answer, because for the most part, we lack good data on private issuers and offerings. What we do know is that the private markets have increased in size over the years, both in absolute terms and relative to the public markets. The amount of capital raised via exempt offerings now far outpaces the amount raised on the public markets. Offerings under Regulation D alone accounted for $1.5 trillion of proceeds in 2019, compared with $1.2 trillion in the public markets.
And yet, while these markets have been expanding, the information we are collecting about them has not. For the most part, we do not know who invested in these private market offerings or how their investments performed.
Commissioner Crenshaw went on to call for the SEC to adopt amendments to Reg D that were proposed in 2013 & subsequently fell off the face of the earth. In case you’ve forgotten, these proposals would:
– require the filing of a Form D in Rule 506(c) offerings before the issuer engages in general solicitation;
– require the filing of a closing amendment to Form D after the termination of any Rule 506 offering;
– require written general solicitation materials used in Rule 506(c) offerings to include certain legends and other disclosures;
– require the submission, on a temporary basis, of written general solicitation materials used in Rule 506(c) offerings to the Commission;
– disqualify an issuer from relying on Rule 506 for one year for future offerings if the issuer, or any predecessor or affiliate of the issuer, did not comply, within the last five years, with Form D filing requirements in a Rule 506 offering; and
– amend Form D to require additional information about offerings conducted in reliance on Regulation D.
The rule proposals received a lot of pushback from commenters, including this letter from the ABA’s Federal Regulations of Securities Committee, which contended that they were “especially ill-suited” for small business issuers, “which often operate without the advice of sophisticated counsel that would be necessary to ensure compliance with the proposed rules’ detailed requirements, and avoid their pitfalls.”
Crowdfunding: Corp Fin Updates Guidance on Form C EDGAR Filings
In March, I blogged about guidance on EDGAR filings of Form C that Corp Fin issued shortly after the SEC’s private offering simplification rule amendments went into effect. The first part of the original guidance addressed the fact that the form hadn’t caught up to the rule changes, and provided advice to companies that are taking advantage of the new $5 million size limit for crowdfunded offerings on how to fill out a form that only contemplates a $1.07 million maximum offering size.
On Friday, Corp Fin updated that guidance to reflect the fact that the form’s been updated to reflect the higher maximum offering size limit. Here’s the relevant language:
Effective May 10, 2021, the changes to the XML-based fillable form have been implemented and issuers are now able to, and must, provide accurate offering amounts in the XML-based fillable form and in the offering document attached as an exhibit to the Form C. An issuer that previously completed the offering amount fields by including $1,070,000 in the XML-based fillable form in reliance on prior staff guidance must update its Cover Page to provide the actual offering amounts if it files an amendment to the Form C after May 10, 2021.
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Looks like we can add “predictable proxy voting outcomes” to the list of things that Millennials are blamed for killing – along with doorbells, voicemail and the birth rate. Although the retail investor segment has exploded, there’s a chance it may not continue to deliver reliable support for management recommendations.
Recent changes to broker no-vote policies are partially responsible for this emerging issue – but it may also be due to the “eat the rich” mentality of recent stock market entrants. Last week’s “Investor Sentiment Study” from Broadridge & Engine Group found that over 60% of retail investors thought that companies they invest in should be taking active steps to improve E&S issues – and 46% of Millennial investors, the highest percentage of any generation, say they will vote their proxy this year. (For more details about retail voting trends & communications, see the Proxy Season Blog that Lynn ran for members earlier this week.)
This forthcoming article from LSU Law Prof. Christina Sautter and Monash (Australia) Law Prof. Sergio Gramitto Ricci explores whether this new generation of Millennial & Gen Z investors – who might come to stocks through online forums & gaming dynamics – will band together to pursue ESG voting initiatives. Here’s an excerpt:
If disintermediation and wireless investors reach a critical mass, wireless investors could cause a radical shift in the way corporations are run by exercising their aggregate power in shareholders’ meetings. If wireless investors are able to determine who sits on the board of directors and pick directors who have displayed an ESG record, the shift in the governance of corporations would be so deep-seated that the very purpose of the corporation would be impacted. After decades of debates on whether corporations should pursue any goals,but maximizing returns for share-holders, shareholders themselves would align the aim of a corporation with that of socially and environmentally conscious citizens. …
The wireless investors’ movement to make corporations serve people and the planet will also benefit from brokers no longer voting uninstructed shares. As brokers are transitioning out of voting uninstructed shares, unless shareholders express their votes, their shares will go unvoted. In fact, retail investors would not be able to rely on discretionary or proportionate voting by brokers. Discretionary voting involves brokers voting in line with board recommendations while with proportionate voting they vote uninstructed shares in proportion to how the broker was instructed by the other holders of those shares.351Hence, either they express their votes or they leave the corporation’s destiny in the hands of other unknown investors.
Furthermore, corporations risk failing to obtain quorums at shareholders’ meetings. In response, corporations might have to nurture their relations with retail investors and solicit them to vote, and retail investors would have an additional reason to internalize the frictional cost attached to inform themselves, possibly through online communication venues, and vote their shares. Compelled to stay informed and vote, other retail investors might vote with wireless investors and take part in the game-changing movement to make corporations serve people and the planet.
If this comes to pass, it could alleviate the voting apathy that others have recognized negatively impacts corporate governance, which companies have been trying to cure for many years through “swag bags” and donations. Prof. Sautter suggests that that gaming dynamics are a good thing because they’re making shareholder meetings more accessible – investors are even using gaming platforms like Twitch & Discord to communicate.
That said, a gaming approach to shareholder voting likely would terrify companies. The GameStop frenzy showed how difficult it is to control the “mob mentality” – and we wouldn’t be able to consult published voting policies to predict voting behaviors (although perhaps new advisory services would pop up). The Boadridge/Engine Group survey found that 43% of new market entrants are trading every week, so you can’t even predict whether they’re in your stock for the long haul! Similar to the “Clubhouse” trend that I wrote about a few weeks ago, this WSJ article says that some companies are getting ahead of the game by using social media channels to communicate with their retail holders.
Personally, my guess is that the retail revolution is still a ways off. I missed the Gen X cutoff by only a few days, so maybe I’m less idealistic – or less downtrodden? – than others in my assigned cohort. But I think institutional investors are going to do whatever they can to keep a lot of assets under their control. Profs. Ricci & Sautter suggest that big investors’ new emphasis on E&S could be one way to keep shareholders in their fold. This 2020 study – “Index Fund ESG Activism and the New Millennial Corporate Governance” – also makes that suggestion, and has been getting quite a bit of traction.
Cyber Disclosure: “Risk Ratings” Could Help Tell Your Story
Cyber issues continue to plague organizations big & small. Last week’s big pipeline shutdown due to a ransomwear attack on a privately held energy company emphasizes the need for boards to be paying attention. This Aon memo also suggests that cyber risk disclosures from public companies might get more detailed due to recent ISS QualityScore changes. The dilemma facing companies from a disclosure perspective is that, while investors need transparent disclosure to be able to assess risks, explaining technical shortcomings and incidents can also create a roadmap for the bad guys.
This 10-page report from NACD, Cyber Threat Alliance, IHS Markit, Security Scorecard and Diligent says that cyber-risk ratings could be the answer to that dilemma, because they’d convey information about threat levels without disclosing sensitive technical information. The report says that companies have been disclosing more info about board oversight of cyber risks and acknowledging vulnerabilities, but that recent events underscore the need for continued attention to this area. Here’s an excerpt:
In the wake of SolarWinds and the increased supply-chain security scrutiny in Washington DC, companies should be explaining to investors the specific risks they face from cybersecurity threats, including, among others, operational disruption, intellectual property theft, loss of sensitive client data, and fraud caused by business email compromises. Companies should also be explaining the categories of both technologies and processes they employ to mitigate those risks. Failure to do so is increasingly costly and is described by former SEC Commissioner Robert J. Jackson Jr. as “the most pressing issue in corporate governance today.”
In practice, businesses are slowly but unmistakably moving in the direction of increased transparency. This trend must continue for investors to begin deriving actionable value from cyber-risk disclosures. For example, certain companies are beginning to identify the specific technologies they are using in their program through their cyber-risk disclosures; others have started noting the materiality of their vendor risk exposure, to which regulators are paying particular attention in the aftermath of the 2020 SolarWinds attack. The next logical step is for these evolutions to converge.
Mark your calendars for our June 17th webcast – “Cyber, Data & Social: Getting in Front of Governance” – to hear VLP Law Group’s Melissa Krasnow, Lumen Worldwide Endeavors’ Lisa Beth Lentini Walker, Serna Social’s Sue Serna and Stroz Friedberg/Aon’s Heidi Wachs discuss unique governance challenges presented by cybersecurity, data privacy and social media and how it’s essential to proactively manage your risks, response plans and disclosure processes.
Transcript: “ESG Considerations in M&A”
We have posted the transcript for our recent DealLawyers.com webcast – “ESG Considerations in M&A.” This was a really excellent program and it’s worth perusing the remarks. Richard Massony of Hunton Andrews Kurth, Andrew Sherman of Seyfarth Shaw and Bela Zaslavsky of K&L Gates discussed:
We’re in the midst of the first proxy season in which ISS is flagging companies that have no apparent racially or ethnically diverse directors – next year, they’ll start making adverse voting recommendations. Because companies aren’t required by SEC rules to disclose diversity characteristics, ISS has been urging companies to either include the info in proxy statements or provide it directly to the proxy advisor.
Now, in its recently updated “Policies & Procedures” FAQs, the proxy advisor has also explained how it’ll go about making ethnicity assessments if companies don’t volunteer the info:
Where definitive information is not disclosed, ISS classifies directors — largely along standards put forth by the U.S. Office of Management and Budget’s Directive 15 — by carefully assessing race and ethnicity through a variety of publicly available information sources. These include company investor relations websites, LinkedIn profiles, press releases, leading news sites, as well as through identifying affiliations between individuals and relevant associations and organizations focused on race and/or ethnicity, such as the Latino Corporate Directors Association.
The FAQs also list the ethnic & racial categories that ISS uses in its database, how each category is defined, and what qualifies as “diverse” under the voting policies. And, they clarify that ISS will recommend against nominating chairs of insufficiently “diverse” boards – even if that director is themselves from an under-represented community – because the voting recommendation is intended to convey dissatisfaction with the person’s action taken in that role, rather than as a call for the person to step off the board.
ISS seems to be devoting a lot of resources to making sure its diversity voting policies will be accurately applied – presumably for the benefit of its investor clients who find this information valuable. And although this blog from Keith Bishop raises the question of whether a company could face a securities law claim if its directors insincerely self-identify as a member of an under-represented group – practically speaking, companies who want to get a favorable ISS recommendation for their director elections would probably want to make diversity info easy to find.
Bitcoin: Beaten Back By Strongly Worded Statements?
The ETF and Bitcoin trends got a little closer to converging earlier this week, when Cboe filed an application with the SEC to serve as an exchange for a Bitcoin ETF that Fidelity wants to launch. But the next day, the SEC’s Investment Management Division issued a Staff Statement about mutual funds & Bitcoin futures that also touches on ETFs.
The Statement says that, sure, there could be some mutual funds that can invest in Bitcoin futures in a way that works under the Investment Company Act – but the Staff is going to be closely monitoring a bunch of technical compliance issues. Add this to the list of things being scrutinized, along with accounting treatment for SPAC warrants and companies’ climate disclosures. The Statement says the Staff will be welcoming further input on ETF compliance efforts, specifically.
The Staff statement didn’t appear to make much of a splash, maybe because the Commission has been crypto-skeptical for several years, and Chair Gensler has signaled that he supports investor protections in this space. Commissioner Peirce also tweeted along with the IM Statement that she hopes the SEC will get comfortable with investors having access to crypto-based securities products, so perhaps crypto supporters took heart from that. Staff Statements are also always carefully crafted to emphasize that they aren’t rulemaking or Commission-level guidance, and there’s no indication (yet) of an enforcement sweep.
Last night, SNL star and Technoking Elon Musk made bigger waves with his own strongly worded statement. He tweeted that Tesla would suspend vehicle purchases using Bitcoin until that currency’s mining transitions to more sustainable energy. This WSJ article explains why Bitcoin uses more energy than newer cryptocurrencies. Elon says Tesla still owns its pile of Bitcoin, he continues to believe in crypto, and he’s also looking at alternatives that use less energy. Many people have been wondering whether ESG would overtake crypto hype at some point – we could be in for a horse race.
ESG Assurances: Watching the Watchers
As the SEC & investors seek reliable ESG data, it’s looking more likely that they could start to expect some third-party assurance of those disclosures. It’s also looking like audit firms will most likely be the ones to provide that service. Lynn blogged recently about the CAQ’s roadmap for auditor attestation of ESG metrics – and Lawrence shared more color on PracticalESG.com about how this could work. XBRL initiatives are also in the works.
But how can we know that the assurances are accurate? Dan Goelzer, current SASB member and former Acting Chair and founding member of the PCAOB (among other high-profile roles), is also calling for an expansion of the PCAOB’s powers to include oversight of ESG metrics. He outlines that concept in article that he recently authored for the CPA Journal. Here’s an excerpt:
Expand the PCAOB’s mission beyond financial statement auditing. The PCAOB’s authority is over public company “audits,” defined in SOX as examinations of financial statements. Traditional financial reporting, however, is becoming a smaller part of the information that companies disclose and that investors utilize. For example, investors increasingly use non-GAAP measures and key performance indicators, along with traditional financial reporting, in investment decision making. Moreover, investors have become more focused on the risks and opportunities presented by external, nonfinancial factors that can affect a company’s long-term success or failure. This type of information is often referred to as ESG — environmental, social, and governance
As investors increasingly demand non-GAAP measures and ESG reporting, auditors are being called upon to provide assurance over these types of information. Congress should expand the PCAOB’s authority to ensure that, as auditors’ assurance over nontraditional information becomes more common and more critical to capital allocation, the board will have the ability to set standards and inspect this aspect of auditors’ work. information. Virtually all large companies make ESG disclosures, and most do so in a sustainability report.
At the end of March, the PCAOB announced the formation of a new 18-person “Standards Advisory Group.” The charter doesn’t expressly say that the SAG will weigh in on ESG-related services, but the group’s purpose is to advise the Board on “key initiatives” – including auditing & attestation standards. The group will consist of 5 investor representatives, 4 audit professionals, and 3 seats each for audit committee members, academics and others with specialized knowledge.
A lot of discussions are happening right now about board diversity – including what that means, how to achieve it, and who it benefits. This 25-page Glass Lewis report (available for download) acknowledges that these are nuanced issues. Here’s an excerpt:
Whether increasing gender diversity in boardrooms poses a benefit or a detriment to companies is a complex question. Increasing the number and influence of women on boards must involve recruiting uniquely qualified directors who bring a breadth of experience and insight to the board table. Companies operate in myriad industries and locations and have unique strategies, challenges, and opportunities. Simply adding women to the board for diversity’s sake and without careful consideration of qualifications and experience is unlikely to automatically effect any positive corporate change. However, we view a companies’ placement of women on boards as being representative of companies’ consideration of broader, and harder to measure, diversity.
Glass Lewis believes that diversity, in general, is a positive force for driving corporate performance, as qualified and committed directors with different backgrounds, experiences, and knowledge will likely enhance corporate performance. We believe that gender is just one, albeit important, aspect of diversity and boards should ensure that their directors, regardless of gender, possess the skills, knowledge, and experience that will drive corporate performance and enhance and protect shareholder value.
More on “Board Diversity: Does Diversity Enhance Shareholder Value?”
John blogged last month about a paper from Harvard Law Prof. Jesse Fried that questioned the empirical support for Nasdaq’s board diversity listing proposal. University of MN Law Prof. and former chief White House ethics lawyer Richard Painter has written up a thorough rebuttal. Here’s an excerpt from his CLS summary:
Fried cites only one study showing a slightly negative impact on stock price from gender diversity on corporate boards. This study uses a data set two decades old that did not include the financial crisis of 2008. The same study found that women board members are more effective in monitoring management. The authors of the study attributed the slightly negative impact of board gender diversity on stock price to a number of factors, including most notably the fact that excessive monitoring of management by board members may decrease shareholder value.
Had the data set included stock price performance in 2008 and 2009, the aftermath of the financial crisis, it might have shown different results given that insufficient monitoring for exposure to financial risk was at least partially responsible for destroying so much shareholder value during that period It is also ironic that many academics have been pushing for more monitoring of management by corporate directors, including Harvard’s shareholder rights project which aggressively campaigned for annual election of directors, only to see at least some of them get cold feet about the board monitoring function when directors happen to be women.
The original piece also said there was a negative market reaction to California’s board diversity statute and attributed that to investor hesitation about the benefits of diversity. Professor Painter pointed out that the reaction actually may have been in response to the very controversial & significant fact that the law was a departure from the internal affairs doctrine. That aspect of the law could have concerned investors who don’t want to move toward a model in which states can regulate the corporate aspects of companies headquartered within their borders, even if incorporated elsewhere.
Professor Painter also emphasizes that the Nasdaq rule is a “comply or explain” rule, and aimed at companies that are lagging behind market averages. He says:
Nasdaq chose the more flexible “comply or explain” option carefully, knowing that while studies on the impact of boardroom diversity on firm performance are not uniform in their conclusions, boardroom diversity is important to some investors, particularly institutional investors, and that disclosure of this information to investors is important. Nasdaq, unlike the California legislature, is also very much focused on shareholder value. Finally, the Nasdaq rule could discourage California and other states from moving further in the direction of intruding upon the internal affairs of corporations headquartered within their borders but incorporated elsewhere.
Board Gender Diversity: What About Women of Color?
All of this back & forth aside, due to investor demands and legislation, the makeup of boards is gradually evolving. A new report from the California Partners Project updates earlier stats on board composition. While the report doesn’t delve in to all different aspects of diversity, it suggests that most of the gains right now are coming in the form of directors who are part of a single underrepresented group – e.g., white women – versus those whose identities intersect with multiple underrepresented communities – e.g., women of color. Here are some takeaways:
In the two years before California’s board gender diversity statute – SB 826 – was enacted, just 208 corporate board seats were newly filled by women. In the two years since, that number grew to 739. And in the first quarter of 2021, women filled 45% of public company board appointments in California, an indicator that women’s representation on boards is on the rise.
Although women now hold 26.5% of California’s public company board seats, only 6.6% of board seats are held by women of color, even though females of color comprise 32% of our state’s population. When it comes to Latinas, the disparity is truly shocking. Latinas make up more than 19% of California’s population and Latinos comprise over 37% of California’s workforce, yet Latinas hold only 1% of the seats on California’s public company boards.
Pages 20-24 of the report suggest strategies to further diversify boards – expand where you’re looking for candidates, expand your definition of “qualified,” take seriously the risks of homogeneous thinking, and prioritize different backgrounds over getting a “cultural fit.” See this Cooley blog for more info about the report and related topics.
As we work to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation, I’d like to highlight seven factors that were at play in these volatile events:
1. Gamification and User Experience
2. Payment for Order Flow
3. Equity Market Structure
4. Short Selling and Market Transparency
5. Social Media
6. Market “Plumbing”: Clearance and Settlement
7. System-Wide Risks
We expect to publish a staff report assessing the market events over the summer. While I cannot comment on ongoing examination and enforcement matters, SEC staff is vigorously reviewing these events for any violations. I also have directed staff to consider whether expanded enforcement mechanisms are necessary.
Stonks’ Silver Lining: Same-Day Settlement?
In his remarks to the House Financial Services Committee, Chair Gensler said the two-day settlement cycle was partially to blame for the trading freeze-out that some investors experienced at the height of the “GameStonk” market frenzy. Here’s an excerpt about that:
The longer it takes for a trade to settle, the more risk our markets assume. The good news is, though it will take a lot of work by many parties, we now have the technology to further shorten the settlement cycles, not only to the settlement cycle we had a century ago, but even to same-day settlement (T-0 or “T-evening”).
I believe shortening the standard settlement cycle could reduce costs and risks in our markets. I’ve directed the SEC staff to put together a draft proposal for the Commission’s review on this topic.
Chair Gensler isn’t the first or only person to raise this possibility. CII’s Research & Education Fund suggested in a paper last week that slow settlement times were a potential contributor to the GameStop frenzy. And although it was only 4 years ago that the SEC said “hasta la vista” to T+3 settlement, former SEC Commissioner Michael Piwowar – who was an enthusiastic supporter of that 2017 rule change – also argued in a February WSJ op-ed that the 2-day settlement period is now past its prime.
DTCC then issued this 14-page whitepaper to identify steps necessary to move toward a T+1 settlement period – by 2023. DTCC says:
We believe the opportunity exists to accelerate the settlement cycle and optimize the process further, to T+1, T+1/2 or someday, even netted T+0, in which trades are netted and settled at the end of the same trading day.
DTCC goes on to say that real-time settlement is unlikely. It would put market makers in the very tricky position of having to see into the future and know what their net obligations will be at the end of each day, and have enough shares or dollars to meet those obligations. They’d basically have to change all of their processes and move to a transaction-by-transaction system. Last week, the Investment Company Institute (ICI), the Securities Industry and Financial Markets Association (SIFMA), and DTCC issued this follow-up FAQ to reiterate what needs to be done to accelerate the settlement cycle, and why T+0 isn’t feasible for all trades. But with Chair Gensler’s remarks, they could be taking a closer look at those obstacles.
In addition, DTC might be facing some competition. Paxos Trust Company announced that it’s already using blockchain technology to achieve same-day settlement for some equity trades. Paxos has also applied for full clearing-agency registration with the SEC and hopes to be approved sometime this year.
If and when a shorter settlement cycle arrives, it’ll have the most impact on broker-dealer obligations. The 2017 amendments didn’t change the settlement cycle for securities sold in most cash-only, firm commitment underwritten offerings – as explained in this Skadden memo at the time – and settlement on public offerings is still all over the place. While most deals are at T+3 or even T+4, some debt issuers want to push out settlement even further so that interest doesn’t start accruing.
Tomorrow’s Webcast: “Capital Markets 2021”
The capital markets have been a wild ride lately! Tune in tomorrow for our webcast: “Capital Markets 2021” – to hear Katherine Blair of Manatt, Phelps & Phillips, Sophia Hudson of Kirkland & Ellis and Jay Knight of Bass, Berry & Sims discuss what 2021 has in store for companies looking to access the capital markets, including discussion of financing alternatives. This webcast is available to members of TheCorporateCounsel.net as well as members of DealLawyers.com – you can tune in on either site!
We will apply for CLE credit in all applicable states for this 1-hour webcast. You must submit your state and license number prior to or during the program. Attendees must participate in the live webcast and fully complete all the CLE credit survey links during the program. You will receive a CLE certificate from our CLE provider when your state issues approval; typically within 30 days of the webcast. All credits are pending state approval.
No registration is necessary – and there is no cost – for this webcast for our members. If you are not a member, sign-up now to access the programs. You can sign up online, send us an email at info@ccrcorp.com – or call us at 800.737.1271.
