Nothing drives me crazier than going to a conference & hearing a panel spend time talking about the “tone at the top.” It’s high-level governance stuff that everybody clearly knows is important. It’s “Parenting 101” – if your parents weren’t good ones, odds are that you had somewhat of a crappy childhood. That’s “tone at the top.”
But just because everybody knows about it, that doesn’t mean ‘good tone’ is widespread. In fact, sound management is quite rare in my experience. I can think of a number of governance organizations that appear to have poor management! And that shouldn’t be surprising given that quite a few folks get tasked with running an organization without any prior management experience – nor do they even recognize that management is a learned skill. They need training. To be honest, you can count me among those in that boat! But in my defense, I don’t really manage anyone – I just “coordinate” our team here. Just the type of thing any bad manager tells themselves, right?
Anyway, Cooley’s Cydney Posner blogged about the NACD’s new report on culture. I received it a while back & posted it in our “Code of Ethics” Practice Area – but couldn’t bring myself to blog about it for the reasons stated above. Sound management starts with a heavy dose of self-awareness by the board & senior management team…
Interactive Tool: Researching Boards Around the World
Pretty cool. Spencer Stuart has an interactive tool that will allow you to compare global board trends in governance, compensation & more. It’s worth checking out as more institutional investors apply an international outlook to their investments.
– Utilizing Social Media in Proxy Contests
– Planning for M&A Cybersecurity Risks
– True-Ups After Chicago Bridge: The Two Sides to Working Capital Adjustments
– Valuation Analysis: Key to Avoiding Failed M&A Deals
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When Reg FD was adopted back in 2000, some predicted the death of the investor “one-on-one” – private meetings between investors and top corporate brass. That prediction turned out to be about as accurate as the one that said we’d all be flying our jetpacks to work by now.
Instead, these meetings remain common, particularly among companies seeking to raise their profile with investors. But now the smarty-pantses at Harvard Business School have published a new study that looks what gets asked at those meetings. While a lot of questions are pretty mundane – e.g. “what keeps you up at night?” – some clearly represent an effort to obtain more timely information about companies than what’s been publicly disclosed. Check out this excerpt:
The cash balance of the firm two months after the release of the quarterly report may be stale information. Understanding whether the firm has sufficient cash to continue operations may be salient for an investor’s investment decision so the investor will seek more timely information from management. From a regulatory perspective, timely questions appear to pose the greatest regulatory risk for managers in responding. Nonetheless, we find that most private interactions include at least one timely question posed to management.
Representative examples of timely questions include:
– “How much cash do you have now?”
– “Do you know additional sell side analysts that will be launching initiation reports?”
– “Are you done with recruitment or still enrolling?”
– “Are the Q2 earnings call expectations still valid?”
Management’s responses to any of these questions may raise Reg FD issues – and reaffirming quarterly guidance has been specifically flagged by the Staff as a problem under Reg FD. The study’s results suggest what many of us have long thought – that these private investor meetings are an FD compliance minefield.
Governance Survey: Silicon Valley v. S&P 100
The latest edition of Fenwick & West’s annual governance study surveys the governance practices of companies in the Silicon Valley 150 Index and compares them with those found at S&P 100 companies. Here are some of this year’s highlights:
– Adoption of dual-class voting stock structures has emerged as a recent clear trend among the mid-to-larger SV 150 companies. 11% of Silicon Valley companies surveyed had dual-class structures in 2017 compared to 9% of the S&P 100.
– Classified boards are now significantly more common among SV 150 companies than among S&P 100 companies. Compared to the prior year, classified boards remained fairly consistent, holding steady at slightly less than 7% for the top 15 companies in the SV 150 while the S&P 100 has been at 4% since 2016.
– Fewer Silicon Valley companies have adopted majority voting policies than their S&P 100 counterparts. Approximately 60% of the SV 150 companies have majority voting policies, compared with 97% of the S&P 100.
– 2017 continued the long-term trend in the SV 150 of increasing numbers of women directors and declining numbers of boards without women members. the rate of increase in women directors for SV 150 overall continues to be higher than among S&P 100 companies. When measured as a percentage of the total number of directors, the top 15 of the SV 150 now slightly exceed their S&P 100 peers (the top 15 averaged 25.4% women directors in the 2017 proxy season, compared to 23.9% in the S&P 100).
The study also addresses other governance metrics & tracks changes over time.
Buybacks: Primed for a Tax & Activist Driven Comeback?
I recently blogged about reports on the decline in stock buybacks during most of 2017. Well, it looks like those might come roaring back to life in the new year. This article from “TheStreet.com” says that stock buybacks will be driven by an increased ability to repatriate foreign cash – and pressure from activist hedge funds. Here’s an excerpt:
Activists typically pressure corporations with a lot of cash on their balance sheet to either spend it on the business, launch a big stock buyback program or issue a special dividend. In many cases, corporations have put their cash overseas to avoid U.S. taxes. However, the historic passage of a $1.5 trillion tax overhaul legislation is expected to change the calculus on off-shore cash, considering that a vital component of the package is a provision imposing a low 15.5% repatriation tax for money held offshore. Expect the rule to drive activist hedge funds to put new pressure on companies to repatriate cash, then distribute it to shareholders.
On the other hand, not everybody is buying into this narrative – this Bloomberg article suggests that most Wall Street analysts expect companies to use their tax windfall to increase their capital investments.
Here’s the results from our recent survey on director compensation in the wake of the 2015 Citrix decision:
1. When it comes to limits on our director pay:
– Yes, we have adopted limits since Citrix – 51%
– Yes, we had limits even before Citrix – 22%
– No, we don’t have limits – 26%
2. For those that have limits, our limits apply to:
– Cash only – 0%
– Equity only – 56%
– Both cash & equity – 44%
3. For those that have equity limits, our limits are based on:
– Dollar limit – 85%
– Share limit – 33%
4. For those that have limits, our limits are based on:
– Multiple of annual compensation – 35%
– Maximum number based on estimates of future compensation for a set period – 36%
– Other – 35%
5. For those that have limits, our limits are based on:
– Peer review – 43.6%
– What we could derive from the case law & settlements – 20.0%
– Our discretion – 58.2%
– Other – 16.4%
Privilege: “Oral Download” of Investigation Results to SEC May Waive Work-Product Protection
This Cleary memo addresses a recent decision by a Florida federal magistrate that could throw a monkey-wrench into a common method of informing the SEC’s Enforcement Division about information obtained in an internal investigation.
It’s not unusual for outside counsel retained to conduct that investigation to share factual information conveyed in witness interviews with the Division of Enforcement. That’s frequently done orally, and under the assumption that conveyance of this information won’t waive the protection of the attorney-work product doctrine for the underlying documentation of those interviews. The memo says this decision calls that assumption into question. Here’s the intro:
On December 5, 2017, Magistrate Judge Jonathan Goodman in the United States District Court for the Southern District of Florida held in SEC v. Herrera that the “oral download” of external counsel’s interview notes to the Securities and Exchange Commission (“SEC”) waived protection from disclosure under the attorney work product doctrine. In the same order, Magistrate Judge Goodman held that providing similar access to the client’s auditor did not result in a waiver.
As a result of the decision, the law firm was ordered to disclose to certain former employees of its client the interview notes that were orally conveyed to the SEC. The firm subsequently moved for clarification or reconsideration of the order – and an evidentiary hearing is scheduled for January 10th.
Coming Attractions: Securities Class Actions for Cyber Breaches
This Davis Polk memo says that securities class actions surrounding cybersecurity breaches are just a trickle now – but may soon become a wave:
The existence of securities fraud litigation following a cyber breach is, to some extent, not surprising. Lawyer-driven securities litigation often follows stock price declines, even declines that are ostensibly unrelated to any prior public disclosure by an issuer. Until recently, significant declines in stock price following disclosures of cyber breaches were rare. But that is changing. The recent securities fraud class actions brought against Yahoo! and Equifax demonstrate this point; in both of those cases, significant stock price declines followed the disclosure of the breach. Similar cases can be expected whenever stock price declines follow cyber breach disclosures.
The memo addresses emerging theories of liability in these cases & steps that companies can take to reduce their risk of a securities class action in the event of a cyber breach.
Last month, the WSJ published an investigative report that suggested that hundreds of corporate insiders frequently had uncanny timing when it came to gifts of company stock.
The WSJ examined 14,000 donations of stock to private foundations by insiders – and found that 3x as many were made before price declines of 25% or more than were made prior to comparably-sized price increases. It quoted a professor as saying that the chance that this kind of timing could result from random luck is “extremely small.” If luck’s not involved, what’s behind the fortuitous timing of these gifts? This excerpt speculates that this may be a case of old wine in new bottles:
Good luck or coincidence is one explanation for many of the well-timed stock gifts. Academic researchers say another possible explanation for some, given the outsize number of such gifts, is that some donors might be guided by inside information or backdating their stock gifts. Legal experts don’t agree on whether donating based on nonpublic information would be unlawful. Backdating a gift could be tax fraud, tax lawyers said.
When I first read this story, I thought the use of inside information was a more plausible explanation than backdating. Even after the Supreme Court’s decision in Salman, it’s not at all clear that a stock gift can give rise to insider trading liability. What’s more, some insider trading policies don’t apply to gifts of stock, it’s certainly plausible that insiders might capitalize on non-public information when it comes to gifting stock.
On the other hand, I was pretty skeptical about the idea that people are backdating gifts. I’ve been involved with a number of gifting situations involving insiders over the years – and large gifts usually involve pretty extensive planning by wealthy, well-advised individuals. So, I guess I wasn’t surprised that research showed that their timing is generally pretty good. But Broc reminded me that this is the kind of thing people said about options backdating a decade ago as well, so I did a little digging.
The most interesting thing I found was this study by an NYU professor referenced in the WSJ report. That study reached similar conclusions about the timing of CEO stock gifts almost a decade ago. It concluded that legal use of inside information could be part of the story, but also flagged evidence that strongly suggested that some insiders were backdating gifts as well:
Tests used to infer the backdating of executive stock option awards yield results consistent with the backdating of CEOs’ family foundation stock gifts. For instance, I find that the apparent timing of certain subsamples of family foundation stock gifts improves as a function of the elapsed time between the purported gift date and the date on which the required stock gift disclosure is filed by the donor with the SEC. This association between reporting lags and favorable gift timing does not hold for CEOs’ stock gifts to other recipients. Stock gifts of all types, including family foundation gifts, are also timed more favorably if they are larger and if they occur in months other than December, when many tax-driven charitable contributions ordinarily take place.
Ahem… well, it looks like my skepticism may just turn out to have been naivete. This could get interesting. . .
Insider Loans: SEC Brings a Rare Enforcement Proceeding
Since we’re sort of taking a stroll down memory lane today, I thought it was appropriate to flag this recent blog from Steve Quinlivan about a recent enforcement proceeding involving violations of Sarbanes-Oxley’s prohibition on loans to insiders. Here’s an excerpt summarizing the proceeding:
According to the SEC in an order settling an enforcement action, Alan Shortall was CEO and Chairman of Unilife Corporation, a Nasdaq listed issuer. According to the SEC, Shortall arranged for Unilife to make personal payments on his behalf aggregating approximately $340,000 over four years. The advances were outstanding for five to 36 days. According to the SEC, this violated provisions of the Sarbanes-Oxley Act which prohibits public companies from making loans to directors and executive officers, as codified in Section 13(k) of the Exchange Act.
In addition, an unnamed director of Unilife was going default on loans secured by a pledge of Unilife shares. Shortall agreed to arrange for Unilife to cover the loans. As Shortall understood Unilife could not loan money to the director, Shortall told the Chief Accounting Officer the loan was for the benefit of an external consultant. The SEC also found these transactions violated Section 13(k) of the Exchange Act.
Our more veteran readers may remember how much angst Sarbanes-Oxley’s prohibitions on loans to insiders caused at the time of their enactment. Interestingly though, it hasn’t resulted in a lot of enforcement activity. There may be a few others, but I’m only aware of one other enforcement proceeding dealing with loans to insiders – and that was way back in 2005.
First backdating & now loans to insiders – I think it may be time to get a MySpace account…
Audit Reports: PCAOB Staff Updates Guidance
I recently blogged about the PCAOB Staff’s implementation guidance on the new audit report regime. Last week, the Staff issued updated guidance providing additional information on determining auditor tenure – see page 4 of the updated document. We’re posting memos on the new audit report standard & the implementation guidance in our “Audit Reports” Practice Area.
– 37% of S&P 500 companies’ proxy statements present enhanced discussion of the audit committee’s considerations in recommending the appointment of the audit firm, up from 13% in 2014.
– 24% of mid-cap companies show enhanced discussion of the audit committee’s considerations in recommending the appointment of the audit firm (up from 10% in 2014) compared to 17% of small-cap companies (up from 8% in 2014).
– 38% of S&P 500 companies disclose criteria considered when evaluating the audit firm, a jump from 8% in 2014.
– 28% of mid-cap companies disclose criteria considered when evaluating the audit firm (up from 7% in 2014) compared to 27% of small-cap companies (up from 15% in 2014).
The report’s conclusions are consistent with the other studies on audit committee disclosure trends that we’ve blogged about in recent months. Investors want more information from audit committees – and audit committees seem to be responding.
Cannabizfile: “I’m From the Government, & Dave’s Not Here, Man”
California hasn’t always been recognized as a place that goes out of its way to attract new businesses – but this Keith Bishop blog flags a new state initiative trying to make life easier for one particular class of entrepreneur:
California Secretary of State Alex Padilla wants to help entrepreneurs in California by launching a new online business portal. According to Secretary of State’s press release, the new portal, coined “Cannabizfile”, provides useful information about cannabis-related business filings with the Secretary of State’s office. The Secretary of State has even published a public service announcement featuring actor Cheech Marin.
Casting Cheech Marin (of Cheech & Chong fame) in a PSA is inspired & shows a sense of humor that’s almost always lacking in government initiatives. The one disappointing aspect of the Cannabizfile website is that the FAQ section offers no insights into Dave’s whereabouts.
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Brink Dickerson of Troutman Sanders sent in these thoughts about tax reform & MD&A: The corporate tax rate change will have three primary impacts on MD&A drafting:
– Prospectively, the impact of the lower rate. This is a “known trend or uncertainty” that needs to be discussed even where a company does not typically address future tax rates in its SEC filings.
– Historically, the impact of the change in the tax rate change on tax assets and liabilities, which will show up in the year-end financial statements.
– Prospectively, changes in repatriation plans, which again is “known trend or uncertainty.”
Brink expects non-GAAP disclosure regarding both. And he also expects that the amounts likely will be self-reconciling. For example, he would expect to see statements such as:
Our tax expense for 2017 was $ _million. This amount reflects a reduction in our Deferred Tax Asset of $_million as a result of a decrease in the value of our U.S. federal net operating loss carryforwards due to the rate decrease included in the Tax Cuts and Jobs Act, offset by a $_million decrease in our Taxes Payable, similarly resulting from the rate decrease. In the absence of the changes in the Act, our tax expense for 2017 would have been $_million.
For 2018 we expect an overall tax rate (including federal, state and foreign taxes) of _%, but in the absence of the Act would have expected an overall tax rate of _%. Historically, we have considered substantially all foreign profits as being permanently invested in our foreign operations, and we had no intent to repatriate those funds. We currently are reconsidering that policy in light of the changes contained in the Act.
Brink also expects a more granular discussion of future tax rates in earnings calls – and he suggests that since the analysts certainly will ask about it, many companies will want to include a slide on taxes & tax rates and probably a few sentences in their earnings release as well.
House Passes Proxy Advisor Reform Bill
Last week, the House passed proxy advisor reform legislation (H.R. 4015, “Corporate Governance Reform and Transparency Act of 2017”) by a 238-182 vote. As I blogged last week, this is a rehash of proposed legislation that has been floated in recent years…
Cybersecurity: NIST’s Re-Proposal
Recently, NIST issued a re-proposal to update its cybersecurity framework. The original proposal was published at the beginning of this year. Comments are due by January 19th…
Yesterday, I blogged about the SEC Staff’s new guidance on deferred tax assets and Form 8-Ks under Item 2.06. Note that a company may reach the conclusion that there is no impairment – or could rely on Item 2.06’s Instruction to defer the reporting of the impairment until the next quarterly report if the conclusion about the impairment is reached during a quarterly review. The bottom line is that after the Staff’s guidance, it’s unlikely that we’ll see many companies decide that an Item 2.06 8-K filing is required.
However, as this Gibson Dunn memo points out, companies need to keep in mind the possibility of an Item 2.02 filing if they discuss the impact of tax reform on their fourth quarter results after the new year:
Item 2.02 of Form 8-K applies to more than just a company’s earnings release, and instead is triggered by any public disclosure of material non-public information regarding a company’s results of operations or financial condition for a completed quarterly or annual fiscal period. Thus, any disclosures regarding material tax accounting effects of the Tax Act that relate to, but are made after the end of, the fiscal period that includes December 22, 2017 could trigger a required Item 2.02 Form 8-K. For example, if an executive of a calendar year company publicly comments on material tax accounting effects of the Tax Act during the first week of January 2018, the company may need to furnish such disclosures on a Form 8-K.
Item 2.02 8-Ks are “furnished,” not “filed” – and while they’re not optional, a stumble here won’t impact a company’s S-3 eligibility.
Speaking of that, the concerns that companies had before the Staff’s guidance about the possible need for an Item 2.06 filing suggest that it’s probably a good time for a reminder about the safe harbor that applies for certain 8-K items, including Item 2.06. For these 8-K items, there is no Rule 10b-5 liability for failure to file (under Rule 13a-11(c)), and the company does not lose Form S-3 eligibility if the disclosure is made by the due date of the next quarterly filing (under General Instruction I.A.3). The safe harbor covers 8-K line items that – like Item 2.06 – require materiality assessments, and while it doesn’t excuse willful failures to file, it does provide a bit of a cushion for companies that get their initial materiality analysis wrong.
Shareholder Proposals: Corp Fin Rejects Apple Despite SLB 14I
Here’s the intro from this blog by Davis Polk’s Ning Chiu:
The SEC Staff decided that a no-action letter by Apple citing the recently issued SLB 14I was not excludable based on the information presented. The Staff noted that “We are unable to conclude, based on the information presented in your correspondence, including the discussion of the board’s analysis on this matter, that this particular proposal is not sufficiently significant to the Company’s business operations such that exclusion would be appropriate. As your letter states, ‘the Board and management firmly believe that human rights are an integral component of the Company’s business operations.’ Further, the board’s analysis does not explain why this particular proposal would not raise a significant issue for the Company.”
Everyone is calling it a “holiday gift” (including this Cooley blog). One member wrote: “There are accounting departments throughout America who now know for sure that Santa’s full name is Santa EClaus. I have had clients absolutely freaking out about this – before the SEC’s guidance – because they felt they had no way to get their arms around the deferred tax valuation allowance number in time for an 8-K.”
Following up on my blog about the topic of deferred tax assets being impaired & the need to consider whether an Item 2.06 Form 8-K is required, the SEC issued this statement on Friday – along with a new Staff Accounting Bulletin No. 118 (from OCA & Corp Fin) and CDI 110.02 (from Corp Fin). These provide sorely-needed guidance about the impact of the signed tax legislation on financials – particularly deferred tax assets – including resolving some debated issues about how to handle disclosure (including Item 2.06 8-Ks).
This Steve Quinlivan blog notes some recent disclosures about the new tax law – and here is an example of a company filing a stand-alone Item 2.06 8-K in connection with the new law…
SEC Staff’s Tax Reform Guidance: The Open Issues (& Practical Considerations)
Many Tax Act accounting and disclosure issues remain to be addressed over the coming months during companies’ measurement periods, some of which may require guidance or consultations with regulators such as the Commission and the Treasury/Internal Revenue Service. For example, the Staff’s guidance does not expressly address the implications of filing a new Securities Act registration statement or conducting an offering off of an already effective registration statement during a company’s measurement period.
The Gibson Dunn blog also addresses “practical considerations” when it comes to Reg FD, Item 2.02 8-Ks and non-GAAP measures. Here’s their note about that last one:
Non-GAAP Financial Measures. To the extent that a company has not reflected the impact of the Tax Act in its financial statements (either on a provisional basis or as a result of having completed its assessment of such effect), and instead reports its financial results based on the tax laws as in effect immediately before enactment of the Tax Act, such disclosures continue to qualify as GAAP as a result of SAB 118.
However, to the extent that a company has completed or provisionally provided for its assessment of the tax accounting effects of an aspect of the Tax Act and reflected those effects in its financial statements, but then backs out that impact to address period-over-period comparability, the company should be mindful of the non-GAAP rules. For example, if a company has accounted for the impact of a provision of the Tax Act in its year-end financial results, but then states what its results would have been “excluding the impact of the Tax Act,” the company is presenting a non-GAAP financial measure that triggers the GAAP/non-GAAP presentation and reconciliation requirements of Regulation G and Regulation S-K Item 10(e).
In our “Regulatory Reform” Practice Area, we continue to post memos about how the tax legislation implicates a variety of business considerations outside of the SEC Staff’s guidance…
Last night, the Senate confirmed the nominations of Rob Jackson and Hester Peirce to serve as SEC Commissioners by unanimous consent. And before that happened, here was the news courtesy of Snell & Wilmer’s Jon Cohen (also see this Cooley blog):
I see that Senator Baldwin has backed off her threat to block the nominations of Robert Jackson and Hester Peirce after receiving their responses to the questions Senator Baldwin posed. It is also worth noting that Kara Stein’s term has ended and she is holding over. Mike Piwowar’s term will end this coming summer. And Robert Jackson, if confirmed, will take over a term ending June 5, 2019. This leaves a lot of room for this Administration to influence the composition of the SEC.
