As the SEC has been telegraphing through its requests to review corporate agreements, the SEC brought its 1st enforcement action against a company for including improper restrictive language in confidentiality agreements last week. As noted in this press release, KBR agreed to pay a $130k civil penalty and take other remedial actions. It’s clear that the SEC intends to take an aggressive approach to interpreting and enforcing Rule 21F-17. We’re posting oodles of memos in our “Whistleblowers” Practice Area. As this Gibson Dunn memo notes:
A question remains how far the Commission’s enforcement activity will extend beyond confidentiality agreements–like KBR’s–that concern internal company investigations of potential compliance concerns, as distinguished from confidentiality provisions in general employment contracts, for example. Nonetheless, public companies and others will want to examine their existing agreements and practices in light of the SEC’s reading of the Rule, while recognizing that the SEC’s surprisingly broad interpretation of the Rule has not been accepted by any court, and may be at odds with companies’ legitimate interests in protecting trade secrets and other confidential information.
Also see this WSJ op-ed from Gibson Dunn’s Eugene Scalia entitled “Blowing the Whistle on the SEC’s Latest Power Move”…
SEC Tweaks Reg A+ Adopting Release
Hat tip to Richie Leisner of Trenam Kemker for pointing out that the SEC has quietly posted a revised Reg A+ adopting release last week. The revised adopting release now has page numbers all the way through the table of contents – the first version only had page numbers on pages 6 and 7. So if you printed out the release when it first came out, you may want to do so again…
Sights & Sounds from Taiwan
Great trip to Taiwan last week. Loved the country. Didn’t see Taiwan’s SEC – but did run across the Treasury building:
And this museum certainly seems unique:
This video highlights the use of scooters to get around & the popularity of basketball (including among women, who were playing everywhere – nearly as much as the men):
This new KPA Advisory report, based on a recent survey of over 80 major pension funds, identifies a positive correlation between the quality of institutional investors’ internal corporate governance practices and their long-term investment practices. The findings further suggest that better internal governance actually drives long-term investing.
Unfortunately, however, it appears (based on the current as well as prior surveys) that there are significant governance deficits and long-term investing “aspiration vs. reality” gaps that need to be addressed to minimize short-termism and – instead – promote a long-term investment approach.
Principle governance deficits include:
– Board selection and improvement processes continue to be flawed in many cases.
– Board oversight function in many organizations needs to be more clearly defined and executed.
– Competition for senior management and investment talent is often hampered by uncompetitive compensation structures.
Barriers to long-term investing include:
– Regulations that force short-term thinking and acting
– Short-term, peer-sensitive environment that makes it difficult to truly think and act long-term
– Absence of a clear investment model, performance metrics and language that fit a long-term mindset
– Alignment difficulties in outsourcing, and compensation barriers to in-sourcing
This CFA Institute blog – which discusses short-termism factors identified in the report, as well as the short-termism problem more generally – suggests that the time has come for a global set of standards and curricula to govern fund fiduciaries.
See also this 2013 Focusing Capital on the Long Term initiative-driven study revealing perceptions that short-term result pressures have been intensifying – which was the impetus for the current KPA Advisory project.
Building a Board for the Long-Term
This new Spencer Stuart publication is part of a more comprehensive essay collection reflecting the views of CEOs, directors, investors and regulators about what it will take to change current behaviors among companies and investors that compromise long-term growth for short-term gain. The paper provides guidance to boards on how to avoid succumbing to short-termism pressures and act – instead – consistently with a long-term view.
The essay collection is part of the broader Focusing Capital on the Long Term initiative co-founded by CPPIB (Canadian Pension Plan Investment Board) and McKinsey in 2013 to develop practical approaches for longer-term behaviors among both companies and investors.
More on “The Mentor Blog”
We continue to post new items daily on our blog – “The Mentor Blog” – for TheCorporateCounsel.net members. Members can sign up to get that blog pushed out to them via email whenever there is a new entry by simply inputting their email address on the left side of that blog. Here are some of the latest entries:
– Cybersecurity Guidance for Directors
– Directors Logging Many Hours for Board Service
– OECD’s Draft Updated Principles Support Proxy Access
– Under Attack: The SEC’s Use of Administrative Law Judges in Enforcement Actions
– Fine-Tuning Your Section 16 Reporting
This new white paper from Foley provides a practical, easy-to-follow blueprint for directors and officers to tackle cybersecurity. Notably, the paper includes individual “bite-sized” checklists of important considerations covering each of the key elements of a compliance & risk management program. Here are the 10 key elements – each of which is capably addressed with a targeted checklist:
10 Key Elements of a Cybersecurity Risk Management Program
– Incident Management
– User Education and Awareness
– Managing User Privileges
– Home and Mobile Working
– Removable Media Controls
– Malware Protection
– Monitoring
– Secure Configuration
– Network Security
– Cybersecurity Insurance
The paper also includes an information security “policy library” that identifies the most critical policies (e.g., access control, BYOD (bring your own device)) companies should consider as part of their compliance program, and an appendix defining key security concepts.
Effective Use of Internal Audit in Cybersecurity
This new Compliance Week article discusses ways in which companies can tap their internal audit staff to assist with their cybersecurity program, including:
Cybersecurity risk assessment
Identification and inventory of the company’s most important data
Vulnerability testing (to some extent – subject to avoiding independence impairment)
Identification of potential consequences of vulnerabilities
Validation of company’s response plan
Monitoring and periodic testing of program effectiveness
While internal audit functions vary widely, if the company isn’t utilizing internal audit in its cybersecurity assessment and compliance efforts, it’s likely under-utilizing a key resource.
– Substantiation rates for retaliation reports spiked from a consistently historical 10-12% to 27%
– Substantiation rates for repeat reporters are higher than rates for first-time reporters
– Five-year trend of rising report volume continues
– Case closure times continue to climb
– Low rate of anonymous reporters who follow up with their initial report still worryingly low
– Allegations vs. inquiries reveal a fairly steady 80%/20% split
The increasing substantiation rate (i.e., rate of allegations determined to have at least some merit) for retaliation reports – which more than doubled in 2014 compared to 2013 – is particularly noteworthy. As NAVEX Chief Compliance Officer, SVP Carrie Penman noted, while the statistic could be an anomaly, the SEC’s “recent focus on retaliation has caused companies to take a deep dive into these allegations.” Widely publicized, the WSJ recently reported that the SEC sent letters to a number of companies seeking copies of employment agreements and confidentiality training materials since Dodd-Frank’s 2010 effective date that might indicate attempts to stifle employee reporting to the SEC in violation of the law.
Also significant is the higher substantiation rate for repeat reporters. This is important because – at least historically – there has been concern that companies may perceive repeat reporters/complainants as less credible – a practice that SEC Chair White has cautioned against in the past.
See also this more recent WSJ article noting potential challenges to the SEC’s authority to enforce Dodd-Frank’s anti-retaliation provisions.
How to Handle Informal SEC Communications
This recent Compliance Week article provides guidance about how to handle informal SEC communications – including informal requests for information such as the SEC’s recent whistleblower-related inquiry.
According to former SEC enforcement attorney BakerHostetler’s Marc Powers, “Cooperation with the SEC may be in a company’s best interest, but compliance has to be carefully planned and considered. No matter how friendly the voice on the other end of the phone may be, or how cordial a letter is, regulators are not paid to be your friend. ‘If it is an enforcement group, their primary goal is to ferret out wrongdoing from whatever the situation.'”
The article also provides some useful tips from SEC Deputy Chief Accountant Dan Murdock’s remarks at the December 2014 AICPA Conference and, more recently, PLI’s 2015 SEC Speaks conference, about how to most appropriately utilize Staff’s frequent speeches – which often appear to be guidance-like in nature, but are almost always qualified as reflecting the views of the speaker only, not the SEC. For example, he characterized such speeches as generally having a five-year shelf life due to, among other things, evolving staff thinking and business models.
More on “The Mentor Blog”
We continue to post new items daily on our blog – “The Mentor Blog” – for TheCorporateCounsel.net members. Members can sign up to get that blog pushed out to them via email whenever there is a new entry by simply inputting their email address on the left side of that blog. Here are some of the latest entries:
– Are Nominating/Governance Committee Chairs Undervalued?
– CEO Involvement in CEO Succession
– Practical Guidance on Internal Audit Independence
– Enhancing COSO’s ERM Framework
– Bigger Penalties When Whistleblowers Involved
With board composition and renewal under increasing scrutiny, this recent EY reportsummarizing views of institutional investors, investor associations and advisors about board composition and board composition disclosure is instructive.
Among the key findings are that most investors don’t believe companies are doing a good job of explaining why they have the right directors in the boardroom. And the vast majority of investors believe that rigorous board evaluations – not, e.g., director term limits, retirement ages – are the most effective way to stimulate board refreshment.
Based on insights gleaned from the interviews, the report suggests these three ways companies can enhance board composition disclosures:
1.Make disclosures company-specific and tie qualifications to strategy and risk — Be explicit about why the director brings value to the board based on the company’s specific circumstances. Companies should not assume that the connection between a director’s expertise and the company’s strategic and risk oversight needs is obvious. Also, explaining how the board, as a whole, is the right fit can be valuable, particularly given that most investors are evaluating boards holistically.
2. Provide more disclosure around the director recruitment process and how candidates are sourced and vetted — Disclosing more information around the nomination process — how directors were identified (e.g., through a search firm), what the vetting process entailed, etc. — can mitigate concerns about the recruitment process being insular and informal.
3. Discuss efforts to enhance gender, racial and ethnic diversity — Many companies — nearly 60% of S&P 500 companies — say they specifically identify gender and ethnicity as a consideration when identifying director nominees, but that is not always reflected in the gender, racial and ethnic makeup of the board. Disclosing a formal process to support board diversity, including providing clarity around what is considered an appropriate level of diversity, can highlight efforts to recruit diverse directors.
The report also identifies potential disclosure tools, which may include a strategy-based skills matrix, a lead director/chair letter discussing board succession planning/refreshment/composition, and/or shareholder engagement.
Board Skills Matrix Considerations
This recent guidancefrom the Goverance Institute of Australia provides a thoughtful approach to creating or refreshing a board skills matrix – which (regardless of geography) is an effective tool for identifying existing and desired competencies and skills on the board.
Among other things, the guidance addresses:
Potential alternative approaches to identifying existing skills – which may entail involvement by the board chair, corporate secretary, each director individually, the board as a whole and/or the nominating committee
Non-exhaustive list of competencies the board may wish to consider which – aside from the standard fare – may include, e.g., geographic experience, diversity, tenure
Board’s consideration of a deeper dive ratings system to weight each competency (e.g., high, medium, low), as well as perhaps identifying whether the experience was attained in a management or non-management context
Other thoughtful considerations such as whether identified gaps need to be addressed now and – if so, how. Depending on the circumstances, gaps may be satisfactorily addressed via an external subject matter expert, new director(s), management input and/or education/training
This is a good read – even for matrix veterans.
More on “The Mentor Blog”
We continue to post new items daily on our blog – “The Mentor Blog” – for TheCorporateCounsel.net members. Members can sign up to get that blog pushed out to them via email whenever there is a new entry by simply inputting their email address on the left side of that blog. Here are some of the latest entries:
– Survey: Disclosure Committee Insights
– Successful Whistleblower Profile Revealed
– Audit Committee Disclosure: SEC’s Chief Accountant Talks Concept Release
– Waiver of IPO Lock-Ups: Delaware Declines to Dismiss Board, But Dismisses Underwriter Aiding & Abetting
– Making the Case for Fee-Shifting Bylaws
Last year, I blogged about how to file video on EDGAR – and predicted that the use of video in SEC filings would explode over the next decade as a disclosure tool. More recently, I blogged that I thought we would see more video during this proxy season. Two days ago, Prudential filed its proxy statement (here’s the interactive version) – and lo and behold, it includes this 5-minute video from the company’s lead director! As required, the video’s script was filed as additional soliciting material with the SEC.
I haven’t had a chance to put together my own vid of Pru’s cool things like last year as I’m flying out to Taiwan this morn for spring break, but here’s a list of some cool things in Pru’s proxy this year:
– Graphic on board evaluation that is done with the help of an independent third party
– Box on board engagement that highlights the adoption of a clawback and proxy access through engagement efforts
– Boxes on environmental & sustainability as well as corporate community initiatives
– Boxes on good governance practices including one called “Paper or bytes? Using resources responsibly”
– Box on the factors used for determining to reappoint independent auditor
– Box on formulaic framework for incentive programs and how Pru significantly removed discretion from its programs
– Box on why they use AOI versus GAAP
– Boxes that show the formulas for all of their plans
– Box on what is impacting the CEO’s pension accrual
– Back front cover highlights the work & employment programs they are involved with the Veteran community
– Back cover graphically shows Pru’s shareholder engagement cycle
– Once again offering a tree or bag if registered holders vote (planted over 550k trees so far under this program)
– Highlights a $5 Starbucks card incentive to registered shareholders if they combine their registered account & brokerage account. You can get a sustainable bag, plant a tree & get a cup of coffee if you vote & consolidate!
OECD’s “Trust and Business Project”
The OECD has numerous principles that promote responsible business conduct, such as the “Principles on Corporate Governance” and the “Anti-Bribery Convention.” Now, the OECD is undertaking a large “Trust and Business Project” – and as part of its work has launched an online survey on “Business Integrity and Corporate Governance.” Please fill out their survey…
Senate Committee Mulls Changes in Nonqualified Deferred Compensation Rules
As part of a series of hearings on tax reform, the Senate Finance Committee recently held a hearing on the issue of fairness in the tax code. In connection with the hearing, the committee’s ranking Democrat, Sen. Ron Wyden (D-OR), released a report on tax avoidance strategies that outlines possible recommendations for reforming nonqualified deferred compensation (NQDC) as part of an expected tax reform proposal. In his opening statement, Sen. Wyden noted that the report is intended to “shed some light on some of the most egregious tax loopholes around.”
The SEC’s proposed rules already had provided a very practical format for private issuers seeking to raise capital. The proposing release generated mixed comments, with practitioners largely supporting the SEC’s proposal, and others raising concerns about the pre-emption of state securities review.
From today’s open meeting, and without having yet reviewed the final rules, it sounds like the SEC has taken an approach that seeks to promote capital formation, while preserving the disclosure requirements (both initial disclosure requirements and periodic reporting requirements for larger offerings) and other investor protection measures that were central to the proposing release.
The final rule establishes two tiers: Tier 1, for offerings that raise up to $20 million in proceeds in a 12-month period, including no more than $6 million of securities sold on behalf of selling securityholders, and a Tier 2, for offerings that raise up to $50 million in proceeds, including no more than $15 million of securities sold on behalf of selling securityholders. This will permit smaller and emerging companies to have an opportunity to raise substantial capital. The $50 million limit is, by statute, subject to periodic review by the SEC to determine whether the threshold is reasonable. The final rule also will include a limitation on the overall amount of securities that may be sold on behalf of selling securityholders. The exemption will not be available to certain bad actors and to other entities, such as investment companies.
The final rule, consistent with the proposed rule, modernizes the offering process by, for example, requiring that Regulation A+ offering statements be filed on EDGAR. The final rule incorporates a confidential submission process, similar to that available to EGCs relying on the JOBS Act, as well as the use of test-the-waters communications. Consistent with the proposed rule, a Tier 2 offering will be subject to rigorous disclosure standards, including a requirement to include audited financial statements, as well as to an investor limit. Issuers conducting Tier 2 offerings will also be subject to a requirement to file annual, semiannual and current event reports.
Most important to the success of Tier 2 offerings, Tier 2 offerings, given the detailed disclosure requirements and SEC review, will not be subject to state securities review. In addition, the final rule provides for a Tier 2 issuer to concurrently file a short-form Form 8-A to register a class of securities under Exchange Act Section 12(g) or 12(b)—this means that a Tier 2 issuer will, if it chooses to do so, be able to conduct a Regulation A+ offering and list on a national securities exchange.
B vs. Benefit Corp: Etsy Files as B Corp for Underwritten IPO
As noted in this Cooley blog and Entrepreneur article, Etsy has filed for an IPO led by first tier underwriters as a corporation certified by B Labs. See its Form S-1.
Note there is a difference between being a public benefit corporation and being a corporation certified by B Labs. B corps or B corporations are the terms used for companies certified by B Labs. Delaware public benefit corporations are referred to as “benefit corporations” as a shorthand, but not as B Corps.
The B Labs certification is not really all that significant – as it essentially puts Etsy in the same category as other socially aware companies (eg. Ben & Jerry’s). I found it more interesting that Etsy did not become a “public benefit corporation” under Delaware law, which truly would have been remarkable (and likely posed marketing challenges with investors).
Cybersecurity: How to Handle Questionnaires from Shareholders
As I scramble to pack for my spring break trip to Taiwan, I came across this interesting blog from McKenna Long’s Bill Ide & Crystal Clark about how companies should react to questionnaires being sent by some pension funds to companies about their board oversight of cybersecurity preparedness. Here’s an excerpt:
Certain pension funds have sent extensive, joint questionnaires to directors of public companies seeking detailed information as to the cybersecurity oversight systems and controls in place. Our view is that until the SEC provides further guidance, companies will generally find it in their interest to respond to such shareholder inquiries. Such disclosures, however, should be kept at a high level to demonstrate appropriate awareness and attention, while not disclosing specifics that could compromise the company’s cybersecurity strategy or raise issues under Regulation FD.
The U.S. Supreme Court ruled today that a statement of opinion in a registration statement cannot be actionable as a misstatement of fact under § 11 of the Securities Act of 1933 if the issuer actually believed the opinion expressed. However, the statement of opinion can be actionable on an omissions theory if the registration statement omits material facts about the issuer’s inquiry into, or knowledge about, the statement of opinion and if those omitted facts conflict with what a reasonable investor would have expected from a contextual reading of the statement of opinion. The decision in Omnicare, Inc. v. Laborers District Council Construction Industry Pension Fund could lead to additional litigation about whether statements of opinion are actionable, but the Court imposed some important constraints on investors’ ability to assert § 11 claims predicated on statements of opinion.
SEC Chair White Addresses Status of Rulemakings (Vaguely)
Yesterday, SEC Chair White testified about the SEC’s budget before the House Financial Services Committee. Although the testimony included a rundown on pending – and upcoming – rulemakings, there really wasn’t much in the way of when things will actually happen (and no mention of crowdfunding), as reflected by this excerpt:
Corporation Finance, along with other Commission staff, continues to work to implement provisions of the Dodd-Frank Act relating to executive compensation matters and payments by resource extraction issuers. In addition, the staff is currently conducting the review of the accredited investor definition as it relates to natural persons as mandated by Section 413 of the Dodd-Frank Act.
Check out my CompensationStandards.com blog about pressure that 58 House Dems are putting on the SEC to adopt the pay ratio rules. And this article notes the SEC has spent $2.75 million so far to write, enforce and litigate the conflict mineral rules…
Status: SEC Enforcement’s Ability to Get Defendants to Admit Guilt
Related to SEC Chair White’s speeches over the past few years about the criteria that the SEC will consider, this NY Times article gives a nice recap of how the SEC’s Enforcement program has been doing in getting defendants to admit guilt when settling an action. Here’s an excerpt:
The program represented a seismic shift in approach, but in practice it is still in its early stages. After two years, the S.E.C. has generated admissions of culpability in 18 different cases involving 19 companies and 10 individuals. Given the hundreds of settlements struck by the S.E.C. over this time, it is clear that most of the time defendants are still being allowed to settle without admitting to or denying the agency’s allegations.
S.E.C. officials say this age-old practice saves it from having to bring — and possibly lose — a case in court, allows the agency to return money to victims more quickly and conserves resources for other investigations. Nevertheless, S.E.C. enforcement officials say they believe the policy change has sent a crucial message. “Requiring admissions adds a powerful tool in appropriate cases, and it has been extremely successful and positive,” Mr. Ceresney said in a recent interview. “In cases where we have obtained admissions, it adds accountability, and that has been very important.” In determining what kinds of cases are likely to be subject to such treatment, the S.E.C. has given itself wide latitude.
Meanwhile, following up on my blog from a few days ago about the battle over ALJ use, SEC Enforcement Director Ceresney defended the SEC’s use of administrative law judges in a hearing of the House Financial Services Committee (see this SIFMA summary of the hearing and this article)…
This MoFo blog by Nilene Evans & Stephanie Uhrig is useful:
In November 2014, and further amended in February 2015, FINRA announced a comprehensive revision of the equity research rule currently numbered as NASD Rule 2711 and proposed a debt research rule modeled on the equity research rule. The equity research rule would be numbered FINRA Rule 2241 and the debt research rule would be numbered FINRA Rule 2242. The amended rule proposals can be found here: SR-FINRA-2014-047 (equity) and SR-FINRA-2014-048 (debt). The structures of the two rules are very similar but there are important differences. To guide your analysis of the two rules, here is a link to a line-by-line comparison of the two rules.
Proposed: The “Delaware Rapid Arbitration Act”
This proposed legislation – known as the “Delaware Rapid Arbitration Act” – is working its way through the Delaware General Assembly and would enable Delaware entities to engage in a rapid and efficient form of arbitration. It’s expected that the legislation will become law next month (with an effective date 30 days later). Here’s a set of FAQs on the bill – and a blog about it from the Delaware Division of Corporations.
March-April Issue: Deal Lawyers Print Newsletter
This March-April issue of the Deal Lawyers print newsletter is done and includes articles on:
– Five Day Tender Offers: What Can Market Participants Expect?
– Five Day Tender Offers: Conditions and Timelines
– Wake-Up Call for Private M&A Deal Structuring
– Courts Increasingly Skeptical of the Value of Disclosure-Only Settlements
– Transaction Costs: Negotiating Their Tax Benefit
– Food for Thought: Conflicting Views on the “Knowing Participation” Element of Aiding & Abetting Claims
If you’re not yet a subscriber, try a no-risk trial to get a non-blurred version of this issue on a complimentary basis.
As noted in this Reuters article, Bank of America filed this Form 8-K to note that it has adopted a proxy access bylaw with a formula of 3%/3-year formula – along with a group cap of 20 shareholders & nomination cap of 20% of board seats. As noted in this piece, BofA conferred with the NY Comptroller’s office and other pension funds before making this move – even though the proponent at BofA was retail holder John Harrington.
Hat tip to Simpson Thacher’s Yafit Cohn for pointing out that BofA is the 10th company to adopt their own proxy access bylaws:
1. CF Industries Holdings (5%, 3 yrs, cap of 20%, group of 20)
2. General Electric (3%, 3 yrs, cap of 20%, group of 20)
3. HCP (5%, 3 yrs, cap of 20%, group of 10)
4. Boston Properties (3%, 3 yrs, cap of 25%, group of 5)
5. YUM! Brands (3%, 3 yrs, cap of 20%, group of 20)
6. Arch Coal (5%, 3 yrs, cap of 20%, group of 20)
7. Prudential Financial (3%, 3 yrs, cap of 20%, group of 20)
8. Cabot Oil & Gas (5%, 3 yrs, cap of 20%, group of 10)
9. Priceline Group (5%, 3 yrs, cap of 20%, group of 20)
10. Bank of America (3%, 3 yrs, cap of 20%, group of 20)
Then there is Big Lots and Whiting Petroleum, which have reached agreements with the NY Comptroller’s office to adopt bylaws with the thresholds 3%, 3 yrs, cap of 25%, no group limit. These companies have not yet filed bylaw amendments.
Tune in tomorrow for the webcast – “Proxy Access: The Halftime Show” – during which Morrow’s Tom Ball, Davis Polk’s Ning Chiu, Covington & Burling’s Keir Gumbs, Gibson Dunn’s Beth Ising, TIAA-CREF’s Bess Joffe and Sullivan & Cromwell’s Glen Schleyer will analyze how companies decided to handle the new wave of proxy access shareholder proposals – and how investors might react to that.
As this blog notes, a few companies have left shareholder proposals regarding special meetings off their preliminary proxy statements. These special meeting proposals are akin to proxy access proposals in that they were initially challenged under Rule 14a-8(i)(9) but then the SEC said it would take “no view” in this area and the initial Staff responses were reversed (see this Corp Fin reconsideration letter to the Illinois Tool Works proponent)…
SEC Meets on Wednesday to Adopt Reg A+ Rules
The SEC has announced that it will hold an open Commission meeting on Wednesday to adopt the Reg A+ rules as required by Section 401 of the JOBS Act. This memo summarizes the comments received by the SEC on its proposal. See this McGuireWoods memo…
Speaking of comments, the ABA’s Business Law Section has submitted a comment letter on the S-K portion of the Corp Fin’s Disclosure Effectiveness project…
