Yesterday, Senator Charles Schumer – along with Senator Maria Cantwell – finally introduced the “Shareholder Bill of Rights Act of 2009” (this is the final proposed bill). Here is my ten cents on your burning questions:
1. Why? – Typically, it would be expected that this type of legislation would originate in Rep. Barney Frank’s House Financial Services Committee. So why did Senator Schumer begin frontrunning his own bill a few weeks ago. The likely answer is that influential parties wanted governance reform as part of the discussion over Obama’s “First 100 Days” to keep these issues in the spotlight. And Frank was too busy with financial regulatory reform to drum up something as a placeholder.
2. What? – As noted in this blog before, the bill is a virtual “wish list” for investors interested in reform (eg. CII’s press release and Paul Hodgson’s observations in “The Corporate Library Blog”) as it tackles every hot governance there is today (with the notable exception of CEO succession planning).
3. When? – The big question: “What are the odds of this bill getting passed?” I think the odds are fairly slim that this bill becomes law because it includes too many items that potentially contravene state law and open it up to a Constitutional challenge. However, if another big scandal suddenly surfaces, Congress could push this through unexpectedly (just as WorldCom’s implosion pushed Congress to adopt Sarbanes-Oxley).
The fact that only one other Senator placed her name on this bill is a “tell” that there might not be a lot of momentum for it. My guess is that Sen. Schumer wanted to make a mark within the first 100 days of the Administration – and that he wanted this bill to influence what Rep. Frank produces later in the year as well as influence the financial regulatory reform that is being crafted now. In the end, I think the chances of certain provisions of this bill becoming law by the end of the year is fairly high, including say-on-pay and shareholder access – just not as part of this bill.
4. If? – What if this bill gets passed? Wow…
Looks like the parameters of today’s proxy access proposal have been made available to the mainstream media since this NY Times’ article states: “The proposal would permit large shareholders — typically institutional investors like pension funds or hedge funds — or alliances of shareholders to nominate as many as one-quarter of the directors. For the 700 largest public companies, the proposal would require approval by 1 percent of the shareholders for a dissident slate to be nominated. For smaller companies, it would be either 3 percent or 5 percent, depending on the size of the business.
It Ain’t Over Til It’s Over: SCOTUS to Review Constitutionality of SOX
On Monday, the US Supreme Court granted certiorari and agreed to consider a constitutional challenge to ability of Sarbanes-Oxley to create the PCAOB. As you might recall, this is the long-standing case brought by a small auditing firm, Beckstead and Watts and the Free Enterprise Fund.
At issue is whether Congress treaded on the Constitution’s separation of powers, specifically Article 2, Section 2 known as the “Appointments Clause” because it gives power to the President to appoint and supervise executive-branch officials. The SEC appoints the members of the PCAOB’s board rather than the President – and the SEC can only remove the PCAOB board members “for cause.” Check out Professor Jay Brown’s blog on the chances of its success.
Last August, the US Court of Appeals for the DC Circuit – voting 2-1 – concluded that the SEC’s “comprehensive” oversight of the PCAOB satisfied the appointments clause. Then in November, the full DC Circuit voted 5-4 not to
reconsider the ruling. We continue to post the central pleadings in this case in our “Sarbanes-Oxley Reform” Practice Area.
May-June Issue: Deal Lawyers Print Newsletter
This May-June issue of the Deal Lawyers print newsletter is out and includes articles on:
– Reversing Course: Delaware’s Supreme Court Provides Comfort to Directors Regarding Revlon Process and Bad Faith
– Going In-House: Stewart Landefeld On His Time at Washington Mutual
– The Shareholder Activist Corner: Mario Gabelli’s GAMCO
– Are We There Yet? Issuer Debt Tender Offers and Offering Period Requirements
– Private Equity in 2009: “Back to Basics” Practice Tips
If you’re not yet a subscriber, try a no-risk trial to get a non-blurred version of this issue for free.
With changes in the legal profession being accelerated by an economic downturn, I thought it was an appropriate time to hold a webcast to look at how these trends may impact how you approach managing your career. The days of sitting in a job for thirty years clearly is over.
Tomorrow’s webcast – “Looking Out for #1: How to Manage Your Career” – will explore the differences between working in firms, the government and in-house. It also will explain how to best pick a recruiter and what can be expected from that relationship. And it will analyze how you can best market yourself, including the use of new technologies. Join these experts:
– Jim Brashear, Partner, Haynes and Boone LLP (and former Corporate Secretary of Sabre Holdings Corp.)
– Selena LaCroix, Head of US Practice Group and Managing Partner for the Dallas Office, Egon Zehnder
– Bob Major, Founding Partner, Major, Lindsey & Africa
– Kevin O’Keefe, Founder and CEO, LexBlog
– Broc Romanek, Editor, TheCorporateCounsel.net
– Manny Strauss, VP & Assistant General Counsel, XO Communications
It doesn’t matter where you work today. Even being in-house is not safe, just yesterday I participated on a panel that I jokingly referred to as “Where Corporate Secretaries Go to Die” to a chapter of the Society of Corporate Secretaries and there was a high level of interest.
Survey Results: Corporate Lack of Enthusiasm for XBRL
With XBRL mandated for the largest 500 companies next month, XBRL USA conducted a survey recently that shows that two-thirds of these companies are ready. While the organization touted this as a good thing, my reading of the results is “surprise” since that’s quite a few companies unprepared to meet a requirement that is looming very soon.
On top of this frightening news is this Grant Thornton survey of CFOs and senior comptrollers that shows that 64% of the respondent public companies have no plans to use XBRL (the respondents seem to include a cross-section of all companies, not those mandated to implement it next month). Even more scary is that 35% of the respondents said they are “not familiar” with XBRL.
These companies are lucky as SEC Chair Schapiro has indicated that XBRL is low on her priority list (as noted in this article), which I suppose could possibly mean a delay in the phase-in of mandatory XBRL for smaller companies.
Meanwhile, the SEC just calendared a seminar for June 10th to help companies learn how to comply with the new rules, to be held in DC and by webcast.
Meanwhile, XBRL is high up on Rep. Issa’s list as he seeks to use XBRL as a way to increase TARP’s transparency by introducing this bill. According to this letter, Rep. Issa thinks that standardized use of XBRL will prevent the next financial crisis. Wonder if I can get my hands on some of that Kool-Aid…
Hide n’ Go Seek? XBRL in Regulation S-K?
Here is a note I recently received from a member that I thought was worth pass ing on: Am I the only person who thinks it’s weird that the website requirement for XBRL wound up in Regulation S-K? Especially in Item 601? I have always thought of S-K as being only for cross-referencing from a form (i.e., 10-K, S-3, etc.), and surely Item 601 is only for describing exhibits. I am not sure why I care, but I am finding it annoying that they have sullied this system by placing a requirement in S-K that seems extraneous to the disclosure forms.
It’s with great sadness that I note the passing of Alison Youngman of Stikeman Elliott. Although I barely knew her, you can tell she was a special person by reading this memorial describing her. Condolences to her family and friends.
Well, the latest thing to tarnish the SEC’s reputation is making the rounds. CBS broke the news on Friday with this report that two SEC Enforcement attorneys are under investigation by the FBI for possible insider trading, based on a 56-page report from the SEC’s Inspector General. The mainstream media (eg. WSJ) blogosphere is humming with the news (eg. Crooks & Liars).
Here are the basics that we know from the IG’s report:
– The IG started to look into this matter in January ’08 after the SEC’s Ethics Office informed it of an Enforcement attorney who pre-cleared voluminous trades.
– The IG reviewed more than two years of email and broker records and broadened the inquiry to two other Enforcement attorneys (one of whom didn’t trade nor respond to emails from the other two, but did communicate with them otherwise about the markets).
– The IG referred its investigation to the FBI and DOJ after it noted that some of the trades by the two Enforcement attorneys occurred around the time that the SEC opened investigations into the related companies.
Here are some interesting tidbits from the report:
– Although the report doesn’t identify the two targeted Enforcement attorneys, we know that the female has been with the SEC since 1981 (and was referred to as a “stock guru” by the others, page 34) and the male is in Enforcement’s Chief Counsel office.
– These two targets – plus the other enforcement lawyer – had a “standing lunch” for Monday where they often discussed stocks and which often lasted 90 minutes (the name of the restaurant was redacted on page 30).
– The two targets frequently emailed about stocks – an average of one per day – and even had folders in their Outlook entitled “Stocks” to archive their emails. Yet, they denied under oath that they used their SEC email accounts to discuss the market and denied knowing the SEC’s policy of limiting personal emails to de minimis use (page 33).
– The colleagues of the targeted attorneys said they thought them to have integrity and character and would be very surprised if either used information for personal purposes and that they were careful, experienced attorneys (page 29).
As if to prove the overreaching by the mainstream media over the IG’s report, the Washington Post ran a top story on the front page in the form of this article on Sunday that honed in on the SEC’s Deputy Secretary and the allegation that she might have wielded her title in a phone fight with a broker whom she believed mishandled her mother’s account. While its arguable whether this might be bad etiquette, it certainly isn’t criminal and definitely shouldn’t be headline news. People use their station in life during their daily routines every day.
In my opinion, I think the Post decided to highlight this story over the suspicious trading because it was able to uncover the identity of the party – potentially ruining her reputation in the process – and because the other media outlets had overlooked this item. Get real.
My Ten Cents: What Does This Alleged Insider Trading Scandal Mean?
In the wake of these insider trading allegations, I’ve had numerous friends and family members contact me to wonder:
– Whether I knew the two people involved? (No, their identities have not been revealed.)
– What type of safeguards exist at the SEC against such conduct? (Not much, as detailed in the IG’s report.)
– How could this happen? (Even with a much sounder compliance program, anything can happen in this world. But note these two haven’t even been charged with insider trading misconduct.)
– Is this type of conduct rampant at the SEC? (I highly doubt it. I’ve worked at the SEC twice – and still network with many of them – and I’ve never had a single conversation with anyone about whether to trade a stock.)
– What took SEC’s Ethics Office so long to refer the matter to the IG? (It’s one of the things that the SEC needs to fix. Since the female attorney was day trading – 247 trades in a two-year period – and properly filing her pre-clearance paperwork with the SEC’s Ethics Office for most of those trades, it should have raised a red flag earlier. I seem to recall a six-month holding period for trades during tours of duty at the SEC – is my memory faulty?)
– Did I know that Enforcement’s Office of Chief Counsel had “bagel” meetings every Friday? (No. But I do now due to page 26.)
Here is my ten cents:
1. Bad Stuff Happens – Putting aside the reality that these two have not even been charged with anything, I point out that if the allegations were true that wouldn’t really mean much in “normal” times because I can pretty safely say that this is an isolated occurrence based on my own personal experience. Trust me, there is no rampant insider trading at the SEC. Those that work there know how simple it is to track it. Nearly all communications these days are digital and easily uncovered – and if someone starts hitting home runs in the markets without a track record of doing so = big red flag.
As those that watch a lot of TV know, just because a cop turns “bad” doesn’t mean the entire department is bad. But these are not normal times and the SEC is under heavy fire, so some serious damage control is required and fast. The SEC’s compliance procedures clearly need an overhaul, just like a number of processes at the SEC.
2. How Did This Information Get Public? – It looks like Senator Grassley forced it out into the open. As noted in this response from the SEC’s Inspector General to Senator Grassley, due to the nonpublic nature of the report, the IG had to go through a process that delayed releasing the report for five weeks.
The IG asked that the report be kept confidential due to the potential harm to the agency. Yet, the Senator choose to release the information. At least that seems to be the way this has happened, since the redacted IG report is not available from the SEC’s IG page.
3. Should This Information Have Been Made Public? – Not until something can be proven. As stated in this letter from Senator Grassley to Chair Schapiro, the Senator himself says that “it’s hard to imagine a more serious violation of the public trust that for the agency responsible for protecting investors to allow its employees to profit from non-public information about its enforcement activities.”
If the Senator recognized the damage that releasing this information could cause to the markets, why did he force this information into the public domain prematurely? There hasn’t even been charges of misconduct yet. At most what we have is that some Staffers lied under oath, took lunches that lasted too long; spent some of their working hours on personal business and violated some of the SEC’s policies regarding trading in the markets (egs. not reporting all trades). It’s pretty clear that the approval process was not used properly, but the more serious suspicions aren’t obvious here.
I imagine that the SEC Chair would have acted on the IG’s recommendations to strengthen the SEC’s compliance procedures without this dirty laundry being aired. But those that follow the SEC know that Grassley has had an axe to grind against the SEC, going back to him pressing the Pequot Capital Management case.
As an aside, did you see how the SEC took action to drum fraudulent securities off Craigslist the day after Craigslist forced prostitutes from its site…
Your Ten Cents: Should the IG’s Report Have Been Made Public So Soon?
Okay, you have my ten cents. Let me know how you feel (all votes are anonymous; you can select more than one answer):
Rare is the occasion where I blog about rumors, partly because they are often wrong – partly because the truth is soon known thereafter (so blogging the rumor serves no purpose other than the vanity that comes with being among the first to break the news).
But since Wednesday’s open Commission meeting to propose yet another reincarnation of proxy access is something that our community can’t get enough of – here is a Bloomberg piece by Jesse Westbrook which states that 1% is the ownership threshold that the SEC “may” propose. The article does specify the SEC “may” propose that threshold – which also means that it “may not.” The article notes that the final decision on the proposal’s content has not been made – as stated by SEC spokesman John Nestor – which I do believe to be the case.
So in the end, the article doesn’t really say much of anything that can be considered concrete (although I think highly of Mr. Westbrook) and that’s why I normally don’t blog about rumors…
If you can’t wait until next week to see the final version of Senator Schumer’s proposed “Shareholder Bill of Rights,” here is a draft and Mark Borges posted a brief summary in his “Proxy Disclosure” Blog this morning.
The SEC’s 75th Anniversary: Wanna Party?
On June 25th, the SEC Historical Society is hosting a 75th annual dinner at the National Building Museum – and it’s sold out. Personally, I passed on the official dinner due to the steep price tag of $250. There’s a recession on! I think the 60th anniversary celebration was more in the area of $20, but didn’t include dinner. Does anyone remember?
Anyways, I’m toying with the idea of picking a place nearby for a more informal gig the night before – on Wednesday, June 24th (it would be free as you would buy your own drinks). If you would be interested in such a thing, shoot me an email and I’ll see if we can raise a quorum.
The Society’s museum committee has put together this list of “75 Memorables,” which essentially is a list of the federal securities law/Wall Street highlights over the years. It’s a hard list to concoct as it’s obviously subjective – rejection of PUHCA (#69) and real-time access to EDGAR made the cut (#65; remember that the SEC used to make investors wait 24 hours to get access to filings until they were able to get out of that contractual restriction in ’02; probably one of the craziest things the SEC has ever done); adoption of XBRL did not…
“Early Bird” Rates: Expire Next Friday, May 22nd
Note that in response to our generous early bird offer for the “4th Annual Proxy Disclosure Conference” (whose pricing is combined with the “6th Annual Executive Compensation Conference”), the conference hotel is close to being “sold out.” These Conferences will be held at the San Francisco Hilton and via Live Nationwide Video Webcast on November 9-10th.
Act now, as this tier of reduced rates will not be extended beyond next Friday! With the SEC intending to propose new executive compensation rules in the near future – and Congress looking to legislate executive compensation practices this year, these Conferences are a “must.” Register now.
Facing pressure by Congress and others who are impatient to see action (e.g. recent introduction of the “Authorizing the Regulation of Swaps Act” in the Senate), the Treasury Department outlined plans yesterday to regulate derivatives. Under these plans, the Commodity Futures Modernization Act of 2000 would be rolled back. The plans are detailed in this letter by Treasury Secretary Geithner to Congress and in this Treasury Department statement.
This action followed remarks by President Obama that he intends to rein in pay practices at all financial institutions, not just those receiving TARP money. It’s unclear yet what form these restrictions would take, although a few alternatives are posited in this WSJ article.
In this WSJ video, Joann Lublin does a great job explaining the futile consequences of past efforts by the government to rein in pay. Takes the words right out of my mouth…
SEIU Pushes for Clawbacks of Excessive Pay
Recently, the SEIU Master Trust – the pension funds managed on behalf of the SEIU – sent letters to the boards at 29 major financial services companies, demanding that they investigate more than $5 billion in compensation to their NEOs that may have been tied to derivatives and other instruments that are now worthless. The SEIU argues that if the payments – including cash and equity – are shown to be based on false economic metrics, they may be subject to clawbacks. They further demand that the boards overhaul their executive compensation practices so that the NEOs don’t reap bonuses and other incentivized pay regardless of corporate performance. A list of the 29 companies is at the bottom of this press release.
In this CompensationStandards.com podcast, Mike Barry of Grant & Eisenhofer and Stephen Abrecht of the SEIU explain this movement to seek clawback of excessive pay, including:
– How did the SEIU choose the targeted 29 companies?
– What legal theories are being used to seek recovery of excessive pay?
– What did the letters request? Do they seek responses from the boards of the companies?
Recently, the Council of Institutional Investors revised its governance policies regarding clawbacks to make it broader, asking companies to recapture compensation in circumstances beyond fraud. That’s all well and good, but it’s just as important for boards to adopt clawbacks with “teeth” (we outlined exactly how to do this in our Winter ’08 issue of Compensation Standards).
FINRA Proposes Changes to Conflicts of Interest Rules in Public Offerings
The SEC has finally published FINRA’s proposal to change its broker-dealer conflict of interest rules in public offerings of securities by a broker/dealer or an affiliate of a broker/dealer. FINRA has been seeking to change Rule 2720 since 2007. We have posted memos regarding the proposal in our “Underwriting Arrangements” Practice Area.
The SEC has announced that it will consider “whether to propose changes to the federal proxy rules to facilitate director nominations by shareholders” at an Open Meeting scheduled for next Wednesday, May 20. As Chairman Schapiro had promised, the SEC is moving forward quickly with its corporate governance agenda, with more proposals likely to follow in the next few months.
It is still hard to believe that the access debate has been going on for nearly 70 years. The debate originally kicked off with a Staff study in the early 1940’s that resulted in the solicitation of comments on a proposal to revise the proxy rules to provide that “minority stockholders be given an opportunity to use the management’s proxy materials in support of their own nominees for directorships.” Today, the SEC has thousands upon thousands of comment letters, as well as roundtables and other commentary, to draw upon resulting from the 2003 “universal” access approach and the 2007 Rule 14a-8 approach. I think that this remains one area where both sides are dug in, so we will still likely see fierce opposition to pretty much any proposal that the SEC puts forward.
Revised CDI Gives More Leeway on Selling Shareholder Disclosure
As Broc mentioned in the blog last month, the Staff recently updated a number of CDIs. Among the revised CDIs was Securities Act Rules CDI Question 220.04, which deals with how registration statements for secondary offerings should be revised to reflect the substitution or addition of selling shareholders. While the adoption of Rule 430B back in 2005 provided much more flexibility for issuers to deal with changes in the selling shareholder table, there remain situations where issuers do not meet the requirements for Rule 430B (i.e., when the issuer is not eligible for primary offerings under General Instruction I.B.1 of Form S-3).
The prior iteration of CDI Question 220.04 carried over some old concepts from a predecessor Telephone Interpretation and provided that issuers ineligible to rely on Rule 430B were required file a post-effective amendment (rather than a prospectus supplement) in order to add or substitute any selling shareholders, except that a prospectus supplement could be used to reflect donative transfers or de minimis transfers for value (e.g., less than 1% of outstanding) from a previously identified selling shareholder.
In the revised version of the CDI, the Staff notes that an issuer not eligible to rely on Rule 430B when the registration statement is initially filed must still file a post-effective amendment to add selling shareholders to a registration statement related to a specific transaction that was completed prior to the filing of the resale registration statement. However, the Staff now says that a prospectus supplement can be used to update the selling shareholder table to reflect any transfer from a previously identified selling shareholder, so long as the new selling shareholder’s securities were acquired or received from a selling shareholder previously named in the resale registration statement, and the aggregate number of securities or dollar amount registered has not changed.
The revision to this CDI provides significantly more flexibility for issuers that are not eligible to use a shelf for primary offerings to update the selling shareholder information in the prospectus for the type of normal course transfers that happen all of the time. By avoiding the filing of post-effective amendments, issuers are not faced with potential delays in the completion of secondary sales during the waiting period before the Staff declares the filng effective.
Staff Guidance on Dealing with Preliminary Earnings Estimates
Situations sometimes arise where an issuer may feel compelled to put out preliminary earnings numbers, which may at the time of issuance represent estimates of the potential results. In new Form 8-K CDI Question 106.07, that Staff notes that when an issuer reports “preliminary” earnings and results of operations for a completed quarterly period, the issuer must comply with all of the requirements of Item 2.02 of Form 8-K, even when those preliminary results may be estimates.
Further, while not discussed in the CDI, it should be noted that when the issuer provides the “final” earnings numbers, a separate Item 2.02 of Form 8-K obligation would be triggered. Instruction 1 to Item 2.02 specifies that the requirements of Item 2.02 are triggered by disclosure of material non-public information regarding a completed fiscal year or quarter, and that the release of any additional or updated material non-public information regarding a completed fiscal period would trigger an additional Item 2.02 Form 8-K.
Yesterday, Treasury released details of the Obama Administration’s tax proposals, including a wide variety of proposed tax cuts and tax revenue raisers included as part of the 2010 budget. The Treasury’s document provides additional details regarding the Administration’s efforts, announced last week, to shut down overseas tax havens. In describing this initiative, which is estimated to raise $95.2 billion over the next 10 years, President Obama said “[f]or years, we’ve talked about shutting down overseas tax havens that let companies set up operations to avoid paying taxes in America. That’s what our budget will finally do. On the campaign, I used to talk about the outrage of a building in the Cayman Islands that had over 12,000 business – businesses claim this building as their headquarters. And I’ve said before, either this is the largest building in the world or the largest tax scam in the world.” (The White House press release notes that one address in the Cayman Islands houses 18,857 corporations, few of which have any actual presence on the island.) As noted in this Bloomberg article, the proposals seeking to close corporate tax “loopholes” face some stiff opposition and an uncertain future in Congress.
Among the proposals discussed in more detail in Treasury’s summary include:
– limiting deductions associated with deferred profits retained in foreign subsidiaries of U.S. corporations;
– disallowing foreign tax credits for taxes paid on income that is not yet subject to U.S. tax; and
– treating interest payments received by low-taxed foreign affiliates from high-taxed foreign affiliates as subject to current U.S. tax.
Check out the memos posted in our new “Tax Havens” Practice Area for more details on the Administration’s proposals.
SEC’s Brings Proxy Voting Case Against an Investment Adviser
The SEC recently brought a settled administrative proceeding against INTECH Investment Management LLC and its Chief Operating Officer for exercising voting authority over client securities without having written policies and procedures “that were reasonably designed to ensure it voted its clients’ securities in the best interests of its clients” and also failing to adequately disclose the voting policies and procedures to clients.
The case was brought under Investment Advisers Act Rule 206(4)-6, which was adopted in 2003 and requires that advisers adopt and implement policies and procedures reasonably designed to ensure that they vote their clients’ proxies in the clients’ best interests, including addressing material conflicts that may arise between the adviser’s interests and those of its clients. The rule also requires that advisers disclose to clients how they can obtain information about how the adviser voted proxies, and describe to clients the adviser’s proxy voting policies and procedures.
In the case, the SEC alleged that INTECH had used ISS recommendations for its voting policies, but had moved from ISS General Guidelines to ISS Proxy Voter Service (PVS) under circumstances involving a potential conflict of interest. The SEC alleged that INTECH chose to follow the voting recommendations of ISS-PVS while the adviser was participating in the annual AFL-CIO Key Votes Survey that ranked investment advisers based on their adherence to the AFL-CIO recommendations on certain votes, and the adviser believed that an improved score in the AFL-CIO Key Votes Survey would be helpful in maintaining existing and attracting new union-affiliated clients, without considering the impact on clients not affiliated with unions.
It will be interesting to see if this case represents one isolated incident, or if it reflects a broader area of SEC interest, given the ongoing concerns with proxy voting.
Chairman Schapiro’s Outline for Regulatory Reform
With Congress moving slowly on the financial regulatory reform front, it certainly gives regulators an opportunity to fight for their position in the new reformed landscape. Chairman Schapiro took that opportunity in a speech last Friday before the Investment Company Institute. In the speech, the Chairman outlined her vision of the SEC’s role in the new world order as an independent capital markets regulator that is united, and not divided, in approaching the regulation of the products, disclosure and intermediaries. Chairman Schapiro also endorsed FDIC Chairman Sheila Bair’s call for a single regulator for systemically significant firms coupled with a systemic risk council to provide macro-prudential oversight of risk.
As the proxy season progresses, we are starting to see the results from efforts by activist investors to move Say on Pay forward through the shareholder proposal process. Not surprisingly, proposals asking companies to implement an advisory vote on executive compensation have been garnering significant levels of support this season, as the outrage over pay levels continues largely unabated.
Last week, AFSCME issued a press release noting “[w]ith 29 Say on Pay proposals voted on since the start of the 2009 shareholder season, ten have received a majority of the votes cast (out of FOR and AGAINST votes). These 29 proposals have averaged more than 46 percent support, and this level of support is expected to increase as companies release their final voting numbers. Approximately 80 Say on Pay shareholder proposals are expected to be voted on this year.” Generally, the level of support this year has been higher than the support received for similar proposals in the very short history of the Say on Pay shareholder proposal.
Ted Allen of RiskMetrics Group recently provided some additional insights in the RMG Risk & Governance blog, noting “[t]he best showing so far this season was 62 percent support for a shareholder proposal at Hain Celestial; the lowest were 30 percent votes at Eli Lilly and Burlington Northern Santa Fe, according to RiskMetrics data. The two votes appear to reflect the firms’ ownership mix. At Lilly, a family endowment holds an 11.9 percent stake; at Burlington Northern, Berkshire Hathaway owns a 22.6 percent stake. In the coming weeks, ‘say on pay’ proposals are scheduled for a vote at Chevron, ConocoPhillips, Exxon Mobil, Home Depot, McDonald’s, Qwest Communications, Raytheon, Target, UnitedHealth, and Yum! Brands.”
For at least one company that has already implemented Say on Pay, apparently not all shareholders are on the warpath – as noted in this Washington Post article, last week shareholders overwhemingly supported executive pay at Verizon Communications with a 90% vote in favor!
CalSTRS Calls for Pay Reforms at 300 Companies
Say on Pay features prominently in a new initiative announced by CalSTRS last week. CalSTRS is calling on 300 of its portfolio companies to develop executive compensation policies and to allow shareholders advisory votes on those policies.
As part of the initiative, CalSTRS has published model executive compensation policy guidelines, as well as some broad executive compensation principles for the targeted companies to follow. CalSTRs plans to step up its engagement with the 300 targeted companies on executive pay issues, and in the event that the companies are unresponsive, the pension fund will ultimately vote against or withhold votes in directors’ re-election.
Deal Protection: The Latest Developments in an Economic Tsunami
On Tuesday, the SEC held its Roundtable on Short Selling (you can still catch the archive of the four hour session), where the Commission solicited the views of a variety of interested parties, including representatives of public companies, broker-dealers, SROs, funds and academics. In her opening remarks, Chairman Schapiro noted that short selling has outpaced any other issue “in terms of the number of inquiries, suggestions and expressions of concern.” Chairman Schapiro noted that an evaluation of short sale regulation is a priority for the Commission.
As could be expected, the views expressed on short selling were diverse and there was not necessarily a lot of common ground. The one exception is with respect to naked short selling, where the panelists lauded the SEC’s efforts in 2008 to try to address abusive naked short selling. As for other issues, representatives of the investment industry seemed to favor the less dramatic individual stock circuit breaker approach, while some issuer representatives seemed to favor market-wide measures. One of my favorite quotes from the session was from William O’Brien, CEO of the stock trading platform Direct Edge, who said of broad scale short selling restrictions: “Nobody likes being stung by a bee, but you don’t kill all the bees and then wonder why all the flowers have died.” Yet another issue that received some attention was the cost and time that would be necessary to implement any new short sale regulations.
With the Roundtable out of the way, now it is time for the SEC to start considering the comments and narrowing down the options to one workable approach. The comment period closes June 19.
If you are looking for a more “blow-by-blow” account of the Roundtable, then you should check out the tweets of SEC Investor Ed on twitter. Staff in the Office of Investor Education and Advocacy at the SEC are busy twittering away, including providing an account of the Roundtable in 140 character increments.
Short Sale Studies: Mixed Results from Last Year’s Emergency Actions
The SEC recently posted a study performed by its Office of Economic Analysis regarding the impact of last July’s ban on naked short selling of the securities of 19 large financial institutions. After comparing the performance of the securities subject to the ban to control groups of securities not subject to the ban, the SEC’s economists concluded that “imposing a pre-borrow requirement may have had the intended effect of reducing fails but may have resulted in significant costs on all short sellers even those whose actions were not related to fails.”
With another perspective, Abraham Lioui recently published an EDHEC-Risk Position Paper presenting a study of last year’s short sale bans. Lioui notes in the Summary:
“As a result, short sellers perhaps did not really merit the punishment that, by simply banning the shorting of the shares of financial institutions, the market authorities recently meted out. It also seems (and this study confirms it) that the shares that were the object of the ban were relatively unaffected by it. All the same, this drastic measure cast the market authorities in a particularly negative light. After all, the reasons for this measure are unclear, a lack of clarity that adds to the bewilderment of the market. The market, of course, reacted accordingly.
The ban on short selling was followed by a sharp rise in the volatility of the markets, and on the stock markets concerned the impact of the ban was systematic; the impact on volatility was greater than that of the financial crisis. In general, the risk/return possibilities of investors worsened. And although it is hard to substantiate the impact on the volatility of the shares, the rise in the volatility of these shares, which is undeniable, is a result of the rise in idiosyncratic risk and thus of the noise in the markets. As a consequence, share prices deviate yet more from their fundamental value. Finally, the desired effect on market trends has not been achieved (no reduction of the negative skewness of returns is being observed) and there is no evidence of the possible impact of this measure on extreme market movements. What is clear is that stock market indices now have components that are subject to different rules, differences that make them even less representative and relevant.”
New Delaware Decision: Reaffirmation of Pre-Suit Demand Precluding Challenge to Board Independence
Here is some commentary from Brad Aronstam of Connolly Bove Lodge & Hutz: Recently, the Delaware Court of Chancery issued this letter opinion in FLI Deep Marine LLC v. McKim (C.A. No. 4138-VCN) affirming the well-settled principle that shareholders making a demand upon a board of directors concede the independence of a majority of the board and, as such, will be precluded from later arguing that demand should be excused because the directors were conflicted. While this holding is far from revolutionary, the action involved atypical facts that warrant attention by practitioners counseling boards and shareholders in this common setting.
The minority shareholders of Deep Marine Technology alleged that the Company’s majority shareholders and their designees had looted the Company. Rather than pleading demand futility based upon the board’s lack of independence, the minority shareholders made a pre-suit demand requesting that the Company’s directors take immediate action to, among other things, investigate the alleged wrongdoing and bring appropriate action to recover the funds wrongfully diverted from the Company. The directors responded to the demand the following day by forming a special committee comprised of two directors – who themselves were accused of wrongdoing – to investigate the allegations of the demand. Three weeks later, “before the special committee had completed its investigation and before the Board took any action concerning the demand,” the minority shareholders filed suit alleging that demand was futile and should be excused.
As noted by Vice Chancellor Noble, “[t]he requirement of demand effectuates the ‘cardinal precept’ that directors manage the business and affairs of the corporation.” Delaware could “hardly be clearer” that a plaintiff’s pre-suit demand “conclusively concede[s] the independence of the Board, and . . . preclude[s] [the shareholder] from [later] arguing that demand should be excused because the directors are conflicted.”
The Court rejected the plaintiffs’ request for an exception to this “well-settled” rule on the grounds that “the Board and its special committee [we]re comprised of allegedly conflicted directors” and thus “the Board’s consideration of their demand [wa]s ‘a farce meant to giver the illusion of independence where none exists.'” While recognizing that the plaintiffs “might well be correct” concerning the alleged lack of independence and disinterestedness among the board given the Complaint’s allegations, the Court categorized the plaintiffs’ decision to make a demand as “inexplicable” and “improvident.” The Court refused to “grant the plaintiffs relief from a strategic decision they now regret,” as doing so would “part ways with established Delaware law.” The Court implied that it might have reached a different decision if the plaintiffs could establish that “their plea . . . [was] based on new information” concerning the Board’s lack of independence.
The decision reaffirms that shareholders who make a demand cannot later (absent new information) challenge director independence and wrestle control of potential claims from a special committee prior to that committee’s findings (if at all). Shareholders must therefore continue to think long and hard about whether to make a demand or allege demand futility.
Practitioners should also note that although the Court refused to endorse a specific timetable for a special committee to conduct and complete its investigation (see Op. at 11 noting that “whether the board has taken more than a reasonable amount of time to conduct its investigation is a fact question, and one for which no formula exists”), a committee should be prepared to offer a “persuasive reason” for the length of its investigation.
Before we all move on with the next phase of the SEC’s revived enforcement efforts, we still have occasion to review what may have helped get use into this mess. As reported in this Bloomberg story from yesterday, the GAO released a report at the end of March outlining the headwinds faced by the Enforcement Staff over the past several years. (Broc mentioned the report in the blog last month.) Today, the Senate Subcommittee on Securities, Insurance, and Investment of the Committee on Banking, Housing, and Urban Affairs will hold a hearing on strengthening the SEC’s enforcement responsibilities.
The Bloomberg story points out how the GAO found that the SEC instituted policies that “slowed cases and led enforcement-unit lawyers to conclude commissioners opposed fining companies.” As one unidentified Staffer put it, there was a feeling that the Commissioners prevented Enforcement from “doing its job.” The findings of the GAO’s report bear out my own experience during those years, not only with respect to Enforcement but also with respect to all other regulatory matters – hostility toward the Staff and its recommendations became institutionalized, which served to not only demoralize the Staff but also to result bad decisions being made at all levels.
The report also notes the use of executive sessions during former Chairman Cox’s tenure, where some Enforcement Staff were barred from participating. The report indicates that executive sessions occurred on 40% of the days when the SEC met to vote in closed Commission meetings in 2008, more than three times the rate in 2005 when Cox was appointed Chairman (but equal to the rate from 2003 and 2004).
As for the future of Enforcement, Chairman Schapiro reiterated her agenda for the Division of Enforcement in an address last week to the Society of American Business Editors and Writers. She noted that she has streamlined SEC enforcement procedures by no longer requiring full Commission approval to launch an investigation, and eliminating the need for approval by the full Commission before negotiating a settlement. She stated “before these directives, enforcement attorneys will tell you that they worried about red lights at every turn — now they see green.” This is sure to mean many more inquiries and, in all likelihood, much speedier cases as the Enforcement Division ramps up again.
SEC Brings First Credit Default Swap Insider Trading Case
Earlier this week the SEC filed a complaint alleging insider trading in credit default swaps. The SEC noted in its Litigation Release that this case is the first of its kind – and I suspect that it is certainly not the last case we will see regarding the much-maligned credit default swap market. Not only is the case novel in the sense that the alleged insider trading and tipping occurred with respect to credit default swaps, but it is also another notable case of the SEC alleging insider trading in fixed income markets. The SEC’s interest in this area was highlighted two years ago in the settled case of SEC v. Barclays Bank PLC, Litigation Release No. 20132 (May 30, 2007). (For more on the implications of that case, check out our “Insider Trading” Practice Area.)
In terms of the SEC’s jurisdiction over the trading in the OTC derivatives, the SEC noted in the complaint that “[t]he CDSs at issue in this matter qualify as security-based swap agreements under the Gramm-Leach-Bliley Act of 2002 and are therefore subject to the antifraud provisions set forth in Section 10(b) of the Exchange Act and the rules promulgated thereunder.”
Cracking Down on an Opinion Mill
While on an Enforcement theme here, I note that the SEC brought an action earlier this week against the operators of what the SEC called a Rule 144 “opinion mill.” In its Litigation Release, the SEC notes that it has filed a complaint against the operators of 144 Opinions, Inc., which runs the website www.144opinions.com. They are alleged to have “issued fraudulent legal opinions used by promoters in a pump-and-dump scheme, and others, to sell securities in violation of the registration provisions of the federal securities laws.” Rule 144 opinions over the Internet – what will they think of next? Maybe we will have to start twittering Rule 144 opinions some day…
