Those of you following ISS policy changes know that ISS will now recommended withholding votes for “over-boarded” directors. Current ISS policy is that overboarded directors are defined as those directors that serve on more than 6 boards (or for CEOs, those that sit on more than 3 boards, including the CEO’s own board).
As can be expected under this new policy, a number of members have told me that ISS has indicated that one of their directors is over-boarded this year – and the choice the company then faces is either having the director roll off boards to reach the ISS policy limit or bear the burden of a recommendation that votes be withheld from the director.
If a director decides to roll off, ISS requires that this corrective action be made public somehow, as this public disclosure serves as notice to all interested parties and covers the promise to ISS with the anti-fraud protection of the federal securities laws. This can be done either through a SEC filing or press release; although here ISS prefers for the disclosure to appear in each relevant proxy statement(s) where the director is listed as a nominee (which can be accomplished by adding a tag line to the bottom of the director’s bio, similar to the language noted in the example below). ISS prefers disclosure in these proxy statements as a way to ensure that shareholders of each company have access to the information.
As an example of what this disclosure might look like, check out this Form 8-K filed by Cousins Properties filed on April 15th that states:
“Thomas D. Bell, Jr., President and Chief Executive Officer of Cousins Properties Incorporated (the “Company”), currently serves on the boards of directors of more than three publicly traded companies. He has announced that by the spring of 2006, and for so long as he is the Chief Executive Officer of the Company, he intends to serve on the boards of directors of no more than three publicly traded companies (including the Company).”
Calling All Reg FD Questions!
In connection with our webcast next Monday – “The Latest Regulation FD Practices” – please send any questions in advance to me via email at broc.romanek@thecorporatecounsel.net and we will try to address them during the program (you can simply hit the “Email Broc” link on the left side of this blog).
And don’t forget to cast your vote in our survey on Reg FD practices on the home page of TheCorporateCounsel.net.
Looking for Venture Capital Content
According to Inc.com, venture capital in the US doubled in 2004. We have created a new “Venture Capital” Practice Area. Check it out and let me know if you have any content or further ideas to bolster it! Any potential bloggers out there?
On Saturday, the NY Times ran this article about a “road map” from SEC Chief Accountant Donald Nicolaisen which would allow European companies to sell securities in the U.S. without having to revise their financial statements.
Outlined in this recent speech by the Chief Accountant, the road map envisions that by 2009 (and perhaps as early as 2007) companies that follow International Accounting Standards might be able to file financial reports with the SEC without reconciling the reports with US GAAP. Here is a Paul Weiss memo that discusses the road map.
The article has quotes from European regulators and this one from SEC Chairman Donaldson: “achieving the goal would depend in part on a detailed analysis of the faithfulness and consistency of the application and interpretation of international accounting standards in financial statements across companies and jurisdictions.” This jibes with what the Chairman noted in his meeting last week with EU Market Commissioner Charles McCreevy.
The article also says the SEC expects about 300 companies, primarily European, to file annual reports next year that use international standards, which are now required in Australia and in the European Union. While Australian companies must follow all of these international rules, the European Commission gave European companies permission to opt out of complying with major parts of a rule concerning derivative securities.
30 Nuggets Transcript is Up!
On DealLawyers.com, the much-sought-after transcript from “30 M&A Nuggets in 60 Minutes” is posted.
My Last Word on Lease Restatements
I’ve blogged a bit about the “biggest category of restatements we’ve ever seen” after the SEC’s Office of Chief Accountant posted a letter regarding lease accounting in February. In last Wednesday’s WSJ, I saw the most accurate description of why the SEC released that letter, indicating that the SEC Chief Accountant was merely reacting to what the Big 4 had suddenly realized regarding past lease accounting practices. Here is an excerpt from that article:
“It all started in November, when KPMG LLP told fast-food chain CKE Restaurants Inc. that it had problems with the way CKE recognized rent expenses and depreciated buildings. That led CKE to restate its financials for 2002 as well as some prior years. CKE will also take a charge in its upcoming annual filing for 2003 through its just-ended 2005 fiscal year.
By winter, the Big Four accounting firms had banded together to ask the Securities and Exchange Commission’s chief accountant to clarify rules on lease accounting. Retail and restaurant trade groups began battling rule makers about the merits of issuing such guidance.
Now, about 250 companies have announced restatements for lease-accounting issues similar to CKE’s, and the number continues to rise daily.”
“Gripe Sites” Protected in 9th Circuit
Many companies have had to deal with so-called “gripe sites” — unauthorized websites that not only criticize the company or its products, but also use the company’s own trademark as part of the website’s domain name. Here is an article that explains what gripe sites are and here is a website that comments upon – and keeps track – of gripe sites.
As noted in this Skadden Arps’ memo, earlier this month, the U.S. Court of Appeals for the Ninth Circuit found that the noncommercial use of a trademark as the domain name of a gripe site does not constitute infringement of a trademark. The court’s decision removed an important argument on which plaintiffs rely in such cases and split from an earlier Fourth Circuit decision.
Long-awaited, the notes from the 2004 meeting between the SEC Staff and the ABA’s Joint Committee on Employee Benefits were just released and reflect discussions with Staffers held after last May’s meeting. A lot of tough questions were dealt with in the JCEB meeting as the new 8-K rules were adopted during that period and the Staff’s 8-K FAQs released last Fall reflect some of those discussions. The 2005 JCEB/Staff meeting is being held in a few weeks.
In response to my blog yesterday about parts of Corp Fin moving today, several members asked where they should mail confidential treatment requests and other materials that get sent in hard copy to the SEC. The answer is that they don’t go to a new address yet; they still go to 450 Fifth Street until the SEC makes an announcement to the contrary. This might take a few months as the Staff will be spread out over the two buildings until sometime this Summer. Will keep you posted.
By the way, Corp Fin now has released the new phone numbers for those Operation offices that move today. All of the new numbers are reflected in our constantly updated “SEC Staff Organization Chart.”
Risks of Sharing Pleadings with the Media
My favorite interviews are those during which I learn a lot; I knew little about sharing pleadings with the media until I conducted this interview with Chris Ohly on Risks of Sharing Pleadings with the Media.
This Friday, the first wave of the SEC gets moved – one floor at a time – starting with Corp Fin. It’s important to note that Staffer phone numbers will change – you will be able to call any old phone number to listen to a message detailing the new number. But Staffers will not be able to access voicemail on their old phones once they move – so don’t leave any messages if a recording says the Staffer has a new number.
For the Chief Counsel’s well-known number – 202.942.2900 – the recording now says that on Monday, April 25th, the number will change to 202.551.3500. Here are the other new phone numbers for Corp Fin announced so far.
[As an aside, some Staffers had some of my old oil paintings in their offices – and they didn’t want them anymore – so I picked them up and you might see them soon on Ebay.].
Annual Meeting Preparation Extravaganza
With many annual stockholder meetings approaching, we have posted numerous sample documents relating to the annual meeting – courtesy of Stephen Older of Akin Gump – in our “Annual Stockholders’ Meeting” Practice Area. In addition, don’t forget the audio archive and transcript of last year’s great webcast: “Conduct of the Annual Meeting.”
SEC Releases Study on Administrative Proceedings
Not sure who follows what the Administrative Law Judges are up to, but if you care – here is a study of the ALJ activities over the past year that the SEC released yesterday.
Yesterday, KPMG settled with the SEC over the financial fraud at Xerox, for which Xerox paid a record fine of $10 million in 2002. KPMG will pay $10 million in penalities itself, in addition to disgorging nearly $10 million in audit fees and another $2.7 million in interest. Another gatekeeper case; KPMG’s spokesperson stated that the settlement did not involve findings that KPMG’s conduct was fraudulent or reckless.
The SEC’s Order requires KPMG to undertake a series of reforms designed to prevent future violations of the securities laws, after finding that KPMG caused and willfully aided and abetted Xerox’s violations of the anti-fraud, reporting, recordkeeping and internal controls provisions of the federal securities laws. The Order also finds that KPMG violated its obligations to disclose to Xerox’s illegal acts that came to its attention during the Xerox audits. The SEC’s civil fraud injunctive action against the five KPMG partners involved in the Xerox audits during the period of fraud is ongoing.
Regulation FD Practices Survey
On the home page of TheCorporateCounsel.net, we have posted a new survey on Reg FD practices. Please participate – and also check out the running results. The final results will tie in well with the webcast – “The Latest Regulation FD Practices” – on May 2nd.
US Supreme Court Reverses 9th Circuit Decision in Dura Pharmaceuticals
Yesterday, the US Supreme Court issued this opinion in Dura Pharmaceuticals v. Broudo and overturned the 9th Circuit’s findings about loss causation. It is a unanimous decision authored by Justice Breyer.
Here is the analysis from Lyle Roberts, who blogs in “The10b-5 Daily“: As predicted, the court rejected the Ninth Circuit’s price inflation theory of loss causation. Instead, the court held that a plaintiff must prove that there was a causal connection between the alleged misrepresentations and the subsequent decline in the stock price.
Loss causation (i.e., a causal connection between the material misrepresentation and the loss) is an element of a securities fraud claim. In the Dura case, the Ninth Circuit had held that to satisfy this element a plaintiff only need prove that “the price at the time of purchase was inflated because of the misrepresentation.” (See this post for a full summary of the Ninth Circuit’s decision.)
On appeal, the Supreme Court made three key findings in rejecting the price inflation theory of loss causation. First, the court dismissed the idea that price inflation is the equivalent of an economic loss. The court noted that “as a matter of pure logic, at the moment the transaction takes place, the plaintiff has suffered no loss; the inflated purchase payment is offset by ownership of a share that at that instant possesses equivalent value.” Moreover, it is not inevitable that an initially inflated purchase price will lead to a later loss. A subsequent resale of the stock at a lower price may result from “changed economic circumstances, changed investor expectations, new industry-specific or firm-specific facts, conditions, or other events, which taken separately or together account for some or all of that lower price.”
Second, the court found that the price inflation theory of loss causation has no support in the common law. The common law has “long insisted” that a plaintiff in a deceit or misrepresentation action “show not only that if had he known the truth he would not have acted but also that he suffered actual economic loss.” Accordingly, it was “not surprising that other courts of appeals have rejected the Ninth Circuit’s ‘inflated purchase price’ approach.”
Finally, the court noted that the price inflation theory of loss causation was arguably at odds with the objectives of the securities statutes, including the PSLRA. The statutes make private securities fraud actions available “not to provide investors with broad insurance against market losses, but to protect them against those economic losses that misrepresentations actually cause.” In particular, the PSLRA “makes clear Congress’ intent to permit private securities fraud actions for recovery where, but only where, plaintiffs adequately allege and prove the traditional elements of causation and loss.”
As clear as the opinion is on the issue of the price inflation theory, it fails to provide much guidance on what a plaintiff must allege on loss causation to survive a motion to dismiss. The court assumed, without deciding, “that neither the [Federal Rules of Civil Procedure] nor the securities statutes impose any special further requirements in respect to the pleading of proximate causation or economic loss.” Even under the notice pleading requirements, however, the complaint’s bare allegation of price inflation was deemed insufficient. As stated by the court, “it should not prove burdensome for a plaintiff who has suffered an economic loss to provide a defendant with some indication of the loss and the causal connection that the plaintiff has in mind.”
Holding: Reversed and remanded for proceedings consistent with opinion.
Addition: A few initial thoughts on the Dura opinion from Lyle:
(1) The case is a significant victory for defendants in the Eighth and Ninth Circuits, which were the only two courts to adopt the price inflation theory of loss causation.
(2) Although the Supreme Court has put the price inflation theory to rest, its opinion raises some complicated questions about recoverable loss. For example, the Supreme Court notes that many factors other than misrepresentations can cause a stock price decline, but does not provide any guidance on how plaintiffs can meet their burden of proof for loss causation in cases where some or all of these other factors are present.
(3) The opinion is unclear on an issue that was expressly raised on appeal: does the stock price decline need to be the result of a corrective disclosure that reveals the “truth” to the market? The Supreme Court makes some opaque references to when “the relevant truth begins to leak out” and “when the truth makes its way into the market place,” but does not squarely address whether there is any need for plaintiffs to establish the existence of a corrective disclosure.
(4) Finally, as noted above, the Supreme Court expressly leaves open the question of whether F.R.C.P. 9(b) or the PSLRA requires plaintiffs to plead loss causation with particularity. The lower courts will need to decide whether these statutes are applicable.
Yesterday, the SEC announced that Coke has settled an enforcement action relating to the company’s failure to disclose certain end-of-quarter sales practices used to meet earnings expectations. In reaction to the SEC’s action, Coke has already voluntarily taken steps to strengthen its internal disclosure review process.
One aspect of this settlement to highlight was that even though Coke’s accounting treatment for sales made in connection with “gallon pushing” (i.e. a form of “channel stuffing” in the beverage industry) was found to be without issue, the SEC still found that the company’s failure to disclose the impact of gallon pushing on current and future earnings in MD&A, as well as the false statements and omissions in a subsequent Form 8-K, violated the antifraud and periodic reporting requirements. In other words, this is not a financial fraud case; it’s a disclosure one.
Notes from the SEC’s Internal Controls Roundtable
If you were not among the standing-room only at last week’s 404 Roundtable – from what I hear, a record crowd! – check out these comprehensive notes from the Roundtable, courtesy of Shearman & Sterling and Alston & Bird. We have posted the notes in both the “Conference Notes” and “Internal Controls” Practice Areas.
Conflicts of Interest and Dicey Engagements
On DealLawyers.com, don’t forget tomorrow’s, Wednesday, April 20th webcast – “Conflicts of Interest and Dicey Engagements” – featuring Peter Douglas of Davis Polk; Brian McCarthy of Skadden, Arps; Kevin Miller of Credit Suisse First Boston; and Morton Pierce of Dewey Ballantine. Among other topics, this program will cover:
• How to determine what conflicts you may face? And what factors you should consider when facing a conflict?
• What issues should you consider to resolve a conflict? What steps are sufficient, such as disclosure and consent, implementing ethical walls, eliminating the conflict or having an advisor withdraw?
• What are the consequences of having a conflict, including how to assess the level of risk and potential liability? How should you deal with insolvent or unsophisticated clients, or unorthodox arrangements?
• What is required disclosure in SEC filings regarding fairness opinions, including permissible disclaimer language? What about disclosure of other potential conflicts? What is the impact of the NASD’s fairness opinion proposal?
Last week, the SEC’s Advisory Committee on Smaller Public Companies met for the first time. The members were sworn in and other administrative and organizational matters were taken care of, such as the approval of by-laws and a determination of a master schedule for the Advisory Committee. Unlike past SEC Advisory Committees (ie. pre-Information Age), it appears that we will be able to closely follow the developments of this Advisory Committee and that they will be moving quickly to fulfill their mandate.
Check out the Committee’s webpage on the SEC’s website, which provides access to the charter, webcast archive of its first meeting and written statements received in advance of its first meeting.
CII Favors Majority Voting
The Council of Institutional Investors (CII) unanimously approved a new policy at its annual Spring Meeting last week in favor of majority voting for director elections. The new policy reads:
“Director Elections: When permissible under state law, companies’ charters and by-laws should provide that directors are to be elected by a majority of the votes cast. If state law requires plurality voting (or prohibits majority voting) for directors, boards should adopt policies asking that directors tender their resignations if the number of votes withheld from the candidate exceeds the votes for the candidate, and providing that such directors will not be re-nominated after expiration of their current term in the event they fail to tender such resignation.”
Also last week, shareholders of Gannett Co. and Caterpillar Inc. rejected majority voting proposals at their annual meetings; however, the proposals did receive 48% and 38% of the votes cast, respectively – a huge level of support considering past levels! For more on the Majority Vote Movement, see Broc’s April 14th blog and the new “Majority Vote Movement” Practice Area.
Broker-Dealers vs. Investment Advisers
Last week, the SEC decided that brokers do not have to register as advisers, upholding an exemption Congress originally included in the Investment Advisers Act. While the SEC didn’t change the existing law, it adopted a rule that addresses the application of the Advisers Act to broker-dealers offering certain types of brokerage programs. Under the rule, a broker-dealer providing nondiscretionary advice that is solely incidental to its brokerage services is excepted from the Advisers Act regardless of whether it charges an asset-based or fixed fee (rather than commissions, mark-ups, or mark-downs) for its services.
The new rule also provides that broker-dealers are not subject to the Advisers Act solely because they offer full-service brokerage and discount brokerage services, including execution-only brokerage, for reduced commission rates. The rule addresses the question of when a broker-dealer’s advisory activities are subject to the Advisers Act because they are not “solely incidental to” the broker’s business. The rule identifies three circumstances when a broker-dealer’s advice would not be solely incidental.
In the adopting release, the Commission stated its concern about the difficulty, on the part of investors, of differentiating between a broker and an investment adviser. The Commission said that it believes that those concerns may more appropriately fall under broker-dealer/Exchange Act regulation, and will receive a report from the Staff within 90 days addressing the options for most effectively responding to these issues and recommending a course of action.
After nearly four years at the SEC, Enforcement Chief Stephen Cutler has announced he will go back into private practice in a month. Stephen joined the Commission as Deputy Director of Enforcement on Arthur Levitt’s watch and was appointed Director of Enforcement by Harvey Pitt. If past experience of other former Enforcement Directors is any indication, he will do quite well in private practice. Here is the related SEC press release.
Now comes the traditional scramble to determine whether the next Enforcement Director comes from within the agency or from the outside world. In terms of post-SEC earning power, this position can be even more lucrative than the Chairman spot or any other position within the Commission.
Six-Month Delay for Option Expensing
Yesterday, the SEC announced the adoption of a new rule that amends the compliance dates for the FASB’s 123R. Under Statement No. 123R, companies would have been required to implement the standard as of the beginning of the first interim or annual period that begins after June 15, 2005, or after December 15, 2005 for small business issuers. Calendar year-end companies that are not small business issuers, therefore, would have been permitted to follow the pre-existing accounting literature for the first and second quarters of 2005, but required to follow 123R for their third quarter reports.
The SEC’s new rule allows companies to implement 123R at the beginning of their next fiscal year, instead of the next reporting period, that begins after June 15, 2005, or Dec. 15, 2005 for small business issuers. This means, for example, that the financial statements for a calendar year-end company do not need to comply with 123R until the interim financial statements for the first quarter of 2006 are filed. The financial statements for a company, other than a small business issuer, with a June 30 year-end, however, must comply with 123R when the interim financial statements for the quarter beginning July 1, 2005 are filed. The SEC’s new rule does not change the accounting required by 123R; it changes only the dates for compliance with the standard.
Chairman Donaldson Bobblehead?
Each of us has our own gauge of our own success. For some, it’s money; for others, it’s fame. For me, it’s a bobblehead. When they make a bobblehead with your likeness, you know you made it! Check out this article regarding bobbleheads of the US Supreme Court Justices.
During yesterday’s SEC 404 Roundtable, PwC said a study of 225 clients identified nearly 63,000 control problems or about 275 per company, most of which were fixed by the end of the review process.
The upshot of the Roundtable is that the PCAOB will likely issue staff guidance within 30 to 45 days to help clarify some aspects of Auditing Standard No. 2. And SEC Chairman Donaldson said that he will instruct his staff to present recommendations for change soon.
More on Majority Vote Movement
Haven’t heard yet whether the Council of Institutional Investors voted to back the majority vote movement (which CalPERS and ISS already have) during their meeting yesterday – but SEC Commissioner Harvey Goldscmid gave a speech there during which he vowed that the shareholder access proposal is not yet dead.
During the CII meeting, ISS released this 30-page white paper on the majority vote movement. Also posted is a transcript from a webcast they conducted recently on the topic (and I had already blogged about their new policy on this topic).
By the way, for the first time ever, the CII now has a majority of its 16 board members coming from unions – so we should expect a more activist agenda from CII in the near term…
SEC Changes Form 20-F for Transitional International Reporting Relief
To take into account the new international financial reporting standards – and encourage their use – the SEC adopted amendments yesterday to Form 20-F in order to permit those non-US issuers that adopt the new standards before 2007 to file just two years of income statements, changes in shareholders’ equity and cash flow rather than three years worth of those financials. No changes to US GAAP reconciliation were made.
Not surprising given the confusion right now in the Reg FD area, one member disagreed with some statements that I blogged about a few weeks back regarding the Flowserve settlement, particularly what corporate practice should be in light of it. Here is that member’s take:
“The facts and circumstances of Flowserve created a perfect storm of bad facts that resulted – appropriately – in an enforcement action. But it is not wise to make a blanket statement about the number of days after which one violates FD. Reg FD concerns selective disclosure of material information.
In Flowserve’s case, where it had previously lowered its guidance 3 times during the year, the fact that it was sticking with its prior guidance was material. Additionally, the timing was such that it was near the end of the period for which the guidance had been given.
I don’t know what analysts who covered the company were expecting, but it seems that they were expecting another lowering of guidance. These facts alone distinguish many other situations involving public company earnings guidance. If a company issues guidance at the beginning of the fiscal year and there is nothing to suggest that guidance could or should change, and depending on the history of the company maintaining or changing guidance, I would not find it an FD violation if there was a reaffirmation months later.
The facts of Flowserve also revealed that there was a failure to follow the company’s own stated policy and a long delay in filing an 8-K to disclose the reaffirmation. The subsequent denial by the two Flowserve executives of the reaffirmation was also a contributing factor to the result.”
To help clear up some of the uncertainty in this area, join us for a webcast -“The Latest Regulation FD Practices” – on Monday, May 2nd to hear John Huber of Latham & Watkins, Keith Higgins of Ropes & Gray and Stan Keller of Palmer & Dodge analyze how companies have reacted – and should be reacting – to the series of SEC Reg FD enforcement actions that have taken place over the past year, including the Flowshare settlement.
In the meantime, you can peruse the numerous law firm memos regarding Flowshare that we have made available in our “Regulation FD” Practice Area.
Recent Developments in Delaware Entity Law
Like last year, Lou Hering provides the lowdown on the latest Delaware law developments regarding LLCs and other entities in this interview.
SEC Intends to Delay Option Expensing
Today, the WSJ reports that the SEC intends to delay the implementation date of the FASB’s option expensing rule until next January, effectively giving them a six-month reprieve. It is reported that companies whose fiscal year starts from mid-year through year-end wouldn’t qualify for the delay.
If approved by the SEC (which would override the FASB), the delay would mark the second time that the implementation date has been delayed. Last year, the FASB voted to give companies six additional months, from last December until June 15, 2005, which is the effective date as it stands today.
